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Wall Street Owes Intel an Apology

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

Anyone holding their breath waiting for Intel (NASDAQ: INTC) to once again dominate the chip sector as it did in the '90s should invest in some scuba gear to go find that ship -- it sailed long ago, or possibly even sunk. Qualcomm and ARM Holdings will not allow that to happen. On the flip side, Intel’s Q4 results proved that the chip giant has no plans to affirm its death. And if Intel's spending plans were any indication, doubters should be afraid.

Intel’s performance can’t be discussed without first understanding where the company is today. Intel dropped the ball on the mobile movement and then it underestimated the swift global decline of the PC industry. But it’s not alone. This has also impacted OEM partner Microsoft (NASDAQ: MSFT) whose Windows 8 performance has been abysmal with OS sales falling 21% year-over-year.

Ahead of Intel’s report, the market knew from Microsoft’s performance that sales of desktop machines had dropped by 9%. Likewise, laptop sales have fallen by 24%. Essentially, as Windows 8 was meant to invigorate the PC industry (and possibly Intel), the opposite occurred. That being said, heading into Intel’s Q4 report, shame on anyone who expected a swift recovery.

Q4 was Not Great, But Where's the Surprise?

The Street was looking for earnings per share of 45 cents. In Q3, Intel said revenue would arrive in the range of $13.1 to $14.1 billion with gross margin coming in at 57%. Consensus estimates had Intel posting sales of $13.53 billion.

For the fourth quarter, Intel posted revenues of $13.477 billion. While this arrived at the midpoint of its own guidance, it was 40 basis points lower than estimates. In other words, Intel missed Street’s revenue target by less than 1%. Despite the 3% decline in sales, this should qualify as a win, considering Intel’s seemingly dysfunctional operation.

In addition, with EPS coming in at 48 cents, Intel beat Street estimates by 3 cents, helped by (among other things) an aggressive share buyback program, which reduced the share count during the quarter by almost 3% to 5.095 billion shares. On the other hand, gross margin was not great – falling year-over-year.

The company said that this was due to an increase in costs, which jumped up 14.69% or $725 million. Consequently, gross margin shed 646 basis points – disappointing. Then again, keep in mind what the expectations were. Intel guided for a midpoint of 57% gross margin per GAAP. In other words, Intel met its goal despite the decline.

Bears may point to the fact that the company is spending too much. True, expenses were a bit high, climbing to $4.58 billion. Then again, what did we expect? The company understands its reality. It is being outmaneuvered by rivals in several categories. In fact, that R&D expenses jumped 14% year-over-year should be a welcomed signal that Intel is not resting on its hands.

And it’s not as if the company is spending frivolously. That marketing, general, and administrative expenses declined by $15 million, or 0.76% proves that. For that matter, net expenses of $4.58 billion was only 1.7% higher than Intel’s prior guidance of $4.5 billion.

Managing Expectations and the Competition

I will say a decline in gross margin coupled with higher expenses is not a profitable formula. But the company clearly knows its business and has a firm handle on its path towards recovery. And investors could see this in the company’s first-quarter guidance, which includes $12.7 billion in revenue (midpoint).

While this represents a 6% year-over-year decline, this has to do with seasonality. Intel also projects 2% sequential increase in gross margins to 59%. For the full fiscal year, the company expects revenue to come in the range of $53.83 to $55.4 billion – higher than Street estimates of $54.3 billion. That Intel’s midpoint is slightly higher than estimates is a welcomed sign of confidence.

Then again, for the performance to be realized, how Intel plans to address competitive pressure in the mobile space will be central to its ultimate recovery. The good news is, things are beginning to fall in place. According to TechCrunch, investors should expect LTE-compatible chips from Intel at some point this year.

These will allow Intel to power more smartphones and seek more growth opportunities in tablets. During the conference call, the company announced plans to make its next-generation tablet SoC (system on chip) codenamed “Bay Trail” available to Google’s Android platform. This is in addition to Windows availability.

This means that Intel is now “inside” a total of seven smartphone designs. And it doesn’t hurt that rumors have emerged that Apple (NASDAQ: AAPL) is considering using Intel chips in several of its devices, including iPads. This would be a huge boost to Intel, especially since Apple continues to dominate in U.S. smartphone sales – reaching 53.3% market share. This is according to a recent report by Kantar Worldpanel ComTech, which tracks sales data.

Not only is this Apple’s highest share gain ever, but this is the first time the company has ever exceeded 50%. So if Intel is able to indeed partner with Apple, this will certainly help raise Intel’s profile in the realm of mobile. In the process, this will remove the aura of bearishness that exists among analysts.

Bottom Line

Intel is not out of the woods yet, but the company is no longer in a swamp either. The good news is that the mobile devices market is still growing and the company’s R&D investments says that it plans to be a thorn in the side of many rivals.

That the stock is being punished today – dropping 6% for this report means that Street expectations were too high. On this folly, I would be a buyer here. And by buying back its own shares, Intel still sees value in its own stock, which is always a great sign despite the market’s bearishness. 

rsaintvilus is long AAPL and has no positions in the other stocks mentioned above. The Motley Fool owns shares of Intel and Qualcomm. Motley Fool newsletter services recommendIntel and NVIDIA. 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 insightsmakes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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