RPT-BREAKINGVIEWS-Nvidia benefits from a first-mover disadvantage

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

By Robert Cyran

NEW YORK, Feb 25 (Reuters Breakingviews) - Nvidia NVDA.O depends, at least somewhat, on a first-mover disadvantage. The chipmaker led by Jensen Huang should report another quarter of breakneck growth on Wednesday, with analysts expecting earnings to skyrocket 60% year-over-year to $21 billion, according to LSEG data. Efficiency breakthroughs and uncertain payoffs threaten the artificial intelligence splurge boosting the company. For now, though, customers have more to lose from cutbacks.

The company behind the industry-standard chips powering AI has grown revenue tenfold in the past five years, with shareholders enjoying a total return exceeding 1,800%. As systems grow in complexity and ubiquity, Nvidia benefits. Insatiable demand and resultant shortages boosted pricing power, lifting the company’s gross margin to an astonishing 75% last quarter.

Such growth means that the stock’s stellar performance isn’t indefensibly overheated, with the company trading at 29 times estimated earnings over the next 12 months. That’s roughly in the ballpark of other tech behemoths.

But a few select customers drive results: just 3 of them generated 36% of revenue last quarter. Microsoft MSFT.O, Amazon.com AMZN.O, Alphabet GOOGL.O and Meta Platforms META.O are projected to spend over $300 billion on capital investment this year, up about a third from 2024. If they pull back, things could change quickly.

There are reasons to fear just that. China’s DeepSeek claimed to train AI models with astonishing efficiency, raising questions over the necessity of chip spending and slicing Nvidia’s market value by roughly $600 billion in a day. If bleeding-edge chatbots are less costly, competition might rise and profit margins fall, curbing enthusiasm.

Nonetheless, revenue for 2024’s final quarter is expected to have risen 72% year-over-year. Look at it this way: being the first to break ranks on spending is risky. The potential payout from cracking a huge leap in AI capabilities could be enormous. Ensuring rivals don’t monopolize a breakthrough is similarly existential. And investors want to be in the race, pushing AI spenders’ valuations up since ChatGPT’s 2022 release.

To boot, canceling orders means moving to the back of a crowded line if bosses reverse course, especially given chip buyers’ habit of doubling up orders when supplies are scarce to ensure a buffer.

This creates a classic fear of missing out, or FOMO. But the balance is delicate. Past boom-and-busts like the 2000s telecommunications frenzy suggest that, when everyone retreats at once, things can get ugly. Just blunting Nvidia’s pricing power would be severe: a reduction in gross margin to a still-rich 60% would wipe out the equivalent of a recent quarter’s worth of earnings over the course of a year, all else equal. For now, Huang benefits from a bit of peer pressure.

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CONTEXT NEWS

Nvidia is set to report results for the fourth quarter of 2024 on February 26. Analysts expect the semiconductor company to have generated revenue of $38 billion, according to data collected by LSEG, a 72% increase from the same period last year.

Nvidia is expected to earn $20.9 billion, up from $12.8 billion a year prior.