Surviving the Cycle Plunder and Meeting ChatGPT Again, Nvidia’s Faith Returns

On February 23, Beijing Time, Nvidia (NVDA.O) released its 2023 Q4 financial report (ending in January 2023) after the U.S. stock market closed:

1. Overall performance: Improvement in the trough period of inventory. In this quarter, Nvidia achieved a revenue of 6.051 billion U.S. dollars, a year-on-year decrease of 20.8%, which is in line with the company's previous guidance of 6 billion U.S. dollars. In this quarter, Nvidia achieved a gross profit margin (GAAP) of 63.3%, which reached the lower limit of the guidance (63.2%-66%). The gross profit margin on the quarterly report has returned to the normal range, indicating that the impact of inventory processing has weakened. The net profit in this financial report was 1.414 billion U.S. dollars, a year-on-year decrease of 52.9%. Although there is still a significant decline, it is better than the market's expected decline after being adjusted downward.

2. Core business situation: Games hit bottom or rebound, while data center growth slows down. The game business and data center business account for about 90% of the company's revenue, and both businesses were not ideal this quarter, but for different reasons.

1) The game business declined by 46.5% this quarter, which is the main factor for the decline in performance. The Dolphin Analyst believes that the main reason for the continued low performance of the game this quarter is: ①The global PC market is still sluggish in the fourth quarter, and shipments have fallen below 70 million; ②The price of virtual currency has continued to decline this year, and the core futures quotation has once fallen below 20,000 US dollars in the fourth quarter; ③ The stocking mode of dealers has reduced the pulling power in the downward phase of the cycle.

2) The growth of the data center business this quarter plummeted to 11%, and the impact of the macro economy on cloud computing has begun to show. As U.S. technology giants reduce their spending, the company's data center business is no longer growing rapidly.

3. Key financial indicators: The rigid cost feature is prominent. Nvidia's operating expense ratio this quarter continued to remain above 40%. In absolute terms, research and development costs are still rising. While there are signs of improvement in the inventory side, although the company's inventory increased by 705 million U.S. dollars this quarter, the basic conclusion of handling the accumulated inventory has been drawn. The company's focus has shifted from "backlogged inventory management" to "new products."

4. Next quarter guidance: Nvidia expects Q1 revenue to be 6.5 billion U.S. dollars (plus or minus 2%), a year-on-year decrease of 20%, slightly higher than the market's expected 6.37 billion U.S. dollars; Q1 gross profit margin is 64.1% (plus or minus 0.5%), in line with the market's expected 64.19%, returning to the normal level.

Overall view: Nvidia's Q4 performance basically met expectations. The revenue performance this quarter was in line with the company's guidance and market expectations. Although the gross profit margin was slightly lower than the market's expected level, it also met the company's previous guidance.

Apart from revenue and gross profit margin, the market is most concerned about Nvidia's inventory status. Under the influence of macroeconomics and market demand, the inventory of the company's game business continues to rise, which has also prompted the company to process inventory in the first two quarters. However, inventory processing has eroded the quarterly gross profit margin significantly. While the intuitive data about inventory shows that Nvidia's inventory has once again risen this quarter, the company's gross margin has not been greatly affected. Faced with the continuing rise of inventory, the company did not carry out large-scale inventory processing this quarter, demonstrating the company's confidence. On the one hand, the company expects the industry to potentially bottom out and revive, and on the other hand, it also indicates that the company's inventory processing has come to an end. From the speeches of the company's management, it can also be seen that the "game graphics card inventory crisis has basically ended."

As for Nvidia's guidance for the next quarter, Dolphin Analyst believes that it is still good. Both the income and gross margin have steadily rebounded, indicating that the company is gradually emerging from the slump. From various business perspectives: 1) Game graphics cards: PC sales have returned to pre-epidemic levels and stabilized; 2) Virtual currency: the core futures price has returned to more than 20,000 US dollars; 3) AI: The emergence of new applications like ChatGPT provides the company with additional space for expansion due to increased computing demand.

Overall, Nvidia's business outlook and inventory situation are expected to improve. There are signs of the basic business bottoming out, while new demand like ChatGPT is expected to bring "new space for growth."

