Nvidia sweeps on Arm Holdings – What to make of it?

Microprocessor technology – the design and manufacture of computer chips – is now central to national security policy and the great game of geopolitics. Victor Hill investigates.

Silicon Valley comes to Silicon Fen

Softbank (TYO:9984), which paid $32 billion (£24 billion) for UK chip design leader Arm Holdings in the summer of 2016, last month agreed to sell the British technology powerhouse to Nvidia (NASDAQ:NVDA), the US chip manufacturer headquartered in Santa Clara, California. By the terms of the deal Nvidia will pay Softbank $21.5 billion in common stock and $12 billion in cash, $2 billion of which will be payable on signature. Softbank will receive another $5 billion in cash or stock down the line, depending on Arm’s performance.

The principal reason for the sale seems to be that the Japanese technology conglomerate’s activist shareholders put it under pressure to return cash to shareholders after a string of poor investments, including WeWork and Uber. Softbank had already unloaded its stake in T-Mobile US (NASDAQ:TMUS) over the summer. Masayoshi Son, Softbank’s founder and CEO, articulated a vision of Arm’s future in 2016 about which we have heard less and less of late. Plans to float Arm on the NYSE, mooted in July, were evidently abandoned. Softbank has outlined plans for a $41 billion programme of asset sales plus a $22 billion share buy-back programme in an attempt to shore up its lagging share price. Reportedly, one shareholder, the US hedge fund Elliott Management, has been applying pressure on the conglomerate to generate more cash.

When the acquisition was first made public, Hermann Hauser, the Austrian-born co-founder of Arm, spoke out against the deal, describing it as an absolute disaster. He regretted that the last European technology company with global relevance is now going into American hands. He gave three reasons why the deal was bad news for the UK and for Europe. Firstly, the UK would be surrendering a key asset at the moment that it was negotiating a trade deal with the US. Second, so long as Arm remained ostensibly independent it could be seen as a “neutral” technology hub – the Switzerland of computer technology. Once under US control it will be subject to US security restraints and therefore US export controls. Third, Mr Hauser fears that jobs and expertise will be stripped out of Silicon Fen to be relocated in Silicon Valley. He even set out his concerns in a letter to Prime Minister Johnson.

Mr Hauser’s proposed solution was for the UK government to engineer a tie-up between an independent Arm and Graphcore, the Bristol-based centre of excellence in machine learning, whose hardware he believes outperforms Nvidia’s. He proposed that the UK government could take a stake in Arm, as it has done in OneWeb, and then float it on the London market. Arm was founded back in 1990 as a spin-off from Acorn Computers – three years before Nvidia was established.

Some industry observers were hoping that Cadence Design Systems (NASDAQ:CDNS), a San Jose, California-based firm that makes software for chip designers might step forward as a rival suitor. Others thought Arm might profit from a tie-up with its rival Synopsys (NASDAQ:SNPS). The shares of both firms have performed strongly over the past twelve months, with Cadence up from $63.50 to $108 and Synopsis up from $134 one year ago to around $220 as I write.

Clearly, the acquisition will propel Nvidia further beyond its traditional rival, Intel (NADSAQ:INTC). But many observers in the UK are less enthusiastic given that cybersecurity specialist Sophos and graphics processor designer Imagination Technologies have also recently fallen prey to US predators. The UK prime minister’s chief advisor, Dominic Cummings, has spoken of the need to build trillion-dollar technology companies in the UK. Now, Britain’s most successful tech firm is going West. To some degree this is inevitable, given that US firms can command extraordinary valuations on home territory while British firms struggle to get a stock market listing at all. The resurgence of the NASDAQ has given the big US tech firms unprecedented buying power which their aspirant European rivals can only envy.

When Softbank bought Arm in 2016 the company was worth about the same as Nvidia. Four years later, Nvidia is worth about ten times Arm’s value. Where are the British leaders in cloud computing and data mining? Alas, as in the Simon and Garfunkel song, they’ve all walked off to look for America.

Chips with everything

The sort of microchip technology which Arm develops is now seen as a key component of national security policy in the United States. Under President Trump the US federal government has intervened in several deals involving US chip manufacturers. The main thrust of those interventions has been to deny access to the latest chip technology to Huawei, the Chinese IT company which is rolling out 5G communications infrastructure in numerous countries which align themselves with China’s Belt and Road programme. As discussed in these pages before, Huawei has a peculiar status and is regarded by many in the Western intelligence community as an agency of the Chinese Communist Party. China’s Semiconductor Manufacturing International Corp. (HJKG:0981) is just the latest Chinese microprocessor developer to be squeezed tight by the Trump administration.

Arm’s 49 percent Chinese affiliate was in open revolt back in early August as its CEO was voted out but refused to quit, with Arm facing a legal battle to regain control. China is likely to be unhappy with the sale as Softbank’s Mr Son is regarded as China-friendly, while Nvidia’s Mr Huang has close links to Taiwan.

Jensen Huang, the Taiwanese-American founder and CEO of Nvidia, who is rarely seen without his trademark leather jacket, promised that not only would Arm’s headquarters remain in Cambridge, where it employs 2,500 people, but that under Nvidia’s control Arm would build a new supercomputer there which would ensure Britain’s role as a world leader in artificial intelligence (AI). Mr Huang, who co-founded Nvidia in 1993, is one of the longest-serving CEOs in the world.

