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ARM Holdings plc Reports Results for the Third Quarter and Nine Months Ended 30 September 2007

25 October 2007

A conference call with the company will be audiocast today at 08:30 at http://www.arm.com/ir.

CAMBRIDGE, UK, 25 October 2007-ARM Holdings plc [(LSE: ARM); (Nasdaq: ARMHY)] announces its unaudited financial results for the third quarter and nine months ended 30 September 2007

Highlights (US GAAP unless otherwise stated)

  • YTD dollar revenues at $384.0m, up 9% on 2006
    • Q3 dollar revenues at $125.6m, up 4% on Q3 2006
  • Strong licensing traction across ARM® processor technology portfolio
    • PD license revenue up 24% YTD
    • Seven Cortex™ family licenses signed in Q3 (including three for the next-generation Cortex processor)
    • 500th processor license signed in Q3
  • Continued focus on leading-edge physical IP technology development for long-term value creation
    • Physical IP license revenue $3.8m lower than Q3 2006 at $12.7m
    • Underlying physical IP royalties up 15% sequentially
    • First 45nm SOI physical IP license signed early in Q4
  • Continuing cost discipline
    • Normalised Q3 operating expenses lower for third consecutive quarter at £36.5m (US GAAP £45.5m)
    • Normalised Q3 gross and operating margins at 89.8% and 31.8% (US GAAP 16.9%) respectively
    • FY 2007 normalised operating expenses expected to be less than 2% higher than FY 2006
  • Normalised Q3 EPS up 15% on Q3 2006 at constant currency
  • Record quarterly cash flow generation of £21.1m
    • £33m share buyback in Q3
    • Expected to accelerate further in Q4 in line with year-end net cash target of £50m
    • Net cash balance of £99.3m at end Q3

Outlook

  • Positive outlook for Q4 and beyond due to strong pipeline and demand for new technology
  • Anticipate Q4 revenues will see a meaningful uplift on Q3
    • Healthy and improving licensing pipeline
    • Improving industry environment underpinning royalties
    • Seasonal strength in royalties and Development Systems
    • Higher backlog conversion to revenue in the Physical IP Division
  • Reiterating confidence in achieving FY earnings in line with expectations

Commenting on the results, Warren East, Chief Executive Officer, said:
“Against a backdrop of gradually improving industry conditions, we are pleased to report revenue growth in the first nine months at approximately twice the rate of the industry as a whole. Increasing market penetration of ARM technology into consumer electronic products combined with continuing cost discipline and strong cash flow generation have boosted the operating margin and enabled us to accelerate the share buyback programme.

With strong interest in our latest processor technology, good progress in the development of our leading-edge physical IP and in expectation of a meaningful uplift in Q4 revenues compared to Q3, we look forward to the end of 2007 and the start of 2008 with confidence.”

Q3 2007 – Revenue Analysis

 

Revenue ($M)***

Revenue (£M)

 

Q3 2007

Q3 2006

% Change

Q3 2007

Q3 2006

% Change

Processor Division (PD)

 

 

 

 

 

 

  Licensing

42.4

35.0

+21%

21.5

19.0

+13%

  Royalties

42.6

40.3

+6%

21.1

21.4

-1%

Total PD

85.0

75.3

+13%

42.6

40.4

+5%

Physical IP Division (PIPD)

 

 

 

 

 

 

  Licensing

12.7

16.5

-23%

6.2

8.9

-30%

  Royalties

8.01

9.11

-12%

4.01

4.81

-17%

Total PIPD

20.7

25.6

-19%

10.2

13.7

-26%

Development Systems

12.3

12.1

+2%

6.1

6.5

-6%

Services

7.6

7.7

-1%

3.9

4.2

-7%

Total Revenue

125.6

120.7

+4%

62.8

64.8

-3%

1 Includes catch-up royalties in Q3 2007 of $0.3m (£0.1m) and in Q3 2006 of $0.7m (£0.4m).

YTD 2007 – Revenue Analysis

 

Revenue ($M)***

Revenue (£M)

 

YTD 2007

YTD 2006

% Change

YTD 2007

YTD 2006

% Change

PD

 

 

 

 

 

 

  Licensing

125.1

100.9

+24%

64.1

56.2

+14%

  Royalties

127.7

121.3

+5%

64.3

66.4

-3%

Total PD

252.8

222.2

+14%

128.4

122.6

+5%

PIPD

 

