What do the similarities of ARM Holdings plc (LON: ARM) and Apple Inc. (NASDAQ: AAPL) tell us?
There are some striking similarities between ARM Holdings (LSE: ARM) (NASDAQ: ARMH.US) and Apple (NASDAQ: AAPL.US).
Both companies owe their success to consumers' appetite for the latest, coolest electronic gizmo -- which, for the past few years, has meant internet-connected smart devices. ARM's angle is its stranglehold on the low-powered chips that makes such things work, Apple's is its clever design and marketing that creates products customers yearn for.
Both firms have seen rapid growth. In the three years to September 2012, Apple's sales rose 53% p.a. ARM's sales have grown 24% p.a. over the past three years.
Both companies have a relatively high proportion of fixed costs, so margins have gone up alongside sales. Apple's gross margin rose from 39% in 2010 to 44% last year. ARM's operating margin doubled from 18% in 2009 to 36% in 2012.
As a result they've thrown off large amounts of cash while, as growth stocks, investors have no great expectations for dividends. That's created surplus cash, though Apple's $145bn cash pile dwarfs ARM's £500m.
There are some parallels in the firms' management. Apple tragically lost its visionary leader Steve Jobs. His deputy, Tim Cook, was seen as a safe pair of hands but has since been criticised for a slow-down in produce innovation and a couple of marketing stumbles.
ARM's boss, Warren East, is stepping down in two months, thankfully not through ill-health. He's identified with creating ARM as it is today and his decision to pursue low-powered chips was transformational, if not "visionary". Mr East is being replaced by his deputy.
There's one big difference. Apple has demonstrated the stock market's law of gravity. Its shares tumbled from $700 to $400 when the company's growth tailed off.
Smartphones and tablets are still powering fast growth at ARM, but logic suggests that when that generation of products reaches maturity, the company will face tougher competition in new product areas. Intel could be ARM's Samsung.
ARM's shareholders may enjoy lots more upside, despite its hefty rating of 54 times expected earnings. But the lesson from Apple is that share prices can overshoot when investors imagine super rates of growth can last forever.
With Apple trading at just 11 times projected earnings, investors have possibly overshot in the opposite direction. Astute investors who took profits early might be tempted to take a second bite.
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> Both Tony and The Motley Fool own shares in Apple but no other company mentioned in this article.