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Nvidia (NVDA) Earnings Preview: Red-Hot Chipmaker Must Post Pristine Results

Nvidia's stock has rallied for years on AI and cloud computing, but Thursday's Q3 earnings report is an important test.

Investors expect big things from Nvidia Corporation (NVDA, $212.03) when the graphics chipmaker reports third-quarter results after Thursday's closing bell. And considering Nvidia's stock has more than tripled over the past year, it had better not disappoint.

Nvidia has been on a remarkable run since the start of 2016 thanks to explosive growth in artificial intelligence. It turns out the company's graphics chips aren't just great for PC gaming. They're also integral to running data centers for cloud computing and have a place in technologies such as self-driving cars.

For instance, Nvidia's data center business more than doubled year-over-year in the second quarter. And NVDA shares got a jolt in early October after the chipmaker announced a new Drive PX Pegasus artificial-intelligence chip designed to enable the highest level of autonomous driving. The company says the Pegasus chip is "roughly the size of a license plate" and "can replace the entire trunk full of computing equipment used in today's Level 5 autonomous prototypes."

In the past two years, the expansion of these applications has sent NVDA shares up nearly 650%. Heck, the stock has more than doubled in 2017 alone.

Nvidia has been the world's largest maker of PC graphics processing units (GPUs) for ages, but the rise of cloud-based computing and other applications lit a fire under shares. When a list of major customers reads like a who's who of tech giants - Alphabet (GOOGL), Facebook (FB), Microsoft (MSFT) and Amazon (AMZN) all rely on Nvidia hardware in their data centers - you can understand why the market is so high in the name.

Indeed, the company's success has actually forced once-bitter rivals into one another's arms.

In a bid to compete with Nvidia, Advanced Micro Devices (AMD) and Intel (INTC) announced a partnership Monday, Nov. 6, to create a laptop-computer chip that combines an Intel processor with an AMD graphics unit. The idea is to catch up in notebooks built to handle graphically complex games, which is an area of growth.

What Wall Street Expects of Nvidia

Nvidia's performance puts the onus on the graphics chipmaker to deliver perfection whenever it posts results.

A stock this hot can stumble when a company fails to meet or beat analysts' expectations. Consider the quick declines in Nvidia's stock this August despite beating profit and revenue estimates. The company's crime? More than doubling its data center revenues and growing its automotive business by 19.3% - results that still fell short of Wall Street's lofty bar.

Happily for Nvidia's shareholders, third-quarter expectations don't look too tough to meet. Consensus expectations are for 13% earnings growth to 94 cents per share on 17.9% revenue growth to $2.36 billion. Those are strong rates of expansion, to be sure, but both fall well under the pace Nvidia set in the prior two quarters.

Analysts may not have set the bar particularly high for the third quarter, but longer-term, they expect great things from Nvidia. They forecast revenue to jump 30% in fiscal 2018, according to data from Thomas Reuters. Average annualized earnings growth is pegged at 13% a year for the next five years.

The market is so excited about Nvidia's growth prospects that Wall Street analysts are having a hard time keeping up.

SunTrust Robinson Humphrey analyst William Stein upgraded the stock to "Buy" back in July on expectations for upside across most of Nvidia's business. He then released another note in early October hiking his price target on NVDA to $200, which the stock eclipsed in a couple weeks.

With several growing businesses at its back, it's reasonable to expect yet another good quarter from the chip giant.

"We expect the company to benefit from growing strength in the artificial intelligence (AI) space," say analysts at Zacks Equity Research. "Moreover, the company's innovative product pipeline along with strength in gaming and high-end notebook GPUs keep it well positioned."

Nvidia is by no means a cheap stock, trading at 53 times forward earnings on that long-term growth forecast of 13% mentioned above, according to data from Thomson Reuters. A valuation as stretched as that is an invitation to a pullback on anything but a pristine earnings report.

Whether Nvidia can pull it off remains to be seen, but a stumble seems unlikely. More importantly, it wouldn't necessarily change an otherwise bullish bigger picture.

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