 

 

 

 

 

  Licensing

43.6

46.0

-5%

21.9

25.5

-14%

  Royalties

23.61

25.41

-7%

11.91

14.01

-15%

Total PIPD

67.2

71.4

-6%

33.8

39.5

-14%

Development Systems

40.0

39.0

+3%

20.2

21.5

-6%

Services

24.0

20.7

+16%

12.4

11.6

+7%

Total Revenue

384.0

353.3

+9%

194.8

195.2

 

1 Includes catch-up royalties in YTD 2007 of $2.4m (£1.2m) and in YTD 2006 of $2.4m (£1.4m). 

Q3 2007 – Financial Summary

 

£M

US GAAP Normalised*

US GAAP Reported

Q3 2007

Q3 2006

Q3 2007

Q3 2006

Revenue

62.8¹

64.8

62.8

64.8

Income before income tax

21.3

21.2

12.0

12.6

Operating margin

31.8%

30.1%

16.9%

16.9%

Earnings per share (pence)

1.12

1.12

0.63

0.67

Net cash generation**

21.1

17.9

 

 

Effective fx rate  ($/£)

2.00

1.86

 

 

¹ Equivalent to £67.5m at Q3 2006 effective $/£ rate

YTD 2007 – Financial Summary

 

£M

US GAAP Normalised*

US GAAP Reported

YTD 2007

YTD 2006

YTD 2007

YTD 2006

Revenue

194.8¹

195.2

194.8

195.2

Income before income tax

65.4

68.9

36.7

47.7

Operating margin

31.3%

32.6%

16.6%

19.1%

Earnings per share (pence)

3.43

3.61

1.97

2.52

Net cash generation**

46.6

37.0

 

 

Effective fx rate  ($/£)

1.97

1.81

 

 

¹ Equivalent to £212.2 m at YTD 2006 effective $/£ rate

Current trading and prospects

We anticipate Q4 revenues will see a meaningful uplift on Q3, based primarily on a healthy and improving licensing pipeline, backlog conversion to revenue and momentum in royalties, driven by an improving industry environment, seasonality and further market penetration of ARM technology into consumer electronics products.

Early licensing activity and royalty reports received to date in Q4 are encouraging. As a result, given continuing careful management of costs and assuming the dollar/sterling exchange rate remains broadly at $2/£1, we remain confident of achieving full-year earnings in line with expectations.

CONTACTS:

Fiona Laffan/Pavla Shaw Tim Score/Bruce Beckloff
Brunswick ARM Holdings plc
+44 (0)207 404 5959 +44 (0)1628 427800

* Normalised figures are based on US GAAP, adjusted for acquisition-related, share-based remuneration and restructuring charges. For reconciliation of GAAP measures to normalised non-GAAP measures detailed in this document, see notes 6.1 to 6.27.
** Before dividends and share buybacks, net cash flows from share option exercises and acquisition consideration - see notes 6.14 to 6.18.
*** Dollar revenues are based on the group's actual dollar invoicing, where applicable, and using the rate of exchange applicable on the date of the transaction for invoicing in currencies other than dollars. Approximately 95% of invoicing is in dollars.
**** Each American Depositary Share (ADS) represents three shares.


Financial review
(US GAAP unless otherwise stated)

Total revenues
Total dollar revenues in Q3 2007 were $125.6 million, up 4% on Q3 2006. Sterling revenues of £62.8 million were down 3% due to a significant weakening of the dollar against sterling ($2.00 in Q3 2007 compared to $1.86 in Q3 2006). At the Q3 2006 effective rate, Q3 2007 sterling revenues would have been £67.5 million.

Year-to-date dollar revenues in 2007 amounted to $384.0 million, up 9% on 2006.

License revenues
Total dollar license revenues in Q3 2007 grew by 7% to $55.1 million, representing 44% of group revenues, compared to $51.5 million in Q3 2006. License revenues comprised $42.4 million from PD and $12.7 million from PIPD.

Year-to-date dollar license revenues amounted to $168.7 million, up 15% on 2006.

Royalty revenues
Total dollar royalty revenues in Q3 2007 were up 2% at $50.6 million, representing 40% of group revenues, compared to $49.4 million in Q3 2006. Royalties were up 7% sequentially, reflecting the gradual unwinding of the inventory correction in the industry and generally higher foundry utilisation levels. Royalty revenues comprised $42.6 million from PD and $8.0 million from PIPD (including $0.3 million of “catch-up” royalties). Underlying royalties of $7.7 million for PIPD were up 15% sequentially, consistent with higher foundry utilisation levels.

