ARM Holdings plc’s Results: A Value Play?

ARM Holdings plc (LON:ARM) is a tasty opportunity to invest in a sound business, writes Alessandro Pasetti.

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.

ARM HoldingsGrowth is usually the main driver of value for tech companies, but for ARM Holdings (LSE: ARM) (NASDAQ: ARMH.US), growth is just one part of the story — and that’s not the most appealing right now.

In fact, ARM stock becomes a truly compelling investment proposition once the British chip designer’s appeal as a takeover target is being considered. At this point in time, shareholder-friendly activity shouldn’t be ruled out, either. Both elements signal that ARM is a resounding buy at this level, in my view.

Q2 Results

Second-quarter results released on Tuesday were better than expected. ARM stock was up 4.1% at 9.10am, and is greatly outperforming the market (0.6%).

ARM’s Q2 revenues were up 17% to $309m — although top-line growth in British pounds was 9%. That’s a respectable performance. The operating margin came in at 48.9%, i.e. some 30 basis points higher than in Q2 2013. Earnings per share were 11% higher. Guidance for the year has been confirmed. 

As expected, currency swings had an impact on ARM’s performance, yet ARM may surprise on the upside to the end of 2014 if, as I expect, the $ strengthens.

Growth in licensing (“licensing revenue in US$ up 42% year-on-year”) was offset by lower figures for royalties, which were a tad disappointing, (“royalty revenue in US$ up 2% year-on-year), although the company pointed out that “market data indicates improving semiconductor industry conditions, leading to the expectation of an acceleration in royalty revenue growth in H2 2014.”

Risks

a) As demand for tablets and smartphones sputters, it’s an uphill struggle out there for ARM and the likes.

b) Intel may become a real threat, which suggests the next few weeks of trading won’t be a stroll for ARM shareholders.

c) A strong British pound also puts pressure on ARM’s revenue and earnings, for about all of ARM revenue are booked in $ dollars, while roughly half of its cost base is in British pounds. A 5% move up or down in the $/£ exchange rate may impact earnings per share by about 8%, one way or another.

Alternatives

That said, ARM could still surprise the market on Tuesday by taking a page out of Intel’s playbook, stating its intention to undertake shareholder-friendly activity.

Intel reported upbeat figures for the second quarter last week, which partly contributed to a surge in its stock price on 16 July. The big piece of news, however, was the $20 billion increase in its share buyback program. Intel plans to buy back $4 billion of its own shares in the third quarter.

It’s tempting to suggest that ARM should take heed. The difference between ARM stock and Intel stock is that former trades at a 52-week low, while the latter trades at a multi-year high. So, ARM may be able to deliver more value via a stock buyback than Intel if it decided to repurchase up to 10% of its own equity capital. 

A Takeover Of ARM

As I argued in May, a takeover of the ARM is a distinct possibility if weakness in its valuation persists. After all, ARM would be a small bite both for Intel and Oracle, the two most likely suitors. The UK’s largest tech company by market cap has a market value of about £11bn and is net cash. There’s lots to like in it. 

Growth in tech-land sputters, true. Rich valuations point to downside risk, true.

But ARM’s relative valuation signals that: a) ARM stock is still a bargain, based on fundamentals (the business is capex-light, debt-free, and boasts hefty operating margins) and prospects; b) ARM’s intention to get deeper into the enterprise networking market is not properly priced into the stock; c) investors who do not expect strength in the $ dollar against the British pound may be proved wrong.

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.

Alessandro Pasetti has no position in any shares mentioned. The Motley Fool has recommended shares in ARM Holdings.

More on Investing Articles

Investing Articles

Are these the best stocks to buy on the FTSE right now?

With the UK stock market on the way to hitting new highs, this Fool is considering which are the best…

Read more »

Petrochemical engineer working at night with digital tablet inside oil and gas refinery plant
Investing Articles

Can the Centrica dividend keep on growing?

Christopher Ruane considers some positive factors that might see continued growth in the Centrica dividend -- as well as some…

Read more »

Smiling family of four enjoying breakfast at sunrise while camping
Investing Articles

How I’d turn my £12,000 of savings into passive income of £1,275 a month

This Fool is considering a strategy that he believes can help him achieve a stable passive income stream with a…

Read more »

Person holding magnifying glass over important document, reading the small print
Investing Articles

2 top FTSE 250 investment trusts trading at attractive discounts!

This pair of discounted FTSE 250 trusts appear to be on sale right now. Here's why I'd scoop up their…

Read more »

Smiling young man sitting in cafe and checking messages, with his laptop in front of him.
Investing Articles

3 things that could push the Lloyds share price to 60p and beyond

The Lloyds share price has broken through 50p. Next step 60p? And then what? Here are some thoughts on what…

Read more »

Young female business analyst looking at a graph chart while working from home
Investing Articles

£1,000 in Rolls-Royce shares a year ago would be worth this much now

Rolls-Royce shares have posted one of the best stock market gains of the past 12 months. But what might the…

Read more »

Investing Articles

Are HSBC shares a FTSE bargain? Here’s what the charts say!

There are plenty of dirt-cheap FTSE 100 banking stocks for investors to choose from today. Our writer Royston Wild believes…

Read more »

Three signposts pointing in different directions, with 'Buy' 'Sell' and 'Hold' on
Investing Articles

Just released: Share Advisor’s latest ‘Hold’ recommendation [PREMIUM PICKS]

In our Share Advisor newsletter service, we provide buy, sell, and hold guidance for our universe of recommendations.

Read more »