There is a regular repeating cycle in business that starts with the introduction of a new invention and ends when that invention finally becomes universally accepted. In the last couple of decades we have seen two such major cycles – first in personal computers, and then with the internet.
At the beginning of the cycle, there are hundreds of companies pressed shoulder to shoulder, trying to get through that narrow doorway into the consumer’s heart, jockeying for position as the dominant player in that new space.
By the end of the cycle, of the hundreds of companies that started the death-match, only a handful survive, divvying up the entire market amongst themselves.
We are currently entering a third major era of computer innovation – interconnectivity. It’s kind of like the marriage of the first two eras, with computers and the internet joining forces to create an offspring that will ultimately grow more dominant than its parents.
In this third era we can expect to find computer processors everywhere and in everything, all communicating with one another – entire ambiances linked to one another – from homes to offices to automobiles – all sending and receiving electronic signals and instructions to and from one another via computer, tablet, phone and even wristwatch.
In this early stage of the era, it is very difficult to sort through all the companies trying to become the next major players, and to actually pick the winners who will survive in the end. Some that you might think have the advantage may turn out not to. And the giants of the previous era may not be the giants of the next.
Intel (NYSE: INTC) and Advanced Micro Devices (NYSE: AMD), for instance, have already warned investors not to expect very much from the current quarter. The new era of interconnectivity may have already begun taking down the giants of a bygone era.
The Giants are Falling
While the recent holiday shopping season turned out to be pretty good for AMD, helping it post better than expected Q4 results, the company warned investors not to expect as much from the current Q1.
AMD reported a profit of $89 million in Q4 of 2013 equalling 12 cents per share, far better than Q4 of 2012 in which the company posted a loss of $473 million, or 63 cents a share. Q4 sales increased by 38% to $1.59 billion, better than the company’s forecast of $1.53 billion back in October.
The bulk of AMD’s gains came from sales of chips for new video-gaming consoles produced by Sony and Microsoft. Sony sold more than 4.2 million PlayStation 4 consoles, while Microsoft sold more than three million units of Xbox One.
“Combined, Sony and Microsoft reported selling more than seven million units in less than two months,” AMD chief executive Rory Read reported on conference call. “This is more than double the number of prior generation consoles sold in their first quarter of introduction.”
But investors started dumping AMD shares when the company lowered its Q1 forecast on the expectation of slowing gaming console sales. Slowing sales of personal computers had already reduced AMD’s PC chip sales by 13% in Q4, with a further slowdown expected in Q1.
Falling demand in both areas are expected to reduce Q1 revenue by 16% over Q4’s, causing the company’s stock to give back 11% of its value in after hours trading following Tuesday’s report.
Larger computer chip maker Intel isn’t fairing any better. While its Q4 revenues at $13.8 billion were slightly better than the $13.72 billion analysts expected, earnings of $0.51 per share were slightly under the $0.52 expectation.
For fiscal year 2013, all of Intel’s major metrics dropped – revenue, gross margin, net income, and earnings per share declined versus FY 2012. The company now warns that Q1 revenues could come in as low as $12.3 billion, as much as 10.9% less than Q4.
Although the company announced cost saving measures including the reduction of its global workforce by 5% and the stoppage of its Arizona Fab42 facility expansion, investors punished Intel’s stock with a 4.5% decline overnight last Thursday.
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The New Computer Brain
The shift from PCs to more portable computing and communication devices such as smart phones and tablets is well underway, requiring a shift in processor brains to run them. This shift in processors will ultimately cause a shift in the line-up of players who will dominate the computer chip industry.
The smaller devices we carry in our pockets – as well as household appliances from coffee makers to thermostats that you can turn on and adjust via your phone – will require smaller, simpler and more energy efficient processing chip sets to control them.
U.K. based ARM Holdings (NASDAQ: ARMH) has just the right chip technology in its ARM processors, which use the company’s “reduced instruction set computing” (RISC) architecture.
Based on a much simpler technology developed in the 1980’s by Acorn Computers out of Britain, the RISC architecture used in ARM processors requires significantly fewer transistors, less power, and produces less heat – perfect for miniaturization.
Although ARM Holdings does not manufacture its processors, it has licensing agreements with several third party manufacturers who build customized versions of ARM chips for use in their electronic products. Some of the largest licensees using ARM technology include Apple, Nvidia, Qualcomm, Rockchip, Samsung Electronics and Texas Instruments.
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A comparison of these three chip technology giants – ARM Holdings, AMD and Intel – as shown in the graph above clearly shows this shift taking place before our very eyes.
Where ARM lagged behind the others for the first eight years of the new millennium, it has since 2009 catapulted northward, leaving the others in its dust. Where AMD and Intel stock are currently in negative territory over the past 11 years, ARM Holdings is up over 300%.
And it’s no surprise to see when that separation took place – in the depths of the 2008-09 recession. Why? Because consumers had less money to spend, and many still do. The cheapest electronics products sold in greater numbers, with the less expensive ARM chips soaring in demand.
But ARM is still expanding – beyond the computing processing space and into cyber space. Google (NASDAQ: GOOG) announced last month that it is considering using ARM technology in the design of its own internet server processor.
“We are actively engaged in designing the world’s best infrastructure. This includes both hardware design (at all levels) and software design,” Google announced in an email comment to Reuters.
Such a partnership between Google and ARM is expected to take a bite out of Intel’s commanding presence in the server chip market, since Google is one of the world’s largest buyers of server processors.
“Since ARM chips for servers are cheaper, consume less power and require lower cooling compared with Intel chips, they would be very attractive for Google,” Charles Stanley analyst Tom Gidley-Kitchin informed Reuters. ARM chips also offer significant customization that Intel chips do not, which would allow for optimization for different types of tasks.
Other analysts, like Christopher Rolland of FBR Capital Markets, don’t believe ARM will pose much of a threat to Intel’s server market share.
“We believe that ARM based server products will predominantly cater to hyperscale workloads and capture just 10 percent of overall server units by 2018,” Rolland evaluated to Reuters.
Still, that represents 10% of the market the used to belong to Intel and AMD. And since the internet is going to continue pushing its “hyperscale workloads” to further and further limits – through the ever increasing integration of computers, appliances, phones, watches, body monitors, eye glasses, and who knows what else – we can expect ARM processor technology to be leading the way throughout this third era of computer innovation characterised by interconnectivity.
Calxeda, an early pioneer of ARM-based servers, folded operations in the closing weeks of 2013 because, according to a marketing director within the company, it rushed ahead with “tech that wasn’t really ready for [its customers]”.
The closure of Calxeda should not be taken as a sign that these type of machines don’t have a space in the market.
Intel and AMD have had their day, as their dismal 2014 forecasts reveal. ARM processor technology is already standing tall with one foot on its fallen rivals’ chests. If you had to choose among these three processor companies, which would you invest in?