Microsoft is unique from its peers as its cloud services were designed to serve the needs of large companies. This is particularly true with regards to Microsoft’s lead in hybrid cloud, which is attractive to many companies who are adopting cloud infrastructure for the first time, and who desire more flexibility than traditional cloud-only services can offer.
The company’s fiscal Q2 2020 earnings report today prove that Microsoft’s slow and steady focus on the enterprise customers is paying off. Operating income and net income were especially healthy, rising 35% and 38% on a GAAP basis, respectively, from a year earlier. Profits came in at $11.6 billion, and earnings-per-share of $1.51 were up 40%. Analysts polled by FactSet were expecting $1.32 per share on average.
The company is guiding for revenue of $34.1 billion to $34.9 billion in the fiscal third quarter, in-line with analyst estimates of $34.16 billion.
Looking beyond growth, this was also a banner quarter for Microsoft, who secured the Department of Defense’s $10 billion JEDI cloud contract. This contract will cover 1,700 data centers and move 3.4 million end users and 4 million endpoint devices off private servers and onto the cloud. Amazon is contesting the decision.
Twilio’s most recent earnings report saw a severe 17% drawdown due to lower-than expected guidance. The company guided for $0.01 to $0.02 EPS versus analysts expecting $0.07 per share. Meanwhile, the company beat on earnings at 3 cents per share compared to an expected 1 cent per share, according to Refinitiv. Revenue came in at $295.1 million compared to $287.8 million expected by analysts.
The company missed estimates for the net-dollar retention rate, which came in at 132% compared to 138% expected. This was an oversight by analysts, as the 132% is quite healthy for a company of Twilio’s size. The median net-dollar retention rate for cloud software is at 104%. Twilio cites the miss as running up against the law of large numbers, which is a fair assessment.
Although I do not foresee rapid, hockey stick growth in Twilio’s future due to mobile maturation, there are some fundamental strengths to Twilio that the market will likely respond positively to.
For instance, Twilio’s revenue is growing at 75% year-over-year, the company has crossed a $1 billion run rate, and the company has positive EPS with a consensus expectation of 92% EPS growth next year. Current fiscal EPS is $0.13 EPS for the year ending December 2019 and consensus is annual EPS of $0.26 EPS ending December 2020.
Current fiscal revenue is expected in the $1.16 billion range with fiscal 2020 revenue in the $1.46 range for 31.45% growth.
PRODUCT
Twilio enables communications for mobile applications, such as voice or text. When you text or make a call inside of a mobile application, you are likely using Twilio’s APIs. The company works with over 1,000 mobile carriers in over 150 countries for voice and text/SMS services.
A few examples:
• Customer service calls on Zendesk are made through Twilio
• Powers Facebook’s Whatsapp for availability inside of other apps
• Messaging home owners inside the AirBnB app
• Using the Uber or Lyft app to call your driver
• When Netflix notifies you of new programming that meets your profile, they are using a Twilio product
• Messaging businesses or receiving notifications about a dinner reservation inside the Yelp application
Twilio has high switching costs and is one of the only solid VoIP/CaaS options for native mobile applications available. It’s very challenging for their existing customers to go with another VoIP/CSaaS service due to the required time to develop new features and test these features. This is a major plus.
The company caters to developers and this is another reason Twilio has done well, as developers decide the APIs for applications (i.e. not the CEO or a CTO). Twilio states they have 5 million developers as customers, which is about 20% of the 26 million developers in the world today.
Competitors include Bandwidth, a company that is also a network carrier. As a network carrier, Bandwidth is able to undercut Twilio on pricing with cheaper outgoing and incoming calls plus free incoming SMS. Twilio costs $1 for a dedicated number while Bandwidth costs $0.35 per dedicated number. Bandwidth is the network provider for Google and Skype, however, it’s uncertain how many developers use the service for native mobile applications.
Another competitor is Nexmo, who was acquired by Vonage, and is second to Twilio for global presence with coverage in over 90 countries. Nexmo has attempted to undercut pricing by charging per second rather than per minute, yet is more expensive than Bandwidth. It is more likely that United States developers would choose Twilio over Nexmo.
I am less concerned with the competitors and more concerned with the risks associated with mobile saturation. It can be challenging to quantify the impact of a burgeoning technology that begins to plateau. For instance, on one hand, the trajectory of mobile app revenue is expected to nearly double between 2020 and 2023, from $581 billion to $935 billion. But on the other hand, 77% of app usage is spent inside of three applications and 96% of app usage is spent on the top 10 applications.
The issue is what will happen to the other 1.8 million apps on the App Store, and 2.4 million apps on the Google Play store, who are fighting for the remaining 4% of app usage time? That’s where saturation comes in as consumers consolidate their time across fewer apps and become harder to convert to new services or applications (the thrill is gone, essentially).
Twilio is a stable choice that should clear fundamental benchmarks that Wall Street rewards, which is why we are covering the company. Twilio may not be the biggest breakout story of 2020, but is a stable growth story. There should be a noticeable boost for Twilio when 5G is more widespread, however, it requires new applications to be developed for 5G for Twilio to benefit.
Twilio is Pivoting Beyond Mobile Applications …
Twilio has strong leadership that has been with the company since inception and is well ingrained in the mobile developer community. There was a time, in 2009-2010, when Twilio had the largest presence at mobile conferences and was everywhere (no exaggeration). Today, the company is much quieter and working on how to expand beyond mobile.
SendGrid Acquisition
Twilio completed the SendGrid acquisition in February of this year, a company that allows developers to create email messaging and marketing strategies through APIs. The acquisition will help Twilio to become an omni-channel offering for companies to communicate with their customers.
Based on the closing price around the time of the acquisition, the all-stock deal was valued at $3 billion, up from the $2 billion amount at the time the acquisition was announced due to the strength of cloud stocks in end of January/early February of this year.
Twilio paid 18 EV/sales for SendGrid if calculated on the last full annual revenue reported in 2017, or 13-14 EV/sales if based on the annualized 2018 revenue.
According to Morningstar, the acquisition is value-neutral. Twilio and SendGrid have both stated they aim to be accretive on revenue while re-investing any savings on expenses to grow the business. Twilio had stated the annualized 2018 income would be $734 million, compared to Twilio’s $650.1 million. The company also stated on a conference call that the gross margins would be 59%, up from Twilio’s gross margin of 47.5%.
Twilio Flex
Twilio launched Flex a year ago, a cloud-based platform for routing calls and engaging with hundreds or thousands of customers. This is a move towards enterprise companies who require a user interface (or dashboard) and a full stack contact center they can customize.
