Shares in semiconductor intellectual property (IP) supplier ARM Holdings (LSE: ARM) (NASDAQ: ARMH.US) rose with the general market over the last few days.
That’s comforting for those still holding on after the firm’s remarkable performance in recent years, which saw the share price rise from around 100p ten years ago to today’s 869p.
Is the firm overvalued?
ARM Holdings dominates its industry. The firm’s technology enjoys a percentage market share of the still-growing smart phone and tablet market in the 90s. Mobile phones, and the recent rise of smartphones, drove the company’s financial performance over the last few years, according to the firm’s CEO, and consistent double-digit revenue and profit growth, with fat margins, kept the valuation high.
Yet concern over the valuation persists, and every time the market lurches down, as recently, we hold our breaths, wondering whether the time has come for ARM Holdings’ valuation to compress. Seeing the shares rise again brings some relief.
We can pick up the shares today on a forward P/E rating of around 30 for 2015, which seems to indicate that investors retain their faith. City analysts predict 22% growth in earnings that year, which seems modest for such a rating, at first glance.
However, if we think in terms of averaging earnings’ growth over several years, the current valuation makes sense:
|
Year to December |
2009 |
2010 |
2011 |
2012 |
2013 |
|
Adjusted earnings per share |
5.45p |
9.34p |
12.72p |
14.96p |
20.88p |
|
Earnings’ growth |
(4%) |
71% |
36% |
18% |
40% |
Last month’s three-quarter figures show earnings up 11%. Averaging the growth rate over six years throws up a rate of just under 29, which compares well to the current P/E rating.
Outlook
ARM Holdings’ chief executive reckons the third quarter saw accelerating royalty revenue growth and strong demand for the firm’s processors and physical Intellectual Property. He thinks that performance reflects the intent of existing and new customers to base more of their future products on ARM technology.
There is demand for ARM technology in smart mobile devices, consumer electronics and embedded computing chips for the Internet of Things, all of which bodes well for growth in ARM’s medium- and long-term royalty revenues, he says.
ARM Holdings’ growth story is far from over in my view, and that’s why I’m still holding some of the shares. Firms such as ARM Holdings, with strong trading franchises, can really drive wealth creation if we buy the shares at sensible prices.