Intel (NASDAQ:INTC) reported very strong numbers for the second quarter, just a few weeks after the pre-release of the results send shares through the $30 mark.
The latest numbers, the strong outlook and a $20 billion repurchase program have pushed shares towards $33 per share, creating a less appealing risk-reward opportunity at this moment.
I won't be chasing the shares upward, but do believe that Krzanich is doing a great job creating future and continued growth prospects. This valuation re-set has pushed up the perceptive of the market and the valuation multiple being attached to that.
Second Quarter Highlights
Intel reported second quarter revenues of $13.83 billion, up a whopping 8.0% compared to last year. Despite the positive pre-release a few weeks ago, revenues still managed to beat consensus estimates at $13.7 billion.
Reported net earnings were up by 39.8% to $2.80 billion. Amidst a stable outstanding share base, earnings per share rose by a similar percentage to $0.55 per share. This was a three cents beat compared to consensus estimates.
Looking Into The Results
CEO Brian Krzanich was happy with the results, as it demonstrated the shift from the company's traditional focus on PCs towards the Internet of Things, among others.
He stresses that the ramp-up of the Baytrail chip makes the company on track to meet its target of being used in 40 million tablets this year. He is upbeat as well about the chance that Broadwell chips can be found in products which are hitting the shelves during the holiday season.
The internet of things group posted annual sales growth of 24% with sales coming in at $539 million. Data center revenues were strong as well as they rose by 19% to $3.5 billing while the core PC client business posted sales of $8.7 billion. This represented 6% growth on an annual basis.
Gross margins were very strong and came in at 64.5% of sales which was a 620 basis points improvement compared to last year. Operating earnings were 27.8% of sales, a 660 basis points improvement as the company witnessed operating leverage in its selling, general and administrative costs.
Outlook For The Rest Of The Year
For the current third quarter, Intel sees revenues of about $14.4 billion plus or minus the usual $500 million bandwidth. This is as analysts were looking for a guidance of around $14.1 billion. Gross margins are seen at around 66% while the sum of R&D as well as SG&A expenses is expected to be $4.9 billion.
Based on the outlook, sales are seen up by nearly 7% on an annual basis. Net earnings could improve to $3.2 billion, or $0.63 per share on a GAAP basis. This is before factoring in the accretive effect of anticipated share repurchases.
Full year revenue growth is seen at roughly 5% on an annual basis with gross margins seen around 63%. This means that annual sales are seen north of $55 billion while net earnings could come in around $11 billion.
Returning More Cash To Investors
Solid results were already anticipated after the company pre-released its results. Yet the big news was the large returns of cash to investors thanks to more share repurchases.
The board of the company has authorized a $20 billion share repurchase program. The company anticipates to repurchase $4 billion worth of shares during this current third quarter, retiring shares at a very aggressive rate of 10% per annum.
CFO Stacy Smith stresses that the increase in leverage of the capital structure resulting from the repurchases is consistent with ¨creation of value¨ for shareholders. He furthermore stressed that the move should be seen as a vote of confidence by management in the future.
What About The Valuation?
Intel held about $17.3 billion in cash, equivalents and short term equivalents at the end of the quarter. Total debt stood at $13.2 billion, resulting in a rather modest net cash position of $4.1 billion. Given the announced share repurchase program, it is not unthinkable to see Intel operating with a flat net cash or even a modest debt position going forwards.
Note that Intel holds $8.2 billion in equity and longer term investments which could be monetized at some point in time.
With shares trading 5% higher in after-market hours, Intel's equity is valued around $165 billion which values operating assets at about $160 billion. Given the full year outlook for revenues of $55 billion and earnings of $11 billion, this values equity in the business at roughly 3 times sales and 15 times earnings.
A Look At The Past And Future
Over the past decade, Intel has grown its revenues on average by some 5%, increasing sales from $34 billion in 2004 to $54 billion on a trailing basis. Yet note that revenues have peaked at $54 billion in 2011 as the slump in PC sales, and shift towards mobile and tablets have hit sales. It are these areas in which Intel is trying to catch up.
The company's move towards tablets in particular and a rebound in the (corporate) PC market has rejuvenated recent revenue growth again. Earnings grew from $7.5 billion to $10.3 billion on a trailing basis, although full year earnings could approach $11 billion this year. The company has furthermore retired little over a fifth of its shares outstanding during this period, boosting earnings per share growth.
At current prices, Intel could repurchase another 600 million shares, reducing the share count to about 4.5 billion going forwards. Assuming incremental earnings growth offsetting increased interest expenses resulting from the share repurchases, earnings per share could increase towards $2.50 per share in 2015 orso.
Investors like the new path laid out under command of CEO Krzanich which is bringing real tangible results and improved prospects for tablets and the much anticipated Baytrail line-up. Shares have risen more than 25% so far this year, as shares have broken out of the long term $15-$30 trading range, currently exchanging hands around $33 per share.
A rebound in corporate PC demand as well as improved demand from consumers who are shifting back from tablets to some extent has been a driver behind this recovery in PC demand.
While the operational achievements are to be applauded, the timing of the new very sizable repurchase program is a little questionable. The $20 billion repurchase program is sufficient to repurchase roughly one in every eight shares outstanding, but the timing seems a bit disappointing with shares trading as low as $20 as recent as the start of 2013.
That being said, Intel has clear prospects for growth now as Krzanich is making progress to attack new markets. While the balance sheet is still healthy, it will be deteriorating on the back of the huge share repurchase program. This move however can be seen as well as a sign of confidence that Intel's current strategy will be successful and deliver huge operating cash flows in the coming years.
Note that while the operational momentum is pushing this year's earnings, Intel is actually ¨investing¨ in the future by posting a billion loss in the mobile and communication division over the past quarter. This unit's progress has been a huge disappointment to many for a longer time. Of course the slow pace of progress of chip developments for tablets is one of the key reasons.
Still shares trade at 15 times reported earnings, while the real current profitability would be even higher if Intel was not so focused on these new initiatives. This combined with a 2.7% yield still results in an attractive investment.
For those who enjoyed the ride and were happy to receive a 3-4% yield last year, as some where in doubt regarding Intel's long term strategy, I would have to say congratulations!
For everyone else, be aware that you will ¨chase¨ the shares if you are a buyer at these levels and you should accept a reduced risk-return profile for your investment.
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.