A High-Stakes Nasdaq Entry
Arm Holdings Limited, the UK's preeminent semiconductor design firm, is poised for a high-profile initial public offering (IPO) on the Nasdaq exchange, slated to be one of the most significant market debuts of 2023 with an estimated valuation of $64 billion. Backed by SoftBank Group, the decision to go public extends beyond mere technological innovation and financial projections; it thrusts Arm into the centre of ongoing geopolitical tensions surrounding the global semiconductor industry, primarily between the United States and China.
On August 21, 2023, Arm officially submitted a Form F-1 registration statement to the U.S. Securities and Exchange Commission (SEC), relating to its planned IPO of American Depositary Shares (ADS) that will represent its ordinary shares. The company aims to list these ADS on the Nasdaq Global Select Market under the ticker symbol "ARM." However, the specific number of ADS to be made available and their pricing range remain undetermined.
Investors contemplating participation in Arm's IPO have voiced concerns about the company's market exposure to China, which was underscored by Arm's own caution regarding "significant risks" in the Chinese market. A fund manager, one of the four funds evaluating an investment in Arm, articulated these concerns to the Financial Times, emphasising the broader risks enveloping the global semiconductor landscape amidst escalating U.S.-China tensions.
SoftBank's strategic move to list Arm is not only expected to value the company at a market capitalization exceeding $60 billion but is also forecasted to encourage other technology corporations to consider public market entry. This high-stakes financial manoeuvre holds ramifications that extend from the boardrooms of venture capital firms to the halls of geopolitical power, setting the stage for a complex interplay between technology, finance, and international relations.
The outfit didn’t provide a projected share price in its F-1 paperwork, but SoftBank recently bought the 24.99% stake in Arm that it didn’t own outright from its Vision Fund unit, reportedly at a valuation of more than $64 billion. That’s twice the $32 billion SoftBank paid for Arm seven years ago. (The Vision Fund has outside limited partners, including the sovereign wealth funds of Saudi Arabia and Abu Dhabi; SoftBank sold that stake in Arm to the Vision Fund in 2017 for $8 billion.)
China: The Double-Edged Sword
However, the revelation that a quarter of Arm's revenue is driven by China has sparked concerns. Arm, in its IPO filing, candidly admitted its vulnerability to economic and political risks, especially those emerging from tensions between China, the US, and the UK.
"It's unsettling. While SoftBank is pitching Arm's benefits from the chip demand surge, which has elevated US chipmaker Nvidia's valuation to incredible heights, these political uncertainties are casting a dark shadow," shared an institutional investor, contemplating their stance on the IPO.
The intricacies of Arm's operations in China have also raised eyebrows. The prospectus pointedly mentions that neither Arm nor SoftBank has direct control over its Chinese business operations.
David Gibson, an analyst well-acquainted with SoftBank, noted, "The China risk seems more profound than what many expected, and the declining licence payments only exacerbate concerns about Arm's growth in the future."
Nvidia, AI and the Competitive Landscape
It's worth noting that Arm has the potential to harness Nvidia's momentum, given that Nvidia's chips are often paired with energy-efficient CPUs, a domain where Arm shines. Nvidia's trailblazing "superchip" for data centres, the GH200, integrates CPUs founded on Arm's architecture. These pioneering platforms will form the bedrock of Softbanks plans SoftBank plans to roll out new, distributed AI data centres across Japan.
However, competition abounds. Rolf Bulk from New Street Research notes,
"While Nvidia's GPUs aren't exclusively sold with Arm CPUs, their combined superchip offering showcases the harmonious fusion of the two."
Simultaneously, AI innovations by Arm's clients like Qualcomm (QCOM.O) and Apple (AAPL.O), and cloud tech giants Amazon (AMZN.O) and Google's (GOOGL.O) foray into AI-centric chips that sideline Arm's technology, hint at the competitive landscape.
Bulk believes that Arm's golden ticket might be the trend of AI and machine learning gravitating from central cloud servers to end-user devices, encompassing smartphones, home gadgets, and industrial machinery components.
Compounding Investor Concerns
Heightening investor concerns are the falling revenues from Arm China, which have declined 16% year-over-year, registering at $139 million for the second quarter. This downturn comes as Chinese companies shift towards alternative, low-cost chip designs, largely propelled by U.S. export restrictions. This complex landscape paints a challenging picture for Arm.
