This post describes our model of Intel's (INTC) Income Statement for fiscal 2011's first quarter, which will end on 26 March 2011.
The purpose of the model is to establish a baseline for identifying surprises, positive or negative, in the quarterly results the company will report. Estimates for each line of the Income Statement are derived from management's guidance, the company's historical financial results and other publicly available data.
We begin by reviewing background information about Intel and the business environment in which it is currently operating.
In fiscal 2010, Intel's net income rose to $11.7 billion, from $4.4 billion the previous year. Revenue increased from $35.1 billion to $43.6 billion.
Intel's business is organized into nine product groups. The two largest groups, by far, are PC Client and Data Center. The PC Client Group sells microprocessors and related products for desktop, notebook and netbook computers. It also markets wireless connectivity products. PC Client was responsible for $31.6 billion of revenue in 2010, 72.4% of Intel's total revenue.
The Data Center Group sells microprocessors and related products for servers, workstations, and storage computing equipment. It also has products for wired network connectivity. The fast-growing Data Center Group had revenue of $8.7 billion in 2010, 20% of the company's total sales.
Intel developed the x86 microprocessor architecture, which is the foundation for the central processing units that run most personal computers and servers. The scrappy Advanced Micro Devices (AMD) has long been Intel's most direct competitor in the PC microprocessor market.
The newest generation of Intel microprocessors, known as Sandy Bridge, includes a CPU and a Graphics Processing Unit. This design could, in theory, reduce the need in some PCs for the dedicated graphical chips built by AMD and Nvidia (NVDA).
On 31 January 2011, Intel announced that it had discovered and corrected a flaw in a Cougar Point chip used in conjunction with the Sandy Bridge processor in personal computers. The cost to the company in lost sales and repairs could reach $1 billion.
Intel's dominance in the market for personal computer CPUs does not extend to smart phones and tablet computers. These mobile-computing devices, including those sold by Apple (AAPL), are most often powered by chips designed by ARM Holdings (ARMH) and its many licensees, which include Samsung (SSNLF.PK), NVIDIA and Qualcomm (QCOM). The ARM designs are valued for their low-power consumption.
Microsoft (MSFT) has decided to make the next version of Windows compatible with ARM processors to facilitate the use of the company's operating system on greater numbers of tablets and smart phones. This decision should also make ARM chips more suitable for use in personal computers. NVIDIA has made known it would develop CPUs using ARM designs for a wide variety of other platforms.
In January 2011, the temperature of the rivalry between Intel and Nvivia cooled when the two chipmakers agreed to end their legal disputes and cross-license certain technologies.
Perhaps desiring an opportunity to participate in the demand for ARM technology, Intel purchased Infineon’s (IFXA) Wireless Solutions Business (now group) for about $1.4 billion in cash. This deal, announced on 30 August 2010, includes Infineon's ARM-based offerings.
Intel completed its acquisition of McAfee, a maker of security software, on 28 February 2011. When this $7.7 billion deal was announced last August, it was considered surprising. Intel believes that combining McAfee's security expertise with Intel's hardware designs will have long-term benefits. Others are skeptical about the advantages and the price.
The starting point is the "business outlook" Intel provided on 13 January 2011 when it announced fourth quarter results. We then checked the updated guidance Intel provided on 31 January 2011 when it identified the chip design flaw. This guidance was also revised to address the Infineon and McAfee transactions.
Intel's latest guidance states that it expects a Gross Margin of 61%, plus or minus approximately 2%. Although weighed down by costs associated with the chipset flaw, a Gross Margin over 60% is still good by historical standards. A 61% Gross Margin, combined with the Revenue target, translates into a Cost of Goods Sold (i.e., Cost of Sales) of (1 - 0.61) * $11.7 billion = $4.56 billion. This figure probably includes somewhere around $350 million in extra costs associated with the chipset flaw.
Intel advised that equity investments, interest and other non-operating income would amount to $200 million. This is more than in most recent quarters.