Intel Vs. AMD: Preparing For A Cyclical Uptrend

Summary:

• Intel expects a recovery in the second half of the year as they clear large excess inventories and release new PC and server products.
• Intel is implementing aggressive cost-saving measures to address the deterioration of its financial results. They reduced their dividend and are lobbying for government subsidies to cover their CapEx.
• AMD’s forthcoming MI300 data center APUs are expected to compete with NVIDIA’s offerings.
• AMD also expects a recovery in the second half of the year, with growth in Data Center revenue due to a new product line and improvements in the PC market.
• The semiconductor sector remains highly cyclical, and even though predicting the next uptrend is challenging, there are reasonable grounds to expect the uptrend to start in the year’s second half and surge in 2024.

Investment Thesis

Since the last coverage for Advanced Micro Devices, Inc. (NASDAQ:AMD), the stock has returned nearly 21% within two months. Similarly, I called Intel Corporation’s (NASDAQ:INTC) bottom at $25, close to its book value, and now the company’s fundamentals are approaching a bottom, suggesting a reversing trend in the year’s second half. In today’s analysis, we review semiconductors’ outlook and growth catalysts in the near future reaffirming the strong buy rating for Intel and the buy rating for AMD.

The Semiconductor Cycle

While the industry experiences short-term fluctuations in demand, the overall trend points to continuous growth in semiconductor demand. This growth is driven by factors such as the increasing adoption of advanced technologies, the growth of artificial intelligence (AI), remote working trends, and the soaring demand for electric vehicles.

However, the industry is not immune to challenges and vulnerabilities in its supply chain. As a result, policymakers and industry stakeholders are increasingly focused on enhancing the resilience of the semiconductor supply chain. Deloitte predicts that 2023 could be a pivotal year for the industry, allowing for digital transformation and the adoption of technologies to streamline financial planning, operations, order management, and supply chain processes.

Over the past 20 years, the semiconductor industry has gone through several cycles, reflecting the dynamic nature of the market and technological advancements. Here is an overview of the semiconductor cycle during this period:

1. Dot-com Boom and Bust (2000-2002): The semiconductor industry experienced a rapid expansion during the dot-com boom, driven by the demand for internet-related technologies. However, the subsequent burst of the dot-com bubble led to a downturn in the industry, resulting in oversupply and declining demand.

2. Recovery and Mobile Device Boom (2003-2007): The industry entered a recovery phase, fueled by the increasing popularity of mobile devices such as smartphones and tablets. The demand for semiconductors surged, especially for memory chips and processors used in these devices.

3. Global Financial Crisis (2008-2009): The semiconductor industry was severely impacted by the global financial crisis, resulting in a significant drop in demand as consumer spending declined. Companies faced challenges such as excess inventory, reduced capital expenditures, and restructuring.

4. Mobile and IoT Expansion (2010-2014): The industry experienced a strong growth phase driven by the widespread adoption of mobile devices and the emergence of the Internet of Things (IoT). Demand for semiconductors surged, particularly for wireless communication and sensor technologies.

5. Memory Chip Boom (2015-2018): The demand for memory chips, especially NAND flash, and DRAM, skyrocketed during this period due to the growing need for data storage in smartphones, servers, and other devices. This led to a boom in the memory chip market, with increased production and soaring prices.

6. Trade War and COVID-19 Impact (2019-2020): The semiconductor industry faced challenges due to the U.S.-China trade tensions, including tariffs and restrictions on technology transfers. Additionally, the COVID-19 pandemic disrupted global supply chains and caused fluctuations in demand for semiconductors.

7. Shortage and Strong Demand (2021-2022): The industry experienced a severe shortage of semiconductors, impacting various sectors such as automotive, consumer electronics, and industrial equipment. High demand and supply chain disruptions and capacity constraints contributed to the shortage.

Undoubtedly, the semiconductor sector remains highly cyclical, and even though predicting the next uptrend is challenging, there are reasonable grounds to expect the cyclical uptrend to start in the year’s second half and surge in 2024.

Post-Q1 Outlook: Dramatic Downward Trend May Bottom Out Soon

Intel’s financial results have declined for years, but the company expects to reach the bottom soon. The company’s revenues dropped by 36% year-over-year in the first quarter, with the net loss widening. Despite the disappointing results, Intel’s management anticipates a recovery in the second half of the year as they clear extensive excess inventories, including for PCs, which the company still heavily relies on. Intel also plans to release various PC and server products that will benefit from their shift to more advanced chip manufacturing technology, which the management remains confident that the company’s gross margin will improve over time.

