Shares of Intel Corporation (INTC) have declined by 17.2% over the past 12 months. At $21.09 per share, the stock is now trading near its 52-week low of $19.23 but offers a tempting dividend yield at 4.1%. Is now the right time to buy Intel on the dip? In this article, I will elaborate on my value analysis which may help you in formulating the investment decisions.
From a relative valuation standpoint, Intel's valuation appears to be somewhat cheap, based on the company's financial performance relative to its peers' (see comparable analysis chart below). Sell-side analysts on average predict Intel's revenue, EBITDA, and EPS to rise by 2-year CAGRs of 2.8%, 2.5%, and 0.3%, respectively, over the current and next fiscal years. Those consensus growth estimates are markedly below the averages of 6.8%, 12.4%, and 19.3%, respectively, for a peer group consisting of Intel's primary competitors in the semiconductor sector. Similarly, the company's EBITDA margin is forecasted to shrink by 0.3% over the same period, compared to an estimated average expansion of 2.2% for the comparable companies. On the profit side, however, Intel has demonstrated a superior margin performance as all of the firm's profitability margin and capital return metrics are considerably above the peer averages. Intel carries a relatively low level of debt as reflected by the firm's below-average debt-to-capitalization and debt-to-EBITDA ratios. In terms of liquidity, the firm's trailing free cash flow margin is significantly below the par. Due to the strong profitability and the lower leverage, Intel was able to maintain a robust interest coverage ratio. However, both the firm's current and quick ratios are below the par, reflecting a mediocre balance sheet performance.
To summarize the financial comparisons, Intel's lackluster growth prospects as well as its below-average free cash flow generation should be the primary drag on the stock's valuation. However, given the company's superior profitability performance and low leverage, the stock's valuation discount to the peer-average level should not be very significant. Nevertheless, the current stock valuations at 4.8x forward EV/EBITDA and 11.0x forward P/E represent an average valuation discount of 45.2% to the peer-average trading multiples (see chart above), indicating a fairly cheap valuation.
To support my conclusion, I also performed a DCF analysis which incorporates the market's consensus revenue and EBITDA estimates from fiscal 2013 to fiscal 2016 (see DCF chart below). Other free cash flow related items including depreciation, tax expense, capital expenditure, and net working capital investments are then projected based on their historical figures relative to the revenue as those ratios have been trending steadily over time. To be conservative and reasonable, the terminal revenue growth rate is set to be 0.5% and the terminal EBITDA margin is assumed to be the average estimated EBITDA margin from fiscal 2012 to fiscal 2016.
A company-specific risk premium of 4.0% is used in the cost of equity calculation to account for the financial projection risk. Instead of using the current depressed 10-year US Treasury Bond yield, a normalized 10-year risk-free rate of 2.5% is applied. As such, based on a terminal growth rate of 0.5%, a WACC of 10.7%, and an implied terminal EBITDA multiple of 4.6x, the DCF model yields a stock value of $23.40, which is 11.0% above the current share price of $21.08. It should be noted that the a mix of -1.5% terminal growth rate and 12.2% WACC or -1.5% terminal growth rate and 37.2% terminal EBITDA margin would result in a stock value of $18.67 or $19.06, respectively, which represents only about 10% to 11% below the current share price without considering the 4.1% dividend yield (see DCF sensitivity chart above). Therefore, the DCF analysis draws the same conclusion that Intel's valuation is cheap and its price downside appears to be limited.
Since 2010, Intel has increased its dividend three times by 14.6%, 16.0%, and 7.1%, consecutively. The chart shown below suggests that Intel's annual dividend payment only represented less than a half of the company's annual free cash flow in the past few years, suggesting an ample capacity to sustain the current pace of the dividend growth. Given Intel's current dividend yield at 4.1% and solid supporting free cash flow, I believe the yield's further upside is limited as it would likely be pressured by the strong investor demand for high-yield assets under the current low-interest market environment. Hence, assuming a target yield range from 4.0% to 5.0% and supposing that the annual dividend per share would be raised by just 5.0% from the current level of $0.90 to $0.95 in the August 2013 payment period, this very conservative scenario would suggest a stock value range from $18.90 to $23.63, or a price return range between -10.4% and 12.0%. By considering the 4.1% dividend income, the estimated price return would be very attractive.
In terms of Intel's upside catalyst, Wells Fargo Securities' research analyst, David Wong, elaborated on his long-term bullish view for Intel in his recent research note (sourced from Thomson One, Equity Research):
"We think Intel's client processor growth potential is better than many investors believe. For the full year 2011 Intel's client segment sales were up 17% year over year, compared to global IC sales being down 1% flattish year over year. In 2012 it seems likely that Intel's client segment growth will once again be above overall IC growth. We believe long-term semiconductor growth potential could be of the order of 10-12% per year. Intel's PC Client revenue growth should, we think, be at least comparable to or perhaps even higher than overall IC growth…As Intel accelerates its Atom roadmap, we believe that Intel processors for smartphones and tablets may come to surpass their ARM counterparts in terms of both performance and power consumption. We believe that Intel could become a significant presence in the tablet space as Windows 8 tablet sales gain momentum. In 2013, we expect that Intel will add to its smartphone design wins."
Lastly, there appears to have been a strong technical price support at around $19 since 2010, and the current share price is just slightly above that level (see chart below).
Bottom line, Intel's cheap valuation and sustainable dividend yield provide a solid support to the stock's price and ensure a sufficient margin of safety on this investment. Given the company's favorable long-term prospects, the stock's potential upside appears to significantly outweigh the downside, and thus I strongly recommend acquiring the shares now.
The comparable analysis and DCF charts are created by the author, all other charts are sourced from Capital IQ, and all historical and consensus estimated financial data in the article and the charts are sourced from Capital IQ unless otherwise specified.