Nvidia (NASDAQ: NVDA) recently announced that it is acquiring ARM Holdings (ARMHF) from SoftBank (OTCPK: SFTBY) for $ 40 billion. Nvidia, which gives up somewhere between 7-9% of the company to make the takeover, has announced that they are creating the world’s leading computer company in an age of artificial intelligence.
SoftBank, which bought $ 32 billion 4 years ago, effectively earned $ 1-2 billion / year on the investment. It now acquires a significant stake in Nvidia, a company with long-term growth potential. However, as we will see in this article, the potential concentration of ARM Holdings in the hands of a competitor makes the agreement a significant risk.
ARM Holdings – Apple Insider
ARM Holding’s largest customers
Traditional CPU companies like Intel (NASDAQ: INTC) and AMD (NASDAQ: AMD) have significant gaps in their business model. Specifically, despite their profit margins, companies have a significant lack of customization within their products. Features like Apple’s (NASDAQ: AAPL) neural engine that supports FaceID would never be possible on other companies’ CPUs.
Graviton Competition – Anandtech
As companies have realized this and technology companies have become larger, there have been additional incentives to add this adaptation. For example, Amazon (NASDAQ: AMZN) has created the ARM Holdings-based “Graviton” calculator on ARM Holdings, which is comparable to Intel and AMD instances, but at a lower cost and significantly lower power consumption.
In fact, while AMD and ARM Holdings excel here, from a cost-effectiveness standpoint, Intel lags far behind. These largest technology companies have become some of ARM Holding’s largest customers. On the flip side, there is an increased incentive for companies like Intel and AMD to use their processor expertise to develop ARM Holdings’ enterprise solutions.
These days, companies like Apple, Amazon and networking companies are becoming some of ARM Holding’s biggest customers. Many of these companies are competitors in some way with Nvidia. This is important because these companies are likely to be encouraged to move away from ARM Holdings to something that is independent.
RISC-V Architecture and potential
As technology companies get bigger and bigger, they have the development bandwidth to move towards solutions with significant potential long-term payouts. Through its acquisition of Intel’s smartphone modem division, Apple is making a long-term game on modems and their potential, and as we enter the world of multitrillion-dollar companies, this is not surprising.
The most important takeaway is that large companies in the same sense that they can switch to ARM Holdings’ processors to provide scale and capability over Intel or AMD can switch to an architecture that does not have ARM Holdings owned by Nvidia risks. Created by the University of California, Berkeley, RISC-V is an open source computing architecture that can be expanded up to 128 bits (up to 64 bits at present).
RISC-V has several major advantages over ARM Holdings. However, the most significant for larger companies is expandability. This means customers can customize the architecture even further than ARM Holdings to deliver features that are most beneficial to their shareholders. This combined with the fact that RISC-V is open source means that there is no risk of future concentration of ownership.
This alone can justify customers considering making the multi-year investment in switching to RISC-V. We expect that research has already begun, even though it may not be public. A potential acquisition of a competitor, Nvidia, can help speed up this switch and investment much further. And that threatens to affect the value of ARM Holding for Nvidia.
In fact, it may even be the reason why certain “milestones” in procurement make up ~ 13% of the procurement price.
RISC-V Potential effects
RISC-V has significant potential effects, which we have already taken the opportunity to discuss above.
RISC-V Dramatic Growth – RISC-V
RISC-V is expected to experience dramatic growth, starting in the industrial category, but also in several other segments. Now it is important to remember the size difference. ARM Holdings shipped 50 billion processors from 1991-2014 and as of February 2020 has shipped more than 160 billion processors.
The current annual shipping rates for ARM Holdings processors are in the range of 25-30 billion annually. From 2024-2025, RISC-V estimates to send approx. 20 billion processors, up from 15 billion in 2023-2024. These figures indicate that RISC-V is only 6-7 years behind ARM Holdings. While it is a long time in the data processing, it points to potential growth and scale for RISC-V.
