Intel's gains may have reached a plateau in fiscal Q2

The shift from desktop to mobile PCs is accelerating, Intel's executives warned yesterday, at a rate which has even taken them by surprise. That helped keep earnings on a nice incline, but it may mean the company's 'tick-tock' now has to speed up.

The recovery period for Intel is now well behind it, as CEO Paul Otellini's rebuilding of the company has been -- perhaps even by the measure of those Intel had to lay off -- an astonishing success. So the news from Intel yesterday on its fiscal second quarter results continued to be good, although now rather than comparing itself against a company in a financial and technological quandary, its baseline has become a resurgent company making stellar gains last year.

As a result, even this last quarter's record numbers, as Intel describes them, are starting to look tamer. Revenue was down 2% over Q1 2008 to $9.5 billion, during a quarter that would normally be considered "seasonal," but which many analysts -- despite the negative overall economic situation worldwide -- have actually described as robust for IT. Still, it's a 9% gain over the second quarter of 2007, with net income up 25% annually to $1.6 billion, on account of lower than expected taxes and reduced restructuring charges.

"I think what we are seeing is just a fundamental shift to notebooks," noted Otellini yesterday (with our sincere thanks to Seeking Alpha for the complete earnings call transcript). "We've been seeing it for years and you know, the crossover happened six months sooner than we thought."

At another point, he added, "As notebook computers continue to decline in price, we see demand growing in response. We saw notebook unit shipments cross over desktop in the overall client PC category in the second quarter. That's sooner than we had expected."

Besides a nice bump in server processor shipments as well, it's mobile processor shipments that were the story of the day. Even though Intel announced back in March it would have to delay the shipment of parts for its "Montevina" mobile platform, that delay ended up being only a few weeks, and what's now called Centrino 2 launched yesterday without a hitch.

But it's as if nobody noticed the delay, or even cared. As Otellini told analysts yesterday, shipments of the company's existing Santa Rosa platform actually rose to fill the gap.

"In general we were able to cover the shipment shortfall on Montevina in Q2 with Santa Rosa," the CEO said. "We replaced all that volume so our customers were able to keep on shipping, and now Montevina is ramping very rapidly in the consumer segments that were launched today or yesterday."

Intel is being up front about the fact that the price situation for NAND flash -- whose "floor" was said to be broken through four years ago -- continues to deteriorate like a plutonium meltdown. One analyst asked Otellini whether he had any plans to fix his company's flash business in "one way or the other" -- a very open-ended question that could entail the possibility of an outright sale.

Open-ended question, open-ended answer: "As you know, the NAND pricing continues to still be very weak, so we're focusing on supply and on costs," the CEO responded. "At the same time, we are focused on trying to get a better pricing environment for our products by shifting some of it to more innovative stacking products into SoCs [systems-on-a-chip]. At the same time we're doing that, we're still looking for longer term solutions. I have not wavered in my commitment to have this business not be a long-term drag on our P&L."

Innovative stacking products? As you may recall, one of the products Intel showcased at the last CES was its SoC media processor, still code-named Canmore. A stand-alone product that uses Canmore would be incorporated into devices such as consumer-grade set-top boxes that receive video-on-demand programming, and that decode video on the fly using on-board codecs.

Such a device requires a significant amount of memory...the solid-state kind, and there's where you see Otellini's train of thought. If Intel can get into the business of selling SoC packages that include the processor and the memory for devices such as set-top boxes, it may perhaps get better margins from the memory component than if it had sold it separately.

During Intel's bad years, the part of its business that was the biggest drag -- on account of low margins coupled with questionable reliability -- was its chipsets. In one of the biggest surprises yesterday, Intel said its chipset business now was a boon for the company. With one competitor's slow but steady exit from chipsets -- Via Technologies -- Intel seems to be picking up not only its own pieces but its competitors'.

As CEO Otellini said, "One of the things that gives me comfort is our chipset shipments in Q2...Chipsets, as you may know, are a leading indicator of microprocessor or PC assembly. They get purchased and then soldered onto motherboards multiple weeks ahead of the microprocessor, typically four to six weeks depending on the vendor. So the fact that we had very strong chipset shipments, record shipments and strong over the course of the quarter I think is a very good kind of a pointer for Q3, in addition to all of the other data we have."

For the upcoming quarter, Intel is predicting revenue between $10.0 and $10.6 billion, and gross margin hovering around a very healthy 58%. With PC shipments growing perhaps faster than the 12% annual rate analysts expected, Intel's upward slope could continue. But it's out of the hole now, so analysts who had grown comfortable with quarter-to-quarter acceleration may have to get used to cruising speed.