Further, he said Nvidia would expand its footprint in the UK with new research initiatives in fields such as robotics and driverless cars. One such is the proposed Deep Learning Institute. Under the deal agreed when Softbank acquired Arm, the company is legally obliged to increase staff numbers until October 2021 – and that commitment will persist when Nvidia takes over. There was further reassurance for British observers when Simon Segars, the British CEO of Arm, emphasised that Arm would retain an arms-length relationship with its new owner.

Nvidia’s computer chips were hitherto best known for facilitating advanced computer graphics processing units (GPUs) for computer games; but they are increasingly being used for other sophisticated computer tasks such as mining cryptocurrency and in the quest for AI. Microsoft’s own search engine, Bing, uses Nvidia processors to analyse the contents of photos. And automated electric vehicles in the Netherlands, known as WEPods (now defunct), also used Nvidia hardware.

Earlier this year a computer in Japan called Fugaku, using processors similar to those developed by Arm, was declared to be the world’s fastest. Billions of smartphones, servers, laptops and other electronic devices around the globe depend on the technology designed by Arm. The blueprints for its microprocessors are licensed to, amongst others, Apple (NASDAQ:AAPL), Qualcomm (NASDAQ:QCOM), Samsung Electronics (KRX: 005930), Huawei and even Nvidia itself. And the steady advance of 5G will inevitably boost demand for smartphone chips going forward.

Mr Huang has said that “There is an AI race all over the world”. All advanced countries, he thinks, are challenged to assemble a critical mass of researchers in this field at a moment when tangible AI is just within our grasp.

Nvidia, while it is not a household name like the other tech titans, has a market cap of around $345 billion. Over the last twelve months its shares have risen from $177 to around $560 as I write. In contrast, the once far-and-away market leader in microprocessor manufacturing, Intel, currently has a market cap of around $225 billion. Intel is principally a manufacturer of chips for personal computers (PCs), sales of which are now falling[i].

Second thoughts

In the early stages Arm proposed to hand its loss-making internet of things business, IoT Platform, which employs 500 people, to Softbank so as to focus on its core chip design business. Now it seems that Nvidia wants to buy that business too, but it has indicated that it might demerge it into a separate business. The internet of things is the idea that all of our devices from toasters to sticking plasters might have chips embedded in them that would connect to the internet. A smart plaster might tell you when the scratch you sustained while gardening has become infected and risks sepsis.

In the last week Nvidia has reiterated its pledge to build a mind-blowingly powerful supercomputer in the UK which will work on, amongst other things, treatments for Covid-19. Supercomputers can aid in the discovery of new drugs by using algorithms to analyse millions of different combinations of different chemical reactions. The Cambridge-1 supercomputer is due start functioning by the end of 2021. It will use the Nvidia DGX SuperPOD system and will rank amongst the most powerful supercomputers in the world.

Access to the machine will be granted to AstraZeneca (LON:AZN), GlaxoSmithKline (LON:GSK) and Oxford Nanopore as well as to academic institutions. Significantly, at London Tech Week (now an online event) in December, one of the key themes this year will be AI-enabled diagnostics.

Huang’s Law

Huang’s Law, formulated by Jensen Huang, is an observation in computer science that advances in graphics processing units (GPUs) are growing at a much faster rate than for central processing units (CPUs). The observation refers to Moore’s Law which predicted in 1965 that the number of transistors in a dense integrated circuit doubles about every two years. Huang’s Law states that the performance of GPUs will more than double every two years. The key point about GPUs is that they make multiple calculations at the same time, rather than in sequence. They are therefore uniquely capable of handling predictive models.

Nvidia’s final acquisition of Arm will still take some time to gain regulatory approval from the UK authorities. Business Secretary Alok Sharma still has the power to block the deal under the 2002 Enterprise Act. Some critics of the deal suggest that Arm’s existing customers may now prefer to work on their own processor architecture rather than become beholden to Nvidia. This would take years; but rival systems are coming to the fore. One is Risc-V[ii], a project founded by academics from the University of California at Berkeley which aims to build a fully open-source rival to Arm. Only the progress of other open-source projects such as Linux is not encouraging. Nvidia reportedly spends about a quarter of its total revenues on R&D – a sum that few other entities can match.

I urge all readers to drive down the A10 southbound, approaching Cambridge, and to witness for themselves the array of biotech and AI-based centres of excellence which announce themselves across The Fens. It is heartening. This includes companies like Agile Analog which was started by ex-Arm employees. At the end of the day, Mr Son is a free-wheeling venture capitalist who saw Arm as a financial investment. In contrast, Mr Huang is a visionary who has created the world’s leading chip manufacturer, quite literally out of nothing.

In a world of America versus China, Britain will have to take sides anyway. So, Mr Huang’s arrival is not bad news: but let us hold him to his word – or else…

***

Please do join James Faulkner and me next Wednesday, 14 October at 13:00 hours UK time, for our webinar, Investing in the Post-Pandemic World. We are going to cover a number of key topics that I have been writing about this year, not least the impact of the coronavirus pandemic and how it will play out in the year to come. The US elections are now just 25 days away and we could be in for some surprises – and possibly market turbulence. The bitter Brexit endgame is reaching crunch-point. Government finances in many European countries, the UK included, are about to cross the Rubicon of no-return…And yet the Anti-Viral Portfolio that James and I put together last April is looking decidedly chipper, proving that it is still possible to not just survive but to thrive in this dangerous and uncertain world.

See you on Wednesday.

Victor.Hill@masterinvestor.co.uk

[i] See: https://www.thurrott.com/windows/windows-10/228526/report-pc-sales-to-fall-in-2020-2021-and-2022

[ii] “Risc” is the acronym for Reduced Instruction Set Computer.