NVIDIA’s Potential Arm Acquisition To Be Tumultuous Yet Increase Competition For x86

Aug 22, 2020
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Reports of NVIDIA Corporation (NASDAQ:NVDA) expressing its interest to acquire British chip design house Arm Ltd. have drawn mixed reactions from industry watchers and members of the public. NVIDIA, which is making a dent in the datacenter and artificial intelligence markets through its highly-competitive products, does not have business synergy with Arm, which is known for designing low power architectures for processors and graphics processing units.

Naturally, this raises questions about NVIDIA's motives for acquiring Arm and leads to several problems that the company might face down the road if it goes forward with the deal.

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NVIDIA's Arm Acquisition Will Fundamentally Rewire Company's Operating Model

Taking a bird's eye view of the entire affair, it's clear that the way in which NVIDIA and Arm generate revenues is structurally different. The former earns its keep by selling hardware products that it has designed itself to consumers and to enterprises. The latter creates reference designs and final products that are licensed out to companies for a price. So while NVIDIA limits the use of its designs to its products only, Arm sells these designs to licensees.

This naturally makes NVIDIA's margins lesser than Arm's since the GPU-maker is also responsible for footing the cost of manufacturing; with Arm's customers taking care of these costs themselves. Additionally, while both companies target the enterprise, datacenter and automotive markets, only Arm is responsible for enabling the creation of products that power low-end notebooks, smartphones, tablets and wearables among others.

Combining the two companies would lead to NVIDIA having to fundamentally recreate the way it operates. If it buys Arm, then NVIDIA will have the capability to drive the future of the mobile computing and connectivity markets at a time when fifth-generation cellular networks are rolling out. Through this, the company will ensure that its decisions end up affecting the interests of a vast array of big and small tech companies spread all over the world.

Should the deal go through, NVIDIA's income statements will resemble those of Qualcomm, who sells both physical products and earns licensing revenues from its technologies present on these products. Image: QUALCOMM Incorporated
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS for the three and nine months ending in June 2020.

NVIDA To Face Multiple Hurdles and Difficult Decisions Before and After It Acquires Arm

Naturally, such an affair has both negative and positive aspects. In this case, unless NVIDIA C.E.O. Mr. Jensen Huang has revolutionary plans on his mind, the former outweigh the latter. Acquiring Arm would first and foremost put NVIDIA not only in the center of tensing trade relations between the United States and China, but it will also make the deal subject of extensive regulatory scrutiny.

Authorities in the U.K. will take note of an important company trying to make its way across the Atlantic, and those in China will also be worried about further sanctions that could cut off crucial access to Arm's IP - IP which is used not only by companies such as MediaTek for its smartphone processors but also in supercomputers.

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Moving forward from regulatory concerns, the fact that Arm and NVIDIA are different operationally will not bode well for the post-acquisition cultural integration of the pair. Given the unconventional nature of the deal, employees at Arm are likely to resent working for a company whose products and business are different than theirs. This, in turn, could lead to turnover that will. in turn, affect the new entity's ability to operate efficiently after a period of major change.

Generating capital will prove to be another wrinkle that NVIDIA will have to solve if it's to acquire Arm. At the end of its second fiscal quarter in July, the company had roughly $3 billion in cash, which dropped by $12 billion during the quarter. With Arm being valued at anywhere between $50 billion to $70 billion and NVIDIA's total liabilities and equity being $25 billion, the company will have to consider a combination of options that include cash and equity swaps. The final choice of funding will be determined by Softbank – Arm's current parent – who is reportedly looking for options to fund opertions.

If it relies heavily on debt, then NVIDIA will have to ensure that it earns the maximum from Arm's business - a move that is unlikely to make Arm customers such as Apple, Intel, AMD and others happy.

NVIDIA's C.E.O. Mr. Jensen Huang has been at the helm of affairs since 1993 when he co-founded the company.

Acquiring the British Design House Will Increase NVIDIA's Revenue Stream 

The benefits to NVIDIA from the acquisition are where the greatest potential for industry disruption post-acquisition lies. By buying Arm, NVIDIA will transition from a company that simply provides components for high-performance computing to a company that also provides an entire platform for these applications. Following the deal, should NVIDIA decide to bundle its products with Arm's solutions, then users of the latter's licenses will be forced to either pay more to NVIDIA or to switch to alternatives such as RISC-V developed by the University of California in Berkley.

NVIDIA will also add another revenue stream to its balance sheets - one which is not dependant on the cyclic nature of GPU revenues. This revenue stream will span across entire industries that range from smartphones to the Internet of Things and medical applications – and should NVIDIA decide to keep Arm intact post-acquisition, then the company will effectively have a finger in all of these pies.

Gaining access to a CPU license when Arm is starting to give x86-based platforms a run for their money would provide NVIDIA with an opportunity to pair its CUDA platform with Arm CPUs. This in turn will provide those interested in such products with an excellent option that uses a strong compute platform with an IP that is only expected to increase its performance with advances in semiconductor packaging such as chiplets.

Such a move would require guaranteed support from customers to allow the post-acquisition NVIDIA to absorb the costs of integrating CUDA with Arm. However, if successful, then NVIDIA will have effectively permeated the Arm platform with its products, and as a result, vastly diversified both its revenue and target market.

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