Conclusion:
As stated above, Twilio is a stable choice that should clear fundamental benchmarks. The company is priced at current EV/sales of 11.87 and forward EV/sales of 10.71. This is currently one of the lowest valuations in the category while forward EPS consensus is one of the highest in the category.
Technical Analysis
The technical structure of most cloud stocks is lining up with the fundamental outlook. In other words, while the cloud complex is clearly in a sentiment driven correction, the growth in cloud is just getting started. Next year, it’s estimated that software-as-a-service will grow by 17%, which, once this correction plays out, should lead to a new uptrend to all new highs.
Digging a little deeper, most of these stocks are clearly in a second wave, showing an overlapping corrective structure. Twilio and Alteryx are not exceptions (we are releasing a PDF on AYX shortly). Typically, second waves flush any remaining optimistic sentiment, causing investors to feel like the initial move up was false, and the current downtrend is here to stay.
However, what follows the 2nd wave is a more important 3rd wave, which is what we want to participate in. The standard target for the 3rd wave’s completion is around 161.8% the length of the first wave, so this move to all new highs will be notable. With Twilio’s revenue growing from $1.16B to $1.46B and analyst consensus of 92% EPS growth, as long as we avoid a larger macro pullback/recession, our goal is to add to cloud positions for this 3rd wave.
The red Fibonacci lines on the right indicate the retrace levels from the entire uptrend, which started in May of 2017. The Blue lines indicate the extension of the first leg down (A wave), assuming the first leg has bottomed and we are in a corrective retrace (B wave). The cluster gray lines indicate Fibonacci price levels taken from various swing lows based on Twilio’s price action, which is meant to reveal clusters of important price regions. When these regions line up, it signals a potential bottom, and trend reversal.
My count has Twilio completing it larger degree 1st wave in red, and is currently in its 2nd wave retrace. The charts suggest that Twilio, like most cloud stocks, has not completed the retrace. Cloud stocks, and Twilio, will likely continue another leg lower, which is when I will consider this a buying opportunity. It will be in this correction that the sentiment towards cloud stocks will likely hit bottom, and be ripe for a reversal.
There is a high level of Fibonacci clusters around the $86, $73, $63 price region. These levels will be my targets for a potential counter trend position, and I will be looking for signs of a bottom as the price approaches these levels.
Twilio is currently finding resistance just under the 23.6% retrace level at the $97-$103 price region. Furthermore, this level coincides with two huge volume spikes, both of which were initiated at the $100 level. This level will be difficult for Twilio to overcome, not only because it’s a key Fibonacci resistance level, but also because large amounts of money exited the stock at this level.
The internals of Twilio also suggest more downside. The RSI has clearly broken into bearish internals, finding it difficult to break the 50 line, let alone the 60 line. I will want to see the RSI break the 60 line, and shift into a more bullish posture before considering the correction to be over.
Furthermore, the MACD has begun to roll over again, suggesting that the downside is not over just yet.
My primary game plan is to initiate a position at lower levels. However, I will abandon this thesis, and assume the bottom is in if: TWLO can break through the 50 and 200-day MA; then break through the 61.8% retrace level with heavy volume, and do so with a 5-wave structure.
In conclusion, the first leg of the downturn appears to have ended, and we have retraced to heavy resistance at the $97-$103 price region. If Twilio cannot breakout here, expect the next leg of this downturn to flush out the remaining sentiment, while price finds support within the price zones listed above. The first support zone will be around $86, then $73, followed by $63. I will look to layer in my position as Twilio makes its next leg lower.
Advanced Micro Devices (AMD)’s stock price is up by 108% this year, making it the best-performing company in the S&P 500 this year. Its closest peer has been Nvidia, whose stock has climbed by 56%. Other peers like Intel, Broadcom, and Taiwan Semiconductor have gained by 22%, 24%, and 48% respectively year-to-date. As a result, AMD has helped power the Fidelity Select Semiconductors (FSELX), which has risen 48% this year, and the PHLX Semiconductor Sector Index (SOX), up 46% this year.
The main justification for the surge in AMD’s stock price is that the company is successfully taking market share from Intel – and to some extent, Nvidia. Since 2017, Intel has lost 10% of its PC CPU market share and 5% server market share to AMD.
Higher PC and graphics chips helped drive the most recent quarter’s performance, yet AMD’s strategy in the CPU-powered cloud-data center segment as the company takes on juggernaut-Intel is especially promising.
In the most-recent quarter, AMD reported revenue of $1.8 billion, which is the company’s highest quarterly sales in more than a decade. Revenue missed by $1 million on an expected $1.81 billion while the company met EPS forecasts of $0.18 EPS. Management guided fourth-quarter revenue of $2.05 billion to $2.15 billion, while analysts had forecast revenue of $2.15 billion. Factoring the past three quarters means that the company will likely generate $6.4 to $6.7 billion in revenue this year. This will be slightly flat from the $6.47 billion that was generated a year ago.
The issue is that the recent AMD share price surge and subsequent valuation multiples see it as a growth company. It has a one-year forward PE ratio of 36, compared to Nvidia’s 30, Taiwan Semiconductor at 20, and Broadcom at 12. Historically, the S&P 500 has an average forward PE ratio of 15. The current PE ratio for the AMD is 206, nearly 5x higher than Broadcom at 45, nearly 4x higher than Nvidia’s at 55 and an astonishing 8x higher than Taiwan’s current PE ratio at 25.
Meanwhile, AMD’s YoY revenue growth same quarter is at 8.95% and will be 52% growth YoY same-quarter Q4, if the company comes in at the $2.15 billion. (Hence the popularity of the stock and cyclical nature of semiconductors). YTD growth is around 20%, which is similar to Broadcom.
AMD’s fundamental story lies within the company’s margins, which historically, have been very low, and are impacted by average sales price (ASP), cost per unit and volume. The company’s trailing EBITDA margin of 8.35% is below that of peers mentioned above. However, over this past year, AMD’s non-GAAP margins have expanded even as revenue declined.
Intel, on the other hand, saw non-GAAP margins fall YoY. This helps support the bull case that AMD’s earnings are growing even while experiencing flattened revenue, and the company has forward-looking potential.
The main challenge with AMD’s current share price is market exuberance over the company’s rebound from the lowered guidance in July. In the technical analysis below, we attempt to reveal just how stretched AMD is, to make the case that now might be the time to take profits, or wait for confirmation if you are looking for an entry.
AMD’s Stock Price: Technical Analysis
Price is approaching a resistance zone that AMD has failed to break through twice over the prior 2 decades – once in the year 2000 and then again in 2006.
Regarding resistance and supports, the longer the region has held the more important it becomes. Also, the severity of the correction from the price region usually dictates the importance of the region as well. In other words, AMD has failed to breakthrough twice over a 20-year period at this region, and what followed these failed breakouts was two drawdowns greater than 90%. Therefore, this price zone is important for AMD to break through.
