What to Expect When You’re Expecting

Lamplighter gets on a soapbox about investor expectations often. A company's share price boils down to some dark alchemy of investors' expectations. It only makes sense to invest when your expectations different from that stew. Expectations matter — yours and theirs — whoever "they" are.

But what, exactly, does it mean that share price is an expression of expectation?

Enter ACM Research. It runs a cleaning business. It sells cleaning products to customers who value cleanliness more than anyone else in the world: semiconductor manufacturers. Semi fabs do a lot of cleaning. Lamplighter talked about why that's a great business here.

ACMR's share price, at that time, was $25.19. Today it's $30.40.

OK, so what does its price tell us about investors' expectations?

Michael Mauboussin helps us break down what goes into price-implied expectations. We know most of the things we need about ACMR to figure out what investors expect. We know what the risk-free return is. We know what extra return investors need to invest in stocks. We know the extra bit of sensitivity of ACMR to the overall market. We know its financials, how much it pays in taxes and its starting point. The only piece we can't observe directly is what investors expect about the company's growth.

It's not quite napkin math — at least not for me — but since we know everything else, we can figure out what growth makes that all work.

Investors expect ACM Research to grow 9%.

For how long?

The exercise spits out growth "forever." We're long term investors at Lamplighter, but "forever" is a long time, even for us. From a practical standpoint, the growth that matters most to value today comes in the next decade or two.

Is 9% right?

In its latest report, ACMR grew sales 43%. That's more than 9%. Since 2018 it's grown 48% per year. That's also more than 9%. It increased gross profit 50% per year over that time. Earnings grew even faster than revenue.

Its results are all more than 9%. But they're backwards looking. Share price tells us about expectations — you know, the future.

Should investors expect ACMR's growth rate to drop?

A handful of clever research desks say the Chinese wafer fabrication equipment market — this is the industry ACMR lives in — will shrink this year. This is partly a result of a banner 2024. The chip market is also notoriously choppy. It hasn’t liked to move in a straight line.

Will ACMR shrink along with the industry?

ACMR's execs say it'll grow revenue 15% this year. These same research desks also expect ACMR to grow. Management's consistently beaten its own expectations. It's over-delivered in five out of the last five years.

Management's told investors to expect gross margins in the neighborhood of 45%. It increased its gross margin guidance from 43% this year. ACMR also beat gross margin guidance in each of the last five years. In the past two years, it posted gross margins of 50%.

OK, maybe ACMR hits above guidance this year, but expectations are about a company's entire future, not just this year. What about that?

All this <waves hand vaguely> will carry on. Technological expansion is a pretty solid theme. Tech needs more and better chips. If you want to get into specifics, lots of customers have expansion plans. New plants will need new cleaning gear. ACMR has won more and more market share. Winning new customers, doing more for those customers, and an expanding market sets the scene for continued growth opportunities.

Low expectations

To recap: Investors expect ACM Research to grow 9%. Up until now, ACMR has grown a lot faster than that. It's said it will grow faster than 9% based on what it sees today. Farther out, all the trends that lifted it so far look likely to stick around — at least as long as it matters to make ACMR shares a good investment. Low expectations offer investors a low hurdle for an attractive investment.

Disclaimer: None of this is investment advice. It's meant to illustrate ways LCM thinks about investing. Things that LCM decides are good investments for LCM and its clients are based on many criteria, not all of which are covered here. Some or all of LCM's ideas may not be suitable for other investors. LCM does not recommend investing either long or short any position mentioned. LCM may own positions in some of the companies mentioned. Some of its ideas will lose money — investing entails risk. See full disclaimer here.