Furthermore, experts caution that Arm's market positioning is not at the core of the AI revolution but is rather adjacent to it. Kirk Boodry of Astris Advisory Japan highlights that the initial enthusiasm in the AI market mainly emanates from software and platform innovations. OpenAI, for instance, has been capitalising on large language models for content creation. "That's not the space Arm operates in," Boodry asserts. Valuing Arm at approximately $47 billion, Boodry speculates that SoftBank's loftier $64 billion valuation could partly aim to satisfy its Vision Fund's limited partner investors, including the sovereign wealth funds of Saudi Arabia and the UAE.
Ownership intricacies concerning Arm China further complicate matters. Amid China's accelerated efforts in the semiconductor race, Arm risks becoming entangled in the regulatory storm targeting Chinese internet stocks, which witnessed a record loss of $781 billion in market value in the third quarter alone. This decline followed announcements from the White House on August 9, outlining stringent policies due to national security considerations linked to China.
Although Arm China serves as the exclusive distributor of Arm's intellectual property to key Chinese enterprises such as Xiaomi, Oppo, Alibaba, and Tencent, Arm does not have direct oversight over these operations. Past difficulties in obtaining accurate and prompt data from Arm China exacerbate existing investor apprehensions.
The company's IPO prospectus does attempt to allay investor fears by asserting, "We believe our past challenges with Arm China have been resolved. However, future accessibility to their records remains unpredictable."
The most acute threat to Arm's valuation emanates from China, responsible for nearly a quarter of the company's total revenue. With US. and UK export controls jeopardising this revenue stream, and Chinese firms actively investing in RISC-V—an open-source chip design that could rival Arm's offerings—the valuation gap between SoftBank's estimate and market expectations adds another layer of complexity for investors.
Adding to these concerns are the declining sales from Arm China, which have plummeted by 16% YoY, settling at $139 million for the second quarter. With Chinese firms pivoting to other low-cost designs due to US export controls, the scenario for Arm looks complex.
Analysts also caution that Arm does not sit at the centre of the AI boom but is more AI-adjacent.
"The excitement that kicked this all off was really on the software side and the platform side, with OpenAI coming out with tools that could take advantage of large language models to create content," says Kirk Boodry of Astris Advisory Japan.
"That's not what Arm is, it's not in any way related to that." - Kirk Boodry
Boodry, who values Arm at around $47 billion, said SoftBank's $64 billion valuation figure was likely motivated in part to reward its Vision Fund limited partner investors, which include Saudi Arabia's and UAE's sovereign wealth funds.
The situation with Arm China is complicated, mainly because of who owns it and its business deals in China. As China pushes hard to lead in computer chip technology, Arm is at risk of getting caught up in U.S. economic sanctions that have already hurt Chinese internet companies. These sanctions wiped out $781 billion in market value in just three months. Investors are even more worried after the U.S. government announced strict new economic sanctions on August 9th about investing in technologies that are important for national security and involve China.
Moreover, the controversies surrounding Arm China's former CEO, Allen Wu, further complicates the situation. Wu, who still holds a significant share in the company, has initiated multiple lawsuits against Arm.
Arm's IPO documents concede that if the lawsuits don't sway in their favour, could substantially impact their Chinese operations leading to potential alterations in Arm China's governance or managerial structure.
Headquartered in Cambridge, the British chip designer reached sales of $2.8 billion in fiscal 2022, up 70% from fiscal 2016. Arm has shipped more than 250 billion chips using its designs. SoftBank Group Chairman and CEO Masayoshi Son, told shareholders at his company's annual general meeting in June that he expected that number to "reach 1 trillion."
A successful offering would be a win for SoftBank's CEO, who said in November last year that he planned to "devote" himself to Arm's growth.
What lies Ahead
"The race is on." - Jensen Huang CEO Nvidia
We are at a crucial intersection, where corporate interests, national security, and global geopolitical strategies are woven tightly together by the thread of semiconductors and AI. The market's enthusiastic response to Nvidia's performance is just the tip of the iceberg. The real story is the undercurrents that are setting the pace for the global semiconductor industry, influencing IPOs, attracting varied investors, and redefining geopolitical equations.
If Nvidia's valuation and ARM's upcoming IPO serve as a litmus test, then we are undoubtedly entering an epoch where tech supremacy will be the new currency of power. The stakes are incredibly high, and as Nvidia CEO Jensen Huang aptly put it, "The race is on."
