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Thursday, July 20, 2006

Intel: More Pain, No Gain

By William Trent, CFA of Stock Market Beat

With Apple’s (AAPL) switch to Intel processors, combined with a blowout quarter for Macs, combined with a new line of chips that leave AMD in the dust, one might think Intel could start to pick up some of the share it lost. One might be wrong.

Second-quarter revenue fell 13 percent from a year earlier to $8 billion, and was below the average forecast of $8.23 billion.

Net profit for the second quarter was $885 million, or 15 cents per share, down nearly 56 percent from a year earlier.

Inventory, a key concern of investors who have fretted over the impact of Intel’s price cuts on profit margins, rose by about a fifth from the previous quarter to $4.3 billion.

(Intel) expect(s) sales for the third quarter to be between $8.3 billion and $8.9 billion, lower than Wall Street’s average forecast of $9.03 billion.

Rearranging the deck chairs isn’t going to help this ship stay afloat. AMD’s response to Intel’s new chips is the same as Intel’s response to AMD’s last successes - cut prices. By a lot. There is just too much inventory out there already and as we have pointed out time and again, it looks like the chip makers want to build up more of it. It will be interesting to see if tonight’s semiconductor equipment book/bill report shows any sign that the crazy levels of new equipment orders are starting to abate. Intel offered a glimmer of hope in that regard on their conference call.

Turning to operations, we have finalized our plans to take $1 billion out of Intel projected spending in 2006.

We have also lowered the capital spending forecast by $400 million to $6.2 billion, plus or minus $200 million.

On the other hand, management still seems to be deeply in denial.

I do not think that we are running up inventory or creating a problem. If you look at the history of Intel, we generally take care of our inventory pretty well.

We have looked at the history of Intel. And we remember less than two years ago they had to write off several hundred million of excess inventory. We suppose that “took care of it,” but we would rather see management acting as stewards than janitors. The company also assures us that the capital spending reduction is only a temporary push-back:
On the capital spending side, think of it in two ways. One is, of the reduction of the midpoint by $400 million, half of it is essentially slower construction spending. So we have all of the same construction projects we thought we would have. We just slowed down some, which means some spending falls into next year instead of this year.

Anyway, kudos to Adam Parker of Sanford C. Bernstein for turning up the heat in the Q&A session. Management refused to bite, but he made clear the salient points in a forum that is open to investors. He’s this week’s winner of the Relevant Data Points Award. The author may hold a position in the securities discussed.

A current list of the author's holdings is available here.

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