1 Red Hot Stock To Sell Now
When Nvidia reported earnings in late August, the top line number came in line with analysts’ forecasts: revenue rose by about 3% from the prior year. However, net income came in lower than expected and the share price dipped. A closer look under the hood reveals warning signs that suggest the stock is worth avoiding now.
Margins Are Falling
When you listen to financial media outlets, revenues and profits are highlighted above margins. But margins are what produce those all-important profits and at Nvidia they are declining fast.
Not only are gross margins falling due to inventory challenges but operating margins are falling like a hot knife through butter as headcount has increased and wages are up to counterbalance inflationary forces.
If management is right and gross margin hits the median forecast of 65% in Q3, it will signal a year-over-year drop and potentially rattle the nerves of current shareholders.
Gaming Has Plateaued
A key driver for Nvidia revenue has been sales of gaming chips, representing almost a third of its top line. Global lockdowns resulted in a boon for Nvidia as remote workers turned to gaming online and GPU demand increased.
As workers returned to company premises, the spike in gaming popularity returned to more normal levels. That in turn meant less demand for personal computers. The result was a year-over-year decline of 33% in gaming revenue. Worse still, management forecasts gaming revenue would decline further in Q3.
To add insult to injury, the popularity of crypto mining fell. Nvidia, a key player in facilitating the mining of bitcoins and other cryptocurrencies, saw demand decline there too. Management encapsulated the situation aptly as a “diminishing contribution” from the cryptocurrency market.
Is Nvidia Overvalued?
If all that wasn’t bad enough, Nvidia top brass has forecast a decline in revenue on a year-over-year basis to the tune of 17%. And if forecasts are correct, operating margins will decline further as expenses are forecast to rise by 32%.
A perfect storm is brewing for Nvidia shareholders. Rising expenses combined with slowing revenue growth, from 61% in fiscal 2022 to just 13% in fiscal 2023 may not be reflected in the firm’s valuation right now.
Certainly the stock has priced in some of the bad news. It’s already taken a haircut of almost 50 percent over the past 10 months but it’s still trading at an eye-popping premium, over 40x next year’s adjusted earnings per share estimates. Its rivals, AMD and Intel, are trading at significantly lower multiples.
What Next?
A tailwind supporting Nvidia share price is the $12 billion of firepower it holds in reserve for share buybacks. What’s concerning is that in the past two quarter, the $5 billion+ spent has been counterbalanced by insider sales.
The bottom line? Now is not the time to get bullish on Nvidia. If anything, it’s time to sell or at the very least take a wait-and-see approach.
