MorningWord 10/9/12: The Modern Leper

by Dan October 9, 2012 9:31 am • Commentary

MorningWord 10/9/12:  Looking back to Q1 this year, there was a good bit of optimism surrounding PC growth in 2012 as investors shrugged off worries of tablet cannibalization and chose to focus a tad more on the “impending upgrade cycle” that MSFT’s Windows 8 would bring in the later half of the year.

Most PC stocks and those in the supply chain were off to the races in Jan and Feb.  For instance DELL was up 25% at one point on the year, now it is dwon 46% from those levels, down 33% on the year and trading at 3 year lows.   HPQ was up 17% at one point in Feb and now is trading at 8 year lows down nearly 44% on the year.  To be fair, these 2 companies are suffering from their share of self-inflicted wounds, but both as it relates to their PC businesses have clearly been behind the eight-ball in both consumer and enterprise product trends.

Looking at the supply chain it is a bit of a different picture, hard disk drive makers like STX and WDC have held onto much of their gains, with STX up an eye-popping 80% ytd, having recently just made new all time highs.  Semiconductor under-performance, primarily those more exposed to PCs than wireless devices (including tablets have not been able to hold earlier gains.

INTC sticks out like a sort thumb, after being up on the year almost 20% back in May, the stock has since been on a steady decline, following a string of consecutive earnings misses (including a Q3 earnings pre-announcement just last month) and the stock is now down 7% on the year.

Overnight Sanford Bernstein downgraded shares of INTC to an Underperform rating, cut estimates and slapped a $20 twelve month price target.  Here are a few of their reasons for the pessimism in a note to clients today:

Intel’s phenomenal revenue growth over the last couple of years has been out-of-sync with many data points in PCs. Indeed, we find that most of Intel’s growth in PC revenues was not really due to outsized unit growth, but instead from significant upside to pricing.

We believe there is material risk of Intel’s notebook SKU distribution shifting back in favor of Core i3 products over the next 12-18 months given a push to bring Ultrabooks down to true mainstream price points

We believe such a mix shift could drive a 7-10% decline in mainstream notebook ASPs for Intel in 2013.

Intel’s Desktop revenues have also benefitted from mix shifts over the last few years. However, the mix effect was in fact more pronounced, enough to drive overall ASP upside even as “direct” ASPs for Desktops actually declined within product groups.

Based on ASP decline scenarios for Notebooks and Desktops, we believe a decline in overall PC MPU ASPs by ~7% in 2013 is possible for Intel.

This is not a call on the upcoming quarter and outlook. In fact, we are above consensus on revenues for Q412 (given we believe the industry must, eventually, begin building Windows 8 PCs; this assumptions is, of course, open for debate) and are well below on gross margins (given high internal inventory levels and a full quarters’ worth of reduced loadings). Rather, this call is on longer term fundamental trends that
we see impacting Intel over the next year which should lead to underperformance in the stock (note that we are well below consensus for 2013 and beyond on both revenue and EPS).

Sentiment on the stock remains overwhelmingly mixed within the analyst community with 24 Buys, 26 Holds and 6 Sells. Heading into what will be much anticipated earnings report on Oct 16th (much more for Q4 commentary) it could make sense to AVOID, AVOID, AVOID names in the PC supply chain.   The risk to pressing the short at this point is that Q3 results incorporate a slowdown in demand in front of Windows8 release and that companies in the supply chain start to get a tad more rosey about the next 2 qtrs than the last 2.  I like pressing the short on rallies.

Technically the 2 year chart shows the danger zone that the stock is about to enter. It will need to hold 22 in the near term, but many traders will be gunning for the $20 level.

[caption id="attachment_17648" align="aligncenter" width="490" caption="2 YR INTC chart from Bloomberg"][/caption]

BONUS: last night I saw a great Scottish rock band called Frightened Rabbit at the Bowery Ballroom here is them opening with the song The Modern Leper .