Last week, Intel (INTC) went ex-dividend and closed at $21.00. Interestingly enough, Intel's price is right near its 5-year average closing price of $20.97. In order to see if its price constitutes an appropriate valuation, I have done a long-term analysis of Intel's earnings, dividends, and stock repurchases, in addition to an overview of what the analysts are predicting in the coming years. The financial stability of Intel will also be accounted for, which will help determine the safety of a potential investment.
The figure above was modeled after the tables that appear in Benjamin Graham's The Intelligent Investor. I felt this was appropriate, considering my perception of Intel as a value play. We will analyze most of these numbers going forward, but one ratio I'd like to go over is Intel's Earnings/Book value. Also known as "book yield per share," the ratio is more or less a modified calculation of ROE. As Graham would put it, "Intel earned 20.8% on its stock capital in 2012." Intel's book yield matches up quite well with two other well-known tech names -- Cisco (CSCO) and Microsoft (MSFT) have book yields (per share) of 15.6% and 21.0%, respectively. Since the ratio is driven by debt, I looked at the leverage ratios (Total Assets/Equity) for each of these companies. As it turns out, Intel's leverage ratio of 1.65 is the smallest of the bunch (Cisco's is 1.76 and Microsoft's is 1.77), which is a good sign when evaluating the company's profitability in FY 2012.
The chart above represents a 5-year P/E analysis of Intel. For purposes of accuracy, each price listed on the chart is an average of every closing price that was quoted during the quarter. Therefore, $20.97 is a pretty accurate indicator of what Intel has been trading at, on average, during the past 5 years.
Looking at the numbers, it's not difficult to see why many Intel investors have been discouraged lately. During the past 2 quarters, a 9.75% decrease in TTM EPS was accompanied by a 22.5% drop in price. Additionally, Intel's 2012 EPS dropped by 10.9% from FY 2011. However, there are some positive takeaways from the data listed in the chart.
Although Intel has generated an 81% increase in earnings per share since 2007, its price currently stands at the same price it was trading at 5 years ago during 2008 Q1. This means that investors were paying 85% more for each dollar of earnings than those investors who buy the company today. The result is a P/E that is currently near the bottom of its 5-year range and well below its 5-year average P/E of 16.60. Based on its average P/E, a 40% decline in EPS is currently priced into Intel's stock. The implied decline is much larger than even the bearish analyst estimates, which we will go over in a later section.
Stock Buyback Summary
Intel has been repurchasing its shares since 1990. Obviously, this has contributed to the aforementioned 81% EPS growth over the last 5 years. However, the repurchase program is a testament to management's determination to create more value for its shareholders. The chart below represents a summary of Intel's share repurchases since 2008.
As you can see, Intel has spent over $29 billion during the last 5 years on share repurchases, and this has reduced its shares outstanding by over 13% during that time frame. Therefore, Intel's share repurchase program has contributed a total of 15.4% to its EPS since 2008 Q1.
The following was taken from Intel's investor relations website:
"As of December 29, 2012, $5.3 billion remained available for repurchase under the existing repurchase authorization limit and we have repurchased 4.3 billion shares at a cost of $89 billion since the program began in 1990."
Using its current price, Intel has enough money to decrease its shares outstanding by another 4.87%. This would effectively increase its EPS by another 5.12%. Also, it's not unlikely that the program will be extended, given that it's been in effect for over 22 years.
Intel has been paying dividends since 1992 Q3, and it hasn't missed a payment in any of those 82 quarters. For the first ten years of the program, Intel investors were hit with 6 years of decreases in annual dividend payments. However, Intel managed to get back on track with its payments, as it has increased its dividend in every year starting in 2003. Over the last 10 years, the average increase in its dividends was 29.9%. Below is a summary of Intel's dividend payments over the last 5 years.
Many investors take dividend payments for granted, but take a look at what Intel's 2012 dividend of $0.89 represents:
- A 5-year increase of 90%
- A 10-year increase of 1006%
- 10 straight years of annual dividend increases
This is quite an impressive track record, to say the least. If you had bought Intel during 2008 Q1 and held onto it until now, your total gain on dividends would be almost 17%. Assuming you buy Intel at its current price and that its annual dividend remains constant, 5 years from now your total gain on dividends would be 21.4%. Intel's 10-year history strongly implies that these payments will continue to increase, which seems sustainable given its 42% payout ratio.
There are currently 45 analysts covering the company, many of whom aren't too high on Intel's outlook, as evidenced by the chart below.