Year-to-date dollar royalty revenues amounted to $151.3 million, up 3% on 2006.

Development Systems and Service revenues
Sales of development systems in Q3 2007 were up 2% to $12.3 million, representing 10% of group revenues, compared to $12.1 million in Q3 2006. Consistent with previous years, development system revenues decreased sequentially in the third quarter due to seasonality and are expected to benefit from the normal seasonal pick-up in Q4.

Service revenues in Q3 2007 were down 1% year-on-year at $7.6 million, representing 6% of group revenues, compared to $7.7 million in Q3 2006.

Year-to-date development systems revenues were $40.0 million, up 3% on 2006. Service revenues were up by 16% to $24.0 million.

Gross margins
Gross margins in Q3 2007, excluding stock-based compensation charges of £0.3 million (see below), were 89.8% compared to 87.7% in Q3 2006.

Year-to-date gross margins, excluding stock-based compensation charges of £0.8 million, were 89.7% compared to 88.6% in 2006.

Operating expenses and operating margin
Total operating expenses in Q3 2007 were £45.5 million (Q3 2006: £45.7 million) including amortisation of intangible assets and other acquisition-related charges of £4.8 million (Q3 2006: £4.6 million) and £4.1 million (Q3 2006: £3.7 million) in relation to stock-based compensation charges. The total stock-based compensation charges of £4.4 million in Q3 2007 are included within cost of revenues (£0.3 million), research and development (£2.5 million), sales and marketing (£0.9 million) and general and administrative (£0.7 million). Normalised Q3 and year-to-date income statements for 2007 and 2006 are included in notes 6.24 to 6.27 below which reconcile US GAAP to the normalised non-GAAP measures referred to in this earnings release.

Operating expenses (excluding acquisition-related, stock-based compensation and restructuring charges) in Q3 2007 were £36.5 million compared to £37.8 million in Q2 2007 and £37.4 million in Q3 2006. This represents the third consecutive quarter of sequential reduction in operating expenses, as the current year cost impact of the increased headcount through 2006 is more than offset by the benefits of re-balancing the group’s resources between higher and lower cost areas (see People section below) and general rigorous management of operating expenses.

Normalised research and development expenses were £14.8 million in Q3 2007, representing 24% of revenues, compared to £15.5 million in Q2 2007 and £15.5 million in Q3 2006. Normalised sales and marketing costs in Q3 2007 were £10.3 million, representing 16% of revenues, compared to £10.5 million in Q2 2007 and £10.0 million in Q3 2006. Normalised general and administrative expenses in Q3 2007 were £11.4 million, representing 18% of revenues, compared to £11.9 million in Q2 2007 and £11.9 million in Q3 2006.

Normalised operating margin in Q3 2007 was 31.8% (6.1) compared to 32.0% (6.2) in Q2 2007 and 30.1% (6.3) in Q3 2006. Operating margins in Q3 2007 were higher than Q3 2006 despite an 8% weakening of the US dollar against sterling. At constant currencies, using the Q3 2006 effective rate of $1.86/£1, the operating margin for Q3 2007 would have been approximately 34%.

Total operating expenses for the first nine months of 2007 were £141.5 million, including acquisition-related, stock-based compensation and restructuring charges of £14.7 million, £12.3 million and £0.9 million respectively. Excluding these charges, operating expenses for the first nine months were £113.6 million, compared to £109.3 million in 2006, an increase of 4%. Full-year operating expenses in 2007 are expected to be less than 2% higher than the £150.1 million reported in 2006. Operating expenses in 2008 are expected to increase by a more typical 5-10% year-on-year.

Normalised operating margin in the first nine months of 2007 was 31.3% (6.4) compared to 32.6% (6.5) in 2006.

Earnings and taxation
Income before income tax in Q3 2007 was £12.0 million compared to £12.6 million in Q3 2006. After adjusting for acquisition-related, stock-based compensation and restructuring charges, normalised income before income tax in Q3 2007 was £21.3 million (6.6) compared to £21.2 million (6.8) in Q3 2006. The group’s effective tax rate under US GAAP for the full-year 2007 is expected to be in the range 26-27%, reflecting the availability of research and development tax credits and taking into account the benefits arising from the structuring of the Artisan® acquisition.

