Intel's Anti-Trust Woes

Intel’s (INTC) anti-trust problems are all over the papers recently. In South Korea, anti-trust regulators have just fined Intel $25.5 million for anti-competitive practices (a judgement that Intel will appeal). In Europe, the anti-trust regulators are expected to conclude their investigations and issue a judgement soon. And in the US, the FTC has just formally opened an investigation into Intel’s business practices, after sitting on the anti-trust case filed by AMD (AMD) back in 2005 for more than 2 years. Despite losing money hand over fist recently, AMD has not relented on its strategy of harassing Intel legally. AMD accuses Intel of selling its chips below cost to major PC manufacturers in order to induce them to boycott AMD’s products; Intel claims that it offered legitimate volume discounts to major PC manufacturers and have never sold its chips below cost. While offering inducements to customers to boycott a competitor’s products is a legally gray area, selling products below cost to gain market share is illegal in most countries, and the cases will probably turn on this last point.

I have previously written about Intel’s near-monopoly position as a long-term structural strength of the company that will allow it to earn returns above the cost of capital for a long time to come. Apparently, the price of this monopoly position is to be considered “guilty until proven innocent” by the government. While it is likely that more fines will be levied against Intel in the future, it is unlikely that this will dislodge Intel from its monopoly position. Microsoft (MSFT) had numerous anti-trust fines levied against it without affecting its market share. Anti-trust commissions are answerable to consumers, and are aware that consumers have been the chief beneficiaries in the recent Intel attempt to drive down AMD’s market share. Any large fine which causes Intel to retrench from the market, or attempts to force Intel to up its product prices, is likely to be viewed very dimly by the public.

At current prices, I still find INTC to be a very attractive stock. Otellini’s strategy of squeezing AMD by taking temporary losses have been wildly successful, plunging AMD into a cash flow crisis and forcing AMD to outsource fabrication of its own chips, a cost-cutting move widely considered ill-advised by many analysts because it will hamper implementation of new chip designs and set AMD back in the chip research race. Intel has regained profitability in recent quarters, and has gained market share from AMD, especially in the high-margin server chip market, and has also regained the lead in introducing the fastest and most energy-efficient chips. Due to anti-trust concerns, I believe Otellini will not want to squeeze AMD completely out of the chip business, but would seek to confine AMD to a small market share in the low-margin PC chip market.

At the same time, Intel is branching into the cellphone chip market with the introduction of the Atom chip family, a high growth market with no signs of slowing. As the consumers in developing countries gain purchasing power, they will not only consume more oil and food, but will increasingly be able to afford more cellphones, desktops and laptops. With this international exposure, Intel is well-positioned to weather the US recession. In short, I believe that the end of the price war with AMD (and the resumption of greater than 40% profit margins) and the continued growth of overseas consumption of technological products will propel Intel’s earnings in the near future.

I believe that the chief strategic danger to Intel in the distant future will the be eventual unwillingness of foreign governments to rely exclusively on US-made chips due to national security concerns (similar concerns have forced Microsoft to disclose the source code of its flagship Windows OS to certain foreign governments, something which Microsoft has previously vowed never to do), and the possible emergence of a foreign competitor to Intel with the advantage of a protected domestic market. However, it should be quite some time before the developing countries develop this capability, although with AMD outsourcing its chip fabrication to Singapore and Taiwan, this day may now come sooner rather than later.

Disclosure: Author has a long position in INTC

Comments

[DR JOHN AIN...:]

I HAVE A LONG POSITION ON INTC AND HAVE OWNED THE STOCK FOR MORE THAN 10 YEARS WITH ALL THAT IMPLIES WITH SPLITS, ETC.

INTC IS ONE MY PRIME POSITIONS FOR THE OPTIONS MARKET POSITIONS. THE TIME VALUE OF COVERED CALLS, WITH THE ADDED INTC DIVIDEND, HAS RETURNED A 14 PERCENT YEARLY GAIN. USING THE RULE OF 72 ONE CAN SEE THAT IT HAS BEEN VERY STABLE AND REWARDING FOR MY PORTFOLIO.

