After Earnings, Should Investors Buy NVIDIA Stock?

By Andrew Tonner Markets Fool.com

Perhaps the hottest stock in tech in recent years, NVIDIA(NASDAQ: NVDA), was riding high going into its fourth-quarter earnings report last Thursday, and it didn't disappoint. Yet the stock slumped more than 2% the day after NVIDIA set fresh quarterly records across a host of financial metrics.

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How should investors interpret this seemingly mixed signal? Let'sexamine NVIDIA's earnings to get a better sense of its investment outlook.

NVIDIA earnings: not great enough?

NVIDIA had a high bar to clear if it wanted to maintain its stock price's torrential momentum. For the quarter, Wall Street expected NVIDIA to generate $2.11 billion in sales and $0.83 in GAAP earnings per share.

NVIDIA blew past those figures, with sales of $2.17 billion and GAAP EPS of $0.99.Its non-GAAP EPS came in at $1.13. That means the graphics-chip specialist increased sales 55% and GAAP EPS 183% over the same quarter a year ago.

In its current fiscal first quarter of 2018 -- yes, NVIDIA's fiscal year sits a full year ahead of the calendar year -- the company is guiding for sales of $1.9 billion, plus or minus two percentage points. The midpoint of that guidance is 46% higher than in the same quarter in the year prior.

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Such strong results would be a positive for almost any publicly traded company, but not in this case, as investors sold out of NVIDIA stock following the news. Are they seeing something you aren't? And does the post-earnings stock drop signal that investors should stay away from NVIDIA shares?

In a word, No.

Image Source: NVDA

The most important question for NVIDIA investors today

NVIDIA's business is growing like a weed. The problem is that the market has already priced in a significant amount of that growth to its shares.

NVIDIA stock currently trades at 42 times its last 12 months' earnings per share and 32 times next year's consensus EPS estimates. For comparison, the S&P 500 currently trades at a 26 P/E, which is itself well above the index's own historical average.However, that should come as no surprise, given the astounding growth numbers NVIDIA is capable of producing.

So given this high-growth, high-value scenario, how should investors think about NVIDIA stock?

From my perspective, NVIDIA stock still makes sense for investors willing to buy and hold its shares for a minimum of five years. Here at the Fool, we're diehard advocates of buying and holding the best businesses for the long term, so that kind of holding period jibes with our worldview. The emphasis on a long-term time horizon is crucial especially in this case, because NVIDIA will need some time to grow its sales and profit base enough to support a higher stock price. So given that NVIDIA will need to multiply its profit several times to push its share price higher in a sustainable fashion, can it actually do that over the next several years?

I could fill an article talking about NVIDIA's market opportunities, but the brief answer seems to be "yes." As just a few examples, many observers believe self-driving vehicles will eventually become almost universally adopted,in which case a huge swath of the global automotive industry will become potential NVIDIA customers. Similarly, sales of artificial intelligence and deep learning software are expected to grow into the tens of billions of dollars by the end of the decade,which should spur a significant uptick in demand for NVIDIA's chipsets.

This kind of approach does involve a fair amount of imprecision. However, in attempting to understand the long-term scope of NVIDIA's financial opportunities, the addressable markets for its chipsets indeed appear large enough to allow the GPU specialist to increase its financial footprint several times over.

This argument assumes NVIDIA can maintain its status as the preferred provider of graphics-computing chips over the long term, even as companies such asIntel and Advanced Micro Devices look to challenge NVIDIA. Competitive dynamics aside, though, it indeed looks as if NVIDIA can make sense as a buy after earnings, provided investors are willing to wait for the company's ongoing growth to play out over the long term.

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Andrew Tonner has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Nvidia. The Motley Fool recommends Intel. The Motley Fool has a disclosure policy.