Why I'm Watching ARM From a Safe Distance

Could ARM Holdings (NAS: ARMH) finally lose its tight grip on being the pre-eminent architecture for smartphone chips? That seems to be the foremost concern for investors ever since the company released its first-quarter numbers. But the irony lies in the fact that ARM's quarterly results don't reveal any signs of trouble. In fact, the company seems to be in a healthy state with an increase in both its top and bottom lines. So why the concern?

The answer lies partly in ARM's lower-than-expected sales forecast. ARM predicted $880 million in revenue for the full year, which was slightly below the $885 million mark that analysts had expected. But that may not be the only reason for the glum faces.

What went wrong really?
The number of ARM-based chips destined for smartphones and tablets decreased slightly from a year ago, exactly at a time when sales of these products are booming. But should we take this as a sign of weakness for ARM? Maybe not...

The reason might lie in the softening demand experienced by some of ARM's licensees. For instance, Texas Instruments (NAS: TXN) is one company that's been facing weak demand for its ARM-based OMAP processors, used in a majority of smartphones and tablets. But for every licensee like Texas Instruments that is proving to be a dampener for ARM, there's always a company like Qualcomm (NAS: QCOM) to lift its spirits. In fact, demand for MSM chips, which include Qualcomm's ARM-based Snapdragon processors, witnessed a 29% jump in shipments during the company's second quarter. That leads us to believe that ARM may be experiencing the aftereffects of a general slowdown in the chip industry altogether.

But despite the slowdown being temporary in nature, ARM's smartphone dominance is still under threat from the big daddy of the chip industry, Intel (NAS: INTC) .

Intel biting ARM
Intel has been trying to break into ARM's stranglehold on the mobile chip industry for quite some time now, as it tries to fight ARM's army of licensees with product offerings such as the Medfield line of chips. The company recently saw the launch of the first ever smartphone to sport the Atom Medfield chip. And even though the chip may not be as power-efficient as ARM's processors, Intel is well-positioned to give ARM a run for its money in the near future.

The Foolish bottom line
ARM might be facing a short-term dip in demand for its chips, but the chips' popularity still seems to remain intact. However, competition is breathing down its neck and ARM needs to come out with some winning strategies soon. I'd prefer to watch ARM from a distance right now, and so can you by adding it to your free watchlist.

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At the time this article was published Keki Fatakia does not hold shares in any of the companies mentioned in this article. The Motley Fool owns shares of Intel and Qualcomm. Motley Fool newsletter services have recommended buying shares of Intel. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

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