For Dolphin's specific analysis of Nvidia's financial report, please refer to the following:

I. Overall performance: the stocks in the low period began to improve

1.1 Operating income: Nvidia achieved a revenue of $6.051 billion in the fourth quarter of the 2023 fiscal year, a year-on-year decrease of 20.8%, which is in line with the company's previous guidance ($6 billion). Although the company's revenue decline continued to expand this quarter, the absolute value of revenue stabilized quarter-on-quarter.

The company's revenue decline continued, mainly affected by the "computing basic business"① Although the game business declined by nearly 50% in the situation of weak demand, ② the data center business growth rate has slowed down due to the impact of some cloud service providers suspending orders in the fourth quarter.

Looking to the first quarter, there are signs of stability and recovery. Nvidia expects first-quarter revenue to be $6.5 billion (plus or minus 2%), down 20% year-on-year. Although the year-on-year decline is still significant, the absolute value continues to rebound quarter-on-quarter.

1.2 Gross Profit Margin (GAAP): Nvidia achieved a gross profit margin (GAAP) of 63.3% in the fourth quarter of the 2023 fiscal year, reaching the lower limit of guidance expectations (63.2%-66%), and the gross profit margin on this quarter's financial statements has returned to the company's normal range.

The company's sharply declining gross profit margin in the first two quarters was mainly due to the inventory write-downs. Now the gross profit margin has returned to 63.3%, indicating that the company has begun to come to an end with the write-downs of some inventory. Nvidia's gross margin for Q1 is expected to return to 64.1% (±0.5%). The Dolphin Analyst believes that after two quarters of sharp decline, the gross margin this quarter will return to above 60%, indicating that the impact of backlog inventory handling has begun to weaken. From this quarter, the company's gross margin will return to the normal range.

1.3 Operation index: Improvement in inventory pressure

1) Inventory/revenue: the ratio for this quarter is 85%, up 10pct from the previous quarter. The company's inventory continued to increase to US$5.159 billion this quarter, and the gross margin began to return to the normal range this quarter. The increase in inventory did not prompt the company to continue inventory handling. The Dolphin believes that Nvidia's previously accumulated inventory has been significantly digested, and the new part is mainly stocking mainstream products.

2) Accounts receivable/revenue: the ratio for this quarter is 63%, a decrease of 20pct from the previous quarter. The proportion of accounts receivable decreased, and the company's collection situation began to improve significantly.

Nvidia's previously high inventory mainly came from the gaming business, and the backlog of inventory was caused by insufficient demand and product replacement. Although there is no scene of hot sales in the company's revenue guidance for the next quarter, the steady increase in gross margin to 64% can indicate that the company's inventory processing in the previous two quarters is basically completed. In combination with the management's mention that "the inventory crisis of gaming graphics cards has basically ended," this can also be seen.

II. Core Business: Gaming hits bottom or rebounds, Data Center’s high growth is no longer there.

As Nvidia's gaming business continued to be sluggish, the data center business of Nvidia was still the largest source of revenue in the Q4 of 2023 financial year, accounting for nearly 60%. The share of the gaming market has returned to 30% in company revenue.

Gaming and data center business are still the core businesses that affect Nvidia's performance, and the combined revenue accounts for about 90%.

2.1 Gaming business: Nvidia's gaming business achieved revenue of US$1.831 billion in Q4 of 2023, down 46.5% year-on-year. The company believes that it was affected by the macro economy and the epidemic, and the sales of GPUs for global desktop and notebook computers declined, directly affecting the company's gaming business.**

However, Dolphin Analyst believes that the main reason for the poor performance of the gaming business this quarter is:

The global PC market is still sluggish in the fourth quarter and there is no sign of recovery. According to the latest data from IDC, the global PC market accelerated its decline in shipments in the fourth quarter of 2022, with only 67.2 million units, a year-on-year decrease of 27.5%. Since graphics cards are mainly used for PCs in the gaming industry, the demand for gaming graphics cards has been weakened due to the obvious decline in demand for PCs in the post-epidemic market, coupled with the impact of regional epidemic control;

The continuous decline in the price of virtual currencies this year has weakened the related demand for mining. Since mining and games have high computing power requirements, some graphics cards are used for mining. Due to the continuous decline in the price of virtual currencies since the fourth quarter of last year, it has affected the demand for graphics cards in the "mining market". For example, the futures price of a certain virtual currency has fallen from a high of $69,000 in the second half of 2021 to below $20,000, and its futures price has fallen by more than 50% year-on-year.

