1) We must make a distinction between a company and its stock.
As a company, INTC does exactly what it is supposed to. It maintains
excellent operational results and throws off enough cash to buy all but
its largest competitors every year or so. As a stock, however, the
rosiest of rosy scenarios is built into the stock's price. It is very simply-
overpriced.
2) When viewed in its historical context, it is obvious that INTC is
overpriced. Some of you will respond to this saying "This time is
different. The market is adjusting to give INTC a higher multiple
than it ever has before because Mr. Market is finally realizing that
INTC is here to stay." You could be right. As I mortgage the
house to buy some Intel calls, I recall how many times in the past
I have heard the "This time is different" line. I'll place my bets with
history. How overvalued is INTC? Look at the high and low price
to sales ratios over the last nine full years (I don't have 1996 yet):
1995 1.74-4.17
1994 2.14-2.74
1993 2.17-3.68
1992 1.73-3.31
1991 1.66-2.56
1990 1.51-2.65
1989 1.40-2.16
1988 1.21-2.34
1987 1.30-4.10
With a stock price of 144 1/2, the P/S is now 6.3! Is this time
different? You say, "Sure, the P/S is high, but the profit margins
have expanded. You need to look at the earnings instead of the sales."
OK, let's do that. The high and low price/earnings for 1987-1995:
1995 7.89-18.97
1994 10.78-13.79
1993 8.32-14.09
1992 9.48-18.15
1991 9.69-14.93
1990 9.10-16.01
1989 11.14-17.19
1988 7.67-14.79
1987 13.80-43.52
The P/E is currently 29. Could that be right? The P/E is higher
than it has been since 1987? That's right. How about book value
multiples? Let's see:
1995 2.32-5.57
1994 2.66-3.41
1993 2.54-4.31
1992 1.85-3.55
1991 1.80-2.77
1990 1.65-2.89
1989 1.72-2.65
1988 1.68-3.23
1987 1.90-5.98
OK, OK, what is it now, you ask? It is 7.9! Look at price/cash flow.
Same story.
So, what are reasonable multiples to expect based on historical
ranges? I'd say a good six-month target would be a P/S of 4.2,
a P/E of 19, and a P/B of 5.6. I'm just looking at the ranges in the
tables I've provided, and I'm picking a number near the highest valuation
during the last eight to nine years. I wouldn't call this "fair value", but
I am going to estimate a conservative number for a downside
price target. The valuations above predict prices of $97, $95, and $102,
respectively. Choose the midpoints of the ranges above, and you'll
get substantially lower targets, of course.
3) OK, so it is overvalued. But it has been for a while. What is going
to change that will alter the valuation? Believe it or not-competition.
For those of you who have been following INTC for a while, you
remember the analysts' discussions about INTC during 1992-1994.
They always discussed the Intel dominance of the market first, but then
they turned to the competition question. Names like AMD, Motorola/Apple
and DEC were mentioned. In the early days, Motorola/Apple's Mac gave
INTC some competition, but they failed. In the 386 and 486 days, AMD
put up some competition, but their reliance on reverse engineering
products meant that they were always one generation behind (though
they eventually got better performance out of the older products than
INTC had when INTC abandoned them to move on to higher-margin
newer products). During the 5th generation battles, there were no
competitors to be found at all due to Apple's problems and AMD's
decision (prompted by its legal settlement with INTC) to create its
own microprocessors instead of reverse-engineering Intel's. So, this
all sounds positive for INTC. What's the problem, then? Well, you
see, the market has factored into Intel's price the absence of any real
competitive threat. That is only a problem because there IS a competitive
threat. AMD will take 10-20% of the market from Intel by the end of
1997. AMD's K6 is superior to Intel's Pentium Pro. AMD's K6 has
MMX designed into its K6 already. Some of the "no competition
premium" will disappear from Intel's stock price.
4) Under most circumstances, I would not dream of trying to profit
from a downturn in such a dominant company, but this opportunity
is just too good to pass up. I have a personal reason for doing this as
well. I currently have 35% of my money in semiconductor equipment
makers and 18% in other chip companies. By buying some puts on INTC,
I can hedge my sector-specific risk. I am hedging about half of my sector-
specific risk by purchasing July 140 puts on INTC. The ticker is
INQSH for those who are interested. I should add that I don't think
that 95%+ of investors should invest in options, particularly if you
are relying on people like me to suggest which ones you should be
buying. Still, I am telling you what my positions are so that I will
have all of my cards on the table. For most of you who are long
Intel, my suggestion is that you consider whether you really are
long-term investors. If you can see your favorite stock decline by
35% without selling at the bottom, then you may want to stay in.
The stock should continue to be an excellent long-term holding.
For most of you, though, you will be tempted to sell near the bottom.
That's the usual pattern, at least. If, in your heart, you think you
might be tempted, then I'd take advantage of the recent strength to
take some of your money off of the table. Just one person's
opinion, of course.
By the way, I do wish the best for Intel. It is an outstanding company,
and I have profited in the past from their amazing long-term performance.
The market is just, IMHO, pricing in a future that is more positive than
the future will actually be.
Profitable investing,
Mr. Sam |
