INTC longs, an educated view:
SMARTMONEY.COM: Intel, The Day After
By CINTRA SCOTT
NEW YORK -- A stock that climbs 6,000% over 10 years wins a lot of supporters. It also makes a lot of people nervous. So you probably weren't alone if you looked at Intel's (INTC) 22% plunge on Friday and found yourself paraphrasing Hamlet.
To buy or not to buy.
Trained as we are these days to "buy on the dips," the world's biggest chip company certainly looked tempting at Friday's close of $47.94 - some 37% off its 52-week high. But it also felt creepy. After all, despite the Nasdaq Composite's 7% fall this year, mighty Intel has climbed 20%. And that's after the chip maker's shares got hammered Friday.
In case you didn't hear the market-shaking news, click here for the story. But briefly, Intel warned that third-quarter revenues would grow about half as fast - 3% to 5%, sequentially - than analysts had been expecting. Like a spate of other company's this week, it blamed weakening demand in Europe for much of the malaise.
If Intel were a drug company with a simple revenue glitch, it might be a more obvious bargain. But debate has raged all summer over the sustainability of the notorious personal computer- and chip-demand cycle. In some ways this would seem to put a nail in the coffin," said Needham & Co. analyst Dan Scovel Thursday night. That's the kind of thing that could bring out the Dane in the any of us.
The Intel analyst community was certainly tortured on Friday. While nine analysts downgraded the company, their new recommendations are remarkably mixed - running the gamut from Sell to Buy.
The bearish point of view could be summed up by Goldman Sachs analyst Joe Moore. In a note Friday, the analyst told clients to be wary of Intel's valuation and announced the firm was kicking the stock off its vaunted Recommended List. Moore said he believes that Europe's problems have been known for some time, so it's unlikely that Intel's woes were solely European. In fact, Intel itself was cautioning analysts about Europe "very early in the quarter," Moore reported. So he thinks that while Europe is clearly a problem, there may be demand weakness elsewhere.
Indeed, Moore thinks there's another shoe to drop. "For the first eight months of the year, Intel cited exceptional PC demand in an environment where most PC companies characterized demand as 'normal'," Moore said in his report. What left analysts scratching their heads was how Intel, maker of the popular Pentium chips for PCs, could report surprisingly strong demand when its clients, the PC makers, weren't.
Now Moore has come up with a theory to explain the mystery: Due to its much publicized manufacturing problems earlier this year, Intel hasn't always been able to fulfill its clients' demands. As a result, PC makers have aggressively ordered chips so that they won't be caught empty-handed (and thus lose market share) if PC demand outstripped expectations. But since the components shortage seems to have eased a bit, PC makers may have relaxed their aggressive ordering, Moore speculates.
"As availability has improved, [PC makers] are able to take the inventory levels down," Moore explained. Not that Moore think this explains the warning. Europe explains that, but "potential for upside in other regions was taken away by this inventory variance," Moore concludes.
The Goldman analyst isn't alone in his belief that inventories may be building at Intel. U.S. Bancorp Piper Jaffray analyst Ashok Kumar downgraded Intel in early September precisely because he thought sequential growth would slow in the third quarter due to a growing overhang of chip inventories.
Moore thinks Intel's valuation is likely to deflate, "settling into a trading range in the mid-$50s" - 35 times his 2001 EPS estimate. He prefers to "move to the sidelines given the lack of identifiable catalysts in 2000."
A more bullish view came from Lehman Brothers analyst Dan Niles, who still thinks there are plenty of catalysts. On Friday, however, the only thing most people heard from Niles was his apology to clients. The one-time Wall Street Journal All-Star blew it big on Thursday morning when he issued a note touting Intel stock. In it he predicted the company might beat expectations in the third quarter, and he even felt Intel stood a chance of improving margins.
That was unfortunate, but Niles is one of the more respected chip analysts on the Street and deserves a hearing. In an interview Friday, the analyst said he now agrees that Europe can't explain everything. But he disagrees with the notion that the stock will lack catalysts for the rest of the year. "Intel chose to take its lumps now instead of robbing from its fourth quarter," he says. "Some other companies might scramble to make revenue goals and then hope that they can make up for it in the 90 days of the next quarter."
The long-time bull - and former Intel employee - believes we're coming upon the biggest product cycle for Intel in five years. He's talking about demand created by Microsoft's (MSFT) introduction of several new software products that demand fast processors to run - its SQL Server 2000, its Exchange 2000 Server and the upgrade Service Pak 1 for Windows 2000. Those products will create a lot of pull for new computers and upgrades. And that, he thinks, will drive demand in the fourth quarter and next year.
Niles adds that the problems in Europe weren't so obvious: "I don't think you can say the impact of Europe was known before." He notes that in recent weeks the euro has fallen far lower and oil climbed far higher than most predicted.
Niles dramatically reduced his Intel earnings estimates on Friday for both 2000 (to $1.63 from $1.74) and 2001 (to $1.72 from $1.90) to factor in the European risk. At the same time, however, he hopes he's being overly cautious. "As we saw with the Asian currency crisis, [Wall Street braced itself for the worst] and the Nasdaq ended up soaring in 1999. And this isn't as bad as the Asian currency crises," he says.
So what should investors do? Niles admits he can't predict Europe's economic future, "But if you think oil prices will go down...and the euro will go up," Intel future gains look good to him.
While he sees Intel trading around $50 amid the uncertainty, his new price target is $65 (from $88, to account for his reduced 2001 estimate). At the same time, Niles believes a multiple expansion "is possible as business improves and confidence rebuilds."
Unfortunately for Intel investors, that rebuilding effort may take some time.
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