Tempus investment column; The Times, February 2007

There was a time when investors could not get enough of ARM — but that was back around the turn of the millenium, when hopes for ARM semi-conductor designs was more imagined than real. In the past three of four years, a period that has seen the company prove that demand for “ARM-architecture” silicon chips is both real and far-reaching, supporters of the investment story have been few and far between.

The share price chart, reproduced here, tells the story. While the market has forged forward, ARM stock has hovered. It has had better spells and weaker periods, but there is little in the way of any overall progression.

There are some logical explanations for the lacklustre share price performance. ARM was shown to be susceptible to swings in demand for chips — although it is hard to fathom why any such company could be expected to be immune from the vagaries of notorious silicon chips cycles.

The decison to buy Artisan, an American company that supplies computer chip development tools, also raised eyebrows. Did this mean that ARM was worried that demand for its core products was running out of steam? These doubts were more legitimate, but yesterday’s results show that ARM was right to acquire. It broadened the base of operating expertise and reduced its susceptibility to chip-cycle swings.

The 31 per cent increase in dollar revenues from what ARM calls the “physical IP division” suggests that the acquisitive strategy is delivering hard cash rewards, too.

The chief reason that ARM shares have trod water comes down to ratings. ARM is, and always was, well respected by investors. It is just that the admiration was allowed to run out of control. Share price-to-earnings multiples attained heroic proportions. At the height of the dot-com boom in 1999 and 2000, the p/e ratio on ARM shares hit 1,000. Even in the more sedate conditions prevailing in the past three years, ARM stock traded on an average historic earnings multiple of 40. Investors might have acted to control this rating by marking the share lower, but instead they allowed the stock to tread water, giving the earnings times to catch up with the market price of shares. In the process, the p/e multiple has developed much more sound foundations.

ARM shares now trade on a p/e rating of 25. By most standards, this remains an indication that the shares are expensive, but such is ARM’s position in the supply of chips — especially to mobile phones — that the rating is justified. Growth opportunities abound.

Yesterday’s 7 per cent jump in the stock price suggests that investors may be prepared to start feeding a sustained share price advance. The company’s net cash position, and its willingness to spend on share buybacks and dividends, adds comfort. Buy.

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