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Kalkine IPO Report

Should You Subscribe to the IPO of ARM Holdings?

Sep 08, 2023

The Offer

Company Overview

ARM is engaged in the productions of CPUs, which are utilised by semiconductor companies and OEMs to develop their products. The company architects, develops and licenses high-performance CPUs that are made to be cost-effective and energy-saving. ARM CPUs are utilised in operating systems and applications for smartphones and other electronic devices such as tablets and computers. The company’s products are also used in embedded operating systems in devices such as smartwatches, drones, and other industrial products.

Key Highlights

Primary Offering: 95,500,000 (or 102,500,000 if the underwriters exercise in full their option to purchase additional ADSs from the selling shareholder), with each ADS representing one ordinary share. As per the USD 51 per ADS, the total amount in the offer is USD 5,227,500,000.

Use of proceeds: The company will not be receiving any proceeds from the sale of ADSs (including any proceeds received from the sale of additional ADSs to underwriters. All net proceeds from the ADSs sale will go to the selling shareholder.

Dividend policy:

ARM does not have any current plans to pay dividends on its ordinary shares or ADSs. Any decision regarding the declaration and payment of future dividends would be taken by the company’s Board of Directors. This decision would depend on the company’s operational results, cash requirements, contractual restrictions, and overall financial condition.

Business model:

The company’s adaptable business approach offers a gateway to CPU products for a diverse array of potential clientele and target markets. ARM grants licenses for its products to semiconductor firms, OEMs, and various other organizations, allowing them to craft their own chips utilizing ARM’s technology. In exchange for these licenses, the customers pay a fee, granting them the right to use the company’s designs and produce Arm-based chips. Following the design and production of these chips using ARM’s products, the company receives a per-unit royalty for nearly all chips that are shipped. This royalty typically corresponds to a percentage of the chip's Average Selling Price (ASP) or a fixed fee per unit and tends to increase as more ARM products are integrated into the chip. The company’s business model also allows consumers to access ARM products through an agreement tailored to their specific business requirements.

Market Analysis:

Mobile Application Processor: Projections indicate that the mobile applications processor market is poised for growth, with an expected increase from approximately USD 29.9 billion in the calendar year ending December 31, 2022, to approximately USD 36.0 billion by the calendar year ending December 31, 2025, representing a Compound Annual Growth Rate (CAGR) of 6.4% during this period. ARM has consistently maintained a dominant market share of over 99% in the mobile applications processor market, attributed to its processors being integral to all major mobile operating systems, including Android.

Other Mobile Chips: Projections suggest that the other mobile chips market will exhibit a relatively stable performance, remaining at approximately USD 17.6 billion in the calendar year ending December 31, 2022, and maintaining a similar level of around USD 17.5 billion by the calendar year ending December 31, 2025. This trajectory represents a marginal Compound Annual Growth Rate (CAGR) of (0.2)% over the specified period. The market share of Arm-based chips within the other mobile chips market varies depending on the type of chip, with higher representation in chips requiring more software, such as modems and connectivity chips, and comparatively lower presence in chips with reduced software dependencies, like power management units.

Consumer Electronics: ARM anticipates significant growth in the consumer electronics (CE) chip market, projecting an increase from around USD 46.9 billion in the calendar year ending December 31, 2022, to approximately USD 53.2 billion by the calendar year ending December 31, 2025. This growth reflects a Compound Annual Growth Rate (CAGR) of 4.3% during the specified period. Notably, ARM's market share in consumer electronics is on the rise, driven by the adoption of Arm-based chips in emerging product categories such as smart speakers, XR (Extended Reality) headsets, and laptops. These products leverage Arm's technology to achieve high-performance capabilities while maintaining energy efficiency. Furthermore, the use of Arm products extends to laptops running Microsoft Windows and Google Chrome operating systems. The growth in the adoption of smart wearables is expected to persist, with IDC forecasting a CAGR of 4.7% in the number of wearables between 2022 and 2027. Similarly, the augmented reality and virtual reality hardware market is at a turning point, with IDC projecting a robust CAGR of 32.0% in hardware shipments between 2022 and 2027. These trends further bolster ARM's position in the CE chip market.

Industrial IoT and Embedded: According to IDC's projections, the global number of IoT connected devices is set to increase significantly, reaching around 49.1 billion by 2026, up from approximately 37.6 billion in 2022. In alignment with this trend, ARM anticipates substantial growth in the industrial IoT and embedded chip market. The market is expected to expand from approximately USD 41.5 billion in the calendar year ending December 31, 2022, to USD 50.5 billion in the calendar year ending December 31, 2025, reflecting a robust Compound Annual Growth Rate (CAGR) of 6.7% during this period. ARM's market share in the IoT and embedded chip sector has exhibited notable growth, rising from 58.4% as of December 31, 2020, to an impressive 64.5% as of December 31, 2022. This reflects ARM's increasing influence and leadership in providing solutions for this evolving and expanding market.

