Friday, August 15, 2014

High Tech "State Of the Union", By the Numbers: Q2 2014 - Part 2

[Note: as an addendum to last week's editorial, Cisco has announced Fiscal Q4 2014 numbers (their financial reporting calendar is skewed by 5 months) as well as a new round of layoffs:]

Now civilizations, I believe, come to birth and proceed to grow by successfully responding to successive challenges. They break down and go to pieces if and when a challenge confronts them which they fail to meet. - Arnold Toynbee

This week we'll cover the remaining five companies that are part of my personal High Tech benchmarking portfolio. These include several industry leaders (in terms of size, market presence and technology) for the chip sector, and a pair of companies that define themselves by their visions of the future. Links to the Q1 analysis are provided below and may be useful as background. As I stated last week, I have no investments in any of these firms and no agenda other than to report the facts and provide my own interpretations beyond the typical media tripe and cheerleading.

The Stone Masons (

The three companies in this section serve all the systems markets for semiconductors other than the commercial PC and sensors segments. All are indisputably leaders in their sectors as well. Xilinx invented the FPGA, Broadcom can fairly claim to have invented the SoC, and Qualcomm has achieved overwhelming dominance in the most technically difficult portion of the SoC market thru its Snapdragon line of applications processors for smartphones. Together they are a perfect barometer for the strength of the chip portion of High Tech, excluding memories (whose revenues experience considerable fluctuation stemming from variations in supply.)

So what do the Q2 2014 numbers tell us? Let's look at them from the perspective of the last 6 years of quarterly financial data:

The Qualcomm results are an anomaly and bear some examination. Consider the growth of the smartphone market over its history (sources: Gartner, TSMC):

After 2010's spectacular year, the market continued growing energetically but entered a trend of rolling over towards a plateau. Naturally, all markets eventually saturate, with consumer markets affected not only by disposable income but the relative appeal of a given item's novelty to consumer tastes. Thus it was not a matter of 'if' but 'when' the smartphone market would enter its saturation phase - and that moment seems to have arrived. Forecasts are adjusting to this reality, as can be seen here:

Based on trends and the general macroeconomic climate globally, I disagree with the IDC forecast and project 2014 and 2015 to be the last years of healthy growth for smartphones, with 2015 seeing 10% or less increase in unit volumes and the segment flatlining and even decreasing for a time after that. Mobile Computing is a consumer market, directly dependent on disposable income, which remains depressed across all geographies. 

Yet Qualcomm's numbers fly in the face of IDC's forecast as well as my own - the Q2 2014 number is a record high for the company and superficially repeats the growth curves observed in 2011 and 2012. What could have caused such a happy quarterly result? 

Some might point to the tablet market as a source of continued growth for Qualcomm, as Snapdragon is also targeted at the sister segment of the mobile computing sector, but that is highly unlikely. In fact, the tablet market appears to be saturating and perhaps even declining this year, about one year ahead of my own forecast (and well ahead of everyone else's:)

It seems likely that the growth spurt experienced by Qualcomm is fallout from the new and fiercer competitive arena that has arisen in mobile phones, with both service providers and handset suppliers waging price wars of ever greater intensity since mid 2013. In such an environment, growth comes more from stealing customers from competitors than from intrinsic market expansion. One can see the evidence of this in the increasingly bloody tales being told of Qualcomm's rivals - Mediatek is losing ground, NVidia has publicly thrown in the towel, and Broadcom has abandoned its wireless handset position:

As a consequence, I expect Qualcomm's growth for 2014 will reflect much more the pattern established in 2013 than in 2010-2012. This is still good news for the company and its investors over the near term horizon. 

However, long term exigencies still make it imperative for Qualcomm to find ways to redeploy its massive assembly of talent and deep IP portfolio to pursue growth beyond the mobile computing sector. The superlative technical wealth of the company could undoubtedly be applied with great success to a market diversification effort, but it requires strength of purpose and the willingness to do things differently on the part of management in order to do so.

Broadcom's situation is distinctly less positive. The company has not shown substantive growth since Q4 2010. Xilinx is even worse off, with quarterly revenues still not exceeding the earnings level reached in Q3 2010. Despite market-leading strength in the technology offerings of both these companies in hardware and software, neither has been able to capitalize on their prowess and turn it into appreciable revenue growth.

Could it be competition eating away at both companies, robbing them of their growth? Without question that has been part of the problem with Xilinx. The company completely missed the boat on low power and low cost small FPGA offerings and Lattice has more or less walked away with the business. Altera has also been quietly nibbling away at Xilinx over the last three years and has steadily gained incremental market share. The same could be said for Broadcom. Over the last three years Broadcom has dissolved its TV, BluRay and Cellular Baseband divisions, ceding their market share portions to stronger competitors. 

