To most people, “Arm” means the limb attached to your shoulder. For Intel, it refers to a looming threat to its most essential product.
Intel remains best known to the public for its computer chips for PCs. But you may have heard that PCs are not a growth business anymore. Investors know well that Intel’s fattest profit margins and perky sales growth come from its chips for data center servers -- the crucial computing backbones responsible for powering every streaming Netflix video and for responding to each tap on an Uber smartphone app.
Research firm IDC estimated Intel in 2015 would sell roughly 98 out of every 100 chips for the most mainstream type of computer server. In case you’re terrible at math, 98 percent is pretty darn close to all of the market. Intel itself says it has an even bigger share.
Selling chips for servers and other data center gear generated $16 billion in revenue for Intel in 2015, the company said Thursday. That is equivalent to the last 12 months of revenue at Facebook. The data center business, which was less than 30 percent of Intel’s operating income in 2011, generated 56 percent of the company’s operating income in 2015. In short, this is the most important business for Intel, period.
Yet all is not well. Naturally if a company has nearly 100 percent market share in an important area of technology, there’s probably nowhere to go but down. And now powerful technology titans -- including Google and Amazon -- have growing reasons to help loosen Intel’s grip on the market for server chips, if only to force down prices.
The biggest potential threat to Intel comes from ARM Holdings, a British company that licenses a computer chip design different from Intel’s. ARM chip designs are dominant in smartphones like the iPhone, and there have been hopes for years that ARM could also become serious competition to Intel in servers. Almost nothing has come of those hopes so far after many false starts, but that may be starting to change.
AMD, Intel’s struggling rival, is pushing a turnaround by focusing in part on new ARM chip designs for data centers. Qualcomm, which became the Intel for mobile phones, is staking its future on a business diversification that includes a foray into ARM data center chips. So far Qualcomm hasn’t made headway, but it’s unwise to count it out.
Maybe the most intriguing risk is that the tech companies that operate acres of computer servers -- that is, Intel's biggest customers -- will cut out Intel and design their own chips. Facebook, Google and Amazon already have hurt manufacturers of servers and other data center equipment by going directly to hardware factories to order self-designed gear made to their specifications.
For these tech titans, making their own chips would be an outlandish endeavor, but not unthinkable. Amazon bought an Israeli chip company, Annapurna, and announced recently that it would sell its own line of chips. At least at the moment, those are lower-end chips rather than the high-end server chips that are Intel's bread and butter. The most interesting immediate battleground will be over computer networking, a new target market for both Intel and the ARM contenders.
Longtime Intel CEO Andy Grove wrote a management book titled "Only the Paranoid Survive." When powerful companies have incentives to cut into Intel's best business, that should make Intel paranoid -- if not fearful yet. In a sign the data center business isn't immune from problems, Intel's revenue from its data center chips rose 5.3 percent in the fourth quarter, the slowest growth rate since mid-2013, according to Bloomberg data. Intel on its earnings conference call said big companies held off on server purchases because of economic concerns.
ARM in September set a target of 25 percent market share of server chips in 2020, up from less than 1 percent in 2014. People who know the server industry thought this number seemed impossibly aggressive, but ARM has countered that it’s a cautious company and doesn’t issue market share targets willy nilly. Intel executive Diane Bryant, during the company’s analyst day in November, said ARM chips had made no real headway but that the idea of alternative chips is a “tool for our customers to use in pricing negotiations.”
She’s right, of course. Just because competition is a mirage right now doesn’t mean it’s not a risk. Intel’s average prices for its data center chips have risen steadily because the company has had little competition so far. The average price for Intel's server products was $675 in the third quarter of 2015, up from $636 a year earlier, according to Mercury Research.
There is some precedent that should make Intel fret. Intel was king of the world in personal computer chips until the ascendance of smartphones that didn't use its chips. The company is still trying to recover from missing out on the smartphone boom. Intel can't afford to have the same thing happen in the one business where everything has gone its way.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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