Image Shown: Intel’s shares have been catching a bid lately.
Shares of newsletter portfolio idea Intel are cheap by our estimates, and the company sports a nice dividend yield to boot. Does it have further upside potential?
By Brian Nelson, CFA
We finally may be redeemed on our bullish call on newsletter portfolio idea Intel (INTC). It has taken a bit longer than usual but shares of the chip giant are now nearing the $40 per-share mark, levels that we thought it had deserved a couple years ago. Here’s a little background on the story arc – an except I wrote in October 2016:
It was nearing the end of 2015, and I don’t think I was more bullish on a stock than Intel. In October 2015, I published that “Intel may have a breakout year in 2016.” I liked what Intel had done to keep AMD’s (AMD) back against the wall, and the chip giant was making nice strides in the mobile market against Qualcomm (QCOM), particularly with key phone-maker, Apple (AAPL). I liked the acquisition of Altera in part because the company is a free-cash-flow generating machine with little capital intensity. Field-programmable gate arrays (FPGAs) will continue to reshape the semiconductor landscape, and the Altera purchase will give Intel a leg up.
Well, it didn’t take long for me to start worrying that I made a mistake with this one. A lackluster fourth-quarter 2015 report sent shares of Intel below the broader S&P 500 (SPY) market return… I was encouraged by unconfirmed reports in March that Intel won a portion of Apple’s iPhone 7 baseband modem orders, but the company was still trailing the index by several points even then. In April, I brought to light the very interesting dichotomy of how many consumer staples entities like Coca-Cola (KO) are trading at lofty unadjusted earnings, despite reported revenue falling, while Intel, which many peg as a tech dinosaur, was actually experiencing revenue growth, “Did You Know: Coca-Cola is Shrinking: Intel Is Growing? (April 2016).”
Although Intel’s stock price didn’t react as rapidly as we would have hoped, we’re glad we didn’t overreact, but instead we pursued patience on this undervalued, strong dividend-paying idea. After all, with shares now nearing $40 each, it was only a matter of time for the market to come around to this technology gem’s potential–and we still expect valuation upside in shares. Look at what we penned August 1, “Intel’s Shares Trading at Huge Discount to Market:”
…it is not as though Intel is a low-quality, cost-cutting “story” either. The technology giant’s second-quarter revenue (excluding Intel Security Group) leapt 14% on a year-over-year basis as it noted “strong performance in client computing (up 12%) and data-centric businesses (up 16%).” Its ‘Internet of Things Group’ revealed revenue expansion of 26% on a year-over-year basis in the quarter, while its ‘Non-Volatile Memory Solutions Group’ showcased top-line growth of nearly 60%.” Sales trends are also coming in better-than-expected, with the company raising its full-year revenue outlook by $1.3 billion, to $61.3 billion. Intel is a free-cash-flow-generating powerhouse, too. In the quarter, cash flow from operations was $4.7 billion and capital spending was $2.8 billion, implying free cash flow generation of $1.9 billion, roughly 50% higher than cash dividends paid in the period.
Frankly, it’s hard not to like Intel’s valuation at current levels, and while we note the entity does have a net debt position after recent dealings and it still has the pending Mobileye outstanding (note: Intel completed offer of Mobileye August 8), “Intel Makes Strong Move into Autonomous Driving,” we have only minimal concerns about its balance sheet given strong top-line performance and free-cash-flow generation. From where we stand, the market is simply being unfair when it comes to the pricing of Intel, as even GAAP-based analysis suggests shares are too cheap (2017 GAAP EPS guidance of $2.66 x 17.7 average S&P company market multiple = $47 per share)…
Our fair value estimate of Intel is currently $43 per share, with the high end of the range north of $50, and the company yields ~2.7% at the time of this publishing. It’s good to see Intel’s shares catching a nice bid of late, and the company still offers the best of both worlds, in our view: nice valuation upside and a solid dividend. We continue to like Intel.