In 2012, Intel (INTC) outlined an aggressive strategy to begin diversifying its product portfolio away from the personal computer market. To do so, Intel has thrown several billions of dollars into capital spending over the course of the past 24 months. These efforts, however, have failed to help Intel transform the dynamics of its product mix in recent times. Certainly, Wall Street traders have grown skeptical of the empty promises out of Intel to build out wireless infrastructure, serve the "2 in 1" market, and to generate real growth solely as a foundry. For Intel, the 2013 Holiday Season looms large as yet another disappointing sales event. Ironically, Moore's Law and the drive toward mobile continue to befuddle Intel executives.
Flat Revenue Through 2014
On November 21, 2013, Brian Krzanich hosted his first investor meeting as CEO at Intel. For tech enthusiasts, the presentation was a rousing success. Many Intel prototypes remain one to two generations ahead of the competition, in terms of raw processing power and manufacturing prowess. Intel engineers also reiterated projections that company foundries will graduate to 14nm technology by the end of Q1 2014. The 2014 chip pipeline includes the 14nm Airmont, which fawning journalists have already promoted as the "next generation" in mobile chip technology. Competing foundry Taiwan Semiconductor (TSM) may just begin rolling out 20nm ARM-based Apple (AAPL) A8 chips by the end of next year.
Prior to closing the meeting, however, Intel warned of flat 2014 revenue, relative to current 2013 levels. Anxious traders went on to sell off large blocks of Intel shares immediately upon this news. Intel stock was to close out the following November 22 trading session at $23.87, which was a 5.4% loss on the day. Last year, former CEO Paul Otellini referenced Intel's "mobile edge" within his annual letter to shareholders. Intel closed out its 2012 books having allocated $10.1 billion toward research and development spending, while the company also used up $11.0 billion in cash for additions to property, plant and equipment. Intel's aggressive capital spending program has continued through 2013. Intel has already spent $7.8 billion on research and development through the first nine months of this year. Be advised that Intel net revenue actually peaked in 2011, at $53,999, before declining through 2013.
Several equity analysts have cited reports based out of Taiwan that speculated that Intel was set to offer $1 billion in marketing subsidies to help original equipment manufacturers hawk Atom-based tablets. Intel executives have set a goal of quadrupling year-over-year tablet chip volumes to ship 40 million units through 2014. Intel marketers have also alluded to a value line of Atom-based tablets that will retail for less than $99. Intel has included mobile chip sales within its Other Intel Architecture operating segment. Other Intel Architecture has already racked up $1.8 billion in operating losses upon a mere $3.0 billion in segment revenue through the first nine months of this year. Intel is effectively taking a gamble that it can now give mobile chip product away at cost in order to establish market share and raise prices at a later date. Intel may be getting desperate just prior to what is shaping up to be a weak 2013 Holiday Season.
Weak 2013 Holiday Sales
Numerous economists have already predicted that Americans will slog through the worst Holiday Shopping season since 2008. This year, American consumers are grappling with a weak job market, higher payroll taxes and the botched rollout of the Affordable Health Care Act, or Obamacare. This 2013 Holiday Season will also be one week shorter than normal due to a late Thanksgiving that fell on November 28. A recent paper out of investment bank Morgan Stanley (MS) has already warned retailers to "expect coal" this Holiday Season. Morgan Stanley cited a National Retail Federation claim that estimated $536.85 in average gift spending per person through the 2013 Holiday Season, which would be a 2.5% year-over-year decline. A National Retail Federation survey confirmed that average individual spending fell by 3.9% to $407.02 through the Black Friday weekend. If anything, this 2013 Holiday Season has been most notable for brawls, shootouts and general unruliness between minimum wage workers, law enforcement officials and feral customers. Last Black Friday, a Kohl's (KSS) parking lot outside of Chicago degenerated into outright mayhem, after two suspects hit the gas pedal and dragged a police officer through the retail parking lot.
The Intel 2013 Holiday Buying Guide may be interpreted as somewhat of a last ditch effort to steer consumer dollars towards Santa Clara. Within this document, again, Intel has aggressively promoted what the company has referred to as "2-in-1" devices that fuse traditional laptop and tablet specifications together. The chipmaker also intimated that Intel Inside "2-in-1" devices would significantly outperform entry-level, 4-year old personal computers. Taken further, The Intel 2013 Holiday Buying Guide featured specific profiles of the ASUS Transformer Book T100, Dell (DELL) Venue 11 Pro, and Lenovo (OTCPK:LNVGY) Yoga 2 Pro. Intel listed starting prices for these hybrid machines that ranged between $349.00 and $999.99. The popular 16GB Apple iPad Air begins at $499.00.
All recent reports out of research firms IDC, Gartner and comScore are indicative of a secular shift of consumption out of personal computers and towards mobile devices. Taken together, Apple iOS and Google Android form the dominant duopoly that operates a near 95% share of this latest mobile revolution. Beneath the hood, ARM-based (ARMH) technology serves as the blueprint for A-Series and Qualcomm (QCOM) Snapdragon chips that are the engines driving the most popular smartphone and tablet machines. IDC has projected that both tablet and smartphone unit shipments will expand my more than 70% between 2013 and 2017. Alternatively, IDC has already guided down for a 10% PC year-over-year market contraction for 2013. This information does not bode well for Holiday Season and long-term profitability prospects of Intel.
The Bottom Line
Intel has historically classified its businesses according to PC Client, Data Center, Software and Services, and Other Intel Architecture operating segments. Again, Other Intel Architecture was established as an umbrella category above netbook, tablet, and smartphone chip sales. In any given year, the PC Client Group is likely to generate roughly two-thirds of total net sales at Intel. Alternatively, the Other Intel Architecture division, on average, has accounted for a mere 8% of annual Intel net revenue over the past three years. In 2013, Intel has only been able to turn year-to-date operating profits upon big-ticket personal computer and server chip sales. The Microsoft Windows 8 and 8.1 movements, however, have failed to trigger a real up cycle in personal computer sales. Intel should expect weak Q4 numbers across the board. Be advised that Intel fiscal years do largely coincide with calendar dates.
Last year, at this time, Intel was en route to taking down $3.5 billion in net income upon $13.9 billion in Q4 2012 revenue. This year, for Q4 2013, Intel executives may hope to generate $3.0 billion in net income upon $13.0 billion in total net sales, at best. In all, this performance would leave Intel with a respective $10 billion and $51.9 billion in net income and net revenue for the 2013 year. Intel stock closed out the December 3, 2013, trading session at $23.55 per share, which then calculated out to a market capitalization price tag of $117.0 billion. Intel therefore trades for an estimated 11.7 times current earnings. Intel shares are too expensive at current valuations, considering the fact that sales and income figures have gradually deteriorated over the course of the past three years.
Financial engineering as means to drive Intel shareholder returns is non-applicable, in this case. If anything, shenanigans such as promptly moving to recognize $2.1 billion in current deferred income, as 2014 revenue, would further erode Wall Street confidence in Intel. Over the long term, Intel must continue to throw cash into research and development and capital spending in order to have any chance of outmaneuvering the inevitable decline of the PC market. The Intel business model is trapped between a rock and a hard place. As such, conservative investors should consider selling off Intel stock positions.