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Intel: Pariah no more

The sentiment that led to the euphoria surrounding Intel even a year ago has been replaced by skepticism, creating an extraordinary buying opportunity for the stock.

With its more than 80 percent market share in the microprocessor business, Intel defines the architecture and future direction of the PC market. And with its chipset and motherboard businesses, it would not be an exaggeration to say that, along with Microsoft, the chip giant is one of the two companies that determine the technological direction of the society we live in.

These facts are known to every technology investor. Those with historical memories will recall that Intel stock was stuck in a mid-teens trading range from mid-1993 to end of 1994, before it took off to reach around $70 a share in early 1997. Since then, the stock has seen rallies and dips, and now, more than a year later, it is back in the 70s range. However, the sentiment that led to the euphoria surrounding Intel even a year ago has been replaced by skepticism, creating an extraordinary buying opportunity for the stock.

Why did this happen? Let us look back at the past year, during which three major events spooked investors: First, around August of 1997, the "Asian miracle" began to unravel. Then, in October 1997, there was a 550-point correction in the Dow. Along with it came the realization that Japan's economic problems were not just a seasonal issue, and that there were long-term maladies within the country's system.

Second came the sub-$1,000 PC. Although mostly a U.S. retail channel phenomenon, the perception arose that all PCs eventually would drop in price to below $1,000, and suddenly there were gloom-and-doom rumblings about Intel's profit margins.

To complete the tally, there was the great channel-stuffing story of the fourth quarter of 1997. Indirect channel PC manufacturers such as Compaq and IBM had "stuffed" the indirect channel with excess system inventory that was not matched by sales out of the channel. As a result, the channel was left with excess inventory at the end of the fourth quarter, and vendors were unwilling to add the usual first-quarter orders.

The rest is history. Compaq and Intel preannounced that they would not meet earnings expectations for the first quarter of 98. Many analysts compared microprocessors to commodities like DRAMs and predicted the technology sector's demise. Intel became a pariah among investors.

There were some sober voices, however. While the inventory problems had reduced OEM sales and the appetite for newer microprocessors, IBM and Compaq's sales out of the channel increased more than 30 percent on a year-over-year basis.

Given the fact that the second half of the year is always better anyway, shouldn't it stand to reason that once the OEMs have cleared inventory and started ordering again, there should be a huge uptick in demand for microprocessors?

By stopping the production of Pentium chips in April 1998 and replacing those products with lower-priced Pentium II chips, Intel has removed the obsolescence risk of PC systems. This, along with the fact that bandwidth issues are being alleviated by the pilot roll-outs of ADSL worldwide, should stabilize Average Selling Prices (ASPs) and gross margins.

In addition, on the software front, Microsoft is debuting two new operating systems: Windows98, released just last week, and Windows NT 5.0, to be released during the first half of 1999. These launches should spur new system sales.

Intel's price cuts on June 7 led to a further strengthening in demand after a weak May. After all the talk of preannouncements, I believe Intel's second-quarter results will be in line with expectations, as I have said all along. I'm confident of a big second half of the year, as the multiple forces described in this column drive a big upsurge in demand for microprocessors. I urge investors to take note and not miss out on the next big ride. It won't be long before Intel hits a $100 per share.

Dan Niles is a managing director at BancAmerica Robertson Stephens covering the PC and semiconductor industry.

(Intel is an investor in CNET: The Computer Network.)

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