ATI takes chip wars to TV, Net devices

As with S3, Broadcom, and Intel, ATI is trying to use its core product--in this case, graphics chips--as a hub for developing entire systems for low-cost Net devices and TV set-top boxes.

The burgeoning area is a huge opportunity fraught with equally gigantic risks. Nonetheless, ATI is at least going in with a decent track record and strong sales, which could make it a formidable contender in a wide-open field.

ATI today reported sales of $302 million for the third quarter, up 65 percent from $182.8 million posted in the like period last year. Earnings, excluding acquisition and other costs, rose to $35.9 million, or 17 cents a share, vs. $26.5 million, or 12 cents a share, for the corresponding quarter of 1998. Including one-time charges, earnings came to $18.6 million, or 9 cents per share.

While nearly all of ATI's revenue comes from graphics, the company is beginning to diversify its products. ATI is preparing for dramatic changes in the computer market revolving around low-cost consumer devices, chief executive Kwok Yuen Ho said in an interview with CNET News.com.

To meet the demands of this market, next year the company is planning to bring a single chip that combines the main processor with a graphics processor, memory, and chipset, he said. This would position ATI as a supplier of most of the critical electronic components in consumer appliances, akin to Intel's role in the PC business.

"This market will be a lot bigger than people expect," Ho said. "Computing devices will become much different. They will become so cheap that people will have several devices." ATI has already tested the waters in this market by supplying chips for General Instrument's advanced DCT-5000 TV set-top box. That contract is worth close to $190 million.

Ho would not say where it will get the technology for the main processor in the system-on-a-chip it plans for next year. The company has an integrated chip design for the General Instrument box that uses a MIPS processor.

Technology hurdles
But analysts say forays into this market by others indicate that it is no easy task to make money. The devices themselves will sell for low prices, and so too will their chips. Integrated chips, moreover, come with their own development and design complications.

As with a lot of technology, they often look best on paper.

"It would be remarkable if ATI can work around the standard problems with such chips," said Peter Glaskowsky, an analyst at Microprocessor Report. He said a system on a chip takes "longer to design because of interdependencies among the elements [and] that they cost more to make...and become obsolete more quickly because of the difficulty of updating each element as new technology becomes available."

Ho also said that they are preparing integrated chips for the PC market. Chromatic Research, which ATI purchased in November of last year, specializes in system-on-a-chip technologies.

All of this is being driven by the need to adjust to a new computing world that emphasizes price over performance.

"We have to reduce costs," Ho said, adding that ATI sells a lot of its chips to low-cost PC makers. He also pointed to increased sales in the notebook PC market, where ATI is ranked third behind NeoMagic and Intel: "We intend to be No. 1 next year."

But rival S3, which fell on hard times last year and lost its No. 1 standing in the desktop market to ATI, is racking up a number of contracts to supply its new Savage4 graphics chip to PC makers, including such leaders as Compaq Computer and IBM. S3 is also working on an integrated chip with Via for release this year.

Strong competition
"There are no guarantees in this business...S3's Savage4 is matching or beating ATI on value, Nvidia's TNT2 is the fastest chip on the market, and the laptop market is still wide open. I don't think ATI or any other company can win so many fights at once," Glaskowsky said.

ATI cited new customer victories of its own for its new Rage 128 chip for desktops. In addition to Apple Computer, the chip is used in Gateway business desktops, a Hewlett-Packard Pavilion consumer PC model, and Acer computers.

"ATI has done a great job over the last few years. It has good 3D technology, good software, and good relationships with [customers.] ATI is the strongest overall company in the 3D market, and it is likely to maintain this position for the next year," Glaskowsky said.

In other financial highlights, ATI said gross margins were 37 percent for the third quarter, compared with 36.9 percent in the like period last year.

Operating costs in the third quarter increased 96 percent year over year to $63.5 million, up from $32.3 million for the third quarter of fiscal 1998. This was largely attributable to the expected increase in R&D expenditures relating to the acquisition of the Chromatic development team and increased costs related to developing additional product lines.