In Q3 2007, fully diluted earnings per share prepared under US GAAP were 0.63 pence (3.8 cents per ADS****) compared to earnings per share of 0.67 pence (3.8 cents per ADS****) in Q3 2006. Normalised fully diluted earnings per share in Q3 2007 were 1.12 pence (6.19) per share (6.8 cents per ADS****) compared to 1.12 pence (6.21) (6.3 cents per ADS****) in Q3 2006.

Balance sheet
Intangible assets at 30 September 2007 were £379.1 million, comprising goodwill of £336.0 million and other intangible assets of £43.1 million, compared to £341.0 million and £48.1 million respectively at 30 June 2007.

Total accounts receivable were £65.0 million at 30 September 2007, comprising £37.6 million of trade receivables and £27.4 million of amounts recoverable on contracts, compared to £75.0 million at 30 June 2007, comprising £44.2 million of trade receivables and £30.8 million of amounts recoverable on contracts. Days sales outstanding (DSOs) were 39 at 30 September 2007 compared to 51 at 30 June 2007.

Cash flow, share buyback programme and interim dividend
Net cash at 30 September 2007 was £99.3 (6.11) million compared to £108.9 (6.12) million at 30 June 2007. Normalised cash generation in Q3 2007 was £21.1 million (6.14).

During the quarter, £33.3 million of cash was returned to shareholders, an increase of 30% on Q2 2007, through the purchase of 23 million own shares. It is anticipated that the buyback programme will resume after the announcement of these results and will be accelerated further in Q4 2007, consistent with achieving the previously- reported year-end target net cash balance of £50 million.

Operating review

Backlog
Having achieved record bookings for the seasonally slower third quarter, group order backlog at the end of Q3 was slightly lower than at the end of Q2. The licensing pipeline as we enter Q4 comprises a healthy mix of ARM’s newest and more mature technologies.

PD Licensing – Equipping the Leading Semiconductor Companies with ARM Processor IP
ARM signed 17 processor licenses in Q3, including its 500th license in total. The quarter was characterised by strong take-up of our latest technology with seven additional Cortex family licenses and the fourth license for the Mali™ graphics processor being signed. Seven new companies licensed ARM processor technology for the first time.

ARM announced its next-generation processor, the Cortex-A9, at the ARM Developer Conference in October. Customer interest in this market-leading technology is significant, illustrated by NEC Electronics, NVIDIA, ST Microelectronics and Texas Instruments having already signed licenses as early lead partners for the product. The Cortex-A9 processor incorporates numerous efficiency improvements over previous processors with its new multiprocessing capability enabling significantly enhanced processing and power utilisation performance.

Q3 2007 and Cumulative PD Licensing Analysis

 

Multi-use

Term

Per-use

 

Cumulative

 

U

D

N

U

D

N

U

D

N

Total

Total

ARM7

 

 

 

 

 

 

 

 

 

 

151

ARM9

 

 

3

 

 

 

 

 

3

6

233

ARM11

1

 

 

 

 

 

 

 

 

1

58

Cortex-M3

1

 

 

1

 

 

 

 

 

2

11

Cortex-R4

 

1

 

 

 

 

 

 

 

1

10

Cortex-A8

 

 

 

 

1

 

 

 

 

1

9

Cortex-A9

1

2

 

 

 

 

 

 

 

3

4

Mali

 

 

 

 1

 

 

 

 

 

1

4

Other

 

 

 

 

 

 

 

1

2

28

 

 

 

 

 

 

 

 

 

Total

17

508

U: Upgrade     D: Derivative     N: New

PD Royalties – Broadening the Usage of ARM Processor IP
PD unit shipments in Q2 (our partners report royalties one quarter in arrears) increased 7% sequentially and 12% versus Q3 2006 to 694 million units. ARM9™ family shipments increased to 43% of total units, including 20% relating to ARM926EJ-S™ processor shipments. ARM11™ family shipments now comprise just under 2% of total shipments.

ARM royalties for Q3 were consistent with the results seen by our partners in Q2, reflecting the early stages of the unwinding of the semiconductor inventory correction which began in Q3 2006. The proportion of shipments into the mobile and non-mobile segments remained broadly consistent with shipments in Q1 at 67% and 33% respectively. We continue to see strength in our embedded segment, rising to 12% of shipments in the quarter, in part due to the continued significant growth in MCU shipments. The ARM partnership shipped more than 2.5 times the number of ARM technology-based MCUs in Q2 2007 compared to Q2 2006.

