NVIDIA's downgrade: WRONG.
JoAnne Feeney of FTNMidwest downgraded NVDA today, from hold to sell. Feeney is a 4/5 star analyst of NVDA according to Yahoo, and I must say that she has to have a huge set of cojones (figuratively, of course) to issue a SELL recommendation in the face of upgrades by Stifel Nicolaus & Co. (5/9 to Buy), S&P (5/27 to Strong Buy), JMP (5/28 to Outperform), Goldman (6/5, to Buy), some other Lastname&Lastnames, and positive comments from FriedmanBillings and Lehman. But because she does have a good track record, I think it's important to dig into the reasoning behind her downgrade.
According to Barrons.com, Ms. Feeney cited three reasons for the downgrade:
-Inventory build up. She says that “NVDA’s channel inventory build-up is getting worse, not better.”
-Increasing competitive pressure from Advanced Micro Devices (AMD). She thinks the company will be forced to cut prices in response even as it loses market share.
-Manufacturing challenges on next-generation products.
Due to these concerns, she set a target price of $19 and "expects the company to earn $1.41 a share in the January 2009 fiscal year, well below the consensus view of $1.59. For FY 2010, she sees $1.67, below the Street at $1.80." (It's around $22-$23 today, after dropping 4-5% based off the downgrade.)
Well, NVDA has indeed had some inventory fluctuations recently. However, the inventory supply problems were due to inventory levels being too LOW most of last year until 1QFY09, when it had built back up to a level in-line with what management wanted. Any problems with channel inventory, according to management on the 1Q call, would be a buildup of the old product (G80's) that would have to be sold at or below cost and hit margins... and they were very confident on the call about the old product. I don't know if Ms. Feeney got some information that nobody else was privy to, but if there has been an increase of inventory since the call, I think it's pretty safe to assume that it's new product rather than old. However, I think Feeney is merely reiterating concerns that arose early March during the earnings release that were alleviated sufficiently for all the other analysts.
Now, if she's pointing to competition from AMD, she's talking about competition from a company that's so deep in the red that it can't afford to compete with NVDA in a price war. AMD needs its ATI chips to achieve high margins, or that sinking ship is done. NVDA expects to hold margins steady, and from what I've seen from gamers who swear by NVDA, it seems to have quite a large loyal fanbase of hardcore gamers who would be as unlikely to switch from NVDA to ATI as a Mac user would switch to Linux.
I will say that I have no idea what Feeney is referring as far as manufacturing challenges for next-generation products. All I can say is that the power in the chips that NVidia makes is so great that people are trying to explore ways of using the GPUs as a CPU to create a cost-efficient supercomputer. That sounds to me like they already manufacture something that can be relevant for the next FEW generations.
But let's give her the benefit of the doubt. Say that her fears all hold up and her EPS numbers are spot on. I wonder if she's even aware that her FY09 EPS estimate is roughly the same as S&P's ($1.41 vs $1.43), yet S&P UPGRADES to STRONG BUY on that estimate with a $28 target. Meanwhile, Feeney's $19 estimate translates to a P/E of 13 at end of FY09. 13 P/E for a tech company that she expects 12.8% EPS growth from in FY10? Sounds a little cheap. Sounds a little wrong. And again, we're looking at this under HER OWN assumptions.
Given her background, I am confident that Feeney knows semiconductors, business, and economics quite well. I think she just doesn't understand financial modeling, stocks, and timing.