Intel -- Bargain or Doomed?

[TomK]

I'm so torn about INTC these days. Just looking at the metrics, I want to back up the truck. Great dividend yield, very good dividend growth, backed by a safe payout ratio, good p/e ratio, cash in the bank.

The only weak link, of course, and it is a biggie, is that earnings growth has slowed to a halt or even a bit negative. So what story line do you buy? Is the PC dying, and taking this behemoth blue-chip's market with it? Or is INTC going to successfully re-tool and take big market share in low-power chips for mobile in the not-too-distant future?

With the market up so much lately, INTC seems like one of the best large-cap bargains still around. And they say to buy when others are fearful.... Still, I'm not sure I'm ready to pull the trigger. Maybe wait for next earnings?

Any thoughts?

[Kerim]

I've got the same concerns as you, TomK. INTC is already one of my biggest holdings, so I don't think I'll be buying any more soon. It is such a solid performer in all of the ways that you mentioned, and I love the great dividends I'm getting to hold it.

I'm not too worried about the long-term prospects. I think that they have the resources and the talent to adapt to the changing technology environment. But I will be keeping a close eye on this one!

Do you already have some shares, or considering starting a position? I've read a couple of articles suggesting that next earnings could provide a nice price dip (good entry point). Even those that are bullish on the stock seem to think there is little chance of significant improvement in the next quarter or two.

[Kerim]

So INTC is one of the largest holdings in my dividend growth portfolio. They’ve taken a lot of heat over the last couple of years for missing the boat on mobile, and earnings have certainly suffered. The stock price spent a lot of 2012 in the mid to high 20s, even flirting with $30 briefly, if I recall correctly, before marching steadily down to almost $19. It bounced back some in the early part of 2013, back to $25, as hopes increased for their new chips to get them into mobile. Now back to about $23 as earnings stay stale and guidance has been revised downwards.

I took all of this in stride, without worry. Intel is a behemoth in the industry, with first rate talent, solid management, a good product pipeline, a plan to get into mobile and thereby to get earnings going in the right direction again. Aside from earnings, INTC’s metrics as a dividend growth stock are pretty darned solid as well. A very nice yield near 4 percent, a low p/e ratio (around 12), a reasonable payout ratio (below 50 percent), good dividend growth over the last 5 years, and reasonably good streak of annual dividend raises.

Despite all of the naysayers, my faith in Intel has never really been shaken, until the recent dividend announcement. For the first time, I am questioning my large allocation to INTC. They’ve raised the dividend in Q3 for the last couple (or few) years, but they just announced the Q3 dividend – unchanged from the previous 4 quarters at 22.5 cents. This is pretty concerning to me. It sends a strong signal that management is not confident that earnings will be back on track any time soon.

It was, rightly, pointed out to me that while Intel has a good streak of annual raises going (9 years, I think), they really haven’t always made the raise in Q3. That has only been true in recent years. The timing of the raises has been somewhat erratic in the last decade. Furthermore, even if we did not get a raise until sometime in 2014, their streak would not be in jeopardy, the way I measure. I look at calendar year totals, so in 2012 INTC paid out 87 cents per share, and in 2013 (even with no raise), they’ll pay out 90 cents per share. Any raise in 2014, however paltry, will suffice to keep the streak going, as a technical matter anyway.

Nonetheless, it is hard to avoid thinking that if management were confident in the way things were headed, they would not mess with shareholder expectations like this and would have raised the Q3 dividend, even if only by a small amount. I’m going to give them the benefit of the doubt and am not seriously considering selling any of my shares right now. But they have certainly shaken my faith for the first time.

What do others think?

[TomK]

Hey Kerim, did you see this? http://seekingalpha.com/article/1602632-...-panic-yet

[Kerim]

I just read that this morning, Tom, and was considering how to reply!

Ashraf Eassa writes a lot over at SA about Intel and really seems to know what he's talking about. I want to be comforted by this new article telling us not to panic -- YET -- about INTC not raising the dividend, but am not. His essential points are that INTC has never been a company to raise by the calendar every year, and that rather they have raised in the past when business conditions warrant, and that current business conditions do not right now warrant a raise. He does not explicitly call this responsible stewardship by management. Rather, he suggests that a raise right now would seem like a "totally desperate" move to assuage investors rather and hence would be viewed as a negative. He concludes expressing his opinion that Q3 will "mark the beginning of the turnaround" and that Q4 will be the real tell. He says it this way: "If Q3 comes in all-right and if the Q4 guide is strong, I fully expect a dividend increase along with the results. If not, then lack of a dividend increase will be the least of Intel investor worries."

