Arm IPO, valuation won't live up to the hype: Portfolio manager

Chipmaker Arm is seeking a valuation of $52 billion ahead of its IPO launch this month, the largest offering for the IPO market this year. Arm is currently owned by the SoftBank Group (SFTBY, 9984.T).

Aptus Capital Advisors Portfolio Manager David Wagner to discuss expectations for the IPO market ahead of Arm's launch and where the company will fit into the tightening tech landscape amid AI trends.

"You're going to have to pay basically an arm and leg for valuation coming in here — the thing's going to be traded at 89 times forward earnings, 26 times sale," Wagner says. "Everyone [will] pigeonhole Nvidia as probably the closest competitor, and they trade at about 22 times sales and 32 times earnings so much less than Arm."

Video Transcript

ALEXANDRA CANAL: Investors are eyeing a return of the IPO market, thanks to companies like Instacart and Arm Holdings. The chip giant is looking for a $52 billion valuation when it goes public later this month, making it the largest IPO of the year.

Joining us now is David Wagner, Aptus Capital Advisors portfolio manager. David, thanks so much for joining us. When we think about Arm, what is this signal about the return to capital markets, especially after the IPO drought that we've seen the past year and a half or so?

DAVID WAGNER: Now, thanks for having me back on, Alexandra. I really do think it means a lot. I mean, this IPO is one of the largest that we've seen in quite some time. Though, I do see, I think, there's probably a little more negative asymmetry risk to the IPO market coming off of Arm. Because actually, I don't think that it's going to live up to all the hype.

I mean, right now, you're going to have to pay basically an arm and a leg for valuation coming in here. I mean, the thing's going to be trading at 89 times forward earnings, 26 times sales. And to make that a comparison, it's probably the closest competitors are going to be Cadence and Synopsys. But I think everyone's going to pigeonhole.

Nvidia is probably the closest competitor, and they trade about 22 times sales and about 32 times earnings. So much less than Arm. But at least for Nvidia, you actually have a long runway for growth with the AI chips through GPUs.

But if you look at Arm itself, for what they're providing, I think what they're providing to their end markets, which tend to be more on the Internet of things, so think the phones and just different laptops, it tends to be the end part of their business cycle. And that's why they're shipping off more towards a subscription-based provider structure from a business model standpoint.

So you're paying a lot of money for this stock, yet you're getting substantially less growth relative to a lot of peers. So I think once push comes to shove, I don't think there's going to be as much hype around this IPO as what was originally expected a few months ago.

ALEXANDRA CANAL: So David, you got some questions there, it sounds like, about the valuation. But what does it tell us more broadly just about the IPO environment right now? If we do see a successful initial public offering here from Arm, are we going to see a little bit more activity before the end of the year when it comes to publicly traded companies?

DAVID WAGNER: Yeah, I would say that there's going to be a positive correlation instead of an inverse correlation. But that's why I think that I don't have a full believership in the IPO market going forward because I think there's going to be a lot of negative sentiment coming off of the Arm and possible Instacart IPO itself. A lot of companies just aren't going to want to go public in this type of environment right now.

ALEXANDRA CANAL: And related to that, if we do see an uptick in IPOs down the line, what does that say about M&A? Could we see more M&A down the line as well?

DAVID WAGNER: I think we're going to be seeing more of that right now. But I think-- there's still a lot of capital out there. I mean, just look what SoftBank sold part of their Arm holdings for or actually paid for not too long ago. They're paying $64 billion.

Now, I'm not saying that SoftBank tends to be the value buyer out there in the market because it does seem anecdotally that they tend to overspend for stuff, but it's showing me that there's still a lot of excess capital, a lot of excess liquidity out there for companies trying to put capital to work, whether it's on the IPO side or at least on the M&A side right now.

Because what a lot of these companies have, especially on the tech and the growth side, well you've seen this year relative to last year is their valuations substantially expand. And when push comes to shove in the M&A market, your valuation, your PE, your price-to-sales, if you issue equity, in a way, that's some type of currency out there that they're getting more bang for their buck than where they were maybe a year ago.