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Top Stocks 2013: ARM Holdings

 December 26, 2012 10:13 AM

by Timothy Lutts, editor Cabot Stock of the Month

ARM Holdings (ARMH) doesn't make anything. Yet it has annual sales of $872 million, thanks to licensing of its intellectual property.

And thanks to a business model that's low on physical investment, the company's after-tax profit margins have averaged a plump 36% in the past year! As a result, ARMH has a market cap of nearly $17 billion! Yet I think it will get much larger!

ARM's business, which is well known to many investors, is designing semiconductors. It has expertise in chips for computers and digital TVs, but the big market, and the fastest-growing market, is the one for mobile phones, where ARM is dominant.

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It's also big in tablets, a category that is growing like wildfire. Odds are extremely good that the company will be able to continue billing itself as "the world's leading semiconductor intellectual property (IP) supplier," in part because it's difficult for a customer to shift once it's committed to working with ARM.

For its part, ARM boasts that its designs have the best combination of reliability, low power usage and compactness. And as mobile devices continue to proliferate, taking market share away from desktop and laptop computers, the advantages of ARM's designs in keeping weight down and battery life up are a powerful draw.

Now, the success of a business does not guarantee the success of a stock, but I have great expectations for ARMH because of its chart.

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It climbed strongly from the market's 2009 bottom through 2010 and into the summer of 2011, where it entered a long trading range between $22 and $30, as it performed slightly worse than the market, on average.

It stayed in that range for 22 long months! And then came this year's third quarter earnings report, where management revealed that business was booming.

Investors quickly stampeded on board, spiking the stock up and out of that trading range and kicking off a new uptrend that I believe has far to go. The past three weeks have seen the stock pause between $36 and $37 and I think that's a decent entry point.

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