It may sound too good to be true. But, it isn’t. I’ve found a stock that’s up more than 600% in the past two years — and it still has room to run.

Best of all, a recent pullback has made shares a lot cheaper. But this may just be a temporary occurrence before the stock rallies once again.

What’s caused this company to see such explosive growth in recent years?

The answer lies in a tiny piece of technology — a revolutionary semiconductor chip that’s found its way into more than 95% of the world’s mobile phones and 25% of all electronic devices.

This company’s chip is such a mainstay because it performs well with very low power, making it ideal for battery-operated devices like smartphones or iPads.

According to research firm IDC, smartphone sales are expected to increase by as much as 50% in 2011. Additionally, tablet sales are expected to outpace PC sales, making semiconductor designer Arm Holdings (Nasdaq: ARMH) well-positioned to experience explosive revenue and profit growth in the coming years.

But what makes this company really stand out is its innovative business model. It’s the world’s leading vendor of semiconductor intellectual property.

This means the company designs and licenses its intellectual property rather than manufacturing or selling chips. This intellectual property is licensed to a worldwide network of leading IT firms, including Apple (Nasdaq: AAPL) and Microsoft (Nasdaq: MSFT), all of whom pay a licensing and royalty fee for every chip or wafer it produces.

Arm’s stock has skyrocketed based on this ingenious business model, increasing more than 600% in just two years.

 
In April 2009, Arm traded near $4. Currently, it’s trading around $28.70. But I believe the stock still has plenty of upside potential.

Technically, Arm is in a Major uptrend and shows no sign of retreating, as it moves toward bullishly breaking out of an ascending triangle. This pattern is formed by the Major uptrend and nearby resistance at $31.81, the stock’s multi-year high, hit in mid-February 2011. If Arm can surpass this resistance point, no resistance would be in sight and the stock could race upward.

The measuring principle for a triangle — calculated by adding the height of the triangle to the breakout level — projects a minimum price target of $40.22 ($31.81 – $23.50 = $8.31. $31.81 + 8.31 = $40.22).

At current levels, this price target represents the potential for returns of more than 40%.

Arm also sports a strong fundamental growth outlook.

Due to increasing smartphone and tablet sales, analysts project full-year 2011 revenue will increase 16.9%, to $734 million, from $628.1 million in the previous year. By 2012, analysts expect additional 10.4% growth, with revenue reaching $810.1 million.

The earnings outlook is equally strong. Due to the company’s technology occupying a large part of the smartphone market and an increasing segment of the tablet market, analysts expect full-year 2011 earnings to increase 13.6% to $0.50 per share, from $0.44 in 2010. By 2012, analysts project earnings will rise a further 32% to $0.66.

Although the stock is not cheap from a valuation standpoint, the company has a strong cash position, with $451.5 million of cash on hand and no long-term debt. This financial flexibility gives Arm the ability to continue researching and developing new chip technologies for licensing.

Action to Take –> Arm is well-positioned to benefit from increasing smartphone and tablet sales. The company is set apart by licensing, rather than manufacturing, chip solutions. At its current price, the stock has pulled back about 11% from its mid-February high, providing an attractive entry point. A realistic long-term price target for the stock is $40.22, as shown by my calculations above, representing upwards growth potential of almost 40%.

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