Notably, the short interest in AMD is currently around 11%, which is high. So, if AMD can break through this region, it will force shorts to cover, accelerating the price even higher. However, if AMD cannot breakthrough this zone, a healthy correction should be expected. History doesn’t always repeat, but it can rhyme, and a mere retrace to the 23.6% Fibonacci retrace level, a mild correction compared to the uptrend we’ve seen in AMD since 2016, would constitute around a 50% drawdown.
There is negative divergence between the RSI and MACD making lower highs while the price of AMD is making higher highs. The price is thus moving up while the buying pressure is fading. This is typically a sign of a fading rally and suggests a pullback is on the horizon. Furthermore, the price is rising on decreasing volume as well, suggesting that not many investors are buying at current prices.
This divergence is not only happening in AMD’s price, but across the Semis that are trading in the U.S.
The above chart is showing the Philadelphia Semiconductor Index (SOXX) compared to the South Korean Kospi Index. South Korea is an economy that is fueled by some of the world’s largest semi-conductor companies, as well as many mid-level players. Companies such as Samsung, and SK Hynix supplied over 60% of the components used in memory chips sold globally in 2018.
Therefore, the KOSPI provides important information about the global health of semiconductors. As you can see, these indexes are historically closely correlated. Today, we are seeing a very wide divergence between the U.S. semiconductor index and the KOSPI, which is unusual. This suggests that either the PHLX or the KOSPI will need to make a move to realign. My best guess based on the evidence is the U.S. semiconductors will point downward soon.
Regarding AMD, the volume suggests buyers are drying up at current prices, which makes sense considering the overhead resistance, fundamental outlook and global slow down. If I were long, I’d be looking to take profits at current prices, or at minimum buy insurance through a put.
This week, Microsoft’s earnings will shed light on whether the fear over cloud valuations is warranted or not.
Just last week, IBM results showed that its cloud segment grew by just 14%, boosted by its Red Hat acquisition. In more signs of trouble in the industry, Workday (WDAY) stock declined sharply last week after the company said that growth in its once-lucrative human capital management was slowing to 20%. This led to analyst cuts from Stifel, Deutsche Bank, and RBC. Morgan Stanley (MS) and Evercore ISI analysts have also rushed to downgrade the cloud industry ahead of the busy earnings extravaganza. Companies like Slack, Okta, Splunk, and Salesforce have dropped by 27%, 25%, 20%, and 8% respectively in the past three months.
This week, Microsoft earnings will be important because they will provide a picture about whether this sell-off and pessimism is warranted. Microsoft is important because it is the biggest cloud computing company in the world. It’s impressive growth in cloud has pushed it to become the second-biggest company in the world with a valuation of more than $1.07 trillion. Don’t be surprised if the sector ignores the market sentiment and reports impressive earnings.
Microsoft will provide a good indication of the cloud sector because of its broad offerings. The company has a large portfolio of cloud software (SaaS) and cloud infrastructure (IaaS) products. The IaaS and SaaS industries have grown to almost $40 billion and $95 billion in the past decade. This growth is expected to accelerate in the coming years as global corporation and governments embrace the efficiency of cloud. The industry revenue could double in the next three years. Although there will be many winners in the cloud race, Microsoft is well-positioned because of its scale and its approach of the industry. Just this week, the company acquired Mover, a small company that will help it simplify and speed migration to Microsoft 365.
The cloud sector has had impressive growth in the past decade. This growth is just getting started. According to Gartner, cloud spending will accelerate at nearly three times the rate of the overall IT sector through 2022. The research firm expects IaaS sector to grow by 27.5% in 2019 to $38.9 billion. It is expected to reach $76.6 billion by 2022, which is an incredible growth.
Not only this, Gartner expects other cloud sectors like Platform-as-a-Service (PaaS) and SaaS to nearly double. Another estimation is that 90% of companies will purchase these products from a single company. As a market leader, with a diverse suite of PaaS, IaaS, and SaaS products, Microsoft will likely be a potential beneficiary in the cloud cycle.
To be clear. Quarterly results will be inconsistent. It has been like this in all fast-growing sectors.
The past few months have been challenging for technology stocks. Yet, Microsoft has been a better performer. In the past one year, Microsoft’s stock has soared by 27% compared to Amazon’s 1.2%, Alphabet’s 13%, and Apple’s 9.6%.
Microsoft has beaten its peers mostly because of its approach to the cloud sector. The company was early to embrace hybrid cloud strategy, which started to take hold in 2018. This was two years after the company’s first technical preview in 2016.
This growth has happened even as the company’s valuation has gotten cheaper. The company has a trailing PE ratio of 27.5, which is much lower than last year’s ratio of 46. This implies that the 27% stock gain has been well-earned.
In the past quarter, the company reported great results. Its revenue of $33.72 billion beat the consensus estimates by $920 million. The EPS rose to $1.37, which was 16 cents better than what the market was expecting. In the previous quarter, Microsoft’s revenue of $30.57 billion was $760 million higher than the consensus estimates. Since 2014, the company has had just one EPS miss and three revenue misses.
In the most-recent quarter, the company’s growth momentum continued. Commercial cloud grew by an annualized rate of 39% while Azure grew by 64%. Dynamics 365 grew by 45% while Office 365 grew by 31%. These are excellent numbers for a company that was ignored and ridiculed by the investment community.
Investors should pay close attention to hybrid cloud when looking at Microsoft. Looking at it carefully will give them perspectives about how the company is positioned to set itself apart from other cloud companies like Microsoft and Google.
Hybrid cloud is a technology which enables companies to store some of their data on their own servers while simultaneously sending other data to the private and public cloud. Companies love hybrid cloud because it is cost-efficient, transparent, and safe. Azure’s strength in hybrid computing has made it the main player in the industry. The product is used by 95% of Fortune 500companies.
Government agencies like the Department of Defense are starting to invest in this technology. Last year, I wrote a long-form article explaining why Microsoft would be a better contender for the $10 billion Joint Enterprise Defense Infrastructure (JEDI) contract. In August, the department, which had favored Amazon paused the procurement process on Amazon security concerns. There were also concerns over why single-sourcing was used for such a sensitive contract.
The decision by the DoD to pause means that Microsoft could be at play to win the contract. Microsoft is a leading contender because of its track record with the DoD. Recently, the department awarded the company a software computing contract worth about $7.6 billion. The Defense Enterprise Office Solution (DEOS) will provide productivity tools to the U.S. military.
Microsoft’s cloud products are also used widely in the country’s intelligence sector. In May 2018, the U.S. Intelligent Community announced that it would continue to use Microsoft’s products like Azure Government, Office 365 for US Government, and Windows 10. In the announcement, Microsoft said that its Microsoft Cloud for Government solutions were used by over 10 million government customers.
