What ARM Holdings plc’s Investment Plans Mean For Earnings Growth

Royston Wild looks at why ARM Holdings plc (LON: ARM) is in danger of severe earnings weakness despite huge capex spend.

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

Today I am looking at why I believe ARM Holdings (LSE: ARM) (NASDAQ: ARMH.US) is a risky proposition for stocks selectors.

Huge cash pile facilities product development

Like all tech specialists, ARM Holdings is required to chuck large sums of money into developing the next generation of technologies for the smartphone and tablet computer markets. Recent overtures into the computer networking and servers markets are also swallowing up vast reserves of capital.

Promisingly, a backdrop of surging profits has helped the company to deliver stunning cash growth in recent times, an essential applerequirement to deliver a steady stream of cutting-edge products and maintain its position as a prime supplier to the likes of Apple and Samsung.

Last year the company printed a 32% advance in pre-tax profits — to £364m — a result which pushed net cash generation to £344.5m from £267.3m in 2012. Thanks to this steady performance, the company recruited 441 new staff last year, taking the total to 2,833 and of which 70% were planted into its R&D operations.

ARM Holdings has also been busy on the M&A stage in recent months to supplement in-house development. Indeed, in December the business purchased Geomerics, a specialist in lighting technology in computer games, for £13.4m from medical technology firm ANGLE.

ARM Holdings  commented that “the acquisition expands [our] position at the forefront of the visual computing and graphics industries,” and the company expects Geomerics’ innovative technologies to revolutinise the graphics capabilities of smartphones for mobile gaming, a critical requirement for today’s devices.

Chipbuilder in jeopardy of sizeable price correction

ARM Holdings has printed gargantuan earnings expansion in each of the past four years, and sports a compound annual growth rate of 30.8% for the period. And City analysts expect this momentum to continue through the medium term at least, with growth of 16% and 25% anticipated for 2014 and 2015 respectively.

However, these projections leave the chip specialist changing on heady P/E multiples of 41.5 for this year and 33.2 for 2015, comfortably ahead of a forward average of 27.2 for the entire technology hardware and equipment sector.

Elevated ratings are part and parcel of the world’s tech specialists, big and small, which makes them prime targets for sudden and catastrophic sell-offs. Indeed, this week’s panic selling of such stocks illustrates the high-risk associated with companies trading on such high multiples.

I have long argued that a backdrop of slowing smartphone and tablet PC adoption rates, not to mention the onset of intensifying competition in ARM Holdings’ key markets from the likes of Intel, could put the company’s earnings outlook under intense scrutiny.

Given these problems I believe that the chip designer is in severe danger of further waves of stock price weakness, even in spite of the vast sums of capital the firm is devoting to R&D to drive growth.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Royston does not own shares in ARM Holdings. The Motley Fool owns shares in Apple.

More on Investing Articles

Businessman use electronic pen writing rising colorful graph from 2023 to 2024 year of business planning and stock investment growth concept.
Investing Articles

Buying 8,617 Legal & General shares would give me a stunning income of £1,840 a year

Legal & General shares offer one of the highest dividend yields on the entire FTSE 100. Harvey Jones wants to…

Read more »

Man writing 'now' having crossed out 'later', 'tomorrow' and 'next week'
Investing Articles

£25k to invest? Here’s how I’d try to turn that into a second income of £12,578 a year!

If Harvey Jones had a lump sum to invest today he'd go flat out buying top FTSE 100 second income…

Read more »

Union Jack flag in a castle shaped sandcastle on a beautiful beach in brilliant sunshine
Investing Articles

2 lesser-known dividend stocks to consider this summer

Summer is here and global markets could be heading for a period of subdued trading. But our writer thinks there…

Read more »

pensive bearded business man sitting on chair looking out of the window
Investing Articles

Here’s how I’d aim to build a £50K SIPP into a £250K retirement fund

Our writer outlines the approach he would take to try and increase the value of his SIPP multiple times in…

Read more »

Investing Articles

9.4%+ yields! 3 proven FTSE 100 dividend payers I’d buy for my Stocks and Shares ISA

Our writer highlights a trio of FTSE 100 shares with yields close to 10%. He'd happily pop them into his…

Read more »

Mixed-race female couple enjoying themselves on a walk
Investing Articles

Are Raspberry Pi shares a once-in-a-lifetime chance to get rich?

With Raspberry Pi shares surging after a successful IPO, could this UK tech startup offer a long-term wealth creation opportunity…

Read more »

Newspaper and direction sign with investment options
Investing Articles

Huge gains and 9% yields: why now’s an amazing time to be a stock market investor

The stock market’s generating fantastic returns in 2024. Whether you're looking for gains or income, it’s a great time to…

Read more »

Hand of person putting wood cube block with word VALUE on wooden table
Investing Articles

This steady dividend payer looks like one of the best bargain stocks in the FTSE 100

A yield of 4.7% and a consistent dividend record make this FTSE 100 company look like good value in an…

Read more »