PC volumes significantly surged during the pandemic but dropped sharply in 2022. Moreover, as there are still excess inventories, there are expected to be further declines in the near future, which will significantly impact Intel since PC-related products are still their primary focus.

Despite this, Intel has been regaining share in the PC market from its main CPU competitor AMD in the last few quarters, including in the first quarter. However, due to the decline in the PC market, Intel’s PC-centric unit, which generates nearly half of the company’s revenues, remained weak. Nevertheless, Intel is hopeful that the PC market will start recovering in the second half of the year, and it still sees opportunities for unit growth in the long run since the installed PC base and PC usage are higher than before the pandemic.

Data Centers & AI Remain Growth Catalysts

The trend for the Datacenter and AI Group (DCAI) unit, which contributes 32% to sales, was even worse, with a 39% drop in sales and a first operating loss, which also reflected the impact of a segment reshuffle and the inclusion of loss-making graphics chips. Nonetheless, CEO Pat Gelsinger claimed that the firm’s position in the data center segment improved for the first time since he became the top executive two years ago.

Intel mentioned the challenging environment for this business, with reduced spending from enterprise customers, its core clientele, and caution from cloud players. Whereas large Internet firms such as Meta and Microsoft are investing heavily in their data center capacity, they prioritize products that help them handle compute-intense workloads, most notably AI.

For the training of AI systems, graphics chips or GPUs are mostly used, an area where Intel is making investments but is currently poorly positioned against GPU leader NVIDIA in particular. Although GPUs will likely increasingly be deployed for the inference (execution) process of AI, server CPUs will also be used for this task, and rising inference workloads could thus allow Intel to benefit from the AI trend.

Intel projects that its total addressable market (TAM) opportunity will increase at a CAGR of low 20s% to exceed $110 billion by 2027. This growth will be driven by heterogeneous computing and strategic workloads such as AI, networking, and security. The company anticipates that growth in mainstream computing will not be propelled by units, as in previous years, but rather by core growth, with compute cores projected to grow at a mid-20s% CAGR. This would incrementally increase the ability to charge higher average selling prices.

Intel believes that its diverse heterogeneous portfolio of compute products, which include CPUs, GPUs, field-programmable gate arrays (FPGA), dedicated AI processors, accelerators, and connectivity solutions, will enable it to take advantage of large and appealing growth opportunities, especially in AI.

Additionally, Intel expects that around $40 billion of the AI logic silicon TAM will be divided almost equally between general compute and accelerated computing, and it emphasizes its commitment to democratizing AI through investment in a comprehensive end-to-end systems-level approach to AI software via oneAPI. Lastly, Intel highlights its collaboration with Hugging Face’s BLOOMZ model, powered by Habana’s Gaudi 2, and its partnership with Stable Diffusion, which runs on 4th gen Xeon, in the growing world of generative AI.

AI Product Roadmap – Checks Boxes But Still No Traction

During a recent presentation, Intel discussed its current and upcoming AI acceleration products. The company highlighted its AMX AI Accelerator Engine, which provides ten times the performance for inference and training compared to the previous generation, without additional discrete accelerators. Intel claimed that a 48-core 4th Gen Xeon with AMX delivers four times the performance of a 48-core 4th Gen Epyc on deep learning workloads.

In addition to AMX, Intel outlined its GPU, FPGA, and AI-dedicated Gaudi platforms. For example, Intel’s Flex GPU demonstrated a 30% better performance in media and AI inference than its competitors. In comparison, its Max GPU delivered up to 50% better performance for physics applications, though the overall offering is mainly geared towards high-performance computing.

Geopolitical Shifts Could Favor Intel

Whereas the main ambition of the firm is regaining competitiveness with its own products, the management still aspires to add growth opportunities by gaining traction as a large-scale foundry. The firm sees opportunities to benefit from changes in the semiconductor industry. Many countries and probably companies would like to reduce their high dependency on Asian (contract) manufacturers to ensure supply resilience, also considering the rising geopolitical tensions.

TSMC, whose operations are concentrated in Taiwan, has almost a monopoly on the third-party manufacturing of the world’s most advanced chips. However, Intel believes it is on the right track to narrow the quality gap with the rival’s manufacturing processes, allowing it to produce chips that, in a few years, should no longer be inferior to the chips made by TSMC and Samsung.

I expect this will support gross margins to recover strongly from the current depressed level in the low thirties to a gross margin approaching the targeted 60%, a level that Intel has struggled to deliver since 2018. In addition, Intel’s management claims to be on track to upgrade to five more advanced manufacturing nodes by 2025. It has already completed two, of which the latest one for the first time deployed EUV technology. As a result, gross margins are expected to stay in the low-30s in the second quarter, with greater inventory reserves for new items sold later in 2023 negatively influencing margins.

