ARM posts sterling revenue growth, but moneymen spank it anyway

UK chip designer ARM Holdings PLC announced its financial results for the fourth quarter of 2013 on Tuesday, and despite solid revenue growth and a positive guidance, the company behind the chips that power the vast majority of the world's smartphones and tablets was spanked by The City's moneymen.

The reason for the immediate drop in ARM's share value – by 6 per cent as we type these words – is that very dominance in smartphones. As sales of high-end smartphones sag, the moneymen reason, ARM's profitability is sure to sag as well.

The City's loss of faith couldn't be due to ARM's 2013 performance. Compared to 2012, revenues were up 15 per cent from £164.2m to £189.1m, pre-tax profit increased 19 per cent from £80.0m to £95.5m, and earnings per share rose from 4.1 pence to 5.3 – a more-than-healthy 30 per cent uptick. In fact, as the company notes, "ARM's full year 2013 processor royalty revenue grew faster than the overall semiconductor industry by 18 percentage points."

There's just no pleasing some folks, y'know? Just ask Apple, which recently exceeded analysts' expectations only to see its stock hammered.

ARM CEO Simon Segars, in a canned statement announcing the numbers, pointed out a couple of milestones his company achieved during the year. "ARM's Partners reported that they had shipped 2.9 billion ARM-based chips, a record number despite slower growth of chips for premium smartphones," he said. "This takes our cumulative shipments since 1993 to more than 50 billion chips, with over 10 billion reported as shipped in 2013 alone."

Ten billion ARM-based chips shipped in one year is indeed great news, seeing as how ARM collects a royalty on each and every one in addition to raking in millions on IP licenses. The moneymen, however, are laser-focused on that damn "slower growth of chips for premium smartphones."

It's not as if ARM is ignoring the challenge of a saturating high-end smartphone market. The company is attacking other markets with vigor, including that buzzword du jour known as the Internet of Things, the burgeoning medical-device market, wearables, low-power ARM-based servers, and the like.

From the ludicrously low-power Cortex-M0+ to the 64-bit Cortex-A57, it's not that ARM doesn't have a broad enough range of products to weather a slowdown in smartphone sales. In a sense, however, ARM is being punished for its own success: since it's the overwhelmingly dominant player in smartphones, as that market starts to slip, a disproportionately large chunk of ARM's revenues slip with it.

Nonetheless, Segars believes that the future royalty landscape looks promising. "ARM saw good progress in Q4 as our latest technology was chosen by major companies in all our target markets, with further licenses signed for our latest ARMv8-A processors, Mali graphics processors and physical IP technology," he said. "These design wins will help to drive ARM's future royalty revenues."

As the company wrote in its outlook for the upcoming quarter, "... we enter 2014 with a strong opening order backlog and a healthy pipeline of licensing opportunities."

Whether those design wins and that healthy pipeline will satisfy The City's voracious moneymen remains to be seen.

Of course there's also the matter of an unexpected decision by a patent consortium, of which ARM is a member, not to license its IP, which meant the company posted a loss in the fourth quarter.

The firm reported a net loss in the quarter of £6.2m ($10.1m), which ARM ascribed to one-off charges, taxes and impairments. The latter included a whopping £59.5m ($98.5m) charge after some expected licensing revenue from Bridge Crossing (a consortium in which ARM itself is a stakeholder) did not materialise. ARM has nevertheless decided to hang onto the patents from rival RISC chip biz MIPS Technologies, saying in its earnings report:

As ARM believes that there is significant long‐term strategic advantage in owning this intellectual property, the Patents were purchased outright in Q1 2014 for $4m (£2.5m).

The firm expects profits to normalise next quarter.

While mobile is the greatest single user of ARM cores, over half of its sales are in different kinds of non-mobile devices such as digital TVs, set top boxes, digital cameras, enterprise and network computing. ARM sees the high end of the smartphone as a slowing market, with the slack being taken up by low-end and mid-range smartphones.

As tablets overtook laptops on sales in 2013, ARM overtook Intel in mobile computing - albeit no thanks to Windows RT - and ARM expects this trend to continue in the future.

With power and cooling being the greatest issues in data centres, the development of server-optimised ARM processors from Applied Micro and AMD's Opeteron 1100 is seen by ARM as a great future opportunity.

Other areas for growth include embedded applications (processors in devices hooked up to the Internet of Things) and the fashionable wearables market. So is 2014 going to be the year the smartwatch finally takes off? ®