I AM ALSO AN ELECTRICAL ENGINEER AND HAVE A RELATIONSHIP WITH THE COMPANY ON AN ONGOING BASIS. I HAVE ENJOYED MY RELATIONSHIP AND DEALINGS WITH THE COMPANY AND ITS PEOPLE. WHY? YOU ASK! ANSWER: THE PLAYERS AT INTC HAVE A BRAIN AND THE ABILITY TO USE IT. ALSO, IN MY OPINION, THE TOTAL PRODUCT LINE IS FAR SUPERIOR TO THAT OF AMD.

I DO NOT WANT AMD TO BE ELIMINATED FROM THE SCEEN. COMPETITION IS GOOD.

HOWEVER, NO AMD FOR THIS ENGINEER.......IT'S INTC WORTS AND ALL.

DR JOHN AINSWORTH PE
OMAHA, NEBRASKA
SEQUATCHIE, TENNESSEE

2008 Jun 08 09:09 AM

[justinabcsee:]

This article is sooo biased! You obviously have no concept of what a monopoly requires... Microsoft and Intel are very different cases. It benefits customers to have one operating system across all users. But in the case of Intel's processors, they are essentially just widgets. Intel must actively protect its market monopoly, because AMD and anyone with an X86 license can produce processors, too.

2008 Jun 08 07:34 PM

[Peter Nguyen:]

I read several article that this author Creek post on Seeking Alpha but I believe this is the worst one. Author wrote that Intel's monopoly position is good for consumers "Anti-trust commissions are answerable to consumers, and are aware that consumers have been the chief beneficiaries in the recent Intel attempt to drive down AMD’s market share. Any large fine which causes Intel to retrench from the market, or attempts to force Intel to up its product prices, is likely to be viewed very dimly by the public. Intel low the price in short term to kill AMD and would raise the price in long term when it cotrol the market. I also believe Intel is a good company. Intell is much better than AMD in manuafacture and financial. In design, both Intel and AMD take turn to lead the other in the design cycle. Intel's curent stock price is fair. Howver, AMD's current stock price is much under value. That's price is for a BK company but AMD is never going to BK. Now serveral countries either fined or investigate Intel's anti-trust so Intel can't squize AMD anymore. All computer makers don't want Intel's monopoly position. US government doesn't want Intel to force AMD outitsourcing its chip fabrication to Singapore and Taiwan so I believe AMD's worst time is behind and it will much better in next couple quarters. We'll see AMD at $16 by 1Q2009.

2008 Jun 08 11:26 PM

[Value Geek:]

To Peter Nguyen : I too believe that AMD will not become bankrupt. However, I think there is a good chance that the company will be forced to sell shares at a very unfavorable price (say $3-5) to raise cash due to its high cash-burn rate, resulting in dilution of the existing shareholders. Financing with banks is unlikely given today's financial environment. On the other hand, a doubling of AMD's stock to $16 is possible if the price war ends and AMD regains profitability; this scenario depends very much on Otellini. I personally think that $7-8 is a fair price for AMD given these two possible scenarios. As for INTC, I think that it is fairly priced given Intel's current earnings, but I think earnings are going to dramatically climb once the price war ends and the Atom takes hold (and the Atom is already selling well enough to for customers to experience shortages - see www.pcworld.com/busine...).
But your central point is well taken: just because a company is very good operationally doesn't mean that it's stock is good value; it all depends on the price of the stock. I wasn't trying to set a specific price target for the stock, but was just pointing out that the anti-trust issue is probably just more white noise.

To user 20710 : The well-developed US economy doesn't have any "strong" monopolies (and it should not), only "weak" ones. Microsoft has to defend its Windows OS against Linux and Google Docs, Intel has AMD, Walmart has Target and the rest of the retailers. The source of their monopolies differ : Windows users face high switching costs and less software choice when turning to another OS; Intel and Walmart have huge economies of scale that allow them to undersell their competitors whenever they need to. Their dominant market shares and huge cash reserves are the source of their permanent edge in competitiveness. As long as they do not let their market share erode, no government or major customer/supplier will dare snub these companies seriously, because the threat of market disruption is very real. Such a semi-monopoly can take even a serious hit without permanent harm, as long as management even has half a brain. Intel managed to lose its technological lead through sheer carelessness, but regained it (albeit by sacrificing 1-2 years of profitability). I DO know what a natural monopoly requires (having done Econ 101) ... while Intel is not a natural monopoly, it has certain characteristics of one and is a "semi-monopoly".

2008 Jun 09 08:08 PM