Financial market research and analysis

ARM Holdings missed earnings estimate by a significant 10.68% in Q2. Its sales increased by £1m to £228.500m in Q2, yet fell short of the average expectation of £234.875m. Net income dropped from £101.200m to £83.700m, but has been 8.7% higher compared to the same quarter of last year.

Although it has been a challenging quarter for ARM Holdings, looking at the Q3 estimates, the conditions may have been better in Q3. Analysts expect in average 10% improvement in Q3 earnings from £0.055 to £0.061 on the back of higher sales, £241.250m, which would generate a net income of an estimated £109.615m and could partially offset £17.5m decline over the last quarter.

A major downside risk is the slowdown in emerging markets, China in particular, and its potential negative impact on computer, cell phone and tablet demand. In this respect, we can cite Apple, one of ARM’s leading clients, which saw its sales decline from a record $74.599b in Q1 to $49.605b in Q3 this year. But this is still 32.5% higher compared to the same quarter a year ago. The emerging markets are certainly far from the level of saturation that could harm the appetite for technology. Moreover, ARM’s focus on intellectual property, capex-light business model and debt-free balance sheet should be a good buffer for market related shocks. With a significant rise of 30% in operating profit on the quarter and 50% compared to Q2 last year, and a PEG ratio of 1.56, ARM continues offering growth at reasonable price at around £900-1000p.

Looking back at year-to-date stock price, the broad based sell-off in the equity market sent ARM shares from its April pick at 1232p down to 811.50p in August. The share price is now testing 972p level, the critical Fibonacci 38.2% retracement on 2015 range. A break above this level will signal that the correction phase is over. Hence, a potential positive reversal in trend should hide an interesting upside potential.

The current average target price is 1188.96p with a breakdown of broker ratings as follows: Buy/Hold/Sell = 20/7/3.