It’s been almost impossible to avoid the hype around NVIDIA (NASDAQ: NVDA) in the financial media in recent times. It’s been pinned as the poster child for the AI revolution–a title its shareholders must be loving. The NVDA share price has risen a staggering 19 times over the past 5 years (despite a more than 60% decline in 2022), including adding a record US$277 billion in market capitalisation after its most recent financial results release last week. It has been nothing short of a nightmare for short-sellers attacking the company’s meteoric rise, with Bloomberg reporting a whopping US$3 billion in (short selling) losses following just the last quarterly earnings. With NVIDIA on everyone’s lips, what’s the state of play?

NVIDIA was founded in 1993 as a designer of graphics chips for personal computers. It grew rapidly after the launch of its first product in 1995, and its graphics processing unit (GPU) began to be expanded beyond PCs to gaming (including in the first Microsoft Xbox in 2001) and eventually, a much wider range of applications. Today, it is used in professional visualisation (e.g., architecture and design, cinematic effects), mathematical modelling, data centres and cloud computing, autonomous vehicles, and you guessed it–machine learning and artificial intelligence.

As we highlighted in our previous article Semiconductors: Powering the Future of Technology and Investment, even before recent times NVIDIA had an “exceptional long-term track record.” We noted the outstanding revenue growth rate of over 20% per year, relatively stable margins, and earnings per share growth exceeding 22% per year. We also pointed out that the cyclical aspect of the semiconductor industry was nowhere near as damaging to NVIDIA as to other more commodity-like suppliers such as Micron Technology (NASDAQ: MU). This is because of the company’s competitive advantage based on its core GPU product and its fabless technology model, which generates high margins while employing less capital (although this introduces some risks, as we discuss later).

From this core strength, NVIDIA has exploded to new heights on the back of the groundbreaking AI developments of late 2022 and 2023 that we covered back in May. Very briefly, the launch of OpenAI’s ChatGPT has spurred an acceleration in the AI industry, which had already been gaining momentum in recent years. This has led to a wave of investment from companies large and small across many industries that has directly benefited many of the technology giants such as Alphabet (NASDAQ: GOOG), Microsoft (NASDAQ: ​MSFT), and in particular, NVIDIA. The extent of the benefit to NVIDIA’s business became clear when the company provided its forward guidance at its 1Q FY24 earnings announcement, and as we discussed in another previous article, expectations have exploded since.

Incredibly though, NVIDIA’s performance to date has surpassed even these sky-high expectations. In the most recent 4Q FY24 earnings release on February 21, revenue reached a new quarterly record, rising 22% sequentially from 3Q FY24 and a staggering 265% from the prior year’s quarter. This was almost entirely due to the company’s Data Center business, where revenue rose 27% sequentially and 409% YoY to $18.4 billion. Gaming revenue was also strong at $2.9 billion, a 56% YoY increase while Professional Visualization rose 105% YoY to $463 million and Automotive declined 4% YoY.

Such is NVIDIA’s operating leverage that gross margin increased 12.7% from the prior year period to 76.0% and operating income saw a blowout increase of 983% YoY. Net income and diluted EPS both surged, with 769% and 765% increases, respectively. Guidance for 1Q FY25 was also impressive, with a forecast for another sequential increase in revenue to $24 billion and continued margin expansion, with gross margins trickling up another 0.3% despite an incredibly high starting point. The question for current and prospective investors is: what now?

One of the reasons NVIDIA is garnering so much attention right now is it is a “pure play” on the theme of the moment, AI. Investors are unable to directly gain access to other companies like ChatGPT, and NVIDIA is a clear beneficiary of a trend that looks set to boom over the coming years and even decades. For those investors restricted to large companies and well-known companies, they need look no further (and they likely don’t!).

At a recent Bank of America (NYSE: BAC) investor conference, Interactive Brokers (NASDAQ: IBKR) Chairman Thomas Peterffy provided a thought-provoking framework for the AI revolution, likening it to the Fourth Industrial Revolution. Peterffy highlighted that, much like previous revolutions, there are primary beneficiaries, with NVIDIA undoubtedly at the forefront in this era. However, he also noted the existence of secondary beneficiaries—companies that thrive on the platforms and advancements established by the frontrunners. Here we can think of the likes of Netflix and Spotify that spawned on the back of the internet, telecommunications advances (5G/fibre) and compression technology. This is a similar concept to the concept of ‘second level thinking’ that we described in our article back in July, and comes from a reliable source given Peterffy’s net worth and legacy as the founder of electronic trading.

While it might seem challenging and onerous, the work to uncover these beneficiaries can certainly be worth the effort. One place to start hunting might be in Asia, where technology stocks have proven far less popular than their American counterparts. For example, Robert Swift, Portfolio Manager of the Global High Conviction Strategy at TAMIM Asset Management, recently spoke of the opportunity in Winstron (TPE: 3231) and Advantest (TYO: 6857). Swift sees these two companies as exceptionally well positioned and available at far more attractive valuations than NVIDIA, despite their recent strong performance. Many investors may be leery of investing in Taiwan given the threat of invasion from China, yet it’s important to understand that NVIDIA is not immune to this risk. NVIDIA’s fabless production model outsources the majority of manufacturing to other semiconductor giants such as Taiwan Semiconductor Manufacturing Co (TPE: 2330) and has other Taiwan-based companies in its supply chain, meaning that it, too, would be heavily impacted if conflict arose in the region.

The other major risks of investing in NVIDIA no doubt come as no surprise: valuation, which we previously discussed here and here, (and which is of greater concern given that semiconductors are a notoriously cyclical industry), and competition, particularly given the incredible profit margins and wealth creation that AI is generating for NVIDIA.

One of the repeated lessons we have preached in investing is that it pays to be selective. Not all stocks within an industry are created equal, and not all will benefit equally from a secular trend – even AI. While NVIDIA looks almost certain to be a huge winner from the current AI investments from the big tech companies, it is not without risks. It relies on these big tech companies to continue advancing AI initiatives at a rapid pace, there are serious supply chain risks in the event of conflict in Taiwan, and at a valuation nearing $2 trillion, size is likely to have an impact on future returns. Instead, it may be worth hunting for those second-order beneficiaries or other leading technology players outside of the United States.

Disclosure: Advantest (TYO: 6857) is currently held in TAMIM Portfolios.