RIVN - Arm Holdings IPO Is Too Hot

2023-09-14 16:45:58 ET

Summary

• Arm Holdings plc had a successful IPO, raising over $5 billion for SoftBank and pricing at the top end of the range.
• The IPO was the largest since Rivian Automotive raised $12 billion, indicating an ominous sign for initial investors.
• Arm Holdings stock quickly jumped to $60 in initial trading, pushing its valuation to $60 billion and a very stretched 20x sales.

The IPO market has been shut for a while, yet Arm Holdings plc ( ARM ) came out with a hot public offering today. The semiconductor stock priced at the high end of the range and jumped in initial trading. My investment thesis is ultra Bearish on the stock, though realizing some hot IPOs can run to extreme valuations.

IPO Details

Arm Holdings sold 95.5 million shares at $51.00 per share to raise over $4.9 billion for selling shareholder SoftBank Group ( SFTBY ). The company priced at the top end of a suggested range between $47 to $51.

The selling shareholder has granted underwriters an additional 7.0 million shares to cover over-allotments. With the stock trading above the offering price, Arm Holdings will sell a total of 102.5 million shares to raise $5.2 billion for SoftBank.

The IPO is the largest since Rivian Automotive ( RIVN ) raised $12 billion back in late 2021 - in an ominous sign for initial investors.

The company will has over 1x billion shares outstanding. The biggest question for shareholders is how SoftBank handles the 90% ownership of the company, though no indications exist that the company has any intent to sell additional shares.

A lot of companies involved in designing chips invested $735 million in the deal with the following involved: Taiwan Semiconductor Manufacturing Company Limited ( TSM ), Intel ( INTC ), Advanced Micro Devices ( AMD ), Nvidia ( NVDA ), Alphabet’s Google ( GOOG ), Apple ( AAPL ) and Samsung Electronics Co., Ltd. ( OTCPK:SSNLF ). These large investors reduces the float to only $4 billion worth of stock, or closer to 88 million shares truly available to the public.

The stock quickly jumped to $60 in initial trading pushing the valuation all the way up to $60 billion. The small public float can cause the stock to squeeze higher until one of these big shareholders ultimately unload shares following the end of any IPO lockups.

Far Too Hot

Arm Holdings has traded up to $60 out of the gate, but the stock is far too hot here. The company is a leader in CPUs and licenses high-performance, low-cost, energy-efficient products to the leading semiconductor companies in the world with a large focus on the smartphone market.

The problem is that FY23 revenues were down to $2.7 billion. Arm is highly profitable with a 25% operating margin generating $524 million in income from operations last FY, but the stock trades at over 100x earnings.

Arm generated the majority of revenues from license and royalty agreements. For FY23, the external customer revenues were $2.0 billion, down 9% YoY.

The other revenues come from related parties in China. The company has an equity investment in Arm China.

The big question is how investors want to value the stock. In total, Arm Holdings has $2.7 billion in revenues with just $2.0 billion from external customers.

As discussed above, the stock valuation is already up at $60 billion due to some excitement over AI chips, yet Arm Holdings isn't producing any growth right now, unlike new shareholder Nvidia.

The IPO reminds us a lot of Rivian that topped $150 for a valuation far in excess of $100 billion. The EV manufacturer raised nearly $12 billion in their hot IPO, but the stock now trades down just above $20 with a valuation closer to only $20 billion. Rivian even just reported a quarter where sales surged over 200% in a sign of how living up to lofty expectations following a hot IPO is nearly impossible.

Arm Holdings hasn't surged to the same degree at this point, but the stock valuation is insane at over 20x total sales and 30x sales to external customers. The business appears a lot more related to Qualcomm ( QCOM ) focused on smartphone chips with hopes of entering the AI chip race trading at 3x forward sales, than a Nvidia trading at over 14x forward sales targets.

Takeaway

The key investor takeaway is that any hot IPO can rally to unfathomed heights, but the stocks typically end up back at normal valuation multiples, with Rivian being a prime recent example. Arm Holdings already trades at P/S multiples that exceeds Nvidia, and investors should see this as a major warning sign the stock price is far too lofty here. Anyone lucky enough to receive shares in the IPO shouldn't overstay their welcome.

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