SAN FRANCISCO -- The embedded-processing market is undergoing a massive shakeout, forcing companies to exit the sector, shift strategies, or put up a for sale sign.
Although a recovery in the chip industry is under way, a lack of venture capital and the yearlong industry slump have left many licensable-IP and fabless IC-core start-ups weak and vulnerable.
"There's always the tendency to overfund and put too much VC money into too small a market," said Mike Gulett, chief executive of ARC International plc, at the Embedded Systems Conference here this week.
"It's happened over and over again, and that contributes to a natural shakeout. This recession has also hit everybody hard, and a lot of the smaller guys aren't going to make it through. A start-up company right on the edge can't afford 18 months of recession. They have to get acquired or change their business model."
Gulett became chief executive of the San Jose supplier of RISC and DS P processor cores in December, following a housecleaning of the company's management staff. Gulett said he and several other senior-level executives have been brought in to ARC to address "an unfulfilled business opportunity," but with $175 million in cash still on hand, the company "can weather any storm that comes up."
Other start-ups in the processor-core and IP market may not be as fortunate. Several companies are struggling to keep their efforts afloat, analysts and industry insiders said this week. The shakeout has already started for a variety of reasons.
"In the whole IP world, there are not a whole lot of exit strategies," said Eric Mack, director of strategic marketing at 3DSP Corp., Irvine, Calif. "You go public, you get bought, or you fade away. Going public is the difficult path, and you really can't do that on licensing alone. You can't get to a $100 million a year on licensing fees, or at least it takes a long time."
Changes under way
Earlier this ye ar, Lexra Inc., a supplier of MIPS-based clone processor cores, and picoTurbo Inc., a supplier of ARM-based processor clones, were forced to abandon their efforts when they lost successive longstanding court battles with MIPS Technologies Inc. and ARM Ltd.
Upon settling its suit with MIPS, Lexra said it would pursue plans to become a fabless semiconductor company. At the time, the company said it had to revamp its strategy anyway after losing three licensing agreements with major telecom companies. Plans at picoTurbo, which had to cease all sales and marketing activities and transfer its product designs and IP assets to ARM, are unclear.
Chameleon Systems Inc., a San Jose supplier of reconfigurable DSP chips, last month changed its management, cut 50% of its staff, and admitted it had to rework its architecture. Having retreated to the development lab after its Reconfigurable Communications Processor (RCP) failed to find a market in wireless infrastructure, Chameleon plans to re-emerge next year spo rting a new product line and a somewhat different focus.
According to Peter Feist, recently appointed chief executive, the original RCP is now a history lesson, but its engine -- a powerful streaming-data processor -- will be at the heart of a new thrust into areas such as image processing and voice-over-IP.
While the company hasn't abandoned all hope of participating in the wireless basestation market, Feist said the reconfigurability that once made its product attractive for 3G applications will be considered a secondary benefit.
Also last month, Austin, Texas-based Alchemy Semiconductor Inc. ended its run as a start-up provider of MIPS-based processor cores when Advanced Micro Devices Inc. acquired it for $50 million in cash. Phil Pompa, a founder and executive at Alchemy who now serves as vice president of marketing at AMD's Personal Connectivity Solutions unit, said acquisition was the best outcome for Alchemy's investors and employees.
"It was the best way to get payback, and it was c ertainly something we needed to do," Pompa said. "If you talk to investment bankers about start-ups that have what they call a positive exit, either through an acquisition or an IPO, 75% to 80% is through an acquisition. The reality in the semiconductor business, even in the best of times, is the chances are greater that you will be acquired than make it to an IPO."
VCs taking closer look
Venture capitalists are scrutinizing which start-ups they will continue to support in the wake of the industry's unprecedented downturn, he said. Investors are weighing how much cash remains on hand, at what rate it is spending cash, and how long it will take the company to move into a positive revenue flow.
"A lot can depend on where the company is in the funding cycle," Pompa said. "If they're looking for a third round, they need to be hitting that magic number of about $2 million a quarter in revenue. Those companies that are still pre-revenue and are looking for more money are find ing it hard to attract more capital."
One company being watched closely is BOPS Inc., a Mountain View, Calif., supplier of DSP IP that has been talking to suitors about a possible acquisition, according to analysts. Carl Schlachte, chairman and chief executive of BOPS, this week denied the company is pursuing acquisition, but admitted that "we're interested in talking. Like any other start-up, if the right offer comes along, you have to listen. It's no big secret that the last year was difficult. The drying up of capital forces you to look at alternatives."
BOPS, like many companies, suffered through a drop in revenue in 2001, "and a number of expected licensing agreements were pushed out," Schlachte said. "We believe we're in position for substantial growth in 2002, but cash is king and you don't say no to the right offer."
BOPS is similar to a number of start-ups "that were getting very close to making it over the hump, and then the 9/11 incident and the whole state of the economy resulted in t heir VC money running out and design wins being put on hold," said Markus Levy, an analyst at Micro-Design Resources Inc., Sebastopol, Calif. "BOPS had done a lot of things right and had some momentum, and really, they're not dead yet. But, like a number of companies, they're having to regroup and try to figure a way out of this."
Some start-ups have been tweaking their operational models, such as ARC, which has gone from being primarily a licenser of stand-alone processor cores to a system-level solutions provider through a series of acquisitions. The same is true of DSP specialist 3DSP, which is now a fabless IC provider instead of a pure IP company.
"I think that's the right way to go for anyone," said Will Strauss, an analyst at Forward Concepts Co., Tempe, Ariz. "The pure IP model just doesn't have enough return to excite the VCs when they've got to wait three years for a royalty stream."
The shakeout in the IP and processor core market is still in the early stage, observers said, and exactl y what the landscape will be in a few years is debatable. ARC's Gulett said as few as three or four of the start-ups will survive long term. AMD's Pompa believes fewer than 50% will be able to keep their business models intact.
"Attitudes have changed. The market and funding environments have changed. And consequently, the business plans have to change as well," Strauss said. "We're entering a second stage, and perhaps it's the darkest-before-the-dawn stage. We see signs of recovery, but some companies are not going to be able to hang on that long. Many VCs are becoming very hesitant to throw good money after bad."