Initial public offerings (IPOs) can sometimes be alluring to investors because of the potential to buy a stock in its early growth stages, before it may take off in value. However, it doesn't always end up that way. If a stock is priced too high out of the gate, for instance, that can set it up for a decline, even if it has strong growth prospects.
A couple of popular stocks that recently went public are Arm Holdings (ARM 5.07%) and Instacart (CART -3.19%). Neither has been soaring out of the gate, but both possess intriguing growth opportunities. Which one of these stocks is the better buy today?
The case for Arm
What makes Arm appealing is the growth in the semiconductor market. As everything gets connected to the cloud, the demand for next-gen technology and chips rises. And Arm is a leading company in chip design. Companies pay for the license to use its designs, which, in turn, leads to stable and growing revenue for Arm's business. Its total share of the semiconductor design market is nearly 50%.
That kind of dominance gives the company a wide moat, or competitive advantage, making it the type of investment a value investor such as Warren Buffett might covet. Plus, with promising growth prospects in artificial intelligence (AI), the company looks to be on the path for significant growth in the years ahead.
Another positive about the business is that it's already profitable. Unlike with other IPOs, where investors may have to wait for a company to turn a profit, Arm's already there. In its latest fiscal year, which ended on March 31, the company's net income totaled $524 million and was 20% of revenue ($2.7 billion).
The case for Instacart
Food delivery took off in popularity during the pandemic's height, and that's an opportunity of high growth. One company at the center of that is Instacart (also known as Maplebear), which has expanded from delivering just groceries to other goods as well. And the company is continuing to seek out new opportunities as well. One example is in helping with senior care. This month, Instacart announced that it has partnered with Alignment Healthcare, which will offer Medicare Advantage plans that will include grocery delivery benefits to seniors.
Instacart has already been demonstrating some solid growth, with revenue of nearly $1.5 billion through the first six months of this year, up 31% year over year. Arm, in comparison, experienced a revenue decline in its latest fiscal year. Instacart is a much faster-growing business that's actively exploring more growth opportunities, which can set it up for even more growth in the future. The company is profitable as well, reporting net income of $242 million over its past two quarters.
An added reason to buy Instacart is that it's also a cheap buy. It's currently trading at just over 2 times revenue and 17 times its estimated future profits. Arm is a much more expensive buy, as investors would need to be paying a whopping 21 times revenue and 56 times future earnings to own a piece of the business.
Arm is the better buy
These new IPOs have been underwhelming, and both carry risks with them. Arm has a strong moat, but it comes at a hefty valuation. And it may take a while before it starts to generate strong revenue growth due to AI. Instacart's business is growing fast and its valuation is cheap, but it's also vulnerable to competition.
It's a close call, but I'd go with Arm, simply because a strong moat is difficult to achieve. While Arm isn't generating high growth numbers right now, there's the potential for that in the future, given the opportunities in AI.
