- Investors are underestimating the positive developments in Intel's business.
- The recent drop in its price creates an excellent opportunity to buy Intel stock at an attractive price.
- The average target price of the top analysts is at $40.89 an upside of 16%, which appears reasonable, in my opinion.
In my view, the recent drop in its price creates an excellent opportunity to buy Intel (NSDQ:INTC) stock at an attractive price. INTC's shares have fallen 5.9% on October 19, despite reporting better than expected profits, as investors have been disappointed by its forecast for the fourth quarter revenue and gross margin.
As I see it, investors are underestimating the positive developments in Intel's business. PC demand has significantly increased, and the introduction of Intel’s modem in Apple's (NSDQ:AAPL) new iPhones is a promising re-entering of the company in the mobile market. Moreover, the cloud is poised to continue to be a key growth driver for Intel's Data Center Group (DCG). According to Intel, it is continuing to see robust demand growth from cloud hosts and telecom service providers.
Third Quarter Results
On October 18, Intel reported its third-quarter 2016 financial results, which beat earnings-per-share expectations by a significant margin of $0.07 (9.6%). Revenues for the quarter grew 9% year-over-year to $15.78 billion, better than Wall Street's estimates for revenues of $15.58 billion. The company beat earnings-per-share estimates in all its last six quarters, as shown in the table below.
In the report, Brian Krzanich, Intel CEO, said:
"It was an outstanding quarter, and we set a number of new records across the business. In addition to strong financials, we delivered exciting new technologies while continuing to align our people and products to our strategy. We're executing well, and these results show Intel's continuing transformation to a company that powers the cloud and billions of smart, connected devices."
Intel offered an outlook for the fourth quarter which disappointed investors who were expecting higher growth. According to the company, revenue for the fourth quarter is expected to come at $15.7 billion plus/minus $0.5 billion compared to revenue of $15.8 billion in the recent quarter. Intel expects Non-GAAP gross margin of about 63% in the next quarter compared to gross margin of 64.8% in the third quarter.
It is worth noting that the gross margin is a crucial parameter when analyzing Intel's stock. Intel's estimated gross margin for the fourth quarter of 63% is lower than the gross margin of 64.3% in the fourth quarter of 2015, and of the 65.4% in the last quarter of 2014, as shown in the chart below. That explains the negative reaction of the market to the earnings report, despite significantly beating the earnings and revenue expectations.
* Q4'16 Company estimate
However, Intel has been known to be very cautious in its guidances. For instance, in its second quarter earnings report, it forecasted a Non-GAAP gross margin of 62% for the third quarter, while actually, it achieved a much higher gross margin of 64.8%. As such, in my opinion, the company will post in the fourth quarter a higher gross margin than the 63% which it gave in the outlook.
Internet Of Things
In one of my recent articles about Intel, I had suggested that Internet Of Things (IoT) could be the next growth driver for Intel stock, as the company sees tremendous potential in its Internet of Things business. In fact, the IoT net revenue in the third quarter grew 18.6% year over year, and the IoT operating income increased 27.3% from the same quarter a year ago. Although IoT revenue accounted for only 4.4% of the company's total net revenue, and the IoT operating income accounted for only 4.3% of Intel's total operating income that clearly indicates a growing trend.
Intel Stock Performance
Intel has underperformed the market in the last few years. Year to date, INTC's stock is up 2.0% while the S&P 500 index has increased 4.8%, and the NASDAQ Composite Index has gained 5.0%. Moreover, since the beginning of 2012, INTC's stock has gained only 44.9%. In this period, the S&P 500 Index has increased 70.3%, and the NASDAQ Composite Index has risen 101.8%. According to TipRanks, the average target price of the top analysts is at $40.89, which indicates an upside of 16.3% from its October 21, close price, which appears reasonable, in my opinion.
INTC's valuation is excellent, the trailing P/E is at 17.05, and the forward P/E is very low at 12.51. Furthermore, its price to cash flow ratio is low at 9.27, the Enterprise Value/EBITDA ratio is very low at 7.87, and the PEG ratio is at 1.47.
According to Portfolio123's "Balanced" ranking system, INTC's stock is ranked second among all 66 S&P 500 technology companies. The 20 top-ranked tech companies according to the ranking system are shown in the table below:
The "Balanced" ranking system is quite complex, and it is taking into account many factors like; EPS consistency, technical analysis, valuation, industry rank, and industry leadership.
Back-testing over seventeen years has proved that this ranking system is very useful.
In my view, investors are underestimating the positive developments in Intel's business; increasing PC demand, the introduction of Intel’s modem in Apple's new iPhones, and robust demand growth from cloud hosts and telecom service providers. What's more, Intel's valuation is excellent, and it generates strong free cash flow and returns substantial capital to its shareholders by stock buybacks and increasing dividend payments, currently yielding 2.96%. The average target price of the top analysts is at $40.89, which indicates an upside of 16% from its October 24, close price, which appears reasonable, in my opinion.