Intel (INTC) management, as to be expected, painted an optimistic picture of the future in Wednesday’s investor day. As we discuss below, we consider much of the guidance and targets to be stretch goals.
First some context on Intel’s challenges.
As can be seen in the image below (all images in this article from investor day presentations), Intel’s core market, PCs, has been shrinking for nearly a decade. The new markets that Intel has been targeting during this period, tablets and smartphones, have also stagnated or declining.
However, despite its core markets declining, Intel has done an enviable job of delivering increased revenues and profitability (image below).
Part of the revenue growth is due to acquisitions and new product areas that Intel has entered but most of it is due to ASP increases. After vanquishing Advanced Micro Devices (AMD) around 2006, Intel had no competition in its primary market and kept increasing ASPs. The resulting revenue growth largely fell to the bottom line.
However, with resurgent AMD taking market share every quarter for the last six quarters and starting to put pressure on ASPs, Intel’s fortunes have reversed. The declining primary markets, coupled with competition, do not allow Intel to tell a positive story in its core markets.
Enter TAM expansion.
For several quarters now, Intel has been ramping up talk of TAM expansion. The theory is that the company can grow market share in the larger TAM (image below).
This would be credible if not for the fact that there already are entrenched players in target markets and competing in new spaces would at best lead to revenue growth at low gross margins. It does not help that, traditionally, Intel has failed to make forays into new markets despite massive investments.
This brings us to Intel’s execution in its core business.
Core Business Prospects Do Not Inspire Confidence
One of the biggest challenges for Intel has been its 10nm process which has suffered extensive delays.
Intel laid out an aggressive new plan that ramps 10nm in 2019 but dramatically shrinks the scope of the process and introduces a new 7nm process in 2021. Intel sees its 7nm process as competitive with TSMC (TSM) 5nm process (see images below).
The 10nm process is being ramped at very few fabs (only one confirmed so far to our knowledge) and based on leaked Dell road maps we know that only limited production is being promised to customers at 10nm. In effect, Intel is effectively not investing in and marginalizing its 10nm process.
As far as its 7nm process goes, even assuming Intel can hit the stated timelines and performance targets, this process would be at least a year behind TSMC 5nm process. In other words, Intel is NOT getting its process advantage back during the 7nm generation (estimated to last at least 2021 and 2022).
AMD, using TSMC process, is likely to be on par with or ahead of Intel until 2022 or later.
With, at best, process parity, Intel would need to beat AMD products at architecture and core count level and that was essentially all but ruled out at the analyst day. While we already knew from Dell leaked roadmaps that Intel was limiting 10nm clients to 4-core solutions, there was some hope that Intel would announce an 8-core chip. No such luck.
Intel unveiled its 10nm Ice Lake chip and it's only a 4-core solution (image below). While we expect this to be a competitive product with AMD’s laptop products in the short term for several market segments, we expect AMD to offer substantially superior laptop solution in about two quarters.
10nm Ice Lake does not appear to be a winner on the client front – at least not in terms of arresting AMD’s gains, let alone reversing them. Note that Intel will be capacity limited to a single fab even if the 10nm ramp goes smoothly.
The news on the server front seems to be worse. Intel gave no details of the Ice Lake server part (image below) which makes it very likely that Ice Lake will make for a very limited low core server solution.
Intel also seems to be agreeing that Ice Lake is a dud with a surprise announcement of the following generation Tiger Lake architecture (although we speculated on the need for skipping Ice Lake and accelerating Tiger Lake in the past). This is the first time in our memory that Intel is talking about a future generation (Tiger Lake in this case) product details before even announcing the details of the immediately next generation (Ice Lake in this case). This move reeks of desperation and seems to be a tacit acknowledgement that Intel does not believe Ice Lake is competitive.
This brings us to the subject of Intel’s economic prospects.
Lacking competitive products, Intel guided for a low-single digit growth for the next three years (image below). However, this implies the Company will grow in mid-single digits in 2020 and 2021 since 2019 is being guided to negative growth.
It should also be noted that any growth almost is assuredly coming from products outside of core business (like Optane and NAND memories, Mobileye ADAS, FPGAs, etc.).
With a low single-digit growth guidance, Intel is indirectly admitting that its core business will shrink from the AMD threat. This can also be seen from reduced gross margin guidance (image below).
Essentially, Intel’s guidance for profitability is being driven primarily by cost reductions (image below).
While we have expected the cost reductions to accelerate, the extant of the reduction is steeper than what we have been expecting. In addition to shutting the mobile phone chip business, Intel will have to deliver steep cuts elsewhere in the organization to realize the cost savings. While this is possible and likely, we see opex reductions as a double-edged sword and as a growth inhibitor.
Given the bleak three-year forecast, it's not surprising that Intel is giving a rosier forecast in later years (image below).
$6 EPS in 2023 is five years away and not much to write home about. However, claims of bigger opportunity beyond 2021 are not credible and should be ignored. Not only is the visibility in later years less, it's unclear how Intel makes up for the lost ground on technology.
Based on the current roadmap, Intel has no chance of matching TSMC’s process leadership until at least 2022. Will Intel regain leadership in 2022 and immediately deliver in spades in 2023 to make the 2023 prospects come true?
Call us skeptical.
Intel’s low growth (low single-digit) guidance, as bad as it is, is extremely optimistic. With considerable risk to the earnings stream, we find it likely the market will not give a higher valuation than about 10 times 2019 earnings. That makes Intel likely stock price target around $45.
As such, we are skeptical Intel can deliver 2019 guidance and see the stock continue to slip as it underperforms quarter after quarter.
Our view: Sell.
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Disclosure: I am/we are long AMD, TSM. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.