Is Intel a Ticking Time Bomb for Qualcomm?
Board: Value Hounds
The leader-beans from Intel’s Executive Suite gave a conference call including some updates to guidance and results from Q4-2012. Mr. Market was not impressed and INTC’s stock price got taken to the woodshed, down some 6%.
I’m not going to bore you with details about projections and financial blah blah blah. But, I am going to discuss why I think Mr. Market is mispricing INTC in an awful way and why I bought (and continue to hold) chunks of INTC (albeit at lower price points than the current per stub price).
Everybody knows that INTC makes those chips that power your laptop, desktop, and server. And INTC has that market sewn up tight. Some 80%+ of all chips in traditional computers are made by Intel (I’ve even seen numbers as high as 95%).
A tightly sewn-up market is great because it provides pricing power. And INTC obviously has that kind of power in spades: INTC has been able to generate operating margins north of 55% for quite some time in this “traditional” line of business (and some times north of 60%).
Typically that kind of (marginal) profitability attracts competitors. But the “traditional” chip market is in decline to the tune of 3-5% per year. And one of the things I’ve learned from watching Buffett over the years is that industries in decline typically have a huge degree of pricing power (i.e. moat) because there is no threat from entry. In the case of traditional chip-manufacturing this makes perfect sense: who in their right mind would burn >$5 billion to build a chip fab, just for the “honor” of selling x86 chips into a market that is shrinking 5% per year? You’d have to be nuts! (not to mention crazy because INTC would build a more modern fab that made yours worthless in less than 24 months!)
So, this fact alone might justify INTCs low-ish P/E of ~10 (trailing twelve months). While I think INTC shares are low-to-fairly valued for just the x86 side of the business, I think Mr. Market has completely ignored Intel’s planned (and announced) ramp into the mobile processor space .
To see how INTC is accelerating their push into mobile you first have to understand how their simple R&D dynamic works. It’s all about “tick-tock.”
Intel develops chip fabrication plants based on (duh!) various fabrication technologies. Their current cutting edge fabs are 14nm process and are only used to make (about half of) their “Haswell” line of “traditional” processors. Nothing mobile here. Yet.
INTC also has fabs that make chips using 22, 32, and 45 nm processes. Haswell chips are currently made in both the 14nm and the 22nm process fabs. But, in 12 months ALL Haswell chips will be made in 14nm fabs and only in 14nm fabs. Then, in another 12 months the cutting-edge Haswell chips will be partly made in a 10nm fab (that is just now being constructed) while the 14nm fabs will continue to make Haswell chips but will also produce less “cutting edge” processors (i.e. the “Core” processor families). Currently, the “Core” processor families are made across the 22, 32, and 45 nm fabs. But in 12 months the “Core” processors will move up in process and will only be made in the 32 and 22 nm fabs. Then in another 12 months they’ll be made in the 32, 22, and 14nm fabs. You get the idea.
Ok, so where are Intel’s mobile processors in this [cough] process? INTCs mobile processors are currently being made in the 32 nm process fabs. But, INTC has recently stated that their mobile processors are no longer on the “tick-tock” schedule. Mobile processors are now on a time-bomb schedule: “tick-tick-tick.”
That means in three short years INTCs mobile processors will be made in their cutting-edge fabs on the same “tick-tock” schedule as their cutting-edge “Haswell” processors.
So, uh, who cares? Well to answer that you have to consider the 800 lbs. gorilla in the mobile space: Qualcomm. QCOM is a so-called “fabless” chip manufacturer because they design their chips but then contract with chip foundries (manufacturers) like Taiwan Semi. and Samsung to actually make their chips. So, QCOM is at the mercy of those foundries’ manufacturing technologies. The cutting-edge foundries at Samsung and TSMC currently produce chips using a 28nm process (note that this is double the size of INTCs current cutting-edge 14nm fab but smaller than INTC’s current mobile process size of 32 nm).
This year INTC is putting out 22nm mobile chips (this is the first “tick” of the time-bomb schedule). While INTC will have this “better manufacturing tech” they should be handicapped because they don’t have the same depth of experience making mobile chips. So let’s call INTC and QCOM a “tie” for their 2013 generation of chips. But in about 12 months INTC will start pumping out mobile chips with their (already-in-use-by-the-Haswell-family) 14nm fabs. Meanwhile QCOM will be stuck with the 28nm TSMC and Samsung fabs putting INTC about 12 months in front of QCOM. (that’s the second “tick” of the INTC time-bomb).
But wait there’s more. The third “tick” of INTCs time-bomb is that after their mobile processors spend 12 months with a 12 month lead on the QCOM chips they will then tick their way into the 10nm process fabs at the bleeding edge of INTCs manufacturing processes. That’s a 24 month lead on QCOMs chips (chips that will be made in whatever ~20nm foundry TSMC and Samsung have built by then). Intel goes BOOM!
Ok, so this is a complicated story. And it’s no guarantee that INTC will end owning the mobile chip market like they do the “traditional” chip market. Mobile processors are partly about integrating the main processor (CPU), graphical processor (GPU), and cellular/wi-fi bits (these so-called “Systems on a Chip” or SoCs). And so far INTC has yet to demonstrate their competence with SoCs by a “big-win” in the mobile processor space. But that will likely change over the next 6-12 months as their current mobile processors are “tied” with QCOMs best offerings but then jump ahead in the next 12 months. And while it’s certainly possible that QCOM is going to be able to compete against INTCs SoCs on an efficiency basis (even though QCOM will be handicapped by the 28nm processes of TSMC and Samsung relative to INTCs 14nm SOCs). But, even if QCOM can beat out INTCs 14nm SOCs on efficiency, there is no way they will be cheaper. And that “cheapness” margin will get even bigger when INTCs SoCs get made on a 450mm wafer in their 10nm fab.
A final parting shot. If Intel decides to compete in something you do (that’s within INTCs circle of competence) you should be scared. If history is supposed to rhyme, then I’m sure any one of us can use iambic pentameter to tell the sad, sad saga of Cyrix and AMD.