>> From theCUBE studios in Palo Alto in Boston,
bringing you data-driven insights from theCUBE and ETR.
This is Breaking Analysis with Dave Vellante.
>> Much of the discussion around Intel's current challenges,
is focused on manufacturing issues
and it's ongoing market share skirmish with AMD.
Of course, that's very understandable.
But the core issue Intel faces
is that it has lost the volume game
forever.
And in Silicon volume is king.
As such incoming CEO Pat Gelsinger faces
some difficult decisions.
I mean, on the one hand he could take some logical steps
to shore up the company's execution,
maybe outsource a portion of its manufacturing.
Make some incremental changes that would unquestionably
please Wall Street and probably drive shareholder value
when combined with the usual stock buybacks and dividends.
On the other hand, Gelsinger could make
much more dramatic moves
shedding it's vertically integrated heritage
and transforming Intel into a leading designer of chips
for the emerging multi-trillion dollar markets
that are highly fragmented and generally referred to
as the edge.
We believe Intel has no choice.
It must create a deep partnership in our view
with a semiconductor manufacturer with aspirations
to manufacture on US soil and focus Intel's resources
on design.
Hello, everyone.
And welcome to this week's Wikibon's Cube Insights
powered by ETR.
In this breaking analysis will put forth our prognosis
for what Intel's future looks like and lay out
what we think the company needs to do
not only to maintain its relevance
but to regain the position it once held
as perhaps the most revered company in tech.
Let's start by looking at some of the fundamental factors
that we've been tracking and that have shaped
and are shaping Intel and our thinking around Intel today.
First, it's really important to point out
that new CEO Gelsinger is walking into a really
difficult situation.
Intel's ascendancy and its dominance
it was created by PC volumes.
And its development of an ecosystem that the company created
around the x86 instruction set.
In semiconductors volume is everything.
The player with the highest volumes
has the lowest manufacturing costs.
And the math around learning curves is very clear
and it's compelling.
It's based on Wright's law named after Theodore Wright
T.P Wright.
He was an aeronautical engineer and he discovered
that for every cumulative doubling of units manufactured,
costs are going to fall by a constant percentage.
Now in semiconductor way for manufacturing
that cost is roughly around 22% declines.
And when you consider the economics of manufacturing
a next generation technology, for example
going from ten nanometers to seven nanometers
this becomes huge.
Because the cost of making seven nanometer tech
for example is much higher relative to 10 nanometers.
But if you can fit more circuits on a chip
your wafer costs can drop by 30%
or even more.
Now this learning curve benefit is why volume
is so important.
If the time it takes to double volume is elongated
then the learning curve benefit
they get elongated as well and it become less competitive
from a cost standpoint.
And that's exactly what is happening to Intel.
You see x86 PC volumes, they peaked in 2011
and that marked the beginning of the end of Intel's
dominance from manufacturing and cost standpoint.
You know, ironically HDD hard disk drive volumes peaked
around the same time and you're seeing a similar
fundamental shift in that market relative to flash.
Now because Intel has a vertically integrated model
it's designers are limited by the constraints
in the manufacturing process.
What used to be Intel's ace in the hole
its process manufacturing has become a hindrance,
frustrating Intel's chip designers and really seeding
advantage to a number of competitors
including AMD, ARM and Nvidia.
Now, during this time we've seen high profile innovators
adapting alternative processors
companies like Apple which chose its own design based
on ARM for the M1.
Tesla is a fascinating case study where Intel
was really not in the running.
AWS probably Intel's largest customer is developing
its own chips.
You know through Intel, a little bone at the recent
reinvent it announced its use of Intel's Habana chips
in a practically the same sentence that talked about
how it was developing a similar chip that would provide
even better price performance.
And just last month it was reported
that Microsoft Intel's monopoly partner in the PC era
was developing its own ARM-based chips
for the surface PCs and for its servers.
Intel's Zenith was marked by those peak PC volumes
that we talked about.
Now to stress this point
this chart shows x86 PC volumes over time.
That red highlighted area shows the peak years.
Now, volumes actually grew in 2020 in part due to COVID
which is not really reflected in this chart
but the volume game was lost for Intel.
