Will Google Build Server Chips & Threaten Intel's Profitable Business?

Today for smart, young adults just out of school Google (GOOG) is a great place to work much like HP (HPQ) was 35 years ago when I was hired. Back then, I went to HP to design semiconductors for the Optoelectronic group (OED). HP used its own chips in many of its own products. The group I went to invented the LED for their first calculators  released when I was in high school and the 1977 HP01 watch, released when I was at UC Berkeley studying electrical engineering and computer science.  

These advance products were part of what inspired me to study semiconductor engineering. 

(I get a kick out of how Apple(AAPL), Google and Samsung are still talking about getting regular folks to dress like geeks with wearable computing technology invented by HP and released as a product in 1977!) 

OED grew and spun off OCD (Optical Communication Division) where I designed fiber optic transceivers and later infrared (IrDA) transceivers when Bluetooth and WiFi were still too expensive so the industry used light to communicate wirelessly between devices.

• My patent " Infrared receiver with variable input resistance for optical communication systems"

Later chips went into HP computers and later PCs. Eventually, it was not cost effective so we sold the unit (mostly R&D) to Intel. One of my friends and neighbors still works at Intel designing advanced processes. I speculated that this was "cyclical" and eventually some companies would want more control of the chips and not rely on Intel or TSMC and bring both design and manufacturing back in house.

From Wall Street Breakfast at Seeking Alpha:

Intel threatened as Google mulls creating own server chips. Google ( GOOG) is reportedly thinking about designing its own server processors using technology from ARM Holdings ( ARMH). The idea is that with its own chips, Google could better manage the interaction between hardware and software. The move could hurt Intel ( INTC), which earns over 4% of its revenue from the search giant, and which has a 95% share of the market for server chips that use PC processors.

It is interesting that Google is now so big that they are contemplating doing their own chips. Will they also build their own fabs or have UMC, TSMC, Samsung or even Intel build the chips for them?

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ARMH: Jim Cramer likes Arm as "The Next Intel"

Update 7/29/13:

• Jim Cramer's "Action Alerts Plus" Charitable Trust Portfolio Performance: 2013

Calling ARMH "the next Intel" Jim Cramer Likes Arm Holdings

Yesterday on Jim Cramer's Mad Money TV Program Cramer called Arm Holdings (ARMH Charts) "the next Intel" (INTC Charts) because its microprocessors are more energy efficient than Intel's. Cramer said ARMH is in 95% of all smartphones and MP3 players. Jim said Arm gets 75¢ in royalties for every iPad sold which makes it a great play on Apple (AAPL Charts).

Click chart for full size image courtesy of stockcharts.com

What Cramer didn't say is they are "more energy efficient" because they are slower and don't do as much. The new Intel "core i7" powered desktop computer I am writing this on has hyper threading and four cores so it effectively has eight processors working at the same time on up to eight different tasks. Of course this will use much more power than an MP3 player that just plays one song or video at a time.

Mariam Metsinger reported:

Arm Holdings had an amazing analyst day last month when it reported its total addressable market is expected to double to 29 billion chips in 2014 from 15 billion in 2009. The company could get significant pin action from Microsoft (MSFT charts), as its next generation of Windows is likely to operate on ARM-based processors. ARMH is also diversified into other areas, and its technology is used in sensors, smart meters and hard drives.


While ARMH's multiple is 31, this is reasonable, considering its growth rate is 22%. Cramer would buy the stock when it pulls back 2 points from where it was Monday to $10.

A PE of 31 with a growth rate of 22% is a PEG of 1.4.   I would not call it "a good value" (good value is when growth rate exceeds PE for a PEG under 1.0) but this PEG is not "unreasonable"  as long as growth continues above 20%.  It is easy to grow a small market but once it is large, growth slows as others want a piece.

I would think once the market is large enough, Intel could enter with its own low power chip such as its low cost Atom processor now used in low cost netbooks. Also, as the market matures, Apple could design their own chips and have them made at a foundry so they could keep the profits themselves rather than give them to ARMH. In fact, I would not be surprised to see Apple eventually go to a foundry build their own chip around Intel's atom processor where I believe the license fee to Intel could be less. They may use this to pressure Arm to lower prices. One thing for sure, it can be dangerous investing in companies with few products and customers as a large customer could go elsewhere for lower prices or more performance.

Finally, as users demand more functionality and multitasking from their portable devices, this will favor Intel and AMD with their multiple processors on a single slice of silicon. As the market for these devices get large enough for Intel to notice, I expect to see Intel (and probably AMD) release versions of their microprocessors optimized for low power rather than blazing speed. ARMH may continue to do well for years, but it is not without its risks.

More information:

• Arm Holdings, plc: ARMH Charts
• Apple: AAPL Charts
• Intel: INTC Charts
• Microsoft:  MSFT Charts
• Jim Cramer Fan Club
• Mariam Metsinger: Cramer's Mad Money - The Next Intel

Disclosure:  I own Intel and Microsoft in my personal portfolio.  I purchased Intel and Microsoft in 1993 at $3.67 and $2.43 per share, respectively.  I also cover both in K"irk Lindstrom's Investment Letter" and currently hold positions in both for the "Explore Portfolio."