The foundry business is still marginal, accounting for 1% of sales. A setback for the foundry strategy is the uncertainty about the planned acquisition of Tower Semiconductor. More than a year ago, Intel announced a bid of $5.4 billion for this leading Israel-based foundry for analog semiconductor solutions. Regulatory approval is still pending in China. However, a verdict may come soon after CEO Pat Gelsinger recently talked to Chinese regulators. Among the deal’s merits would be the addition of executives with relevant experience in the foundry business.

The severe deterioration of Intel’s financial results has reduced possibilities for investments and capital expenditures. In the reported quarter, the free cash flow was $8.8 billion negative. To be able to execute spending plans, the management plans aggressive cost savings. In February, the company also announced a 66% reduction in its quarterly dividend, freeing up around $4 billion annually for planned investments. Intel is also lobbying to benefit from government subsidies. It expects these to help cover 20 to 30% of its gross capital expenditures in 2023.

The Server Product Roadmap Remains On Track

Intel’s DCAI team is making good progress on its product/technology roadmap, with the Sapphire Rapids-based 4th Gen Xeon platform already ramping up, Emerald Rapids on track for 4Q23, and Sierra Forest/Granite Rapids scheduled for 2024. Intel reported that more than 200 Sapphire Rapids-powered designs are already shipping with over 450 design wins, and the top 10 cloud service providers are deploying instances with Sapphire Rapids now and throughout 2023.

Intel is on track to ship 1 million Sapphire Rapids CPU units by mid-2023. In addition, the management is narrowing the availability window for Intel 3-based cloud-optimized Sierra Forest to 1H 2024, with performance-core Granite Rapids launching shortly thereafter. Finally, the final step in its five nodes in 4 years strategy has been named the Intel 18A-based Clearwater Forest. It is set to debut in 2025 as an efficiency-core, cloud-optimized platform, which the management believes will be a significant moment for Intel as it regains its technology leadership.

AMD Post Q1 Outlook

AMD recently reported results for the 1st quarter of 2023. The company exceeded market expectations in terms of revenue and EPS. However, following the disappointing second-quarter guidance, AMD stock dropped significantly. Additionally, sales decreased 9% year over year to $5.4 billion, although cloud sales increased by a solid double-digit. Sales of client computing fell 65% year over year due to decreased demand and rising inventories. Nevertheless, the management foresees robust double-digit revenue growth in the second half of 2023.

Weakness in the PC market continues to weigh on the company, which is at multi-year lows. Moreover, the company’s strongest Data Center segment experienced a decline for the first time quarterly and is experiencing some demand difficulties. On the one hand, the company showed growth in the cloud subsegment due to double-digit percentage growth in EPYC CPU sales. However, on the other hand, sales in the Enterprise sub-segment declined due to lower demand due to short-term macroeconomic uncertainties.

During the conference call, the management provided additional information on expectations for the rest of the year. Due to a new product line, the management expects Data Center revenue to grow by almost 50% in the year’s second half. The company also expects the PC market’s second half to be much better, and the Embedded segment will remain strong. In addition, the average price and restoration margin are expected to normalize in the year’s second half. The leadership also expects great promise in the AI market, where the launch of the MI300 accelerator is planned for the end of the year.

Regarding profits, the gross profit margin dropped by a full four percentage points to 44%, attributable to the performance of the Client sector and the amortization of intangible assets associated with acquisitions. However, the management expects no additional margin deterioration, with non-GAAP gross margin remaining at least 50% in the upcoming quarter. As a result, AMD management believes in recovery during the year’s second half. However, this confidence is still based on their own assessment of the competitiveness of the new product lines, which have yet to be received feedback from customers.

Inventory Levels Can Normalize In H2-2023

Over the last three years, AMD has massively increased its inventory by nearly 220% since the semiconductor shortage era, while Intel reported an inventory growth of 44%. Despite the weaker demand that pushes inventories further up, AMD’s management strives to normalize the supply chain’s inventory levels to bring shipments and consumption closer together. The company boosted its inventory by $464 million in the first quarter, mostly in preparation for the ramp of new Data Center and Client products in advanced process nodes.

An analyst, Rasgon, pointed out that AMD and Intel have been under-delivering end demand to PC makers, with notebook CPUs under-delivering PC demand by 10% and desktop CPUs under-delivering desktop units by 16% in Q1. This has allowed PC makers to reduce inventory. It’s important to note that AMD’s client segment, which provides CPUs and GPUs to PC manufacturers, had a staggering 65% decrease from the same period last year.

The analyst noted that although the first-quarter channel inventory drain for CPUs was “ugly,” it was “less ugly” than the fourth quarter, especially since notebook shipments seem to be approaching normalization faster than desktop PC shipments.

