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PC and data center-focused semiconductor company Intel (NASDAQ:INTC) released a terrible earnings report on Thursday, missing numbers across the board and cutting guidance for 2023. There is little to nothing good to say about the Q4 earnings report. And, you can read plenty of coverage elsewhere about how bad Intel’s current situation is.
I grant all that. You will see no defense of Intel’s Q4 2022 earnings performance in this article. What I will do here, however, is make the argument that the tech industry as a whole is facing a major bust right now.
Meanwhile, Intel is working on a multi-year plan to revitalize its business, and people are rushing to conclusions about the outcome of a plan where we won’t really see results (good or bad) until 2025. In other words, many analysts are conflating a sharp short-term plunge in computing demand for a failure of Intel’s long-term strategy. There’s no denying the plunge in 2022 and 2023 earnings, however, there’s a better chance than the market thinks that the long-term plan will work out alright.
Computing Demand Has Imploded Over The Past Year
Intel is involved in a variety of businesses. However, its cash cow is in selling computing chips for personal computers and data centers. These markets enjoyed historic demand in 2020 and 2021 as people studied- and worked-from-home in record numbers and upgraded their computing equipment to do so. Not surprisingly, as the economy reopened, personal computing demand fell off a cliff.
For full-year 2022, total computer sales fell 16% compared to 2021. And the decline accelerated near the end of the year. The three largest computer vendors by market share are Lenovo, HP (HPQ), and Dell (DELL). They saw their fourth quarter computer sales plummet 29%, 29%, and 37% respectively versus the same period of 2021.
People can go on and on about how terrible Intel’s results were, and they wouldn’t be wrong. But how exactly was Intel supposed to sell a lot of laptop chips in Q4 ’22 when their customers were seeing sales drop by a third year-over-year? This was a record drop in sales, driven by the similarly massive boost in sales seen earlier thanks to the stay-at-home dynamic.
I’d argue it makes little sense to judge Intel, AMD (AMD), or Nvidia’s (NVDA) long-term profitability based on the current implosion in the computing sector, just as it made little sense to bid those stocks to the moon in 2021 based on a transitory increase in sales.
I don’t see how Intel possibly could have reported good earnings in Q4 ’22 when industry-wide personal computing sales were down close to 30%. I believe a lot of the analysis today is assigning specific blame to Intel rather than acknowledging that the sector faced a massive glut of inventory as compared to demand and it was going to take a few quarters to work through regardless.
And it’s not just personal computing either. Now we’re seeing signs that cloud is really slowing down as well. Up until last year, people seemed to be modeling Amazon Web Services (AMZN) and its rivals growing at 30%+ annual rate for the foreseeable future. Now, people are quietly marking down those projections significantly. In doing so, that cuts Intel’s future growth possibilities.
This is what a tech bust cycle looks like. For those of us who watched the industry plunge in the wake of the 2000 dot-com boom, it is playing out similarly. First the unprofitable companies imploded. Then the mid-tier firms lost steam. Finally, in 2001, the big-cap profitable tech companies collapsed in value as all their customers (namely the smoke and mirrors dot-com and telco companies) had already gone bust and stopped buying equipment from big guys like Intel and Cisco (CSCO).
A similar cycle seems to be playing out now. In 2022, low-quality speculative tech utterly imploded. Now that those firms have lost access to capital, they’re spending far less on computing equipment and software, which, in turn, hits the sales of the more successful companies in the industry like Intel.
After a profoundly long tech boom throughout the 2010s and 2020-21, it’s hardly a surprise that we’re seeing a bigger than usual bust at the end of the cycle. This is hardly relevant to whether Intel will be a successful company in 2025 and beyond, however. Investors are mixing up their timeframes, confusing an abrupt downturn in industry fortunes today with their longer-term view of Intel’s business plan.
Finally, I’d note that this is a specific tech-industry driven downturn. I’d point out, for example, that consumer spending remains strong and appears likely to do so in 2023 as well. Here’s Visa’s (V) CFO Vasant Prabhu on their conference call yesterday:
“Our fiscal first quarter results reflect sustained growth in domestic spending and continued recovery in cross-border travel.” And, he added: “We’re basically not changing any views on the second half right now because trends have been still fairly stable.”
I think a lot of newer investors might be confused seeing these eye-popping declines in demand across the tech industry while the broader economy remains fairly strong. But, historically, tech has sometimes had a quite distinct boom-bust cycle from the broader economy. And right now, after getting far too optimistic in 2021, tech is undergoing its most severe retrenchment in twenty years. Everyone, including the giants like Intel, are going to pay a stiff price for that.
It Takes Time To Build Billions In Manufacturing Capacity
Intel hired Pat Gelsinger to become its CEO in 2021. Since that point, Gelsinger has laid out an ambitious plan to bolster Intel’s fortunes. As you’ll see, this is a plan that will take until at least 2025 to play out, and it’s far too early to judge whether it is working or not. Here’s author Chris Miller, in his book on the history and future of the semiconductor industry, Chip War, describing Gelsinger’s plan:
When it comes to making these [advanced computing] chips, however, the U.S. currently lags behind. The primary hope for advanced manufacturing in the United States is Intel.
