This cutting-edge tech company is seeing double-digit growth for this year. The median analyst price target is $52.
ARM Holdings plc (ARMH)
From Canaccord Genuity Research
We attended meetings with CEO Simon Segars and other senior management team members as well as with processor and GPU teams from many of ARM Holdings’ (ARMH) key mobile licensees at MWC (Mobile World Congress) in Barcelona.
Across the end markets of mobile, networking, IoT/MCUs (Internet of Things/Microcontroller), as well as automotive and server long-term, we believe ARM has strong long-term royalty growth potential, and the company’s influence within the ecosystems continues to increase. While we believe long-term investors should seek out quality companies with recurring revenue and expanding market share, including ARM, that could be first to recover as the market correction ends, the semiconductor macro remains uncertain. And with higher ARMv8 penetration figures hitting Y/Y compares starting in Q3/16, royalty growth will likely slow until networking/IoT (and to a lesser extent automotive/server) push Y/Y growth higher starting 2H/17.
That said, at only22x our 2017 normalized earnings/ADS estimate, we believe the stock reflects the upcoming growth headwinds, and many investors underestimate the long-term royalty growth potential in networking, automotive and IoT markets.
ARMv8 penetration could hit 90% exiting 2016 versus 60% Y/Y. Increased vertical integration in Samsung’s mid-tier and Huawei’s overall portfolio should help compensate for Mali share losses with Qualcomm regaining share at Samsung.
We believe increased use of 4- and 8-core ARMv8 designs featuring Mali graphics at Huawei, Spreadtrum, and in Samsung’s mid-tier SKUs could make our growth estimates conservative, absent the global macro deteriorating further. While we have modeled smartphone unit growth <5% in 2016, we believe ARM’s 15% smartphone royalty growth CAGR through 2020 is achievable through Mali/multi-core share gains and full penetration of ARMv8 that could hit near 90% exiting 2016.
We are increasingly confident 45% networking share (15% today versus 10% last year) is realistic and anticipate accelerating shifts from ASICs and MIPS/PowerPC chips to both ARM and Intel CPUs. While NFV (network functions virtualization) boxes from both Nokia and Ericsson featuring Intel CPUs were prominently displayed at MWC, we believe 5G deployments will begin in earnest only in 2019, and latency sensitive applications will require distributed infrastructure suitable to ARM partner silicon.
While R&D hiring (and unfavorable FX) pushed operating expense estimates for 1H/16 above our prior expectation, management at MWC indicated expense growth should moderate and investment levels exiting 2016 should be in line with (and not higher than) the plan set forth at the analyst day in September. Y/Y operating leverage should return by Q4/16 and sustain going forward.
BUY, with a price target of $55.
Matthew D. Ramsay, Canaccord Genuity Research, www.canaccordgenuity.com, 617-371-3711, February 28, 2016