Networking Equipment: ARM notes that total internet traffic volume is expected to surge from 335 exabytes per month in 2022 to 580 exabytes per month in 2025, marking a robust 20% CAGR. This growth necessitates increased deployment of networking equipment. The networking equipment chip market is projected to expand from approximately USD 17.2 billion in the calendar year ending December 31, 2022, to around USD 18.2 billion in the calendar year ending December 31, 2025, reflecting a 1.8% CAGR. ARM's market share in networking equipment has grown from 18.8% (December 31, 2020) to 25.5% (December 31, 2022). ARM is poised to further bolster its market share as 5G networks deploy, accommodating flexible software and workload deployment across both large and small cells.

Financial Highlights (Expressed in USD millions):

Topline analysis for Q1FY23: In the fiscal quarters ending June 30, 2023, and June 30, 2022, total revenue amounted to USD 675 million and USD 692 million, respectively. License and other revenue for the same periods were USD 275 million and USD 258 million, respectively. The increase in license and other revenues can be attributed mainly to new licensing agreements and renewals of existing licenses, as customers sought access to the latest versions of our technology IPs. Royalty revenue totalled approximately USD 400 million and approximately USD 434 million in the fiscal quarters ending June 30, 2023, and June 30, 2022, respectively. The decline in royalty revenue was primarily due to the broader macroeconomic slowdown and reduced shipments aimed at normalizing inventory levels.

Cash flow performance and position: In the fiscal quarter ending June 30, 2023, net cash used in operating activities decreased to USD 114 million from the previous year's USD 231 million, driven by a reduction in net income adjusted for non-cash items and changes in working capital. Lower accounts receivable and reduced employee bonus payments played a role in this shift. Conversely, cash used in investing activities increased to USD 177 million from USD -36 million, mainly due to higher short-term investment purchases and lower proceeds from maturing investments. Financing activities saw a USD 4 million increase in cash used, attributed to finance lease payments offset by reduced intangible asset obligations. The company ended the quarter with USD 1,248 million in cash and cash equivalents, up from USD 1,004 million in March 2023. 

Key Management Highlights

Risk Associated (High)

Investment in the IPO of “ARM” is exposed to a variety of risks such as:

  • Dependence on trends in the semiconductor and electronics industries: ARM's fortunes are closely intertwined with the semiconductor and electronics sectors, characterized by volatility and fierce competition. The industry's trend of declining Average Selling Prices (ASPs), coupled with ARM's royalty rate structure tied to sales volume, makes it vulnerable to market fluctuations. Any slowdown in these industries could harm demand for ARM's products and services, especially royalties earned from chip sales. Licensing revenue is contingent on system companies adopting new product generations, which, in turn, depends on demand for their Integrated Circuits (ICs).
  • Acceptance by semiconductor and systems companies and the product’s compatibility with the design and manufacturing processes of customers: ARM's success relies on gaining traction with semiconductor and system companies, particularly those producing chips for high-volume electronic devices across various sectors. However, the competitive landscape presents challenges, with uncertain adoption of ARM's products and services. Global system companies play a pivotal role in shaping the evolution of chips and systems. Risks associated with manufacturing next-gen process technologies, such as production delays and defects, could affect ARM's products' demand and adoption. Efficient manufacturing by foundries is essential for ARM's success.
  • Intense competition and potential loss of market share to competitors: ARM operates in a highly competitive market characterized by rapid technological advancements, evolving user demands, shifting industry standards, and continuous product innovations. Competitors, including established players like the x86 architecture and open-source alternatives like RISC-V, pose a threat. Some of ARM's customers are embracing RISC-V, adding to the competition. Many competitors have more significant technical, financial, and marketing resources and boast larger application software libraries. ARM's ability to maintain market share and compete effectively in this environment remains uncertain.

Conclusion

ARM's prospects are promising, with growth opportunities in key markets such as mobile applications processors, consumer electronics, and IoT. The company's business model of licensing and royalties provides a steady revenue stream. However, it faces risks tied to the semiconductor industry's volatility, competition, and potential adoption challenges by customers. ARM's financial performance and increasing market share in various sectors are positive indicators. Overall, ARM's investment outlook is neutral, with potential for growth but also significant market-related uncertainties.

Hence, given the financial performance of the company for the period ending June 30, 2023, market analysis, business model, and associated risks “ARM Holdings PLC (ARM)” IPO seems “Neutral" at the IPO price.


Disclaimer-

Kalkine Equities LLC provides general information about companies and their securities. The information contained in the reports, including any recommendations regarding the value of or transactions in any securities, does not take into account any of your investment objectives, financial situation or needs. Kalkine Equities LLC is not registered as an investment adviser in the U.S. with either the federal or state government. Before you make a decision about whether to invest in any securities, you should take into account your own objectives, financial situation and needs and seek independent financial advice. All information in our reports represents our views as at the date of publication and may change without notice.

Kalkine Media LLC, an affiliate of Kalkine Equities LLC, may have received, or be entitled to receive, financial consideration in connection with providing information about certain entity(s) covered on its website.