Circular AI Chip Deals: Should Investors Worry About Nvidia?
Source: morningstar.com
A new trend is emerging in the semiconductor world: circular deals. These arrangements involve funds flowing between companies. Should investors be concerned about this practice? Here’s what to consider.
What are Circular Deals?
Circular deals involve two or more parties where funds are exchanged. A key example is Nvidia's partnership with OpenAI. Nvidia may invest up to $100 billion in OpenAI over time.
OpenAI will likely purchase equipment from Nvidia. Nvidia will then reinvest those profits back into OpenAI. Consequently, OpenAI will likely use those funds to buy even more Nvidia gear.
Nvidia and CoreWeave's Web
Nvidia's partnership and investment with CoreWeave is also circular. CoreWeave used Nvidia's GPUs as collateral to fund some debt. Nvidia also owns shares of CoreWeave.
Nvidia struck a deal to use any of CoreWeave’s excess computing capacity through 2032. Nvidia's investments may allow CoreWeave to expand its data center business. This could mean buying even more GPUs from Nvidia.
AMD and OpenAI's Partnership
OpenAI also partnered with Advanced Micro Devices (AMD). OpenAI will receive warrants in AMD’s common shares upon achieving certain milestones. This deal is less circular, but still entangles the two parties.
OpenAI might not use any windfalls in AMD’s stock to buy more of the firm’s GPUs. This differs from a typical arm’s-length supplier relationship.
Investor Concerns
These types of circular deals are raising concerns among investors. The circularity makes it possible for Nvidia to push more GPUs into OpenAI. For example, this could help Nvidia meet a quarterly revenue target.
Nvidia may have some influence on OpenAI’s investments. However, this isn’t necessarily the case today, nor is it anticipated. Short-term moves like these typically end badly for chipmakers.
Short-Term Risks
Short-term risks exist where Nvidia could conceivably push GPUs onto CoreWeave. Nvidia is responsible for any excess capacity at CoreWeave. Therefore, it likely has an incentive to avoid this scenario.
Still, the companies have a tight, integrated partnership. Investors during the dot-com era are wary of vendor financing and circular deals. These types of arrangements were hallmarks of spending at that time.
Dot-Com Echoes
Anyone affected by the dot-com bubble bursting is aware of the risks. Circular deals involve firms passing funds back and forth to artificially inflate a business. Demand for computing hardware is real and booming, so this risk isn’t as apparent today.
At this point, these deals are being monitored, but they aren’t alarming. They are currently viewed as arm’s-length transactions.
Nvidia's Perspective
OpenAI and CoreWeave must invest funds to buy gear from Nvidia. Previously, this was a one-way transaction. Cash flowed to Nvidia, and GPUs went to OpenAI and CoreWeave.
Nvidia now faces the challenge of managing its newfound cash. The company also has a clear view of AI innovation. Nvidia's investments essentially “close the loop” from a one-way deal to a circular one.
Wise Investments?
Nvidia's investment might be wise if OpenAI meets its goals. There is no guarantee that OpenAI must put Nvidia’s investments back into buying AI gear. However, it’s likely that OpenAI will be buying more Nvidia gear anyway.
Investors should view this deal as circular. Nvidia’s investments in CoreWeave have also been fruitful. Despite the potential risks, these deals could pay off handsomely for Nvidia and its partners.