After years of drift, the company named Pat Gelsinger as CEO in 2021. Born in small-town Pennsylvania, Gelsinger started his career at Intel and was mentored by Andy Grove. He eventually left to take on senior roles at two cloud computing companies before he was brought back to turn Intel around.
He’s set out an ambitious and expensive strategy with three prongs. The first is to regain manufacturing leadership, overtaking Samsung and TSMC. To do this, Gelsinger has cut a deal with ASML to let Intel acquire the first next-generation [extreme ultraviolet lithography] EUV machine, which is expected to be ready in 2025. If Intel can learn how to use these new tools before rivals, it could provide a technological edge.
I’d note that the U.S. government just provided a massive aid package to the semiconductor industry in 2022 with a focus on revitalizing American semiconductor capacity. Intel is the most important company out of these in terms of maintaining and expanding advanced American chip capabilities. In due time, I wouldn’t be surprised if this becomes a national security concern, and Intel and other key vendors receive more direct and ongoing governmental support in order to ensure the well-being of the industry.
In any case, given the huge aid package the government just gave Intel and some other semiconductor firms, I highly doubt the government is going to let Intel’s revitalization plan flounder before it has time to reach fruition.
Turning to the second prong of the turnaround plan, here’s Miller’s description of that:
“[Intel] is launching a foundry business that will compete directly with Samsung and TSMC, producing chips for fabless firms and helping Intel win more market share. Intel’s spending heavily on new facilities in the U.S. and Europe to build capacity that potential future foundry customers will require.
However, making the foundry business financially viable will likely require winning some customers who are producing at the technological cutting edge-meaning that Intel’s foundry business will only work if the company can reduce its technological lag with Samsung and TSMC […]
Whether Intel succeeds or fails will depend on whether it can execute Gelsinger’s strategy and whether Samsung or TSMC slip up. Moore’s Law requires these companies to roll out new technologies every few years, so one or both of Intel’s competitors could easily face major delays.”
You’ll notice that the foundry operations will be a multi-year battle that rely on Intel’s competitive position compared to Samsung and TSMC. This isn’t something that will be determined in one quarter’s worth of earnings.
Indeed, to that point, Intel’s foundry revenues were up 30% in Q4 ’22 versus the same period of 2021. Though that comes off a small base, and Intel will need to post a lot more foundry growth in coming years to make the strategy a success.
Regardless, the long-term future of Intel is dependent on these bigger strategy items such as building out so much manufacturing capacity in the United States and developing its foundry operations. The plunge in PC sales in 2022 is certainly awful for near-term earnings, but it isn’t the factor that will make or break the company’s fortunes for the long haul.
INTC Stock Verdict
One analyst had a slightly more upbeat view than most following the Q4 earnings release. Here’s Ross Seymore from Deutsche Bank:
“Overall, we sympathize with Intel’s challenge of executing a multi-year and expensive turnaround in the midst of a macro/semi-cycle downturn and believe [Intel’s first-quarter] guidance may very well mark the long-awaited financial ‘bottom,'”
I believe that gets at the crux of the situation. It’s totally fair to say Q4 earnings were awful, and the first half of 2023 is looking similarly dour. However, that’s a separate question from whether Intel’s manufacturing plans — which won’t really kick into high gear until 2025 — are going to work or not.
Meanwhile, on Wall Street, stocks tend to move based on people’s perception of change. Are things getting better or worse? It’s not whether the situation is outright good or not, but whether forward prospects are moving up or down.
I’d argue sentiment is so bombed out on Intel that there are few people left to sell the stock that wouldn’t have already been shaken out by now. Anyone that owns based on earnings reports would have likely sold already. Another dreadful earnings report in Q1 is unlikely to materially change the mood here.
On the upside, though, given that sentiment for Intel is at rock bottom, it’s not hard to imagine some positives starting to emerge. Mobileye (MBLY) has been performing well and its stock price is trending up — its continued success could give Intel, as the majority owner, a push. Lost in the negative Q4 earnings headlines, Mobileye grew revenues 59% year-over-year and easily topped expectations.
For Intel specifically, any rebound in computer or data center sales would be greatly encouraging. The United States could offer more incentives or support to companies, like Intel, which are betting heavily on the future of American semiconductor manufacturing. And the list goes on.
This is a profoundly deep cycle, given the effects of the pandemic. But, after all, this is simply a computing boom-bust cycle, and we’ve seen plenty of those over Intel’s 55 years in business. PC sales were off close to 30% in Q4 ’22. It’s no wonder Intel released a dire earnings report. But PC sales won’t keep dropping for long; at some point soon they’ll stabilize and perhaps even start to rise again. For investors with a multi-year time horizon, these sorts of panic selling events like we’re seeing on Intel today tend to mark decent entry points for folks with a strong stomach.
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