ARM precariously balanced on its valuation

It's time to take stock for ARM, the British chip architecture design company. Despite a solid fourth quarter, the stock is down 8% in pre-market trading on the Nasdaq. The reason: a colossal valuation and a much more cautious outlook for the coming quarter.

ARM is at the heart of all the architectures that power Apple devices and Qualcomm's Snapdragon chips, which are ubiquitous in smartphones. Added to this is a more recent focus on CSS platforms and network architectures for data centers. The business model is based on the sale of licenses for these architectures, but also on royalties generated by devices incorporating their technologies, a key indicator of their market footprint.

A two-speed publication

Morgan Stanley sums up the results well: "Higher net income, thanks to solid royalties, reflects slightly higher-than-expected interest in ARM," but "licensing was below expectations." In short, royalties are becoming increasingly important to ARM's momentum, which stabilizes growth over time but makes the company more sensitive to consumer cycles, particularly in smartphones.

And that's where the problem lies. According to Counterpoint, tougher trade policies could dampen consumer spending and weigh on smartphone sales. However, it is precisely the high-end models that use ARM's latest technologies. If demand shifts towards the entry-level segment, the impact could be immediate.

Like Samsung and Qualcomm, ARM prefers not to provide annual forecasts. However, projections for the first quarter of fiscal year 2026 were not reassuring: expected earnings per share of between 30 and 38 cents, compared with 42 cents anticipated, and revenue of $1 billion, compared with $1.1 billion expected. "Why are our forecasts slightly lower? It's really a matter of licensing," said CEO René Haas. This caution may be hiding the absence of a major contract, possibly related to the Qualcomm case.

Growth still on track

Is this a real red flag? Not necessarily. Despite several problems on the horizon in the short term. The bulk of the decline seems to stem mainly from excessive valuation rather than a business in disarray. As a reminder, the stock is currently trading at a PE ratio of 141 times earnings. However, analysts agree that AI and royalties should more than offset short-term weaknesses.

Joe Quatrochi (Wells Fargo) sums it up as follows: "We remain positive on ARM as it has the means to beat expectations thanks to the rise of AI, the ramp-up of v9/CSS with higher royalty rates, and a slight increase in its market share in processors." Morgan Stanley echoes this sentiment: "ARM should see steady growth throughout the year, driven by a broad range of catalysts."