As an Intel (INTC 3.94%) shareholder, it has been beyond frustrating to see the company struggle so mightily with the development of competitive mobile processors. There is absolutely no fundamental reason as to why the company should not be able to put out world-class chips that, frankly, could have been unequivocally better on a performance-per-watt basis than anything out in the market today (thanks to its 22nm FinFET process). Intel has dominated much more competitive and technically intensive markets, so doing proper chips for cell phones and tablets shouldn't have been this hard. Nevertheless, this has been the case.
ARM has benefited from Intel's struggles
ARM Holdings (ARMH +0.00%), the world's leading semiconductor IP vendor, has benefited immensely from Intel's struggles. Without competition from Intel and without competition from MIPS, the ARM architecture has established a rather wide and deep moat in the mobile applications processor space. Just about every phone and tablet apps processor bears royalties to ARM. In addition to generating some nice cash for ARM, the entire mobile software ecosystem (Android, iOS, Windows Phone) has grown up around ARM.
Intel, interestingly enough, at least had the good sense to throw its full software might around the Android ecosystem. It has done extensive work making sure that just about every Android application (native or Dalvik) works properly and it has made available a good number of software development tools to help facilitate both ARM and X86 development. This has worked and there are now a number of credible Android devices available in the market packed with Intel silicon – although not in huge numbers today.
But this 40 million tablet campaign is going to hurt
In a bid to really establish itself, Intel is going all-out and aiming to power at least 40 million tablets next year. Depending on whose numbers you use, this works out to about 15%-20% of the entire tablet market – not bad for about a year's worth of work. However, since Intel's product lineup is really just aimed at the high end (but it needs to win in the low end to get this many units), the company is going to offer its partners plenty of assistance with porting over the tablet designs from other vendors as well as any subsidies required to compensate for the high bill of materials costs of its high end platforms.
Intel is going to lose money on this – the company made this perfectly clear. The goal here is to build momentum into 2014 so that by the time the company has the right products for each price point in 2015, it will have a running start and an "in" with the key tablet vendors. It's tough to see why ARM's shares have rallied rather strongly since this announcement, since the 40 million tablets will not sport applications processors that bear royalties to ARM – implying pretty significant market share loss in tablets for ARM.
This will be extended into phones
While Intel pushes hard in tablets during 2014, it is likely that Intel will do something very similar in smartphones during 2015, coincident with the launch of its next generation "Broxton" platform. This, according to Intel, will be a no-holds-barred high-end chip that should offer leadership performance and power, particularly in graphics. Every socket that Intel wins with Broxton (and its predecessors Merrifield and Moorefield slated for launch during 2014) is a socket that ARM loses.
Why does this matter?
Competition and share loss is inevitable, but it is particularly disastrous when the market share leader trades at nearly 100x trailing twelve month earnings. Of course, not all of ARM's success comes from phones and tablets – it is likely to extend nicely into the networking space and continues to see robust growth from its microcontrollers. Also, it's probably not unrealistic to think that ARM will gain some cloud server share (although Intel will make life difficult there).
The bottom line, though, is that high-flying momentum stocks tend to be very reactive to news-flow. If Intel is taking major designs left and right next year in tablets, then the logical conclusion for investors to come to is that Intel will do the exact same thing in phones at some point in the near future. At that point, ARM's multiple compresses significantly and the share price comes back down to earth.
Foolish bottom line
Intel may not see a direct benefit to its income statement until 2015 from these actions, but ARM's growth will certainly be stunted. While 40 million tablets is not much in the scheme of ARM's revenue stream, concerns about ARM's growth going forward as Intel makes its push would be enough to sour sentiment – especially at these levels.
