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10/15/2004
04:15 PM
William Schaff
William Schaff
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Taking Stock: Intel's Stock Appeal Starts To Look Good

Intel's stock has fallen more than 34% since the first of the year.

It's that time of year again. No, it's not the Christmas season I'm referring to (though Christmas items are already showing up in stores) but earnings season. The two bookends for the technology earnings season are Intel in the beginning and Cisco Systems at the end. Since Intel's early announcement in September, technology investors have eagerly (and anxiously) awaited the company's outlook and more detail on its bloated inventory situation. So what did Intel reveal on its recent conference call?

The company's earnings release and conference call always are closely watched as technology investors attempt to gauge the outlook for Intel and extrapolate that to the rest of the technology universe. This quarter, Intel reported an increase in revenue of 5% from the second quarter and 8% compared with last year's third quarter. Earnings per share of 30 cents beat the consensus estimate of 27 cents, but the difference was because of a favorable tax impact. Gross margin of 55.7% came in well below expectations of about 58%. This was partly because of inventory reserves and a shift in the revenue mix. Intel sold fewer high-margin microprocessors and more lower-margin motherboards and chipsets than expected.

Demand globally was reasonably strong, according to Intel. The company continues to do well in the Asia-Pacific region, where revenue increased 10% sequentially and 23% from the same quarter a year ago. Across the rest of the world, Intel saw strength as well. The only dark spot was consumer demand in the United States, which was weak. However, U.S. companies offset some of this weakness.

Intel's outlook for the fourth quarter was muted. It expects revenue to increase approximately 5% sequentially, but this is at the low end of what one would normally expect for the fourth quarter. The cautious outlook is partially because customers are working off excess inventory. Around the middle of the summer, it became clear that Intel had overestimated demand and, as a result, ramped up production too rapidly. The company appears to be making a concerted effort to reduce its inventory levels. During the quarter, inventories fell by 1.3%, contrary to the increase many analysts had expected. Intel still will have to run its factories at less than full capacity for one to two quarters, assuming that demand is normal.

Intel's stock has declined more than 34% since the beginning of the year. It's closing in on the price range where it bottomed out in early 2003 and in 1998. Looking at different valuation metrics, the stock is starting to look more appealing, in my view. Using a price-to-book ratio, Intel is trading at roughly 3.5 times book value, which is on the low end for the company. Another metric, enterprise value to earnings before interest, taxes, depreciation, and amortization, also shows that the stock is trading at the low end of its historical valuation range.

It's probably not quite time to pile into semiconductor stocks, in my opinion, but it's worth keeping a close eye on what demand trends the rest of earnings season will uncover. Opportunity may reward the patient investor.

William Schaff is chief investment officer at Bay Isle Financial LLC, which manages the InformationWeek 100 Stock Index. Reach him at william.schaff@bayislefinancial.com. This article is provided for information purposes only and should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any security. Bay Isle has no affiliation with, nor does it receive compensation from, any of the companies mentioned above. Bay Isle's current client portfolios may own publicly traded securities in one or more of these companies at any given time.


To discuss this column with other readers, please visit William Schaff's forum on the Listening Post.

To find out more about William Schaff, please visit his page on the Listening Post.

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