Intel’s Data Center And AI Strategy: Opportunity Amidst Financial Challenges
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Summary:
- Intel projects low 20s% TAM growth through 2027, with AI inference being a significant growth area, but faces strong competition from incumbents like Nvidia.
- Intel’s support for SYCL and its ambitious server CPU roadmap signal positive developments, but execution risks and market challenges remain.
- The company’s data center and AI efforts show potential, but Intel must overcome financial challenges and competitive pressures to capitalize on the opportunities.
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Intel (NASDAQ:INTC) recently shared insights on its data center and AI segment during a webinar, painting a picture of an ambitious company striving to expand its total addressable market and compete in the rapidly evolving technology landscape. This event led to a strong rally in INTC stock, following a lengthy period of underperformance. However, the uphill battle Intel faces against formidable competitors like Nvidia raises questions about the company’s ability to keep up with the industry’s fast pace and deliver on its promises.
A Winning Webinar: What We Learned
In a recent webinar, Intel shared updates on its data center and AI segment, focusing on the company’s expanding TAM growth, which they project will grow in the low 20s% through 2027. Intel’s largest growth area is expected to be AI inference, where they believe 75% currently runs on Intel silicon. However, we think Intel faces an uphill battle against incumbents like Nvidia, which has a large moat around its AI training business and superior software capabilities.
Intel’s support for SYCL, an open-source alternative to CUDA, and tools that make it easier to move code from CUDA to SYCL, signal important steps in the right direction. But Nvidia’s (NVDA) recent claims that their newest L4 inference silicon provides up to a 10x performance advantage over the latest generation x86 CPU raise concerns for Intel. We believe the AI inference market will likely require more complexity and performance over time, and Intel will need to keep up with these demands, and we are skeptical of the company’s ability to keep up with more innovative competitors.
Intel’s planned launch of Sierra Forest in 1H24 is a positive development, as it is their small-core offering in response to the ARM threat, alongside AMD’s Bergamo. We think small-core CPUs have a place in the market, and x86 small-core offerings can help counter the ARM threat to server share.
Key takeaways from the webinar include Intel’s growing TAM in DCAI, their CPU roadmap with Sapphire Rapids and Emerald Rapids launches, and their support for SYCL. The server CPU roadmap appears to be on track, with the energy-efficient Sierra Forest CPU, based on Intel 3 process node, expected to launch in 1H24. This CPU is designed to have an industry-leading 144 cores, positioning it well for the rapidly growing ultra high-density cloud workloads.
In the AI segment, we believe Intel has had limited success in training but is investing aggressively in software. The company believes that its comprehensive product portfolio (CPUs, accelerators, FPGAs, GPUs) positions it well to address AI models of all sizes. The oneAPI installed base increased by more than 85% last year, reflecting Intel’s efforts in expanding its software ecosystem.
Overall, we are more optimistic about Intel’s data center roadmap, even as we expect server share losses to continue through the year. The company’s stronger product suite in AI/ML, along with the server roadmap and upcoming launches, can potentially boost its position in the market, or at remedy its weaknesses. However, Intel will need to overcome challenges from established competitors like Nvidia, and adapt to the ever-evolving AI landscape, to truly capitalize on the growing opportunities in the data center and AI segments.
Financial & Valuation
Our analysis of Intel’s financial performance reveals that the company is facing significant headwinds in the coming years. Weakening end markets, notably the PC end market, competitive share losses to AMD in the x86 space, and the shift in computing from CPUs to accelerators, such as Nvidia’s GPUs, have all contributed to Intel’s decline. The company’s revenue is expected to continue falling, with a CAGR of approximately -13.4% from 2020 to 2023.
Intel’s capital-intensive business model, in comparison to fabless competitors like AMD and Nvidia, means that its declining top-line directly impacts its bottom-line due to higher fixed costs. Consequently, Intel’s EPS has been on a downward trajectory, with a CAGR of -36.6% from 2020 to 2023.
