The FTSE 100’s Hottest Growth Stocks: ARM Holdings plc

ARM HoldingsToday I am outlining why ARM Holdings (LSE: ARM) (NASDAQ: ARMH.US) could be considered a terrific stock for growth hunters.

Double-digit growth on the horizon

For growth investors ARM Holdings has proved to be an undoubted superstar for many years now, its position as a leading component builder in the smartphone and tablet PC markets helping to propel earnings at a compound annual growth rate of 39.9% since 2009.

And current forecasts indicate that the firm is in line to enjoy further electric earnings growth through to the end of next year. City analysts expect the business to clock up earnings growth in the region of 11% in 2014, to 23.2p per share, and a further 23% advance is predicted for the following 12-month period to 28.4p.

… but is the high premium justified?

Even though these growth rates are impressive, it is obvious that growth rates look set to decelerate sharply from those of previous years, at least during the medium term. ARM Holdings has suffered heavily from the effect of maturing demand for top-end phones and fla
t PCs in key Western economies more recently, as well as an environment of declining royalty revenues as shoppers opt instead for cheaper models.

Over the long-term, however, the tech giant could enjoy the fruits of exploding demand from emerging regions once macroeconomic conditions improve in these places. Indeed, industry researcher IDC reported last week that smartphones in Brazil surged 22% during April-June to an all-time high of 13.3 million units, even though wider retail conditions in the country are rapidly deteriorating.

As well, ARM Holdings is also embarking in other high-growth tech sectors including networking and servers to mitigate the weakening of its bread-and-butter markets.

At present share prices ARM Holdings changes hands on a P/E rating of 41.2 times prospective earnings for 2014, clearly nosebleed territory when you consider that the widely-regarded benchmark for decent value stands at 15 or below. Next year’s earnings projections leave 2015’s multiple at a much-improved 33.6 times, although on the face of it this remains expensive.

Of course tech stocks often come attached with sky-high valuations, and the rest of the technology hardware and equipment sector carries a forward average of 26.4 times. And many would consider ARM Holding’s top-tier status to most of the world’s major phone and tablet manufacturers — not to mention stellar record of earnings growth — as deserving of this premium.

But for others the company’s stratospheric paper valuation could leave it vulnerable to a sharp share price correction should key markets show signs of further slowdown and earnings projections slide.

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Royston Wild has no position in any shares mentioned. The Motley Fool UK has recommended shares in ARM Holdings. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.