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In an environment of rising interest rates, rising consumer spending and market uncertainty, Arm Holdings and its parent SoftBank are preparing to file one of the most significant IPOs in recent memory. On August 21, the F-1 was officially filed with the SEC, so investors can now view the company’s prospectus, MD&A (management discussion and analysis), and financials for themselves. Arm is no stranger to making waves in the investment world: In 2020, Nvidia attempted an acquisition deal for the company, but it fell through last year due to intense regulatory scrutiny. While the name may be familiar to technology investors, particularly those involved in the semiconductor space, many may not be familiar with Arm. Who are they, what do they do in semiconductors and why is their IPO such a big deal? The answers can be found here; Let’s dive right in.
What are arm holdings?
Arm is a semiconductor company developing ARM-based processors. “ARM” is an acronym for Advanced RISC Machines. RISC stands for Reduced Instruction Set Computer, a special type of computer architecture designed to simplify the way computers receive the code that makes them run. The company primarily focuses on CPUs (central processing units), but has also expanded into GPUs (graphics processing units). ARM-based processors are unique in that they function as an integrated component of the computer design itself and are not discrete relative to the other hardware. This is called “system-on-a-chip” and is one of the many novel aspects of ARM processors.
Now, if all this information is a bit difficult to digest (pun intended), don’t worry because for investment purposes, you can learn everything you need to know about this company without needing a computer science degree. Suffice it to say that Arm’s products are popular with chipmakers because they are innovative, efficient, and cost-effective. The average person may never have heard of Arm, but if they’ve ever used a modern mobile device, they’ve benefited directly from an Arm processor. They’re found in devices from big names like Qualcomm, Samsung, and Apple, but Arm also makes devices designed to perform specialized functions outside of a typical consumer product.
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Key Arm Holdings stats
- 3-Year Earnings CAGR: 16.2%
- Average gross margin: 95%
- Current ratio: 2.59 (current assets/current liabilities)
According to the recently filed S-1, Arm’s financials appear to be in healthy shape overall. On a CAGR basis, earnings are up 16.2% since 2021; That’s not particularly stunning, but considering how saturated many of the company’s active markets are, it’s a respectable number. COGS (Cost of Goods Sold) and Operating Expenses all appear reasonable and expected relative to the Company’s revenues.
We’ll explain why in the next section, but Arm’s average gross margin over the past three years has been close to 95%, which is exceptionally high even for a tech company. Of course, at the operational level, this margin is eaten up by R&D and headcount expenses; Again, this is expected for a technology company, especially one in semiconductor design. Arm’s record isn’t anything special either. The current ratio is a whopping 2.59, and the company doesn’t have a really pressing line item in its total debt. Goodwill is high, accounting for 23% of total assets, but again this is not unreasonable given the value of the company’s designs.
Looking ahead, Arm’s 2023 year numbers appear to be the most stable and reproducible. The market environment in which these initially took place remains and there are fewer special/extraordinary items for investors to consider in their forecasts (e.g. equity investment returns, which will impact strongly in both 2021 and 2022 affect the yield number). Overall, Arm’s numbers reflect what most investors probably already understand: It’s a “story” stock, meaning you’re playing out the narrative around this company rather than basing your investment on a rigorous quantitative argument. The company boasts a healthy balance sheet, dominant market share, innovative technology, and a host of other positives that ensure the story surrounding the name is unequivocally strong.
How does Arm Holdings make money?
An important difference between Arm and other semiconductor companies is that Arm does not manufacture its products itself. Instead, Arm makes money by licensing its designs to other companies, who then take it upon themselves to build those processors and implement them in their own products.
This is critical to analyzing Arm for two reasons. First, this business model means its margins and drivers will be significantly different compared to its semiconductor peers. Second, such a licensing approach also partly explains why the Nvidia deal of 2020 fell through. Given how many major consumer products are powered by Arm processors, a combination of its CPUs with Nvidia GPUs would have given the combined company enormous oligopic power (or so they say). For investors wanting to develop a comparable analysis, you might consider adding the typical semiconductor manufacturers familiar to most investors: Intel, AMD, Nvidia and TSMC, among many others. However, anyone who has studied the field understands that while all four of these names exist in the semiconductor industry, they have increasingly different business models.
For example, TSMC and Intel have their own foundries, which means that they are the companies that manufacture chips in addition to designing chips. AMD and Nvidia are popular names on the battlefield, but neither of them manufacture their designs (you may have heard the term fabless associated with these companies, which is what the term alludes to in this industry). Nvidia also focuses primarily on GPUs, or GPUs, while others like ARM and Intel focus primarily on CPUs (although they both branch out to GPUs), so the customers and design focuses of these companies aren’t exactly comparable. Consider adding Cadence and Synopsys to your list of semiconductor competitions. Again, these names aren’t a perfect combination as they both focus on software for chip development, but their inclusion should result in a more even, comparable mix.
Who are the anchor investors?
First, let’s define an anchor investor. An anchor investor is a strategic backer of an IPO who buys an interest before the IPO begins. The amount purchased by the anchor investor is typically a large stake (anywhere between 10% and 50% of the outstanding shares), and these investors are often key players in the industry in which the IPO is taking place. So essentially, the anchor investor provides two types of support: financial and psychological. The valuation of an IPO is supported by the shares purchased and the IPO decision itself is validated by the involvement of the anchor investor.
The arm deal’s anchor investors are a who’s who of leading technology companies. The following list contains the previous reports of Arm IPO anchor investors:
- alphabet
- Samsung
- Apple
- Microsoft
- TSMC
- intel
- Nvidia
Note that the majority of these investors are unconfirmed at the time of writing. However, that will change as the IPO date approaches. However, it is clear that both Arm customers and Arm competitors want to attend this event.
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When is Arm’s IPO date?
Arm’s IPO was announced in early September, but a more specific date should be available soon after Arm’s F-1 is filed. However, according to the filing, the date is “as soon as reasonably practicable after the effective date of this registration statement.”
How to buy into Arm’s IPO
Getting started with Arm’s IPO will be just as easy as buying shares in companies that are already public. As long as you have a brokerage account with access to the market where the company is going to list, you can usually buy shares as soon as that market opens on the day of the IPO. In the case of Arm, the Cambridge, England-based company’s American Depositary Shares (or ADS) will be listed on Nasdaq and the stock ticker will likely be ARM. However, some brokerage firms may prohibit newer or less liquid investors from buying IPOs, but this varies from company to company. The execution of the trade itself is also a factor to consider. The incredible visibility of this IPO means the average retail investor may not pay the price at which they place their buy orders. So keep that in mind with any forecasted upside.
Final Thoughts
The final thought about getting into Arm’s IPO (or any other popular IPO, for that matter) is a simple caution. In recent history, IPOs have generated positive returns on the company’s first day of trading. But the anchor investors, underwriters, and other heavily involved institutions are typically tied to a lock-up period, meaning they won’t trade their shares until a few weeks or months after the IPO. That means the average retail investor will likely trade against everyone from other retail investors to funds that specifically target such events to try to lock in that return immediately after the IPO launches. So keep in mind that there are many active market participants with enough capital and clout to influence trading around ARM stocks. This event will be at the forefront of financial news cycles, but don’t let FOMO be the reason you’re left in limbo after the first day of trading. As with any security, do your own due diligence before investing.
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