ARC International has been downgraded from buy to long-term attractive by Robertson Stephens because...
ARC International has been downgraded from buy to long-term attractive by Robertson Stephens because in the broker's opinion it isn't worthy of a valuation as high as fellow chip designer ARM.
Analyst Gary Kelly prefers the more established companies because of the higher degree of visibility in earnings. ARC realises revenues up front for the majority of licences signed. Other companies, including ARM, defer significant licence revenues throughout the year.
Kelly says that this approach helps maintain viability in ARM into 2001 as most of the deferred revenue and order backlogs should predictably unwind. With the macro environment difficult for both companies the increased visibility in ARM is preferable.
ARC's business model is also different. It delivers microprocessor cores to the design teams of OEMs (original equipment manufacturers) and chip customers. Although this gives a larger customer base, ARC charges lower average licence fees.
Kelly says that ARC must scale its customer base much more aggressively than the likes of ARM in order to support the 80% to 90% revenue growth predicted by the management.
ARC offers manufacturers a range of licences from a single "one-use" licence to a corporate licence that allows customers to use ARC designs across their full range of products.
In its recent results, ARC reported fourth-quarter revenues of £3.5m, £0.2m above Robertson Stephens's expectations. Operating expenses came in at £9.4m, £1.4m below expectations and the loss per share was 1.7p, 0.7p better than expected.
In the 1 March Robertson Stephens note, with ARC shares at 159p, Kelly used an estimated enterprise valuation to conclude: "We view it as appropriate that ARC, which is at an earlier stage of development than ARM, should trade at a greater discount to the ARM valuation than the 5% which is currently the case."