Thursday, February 22, 2024

Arm’s post-earnings pop leaves stock trading at over 100% premium to Nvidia

The logo of semiconductor design company Arm on a chip.

Jakub Porzycki | Nuphoto | Getty Images

Exactly two years ago, from Nvidia The attempted purchase of chip designer Arm from SoftBank has ended due to “significant regulatory challenges.”

Masayoshi Son, the billionaire founder of SoftBank, has never been so lucky.

That deal would have involved selling Arm for $40 billion, just $8 billion more than SoftBank paid in 2016. Instead, Arm went public last year, and the company is worth now more than $116 billion after the stock soared 48% on Thursday.

SoftBank still owns about 90% of the shares outstanding, meaning its stake in Arm grew by more than $34 billion in one day.

But the rally is somewhat confusing when you consider how the market values ​​Arm. Wall Street may start to get a clearer idea of ​​how much investors are willing to pay next month, when the 180-day lock-up period expires and SoftBank has its first opportunity to sell.

Chipmakers Nvidia and AMD have been the darlings of Wall Street of late due to their central position in the artificial intelligence boom. Nvidia makes the bulk of the processors used for cutting-edge AI models, like those powering ChatGPT, while major tech companies have also indicated interest in purchasing competitive chips from AMD as they arrive on the market. the market.

But Arm is now valued at a much higher earnings multiple than either of those companies. As of Thursday’s close, investors are valuing Arm at nearly 90 times forward earnings. This compares to a forward price-to-earnings ratio of 33 for Nvidia and 46 for AMD, both of which have significantly higher multiples than other major chip stocks like Intel And Qualcomm.

By reporting better-than-expected quarterly results on Wednesday, Arm gave investors new data suggesting its growth rate could persist through the next fiscal year. Arm said it was entering new markets thanks to demand for AI and that its core market, smartphone technology, was recovering from a crisis.

“Gain market shares”

Arm has a different business model than Nvidia and AMD in that it is largely a technology licensing company. Arm said its royalty business, in which billions of chips made each quarter generate a small fee to use the company’s architecture, was surprisingly strong. Indeed, the company can charge twice as much for its latest instruction set, called Arm v9, which accounts for 15% of the company’s royalties.

“Arm continues to gain market share in the growing cloud server and automotive markets, driving new streams of royalty growth,” the company said in its letter to investors.

Arm’s revenue guidance for the current quarter indicates annual growth of 38% at the mid-range, marking a significant acceleration from recent periods. But for Nvidia, analysts expect growth above 200% for the January quarter and almost at that level for the following period.

AMD has seen much slower growth and is expected to remain in the single digits until the second half, when expansion is expected to accelerate.

Lisa Su, President and CEO of AMD, speaks about the AMD EPYC processor during a keynote speech at CES 2019 in Las Vegas, Nevada, the United States, January 9, 2019.

Steve Marcus | Reuters

Although Arm has developed AI chips, its technology is oriented around the central processor, or CPU. AI chips are often graphics processors, or GPUs, that use a different approach to running multiple calculations at the same time.

Still, Arm says it will benefit from AI chips. CEO René Haas mentioned Nvidia’s Grace Hopper 200 chip, which will be available in finished systems in April, during a call with analysts. This chip combines one of Nvidia’s GPUs – an H100 – with a CPU that uses Arm’s Neoverse design.

“The drivers and direction of travel for Arm are as they were stated at the time of its IPO, but the timing and slope are faster and steeper because of AI.” wrote Citi analyst Andrew Gardiner in a note Thursday. “Given that we are in the very early stages of AI adoption, we expect Arm’s sales trends to remain robust in FY25/26.”

The company said its expected license sales backlog increased 42% on an annual basis to $2.4 billion.

For Son and SoftBank, the fortuitous scuttling of the Nvidia-Arm deal means an opportunity for the Japanese conglomerate to benefit directly from the growth of AI and the premium Wall Street places on chip companies at the center of the action .

SoftBank said Thursday that its Vision Fund investment group posted a $4 billion gain last quarter, following a brutal run of losses from bad bets like WeWork. SoftBank said in the December quarter it recorded an investment gain of $5.5 billion from Arm’s IPO.

If the stock can hold at these levels or even continue to rise, more gains are in store.

“Arm is the largest contributor to the global evolution of AI,” SoftBank Chief Financial Officer Yoshimitsu Goto said during an earnings presentation Thursday. He even went so far as to call SoftBank’s investment pool an “AI-centric portfolio.”

—Arjun Kharpal of CNBC contributed to this report.

Correction: René Haas is CEO of Arm. An earlier version misspelled his name.

WATCH: CNBC’s full interview with Arm CEO René Haas

Watch CNBC's full interview with Arm Holdings CEO René Haas

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