There are a couple of strong reasons I don't buy this story line. First, I am an INTC investor, and I would not have seen a Q3 raise as "desperate." I would have been immensely comforted by a Q3 raise. Now, I suppose if it had been an unusually large raise, it would have seemed suspicious in the way that Eassa suggests. But, especially in light of the currently reasonable payout ratio, a small raise would have said to me "yes, current business conditions do not warrant a large, or even typical raise, but we believe in out pipeline and products are not worried about where things are headed."

Second, the article suggests that all of us -- including Intel management -- will just have to sit and wait to see what Q3 and Q4 bring. Well, we're well into Q3 right now, and Intel is working with hardware companies right now to sell chips that will be in products to be sold in Q4 and beyond. You're telling me Intel does not already have a pretty solid idea of what Q3 and Q4 are going to look like? Or at least whether they will mark the beginning of the turnaround or comeback? They just reduced full year 2013 guidance. Combined with the dividend news, this says to me that the turnaround is not nearly so imminent as Eassa hopes.

This morning, more than ever, I am considering lightening my allocation of INTC. I would not consider this a panic sell. It is overweight in my portfolio anyway, so I would just trim that back some, maybe unload 25 percent of my holdings. My average price per share is $19.35, so I would not be taking a loss. (Nostalgia moment: Just looked back through my spreadsheet -- I bought my first pile of INTC in march of 2009 at $12.20 per share back in March 2009.) I also wouldn't mind having a little extra dry powder at hand, and this move would help achieve that. I have some risk plays in my dividend growth portfolio, but I've never considered INTC to play that role in my holdings.

I've made no decisions yet, but will keep you all posted!

[TomK]

Given all you've said, Kerim, I think it would be a reasonable decision to lighten up some on Intel. Not because I'm an expert on Intel, and not because I've got any special insight, but mostly because I'd never let my allocation to tech get too heavy in the first place.

Intel seems like a great company overall. But tech is just a fundamentally more difficult business and sector than must be navigated by other dividend growth favorites. I can tell you with a fair amount of confidence what the business of an MCD or PG or KO is going to look like in 5 years, or 10 years, or even further out. I can't do that with the likes of INTC, AAPL, MSFT, etc. I want my portfolio to be as worry-free as possible for as long as possible. For me, this means I've got to keep my portfolio light on tech.

Tom

[EricL]

I sold my INTC position after the dividend announcement. I think in the long term that Intel will figure out mobile and continue to grow profits, but I don't like the irregular growth and am not confident that management has shareholder concerns at the forefront. Its hard for me to give them a pass for not raising the dividend when they spent $550M on share repurchases in Q2, yet the share count actually increased by 26 million because of convertible debt and employee compensation.

I bought IBM to replace it in my portfolio. I give up a little in current yield but have a more stable and predictable growth going forward.

[Kerim]

Hey EricL -- welcome to the forum and thanks for posting!

As you can tell from my recent posts in this thread, I certainly don't disagree with your decision to sell. I hadn't focused on share count -- will have to look into that.

I don't follow IBM closely, so can't speak to that call, but (if I do decide to sell some of my INTC) I'd be inclined to go with Tom's advice and just lighten up on tech altogether. Either keep a little extra cash for a good buying opportunity or replace with some more PM or KO or MCD.

Kerim

[Horace Cugle]

I dumped my shares of INTC. Without the rising dividend I don't think they have much going for them. Maybe they'll raise it soon but I think the fact they didn't raise it says a lot. You can look on the bright side and chalk it up to competent management tightening the purse strings for the time being.

[The Dividend Guy]

I also dumped my INTC shares a few months ago. I always look at companies that will be able to increase it dividend over the next 10 years and I don't think INTC could do that 10 years from now. Actually, I have no clue what INTC will do in 10 years and if their business model will still be good.

It's a great company but in a fading industry. Since they are still not able to take a leader's place in the mobile industry, I fear INTC margins will get hurt later on. This year, I've sold INTC and STX (Seagate Technology) for the same reason. I've decided to invest in WMT and MCD instead :-)

[fiveoh]

I'm debating dumping the rest of my intel even though I would take a 10% loss on it. I just dont see them turning it around in mobile and their cash flow is getting lower and lower....

