Thursday, October 15, 2009

Intel's plan to bring back the PC market

When the worst part of the Economic Storm of 2008 was about to hit, Intel made preparations by moving its emphasis toward Atom, its lowest-end processor for netbooks and embedded devices -- at the time, a single-core unit. Sure, it would drive average selling prices (ASPs) down several points, but it would provide the sales volume necessary to keep Intel in the game, so all hands were bracing themselves against Atom for support.

The biggest sign to date that the storm has officially passed came from Intel's quarterly call exactly one year later. Mention of Atom, the lifeline of the company through the worst of it, was minimized. And we're back to talking about Nehalem, the company's current power-saving architecture, and the move from 45 nm to 32 nm lithography. At least in the skies above Santa Clara, the all-clear has sounded.

During Intel's quarterly conference call to financial analysts yesterday (our thanks to Seeking Alpha for the transcript), we heard the high, resonant sound of that all-clear siren, in the form of a strong and comfortable 57.6% gross margin -- almost one point higher than forecast by the company last year, seven points better than in Q2 2009, and just one point lower than the company was facing before the bad economy hit full-force.

We also heard some evidence of how Intel plans to move forward from here, based on estimates that the general PC market has grown back from its pitfalls in Q1 2009, to just about flat if not slightly better. Essentially, it works like this: Usually, chipsets are a no-gainer business for Intel -- in fact, analysts used to complain during the years when Intel thought it could rely on chipsets as a growth market in itself. Now, with the chipset market having shaken out somewhat, there's more of an expectation that CPU makers AMD and Intel will contribute more to that end of the market, in order to better define the platform.

So Intel has seeded the market in the previous quarter with chipsets, knowing that as OEMs build more motherboards and notebook PCs that utilize those chipsets, demand will be seeded for the CPUs on which these chipsets rely. It's the reverse of the 2005 strategy (that didn't always work), which boiled down to, "If you like the CPU, you'll love the chipset that's made for it."

Here's how Intel CFO Stacy Smith described it to a Merrill Lynch analyst: "Remember the way the supply chain works -- and we think the supply chain is looking pretty normal right now -- if they put some chipset inventory in place in the third quarter, and then they couple it with a CPU in the fourth quarter, [that will] probably [result in] a little richer mix to CPUs in the fourth."

CEO Paul Otellini did mention Intel's shift toward more "systems-on-a-chip," but that refers more to the embedded side of the business. That's where Atom still rules, but Atom was not the star of the day today by any means. The shift in the "product mix" is now clearly toward notebooks and away from desktops, just like it was before, though the netbook form factor was given thanks for helping Intel hang on.

Here's how Otellini passed the torch back to the old generation, from his opening remarks: "Our mobile business had a particularly strong quarter -- in fact, we saw the sequential unit growth rate of notebook processors and chipsets actually exceed the growth rate of Atom processors and chipsets. While Atom and netbooks are important growth drivers for us, our traditional notebook business remains one of the primary drivers of revenue growth, and we expect that to continue in the future."

You don't need chipsets to drive Atom -- that's what system-on-a-chip architecture is all about. Atom already is a platform. As the traditional end of the market resumes its shift to notebooks -- perhaps on fast-forward, compared to the speed that CPU makers anticipated back in 2007 -- Intel is looking to build a complete platform, where the platform drives demand for Nehalem and future 32 nm architectures rather than the other way around, "allowing us to expand margins in a difficult economic environment," remarked Otellini.

It was a leaner Q3 for 2009 than for 2008, but Intel successfully scaled down its operating expenditures to match: its margins year-over-year are a little higher than flat, when Atom's success could have easily driven them into the toilet. The company earned $1.9 billion after expenses last quarter, on $9.4 billion of revenue. For the next quarter, the company gave more direct guidance than we'd seen in recent quarters, expecting as much as 62% gross margins on revenue of about $10.1 billion -- great returns on what probably will not be record sales.

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