Nvidia and AI Have Given the Chip Industry a Lot to Prove

Nvidia CEO and co-founder Jensen Huang. Photo: Vincent Thian/AP
Nvidia CEO and co-founder Jensen Huang. Photo: Vincent Thian/AP


Semiconductor valuations remain expensive even after selloff and with Nvidia’s Next Big Thing coming.

Generative artificial intelligence doesn’t happen without chips, but the picks and shovels have gotten expensive.

Semiconductor stocks have taken a beating this week, with the PHLX Semiconductor Index falling more than 7% since hitting a record high last Thursday. That point marked a 24% year-to-date gain for the main chip index that followed a 65% surge in 2023—the index’s best annual performance since 2009. The launch of the ChatGPT chatbot in late 2022, which captured the public’s attention, has been an undeniable factor given the computing horsepower needed by generative AI services. At last week’s high point, the PHLX index had more than doubled in value since the start of 2023. The S&P 500 rose a mere 34% in the same time frame.

The problem is that the bulk of new business sparked by generative AI demand has accrued to one company. Nvidia’s revenue more than doubled in its fiscal year that ended in January—an unprecedented surge for a business that was already pulling in about $27 billion in annual sales. Other semiconductor companies with growing AI businesses are finding those offset by sharp declines in other chip markets, such as PCs, smartphones and automotive. That dynamic showed up in quarterly results this past week from Broadcom and Marvell whose stocks had previously enjoyed a strong AI-driven run over the previous 12 months. The two have shed 10% and 22% of their value, respectively since their reports on March 7.

But even with the recent selloff, chips are running hot. The PHLX index closed Thursday a little under 31 times forward earnings, which is still 41% above its three-year average, according to FactSet data. The index hasn’t supported a forward earnings multiple above 30 times since mid-2009, when the earnings crunch sparked by the financial crisis temporarily spiked chip valuations. More notably, the chip index still sports a premium of 53% to the S&P 500’s multiple. That spread averaged just 4% in the three-year period before ChatGPT’s launch.

Semi stocks could therefore still be in for some profit-taking. That seems especially likely since five of the most expensive names on the index—those carrying multiples of 40 times earnings and above—are actually projected to see revenues decline this year, according to FactSet estimates. And this doesn’t even include Arm Holdings, which isn’t a part of the index and closed Thursday at more than 87 times forward earnings. The British chip designer returned to the public market in September and has seen a surge of investor interest following comments about its AI business in its most recent earnings report, even though royalties from smartphone sales are currently its biggest revenue driver. The stock has nearly tripled in value from its IPO price.

Nvidia remains a wild card. Its stock price has dropped 5% over the past week after more than tripling in value during the previous year and pushing its market capitalization past $2 trillion. But the explosive earnings growth driven by its AI system sales has actually made the stock’s multiple a lot cheaper than its historical average. Nvidia ended the session Thursday at around 35 times forward earnings, ranking 10th on the 30-company SOX index in terms of valuation, according to FactSet

But Nvidia also has big news coming. The company is kicking off its biggest developers’ conference of the year on Monday, where it is widely expected to introduce a new GPU processor code-named B100 Blackwell for AI computing to succeed its hot-selling H100 and H200 systems.

“Blackwell will be another monster chip," predicts Pierre Ferragu of New Street Research, who noted that Nvidia is now unveiling major new products every year compared with its past pace of every two years. “We expect Nvidia to maintain its lead in accelerated computing as a result."

Hence, even analysts worried about the chip sector’s rising multiples are sticking with Nvidia. Stacy Rasgon of Bernstein called Nvidia “the best way to play AI, with numbers appear set to continue inflecting higher" in a report Thursday. He urged caution on others, including Advanced Micro Devices, Analog Devices, Texas Instruments and NXP, noting that “industrial and automotive markets look to be in for a tough year, inventory cycles may still need to play out, and AI strength remains concentrated on (very) few places while traditional datacenter remains under substantial pressure."

Nvidia’s rising tide may not keep lifting all boats.

Write to Dan Gallagher at dan.gallagher@wsj.com

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