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What Is Driving Nvidia’s Profit Margins to New Highs?

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Nov. 24 2016, Updated 10:05 a.m. ET

Nvidia’s profit margins reach new highs

In the previous part of this series, we saw that Nvidia (NVDA) reported record-high revenue of $2 billion in fiscal 3Q17[1. quarter ended October 30, 2016] and expects to report $2.1 billion in revenue in fiscal 4Q17. This strong revenue growth trickled down to strong profits, driven by demand for NVDA’s high-end, high-margin Pascal GPUs (graphics processing units). 

On a non-GAAP[2. generally accepted accounting principles] basis, Nvidia reported record-high profit margins and EPS (earnings per share) in fiscal 3Q17.

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Gross margin

As seen in the above graph, AMD’s non-GAAP gross margin rose to a record high of 59% in fiscal 3Q17. The company shifted from TSMC’s (TSM) 28nm (nanometer) node to 16nm node, which improved yields and delivered cost benefits.

Some media reports stated that Nvidia is switching its GPU production to Samsung (SSNLF), hinting at supply problems with TSMC. In the company’s fiscal 3Q17 earnings call, Nvidia’s president, Jen-Hsun Huang, stated that the company would continue with TSMC. Nvidia expects to maintain its gross margin at ~59%–59.2% in fiscal 4Q17.

Operating margin

We saw a major spike in Nvidia’s non-GAAP operating margin, which rose from 26.8% in fiscal 2Q17 to 42.1% in fiscal 3Q17. In dollar terms, it means a $326 million increase in just one quarter to $708 million. On the flip side, rival Advanced Micro Devices (AMD) reported operating income of just $70 million.

Nvidia increased its operating expenses by 7% quarter-over-quarter to $478 million as it increased its R&D (research and development) expense in deep learning. The company spent more on selling and marketing new products. The company would continue to spend more on R&D as it looks to tap the deep learning market.

For fiscal 4Q17, it expects to report non-GAAP operating expenses of $500 million. However, this would not hamper its operating margins, as the 4.6% sequential growth in expenses is likely to be offset by 5% sequential growth in revenue. Thus, its fiscal 4Q17 operating margin is likely to be ~42%.

EPS

With its record-high margins, Nvidia’s (NVDA) non-GAAP EPS more than doubled from $0.44 in fiscal 3Q16 to $0.94 in fiscal 3Q17, 68% higher than analysts’ consensus estimate of $0.56.

These strong profits are a result of Nvidia’s transition of its GPUs to high-growth profitable markets. Next, we’ll look at Nvidia’s transformation from a small GPU supplier to a market leader in the discrete GPU space.

You can invest in this high-growth company through the SPDR S&P 500 ETF (SPY), which has holdings in US equities listed in the S&P 500 Index. SPY has 0.26% exposure in NVDA.

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