22 November 2010

INTC: Financial Gauge Analysis for the September 2010 Quarter

Intel (NASDAQ: INTC) earned $0.52 per diluted share on a GAAP basis in the 25 September-ending third quarter of fiscal 2010, up 57 percent from $0.33 in the same three months of last year.

A previous article examined in some detail Intel's Income Statement for the September quarter.  Reported earnings were $0.02 more than our $0.50 EPS estimate.

We have now updated the various financial metrics we use to analyze Cash Management, Growth, Profitability and Value.  This post reports on the metrics for Intel and the associated financial gauge scores.  The metrics were calculated using data from Intel's current and historical financial statements, including those in the 10-Q filed on 2 November 2010.

Before getting into the details, we will take one step back to introduce the subject of today's analysis.

Intel Corporation is the foremost manufacturer of integrated circuits for computers.  In fiscal 2009, Intel had Net Income of $4.37 billion ($0.77 per share), down 17 percent from $5.29 billion ($0.92 per share) in the previous year.  Revenue slipped 6.5 percent, from $37.6 billion to $35.1 billion.

The company's business is organized around nine product groups.  The two largest groups are PC Client and Data Center.  The PC Client Group sells microprocessors and related products for desktop, notebook, and netbook computers.  It also markets wireless connectivity products.  PC Client was responsible for $26.2 billion of Revenue in 2009, nearly 75 percent of Intel's total Revenue.

On 19 August 2010, Intel announced it would acquire McAfee (NYSE:MFE), a maker of security software, for $7.7 billion.  Intel management stated that security has joined "energy-efficient performance" and "Internet conductivity" as the three "pillars" that support computing today. 

In a separate transaction, reported on 30 August, Intel agreed to purchase Infineon’s (ETR: IFXA) Wireless Solutions Business for about $1.4 billion in cash.  Intel believes this deal, which includes Infineon's ARM-based offerings, will strengthen its product line in the mobile computing market.  Low-power ARM chips are inside most smartphone and tablets, including those sold by Apple (NASDAQ: AAPL). 

Additional background information about Intel and the business environment in which it is currently operating can be found in the look-ahead.

In summary, Intel's latest quarterly results produced the following changes to the gauge scores:

The current and historical values for the financial metrics that determine the gauge scores are listed below, with some brief commentary.  Readers are encouraged to verify these figures and calculate others as they see fit using the filings available at the SEC's web site and elsewhere.

Cash Management25 Sep 201026 Jun 201026 Sep 20095-yr Avg
Current Ratio3.
LTD to Equity4.3%4.5%5.6%4.8%
Debt/CFO (years)
Inventory/CGS (days)74.870.872.075.2
Finished Goods/Inventory41.2%38.9%41.0%38.4%
Days of Sales Outstanding (days)20.219.323.426.9
Working Capital/Revenue37.0%34.0%35.4%32.4%
Cash Conversion Cycle Time (days)49.945.345.054.1
Gauge Score (0 to 25)713712

The Cash Management score turned downward in response to the increases in the Inventory-to-CGS and Finished Goods-to-Inventory ratios.  We would normally view these Inventory rises as cautionary; however, in this case another metric eases our concern.  Specifically, a drop in the closely related Inventory-to-Revenue ratio (see figure) from 34 days to 26 days rebuts the worry that Intel's Inventory might have expanded excessively.

When the Finished Goods ratio increases, it can be an early signal of slower sales.  However, in other circumstances, an inventory buildup can be a sign that the company is gearing up for future sales, perhaps involving new products.  Intel's 10-Q would seem to support the latter view.  It states:

We believe that inventory in the supply chain will remain lean as our customers prepare for the launch of these new products. As we anticipate strong demand for these new products, we are taking advantage of the lower than expected seasonal growth in the second half of 2010 to more quickly upgrade our older generation factories.

The Inventory growth also affects the Cash Conversion Cycle Time and the Working Capital ratio, which have both increased.  Declines would typically indicate more efficient use of cash.

Debt is minimal relative to Equity and Cash Flow, although this could change if the company continues to pursue acquisitions.

Growth25 Sep 201026 Jun 201026 Sep 20095-yr Avg
Revenue Growth30.4%22.0%-18.2%3.9%
Operating Profit Growth64.9%64.5%7.5%31.5%
CFO Growth40.4%55.2%-20.7%25.4%
Net Income Growth355.2%281.9%-68.3%44.4%
Gauge Score (0 to 25)242419
Revenue, CFO, and Net Income growth rates compare the last four quarters to the four previous quarters.
The Operating Profit rate is the annualized rate of growth in
Operating Profit after Taxes over the last 16 quarters.

The Growth gauge came within one point of a perfect score for the third consecutive quarter.

Trailing-year Revenue hit a record high, and the Revenue growth rate, which turned positive only three quarters ago, is now over 30 percent.  Revenue as a percentage of Assets is also now comfortably greater than its five-year average.

The stellar Cash Flow and Net Income growth rates have been amplified by recessionary weakness during parts of the year-earlier period.  The latest growth rates are too robust to be sustained much longer.

Profitability25 Sep 201026 Jun 201026 Sep 20095-yr Avg
Operating Expense/Revenue64.1%66.2%79.6%74.9%
Free Cash Flow/Invested Capital35.2%37.6%18.0%17.5%
Accrual Ratio10.5%9.2%-1.7%8.0%
Gauge Score (0 to 25)2222913

The Profitability gauge held on to its earlier gains, and it remains within 3 points of a top score.

A big contributor to the score has been the remarkable 15 percent improvement in the trailing-year Operating Margin.  Expenses have been taking smaller and smaller bites out each Revenue dollar.

The Return on Invested Capital is at a 10-year high, according to our records.  The Free Cash Flow ratio is just slightly below a multi-year high

The rising Accrual Ratio is keeping the Profitability gauge below a top 25-point grade.  We generally consider Quality of Earnings to be better when the Accrual Ratio is both negative and getting lower.  In this case, special charges in recent years have made the Accrual Ratio less reliable.

Value25 Sep 201026 Jun 201026 Sep 20095-yr Avg
P/E vs. S&P 500 P/E
Enterprise Value/Cash Flow (EV/CFO)
Gauge Score (0 to 25)191608
Share Price ($)$19.42$20.03$19.37-

The Value gauge continued to rise because Intel's share price fell, while revenue, earnings, and cash flow from operations all increased substantially.  When the quarter ended, the shares were selling at a significant discount to their historical multiples.

The Price-to-Sales ratio, which avoids complications such as special charges and variable tax rates, is approaching near an historic low.

Overall25 Sep 201026 Jun 201026 Sep 20095-yr Avg
Gauge Score (0 to 100)72711742

Seventy-point Overall scores are hard to achieve and sustain.  Intel's Growth, Profitability and Value gauges all have very good readings.  The Cash Management gauge was negatively affected by Inventory data that doesn't, on second look, appear to be worrisome.

Full disclosure: Long INTC at time of writing.

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