In 2018, the company won a $480 million contract to supply about 100k augmented reality devices to the US military. The company won this contract after competing with other companies like Magic Leap, Lockheed Martin, and Raytheon. The military bought these devices because it wanted to incorporate night vision and thermal sensing in its training.
The U.S. Department of Defense has partnered with Microsoft on more projects. This means that there is a possibility that the company could be a leading contender on the JEDI project.
Microsoft will release its Q1’20 earnings on Wednesday. Analysts expect the company’s earnings to increase to $1.24 from $1.14 a year ago. Revenue is expected to jump from $29.08 billion to $32.24 billion. As with all of its earnings, the market will be focusing on the cloud segment. There is no evidence that this revenue will slow down. While uncertainties on trade and economic growth could lead to some fluctuations, Microsoft has an advantage because of its cloud strategy and execution.
I’m publishing this week on Microsoft – the full copy of the article is below.
This is a stock I have a decent track record on, as I encouraged investors to consider the company during the Q4 sell-off (about a month after the company had missed earnings).
I also pointed out in a separate analysis that it would be a strong contender for the Pentagon contract. I got a lot of backlash from a few AWS bulls who said I was wrong. A few months later, the DoD announced that Microsoft was in the running and now it’s widely believed the contract is between Amazon and Microsoft.
I hope my streak continues on this stock because I’m definitely swimming against the stream in my upcoming article this week. The point of the upcoming article is to make it clear that the projections for cloud growth are not in agreement with the current rotation out of cloud. In fact, the rotation is sending the wrong message as the best gains on cloud are predicted to happen over the next three years at an acceleration of 200-300% compared to the last decade (stats below).
My readers should remain flexible and be prepared to play this either way. If cloud rallies, or if cloud sells-off – make sure to have a strategy to get back in. If other tech companies come in weak over the next year, all the better to get cloud cheap. I am personally playing the cloud market right now while understanding the market will eventually fold its hand on these high valuations. I can’t perfectly time a market, so I prefer to play on trends that I know are in their prime. If the market doesn’t behave the way I want it to, I follow my stops and get back in. My biggest drop was Nvidia during the crypto bust — which retained gains because I had a stop. And, I believe in this company so I got back in.
Keep in mind, if Microsoft has a negative surprise, cloud stocks will get rocked. I do already own Microsoft as I was vocal about its strength during the Q4 selloff but I’m playing momentum in the short-term right now, as well. I can’t find any evidence that cloud is slowing down, so I’m sticking with what has worked in the past (numbers and facts, rather than the emotions of the market).
Gartner has been accurate in the past with their unbiased analysis on tech trends. I place more weight on Gartner than IDC. In fact, IDC has already been proven wrong this year with a forecast that cloud would grow 11%. Cloud has already grown 24% in the first half of 2019 with IaaS and PaaS growing at 44% and SaaS growing at 27%, according to Synergy. (Gartner is detailed in the second chart below)
Gartner’s take on the cloud market:
If you are not in Microsoft right now, and the valuation is too rich for you at a 25+ forward PE and P/S of 6-7, then Knox sees a broader market pullback opportunity at $92 down the line. For anyone in Microsoft, he sees $128.50 as support and $146.50 as the start of a renewed bullish trend. He has more detailed analysis coming out on this soon after earnings.
My full article on Microsoft is below the technical analysisMy full article on Microsoft is below the technical analysis
Microsoft Technical Analysis
By Knox Ridley
Though MSFT is trading flat with a decelerating RSI, relative to its cloud peers, its showing some strength. In other words, while most cloud stocks are down double digits, MSFT is simply flat.
It’s trading within an ascending triangle pattern, which more often than not, resolves to the upside. If you are going to play the long side, a safe stop would be just under $128.5.
I placed a series of supports that will act as significant regions in any significant pullback. Also, even in a major drawdown, the likelihood of MSFT retracing beyond its 23.6% retrace level is slim . Above the $146.5 region, and the bull market in MSFT should extend.
I will release a more detailed report of MSFT’s long term prospects soon.
Microsoft Article:
Headline: Microsoft’s earnings report will likely make believers out of cloud-software skeptics
Subheadline: The company is well-positioned for further gains, reflecting accelerating revenue growth in the industry.
Story:
Microsoft’s quarterly results to be released this week will tell us whether fears about the cloud-software industry are warranted.
Revenue growth in the cloud sector has been phenomenal and, according to research firm Gartner, is poised to accelerate.
Morgan Stanley and Evercore ISI analysts aren’t so bullish. They downgraded some cloud companies before they released earnings. The stock market showed tension cracks last week when Workday said human-capital-management-software growth was slowing to a 20% pace. Shares of Workday, Okta and Slack Technologies, among other companies, tumbled in response.
This week, we will see if the momentum from growth to value picks up steam. Don’t be surprised if cloud companies continue to report strong earnings. The goal for investors is to tune out the noise, as cloud-revenue growth is likely to defy the odds.
In a sweet spot
Microsoft is at an inflection point for cloud software (also known as SaaS) and cloud infrastructure (IaaS). Well-rewarded revenue growth in the cloud sector has taken more than a decade to accumulate, measuring a market worth $40 billion in IaaS and $95 billion in SaaS.
However, it will take only three years to double this revenue. Although many cloud stocks will reap those benefits, Microsoft is especially well-positioned.
According to Gartner, the cloud-services industry will grow at nearly three times the rate of overall IT services through 2022. Cloud infrastructure-as-a-service will grow at 27.5% in 2019 to $38.9 billion, and will reach 76.6 billion by 2022, or nearly 100% growth.
Other areas where Microsoft excels, including platform-as-a-service (PaaS) and SaaS, will also nearly double. This helps to cement Microsoft’s IaaS market share, as Gartner also predicts 90% of organizations will purchase public cloud IaaS and PaaS from a single provider.
Although it’s likely there will be some ups and downs on a quarterly basis, the market may be surprised to find that growth across the cloud industry occurs with, or without, a perfect economy.
This has been a challenging time for tech stocks, yet Microsoft’s shares have returned nearly 29% (with dividends reinvested) for one year through Oct. 18, compared with much lower returns for Amazon.com, Alphabet and Apple
Previous earnings reports
Microsoft’s stock has performed better because its hybrid cloud strategy began to take hold in 2018, two years after the first technical preview in 2016, and this spurred faster growth than the market estimated.
Last quarter, Microsoft beat revenue expectations by $920 million and the consensus earnings per share (EPS) estimate by $0.16. The company exceeded expectations handily in the two quarters before that as well.
