Intel Corp (NASDAQ:INTC) is facing some pressure because of a maturing PC market and chips based on ARM Holding's PLC (NASDAQ:ARMH) designs being superior in mobile devices, because of lower energy consumption.
ARM is attempting to move into the PC space while Intel is trying to match its smartphone and tablet chips in energy efficiency. This battle is introducing a lot of uncertainty into a realm where Intel used to rule. Instead its forced on its back foot. Although this is not pleasant if you were an Intel investor before this all started, it creates an opportunity if you are not invested in the giant chipmaker yet. A patient long term investor can acquire this tech giant at a discount and enjoy the sizeable dividend while waiting out while the war is waged.
Industry experts attest that Atom processors (Bay trail chip) are becoming much more competitive in power efficiency and there are great expectations of the upcoming "Silvermont" version of Atom.
According to Morningstar analyst Andy Ng: "Silvermont is the first true architecture refresh for Atom since Bonnell's release in 2008." Perhaps the most notable part of his analysis being:
We expect Silvermont to provide the boost needed to make Atom competitive with ARM in the mobile processor space. With the combination of a long-awaited architecture refresh and the use of Intel's manufacturing advantage, we believe the firm will finally be giving Atom the enhancements it needs to really go after ARM from the power efficiency and performance standpoints. Although there are presently no benchmarks available, the firm claims that Silvermont will offer roughly 3 times peak performance or 5 times lower power consumption than the current Saltwell processor
Overall I'm of the opinion the market is too bearish on Intel's chances to gain territory on ARM.
In addition Intel remains king in the server processor business and the growth in mobile devices, think smartphone and tablet adoption worldwide, and the (streaming, gaming and otherwise) media consumption that goes with it. This will be a key drivers of demand for servers and consequently demand for Intel's chips.
As I put it in my August 20 article on Intel: Another interesting development that is not highlighted enough is that as consumers and businesses increasingly use tablets. PC sales do go down, but at the same time, the move towards cloud computing is sped up. In cloud computing, the processing power for applications is shifted away from the handheld device to the server park.
When computing power is more and more drawn from the cloud, this enables software developers to start pushing for the limits. They no longer have to design software while keeping in mind consumer machines that are limited in processing power.
At the same time, the increase in mobile devices enables consumers to spend more time - because computing power is now available to them everywhere - drawing processing power.
Intel itself says this in their latest annual report:
We also believe that increased Internet traffic and the increased use of mobile and cloud computing create a need for an improved server infrastructure, including server products optimized for energy-efficient performance.
That power is coming from industrial server parks. To serve this emerging need, there will be large investments into this market. A market where Intel is dominating.
Intel will be able to leverage its scale advantages to the fullest here. So while tablets and other mobile devices threaten Intel's hegemony on one side, they push the cloud based computing power services forward. This is where Intel is strong.
What I'm saying is: consumers moving from PC to mobile devices - while Intel is lagging in that space - is not as bad as it sounds.
Discounted Cash Flow
In my earlier article on Intel I presented a DCF analysis on Intel which turned out to be encouraging. I've updated this DCF not only by using current data but also to bring it more in line with my current standard practices.
Because of my writing on Seeking Alpha I'm developing my process and one aspiration I have is to "standardize" my DCF's. The problem with this calculation is that it's very tempting to manipulate the numbers to fit your thesis. One way I'm trying to protect myself and my readers from that tendency is by turning observations into standardized inputs. For example: If I work on a company without any competitive advantage, I will model cash flow exactly 3 years into the future. Not 3-7 years but always 3 years. My initial DCF on Intel was done a few months ago and since then I have improved my methods and this update reflects those insights.
Like before I've based my calculation on Intel's future growth rate on net income growth rate over the past 10 years. You could argue to reduce this number; my point in this article is that the negativity on Intel is overdone. The growth rate is applied to base free cash flow in line with my current practice.
But I'm not blind to the threat of competition and the possibility of Intel's strong competitive advantage eroding, and because of that, I have limited the projection of Intel's earnings growing to just five years into the future. Even though the firm has a substantial competitive moat today and I think you could make an argument to project cash flow much further into the future.
Next I discounted against an investment in the S&P 500. If you think those assumptions are reasonable, you will be interested to find that the result is that a share of Intel has a net present value of $34.
That means Intel at $24.81 still has 41% upside. A nice margin of safety to acquire a wide moat company that pays a dividend of 3.8%