Source: Wind, Dolphin Research

The pattern of dealers hoarding goods directly affects the current pulling power. Since many gaming graphics cards are distributed through dealers, when the PC and semiconductor cycle begins to decline, the pulling power is significantly reduced. It is transmitted to the company through the industrial chain, and the company's shipments have experienced a significant decline, and the inventory continues to rise.

Dolphin Analyst believes that the sharp decline in gaming business this quarter has been expected, but the absolute value is higher than the previous rebound. The sales volume of global PCs in the fourth quarter has basically returned to the level before the epidemic as a product that is normally used in daily life, and there is not much room for further decline. As the inventory crisis of gaming graphics cards has basically ended, the company will also shift its focus from "selling old products" to "new products".

2.2 Data center business: In the fourth quarter of fiscal year 2023, Nvidia's data center business achieved revenue of 3.616 billion U.S. dollars, a year-on-year growth rate continued to decline to 11%, and a month-on-month decline occurred. The company explained that "some cloud service providers suspended orders" in the fourth quarter. Dolphin Analyst believes that the export restrictions on some products have caused certain impacts on sales in the Chinese market, and attention should also be paid to the impact of US customer spending cuts.

Although the decline in Nvidia's performance this quarter is mainly due to the drag on the gaming business, the growth rate of the data center has also plummeted. Dolphin Analyst has also warned in previous reports that "there are hidden dangers in the high growth of data centers", which continued to fall to 11% this quarter.

Dolphin Analyst still believes that in the macro environment of slowing growth and inflation, the changes in income for some regions/customers cannot be simply attributed to them, and attention should also be paid to US technology giants such as Amazon and Facebook starting to cut jobs and reduce expenses. Due to the impact of the major factory's contraction of expenses, Nvidia's data center business is still difficult to return to high growth in the short term.

2.3 Automotive Business: Nvidia's automotive business achieved revenue of $294 million in fiscal Q4 2023, a year-on-year increase of 135.2%. These growth mainly come from the revenue of self-driving and artificial intelligence driving cabin solutions.

Driven by new energy vehicles, the company's automotive business hit a quarterly record high. With the continuous penetration of applications such as autonomous driving, the automotive business is expected to bring new growth to the company.

The company's automotive business continues to grow, and its revenue share has increased to 5% this quarter. With the high growth of the business, the automotive business is expected to become Nvidia's new growth driver in the future.

III. Main Financial Indicators:

3.1 Operating Profit Margin: Rigid Costs, Gross Profit Margin Drives Recovery.

Nvidia's operating profit margin rebounded to 20.8% in fiscal Q4 2023, with a significant recovery. The rebound in operating profit margin is mainly due to the gross profit margin, but it can also be noted that the company's cost expenditures are relatively rigid.

To analyze the composition of the operating profit margin, the specific changes are:

"Operating Profit Margin = Gross Profit Margin - R&D Expense Ratio - Sales, Administrative and Other Expenses Ratio"

1) Gross Profit Margin: 63.3% this quarter, down 2.1pct YoY. The decline in the rate of decline has narrowed significantly, mainly due to the weakening of the impact of inventory processing by the company.

2) R&D Expense Ratio: 32.2% this quarter, up 13pct YoY. This is mainly due to the relative rigidity of R&D expenses. Although the company's revenue was weak this quarter, the absolute value of R&D expenses will not decrease significantly.

3) Sales, Administrative and Other Expenses Ratio: 10.3% this quarter, up 2.9pct YoY. Sales expenses will undergo a certain change with revenue, while the rigid performance of administrative expenses has led to an overall increase in the expense ratio.

The company's first-quarter operating expense guidance is still as high as $2.53 billion, slightly down compared to the fourth quarter. Combining revenue guidance, the first-quarter operating expense ratio may have declined, but it is still as high as 39%. Faced with a high proportion of expenses, Nvidia may still take measures to control expenses in terms of personnel in the future. **

3.2 Net Profit (GAAP) Ratio: Rebounded Slightly

In Q4 FY2023, NVIDIA's net profit was $1.414 billion, down 53% YoY, and the net profit margin rebounded to 23.4% QoQ. The significant decline in profit this quarter was mainly due to the large decline in revenue under the background of industry downturn, and the relatively rigid expense side squeezed the company's profit.