Expanding Datacenter Opportunity with MI300

Investors are increasingly interested in AMD’s ability to compete in the AI-driven data center silicon market, especially in the GPU market, projected to grow to over $60 billion in the next five years. AMD could announce hyper-scale cloud wins with the forthcoming (mid/early-2H2023) official launch of the MI300 data center APUs (CPU + GPU). AMD confirmed that the MI300 is on track with its development timeline, and the official launch is expected in 2H2023.

Although the development of AMD’s open software ecosystem is vital, I remain optimistic about the competitiveness of the Instinct data center APU/GPU lineup. The Instinct MI300 APUs will compete against NVIDIA’s Grace-Hopper Superchip (CPU+GPU). It is important to also keep an eye on the adoption of DPUs in the data center, especially AMD’s Pensando DPUs. The DPUs/Infra Accelerators market is estimated to be worth approximately $6 billion by 2031, and AMD is confident that it can capture a significant portion of the market.

AMD & Xilinx – A Superior Combination

The combination of AMD and Xilinx provides a unique opportunity to integrate their packaging and chiplet capabilities for heterogeneous computing. In addition, AMD has demonstrated its ability to integrate AI capabilities from the Xilinx acquisition by introducing XDNA AI Engines into its next-generation mobile Ryzen 7000-series APUs.

During its June 2022 Investor Day, AMD’s executives outlined their packaging strategy of making adding third-party IP and custom IP into the company’s chiplet platform easier, opening up interoperability with the company’s Infinity Architecture. This will allow Xilinx assets and IP blocks to incorporate into AMD’s chiplet platform, potentially leveraging Xilinx’s programmable Network on Chip (NoC) capabilities in the Versal ACAP solutions. Arm-based cores have also shown traction in the Xilinx and Pensando roadmaps.

AMD’s packaging capabilities incorporate 2.5D packaging technology, including its 2.5D Elevated Fanout Bridge (EFB) used in AMD’s MI250X data center GPUs. Moving forward, AMD is transitioning to 3D Hybrid Bonding, which the company has highlighted will provide a 3x increase in interconnect energy efficiency and a 15x increase in interconnect density compared to micro bump 3D. AMD’s Milan-X reflects the incorporation of 3D V-Cache via Hybrid Bonding.

AMD has emphasized the importance of packaging technology to integrate multiple chips into a single package, which reduces costs and improves performance. This approach enables AMD to offer more integrated products and better meet customer requirements. Additionally, packaging technology can improve power efficiency and cooling performance, which is critical for data center applications.

Overall, the integration of AMD and Xilinx’s packaging and chiplet capabilities provides a significant opportunity for the company to participate in the evolution of heterogeneous computing. AMD’s packaging strategy, incorporating 2.5D and 3D Hybrid Bonding, enables the company to leverage its Infinity Architecture and integrate Xilinx assets and IP blocks, including its programmable NoC capabilities. This will allow the company to offer more integrated products, reduce costs, and improve performance, meeting the demands of data center applications.

Takeaway

As Intel navigates margin pressure and weak end-market demand, its financial results will remain under pressure through 2024. However, the company is still progressing on its IDM 2.0 strategy to improve its manufacturing process technology. The market is still pricing INTC like a failed turnaround and assigns zero value to Pat Gelsinger’s progress since he took the helm. The semiconductor market is highly cyclical, and Intel is preparing for a comeback in the second half of the year, setting up the stock for an upside.

AMD reported its Q1 2023 results, surpassing revenue and EPS expectations but disappointing with its Q2 guidance. However, the management anticipates double-digit solid revenue growth in the year’s second half, driven by new product lines and improved market conditions. Additionally, AMD aims to normalize inventory levels and align supply with demand. Lastly, the company is also focused on expanding its presence in the AI-driven data center silicon market and leveraging the integration of AMD and Xilinx’s packaging and chiplet capabilities.

I have a Buy rating on AMD, and a Strong Buy rating on Intel.

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Analyst’s Disclosure: I/we have a beneficial long position in the shares of INTC, AMD either through stock ownership, options, or other derivatives. 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.

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Author of Yiazou Capital Research

Unlock your investment potential through deep business analysis.

I am the founder of Yiazou Capital Research, a stock-market research platform designed to elevate your due diligence process through in-depth analysis of businesses.

I have previously worked for Deloitte and KPMG in external auditing, internal auditing, and consulting.

I am a Chartered Certified Accountant and an ACCA Global member, and I hold BSc and MSc degrees from leading UK business schools.

In addition to my research platform, I am also the founder of a private business.