Arm is a critical player in the semiconductor and broader technology ecosystem, despite the fact that its name doesn’t echo loudly in the public domain.
As we look at the layers of Arm's rich history, we can see that it’s not just another corporate chronicle — it's a masterclass in strategic positioning. Arm's journey from its inception to its successful IPO is a story peppered with pivotal decisions, where keen foresight met with the serendipity of market dynamics.
It's a tale that showcases how Arm's leadership — with a blend of visionary thinking and opportunistic agility — capitalized on the gaps and missteps of their competitors to carve out a domain where they reign nearly unchallenged.
Let’s examine Arm’s business journey and recent IPO, and see what startups can learn about the company’s strategy, innovations and timing.
A winding company journey
Arm began as a joint venture between Apple, VLSI Technology and Acorn Computers in 1990.
The plan of the original JV was to develop a high-performance processor that was power efficient, easy to program and readily scalable. This is still Arm’s mission today. At that time, Intel had considered and rejected the simpler RISC (Reduced Instruction Set Computer) architecture, which was what Arm set out to use. Arm’s aim was to make RISC the worldwide standard.
Arm’s first CEO, Robin Saxby, had vast ambitions for the startup. “We have got to be the global standard,” he told his colleagues. “That’s the only chance we’ve got.” (From The Chip War)
While it wasn’t initially able to compete with the x86 Intel architecture on PC — at least in the early days — the energy-efficient nature of Arm’s processors made them suitable for portable devices such as PDAs and some early phones.
The company went public in 1998 and remained a public entity until 2016, when Softbank purchased it for $32 billion and took it private.
Luck and market timing
Probably the most important moment in Arm’s 33-year company journey was Intel’s 2007 decision not to produce chips for the Apple iPhone.
At the time, Intel had just struck a deal to make chips for Apple’s Mac computers. Shortly after that, Jobs went to Intel CEO Paul Otellini with a new pitch: He wanted Intel to make chips for the first iPhone. Intel declined, as discussed in the excerpt below from The Chip War:
“Would Intel build a chip for Apple’s newest product, a computerized phone? All cell phones used chips to run their operating systems and manage communication with cell phone networks, but Apple wanted its phone to function like a computer. It would need a powerful computer-style processor as a result. ‘They wanted to pay a certain price,’ Otellini told journalist Alexis Madrigal after the fact, ‘and not a nickel more…. I couldn’t see it. It wasn’t one of these things you can make up on volume. And in hindsight, the forecasted cost was wrong and the volume was 100× what anyone thought.’ Intel turned down the iPhone contract.”
Apple looked elsewhere for its phone CPUs, and turned to Arm’s architecture, which was optimized for energy-efficient devices such as phones. Apple still uses Arm-based chips today.
It was a case of good market positioning and timing, coupled with excellent luck for Arm.
A hidden monopoly
Today 70% of the world’s population uses Arm-based products, and approximately 30 billion Arm-based chips are shipped per year. That’s nearly 4 chips for every person in the world!
Arm chips are used in all kinds of devices, from PCs to watches to tablets to TVs to XR headsets.
But it’s the smartphone market where Arm really dominates. In the mobile applications processor market (i.e., the primary mobile chip), Arm has a greater than 99% market share.
A consumer can buy an iPhone or a Samsung or an LG phone — but they’re all going to end up relying on an Arm-based chip.
An asset-light business model
Arm doesn’t design or manufacture chips. It develops the IP and building blocks, such as the Armv9 instruction set architecture, that others can use to design chips, and then either manufacture the chips themselves or use a foundry.
Therefore, Arm’s approach is asset-light but R&D-heavy, to continue pushing on the IP they have developed. It also means that Arm’s business model is quite flexible. The company can license its IP to a wide range of customers, including fabless semiconductor companies, integrated device manufacturers (IDMs) and system-on-a-chip (SoC) designers.
The origins of their model come from their very first CEO, Robin Saxby, over 30 years ago. He believed silicon was a commodity, like steel, and didn’t want to build chips. Instead, he wanted to sell the architecture to fabless design firms that could customize it for their own purposes. This vision of a disaggregated chip industry largely played out, and Arm has stuck to the approach Saxby envisioned.
Arm makes money in two ways:
- License revenue, which is related to licensing, software development tools, design services, training, support, etc. The products Arm licenses enable companies to design and manufacture the chips they need, depending on their use case. Arm has around 230 customers who license its technology, on a variety of limited terms or more flexible arrangements.
- Royalty revenue, which represents royalties on every Arm-based chip sold. This royalty is either a fixed fee per chip or a portion of the average selling price of the chip (typically 1-2% of ASP). Over 60% of Arm’s revenue comes from royalties.
Arm made $2.7 billion in revenue in 2023 and 2022, on roughly 30 billion chips shipped in each year — which means the company makes about $0.09 per chip in licensing and royalties.
Their gross margins are approximately 96% (by nature of them exclusively selling licenses and IP, except for some support sales), and their operating margins are around 25%.
Lining up operating model and business model
Arm is essentially in the IP business, and the most important driver of their model is continued R&D to generate and improve upon their IP (which then gets sold).
Given this, R&D is by far the biggest item of spending in the company, at over $1.1 billion per year.
They also view themselves as an engineering-first company, and their headcount supports that: Approximately 80% of their global employees, representing over 4,700 employees, are focused on research, design and technical innovation.
In this way, Arm’s operating model and headcount makeup are sensible and congruent with their business model.
A well-planned IPO
Arm recently went public, raising approximately $4.9 billion. Arm today trades at approximately $50 a share, a market cap of $55 billion. While the post-IPO stock performance has been muted, with shares closing the first day at $64 a share and now down 15%, this has actually been quite a successful IPO, when you consider that Arm made $2.7 billion in revenue growing 0% in the previous year.
Arm trades at over 20x in revenue, and around 80x in operating income as a low-growth business!
How did it manage this? I think it was a mix of factors:
- Timing and storytelling: With AI the talk of the town and companies like NVIDIA ripping, Arm was able to position itself in that ecosystem, playing up the demand for AI workloads and chips to support them. While Arm’s chips don’t excel in AI server workloads today, they may be an important part of AI on the edge, since Arm-based chips are well-suited for portable devices.
- Strong forward and long-term guidance: Tied to the above, Arm offered strong guidance of double-digit expected growth in the coming years, including 20%+ in 2025, from the aforementioned demand.
- Strong anchor investors: Arm’s IPO had the support of a number of their strategic customers who were anchor investors as part of the IPO. This included Alphabet, Samsung, Apple, Microsoft, TSMC, Intel and NVIDIA. This obviously helped increase demand for the offering and made it easier to support a higher price.
- Low float: Softbank still owns over 90% of the company with less than 10% of the company being floated in the IPO. In addition, with many anchor investors locked up, the shares available to be traded on any day are low, which helps maintain high prices because of low supply.
These factors certainly helped Arm achieve multiples that are higher than I would have expected.
Arm's calculated ascent is a blueprint for tech pioneers
Arm's journey, marked by its strategic acumen and an uncanny knack for timing, is an important model for emerging enterprises navigating the tech landscape.
While the stock market's initial response post-IPO offers a subdued echo of this success, I have no doubt that Arm will continue to be an important leader in the semiconductor industry.
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