In a bid to stay competitive against rivals such as Nvidia (NVDA), AMD (AMD), TSMC (TSM), and Samsung (OTCPK:SSNLF), Intel is aggressively investing in multiple areas. This strategy, however, has led to a significant deterioration in the company’s margins, with gross margins expected to plummet from 32.5% in 2022 to 4.1% in 2023. As a result of higher capital expenditures, Intel’s free cash flow is also expected to decline sharply, moving from a positive $21 billion in 2022 to an estimated -$5.4 billion in 2023.
Intel’s worsening financial situation has forced the company to cut its dividends by approximately 23% to $1.12 per share annually. Despite this reduction, we believe Intel’s dividend payout ratio remains well above the company’s cash flow generation capabilities. This may lead to further reductions in dividends or increased debt to fund the payouts.
Moreover, Intel’s net debt position is projected to deteriorate, increasing to $26 billion in 2023 and further to $32 billion in 2024. This represents a stark contrast to the company’s net debt position of just $10 billion in 2021. The increasing debt burden may limit Intel’s financial flexibility and could potentially raise concerns among investors regarding the company’s ability to service its obligations.
We believe that valuing Intel at this stage is challenging due to its deteriorating financial metrics. The uncertainty surrounding the company’s ability to recover its competitive strength and future earnings makes forecasting difficult. Nevertheless, we can still examine some valuation multiples to gauge Intel’s relative attractiveness.
Intel is currently trading at 40 times next 12-month EPS, its highest ratio since the aftermath of the dot-com bubble in 2002. This elevated multiple may indicate that the stock is overpriced, given its rapidly decreasing expected earnings.
Regarding the company’s enterprise value to forward 12-month EBITDA, the current multiple of 10.7 times may not seem high at first glance. However, it is the highest for Intel since 2004, suggesting that the company may be overvalued based on this metric as well.
Investors may find it more useful to consider enterprise value to forward 12-month sales, a more stable metric than the earnings-based multiples. Intel trades at 2.8 times forward sales, which falls within the middle of its five-year range. This indicates that the company’s valuation, from a sales perspective, is relatively in line with historical norms.
Risks
In our analysis, several risks are associated with owning Intel’s stock, which investors should carefully consider before making any investment decisions.
First and foremost, Intel’s competitive position has been deteriorating as the company struggles to regain its footing against fast-growing competitors such as Nvidia, AMD, and TSMC. Margin pressure due to underutilization of fabs could further impact the company’s financial performance, leading to potentially lower returns for shareholders.
Second, Intel faces risks from competition originating from alternative architectures in the Data Center and PC end-markets. These competitors could potentially disrupt Intel’s market share, leading to lower demand for its products and services. The shift to alternative architecture in part driven by the slowing cadence of manufacturing node transitions in x86, which is a risk to Intel’s ability to maintain its technological edge. Poor execution of future nodes could result in accelerated share losses, further weakening the company’s market position.
Moreover, Intel’s ambitious plans to launch three additional processor families over the next two years, after the recent launch of Sapphire Rapids, represent an accelerated product cadence compared to historical trends. This acceleration increases the inherent degree of execution risk, given the lofty targets set by the company. Failure to meet these targets could significantly impact the company’s financial performance and market perception.
Additionally, we believe investors should also consider the potential risks associated with Intel’s current financial trajectory. The rising net debt and deteriorating cash flow position could limit the company’s ability to invest in research and development, pursue strategic acquisitions, or maintain its dividend payments, which may negatively affect shareholder returns. Furthermore, any adverse changes in macroeconomic conditions or fluctuations in demand for semiconductors could exacerbate these risks.
Conclusion
In light of the recent webinar, we are cautiously optimistic about Intel’s data center roadmap and efforts in the AI segment. While the company’s stronger product suite in AI/ML, server roadmap, and upcoming launches can potentially help it regain its footing in the market, it’s crucial to recognize the challenges it faces from established competitors and the evolving AI landscape. Furthermore, Intel’s financial struggles, deteriorating competitive position, and the risks associated with owning the stock must be carefully considered by investors. We believe Intel’s future success hinges on its ability to overcome these obstacles, execute on its ambitious plans, and adapt to the rapidly changing demands of the data center and AI segments. As a result, we remain underweight the company’s stock as the company navigates its difficult road ahead.
Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.