As the RISC-V grows, the cost of switching to the platform becomes less.
At the same time, significant regulatory pressure is expected on the Nvidia and ARM Holdings agreement.
If Nvidia decides to go ahead with an acquisition attempt, it will likely be met with intense regulatory scrutiny. According to the Bloomberg report, Softbank was considered a relatively neutral buyer of Arm when it made the acquisition in 2016, which helped the deal implement regulatory scrutiny. Many of Nvidia’s competitors license Arm architecture, and they may oppose the potential acquisition for these reasons.
– Potential regulatory control Bloomberg
Bloomberg has already discussed this, but specifically, while SoftBank is more of an “independent” holding company for technical assets, this is certainly not the case for Nvidia. In fact, through its Tegra chip line, Nvidia is actually a significant customer of ARM Holdings. As a result, despite Nvidia’s ability to promise to keep business separate, customers were able to protest.
These regulatory issues are important for several reasons. First, they could potentially provide significant legal costs to Nvidia without the benefit if the takeover is interrupted. Or they could come up with legal provisions that negatively damaged Nvidia’s ability to provide adequate support to the company’s customers.
Secondly, they can lead to uncertainty for customers and the way forward as a customer in the future. Customers who are concerned about the integration with Nvidia and the levels of regulatory constraints may have to wait months or years to find the answer. They may even find it easier to simply differentiate themselves from the whole process.
Finally, ARM Holdings itself will have a significant regulatory cost to review the acquisition. It can have a negative impact on its ability to support customers in a way that it did not in the past, even though there are no other acquisition issues. It can also convince companies that do not want to tackle the uncertainty of switching away.
Our investment outlook
Our analysis of this investment is that investors who have recently jumped on the “news” for several technology stocks may be doing the same for Nvidia. The idea of the next big “artificial intelligence” company joining the wave of independent CPU production through ARM Holdings could give a massive boost to Nvidia’s inventory.
As these “hip” new technology companies reach record highs, it is increasingly possible. Nvidia’s share has risen 170% over the past year without significant changes in its fundamentals. The fact that almost half of the net acquisition price (assuming the $ 5 billion bonus comes from stock) is in this “expensive” stock may be supported by the market.
The market may see it as a “cheap” undervalued takeover with a price much lower than the improvement in NASDAQ since 2016. This may cause Nvidia’s stock price to rise. We recommend investors to sell the news. Nvidia is approaching a triple-digit P / E ratio with a high double-digit ratio, even based on 2022 expected EPS.
We recommend any potential share price gain that makes the sale of Nvidia’s share at this time a good step for shareholders.
Of course, there are some risks to our dissertation. Specifically, the combination with Nvidia could enable ARM Holdings to reach new customers and rise to new heights in profit given Nvidia’s reach. ARM Holdings itself may even choose to start manufacturing and selling its own CPUs and possibly collaborating with OS manufacturers such as Microsoft (NASDAQ: MSFT), with the goal of being fully competitive with AMD and Intel.
This competition could dramatically increase the value of ARM Holdings, which already has a large customer base to begin with. This could significantly increase Nvidia’s long-term value.
Nvidia recently announced the acquisition of ARM Holdings for a staggering $ 40 billion. It represents a strong return for SoftBank; however, the improvement is much smaller than what NASDAQ has returned over the same multi-year period. In fact, ARM Holdings undoubtedly has significant potential.
However, we expect that a customer’s potential acquisition will lead to significant regulatory issues. These regulatory issues combined with consumers’ concerns about concentration make the announced deal a sign of selling Nvidia shares. Given the company’s overall valuation, we recommend investors sell the news.
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Disclosure: I am / we are long NVDA, AAPL, AMD, INTC. I wrote this article myself and it expresses my own opinions. I do not receive compensation for it (except from Seeking Alpha). I have no business relationship with any company whose shares are mentioned in this article.