There's no shortage of buzz around artificial intelligence (AI) stocks these days.
It's easy to see why. Stocks like Nvidia and Super Micro Computer skyrocketed since the launch of ChatGPT in late November, and plenty of other tech stocks have been winners as well.
One of the more intriguing opportunities in AI to emerge is Arm Holdings (ARM 4.11%). The stock went public and soared on its fiscal third-quarter earnings report in February as it became clear that the Arm was benefiting from the AI boom.
CEO Rene Haas said, "The AI wave drove licensing growth as these new devices require Arm's performant and power-efficient compute platform."
Arm stock already jumped 84% this year, but could it make you a millionaire? To answer that question, let's dig into what separates Arm from the rest of the semiconductor sector and how the company can be a winner in the AI era.
Image source: Getty Images.
Arm's unique business model
Most semiconductor stocks make money by designing chips and then outsourcing the production, or they are fully integrated, handling both design and manufacturing, as well as distribution.
Arm employs a different model. The company licenses its chip designs to other chip companies that use them in more comprehensive components. For instance, Nvidia uses Arm architecture for some of its popular AI chips, including the Grace Hopper 200 Superchip.
Arm has two revenue streams. It collects revenue from licensing its products and then collects revenue from royalties every time a product with one of its designs is sold. In Q2, Arm's customers shipped 7.7 billion Arm-based chips.
That business model has proven to be a lucrative one, and it ensures that Arm gets upfront revenue on its licensing deals and a longer-term revenue stream from royalties.
That's why Arm stock jumped in its Q3 earnings report even though it didn't report the blowout revenue growth we've seen from AI stocks like Nvidia and Super Micro Computer. However, Arm's licensing revenue rose 18% in the quarter, foreshadowing an increase in royalties in the coming quarters.
Why Arm is an AI winner
Arm's chips are known for being power-efficient. The company started off as a battery maker, and its technology has long focused on conserving power. That's made Arm-based chips a popular choice for smartphones, and Arm's architecture is now in 99% of premium smartphones.
That strength also makes Arm a popular choice for data center AI chips where power efficiency is also at a premium as AI models demand a lot of computing power. Arm works closely with Nvidia as well, and its architecture is included in Nvidia's latest release, the Blackwell GPU, which should be a significant revenue stream for Arm.
Can Arm make you a millionaire?
Arm appears to have several years of strong growth ahead of it as the tailwinds from the AI boom seem to just be starting. However, there is one key risk investors should be aware of.
Arm currently trades at a price-to-sales ratio of close to 45, making it one of the most expensive tech stocks on the market, and the Arm shares are likely to fall if the company misses expectations.
I don't think the valuation is a reason to avoid Arm stock, but investors should temper their growth expectations. The stock could make you a millionaire, but you'd need to start off with $250,000 or more, considering the current valuation and its market cap of $130 billion.
Overall, Arm's technological prowess in power efficiency, its close relationship with Nvidia, and the demands of AI models make Arm an AI stock worth owning. Even at a premium valuation, the stock is likely to deliver solid returns to buyers today, though its price limits its upside potential.
