Don’t Chip Away at Intel

Our definition of “contrarian investing” is to buy things temporarily out of favour, not to speculate on a very uncertain and unprecedented situation.

Last month, we looked closely at Intel. While the stock price had fallen substantially from its glory days, including a 60% drop so far this year, it looked like it may be approaching a level representing a decent risk-return opportunity for our clients.

There were several reasons why the stock looked appealing.

• Intel should benefit from supply chain onshoring. The company is transitioning its business model to manufacture (instead of strictly design) semiconductor chips. In case of any future war or pandemic, the world needs an alternative to Taiwan’s dominant chip manufacturing position. Intel received $20 billion under the Chips Act, money to be used to build new plants in Arizona, Ohio, New Mexico, and Oregon.
  
  
• The AI personal computer, which includes Intel’s processors, was launched late last year. While Intel expected to ship only 40 million units this year, all personal computers will probably have an AI configuration longer-term.
  
  
• The stock price had consolidated around $30/share in April, May, and June before breaking above that level in July. It looked like sentiment had bottomed and was now starting to improve.
  
  
• The gross margin, which is the portion of sales revenue retained by a company after buying inputs to produce its product, was trending upwards. This is important because the gross margin is tightly correlated to the stock price.
  

Because Intel had disappointed investors several quarters in a row, we decided to wait until decent results came out that impressed the street

And thank goodness we did.

Expectations were very low heading into their August 1 earnings release. Just last quarter, CEO Pat Gelsinger said he expected to generate a 43.5% gross margin this quarter (but delivered 38.7%), earnings per share of $0.10 (but delivered $0.02), and revenue between $12.5 and $13.5 billion (and delivered $12.8 billion). In addition, Intel eliminated its entire dividend and announced it will slash its workforce by a full 15%.

Investors were not impressed. The stock price collapsed by 26% on Friday, its worst day since 1974!

Intel has experienced a decade of missteps. It sat on the sidelines during the mobile chip boom. Then, it didn’t participate in the adoption of graphics processing units (the kind of chips that Nvidia makes), choosing instead to focus on central processing units.

We avoid companies in the midst of reinventing their business model. Instead, we buy stocks that are contrarian for temporary, solvable problems. The latter situation has better visibility, and Intel at the moment isn’t showing any.

While Gelsinger may be 3 years into his 5-year restructuring plan, the stock price has collapsed by almost 68% since his tenure began on February 15, 2021. Having now lost investor confidence, we expect management turnover, which will throw the company into further disarray.

We didn’t own a single share of Intel heading into last week’s earnings, nor do we plan on buying any now.