When it has been widely reported that in 2005
Steve Jobs approached Intel as it was replacing
IBM microprocessors with with Intel processors for the Mac
and asked Intel to develop the chip for the iPhone
Intel passed and the die was cast.
Now to the earlier point,
PC markets are actually quite good
if you're Dell.
Here's some ETR data that shows Dell's laptop net score.
Net score is a measure of spending momentum for 2020
and into 2021.
Dell's client business has been very good and profitable
and frankly, it's been a pleasant surprise.
You know, PCs they're doing well.
And as you can see in this chart, Dell has momentum.
There's approximately 275 million maybe
as high as 300 million PC units shipped worldwide in 2020,
you know up double digits by some estimates.
However, ARM chip units shipped exceeded 20 billion
units last year worldwide.
And it's not apples to apples.
You know, we're comparing x86 based PCs to ARM chips.
So this excludes x86 servers, but the way for volume
for ARM dwarfs that of x86 probably by a factor of 10 times.
Back to Wright's law,
how long is it going to take Intel to double wafer volumes?
It's not going to happen.
And trust me, Pat Gelsinger understands
this dynamic probably better than anyone in the world
and certainly better than I do.
And as you look out to the future,
the story for Intel and it's vertically integrated approach
it's even tougher.
This chart shows Wikibon's 2020 forecast for ARM based
compared to x86 based PCs.
It also includes some other devices
but as you can see what happens by the end of the decade
is ARM really starts to eat in to x86.
As we've seen with the M1 at Apple, ARM is competing
in PCs in much better position for these emerging devices
that support things like video and virtual reality systems.
And we think even will start to eat into the enterprise.
So again, the volume game is over for Intel, period.
They're never going to win it back.
Well, you might ask what about revenue?
Intel still dominates in the data center right?
Well, yes.
And that is much higher revenue per unit
but we still believe that revenue from ARM-based systems
are going to surpass that of x86 by the end of the decade.
Arm compute revenue is shown in the orange area
in this chart with x86 in the blue.
This means to us that Intel's last mot is going to be
its position in the data center.
It has to protect that at all costs.
Now the market knows this.
It knows something's wrong with Intel.
And you can see that is reflected in the valuations
of semiconductor companies.
This chart compares the trailing 12 month revenue
in the market valuations for Intel, Nvidia,
AMD and Qualcomm.
And you can see at a trailing 12 month multiple revenue
with 3 X compared to about 22 X for Nvidia
about 10 X for AMT and Qualcomm,
Intel is lagging behind in the street's view.
And Intel, as you can see here, it's now considered
a cheap stock by many, you know.
Here's a graph that shows the performance
over the past 12 months compared to the NASDAQ
which you can see that major divergence.
NASDAQ has been powered part by COVID and all the new tech
and the work from home.
The stock reacted very well to the appointment of Gelsinger.
That's no surprise.
The question people are asking is what's next for Intel?
How will Pat turn the company's fortunes around?
How long is it going to take?
What moves can he and should he make?
How will they be received by the market?
And internally, very importantly, within Intel's culture.
These are big chewy questions
and people are split on what should be done.
I've heard everything from Pat should just clean up
the execution issues.
It's no..
This is, you know, very workable
and not make any major strategic moves
all the way to Intel should do a hybrid outsourced model
to Intel should aggressively move out of manufacturing.
Let me read some things from Barron's and some other media.
Intel has fallen behind rivals and the rest of tech
Intel is replacing Bob Swan.
Investors are cheering the move.
Intel would likely turn to Taiwan semiconductor for chips.
Here's who benefits most.
So let's take a look at some of the opinions
that are inside these articles.
So, first one I'm going to pull out
Intel has indicated a willingness to try new things
and investors expect the company to announce
a hybrid manufacturing approach in January.
Now, if you take a look at that and you quote a CEO Swan,
he says, what has changed is that we have much more
flexibility in our designs.
And with that type of design we have the ability to move
things in and move things out.
And that gives us a little more flexibility about
what we will make and what we might take from the outside.
So let's unpack that a little bit.
The new Intel, we know is a highly vertically integrated
workflow from design to manufacturing production.
