Accounting for a majority share of the PC microprocessor market, Intel’s (NASDAQ:INTC) performance is highly vulnerable to any adverse development in the global PC market. While the hard disk drive shortage had disrupted the PC market last year, the macro headwinds, cannibalization threat from tablets and the upcoming Windows 8 operating system lunch has further slowed down the PC growth rate this year.
Having cut its 2012 revenue estimate by almost $1 billion last month, Intel’s Q3 2012 earnings of $13.5 billion does not come as much of a surprise to us. The company reported a net income of $3 billion and generated close to $5.1 billion in cash from operations in Q3 2012. While the PC group posted a 8% y-o-y decline, the data center group looked promising with a 6% y-o-y increase.
We believe that the persisting weakness in PC market will impact the current quarter earnings as well. However, there are certain catalysts which keep us hopeful of the situation improving thereon.
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Slowing PC Demand
With $8.6 billion in revenue, Intel’s PC client group was relatively flat sequentially but registered an 8% y-o-y decline. The decrease was much in line with the global PC shipments, which marked a negative 8.6% growth in Q3 2012 compared to Q3 2011.  Intel claims that the PC consumption in Q3 grew at half the season rate and it expects a similar situation next quarter as well.
The slowing enterprise market, consumer softness in mature markets (US and Westerm Europe), slowing demand growth from emerging markets and the operating system transitions are some of the main factors leading to the current slump in PC shipments. Research firm IDC predicts the global PC market to grow by a mere 0.9% in 2012. 
In light of the uncertain macro environment and the upcoming Windows 8 launch, Intel’s customers are maintaining a lean inventory which in turn led to lower demand for its microprocessors. Foreseeing the weak demand to persist in the current quarter, Intel intends to maintain lower factory utilization rates throughout the quarter and targets reducing its inventory level by almost $0.5 billion. The company saw its inventory increase by approx. $400 million in Q3 2012.
Threat Of Cannibalization From Tablets
While the PC market is struggling, tablets are registering a phenomenal growth with their increasing popularity around the world. While the above mentioned factors contribute to the slowdown in PC growth, the threat of cannibalization of PCs by tablets is also an important factor. Intel feels that it is too early to quantify the extent to which growth in tablets and smartphones could impact PC sales as the computing world is in the midst of a period of creativity and innovation.
Though Intel marked its entry in the lucrative smartphone and tablet market earlier this year, the company has yet to make a significant dent in the same. The smartphone and tablet space is dominated by established ARM based players such as Qualcomm (NASDAQ:QCOM) and Nvidia (NASDAQ:NVDA).
However, we feel that Intel has been faring well so far in this domain. The company launched its new processor code-named Clover Trail (Atom Z2670) for use in tablets that feature Windows 8 OS, earlier this month. Additionally, it plans to launch more than 20 atom based tablets from leading OEMs in the current quarter. We estimate an increase in Intel’s market share in this segment by the end our review period.
Steps To Revive PC Demand
In the coming months, Intel plans to introduce more than 140 core-based Ultrabooks, more than 40 of which will be touch enabled. Aiming to combine the productivity of a PC with the convenience of a tablet, Intel intends to launch about a dozen convertible Ultrabook designs. At the same time the company is also working to bring down the incremental cost of touch enabled Ultrabooks. Many of the upcoming Ultrabook designs are slated to hit the mainstream $699 price point while some could even be below that number.
Along with the Windows 8 launch, we feel that the upcoming innovative designs and a lower price point could help steer Ultrabook demand for Intel in the future. However, with the expected entry of ARM based players in the PC market later this year, we estimate a marginal decline in Intel’s market share by the end of our forecast period.
We are in the process of updating our price estimate 0f $31.94 for Intel for the latest quarter earnings.Notes:
- PC Market Struggles Ahead Of Windows 8 Launch As Lenovo Nearly Catches HP for the Worldwide Market Leadership Position, IDC Press Release, October 10, 2012 [↩]
- IDC Lowers PC Outlook As Shipments Decline In Second Quarter Ahead Of Fall Product Updates, IDC Press Release, August 23, 2012 [↩]