Yet with both Xilinx and Broadcom, there is still great financial, engineering and IP strength. Neither company is coming apart at the seams - far from it. Their difficulties in the main reflect a lack of growth in the primary markets they serve. The battle is now one of stealing market share from rivals, and both firms have been caught off balance in the first competitive salvos. 

It appears that neither Xilinx or Broadcom has 'read the memo' and is making the necessary adjustments to the new Lean Years in High Tech. As covered in depth in the "Value Proposition & the Custom Chip Market" editorial series published between mid-June and mid-July, both firms will need to radically rethink their value propositions and product development plans in order to remain viable over the long term. The revenue history demonstrates that this is now imperative.

Area 51 (

The May 7th editorial covering the two companies in this category - Apple and Google - characterized them as very unique entities in High Technology. They are, in effect, the thought leaders of the industry, single-mindedly pursuing their individual 'visions of the future' with unique dedication and intensity.

For those of you who need further convincing, take a look at the following:

Evidently Google is determined to be the leader in whatever platform is destined to be the next darling of mobile computing.

What Apple is doing is much more difficult to divine. The company spends less than 3% of its revenue on R&D, but has been discovered to be quietly pursuing patents in graphene. All in all, though, one really hears very little regarding Apple's plans beyond rumors about the next iPhone or iPad. Either the company is doing little else, or its internal security on new product and R&D work is the envy of the industry.

What do the revenue numbers reveal? 

What these curves indicate is telling indeed. Connecting the dots by calendar quarter for Apple (not successively, but across the years between each first quarter, second quarter and so forth) clearly demonstrates how its smashing success in mobile computing has now reached its denouement. Between market saturation and competitive challenges, this chapter in Apple's glorious history has arrived at its curtain call. 

Google has benefited as well thru all the additional mobile traffic on its search engine (albeit a lot less so than Apple) but is also seeing its revenue plateau. The company is openly trying to become more than the one trick pony it currently is, but its continuing lack of success will become a lightning rod for criticism if revenues continue to stagnate.

Tim Cook hired some very impressive talent from the consumer fashion and biomedical industries while Google has been busy open-sourcing mobile computing (Ara, Glass, Android.) Both are obviously looking for some unique take on the IoT that will prove 'sticky' in the marketplace. Now, though, they're going to begin feeling the heat. The management teams for both companies are going to be pushed relentlessly for results. 

Their ability to deliver is unpredictable - to be fair, disruptive inventions do not lend themselves to strict, clearly defined timetables. Yet unless either one of them can suddenly pull a rabbit out of their hat, it is very likely that both firms will begin experiencing an increasingly strident level of censure in the financial press over the next 6-9 months, with their share prices perhaps beginning to lose some of their luster.

Q2 Summary

The State of the Union from Q1 numbers forecasted a 'time of troubles' was ahead for the High Tech industry from top to bottom - chips, systems, software and all their supporting sectors. Q2 affirms that projection, indicating that the Lean Years of Joseph and Pharaoh have begun in earnest. 

The data shows all the major systems houses for enterprise datacenter and networking (the Big Iron) in decline. The chip sector (excluding memory) is stagnant, and even the systems and chip companies serving the mobile computing market are losing momentum and beginning to stall. This is not due to inherent flaws in the technology, IP or talent of these companies, but to market conditions on a global scale. Complicating matters severely is the hobbling of Moore's Law and its termination very clearly in sight, which will begin to stifle the ability of High Tech companies all thru the value chain to creatively engineer their way back into growth mode. Microsoft is the lone standout bucking the trend, with Intel being the only potential dark horse of the pack (I'll write more about that in September, immediately after the IDF in San Francisco during the second week of the month.)

This leaves several questions open:
 - When will the 'fat' years return?
 - What will be the vehicle which ushers in those new, prosperous times?
 - What can be done between now and then to minimize the pain?

These questions will be what I will be writing about for the rest of the year. After all, the blog is called "Vigil Futuri" for this very reason. ;-)

It's been suggested to me that I expand the portfolio to include some other companies - Micron and Samsung in particular have been mentioned. Micron is a memory company and memories distort a robust market analysis because of general supply fluctuations, so unless there is an outcry from the readership, I'm reluctant to include them. Samsung is a vertically integrated and highly diversified company; consequently, it is harder to extract applicable information for specific high tech market sectors. However, if there is sufficient interest from the readership, I'll do my best to find that information. ARM is a real possibility. So is NVidia and perhaps Mediatek. If you feel I should be considering any of these firms or other companies for future tracking and analysis, please let me know and I'll see what I can do (I'm only one person and don't have a team of analysts working for me, but I promise I'll try.)