Microsoft will report fiscal first-quarter results Oct. 23 after the market close. The company’s fiscal fourth quarter was its best yet for commercial cloud, with revenue increasing 39% year-over-year. Azure had the strongest growth at 64%, followed by Dynamics 365 at 45% and Office 365 Commercial at 31%.
Hybrid cloud requires a closer look, and not only because it’s been showing up in the financial statements under Azure. It’s important to consider what will set Microsoft apart from other cloud IaaS providers, including Amazon, the leader, and Google Cloud. This is key to forecasting future earnings.
Hybrid cloud allows for scenarios where customers can keep their most sensitive data on their own servers while sending workloads to the private or public cloud that gain an advantage from mining data more efficiently and require improved accuracy and productivity.
Azure’s strength in offering both on-premise and cloud in a hybrid solution has prompted Amazon to chase Microsoft with recent efforts to improve its hybrid strategy. Today, Azure claims more than 95% of the Fortune 500 as customers because of its hybrid flexibility.
Security is a key concern:
Understanding hybrid provides transparency into how managers of companies with big budgets think and how they evaluate the cloud. Security is clearly a concern as on-premise servers continue to be in demand as a counterpart to the public and private cloud.
The Department of Defense (DoD) is a perfect example of an entity that would want to keep its most secure data with on-premise servers while leveraging the cloud for artificial intelligence and machine learning. Fortune 500 companies with substantial intellectual property are additional examples.
I wrote a long-form analysis on why Microsoft would be a strong contender for a Pentagon contract when pundits had zeroed in on Oracle, IBM and Amazon. The contract is worth $10 billion over 10 years.
Beyond the $1 billion in annual revenue, it’s the implications of which company the Pentagon chooses that is most important. That’s because the winner likely has the best security.
There are many instances in recent years where the DoD chose Microsoft for software and operating systems. Recently, the Pentagon awarded Microsoft a $7.6 billion contract to provide software. The Defense Enterprise Office Solution (DEOS) will provide email, calendar, video-calling and productivity tools to the U.S. military.
In May 2018, the U.S. intelligence community extended its agreement to use Microsoft products such as Azure Government, Office 365 and Windows 10 in a joint licensing agreement with Dell. At the time, Microsoft said more than “10 million government customers from every federal cabinet level, including the Department of Defense” rely on its Cloud for Government.
In November 2018, Microsoft won a $480 million contract with the DoD to bring 100,000 augmented-reality headsets into the military’s arsenal. The two-year contract will help soldiers prepare for combat training.
There were more contracts in 2016 to provide technical support to the Defense Information Systems Agency (DISA) and a contract that took effect in 2017 to provide 4 million laptops, desktops and mobile devices.
Microsoft’s advantage:
There is no evidence that cloud revenue growth will slow in the short term. There could be minor earnings fluctuations, but the trend is carrying a lot of force, with projections to accelerate two to three times faster than what we’ve seen over the past decade. Microsoft is well-positioned across all cloud segments, and has an advantage with hybrid cloud solutions and security.
Okta, like most Cloud stocks, has been on an epic run since going public. However, Okta’s price action is showing signs of slowing down. With 5 waves up from the beginning of this long-term uptrend, which started in late 2017, Okta’s final 5thwave in green had its own extended 5thwave, noted in magenta. When a stock completes it’s larger degree 5thwave structure, like we see in green, I tend to get cautious.
Okta has taken out its 8-day, 21-day, and 50-day Moving Averages. As long as the 200-day is not breached, Okta can rebound and continue this uptrend, which would reset my primary count above, and see Okta extend further before taking a breather.
Let’s start with the price trend line in blue, which started off the December lows in 2018.
You’ll notice a clear uptrend that the price action respected, even in the June correction of this year. Note that at the peak of this uptrend, just above the maroon arrow, Okta’s price broke through this trendline with force. Also, if you look at the RSI leading up to this moment, you’ll see it making lower lows while the price action is making higher highs, which is signaling weakness, and a coming pullback. This is a very typical pattern we see just before a pullback.
Furthermore, my 2 favorite momentum indicators, the MACD and RSI, both showed the same uptrend within these indicators. At the exact same moment, highlighted with the maroon arrows as well, you’ll notice that they too broke their uptrend.
This outside day pattern is a rather notable pattern where a single day of trading engulfs the prior day’s high and low. What makes this pattern strong is that it engulfed not only the day prior, but nearly 2 weeks of trading days before it. It also dramatically closed below the prior days and it did so on heavy volume. You’ll see that what followed was the beginning of a trend change. When I see a moment where multiple trendlines are broke, as well as an outside day reversal pattern, I take note of a possible reversal in sentiment – the extent to which is yet to be seen.
However, it’s worth noting that the buying pressure is still strong with Okta. Until the RSI breaks the 40 line, and the $118 support is broken, Okta could continue higher.
Relative Strength Index
Looking at the RSI, we see the buying pressure that is still evident in Okta. In the first chart, which shows a longer time frame, you’ll notice a similar RSI trend that was broken. When a momentum trend breaks, it typically signals a correction is imminent; however, the extent to which is always in question.
Keep in mind that the 40 line is a crucial support for a bullish continuation; notice how this line played out in each trend break, which is noted by the first line of maroon arrows, which occurred in June of 2018. The RSI trend broke, as price began to retrace. However, the RSI held the 40 line, and began a new uptrend, which was a rather shallow pull back.
The next RSI trend break occurred in October of 2018, also noted by a line of maroon arrows. This time, the RSI collapsed beyond the 40 line into bearish momentum territory. What followed was roughly a 40% pullback.
Where we are today, is more similar to the first example of the RSI trendline breaking, so far. The RSI broke its trend line, but has held support at the 40 line. The price action today is in a holding pattern, which can be noted in the RSI holding a tight pattern between the 60 and 40 line.
More information is needed from earnings to determine if we get a continuation of the bull trend, or a further retrace.
Where we are:
As stated, Okta’s price action is slowing. It has broken numerous trend lines, both in price and momentum, and signaled a possible sentiment change with the Outside Day Reversal Pattern shown. However, it has yet to follow through both on price and momentum, showing that the buyers are still very excited about this stock. The earnings report will likely be the catalyst for the direction of this stock as well as the trading plan you might want to follow.
It should be noted, with a Price to Sales hovering around 34, coupled with no earnings, Okta is priced to perfection. If Okta’s price breaks the $118 support, we will likely see a deeper correction that can take us to the green box highlighted in the chart, which I have as likely targets around key retracements, highlighted in black.
On the other hand, if Okta’s price breaks to all new highs, around $142, we can see an extension of the uptrend. If you decide to play the continuation of this momentum, it will be crucial that you put tight stops in place – $142, but no lower than $118.
