Intel Sees Slower Data Center & IoT Growth In Q2’16, Though Stronger Growth Expected In Coming Quarters

The world’s largest semiconductor company, Intel (NASDAQ:INTC) released its Q2 2016 earnings on July 20th. The company’s revenue came in-line with its guidance, while its profitability exceeded both company guidance and analyst expectation. However, Intel’s stock saw a marginal decline in after-hours trading yesterday. This can be attributed to the slower growth in the data center business and a quarter-over-quarter decline in Internet-of-Things (IoT) revenue. We believe that the data center slowdown is not a cause of concern as growth is expected to re-accelerate in the second half of the year. The sequential decline in IoT revenue was due to an inventory burn after a very strong Q1 2016. The segment remains one of the biggest growth drivers for the semiconductor industry and Intel is at the forefront of this new trend.

Intel is confident that its growth will re-accelerate in the second half of 2016. While the company remains cautious about the PC segment and continues to expect a decline in the high single digits this year, it expects the combined revenue of the other businesses to deliver double-digit growth in Q3 2016. The company believes that it will see above-seasonal growth in the back half of the year, led by strong growth in the Data Center, I-o-T, and the Memory businesses, which will help grow the company’s top line in the mid-single digits in fiscal 2016.

The restructuring initiative announced in April this year is on track and is expected to drive net run-rate operating expense savings of $1.4 billion by mid-2017. Intel reduced its headcount by about 6,000 in Q2 2016 and plans to cut another 6,000 as part of its restructuring effort.

Slightly Better-Than-Expected Computing Results, Continued Improvement In Margins

Despite a 3% decline in computing and graphics sales, the segment witnessed a 19% year-over-year increase in operating income. Intel witnessed a 34% year-over-year increase in its computing operating profit in Q1 2016. The revenue numbers were slightly better than expected, as the PC supply chain reduced inventories at a slightly slower rate, while the 2-in-1 and enthusiast product lines continued to grow. The significant improvement in margins was driven by lower overall spending and margin improvements in mobile products and higher PC ASPs.

Intel started shipping its seventh generation Core microprocessor, formerly known as Kaby Lake, and its latest LTE modem, known as 7360. As the PC industry enters an entirely new era defined by immersive experiences, high-end gaming and content creation, Intel is committed to driving a regular cadence of innovation in PCs, across 2-in-1s, gaming, and entry segments. Though the overall PC market is expected to decline in the high-single digit in 2016, Intel could see strong demand in the above mentioned sub-segments.

Growing Data Center Momentum In 2H’16, Stabilizing Enterprise Segment & Accelerating Cloud Growth

Intel witnessed a 5% and 4% decline (year-over-year) in its data center revenue and operating profit in Q2 2016, respectively. The lower top line growth rate can be attributed to the big cloud players’ ordering patterns, but the company claims that, based on the signals from its customers, it sees customer demand and orders re-accelerating in the back half of the year. Overall, the company is confident that its data center business will witness low double-digit growth in 2016. The decline in operating profit was primarily on account of increased 14 nm ramp-up costs.

In Q2 2016, Intel witnessed only a marginal decline (1%) in it enterprise segment, which has remained weak over the last few quarters. The company expects the enterprise segment of the business to stabilize around the current level and the cloud segment growth rate to accelerate in the second half of the year.

Factors than will re-accelerate growth and uplift ASPs going forward:

• The Xeon Phi accelerator (Knights Landing) – Xeon Phi revenue grew 8x in the first six months of 2016, compared to 2015. Intel has already secured orders from over 30 OEMs (original equipment vendors) for around 100,000 KNL processors.
• Intel’s high-performance computing fabric (gainiOmni-Path) has already achieved 30% market segment share of the 100-gig fabric market.
• Intel expects the data center’s adjacent product lines, including Omni-Path, silicon photonics, and Ethernet, to collectively grow more than 20% for the full year and this quarter make up 12% of data center revenue.
• Broadwell E server ramp up and strong demand in the second half of the year.  Intel expects increasing ASPs as it ramps the Broadwell-based server products.

See our complete analysis for Intel

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