Are these two warning signs for Nvidia investors?

Nvidia (NASDAQ: NVDA) Nvidia has continually impressed investors with its earnings growth, leading to a surge in its stock price. The stock has climbed 2,500% in five years and is on track for a 140% gain this year. The reason for this performance is simple. Nvidia has become a giant in one of the fastest-growing sectors today: artificial intelligence (AI). The tech giant dominates the AI ​​chip market, with an 80% share, and offers its customers a full suite of AI products and services.

All of this has translated into growth, helping Nvidia post record revenue quarter after quarter and beat analysts’ earnings estimates. That was the case in the most recent quarter, when revenue hit $30 billion, more than the company’s full-year revenue in fiscal 2023. Demand continues to soar for Nvidia’s products, and the company is even set to launch its newest architecture, Blackwell, in the coming months.

However, two things in Nvidia’s latest report aren’t as encouraging as the rest of the picture. Are these warning signs for Nvidia investors? Let’s find out.

Image source: Getty Images.

Nvidia GPUs

First, a little background on Nvidia and its journey so far. Over the years, Nvidia has pivoted from developing graphics processing units (GPUs) to producing video games and has expanded the use of these powerful chips into other industries. One of those other industries is AI. Today, Nvidia’s GPUs are in high demand for many crucial AI tasks, such as training and inferencing large language models. This has contributed to the company’s soaring earnings and stock performance — and made it one of investors’ favorite tech stocks.

Now let’s move on to the two elements of Nvidia’s recent earnings report that may raise concerns. The company has maintained its track record of triple-digit revenue growth, but the pace has slowed compared to previous quarters. Nvidia posted revenue growth of over 200% in the first three quarters year over year — in the most recent period, however, growth slowed to 122%. And Nvidia’s outlook for the next quarter would represent growth of 79% compared to the prior-year period.

The second point to consider is the company’s gross margin, which stands at about 75%. This is fantastic, but it is lower than the previous quarter’s gross margin of 78.4%.

Considering these factors alone, one might wonder if Nvidia’s spectacular growth is finally slowing down. Such a potential slowdown could lead to a decline in the stock price, especially given the stock’s current valuation. Nvidia trades at about 40 times earnings forecasts.

The story behind the numbers

But before you sell out or turn your back on Nvidia, let’s look at the reason for Nvidia’s slower growth and lower gross margin this past quarter. Starting with revenue, it’s important to note that comparison periods are getting tougher for Nvidia. That’s because we’re comparing to a period just a year ago, when major customers were already investing in Nvidia GPUs. Prior to that period, AI investments were lower, giving Nvidia much more room to generate explosive growth.

That being said, Nvidia continues to expand its offerings, for example in the field of enterprise AI, and is committed to updating its GPUs every year. All this should allow the company to maintain its leadership position and maintain high levels of growth.

As for gross margin, I expect some volatility at a time like this, as Nvidia prepares to ramp up production at Blackwell. The costs of launching a new product and the ramp-up process are currently weighing on margin. But even in that environment, Nvidia has forecast a gross margin of 75% for the coming quarter and around that level for the full year — and all of that is well above the company’s profit margin over time.

NVDA Gross Profit Margin (Quarterly) data by YCharts

Should Nvidia Investors Be Worried?

So back to our question: Are Nvidia’s slowing revenue growth and declining gross margin red flags for investors? Not at all. They don’t represent a decline in demand or a weakening of Nvidia’s ability to generate profits from its products and services.

Rather, they reflect where Nvidia is right now: The company may be past the initial boom—the period when customers began investing in AI—but the company’s growth story still has many chapters ahead. Customers continue to prioritize AI spending, and Nvidia expects to regularly launch major new products and gain efficiencies as it produces those products at scale. All of this points to strong growth ahead, giving Nvidia investors reason to be optimistic.

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Adria Cimino has no position in any of the stocks mentioned. The Motley Fool has a position in and recommends Nvidia. The Motley Fool has a disclosure policy.