Last March, Nvidia announced an agreement to acquire Mellanox for a total enterprise value of $6.9 billion. Pursuant to the agreement, Nvidia will acquire all of the issued and outstanding common shares of Mellanox for $125 per share in cash.
I’ve covered the product details of this acquisition in detail with an analysis last April and one last week. To summarize, the Mellanox acquisition will help increase Nvidia’s competitive lead on GPUs, while also slightly reducing the requirement for CPUs from companies like Intel and AMD. Mellanox can be leveraged to speed up GPUs while closing the gap in latency performance with FPGAs (Xlinx and Intel/Altera). This is a strategic acquisition for Nvidia and Mellanox to become the strongest combination for artificial-intelligence and machine-learning computations. Nvidia beat out Intel and Microsoft in the bid for Mellanox.
Mellanox is trading below the $125 price at $108, time of writing. This is likely due to concerns the acquisition won’t be approved by Chinese regulators, similar to Qualcomm’s failed acquisition of NXP Semiconductors. The deal would have been the biggest semiconductor takeover globally at $44 billion. According to sources from China, the case was not approved for anti-monopoly reasons rather than trade-war tensions.
Nvidia and Mellanox are in separate categories and don’t pose security risks from communications, therefore, it is less likely this acquisition will be blocked. In addition, China is a large customer of Nvidia and stands to benefit from the combined company. China needs this acquisition for its sizable AI ambitions to reach a domestic AI market of $150 billion up from the $6.7 billion today. These plans were published in 2017.
We also see some company insider activity with Stephen Sanghi, a director at Mellanox, buying shares worth $2.2 million at $110 per share in June 2019. Sanghi is also the CEO of Microchip Technology. At this price, Sanghi will make 11.6% return with an annualized return of over 21% if it closes by the end of 2019.
The acquisition is an all-or-nothing gamble with technical analysis indicating shares could go as low as $72 if the acquisition is not approved. If the deal is approved, investors have a merger arbitrage worth about 15%.
My best guess is that China will not block this acquisition as it does not constitute a monopoly, is a much smaller company than NXP, and accelerates Nvidia’s product to compete with Intel/Altera, an acquisition that closed at $16.7 billion in 2015. This is a guess and is dependent on what Chinese regulators decide. From a tech product perspective, there are no obvious issues with regulatory approval.
Technical Analysis
By Knox Ridley
Price Action
Mellanox is currently in a strong uptrend, which we are able to track with the dark blue trend channel in the above graph. You’ll notice how well the price action respects this channel as both support and resistance through-out the move up as well as the slight retrace we are in now. Mellanox was already trading through the upper trend channel when the Nvidia acquisition was announced, causing the price to gap-up an then trade slightly higher. When a stock breaks through the initial trend channel with as much force as Mellanox has and then begins to retrace, we can draw a new channel to gauge the likely points of attraction for a further retrace as well as a new advance. You’ll be able to see this is the dotted blue lines in the above graph.
In short, the price is trending towards the $105 support level, which coincides closely with the 200-day moving average. Expect strong support here. The resistance is $121
Scenario 1: If we break the $105 support, there is not much support until the $91-$88 range, which coincides with the 38.2% retrace as well as the lower channel of the trendline. This will be very strong support for any additional retrace.
Scenario 2: The $105 trendline holds, and we maneuver to all new highs above the green resistance level, around $121. If the Nvidia deal is allowed to go through, which we believe it will, expect this move to be sudden.
Internal Strength
The internal strength, as outlined by the MACD, is currently in a weak spot. It turned hard on the current retrace and is making higher lows, which is a good sign for building momentum. As long as the MACD does not break the -2.4 line to make new lows, then we can expect the price to build momentum.
Nvidia’s stock went from unstoppable to nearly uninvestable in the matter of a few weeks last year and has not recovered.
The sudden drop in Nvidia’s stock price and a competitive ecosystem that’s hard to understand are two reasons the chipmaker has scared away growth investors, who have opted for momentum bets such as cloud-software companies. The fact that semiconductor companies are cyclical, and mired in the U.S.-China trade war, has further overshadowed Nvidia’s growth potential.
But the real story is that Nvidia is spring-loaded as its product offerings quietly gather strength in a market of enormous magnitude: artificial intelligence (AI). The path for Nvidia’s market domination in the AI economy, worth $15 trillion over the next decade, will be choppy now and exhilarating later.
Nvidia’s profits have been slammed over the past two quarters, and will require a few more quarters to return to levels before the cryptocurrency bust, which reduced demand for Nvidia’s mid-range graphics chips. A spectacular comeback is not likely when the company reports earnings Thursday after the stock market closes.
In the first quarter, Nvidia reported $394 million in net income and earnings per share (EPS) of 65 cents, down from $1.24 billion and EPS of $2.05 a year earlier. Analysts are predicting EPS of $1.07-$1.24 for the third quarter. Still, profit margins are better than those of rival AMD, which booked net income of $35 million on revenue of 1.53 billion in the second quarter. Despite that, AMD’s stock has risen 79% over the past 12 months, compared with Nvidia’s -40%
Nvidia vs AMD
Taking a somewhat contrarian stance, I do not regard AMD as Nvidia’s primary competitor. AMD is more focused on Intel and taking market share from the CPU data center. Nvidia’s true rivals are FPGA chips from Xilinx and Intel/Alterra. I also believe AMD will have to choose if it plans to go against two 800-pound gorillas (Intel on CPUs and Nvidia on GPUs).
It would be nearly impossible to stave off Nvidia, which is putting all of its weight into the GPU data center with the acquisition of Mellanox and new partnerships such as with Arm on AI and high-performance computing software. That will help strengthen Nvidia’s lead, which already owns over 90% of the cloud infrastructure-as-a-service market.
Chief Executive Officer Jensen Huang had an excellent quote that described Nvidia’s ongoing cooperation with CPUs as the necessary backbone to GPUs, and why his focus has been elsewhere in the data center stack. It helps to provide a glimpse into his future strategy.
“These two types of processing are going to be here to stay,” he said. “With accelerated computing, we don’t suffer from Amdahl’s Law — we obey it, and the thing that you don’t accelerate becomes the critical path. We believe in fast CPUs, and that is why we work with all of the world’s fastest CPU makers — IBM, Intel, AMD, Arm.”
Huang went on to say he’s focused on the X factor, or what will accelerate the path forward at the highest percentages possible. Rather than compete with many players on CPUs, Huang wants Nvidia to be the leader in the highest growth piece of the data stack — parallel computing and acceleration, especially in AI.
The $7 billion acquisition of Mellanox, announced in March, will help Nvidia accelerate the performance of GPUs while maintaining a low barrier to entry for developers who favor Nvidia’s CUDA platform for AI development.
