Atheros Just Out-Designs Everybody

There are plenty of ways to build a competitive advantage, and networking expert Atheros Communications (Nasdaq: ATHR) is taking a somewhat unusual route.

The Motley Fool Hidden Gems recommendation and all-around five-star CAPS performer just pumped out one heckuva healthy report, growing sales 34% and earnings by about 54% over the year-ago period. Atheros rides a couple of waves at the same time. It all starts with a generally stronger PC market, where Atheros customers such as Dell (Nasdaq: DELL) and Hewlett-Packard (NYSE: HPQ) fight tooth and nail over market share, armed with ever-cheaper components. Then there's the next-generation 802.11n WiFi rollout, promising higher network speeds over a longer range. And finally, there's an Atheros chip or two in every Intel-powered (Nasdaq: INTC) Apple (Nasdaq: AAPL) computer -- and they sold like hotcakes in the recent back-to-school season.

Nice quarter, but what's the big deal?
Here's the unusual thing about Atheros, though: The company isn't doing it with leading-edge manufacturing or micromanaged in-house production lines. Rather, it's all about elegant and efficient chip design that lets Atheros use almost-outdated factories to achieve what others do on top-of-the-line processes, at a fraction of the cost.

It's not a new strategy. When Atheros was a tiny, private company way back in 2000, company co-founder and Stanford University president John Hennessy told us, "The Company's core competency lies in our technical expertise. ... We have engineered a truly revolutionary technology based on re-architecting how a radio works to dramatically improve the performance and significantly reduce the cost and power."

Compare that mission statement to this week's conference call, when CEO Craig Barratt mentioned that the newest low-power wireless chip is so cost-competitive simply because it's made using the less expensive techniques of yesteryear. "This chip is not done in 65 nanometer, it's not done in 90 nanometer, it's actually done in 130 nanometer. The die size of the [new product] is only about 15% bigger than a competitor's 90 nanometer chip and the power consumption is a factor of three lower, so this sounds the opposite of what you'd expect." It sounds like the original vision is still very much in play here.

Run the numbers -- backwards!
At a time when AMD (NYSE: AMD) and Intel place life-or-death importance on reaching the next generation of advanced manufacturing before the other guy does, Atheros can send its designs to contract manufacturers like United Microelectronics or Taiwan Semiconductor (NYSE: TSM) with confidence that they'll set up their trusty old production lines quickly and get good yields right away. That means short lead times for new orders and lower markups than the foundries would charge for using their high-end processes.

So you can put in some extra effort in the design phase and cut down on the need for super-advanced lithographic processes and ultra-short laser wavelengths. Atheros shows that this can be an overtly stated business strategy that gives the company a real competitive advantage.

So why isn't everyone else doing it, too? Well, Atheros has a real moat around this business model. A strong patent portfolio helps keep copycats away, and the "good enough designs on the best process" method does have advantages of its own. It's a more capital-intensive strategy, and you can always go back and tighten up your chip designs, revision by revision, until the final iteration equals or exceeds the "best design" in efficiency and elegance.

But by then, Atheros has moved on to the next chip on the previous cutting-edge process. And so it goes. Grab a free 30-day trial of Hidden Gems to see what Tom Gardner's diamond miners see in Atheros that the rest of the market hasn't figured out yet.

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