It’s been a tough year for chip stocks, but 2012 may be a great time to bargain hunt for the best, writes Paul McWilliams of Next Inning Technology Research.
Intel (INTC) lowered its fourth-quarter guidance this month, from its original range of $14.2 billion to $15.2 billion (midpoint $14.7 billion) to a range of $13.4 billion to $14 billion (midpoint $13.7 billion).
At the midpoint, this represents a 6.8% lower forecast and a 4.4% sequential decline from the third quarter, instead of what would have been a 2.8% sequential increase.
INTC stated very clearly this lower forecast is solely attributable to the shortage of hard disk drives, and is not at all related to the demand for its products (not at all related to lower demand for PCs or servers). INTC stated it expects sales of chips into server applications to be aligned with its original guidance.
INTC also stated that PC manufacturers have allocated what hard disk shipments they are getting to higher-end PCs. Therefore, INTC has seen a shift in demand toward its higher-end microprocessors.
With that, let’s address some of the questions I’ve received from readers:
Why did it take INTC so long to lower guidance?
This is a "rolling" event. When the flooding hit the hard disk plants and the piece parts supply channel in Thailand, participants in the hard disk sector (the manufacturers and their suppliers of piece parts) had to quantify the damage, determine its impact on capacity, and estimate the recovery cycle. This had to be done at not only an aggregate level, but also at a product by product level.
This simply took time and, to some degree, has been a dynamic process as the various companies worked through the situation.
The initial reactions from hard disk manufacturers provided us with a public picture that was couched toward the worst-case scenario. These were the public statements hard disk manufacturers had to make to their investors, and given the litigious atmosphere in which we all operate, the only logical course was to go with the worst case up front.
However, as hard disk manufacturers went through the detailed quantification process, we learned the situation was not quite as bad as it was originally communicated. It’s still bad—just not as bad.
Once hard disk manufacturers quantified capacity, and the forward supply channel quantified its inventory, PC manufactures began to get a clear picture of hard disk allocation. According to INTC, this picture began to come into focus in late November to early December, and with that, PC manufacturers have adjusted scheduling with INTC.
Will the impact from hard disk shortages weigh on first-quarter 2012 shipments more than fourth-quarter shipments?
The short answer here is most likely yes. During the fourth quarter, PC manufacturers depleted supply channel inventory. With the inventory buffer now gone, the lower manufacturing capacity that was available during the fourth quarter will flow into the channel.
In other words, while PC manufacturing capability was above hard disk capacity during the fourth quarter, it will most likely be aligned with hard disk capacity in the first quarter of 2012. What we don’t know for sure is exactly what that hard disk capacity will be.
Since hard disk manufacturers shared their early worst-case scenario news, the flow of capacity data has improved. However, in my view, hard disk manufacturers have been cautious as to how much they have raised expectations.
My thinking is that first-quarter capacity will be at least somewhat above what I noted in the aforementioned report, but clearly short of supporting the demand for PCs.
Do you think this will impact Advanced Micro Devices (AMD) more than it will INTC?
The short answer here is again most likely yes. PC manufacturers have shifted the manufacturing mix towards higher-end PCs.
This is only logical. When you can’t build all the units you can sell the only logical alternative is to use the limited supply of hard disks to build the units that yield the highest profit. This means the skew of PC manufacturing has moved towards higher-end processors.
In most markets, AMD-based PCs are sold at lower prices and, most likely, yield lower margins for PC manufacturers. Based on this view, I think it’s logical to assume the shift will favor INTC in most end markets.
However, there is one wildcard exception that may work to AMD’s favor. As I’ve outlined in past reports, AMD has executed a very good strategy in China that has provided it with better branding power there than it has in most other markets.
Due to this, and AMD’s tight ties with Lenovo, we may see upsides with Lenovo offset what I think are logically downsides with most other brand-name PC manufacturers. However, even if that balances out it still implies we should expect AMD to lower its guidance, which at the midpoint of +3% sequentially, was similar to INTC’s original guidance.
|pagebreak|Do you see any demand factors weighing on the PC industry?
According to INTC, the answer here is no. INTC sees this as strictly a supply issue, which implies that while PC shipments are stunted by hard disk shortages, there will be building pent-up demand.
I believe this is a logical way to look at the situation, and if it proves to be the case, once hard disk capacity is restored we’ll see PC shipments move from below trend to above trend. In other words, pent-up demand will be released once supply problems are solved.
According to INTC, this should begin to happen late in the second quarter of 2012. While this is sooner than I modeled in the report linked above, the flow of news from the hard disk sector has generally improved since that report was published, and INTC would most certainly have a good picture of where the industry stands today.
Do you see this slowing the introduction of new INTC chips?
According to INTC, no. I don’t see why INTC would slow the introduction of new chips for either the PC or the server markets.
This is a major refresh for INTC, and if hard disk shortages linger it will allow PC and server manufactures shift the mix to the new and more profitable models.
Have you seen any evidence that solid state drives (SSDs) are being used to buffer the shortage of hard disks?
According to INTC—which has been very successful in the SSD market—not so much at this juncture. However, when I look at advertising circulars I’ve noticed more frequent advertising of SSDs. So I think if the trend has yet to build traction, even retailers think it soon will.
That said, as we move through 2012 I think we’ll see SSDs build momentum in the PC sector and continue the healthy trend they have already established in the enterprise sector. NAND Flash memory prices are down notably this year, and that should drive more rapid adoption of SSD technology in the consumer sector in 2012.
I expect that prices will drop further in 2012, and by the second half, consumers will see the advantages of pairing a new Ivy Bridge processor (very low power consumption) with a SSD, and with that, enjoy better life on a notebook PC that is comparable with a tablet.
Has the news from INTC altered your view of Marvell Technology Group (MRVL)?
Not at all. While MRVL generates roughly half of its revenue from the storage sector (and most of that from hard disk controllers), the lowered hard disk production rate has long been discounted in MRVL’s price.
Based on the generally improving news we’ve gotten from the hard disk sector, I think the odds of an upside in MRVL’s anticipated revenue are better than the odds of a downside.
Do you think INTC is a buy here?
I don’t think there are any one size fits all answers for investors—all of us have our own unique personal goals, strategies, and risk boundaries. That aside, I think INTC merits consideration as a potential strategic investment.
While I think INTC will be negatively impacted during most of the first half of 2012, I believe the company is executing at the top of its game. Once Wall Street can more fully define the point in time PC shipments can keep pace with demand, we’ll see the price of INTC rebound.
That said, as I’ve noted frequently in past reports, we continue to face mostly near-term risks that could drive prices lower before they rebound.
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