Intel's 2013 Spending Trending Up
Intel Corp (INTC) reported fourth quarter earnings of 50 cents per share that beat the Zacks Consensus Estimate by 5 cents. The 11.1% surprise was better than the 8.7% it averaged in the four preceding quarters. The resultant 5.3% decline in share prices in after-hours trading more than offset the 2.6% appreciation during the day, as guidance was not too exciting.
Revenue
Intel’s reported revenue was $13.5 billion, within the guidance range of $$13.6 billion (+/-$500 million). This was flat sequentially and down 3.0% year over year.
Weaker-than-expected PC demand stemming from tablet cannibalization and restrained consumer buying due to tighter budgets continued in the last quarter. As a result, distributors worked down inventory of traditional computing devices. Microsoft’s (MSFT) much-anticipated Windows 8 has been slow to take off because of the radical changes to the OS.
Revenue by Segment
The PC Client segment generated 63% of revenue in the last quarter down both sequentially and year over year due to the PC market concerns outlined above. This impacted volumes, which were down 4% and 6%, respectively from the previous and year-ago quarters. The average selling price (ASP) improved 2% on a sequential basis while remaining flat with the year-ago quarter.
Intel doesn’t expect further reduction in prices, channel inventories appear lean and new products are poised to gain momentum. Therefore, 2013 should shape up better than 2012. Low penetration and a growing per capita income are increasing the popularity of computing devices in emerging markets, especially the BRIC countries, which is a longer-term driver for Intel.
Data Center was the second largest group with a 21% revenue share. Segment revenue was up 6.6% sequentially and 4.2% year over year. Intel continues to gain from the growing importance of cloud computing and its own new products. As a result, the company was able to generate ASP growth of 8% on a sequential basis and 5% on a year-over-year. Economic factors were responsible for sluggish volumes, although Intel remains well positioned in both storage and networking.
The secular growth drivers here are increasing Internet usage by consumers all over the world and the ongoing move towards virtualization and cloud computing. The high performance computing (:HPC) segment is the fastest-growing segment within Intel’s data center business.
The Other Intel Architecture segment generated less than 8% of Intel’s revenue in the last quarter, declining 13.5% sequentially and declining 7.0% from last year.
The Software and Services segment contributed nearly 5% of total revenue, up 8.2% sequentially and 10.0% from last year. In addition to discrete sales, Intel is taking an integrated approach to McAfee’s storage solutions, with the intention of further differentiating its products.
The Other segment generated around 3% of revenue, up 20.2% sequentially and 9.2% from the year-ago quarter.
Intel did not provide additional color on its revenue distribution by geography.
Margins
The pro forma gross margin for the quarter was 59.0%, down 530 basis points (bps) sequentially and 643 bps year over year, better than the guidance of 58% at the mid-point. This was because of a lower utilization rate, Haswell inventory write-down (products that were not qualified) and lower volumes in the PC Client and Data Center segments as offset by a slightly higher ASP.
Operating expenses of $4.6 billion were flat sequentially. The operating margin was 25.0%, down 516 bps sequentially and 964 bps year over year. The lower gross margin and high R&D as a percentage of sales impacted both comparisons. SG&A actually declined slightly on a sequential basis, while increasing slightly from last year.
The operating margins by segment were as follows: PC Client 33.1% (down 554 bps sequentially), Data Center 47.0% (up 129 bps), Other Intel Architecture -48.6% (down 2,866 bps) and Software and Services -5.7% (down 634 bps). Operating margins declined significantly on a year-over-year basis across all major segments.
The pro forma net income was $2.5 billion, or 18.9% of sales, compared to $3.1 billion, or 23.1% in the previous quarter and $3.5 billion or 25.3% in the comparable prior-year quarter. One-time items included intangibles amortization expenses on a tax-adjusted basis. Accordingly, the fully diluted GAAP net income was $2.5 billion, or 48 cents a share compared to $3.0 billion, or 58 cents per share in the previous quarter and $3.4 billion, or 64 cents in the year-ago quarter.
Balance Sheet
Inventories dropped 11.0% sequentially and annualized inventory turns moving from 3.6X to 4.7X. Days sales outstanding (DSOs) went from 27 to around 26. The cash, marketable securities and fixed income trading asset balance at quarter-end was $18.2 billion, up $7.7 billion during the quarter.
Intel has $13.1 billion in long-term debt and $312 million in short-term debt, resulting in a net cash balance of $4.7 billion. Cash flow from operations was around $6.0 billion. Important usages of cash in the last quarter included $2.50 billion on capex, $1.11 billion on dividends and $1.00 billion on share repurchases.
Guidance
Intel guided to revenue of around $12.7 billion (+/-$500 million), down 5.8% sequentially and 1.6% from the Mar quarter of 2012 (well below consensus estimates of $12.9 billion). The gross margin is expected to be around 58% (+/-2 percentage points). Total operating expenses are expected to come in at around $4.6 billion.
Management also expects to provide for depreciation of around $1.7 billion and intangibles amortization of around $75 million. Other income/expense and equity investments are expected to be -$50 million. Applying the guided annual tax rate of 25%, net income comes to around $2.0 billion or 16.0% of revenue, which would be down from both the previous and year-ago quarters.
Intel currently expects the 2013 gross margin to be around 60%, opex $18.9 billion (+/-$200 million), intangibles amortization $300 million, depreciation $6.8 billion (+/-$100 million) and a tax rate of 25%.The company expects to spend $13.0 billion (+/- $500 million) on capex.
Our Take
Intel’s top line numbers for the quarter were in line with normal seasonality and management promised steadier ASPs going forward helped by new products. However, product ramp-up costs will impact the gross margin this year and if end market demand doesn’t improve, utilization will also be a factor.
At the same time, Intel intends to step up product development spending to maintain its competitive edge. Therefore, the thing to look for in 2013 is volume. If Intel’s new products are able to generate much stronger volumes this year, we may see improved profitability.
For now, the company remains the leading producer of microprocessors for the PC market. Its innovative prowess has ensured that Intel is well ahead of its closest rival Advanced Micro Devices (AMD). Therefore what affects it mainly is the market itself. Intel’s strategy has been correct here and the company has positioned itself strongly in emerging markets, from where most of the growth is expected to originate in the next few quarters.
Intel has also increased focus on the ultra-mobile, ultra-thin computing segment with its ultrabook concept that has been welcomed by Hewlett Packard (HPQ) and Dell (DELL), among others. Adoption of new technology is naturally much slower in an uncertain economy and the ultrabook’s success has been limited accordingly. But 2013 should see some changes as Haswell ships, possibly bringing Intel’s first major success in the mobile segment.
Until this happens, tablets from Apple (AAPL) and others that run on ARM devices will continue to cannibalize on notebooks, which have been taking share from desktops. Therefore, Intel’s core computing business will remain under pressure.
The enterprise segment has for long been a savior for Intel, but growth rates have slowed down in this segment as well. Intel should however continue to gain from the ongoing move to cloud computing.
Intel continues to display a strong market position, technology lead and solid execution, which should help it through the year. Intel shares therefore carry a Zacks Rank #3 (Hold).
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