Intel Survives Q1, But Now What?

Mar.19.13 | About: Intel Corporation (INTC)

Intel's (NASDAQ:INTC) upcoming earnings report is going to be a very important one. After each earnings report - or other event that is material to the general investment population's view of the company's future earnings - analysts recalculate their target prices based on the new data that comes in, which primarily serves to give a directional view of the business. Absolutes when it comes to revenues, earnings, and such aren't so important for these beaten down, unloved names, but the direction is.

Right now, Intel's PC business appears to be in free-fall, as industry analysts such as IDC continue to lower their estimates of PC sales. The consensus is now that the PC will continue to decay at the hands of tablets, which - right now, anyway - don't typically pack Intel silicon. The situation is slowly changing as Intel continues to get design win momentum here, but the concern is that the rate of decline in the PC business will not so easily be offset by the growth that the firm sees in tablets.

Now, many Intel bulls - including myself - are not so pessimistic about PC sales during the back half of the year, when Intel's upcoming "Haswell" product is expected to hit the shelves, but I understand that there's a bit of a speculative element there. There's no guarantee that, even with the dramatic battery life increase as well as the new form factor innovation that Intel is pushing its OEMs for, "Haswell" based Ultrabooks will push people to be sufficiently compelled to refresh their notebooks.

I believe that a lot of the PC growth is dependent on a better global macroeconomic environment. While I am convinced that the next generation of notebooks will offer a tangible user-experience improvement over the current crop of devices, it is not so clear if people are willing right now to "splurge" on an upgrade at this time. The reality of modern software is that outside of those that absolutely require performance, even 5 year old laptops can "do the job," albeit in a less pleasant to use fashion. In a good macro, people have more disposable income, and therefore are more receptive to such upgrades. However, I must note that tablets are now a "new" form factor, and as such now do - and will continue to - command some share of consumer spend, so people may not be buying as many laptops/desktops per household. Even in a good macro, in order to get the user to shift wallet share away from the "pure" tablet to a convertible/hybrid notebook, the value proposition for the latter needs to be very clear.

Intel's bets are obviously hedged, and it is clear with the pulling in of "Bay Trail" (22nm Atom) along with partnerships with all of the major OEMs/ODMS that Intel would rather sell a $20 - $30 Atom chip in place of a "Core" chip rather than sell nothing. The unfortunate reality here is that while Intel has the majority of the design wins in the PC space (and all of the "good" ones), Intel may have the best chip, but it could end up in a lot of designs that simply don't sell. It is imperative that Intel make sure that designs based on its "Bay Trail" are compelling across every dimension. The current crop of "Clover Trail" Atom tablets are, quite frankly, not particularly good, and I believe that despite having the right silicon, the company's partners don't yet have the right designs. "Bay Trail" will run Android, so this gives Intel a better shot at nailing the right design, but even so, it is not as easy as it is in the PC space. Collaboration with partners is key.

Anyway, so Intel didn't warn, so that means that Q1 probably went as expected. I'm not expecting any miracles or disasters here on gross margin or revenues, but seeing them in-line to slightly down from the company's midpoint wouldn't surprise me. I'm expecting DCG to be up Y/Y, but this will be offset by PC being down Y/Y, which leads to the net Y/Y decline that Intel forecasted at its earnings call. The really interesting part will be the guidance. It has been noted that Q2 is typically down, but that in recent years it has been up. I believe that this is primarily due to the shift in the company's release cadence for its "Core" products. Typically launches happened in January, but we are seeing more of the April-June timeframe for major product launches. This has somewhat altered seasonality, but analysts are actually expecting this, so I don't see much room for upside surprise simply from guiding a sequential increase.

I am also looking for further granularity on the full year guidance, especially on gross margins, although I don't suspect I'll get that because, again, there's a lot of uncertainty going into 2H 2013. That being said, I would - and believe that investors should - get an update on the fabrication plant underutilization. Management has previously stated that Q1 is when the company eats the remaining charges (most of which were taken in Q4 2012) and then beyond that there should be no more charges. These lack of excess capacity charges, however, will be offset by even more intense 14nm startup costs which will keep margins under pressure until 2H 2013.

Next, I would like to get an update on the CEO search. The uncertainty here is unnerving and any announcement/update is likely to relieve some of the selling pressure from that. My guess is that COO Brian Krzanich gets the role, as he is the most qualified insider. A concern here is that if Mr. Krzanich doesn't get the job and instead an outsider gets it he, among others in the executive team, may choose to leave, especially since he would feel as though he has "topped out" here and could potentially go further elsewhere. I also do not think that it would be wise to bring in an outsider during this critical period as it is more than likely he/she may make some incredibly stupid moves that juice the short-term share price only to seal Intel's long-term fate. I would cautiously hang on to my shares in the event of an outsider taking the helm, but I would watch the new executive's moves very carefully.

Finally, any sign that the dividend could be raised during the year would be a very welcome development, especially as it would raise the yield flood below the stock and would likely engender a rally. Intel could certainly afford a dividend increase, but I am not sure that the board would authorize such an increase unless the business was directionally positive once again.

All in all, I am ultimately hoping that Intel's management conveys confidence and strength at this earnings call, as I have gotten the distinct impression that the sell-side has felt it easy to push them around quite handily on the calls. CEO Paul Otellini seems like an honest, decent guy who doesn't put on a lot of spin, and for that he is punished by some of the more bearish analysts. CFO Stacy Smith is a lot better about this and subtly pushes back, but a little more aggressiveness here would be welcome for the longs.

Disclosure: I am long INTC. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.