But to me, the designers are the artists
and the flexibility you would think would come from
outsourcing manufacturer to give designers more flexibility
to take advantage of say seven nanometer
or five nanometer process technologies
versus having to wait for Intel to catch up.
It used to be that Intel's process was the industry's best
and it could supercharge a design or even mask
certain design challenges so that Intel
could maintain its edge but that's no longer the case.
Here's a sentiment from an analyst, Daniel Donnelly.
Donnelly is at Citi.
It says he's confident.
Donnelly is confident that Intel's decision to outsource
more of its production won't result in the company
divesting its entire manufacturing segment.
And he cited three reasons.
One, it would take roughly three years to bring a chip
to market.
And two, Intel would have to share IP.
And three, it would hurt Intel's profit margins.
He said it would negatively impact gross margins
by 10 points and would cause a 25% decline in EPS.
Now I don't know about this.
I would...
To that I would say one, Intel needs to reduce its current
cycle time, to go from design to production
from let's say three to four years where it is today.
It's got to get it under you know, at least at two years
maybe even less.
Second, I would say is what good is intellectual property
if it's not helping you win in the market?
And three, I think profitability is nuance.
So here's another take from a UBS analyst.
His name is Timothy Arcuri.
And he says, quote, We see but no option but for Intel
to aggressively pursue an outsourcing strategy.
He wrote that Intel could be 80% outsourced by 2026.
And just by going to 50% outsourcing, he said would save
the company $4 billion annually in CapEx and 25%
would drop to free cashflow.
So look, maybe Gelsinger has to sacrifice some gross margin
in EPS for the time being.
Reduce the cost of goods sold by outsourcing manufacturing
lower its CapEx and fund innovation in design
with free cash flow.
Here's our take,
Pat Gelsinger needs to look in the mirror
and ask what would Andy Grove do?
You know, Grove's quote that only the paranoid survive
its famous less well-known are the words that proceeded
that quote.
Success breeds complacency and complacency breeds failure.
Intel in our view is headed on a path
to a long drawn out failure if it doesn't act aggressively.
It simply can't compete on cost
as an integrated manufacturer
because it doesn't have the volume.
So what will Pat Gelsinger do?
You know, we've probably done 30 Cube interviews with Pat
and I just don't think he's taking the job
to make some incremental changes to Intel
to get the stock price back up.
Why would that excite Pat Gelsinger?
Trends, markets,
people, society,
he's a dot connector and he loves Intel deeply.
And he's a legend at the company.
Here's what we strongly believe.
We think Intel has to do a deal with TSM or maybe Samsung
perhaps some kind of joint venture
or other innovative structure
that both protects its IP and secures its future.
You know, both of these manufacturers would love to
have a stronger US presence.
In markets where Intel has many manufacturing facilities
they may even be willing to take a loss to get this started
and deeply partner with Intel for some period of time
This would allow Intel to better compete
on a cost basis with AMD.
It would protect its core data center revenue
and allow it to fight the fight in PCs with
better cost structures.
Maybe even gain some share that could count for, you know
another $10 billion to the top line.
Intel should focus on reducing its cycle times
and unleashing its designers to create new solutions.
Let a manufacturing partner who has the learning
curve advantages enable Intel designers to innovate
and extend ecosystems into new markets.
Autonomous vehicles, factory floor use cases,
military security, distributed cloud
the coming telco explosion with 5G, AI inferencing
at the edge.
Bite the bullet, give up on yesterday's playbook
and reinvent Intel for the next 50 years.
That's what we'd like to see.
And that's what we think Gelsinger will conclude when
he channels his mentor.
What do you think?
Please comment on my LinkedIn posts.
You can DM me at dvellante
or email me at david.vellante@siliconangle.com.
I publish weekly on wikibon.com and siliconangle.com.
These episodes remember are also available as podcasts
for your listening pleasure.
Just search Breaking Analysis podcast.
Many thanks to my friend and colleague David Floyer
who contributed to this episode
and that has done great work in the last better part
of the last decade and has really thought through
some of the cost factors that we talked about today.
Also don't forget to check out etr.plus
for all the survey action.
Thanks for watching this episode
of the Cube Insights powered by ETR.
Be well.
And we'll see you next time.
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