[hendi_alex]

Matt who posts on my Income Investing and Beyond Board at Investor Village seems to be pretty savvy wrt to tech. He has had some well thought out posts related to both Apple and Intel. I don't think that he would mind me sharing this one in depth INTC post. I'm overweight INTC at 13% weighting but also have sold calls against 100% of the position. Have generally been long INTC for most of the past three years except for a few months when all shares got called. Cuurently my calls are laddered from $21 up to $24 and my average cost is a bit over $22. Dates go out as far as April.


Well, that's a layman's view, but it isn't what is really going on. Basically the media has hyped up the mobile/pad thing to the point where it is attributing the shift well past the markets where it actually works. A lot of us engineers have been scratching our heads over all the ridiculous ARM hype.

Basically it comes down to this: There is a major shift away from laptops and PC's in the home consumer market and towards mobile devices (pads and phones). It's a big market, which is why many companies (Dell, HP) are feeling the pain. ARM is competitive in this market primarily because ARM focuses on drawing very little power when the cpu is mostly idle. The shift is occurring because laptops and desktops are far more powerful than consumers really need. They're happy with pads and other mobile devices despite those devices being 5x to 10x less capable.

But that is about as far as it goes. Intel has the server space locked up. ARM has exactly zero chance of penetrating it. Servers don't need low power low-performance cpus. Servers need modestly low power HIGH performance cpus. ARM can't even remotely compete with Intel in the Server market. It isn't even close, and that's comparing ARM's not-yet-in-production technology against Intel's 2-year-old technology. When you throw Haswell into the mix Intel has at least a 5-year lead on everyone else which is insurmountable.

In the business laptop and desktop space ARM also has basically no chance. These devices need to perform, or employee productivity suffers. Should be obvious to anyone, frankly. Try writing a few pages of text on a mobile device.... painful as hell, even with a bluetooth keyboard. Similarly, employees with business laptops often leave many apps open and active at once, have browsers with 50 tabs open, and expect it all to be zippy. Mobile cpus have basically no chance of being able to handle that sort of workload. Throw in Haswell laptops and nobody is going to be buying ARM devices for business laptop needs.

Even worse, Haswell is likely going to blow AMD away in the laptop market. So while Intel will lose share to pads on the consumer side, the losses will be mitigated by AMD losing pretty much the remaining small percentage of desktop and laptop market that it had to Intel. AMD can't even remotely compete with Haswell either.

--

So essentially we are in a situation where the markets believe Intel's base business will continue to suffer severe setbacks whereas I believe that much of that is now baked in... the consumer space is as switched over to mobile as its gonna get relative to consumer laptop and desktop sales, and Haswell is virtually certain to trigger a new business laptop/desktop cycle as well as a new server cycle. Literally Haswell pays for itself in the server environment in just a few months... that's how important it is in that space.

Notice that I haven't even talked about Intel penetrating the mobile market yet. Basically, so far, I've laid the case down for Intel's existing business lines stabilizing.

Now throw in Intel's penetration of the mobile market and keep in mind that Android (in particular) runs just fine on Intel cpus, and that mobile phone makers basically do an entire hardware reorg every 8 months. What does this mean for Intel? It means that Intel only has to produce something which is on-par with ARM's offerings, what is called 'System on a Chip', for mobile, to be able to penetrate the market. ARM has no protective moat. And mobile is far larger than the consumer space ever was. Once Intel begins to penetrate the mobile market it will have no problem making up for loss in the consumer desktop and laptop markets, and it will STILL have its business and server markets held totally intact.

Now throw in Intel's FAB advantage. All Intel needs to compete with ARM is technology that is already about to be released late this year / early next year (I am discounting the work-up technology they've already released in the mobile space). Intel has two more generations in the pipeline after that. At a minimum that means that Intel will be on-par with any future advances ARM and ARM vendors can make. In otherwords, within two years Intel is going to have a major chunk of the mobile cpu market no matter what happens in the ARM space. That's the absolute worst case.

When you look at power use and related considerations, ARM's only real advantage was its lower-power consumption AT IDLE. Intel is already competitive with ARM's power consumption just using Intel's work-up mobile technology. Within one generation of its current technology Intel will be handily beating ARM on power consumption for mobile devices. And I should add that when the cpu is loaded, ARM is already non-competitive with Intel. So when it comes to requiring more performance out of mobile devices Intel is already in very good shape with current technology.

In anycase, that is what is really going on in the space.

-Matt

posted 8/16/2013