One analyst's view of INTC, dated October 17.
bull-market.com
Text follows:
INTEL - Still In A Trading Range
By Joe Arena
October 17, 1998
As long term Intel investors search for answers after the company reported better than expected earnings and the stock failed to respond, it is germane to focus on the long term outlook. Certainly, the stock should not have responded positively when the recently reported 89 cents per share quarterly earnings is compared with the comparable 1997 quarter. In addition, Intel's guidance going forward was nothing to get investors excited about in 1999. Finally, in the midst of an explosive rally in the Semiconductor Index, Intel's failure to participate provides further evidence that Wall Street may be starting to sense that the company's future growth will not approach previous levels.
For those who have not been following my analysis of Intel over the past three years, you will recall I turned neutral on the stock in November 1997, and sold my position of five years in May (at a cost basis of $6 per share) after trading covered calls for six months.
The profits were invested in adding to my Microsoft position, as well as Cisco and Microsoft 2001 calls. With each passing day, it appears that this long term portfolio restructuring was the right call.
Since I have written extensively on the challenges that Intel is facing in terms of sustaining earnings growth, I will simply summarize again the salient points. First and foremost, Intel is facing the prospect of declining market share and concomitant decreases in average selling prices (asp's). The first indication of declining asp's manifested itself in 1997, when unit shipments increased a whopping 47%, but revenue was up just 29%. In regard to market share, the ineptitude of Advanced Micro Devices in terms of fixing their yield problems prolonged Intel's dominance, coupled with the fact that the development of new software continued to drive the need for greater microprocessor power. Both of these scenario's no longer hold true. Furthermore, a recent study by Dataquest projects Intel's market share to decline to 80% in 2002. Combined with another Dataquest study which estimates that Intel's average selling price in the PC market will decline from $190 to $153 in 2002, you have some powerful market trends hindering earnings growth.
Consider also some other market trends. In 1997, 68% of PC's sold for more than $1500; in 2002, 70% will sell for less than $1500. In the key $1000-$1500 segment, Intel's share is projected to decline to around 60-65%. Consequently, while the PC market is expected to achieve a compound annual growth rate of 10%, Intel's market share declines should result in approximately 7% growth. Thus, it becomes imperative that Intel offset what is happening in the retail market with strong growth in the server and workstation business. The key question is whether growth and asp's in these segments will be sufficient to reach this goal.
If Intel's execution in the server and workstation business is flawless, it can easily be argued that double digit earnings growth will return. The server business should represent about $63 billion in revenue by 2002, according to Dataquest. Intel's share of this business should increase to the range of 70-75%. Over the next few years, more than half of Intel's growth is expected to come from penetrating the high-end server and workstation markets. However, the delay of Merced underscores the difficulty that Intel may face attempting to penetrate this segment.
In going after the enterprise computing business, Intel will face formidable competition from IBM, Sun Microsystems, and Compaq. All of these companies offer proprietary solutions which run mission critical applications in the corporate segment. The challenge here is twofold. First, how quickly can Intel make significant inroads into this business to maintain gross margins and fuel earnings growth? Second, since these competitors offer proprietary solutions and are already entrenched in this segment of the business, Intel will not be in a business where it is selling the bullets; it will be fighting the war. Thus, similar to what is happening right now in the PC business, the high end enterprise computing business will also suffer the effects of commoditization. It is anyone's guess as to the timing and the extent of this scenario occurring. Notwithstanding, the probability of the high-end becoming a commodity business is such that it forces investors to reevaluate Intel as a long term investment. It casts more than a shadow of doubt on Intel's stock outperforming the market over the foreseeable future.
It is also well within the realm of probability that Intel will not earn more than $4.00 per share in 1999. Given this lack of earnings growth, it is hard to justify how a cyclical company in a capital intensive business that is facing increased competition and declining average selling prices deserves to trade at much more than 25 times earnings.
From a trading standpoint, long term investors would do well to consider writing covered calls when the stock approaches 95, and cover on pullbacks to 80-85.
The High Tech Arena
Joe Arena JRArena@aol.com
DISCLAIMER: The High Tech Arena newsletter does not constitute a recommendation to buy or sell securities, but is intended for informational purposes only.
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