After its results, is Arm stock…

After its results, is Arm stock…
After its results, is Arm stock…

Although shares are down about 20% since peaking at $150 in February, Arm trades at a 105% premium to fair value.

What we thought of Arm’s results

Although the company beat revenue and adjusted earnings per share twice, shares fell 10% in the market after the results were released. This shows how demanding the market will be with Arm. For the next quarter, anything below the upper end of the forecast range will be seen as a failure.

Management has forecast revenue growth of around 20% in 2026 and 2027, in line with Morningstar estimates. This highlights Arm’s quality of execution, with market share gains and price increases through royalty rate hikes.

The cloud computing and automotive sectors were the strong points, while the industrial market was the weakest sector.

The stock is still heavily overvalued in the $100 range, due to the high expectations surrounding it.

Estimation of the fair value of the weapon

With its 1-star rating, we believe Arm’s stock is significantly overvalued relative to our long-term fair value estimate. The increase in our fair value estimate comes from increased licensing revenues and long-term royalty rates. We estimate that royalty rates for v9 could be 3-4%, compared to the blended rate of 1.7% the company reported in its 2022 IPO filing. continues to increase, primarily through adoption in smartphones and data centers, and management expects an increase over the next year. Our fair value estimate represents an EBIT multiple of 42 times for fiscal 2024 and 38 times for fiscal 2025.

Overall, we estimate that Arm’s revenue will experience a compound annual growth rate of 13% over the next ten years. We expect royalty revenues to grow in the mid-single-digits to double-digits, while licensing revenues will grow in the single-digits. Arm’s average royalty rate in 2022 was 1.7%, and we expect it to increase to over 3% in 2030 after the introduction of v9 and future architecture improvements. After our explicit 10-year period, we model double-digit returns on new invested capital and single-digit earnings growth for another 10 years, consistent with modeling a broad-based company.

Assessment of economic room for maneuver

We give Arm a wide moat based on intangible assets and switching costs. Arm is the intellectual property owner and developer of the ARM (Acorn RISC Machine) architecture, which is used in 99% of smartphone processor cores worldwide. The company also has a high market share in other battery-powered devices, such as wearables, tablets and sensors.

In a chip, the instruction set architecture, or ISA, is a set of instructions that serves as an intermediary between the hardware and software, dictating the behavior of the hardware when it receives software instructions. Examples of architectural instructions include 1) arithmetic instructions (addition, subtraction, multiplication), 2) memory instructions, which facilitate the transfer of data between CPU registers and memory, and 3 ) data routing instructions, which define the speed at which data moves between the CPU and registers (temporary storage locations). Software written for a certain architecture will not work directly in a different architecture, leading to switching costs.

© Morningstar, 2024 – The information contained herein is for educational purposes and provided for informational purposes ONLY. It is not intended and should not be considered as an invitation or encouragement to buy or sell the securities mentioned. Any comments are the opinion of the author and should not be considered a personalized recommendation. The information in this document should not be the sole Source for making an investment decision. Be sure to contact a financial advisor or financial professional before making any investment decisions.

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