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Intel profit soars, but ...
Stock tumbles after hours as sales, inventory numbers from No. 1 chipmaker disappoint investors.
July 14, 2004: 9:37 AM EDT
By Paul R. La Monica, CNN/Money senior writer

NEW YORK (CNN/Money) - Intel Corp. Tuesday reported second-quarter profits nearly doubled but sales came in a bit lower than Wall Street forecasts, pushing the stock sharply lower Wednesday morning.

The world's biggest manufacturer of chips used in personal computers and servers reported net income of $1.76 billion, or 27 cents a share, up from $896 million, or 14 cents a share, a year earlier. The consensus earnings estimate on Wall Street was 27 cents a share, according to First Call.

The Santa Clara, Calif.-based company also reported sales of $8.05 billion, up 18 percent from a year ago, but slightly lower than analysts' expectations of $8.1 billion.

Intel's gross margins, a closely watched measure of how profitable a company is after subtracting the cost of sales, also disappointed investors.

Gross margins came in at 59.4 percent, versus the guidance of 60 to 61 percent that Intel gave in June. The company cited slightly lower sales and last month's recall of some of its new Grantsdale chips for PCs.

Shares of Intel (INTC: Research, Estimates) plunged nearly 8 percent after the opening bell Wednesday.

The stock has fallen nearly 20 percent year to date due to concerns about rising inventories and fears that the semiconductor cycle may be close to peaking.

Street sweats inventory build

Intel's report will likely not put an end to the investor concerns about inventories, either.

Inventories at the end of the quarter were $3.2 billion, a 15 percent rise from the end of the first quarter. That's on top of an 11 percent increase in the first quarter. Wall Street is worried that Intel could be faced with an excess of chips if demand for PCs, servers and other tech hardware cools.

"It's all about the inventory. That's the biggest thing," said Kevin Rottinghaus, an analyst with FTN Midwest Research. "The company is going to have to work through some inventory this quarter."

Intel CFO Andy Bryant addressed this issue during a conference call with analysts Tuesday, saying that the company was planning to slow the output of some new chips in order to reduce microprocessor inventories by hundreds of millions of dollars by the end of the year.

Bryant added that he did not think Intel would need to write-down unsold inventory between now and the end of the year because demand in the second half should be strong.

To that end, Intel did give positive sales guidance for the third quarter, which should silence critics somewhat. The company said third-quarter revenues should be between $8.6 billion and $9.2 billion.

The $8.9 billion midpoint of that range is ahead of Wall Street's $8.76 billion consensus estimate.

And if Intel hit that midpoint, it would represent a 13.7 percent increase from the third quarter of a year ago and nearly an 11 percent sequential increase.

Intel has tended to report a sequential revenue increase of 6 to 9 percent in the third quarter, thanks to stronger sales of computers in the back-to-school shopping season.

Lower than expected margins hurt Intel too

But the increased sales guidance didn't appear to please Wall Street since the company also lowered its gross margin target for the year. Intel said that gross margins for 2004 would be about 60 percent, down from earlier predictions of 62 percent.

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Erach Desai, an analyst with American Technology Research, said it looks like Intel is seeing improvement in sales of its flash memory chips, used mainly in cell phones, and that's boosting total revenue.

The problem is that flash memory chips are less profitable than Intel's core business of selling chips used in notebooks, desktops and servers.

Desai said the weakness in Intel's PC-focused business could be a sign of more price competition from rivals like Advanced Micro Devices, which reports earnings Wednesday. That's not going to please Wall Street.

"Intel will have better than usual seasonal demand but lower gross margins," Desai said. "That means a lower price product mix, which generally doesn't support a rising stock price."

The company does not provide earnings-per-share targets. But due to the reduced gross margin outlook, it's likely that Wall Street may have to trim its third-quarter and full-year estimates for Intel. Analysts currently are predicting earnings of 32 cents per share for the third quarter and $1.22 a share for all of 2004.

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Intel's results hit shares of other chip companies as well as shares of semiconductor equipment companies that sell tools and gear to Intel. AMD (AMD: Research, Estimates) fell more than 5 percent Wednesday morning while chip equipment firms Applied Materials (AMAT: Research, Estimates) and Novellus Systems (NVLS: Research, Estimates) each dropped about 5 percent.

But Clark Fuhs, an analyst with Fulcrum Global Partners, thinks that investors shouldn't sell off other chip companies. He argues that Intel's margin issues are company specific. If anything, investors should breathe a sigh of relief since Intel's third quarter sales guidance was fairly robust.

"Demand in the industry still looks pretty good," Fuhs said, pointing out that if Intel hits the top of its new sales forecast, revenues would be up more than 14 percent from the second quarter. "Investors in other chip stocks are overreacting to this."

Nonetheless, investors bid up chip stocks and other techs last year and earlier this year largely because of continued expectations of strong annual gains in earnings and sales. And even though demand may remain healthy, Intel and other tech stocks may find it tough to replicate last year's success in the second half of this year.

To that end, Bryant said during the conference call that even though the company was "excited about growth in the second half," he cautioned that "year to year growth over last year will inevitably subside somewhat."

Analysts quoted in this story do not own shares of Intel or other companies mentioned and their firms have no investment banking ties to the companies.  Top of page

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