[Apple Shockwave](34) Inside, Son Jeong-ui the 'ARM Dream' Destroyer

SoftBank Faces Failure in Nvidia Sale and Corporate Value Limits
Stuck in Chinese Quagmire Accounting for 25% of Revenue
Son Decides to Sell Controlling Stake in ARM China
Expected Chinese Stock Market Listing but Risks of Technology Leakage
Performance Unconfirmed, Anxious Ahead of Listing

Editor's Note[Apple Shockwave] is a content series that examines the upheaval caused by Apple entering the semiconductor market. You might wonder why Apple is involved in semiconductors. Apple is no longer just a company that makes smartphones and computers. After long efforts starting from its founder Steve Jobs, Apple has designed world-class semiconductors used in mobile devices. If Intel was the key player in the PC era, Apple has become the top predator in the mobile era semiconductor ecosystem. Amid the global semiconductor supply chain crisis and massive investments in semiconductor production facilities, we will carefully examine the upheaval and prospects in the semiconductor market triggered by Apple Silicon to broaden our readers' insights. Apple Shockwave will visit readers every Saturday. After more than 40 installments, it will be published as a book.

Masayoshi Son, chairman of SoftBank, had been planning to acquire ARM for 10 years while watching the emergence and growth of the iPhone. Son wanted to get hold of ARM, the foundation of the A-series chips used in the iPhone. And he put his decision into action. In 2016, Son flew to Turkey and met with ARM executives to make a sudden acquisition proposal, which was successfully completed.

Son paid a 43% premium on ARM's stock price and acquired all the shares. A whopping ?23.4 billion (about 35 trillion KRW at the time) in cash was invested. Who would oppose paying 40% more than the market price? ARM executives also had no reason to reject Son's offer.

Before Son's acquisition, ARM was listed on the London and New York stock exchanges. Apple Shockwave previously reported that the seed money Steve Jobs used to revive Apple after returning to the company came from selling his shares shortly after ARM's IPO.

Son delisted ARM's stock. There was no longer a need to consider ARM shareholders. Delisting has the advantage that major shareholders can take various measures to maximize corporate value without interference from minority shareholders. Acquirers of listed companies often make this choice. It is likely a step toward a future exit.

Did Son's plan, who described himself as a technology and finance expert, become reality? The conclusion is NO. He acquired ARM for about $31 billion and tried to sell it to Nvidia for only $41 billion but failed.

ARM recently barely got listed on the US stock market, but the amount Son holds is not large. ARM's stock price showed a gap down on the first day of listing and has been declining ever since. For a moment, the stock price even fell below the IPO price.

ARM executives are cheering during the opening bell ceremony on the Nasdaq stock market listing day.
[Image source=Reuters Yonhap News]

ARM was listed amid great expectations, but short selling amounting to 8% of the total outstanding shares has pressured the stock price. Investment bank Bernstein even issued a sell rating on ARM stock.

Why did this result occur? Some point to the slower-than-expected expansion of the Internet of Things market that Son had hoped for and government regulations on mergers and acquisitions, but the biggest reason lies elsewhere.

China. Yes. ARM has fallen into the quagmire of China.

The 'trick' to gain more profits in China has backfired as a blade aimed at SoftBank and ARM. The greed to gain additional benefits through China, which had grown powerful enough to control ARM, caused a 'stomach upset.' It may have even paved the way for China's semiconductor rise.

China was the foundation on which Son could make a big hit with his investments. Although he also invested in Japan's portal site 'Yahoo Japan' and Finnish game company 'Supercell' with great success, the true source of success was China, represented by Alibaba.

Was it blind faith in the achievements in China? Son made an unexpected decision right after acquiring ARM: selling the stake in ARM China.

When ARM established overseas branches, it invested 100% on its own. China was no exception, with 100% ownership. ARM's 2002 financial report disclosed that only one person was working at the China branch. Compared to six employees at the Korea branch at the time, China's share was not significant. While the heads of the US, Japan, and Korea branches were titled president, the person in charge in China was described as a director of ARM Consulting located in Shanghai.

Looking at ARM's 2015 financial report just before being sold to SoftBank, ARM disclosed having 324 employees in Asia excluding India. It is estimated that a significant portion of these were China branch employees.

ARM's 2015 financial report disclosed that it owns 100% of the shares of its Chinese subsidiary.

ARM defined the role of its China branch as marketing, research, and development of RISC-based microprocessors and graphic intellectual property. In contrast, the Korea branch, responsible for Samsung Electronics, was defined as a marketing organization. Outside Europe and the US, only Taiwan, China, and India were described as microprocessor research and development organizations. Even the Japan branch was only responsible for marketing.

There is a reason ARM treated China specially. Dependence on China had increased. China promoted its 'semiconductor rise' through the 'Made in China 2025' plan. With the emergence of large companies like Huawei, China's share in ARM's performance rapidly increased. China accounted for about 25% of total sales.

Son relinquished control of Chinese subsidiary responsible for 25% of total sales... US media also raised questions

In June 2018, SoftBank strategically sold ARM China's stake to local investors, retaining only 47.33%. The sale price was ?637.2 million. ARM China's status changed from a subsidiary to a joint venture.

ARM's 2019 financial report described ARM China as an associate company and reflected a revaluation gain of ?594.8 million. It also explained that the Chinese joint venture was part of SoftBank Group's strategy to accelerate growth in the Chinese market.

