Intel's Brilliant Processor Give Away Will Pay Back In Spades

| About: Intel Corporation (INTC)

Intel (NASDAQ:INTC) plans to provide discounts and allowances totaling some $800 million to buyers of its Bay Trail and successor processors for smartphones and tablets. The stock sold off on that disclosure at its analysts meeting. I am always amazed at how quickly institutional investors react to news, often before they give it much thought.

The strategy has been called an act of desperation. I think it is an act of brilliance. Here's why.

At its current 22nm process, Intel produces processors that are competitive with anything in existence, although nit pickers will find reasons to argue that a Snapdragon 805 or an Apple A7 is better and list a pile of reasons. No matter what they say, the simple fact is that the Bay Trail processor is fully competitive on just about every measure. But it is not light years ahead.

I have not listed every benchmark nor will I go through a tedious argument about what is better and by how much. Suffice to say the Bay Trail is better than anything powering any Android device today and is more or less on par with Apple's A7.

Having said that, Samsung and Qualcomm (NASDAQ:QCOM) are not standing still and the Bay Trail is not a knockout punch that will turn the industry on its head. Not yet.

Intel has already demonstrated its 14nm process and is progressing along its roadmap to a 10nm, 7nm and 5nm process.

By subsidizing assemblers to build devices using the current 22nm Bay Trail processors, Intel accomplishes two things. First, it establishes with participating manufacturers smart connected device designs that have been built with "Intel Inside" and get millions of these into the hands of consumers. You can argue benchmarks all you want, but at the end of the day it is the user who "benchmarks" the device, and until you have a large base of users, the issue is clouded by rhetoric and technical jargon but lacks any real world feedback.

Secondly, and most importantly, it establishes a customer base in mobile for its next generation processors. Those processors when built on a 14nm process will have substantially lower costs than on a 22nm process, and a further cost reduction as Intel reaches 10nm, 7nm and 5nm. What seems like a giveaway today can be a highly profitable business tomorrow.

Intel has designed its processors to be agnostic between Android OS and Windows OS. Assemblers can design one device and launch variants with either or both OS installed. The cost of the Intel processor will be equal to or less than the ARM Holdings (NASDAQ:ARMH) based one they might otherwise have chosen. While less costly, Intel processors will provide more power while consuming less wattage, providing longer battery life and permitting smaller and thinner form factors.

Intel has set a target of shipping 40 million units in 2014. In my view, they have every chance of doing at least that. And, while it may come at a cost of $800 million to Intel, those suppliers losing the SoCs Intel captures will suffer an equal amount of lost revenue. That can't be good for Qualcomm, ARM or Nvidia (NASDAQ:NVDA) and has the potential to be downright punishing for AMD.

Anyone who has tried one of the Bay Trail devices currently on store shelves knows how smooth and responsive the new Intel processors make the devices. When enough people have shared that experience, Intel will be a contender in smart connected devices, at least as I see it.

I am long calls on 190,000 Intel shares at strike prices from $22 to $27.

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.