Mellanox acquisition
To illustrate how Mellanox accelerates the performance of GPUs, Nvidia and Mellanox support more than 250 of the world’s top 500 super computers, including the world’s two fastest supercomputers, Sierra and Summit, operated by the U.S. Department of Energy.
Mellanox’s Ethernet switch systems are the most used internal system in the top 500 in a recent report released at ISC High Performance, with 247 systems, and InfiniBand is the second most-used, with 140 systems. However, InfiniBand, a computer-networking communications standard, connects the most high-powered computers where the presence of Ethernet is nearly non-existent.
This is clearly a strategic acquisition for Nvidia as Mellanox has small profits (net income of $38.4 million in the second quarter) with profit margins of 2%, and the acquisition will require nearly all of Nvidia’s cash reserves. As a result, Nvidia may have to take on debt.
Some speculate that Chinese regulators could block the acquisition, similar to what happened when Qualcomm attempted to acquire NXP Semiconductors. This is less likely, though, as Nvidia and Mellanox are in separate categories and don’t pose security risks from communications. In addition, China is a large customer of Nvidia for AI applications and stands to benefit from the combined company.
In other words, Nvidia is not acquiring Mellanox to simply own InfiniBand and Ethernet, but rather to boost its GPUs as the best data center option available. Nvidia is aligning its architecture with speed, as Mellanox supports Virtual Protocol Interconnect (VPI), which allows the ubiquitous Ethernet to provide bandwidth as cheap as possible, and InfiniBand to deliver higher throughput and fewer bottlenecks during high loads.
Mellanox has done an excellent job of taking market share from Ethernet incumbents, such as Cisco, Arista Networks, Juniper Networks, Hewlett-Packard, Dell and Intel. Some of this is due to Ethernet, and also InfiniBand, and now a hybrid of the two.
Nvidia’s Mellanox acquisition helps increase Nvidia’s competitive lead on GPUs, while also slightly reducing the requirement for CPUs from companies like Intel and AMD. Mellanox can be leveraged to speed up GPUs while closing the gap in latency performance with FPGAs (Xlinx and Intel/Alterra). This is a strategic acquisition for Nvidia and Mellanox to become the strongest combination for artificial-intelligence and machine-learning computations.
Declining data center revenue
This thesis hinges on data center GPU revenue, which is declining quarter-over-quarter across both Nvidia and AMD. The Mellanox acquisition won’t close until the end of the year. Plus, rumor has it, China may delay trade talks through the 2020 election. Therefore, timing remains a primary challenge for Nvidia investors to capture this forward-looking opportunity.
Nvidia’s data center sales have fallen over the past two quarters by 14% in January and 7% in April. According to MarketWatch, some analysts predict data center revenue will continue to decline through the third quarter of this year.
AMD reported its average GPU sales price was down slightly quarter over quarter due to lower data center GPU sales. Still, sales rose year over year.
Nvidia’s singular focus is GPU-powered cloud and artificial intelligence applications, and FPGAs are the second runner-up rather than AMD’s GPUs. According to Liftr Cloud Insights, 97.4% of cloud infrastructure-as-a-service (IaaS) compute instances deploy Nvidia’s GPUs across the top four cloud providers. The top four cloud providers are Amazon, Microsoft, Google and Alibaba, and account for 62.3% of the IaaS and platform-as-a-service markets. According to the insights report, AMD accounts for only 1% of the cloud IaaS market.
As with many of the best growth opportunities, the current earnings outlook does not accurately portray Nvidia’s potential. This will be true for a few quarters. It may require sniper-like timing (or a generous trailing stop), but betting on Nvidia and AI will have spring-loaded gains when there are clearer skies for semiconductors and hyper growth in the $15 trillion AI economy.
This article appeared on MarketWatch August 14th, 2019.MarketWatch August 14th, 2019.
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My style of analysis is not about calling earnings. I have a much longer buy-and-hold strategy, and sometimes, missed earnings is a buying opportunity if the stock has good long term potential. Please keep that in mind!
With that said, I doubt we will see a slowdown in earnings from the major cloud providers. The broader market may drag down tech as a sector, however, cloud is a more secular trend.
I spoke with the CTO of Kubernetes at IBM yesterday at OSCON, the Open Source Conference in Portland. He stated cloud has a long runway with about 80% of companies still running on-premise.
Microsoft is unique because they attacked this problem from a new angle; the hybrid cloud. This allows companies to keep sensitive information on-premise and less sensitive information off-premise. This is a winning strategy because it will allow AI applications and scalability without compromising security and IP.
Again, this is not an earnings call, but Microsoft is a company that has runway despite already hitting the $1 trillion mark. If there is a missed earnings, or the broader market drags tech stocks down, this will be welcomed news for entering the stock.
If you already own MSFT at an attractive price, you should have a solid investment into the foreseeable future
If you’re looking to enter MSFT, wait for a missed earnings (from too high of expectations from analysts) or for a broader sector sell-off
We will provide more fundamental analysis and technical analysis when something new occurs
Nvidia fell off a cliff last October from a high of $290 to a low of $130. Meanwhile, the challenger Xilinx remained unharmed by the tech rout, and despite unfavorable macro conditions. Nvidia popularized GPUs in 1999 and Xilinx invented FPGAs in 1985, and both are chips that will define the computationally-intensive future.
GPUs originated from the advanced computations required in gaming and FPGAs originated from electronics engineering. There are strengths and weaknesses to both, however, these are the two that will power the artificial intelligence and machine learning-driven economy. The size of this AI and ML economy is expected to reach $15 trillion by 2030 up from $2 trillion this year.
Keep in mind, that long before technologies go public, they are incubating across the startup ecosystem. By the time AI and ML companies reach the public markets, the technology powering and developing this wave of companies was already decided in the years prior. We are in those critical years where startups must quickly design and develop AI if they want to have the first-mover advantage. This is creating a battle between FPGAs and GPUs.
Below, I break down the differences between Xilinx’s FPGAs and Nvidia’s GPUs before analyzing the financials and theories on how the two will perform in the future.
Note: Previously, I discussed how Nvidia stock has two impenetrable moats: the developer ecosystem and GPU-powered cloud. This previous analysis was written during the height of the panic sell-off, which I negated as being overly-pessimistic due to Nvidia’s strong fundamentals.Nvidia stock has two impenetrable moats: the developer ecosystem and GPU-powered cloud. This previous analysis was written during the height of the panic sell-off, which I negated as being overly-pessimistic due to Nvidia’s strong fundamentals.