In Q4, we expect royalty revenues to benefit from the improving semiconductor cycle, the usual seasonal uptick ahead of the holiday season, an increase in the number of ARM cores per handset as shipments of smartphones continue to gather momentum and the continued rapid growth of ARM technology-based MCU shipments.

PIPD Licensing – Extending the IP Outsourcing Model to ARM Physical IP
PIPD license revenue in Q3 2007 was lower at $12.7 million compared to $14.0 million in Q2 2007 and $16.5 million in Q3 2006. As in Q2 2007, conversion of order backlog into revenue was lower than expected in Q3 as a higher proportion of the physical IP engineering effort continued to be deployed on the development of customer-driven, leading-edge technology. The conversion of backlog to revenue is expected to be higher in Q4 following completion of specific customer requirements in Q3.

ARM signed two licenses in Q3 for earlier generation physical IP technology (one at 65nm and one at 130nm process nodes) with top 20 integrated device manufacturing companies (‘IDMs’). These licenses are significant for two reasons. Firstly, they are indicative of growing demand for ARM physical IP by industry-leading IDMs, beyond the traditional PIPD foundry customer base. Secondly, they represent continued demand for ARM physical IP across the technology nodes, complementing our customers’ in-house physical IP design activities.

We have also seen a growing demand for our silicon on insulator (‘SOI’) physical IP products. In Q3, we signed our second license for SOI physical IP at the 180nm process node and early in Q4 we signed our first 45nm SOI physical IP license, marking the first 45nm SOI physical IP to be provided by an independent provider of physical IP.

PIPD Royalties – Broadening the Usage of ARM Physical IP
Underlying PIPD royalties were strong in Q3 2007, increasing 15% sequentially. As foundry utilisation and foundry revenues have continued to improve in Q3, we would expect to see sequential improvement in the underlying royalties reported for PIPD in Q4 2007.

People
At 30 September 2007, ARM had 1,735 full-time employees, a net increase of 76 since the start of the year. Year-to-date headcount has increased by 100 in India and China and decreased by 24 in ROW, illustrating the ongoing regional re-balancing of ARM’s resources. At the end of Q3, the group had 658 employees based in the UK, 531 in the US, 188 in Continental Europe, 289 in India and 69 in the Asia Pacific region.

Legal matters
ARM is involved in ongoing litigation proceedings with Nazomi Communications, Inc. and Technology Properties Limited, Inc. In both cases, a district court has found in favour of ARM and both cases are now pending before the Court of Appeals for the Federal Circuit. Details are set out in the 2006 Annual Report on Form 20-F filed with the Securities and Exchange Commission on 11 April 2007. Based on independent legal advice, ARM does not expect any significant liability to arise in respect of these proceedings.

Download the ARM Holdings plc Financial Tables of Results (36KB PDF) for Q3 and Nine Months Ended 30 September 2007.

Note
The results shown for Q3 2007, Q3 2006, YTD 2007 and YTD 2006 are unaudited. The results shown for FY 2006 are audited. The financial information contained in this announcement does not constitute statutory accounts within the meaning of Section 240(3) of the Companies Act 1985. Statutory accounts of the Company in respect of the financial year ended 31 December 2006, upon which the Company’s auditors have given a report which was unqualified and did not contain a statement under Section 237(2) or Section 237(3) of that Act, have been delivered to the Registrar of Companies.

Except for changes in accounting policy on the adoption of new accounting standards, as disclosed, the results for ARM for Q3 2007 and previous quarters as shown reflect the accounting policies as stated in Note 1 to the US GAAP financial statements in the Annual Report and Accounts filed with Companies House in the UK for the fiscal year ended 31 December 2006 and in the Annual Report on Form 20-F for the fiscal year ended 31 December 2006.

This document contains forward-looking statements as defined in section 102 of the Private Securities Litigation Reform Act of 1995. These statements are subject to risk factors associated with the semiconductor and intellectual property businesses. When used in this document, the words “anticipates”, “may”, “can”, “believes”, “expects”, “projects”, “intends”, “likely”, similar expressions and any other statements that are not historical facts, in each case as they relate to ARM, its management or its businesses and financial performance and condition are intended to identify those assertions as forward-looking statements. It is believed that the expectations reflected in these statements are reasonable





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