Note that these numbers are an average of 45 analysts' estimates, as taken from TD Ameritrade. However, the bearish estimates have led to some simple questions that need answering:
- Intel is ranked #6 on Forbes list of Most Powerful Brands in the World. Given this piece of information, is it conceivable that Intel's customers will simply stop buying its products because it has an association with PCs? Is it conceivable that Intel won't be able to adequately compete in the smartphone and tablet markets, despite entering those markets with an immediate brand recognition?
- Intel has increasingly invested in its R&D program in an effort to gain a competitive advantage in the ever so rapidly changing technology market. Given technology has surely changed countless times since Intel was founded in 1968, for what reasons will Intel not have the ability to adapt and dominate once again?
In my opinion, you'd really have to develop some speculative reasoning if you were to try to support the analysts' earnings outlook. But if you were to hear this story from an objective standpoint and an open mind, then it would be wise to consider that maybe the analysts aren't always right. Analysts are just as prone to getting caught up in the market as you and I are, except they have even more pressure to agree with the market's sentiment given that their written opinions and recommendations correlate with their paychecks. Exemplifying a divergence in opinion from the market could spell out suicide for some of these guys, so in their minds it might be more appropriate to take the "conservative" approach by echoing what everyone else has been speculating on.
I tend to be more open to divergence from what the market's been saying, but no one's said it better than Jason Zweig of the Wall Street Journal:
Would you willingly allow a certifiable lunatic to come by at least five times a week to tell you that you should feel exactly the way he feels? Would you ever agree to be euphoric just because he is--or miserable just because he thinks you should be? Of course not. You'd insist on your right to take control of your own emotional life, based on your experiences and your beliefs. But, when it comes to their financial lives, millions of people let Mr. Market tell them how to feel and what to do--despite the obvious fact that, from time to time, he can get nuttier than a fruitcake.
Now, I'm not saying that the analyst estimates are wrong or even invalid. What I am considering, however, is that given all the speculation lately surrounding the proverbial "Death of the PC," there is a higher likelihood that many of these projections have been derived from a misled bias.
Take Apple (AAPL), for example. As it was ascending to $700 a share, many analysts echoed the market's euphoric outlook, and some even gave its stock price a target of $1000. What the analysts failed to consider was the Law of Large Numbers, and, well, you know the rest of the story. A mild slowdown in growth led the market to start speculating from the opposing perspective, and within a couple of months its share price dropped from its 52-week high to its 52-week low -- a total loss of 38% in market value. Whether or not Apple can find a way to sustain the Law of Large Numbers in the coming years is a mystery, but regardless, I'm inclined to believe that Intel represents a mirror image of Apple's story. In other words, it's a quality company that's been mired in speculation and whose stock price has been beaten down to dirt cheap levels. Sure, it'll take one or two quarters worth of results to prove the market wrong, but a large correction will be necessary if this happens to be the case.
A Dow Value Play
It's a rare occurrence to see a quality company in either the DJIA or the technology sector exemplify Benjamin Graham's criteria for the defensive investor. Cisco was in that category not too long ago, and its share price has followed up with a strong performance in recent months. Now Intel is the value play of the DJIA, as can be seen in my findings below.
Passing these criteria indicates that Intel is a safe long-term investment. Here's why:
- Financial stability: Intel's working capital exceeds its long-term debt, meaning that it has the ability to pay off the entirety of its debt (if it were to liquidate its current assets), after which it would have an extra $500 million to spare.
- Strong historical earnings growth: The requirement calls for a mild 10-year EPS growth of 33%. Intel's 10-year growth rate is 10 times larger than this requirement.
- It's cheap: The Price/Book X P/E requirement is not an easy one to pass for most well-known companies, especially one that's in the Dow.
- Consistency: 20 straight years of dividends, to go along with payments that have increased in each of the past 10 years, says more about management's trustworthiness than many would think.
Following FY 2012, Intel has something to prove to its shareholders, in addition to the analysts forecasting a further decline in its earnings. However, given its cheap valuation relative to what many other well-known companies are currently trading at, along with the steady and reliable source of dividend income, a long-term investment should strongly be considered. Intel has shown that it is far from the seller of a "dead product" that many people make it out to be. In the hopes of successfully entering a wider array of segments in the technology market, the company has two big things to bank on -- 3 consecutive years of increasing its R&D investment and over 40 years of developing its powerful brand name. Time will tell if and when its strategy will pay off, but Intel's current fundamental valuation provides a legitimate argument for taking on the risk of uncertainty.
Disclosure: I am long INTC.