Recently, Intel (INTC) reported solid third-quarter operating earnings. The company is on its way to recording perhaps its best top and bottom line fiscal year ever. Yet the stock remains in its own mini bear market. Intel share price is down about 4.5 percent YTD, despite a price increase of just over 6 percent for the S&P 500.
Are investors overdoing their hatred for Intel or is the stock really a dud? Furthermore, should INTC be evaluated like a tech stalwart, a utility company or something else?
Starting with the balance sheet, Intel is a titan: Debt-to-equity ratio of 5 percent, return-on-equity of 24 percent, current ratio of 2.8, and $3.70 cents a share sitting in cash and short-term equivalents. Intel has well-managed debt and has plenty of dough on the books.
The five-year expected PEG ratio is good: 0.8. For a value stock, I like to see the PEG ratio below 1.0. Bolstering the case, management has demonstrated a propensity to beat earnings expectations. It's done so four of the past five quarters.
Turning to the income statement, gross margins are at business-cycle highs: 66 percent in the last quarter. SG&A expenses have been held in check. Revenues have averaged relatively flat over the past five years, but the recession has clipped the top line for many tech companies. YoY revenues for the first nine months of this year are up 30 percent. Intel booked its first $11 billion top line in company history during 2010 3Q. Nothing to apologize about there.
The company has generated free cash flow (operating cash less capital expenditures) in excess of $1.00 a share through the first two quarters (information for 3Q cash flow was not available at the time of publication). This is compared to 94 cents first-half diluted EPS, for a 106 percent ratio of FCF to earnings. A cash rich balance sheet coupled with an ongoing business that generates cash per share above EPS is a winner.
In 2010, the dividend was raised to 32 cents a share. The payout is safe when compared with either earnings or FCF. The resulting yield is 3.2 percent based upon Friday's closing price of $19.84.
The ASP (average selling price) for Intel products remained about flat sequentially, and rose significantly from last year. Fears appear overblown that INTC would resort to price slashing to improve demand. That didn't materialize.
While I tend to be a fundamental investor, I do peer at the charts.
Short-term, the stock has traded in a downward channel since April. However, it busted out big-time this month when the stock hit $19.64 on October 20 via reasonably strong volume.
The money flow index has ramped up nicely since the summer doldrums, when INTC shares changed hands as low at $18.
However, somewhat more concerning is the ten-year chart. Intel has done little since the 2001-02 tech bubble. Quite uninspiring, to say the least.
What Kind of Animal Is Intel?
It's reasonable to surmize that Intel has relinquished its role as a tech growth play; at least for the time being. Therefore, lower EPS growth and corresponding lower PE multiples may be warranted. Indeed, this certainly is the case if the assumption going forward is that INTC management does not have the mindset, ability or corporate culture to bridge and expand from PC chipsets to smartphones and other new technologies.
But let's examine these multiples in more detail.
Should Intel's PE multiple be less than large cap utilities?
Reviewing recent PE and dividend yield for the Dow Jones Utility average directly, and through its proxy, the iShares Dow Utility ETF, one finds approximately a 14X price/earnings multiple, and a 4 percent yield.
Today, Intel Corporation is trading at a 10.7 PE ratio and 3.2 percent yield. The yield isn't much different than a stodgy utility index. Indeed, if you picked up shares at the $18 low ebb, that's 3.5 percent.
Note that the Intel five-year annual dividend growth rate has been 28 pecent. The payout has been raised in each of the last seven years. That's not the case for most utilities; it's better.
The multiple on 2011 forecast earnings is no more than ten times earnings.
Intel is a tech company, not a utility. However, investors are treating it similar (or worse) than the average utility company.
I believe investors have overdone their disdain for INTC. Buy Intel now or accumulate more below $20 a share. It looks like it's on sale at a bargain.
While Intel is not a high-flyer tech company, it deserves better treatment than a DJ utility. The current multiple is too low, whether based upon trailing earnings or 2011 consensus forecast. While waiting, one receives an escalating yield that is comparable to many utility companies.
Assuming 2011 earnings of $1.96 and a PE multiple of 13.5X, INTC is a $26 stock. This represents a 30 percent upside from here, with a yield north of 3 percent to boot. Expect the board to raise the dividend again in 2011. All this assumes that Intel has zero ability to translate their recent acquisitions (McAfee and Infineon) to the bottom line, and zero success with new R&D technologies as part of their core chip industry.
While Intel has threats from a technology move away from the standard PC model, the company has been given no credit for its potential to adapt and re-imagine itself.
Given a pristine balance sheet, safe dividend, dominant industry position, well-respected management, and having received little investor goodwill for potential corporate imagination and business adaptation, I see a good value play.
One can buy a heavyweight tech company that trades with a lower PE than many utilities, but retains the upside of an international technical giant. I see relatively little downside.
Disclosure: Author is long INTC