Is Intel’s Tumble Justified?

Lior is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

I have written a couple of posts about Intel (NASDAQ: INTC), the leading PC processors maker in the world, that weren’t too positive, to say the least.  Don’t get me wrong, in this post I’m not about to change my mind; I still think the company’s strategy in regards to the ultrabook and its joint collaboration with Microsoft (NASDAQ: MSFT) isn’t the right path for Intel. And yet, the recent tumble in the company’s stock seems an excessive reaction to the company’s financial result in the third quarter. Is the ongoing free-fall in the company’s stock justified? Let’s examine some key factors in order to answer this question.  

Intel and NASDAQ

The company hasn’t performed well in recent months, and its stock fell by nearly 15% since the end of July. On the other hand, the NASDAQ index rose during that time by nearly 5%. The chart below shows the development of the NASDAQ and shares of Intel during recent months (prices are normalized to July 31).  The decision of Berkshire Hathaway to pull out of the company, along with the recent third quarter financial reports, were probably the main contributing factors to Intel’s fall. But the biggest concern for Intel is its lack of growth.

The main potential source of growth for Intel will remain the tablet and smartphone market. Intel’s best bet to enter this market is via its collaboration with Microsoft and its Window 8 operating system. There are already some reports that criticize the new operating system.  But the PC market has taken Intel far, and for further growth it will need to enter the tablet market that has expanded, by some analysts, by nearly 119% in 2012; in comparison, global PC sales have declined in the third quarter by 8.8% compared to the same quarter in 2011. The recent fall in the company’s stock might suggest that the market already thinks there is nearly no chance for Intel to create new growth.

Financial Reports for Q3 Didn’t Meet Expectations

Intel's recent third quarter financial reports didn’t meet the expectations of major analysts: its quarterly revenues declined by 0.33% from the previous quarter and by 5.45% from the same quarter of 2011. On the other hand, the company’s operating profitability remained nearly unchanged at 28%, compared to the second quarter of 2012, but was lower than the company's operating profitability during the third quarter of 2011. The chart below shows the decline in the company’s operating profitability during 2011 and 2012.

The drop in the revenues isn’t earth shattering news; after all everyone knows the tablet and smartphones market, a market that Intel has a small share in it,  continue to rise while the PCs market, Intel's preferred market , dwindles. Further, the global economic slowdown didn't help Intel’s sales.  

Part of the reason for the decline in profitability was the sharp rise in the company’s research and development expenses: during the third quarter Intel's R&D provision rose by 3.66% compared to Q2 2012 and by 21.73% compared to Q3 2011. This provision is likely to further increase in the future quarters, and thus may pull down the company’s operating profitability.

Nonetheless, the company is betting on its R&D to expand Intel's market share in the smartphone and tablet markets. This bet will take time until it will reflect in the company’s bottom line. If the company were to succeed in entering the tablet and smartphones markets, its growth in revenues is likely to return. These kinds of changes, however, take time. And even if Intel’s chances of succeeding in these markets aren’t high, these chances are still positive and thus should reflect in the company’s stock price. In other words, this potential growth should be reflected in the company's value; thus the recent tumble in its stock price might have been too harsh.  

Despite Intel’s disappointing third quarter financial report, there is still a silver lining: the company continues to have a high profit margin. Moreover, the company is doing much better than one of its main competitors, Advanced Micro Devices (NYSE: AMD): according to its recent quarterly report its operating profit/loss was a $131 loss. Intel is also offering a higher divided yield than the leading chipmaker for tablets and Smartphones, ARM (NASDAQ: ARMH). Intel is currently offering a $0.22 quarterly dividend, which is nearly a 4.23% yearly divided yield. In comparison, ARM is only offering a $0.08 quarterly dividend, which is a 0.63% yearly divided yield. Therefore, there are still some reasons to hold onto Intel’s stock.

The bottom line is that Intel isn’t doing well, and its current strategy might not lead the company towards a substantial market share in the tablet and smartphones markets; in such a case, the company’s growth will further dwindle. Nonetheless, the company is still a very solid investment, with high operating profitability and high divided yield. More importantly, there is a chance, even if you think not a high one, for the company to make it in the tablet and smartphones markets. If this bet will pay off it could turn the company around. But it seems the market is undervaluing the potential growth of Intel and its chances of succeeding in entering these markets. This sentiment, in my opinion, is a bit too pessimistic.  

For further Reading: Is Exxon Due for a Rally?

Disclaimer: The author holds no positions in stocks mentioned and does not plan to initiate positions within 120 hours of the posting of this article. This article is to be used for educational, research and informational purposes only and does not constitute investment advice. There are no guarantees, expressed or implied, of future positive returns in regards to the subject matter contained herein. Understand the risks inherent in investing before making the decision to invest or consult an investment professional for more information. Reasonable due diligence has been performed in regards to the information in this article. However, the author expressly disclaims any liability for accidental omissions of information or errors in fact.

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liorc has no positions in the stocks mentioned above. The Motley Fool owns shares of Intel and Microsoft. Motley Fool newsletter services recommend ARM Holdings, Intel, and Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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