Super Micro Computer (NASDAQ:SMCI), also known as Supermicro, is a supplier of high-performance and high-efficiency servers. The stock is trading at a high valuation, driven by a record revenue increase in Q2 2024 (ending December 31, 2024). Despite the stock trading at a forward P/E ratio of 36x, traders remain confident, buoyed by the company’s soaring profits from the demand for its high-end servers. Another reason is the company’s price-to-earnings-to-growth (PEG) ratio of 0.76x, indicating that the stock is undervalued by this measure.
Supermicro aims to benefit from the rise of AI, as current servers lack the necessary computational power for AI demands. Data center operators, concerned about falling behind, are rapidly investing in enhancing their operational capabilities. It is estimated that these upgrades will amount to over $1 trillion in the coming years. As the leading supplier of AI-capable servers, Supermicro stands to benefit greatly from these changes.
Even as demand for AI-centric servers grows, Supermicro is outpacing incumbents. Its strong AI partnerships should boost its 5% industry market share. Rosenblatt analyst Hans Mosesmann sees the trend accelerating. “We expect Supermicro to achieve significant market share gains, potentially reaching double digits in the next few years from its current mid-single digits with a special emphasis on enterprise solutions,” he noted to clients.
Analysts anticipate a 33% annual revenue growth rate for Supermicro over the next three years, significantly surpassing the broader industry’s expected growth of 6%. Additionally, the company has demonstrated higher-than-usual profitability in the computer hardware industry. Overall, I am bullish on SMCI stock based on its PEG ratio, projected revenue growth, and potential increase in market share.
SMCI Rides the AI Wave
Over the past year, the AI server market has achieved remarkable growth, driven by cloud companies and data center providers investing heavily in AI infrastructure and generative AI application development. In this market, Supermicro stands out because it offers highly customizable products tailored to specific workload types and sizes.
Supermicro works in close partnership with Nvidia (NASDAQ:NVDA), functioning as a reseller and incorporating Nvidia’s GPUs and various components into its servers, which are then sold to clients. However, since Supermicro does not have control over the pricing of GPUs – a major cost factor for the servers – it has smaller profit margins than Nvidia.
Supermicro faces its stiffest competition in the AI-server market from Dell Computer (NYSE:DELL). Still, AI servers represent just a small part of Dell’s sales. Last quarter, Supermicro’s AI server sales surpassed Dell’s by about 2.5 times. SMCI, as a smaller company focused on AI servers and unburdened by dividend obligations or significant debt, possesses even greater potential for growth within this niche market.
The firm has the potential to double its current revenue, especially since it has increased its manufacturing capacity to support over $25 billion in annual revenue. The company is already seeing a rapid increase in the usage of its existing manufacturing capabilities. During the January earnings conference call, Supermicro’s management mentioned, “Our production utilization rate is about 65% across our USA, Netherlands, and Taiwan facilities, and they are quickly filling.”
SMCI Financials are Relentlessly Positive
Supermicro’s latest financial metrics explain traders’ optimism. The company’s Q2-2024 revenue was $3.66 billion, representing a 103% year-over-year increase. Following these results, management revised its 2024 guidance upwards, projecting FY 2024 revenues to be between $14.3 billion and $14.7 billion. For Q3 2024, the company projects net sales to be within the range of $3.7 billion to $4.1 billion, above analyst expectations of $2.91 billion.
In Q2 2024, over 50% of the company’s total revenue stemmed from sales of AI-related server solutions. It’s a key factor behind why analysts believe company revenue may double in FY 2024. With AI server sales potentially accounting for half of Supermicro’s FY 2024 revenue, the company is poised to generate at least $7.2 billion from this rapidly expanding market segment.
Aside from revenue, the company is also proving to be highly profitable. In Q2, Supermicro reported GAAP net income of $295.97 million, a significant increase from its Q2-2023 net income of $176.16 million. Its net margin, or net income generated as a percentage of revenue, was 8.08% in Q2 2024, which is significantly higher than the 2.85% net margin average in the computer hardware industry.
Consequently, this growth enabled Supermicro to report a notable rise in its non-GAAP (adjusted) earnings-per-share (EPS) to $5.59 in Q2 2024, a significant jump from $3.43 in Q1 2024. For Q3 2024, the consensus estimate for EPS is $5.83.
However, not all financial metrics have been positive for Supermicro. In Q2 2024, Supermicro’s gross margin was 15.5%, a decrease from 17% in Q1 2024. However, the company attributed the reduction to its focus on “winning strategic new designs and gaining market share.” Additionally, Q2-2024 free cash flow stood at -$609.81 million, a strong decline from Q2 2023, when it stood at $151.20 million.
SMCI Stock Is Still a Buy, According to Analysts
According to TipRanks, SMCI is currently rated as a Moderate Buy based on seven Buys, three Holds, and one Sell rating from financial analysts over the past three months. The average SMCI stock price target is set at $965.64, implying 6.8% upside from its last price. These analyst price targets vary, ranging from a low of $250.00 per share to a high of $1,350.00 per share.
The Takeaway
Supermicro’s elevated stock valuation mirrors investor optimism regarding its potential for ongoing growth. While the high forward P/E ratio may raise some eyebrows, analysts are confident about the company’s trajectory toward substantial revenue expansion.
Supermicro is vigorously pursuing a larger slice of the AI-capable server market, fueled by the surging demand for such servers – a trend that is only starting to gain momentum. Even with a notable decrease in free cash flow, the company still upholds strong profitability.
