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Intel hits mark in dismal quarter

The chipmaker squeaks past lowered estimates for its first quarter, but executives warn not to expect a sudden turnaround.

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Intel CFO: Slowdown worst we've seen
Andy Bryant, CFO, Intel
In its worst quarter in years, Intel on Tuesday edged past lowered earnings expectations for the first quarter but said it's still going to be a tough year.

The Santa Clara, Calif., chipmaker reported earnings excluding one-time costs of $1.1 billion, or 16 cents a share, for the first quarter. Revenue came to $6.7 billion. Analysts polled by First Call expected earnings to come in at 15 cents a share on $6.5 billion in revenue.

The figures, however, pale in comparison to Intel's results for the same period last year and even last quarter. Net income for the first quarter of 2000 came in at $3 billion, 64 percent higher. Revenue stood at $8 billion, about 16 percent higher.

Improvement in the financial picture is going to take time, Intel executives said. On the positive side, the PC market has stabilized to some degree and the industry could see a rebound in the second half. The company also shipped its 1 millionth Pentium 4 chip.

"We believe our PC businesses have bottomed out, and we are planning for a seasonally strong second half," Paul Otellini, general manager of the Intel Architecture Buisness Group, said in a conference call following the earnings announcement.

But Intel's optimism came with a number of qualifications. In the second quarter, PC processor price cuts will likely reduce revenue and profits, said Intel CFO Andy Bryant. Measures that will reduce the cost of manufacturing Pentium 4 chips won't take place until the fourth quarter.

The worldwide economic situation also remains in flux, both executives said. Partly as a result, Otellini said, the traditional seasonal upswing in the second half won't be as strong as in years past, when double-digit growth was the norm.

Further, Intel's communications and flash memory businesses "will have a longer, slower recovery beginning later this year," said Bryant, who added that "hiring has essentially been frozen."

Intel shares were up $2.49, or 9.5 percent, to $28.79 in after-hours trading Tuesday on the Island ECN network.

Including acquisition costs and other one-time expenses, income for the most recent quarter came to $485 million, an 82 percent decline from net income of $2.7 billion achieved a year ago.

Nearly all product divisions saw lower sales this quarter, the company said in a statement, and the average price of microprocessors declined.

The results were largely in line with the company's warning on March 8 that weak sales of PC processors, server chips, flash memory and networking chips around the world would lead to revenue of around $6.5 billion. As a result, Intel said it would reduce its work force by 6 percent, or 5,000 jobs, and impose cost-cutting measures.

Many segments were off in the first quarter. Sales of server chips unexpectedly plummeted while notebook processor prices dropped, said Otellini. Intel also saw slow desktop chip sales because of higher than normal inventories at PC manufacturers.

"European sales declined more than seasonality would indicate," he added.

The quarterly revenue figures were the lowest for Intel since mid-1998, and analysts believe further hard times await the processor giant.

"This year is a write-off for the company," said Ashok Kumar, an analyst with U.S. Bancorp Piper Jaffray. "The margins are probably going to be cut in half...You're not going to see any seasonal pickup."

Although levels of inventory have improved, the PC market is showing few signs of life, according to a number of analysts. U.S. computer buying has been slow for months, and reports of slow sales in Europe and parts of Asia are accumulating. While many analysts believe the market will shrink this year, the more optimistic prognosticators, such as Salomon Smith Barney's John Joseph, say it will grow by 5 percent to 7 percent.

Both Intel and rival Advanced Micro Devices have countered the slowdown with price cuts. Intel will cut prices on the Pentium 4 twice this month, an unprecedented pace.

Intel is also facing increased competition from AMD. The Sunnyvale, Calif.-based manufacturer saw its market share inch from 15.9 percent in 1999 to 17.1 percent at the end of 2000, mostly on the strength of consumer PC sales, according to Mercury Research. If AMD can crack the corporate market, or get back into notebooks, its growth could pick up.

"The key is the corporate market," said Dean McCarron, a principal analyst at Mercury. "There's no inherent barrier anymore."

Compounding the anemic demand, Intel is also in the midst of a difficult product transition. By the end of the year, the company hopes the Pentium 4 will replace the Pentium III, still its biggest seller, on most corporate and consumer desktops.

Unfortunately for Intel, the Pentium 4 is more than twice as large as the Pentium III and costs a lot more to make. The cost won't go down until the fourth quarter, when Intel shrinks the size of the chip by switching to a 0.13-micron manufacturing process. Earlier, the transition was expected in the third quarter.

In addition, the Pentium 4 still only works with Rambus memory. For Intel, that's bad news because it continues to offer PC makers rebates for each Pentium 4 PC sold with Rambus memory. Chipsets from third-party manufacturers and Intel will emerge later this year that will let PC makers marry the chip to cheaper standard memory.

"We believe that Intel has decided to trade off near-term earnings performance for the potential to strengthen its long-term competitive position," Morgan Stanley analyst Mark Edelstone wrote in a note issued before the earnings release. He added that he was "clearly surprised" by the magnitude of Intel's price cuts.

The non-PC divisions at Intel, meanwhile, face their own problems. A glut of products in the communications industry will likely slow sales for Intel's wireless and communications products.

The financial picture probably won't brighten until the first quarter of 2002, said Kumar, partly because revenue and profit comparisons with the current quarter will be easy to beat.