AI and Machine Learning
On many technical levels, FPGAs (Xilinx) are considered superior to GPUs (Nvidia). They offer a higher amount of on-chip cache memory to help reduce the bottlenecks from external memory, and are flexible enough to be reconfigured for various data types, such as binary, ternary, and custom data types, whereas GPUs must be modified at the vendor level.
FPGAs are also known for power efficiency, and often test at 10x better in power consumption than GPUs and also 4x better than GPUs for general purpose compute[1]. Reconfigurability for FPGAs also helps provide this efficiency beyond deep learning for a large number of end applications and workloads. The architecture of FPGAs is very adaptable as the chips allow a user to address all of the needs of a workload with the resources provided by FPGAs, such as reconfiguring the data path during run time and with partial reconfiguration. Meanwhile, GPUs are restricted as the architecture is a Single Instruction Multiple Thread (SIMT), which provides an advantage over CPUs but can result in lower performance efficiency when enough parallels cannot be found while mapping the workload.
As pointed out in my previous analysis on Nvidia, software developers prefer GPUs as their frameworks are easier to develop on. Nvidia’s CUDA architecture, for instance, does not require an in-depth understanding of underlying hardware. FPGAs require knowledge of machine learning algorithms at the hardware level, in addition to the software development, and this has been a barrier to entry for FPGAs. FPGAs are a reconfigurable integrated circuit (hence the strengths on being easily reconfigured), which requires specifying a hardware circuit, whereas GPUs are configured via software[2].
“Nvidia, thanks to the CUDA software stack (which AMD cannot match), has a much more unassailable position than does Intel with Xeon CPUs (where an X86 application just runs on either a Xeon or an Epyc).”
– software developer on Reddit
Section takeaway: FPGAs result in faster and more efficient compute but are harder to program due to hardware circuit configurations when compared to GPUs for machine learning, which are more universal and require less engineering resources.
Financials
Nvidia and Xilinx power more than data centers, of course. Nvidia’s top revenue segment is gaming, the origin of GPUs, and this drives about $1 billion per quarter in revenue. Xilinx’s top segment is Communications with many investors using Xilinx as a global bet on 5G with communications revenue increasing 41% year-over-year as reported in the most recent quarter. Xilinx also was not as affected by crypto as the Broadcast, Consumer & Automotive category was 17% of revenue compared to 15% of revenue in the same quarter YoY. (Xilinx classifies crypto as consumer in this 10-K).
Xilinx has a direct competitor with Intel, who acquired Alterra for $16.7 billion. Intel is keen to solve the development uptake issues with FPGAs with the release of Stratix 10 hardware, which has a software layer to simplify development. Microsoft Azure is partnered with both Xilinx and Intel/Alterra on FPGAs although there is some indication that MS is leaning more towards Xilinx in the near future after announcing they will replace Intel chips with Xilinx in over half of their servers.
Developers favor Xilinx over Intel as a brand, and Microsoft is doing quite a bit to court developers right now including the acquisition of Github – read more tech stock analysis here. Therefore, the shift towards Xilinx was not unexpected.tech stock analysis here. Therefore, the shift towards Xilinx was not unexpected.
Nvidia:
While Xilinx reported double digit increases, Nvidia reported double digit declines with revenue down 24 percent, earnings per share down 48 percent to $0.92 and operating income down a shocking 73 percent year-over-year in fiscal Q4. The annual numbers ended on a better note with revenue increasing 21 percent to $11.72 billion, and GAAP earnings per share increasing 38 percent to $6.63. Of Nvidia’s revenue segments, gaming was hit the hardest due to the crypto bust flooding the market with GPUs, which in turn, caused reduced unit shipments overall. In addition, the new Turing architecture and real-time ray tracing, while impressive from a graphics perspective, are ahead of their time and are seeing slow adoption (At release, I had originally put Q3 2019 for these to find early adopters and this timing still looks accurate or maybe Q4).
This upcoming quarter is not likely to be the comeback quarter for Nvidia with guidance of $2.20 billion, which is flat from last quarter and represents a 31 percent decline year-over-year. As you’ll see in the takeaway paragraph below, I am very bullish on Nvidia in the long term as crypto causing temporary GPU saturation offered an opportunity to enter the stock below its value.
Gaming is a foundation for Nvidia, but most certainly, this is not the growth story. The GPU-powered cloud is the future due to AI and ML. If you can get Nvidia below a $100 billion market cap, then my prediction is you will be resting easy by 2022 and 2023 with a stellar return as it’s understated presence across cloud data centers and AI applications should have a firm hold on the market.
Xilinx:
Xilinx’s revenue growth is at 34% year-over-year in Q3 2019, with 63% growth in operating income YoY in the same quarter, and 42% net income growth. It’s important to mention that Xilinx is a small fish in a big pond and this quarterly growth of 34% and 42% equals $200 million to the top line and less than $100 million to the bottom line. Meanwhile, Xilinx commands a PE ratio of 38, at time of writing.
Guidance for the upcoming quarter is revenue of $815 to $835 million compared to $800 million in the previous quarter. One reason Xilinx’s stock price continued to climb, while Nvidia fell off a cliff, is that the smaller fish did not have enough market share to reflect a big impact, whereas Nvidia’s crypto business alone exceeded Xilinx’s net income for the entire year (at around $500 million per quarter). In addition, one year ago Xilinx posted negative net income of $12 million but is now at a net income in the range of $200-$250 million the last two quarters.
In other words, Xilinx is more of a trout than a tuna, but is a pure play option that is likely to see very solid returns as the AI economy is built out. (This is why I don’t invest in Intel; I prefer pure plays when possible).
Nvidia is one of my favorite companies from a fundamental standpoint, and it is worth repeating that I was not fair weathered during the crypto bust, rather encouraged readers to look at the developer moat and GPU-powered cloud as future drivers of growth. As I stated to a reader over email two days before the Mellanox acquisition: “Can Xilinx’s FPGA disrupt Nvidia GPU’s at 4x faster? My best guess (and it’s only a guess) is that Nvidia will continue to release the right chips that the market demands.” In this case, Nvidia is acquiring the right company that the market demands. You can read my analysis on Mellanox acquisition published on FATRADER here.
I want to point out that Xilinx will make a solid investment, as well. Xilinx is priced a minimum of 25-30% higher than Nvidia when looking at PE ratio, Price to Sales, and EPS. Quarter-over-quarter growth for Xilinx right now is in the single digits, and for this reason, I’d like to see Xilinx priced 20% cheaper before I build a position or I’d like to see more than single digit QoQ revenue growth in a highly competitive market for a 30+ PE ratio. Due to Nvidia’s upcoming flat quarter (per guidance), Nvidia is also likely to trade sideways for a quarter or two. I bought Nvidia in 2017 and cost averaged down to $160, and am comfortable here for the long term.