If ARM were a US company or listed on the US stock market, would this have been possible? The sale of ARM China shares was not subject to approval by the Committee on Foreign Investment in the United States (CFIUS). CFIUS blocked Broadcom, a semiconductor company acquired by Singaporean capital, from acquiring US telecom chipmaker Qualcomm. It was widely analyzed that CFIUS was concerned about Qualcomm's technology leaking to China.

US media also questioned SoftBank's sale of ARM China. The Wall Street Journal reported an investment analyst's opinion questioning whether the sale price of ARM China's stake, which accounts for 25% of ARM's sales, was a fair valuation, as it did not even reach about 5% of SoftBank's ARM acquisition price.

The Wall Street Journal quoted a person familiar with Chinese technology, saying, "This deal has made it easier for China to access chip design to build its semiconductor industry," adding that it would have a tremendous impact over the next decade.

Why did Son make this decision? The dominant theory is that Son and SoftBank tried to list ARM China, which had rapidly grown to account for 25% of ARM's sales, on the Chinese stock market. It was a strategy to maximize profits separately through ARM China apart from ARM.

Son reportedly actively supported Allen Wu, ARM China's CEO, who was aggressively promoting independent technology development at ARM China. If Son's plan had succeeded, the dual powerhouses of ARM China and ARM would have dominated the global semiconductor industry.

Plans are just plans. The US's emerging semiconductor regulations against China became a stumbling block.

ARM China operates independently without influence from ARM headquarters. As US semiconductor regulations intensified, Allen Wu, ARM China's CEO, strengthened independent technology development. He took actions that could lead to conflicts of interest regarding ARM technology. In 2020, ARM headquarters fired him, but he refused to step down and resisted.

The timing of the management dispute at ARM China is also peculiar. It occurred right after the Trump administration began regulating China's semiconductor industry. This has led to analysis that the issue is not a simple management dispute but that Wu tried to steal ARM's technology for China. After conflicts with ARM headquarters surfaced, Wu further encouraged independent technology development. ARM China employees even issued a public statement asking the government to protect ARM China, a national strategic asset.

The Chinese government also obstructed ARM's listing. China did not recognize the documents appointing new SoftBank management to replace Allen Wu. This raised suspicions that the Chinese government, backing Wu, was trying to steal ARM's technology.

ARM's Monologue: "ARM China is a risk factor"

The risks of ARM China cannot be confirmed from ARM's financial statements. ARM has lost any influence over the company selling ARM intellectual property rights in China.

US-listed companies must disclose management performance of subsidiaries and investees. ARM China does not disclose its performance. Some accounting arrangement was necessary. A solution was found. SoftBank transferred its ARM China shares held by ARM to a subsidiary fund. Chinese authorities have expressed concerns, viewing this as SoftBank's attempt to sever the relationship between ARM and ARM China. ARM had to appease China again.

In the filing submitted to the Securities and Exchange Commission (SEC) for ARM's US listing, ARM defined ARM China as a risk factor and explained as follows:

"ARM China is our single largest customer. Aceton Limited, a SoftBank subsidiary in which we hold a 10% non-voting interest, owns 48% of ARM China."

ARM China changed its status from an affiliate to a customer of ARM. The filing further explains that ARM China may fail to pay fees owed to ARM on time or even fail to pay at all, posing a risk. Moreover, if ARM China, which holds ARM's licensing rights in China, declares a transaction suspension, ARM would have no way to respond. If ARM China, which is developing its own IP, declares it will no longer use ARM's designs, ARM would be helpless. Since the two companies have an exclusive supply contract, it is difficult to prepare alternatives. This situation means ARM is dependent on China. ARM has been troubled by delayed payments of fees owed by ARM China. ARM has no choice but to trust the performance data shown by the Chinese side. ARM said ARM China's management information disclosure has returned to normal, but the situation could change at any time.

The smoldering management dispute over ARM China could flare up again. The lawsuit filed by Allen Wu, who refused to step down as ARM China CEO, initially progressed favorably for ARM China, but if Wu appeals and an unfavorable ruling is made, the situation could worsen.

ARM China could even transform into a competitor of ARM. ARM forbade ARM China from independently designing microprocessors, but it is uncertain whether this promise will be kept.

This means that except for ARM's latest core designs regulated by the US (e.g., NEOVERSE), China can develop new designs based on ARM IP without problems.

After management control shifted to China, ARM China designated four core R&D areas?artificial intelligence, CPU, information security, and multimedia processing?and accelerated research, reportedly achieving some results. New management is also encouraging new product development.

ARM is still cautious about China. Rene Haas, ARM CEO, declared after the listing that ARM would continue supporting China. He said ARM would not change its cooperation strategy with ARM China even after becoming a listed company and would cooperate as before.

Rene Haas (center right), CEO of ARM, visited the Ministry of Science and Technology of China in June and held talks with the Vice Minister. Photo by Ministry of Science and Technology of China

Before the listing, Haas visited China in June and met with officials, promising active cooperation with China. China holds ARM's leash. The tail wags the dog.

This whole story shows ARM's situation trapped in China's quagmire. Even Masayoshi Son would find it difficult to escape easily. What if Samsung Electronics or SK Hynix had acquired ARM after Nvidia gave up? The situation likely would not have changed much.