By Debora Tidwell (TMF Debit)

2200 Mission College Blvd.
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ALEXANDRIA, VA (July 15, 1997)/FOOLWIRE/ --- Intel Corporation released their second quarter 1997 earnings after the market close on July 15th. Revenue in the quarter was $6 billion and earnings were $0.92 (and reflect the recent 2-for-1 stock split).

PERFORMANCE VERSUS REVISED EXPECTATIONS. When they reported the first quarter in April, they indicated that they expected second quarter revenues to be flat to slightly up from the first quarter revenues of $6.4 billion. On May 30th they revised their estimates changing guidance for revenue to down 5-10%. Second quarter revenue, at $5.96 billion, was at the midpoint of their range, down 7.6% from the first quarter. Second quarter earnings were $0.92 per share, up 56% from $0.59 per share in the second quarter of 1996 and down 16% from $1.10 per share sequentially.

REVENUE BELOW INITIAL EXPECTATIONS. Revenue for the quarter was below their initial expectations. Sequential growth in the Americas and Japan was more than offset by declines in the other geographies. They indicated in their May 30th press release that demand in Europe was weaker than anticipated and Europe had a sharp decline from Q1 revenue.

MICROPROCESSORS. Shipments of microprocessors continued at high levels with significant increases in shipments of Pentium processors with MMX technology and strong demand for the Pentium II processors. Shipments of the older versions of Pentium processors declined as customer demand shifted toward the new processors with MMX technology. Total shipments of microprocessors were down from the first quarter.

GROSS MARGINS. The decline in quarterly revenue produced absolute dollar margin of $3.6 billion in the second quarter, down from the Q1 level of $4.1 billion in margin. The gross margin percentage in the quarter was 60.7%. The primary reason for the drop from the first quarter's 64% gross margin was lower revenue. In a fixed cost business like semiconductors, changes in revenue tend to have a disproportionately large impact on margins. In recent quarters, margin percentage has benefitted from revenue upside. In the quarter just ended, the shortfall in revenue caused margin percentage to decrease. Inventory writeoffs also contributed to margin decrease, as they were a little higher than normal.

EXPENSES. Second quarter spending of $1.3 billion was at the same level as the first quarter. Expenses increased less than guidance due to lower quarterly revenue and tighter control of spending. Interest and other income was $212 million, close to the first quarter level.

SHARES AND SHARE REPURCHASE. Average shares outstanding were essentially unchanged. During the quarter, Intel repurchased 13 million shares.

INVENTORY. Inventory increased by $79 million in the quarter, of which finished goods was up by $105 million. The increases were the result of the shortfall in revenue in the quarter. If they had met their original revenue expectations, inventory would have been approximately flat with the Q1 levels. Even with this growth, current inventory levels are generally within Intel's guidelines.

CASH FLOW AND CAPITAL SPENDING. Cash flow from operations in the quarter was over $1.8 billion. Capital spending was $959 million and they used $945 million on stock buybacks, producing an increase of $85 million in net cash in the quarter.

Q3 EXPECTATIONS. For the third quarter, they expect revenue to be flat to slightly up. They asked people to keep in mind that third quarter revenue is generally the most difficult to predict due to the non-linear nature of the quarter. Based on their product mix expectations, they expect gross margin percentage to be flat to slightly down from 61% in the second quarter. For the full year 1997, Intel's gross margin goal remains the same as it has always been -- to increase absolute dollar margins. They will continue to make investment decisions consistent with this guiding principle. It is extremely difficult to predict a gross margin percentage for the year, as the percentage is a function of many variables. The variables with the greatest impact in the most recent reporting periods have been product mix and revenue levels, both of which can vary rapidly within a short period of time. In January, Intel gave gross margin guidance for 1997 of about 60% plus or minus a few points. Their expectation for the full year continues to be for gross margin percentage to be at the mid to higher part of this range.

IMPACT OF NEW PRODUCTS. As they ramp new processor technologies into the marketplace, their motherboard revenue may increase. In addition, their newest product -- the Pentium II processor -- is packaged with purchased components, primarily SRAMs, in a single-edge contact cartridge. Both of these factors are expected to increase absolute dollar margins but lower gross margin percentages.

SPENDING EXPECTATIONS. Spending is also expected to increase as they continue to invest in R&D and marketing programs to support business growth. The increase in the third quarter will be due to increased R&D, merchandising, and "Intel Inside" spending. This should lead to a quarter-to-quarter expense increase of 4-6% in the third quarter. They have a lot of flexibility to adjust their spending levels during the quarter. If you look at Q2, a lot of their spending which is a function of revenue and profit was less than expected. They also have the ability to tighten controls and spend less. They also have an advertising program which they can push or pause as necessary. They do believe, however, that they need to invest in the company and the company's future.

OTHER EXPECTATIONS. Interest and other income should be about $140 million in the third quarter, depending on cash balances, interest rates, and assuming no unanticipated items. They expect the tax rate of 35.5% to continue for the year.

MICROPROCESSOR DEMAND UP. Demand for microprocessors was up substantially in the second quarter this year compared to a year ago. Relative to the first quarter, shipments declined with Europe being the main driver. The Europe shortfall was reflected in a reduced level of sales to OEMs and in distributor sales out. Europe traditionally has a seasonally lower second quarter and this year was compounded with an inventory correction from a very high level of purchases in Q1, as well as product mix transitions. In addition, their customers in all geographies are continuing to trim their inventories into more efficient business models. Revenues in the Americas and Japan were up sequentially from Q1. Asia/Pacific was down slightly as a percent of Intel's revenues, and from the first quarter levels, due to reduced distributor sales out and lower chipset sales, much of which normally goes to Europe in the form of motherboards. Their overall book-to-bill ratio was above 1.0 for the quarter and their current backlog for Q3 supports their forecast of revenues being flat to slightly up from Q2.

INVENTORY BUILDUP. They think there was inventory buildup in the distributor channel for two reasons -- there was some reduction in sales out from what they first anticipated in total and the results of the product mix transition going on in all of their distribution channels. In general, their distributor weeks of inventory grew by a couple of weeks this quarter, reflecting the combination of both of those events. They feel comfortable that the distributor inventories are in line with their expectations going forward in terms of the business growth.

PRODUCT DEMAND STRONG. On a product basis, demand for their newest products, Pentium processor with MMX technology and Pentium II processors, continues to be strong. Both of these product families grew significantly in volume from Q1 and are seeing rapid acceptance in all geographies. Pentium Pro processor demand continues about flat, as server volumes increased to help offset desktop movement to Pentium II. They expect Pentium Pro volumes to decline going forward as Pentium II moves into that product segment. Volumes of their older Pentium processor fell off sharply as demand moves to the new products. They have stopped wafer starts on Pentium processors and expect to live off of inventory for the remainder of that product's life. They have two new product families moving rapidly into the marketplace and across their product roadmaps this year. In order to continue the transition of those product families in and the older products out, they have decided that they will return to quarterly price moves for both the August and November quarters and have already informed their customers of those prices.

NEW PRODUCTS. New product introductions this quarter included a 233 megahertz version of the Pentium processor with MMX technology and new versions of MMX technology processors for the notebook market. Their shipments into the mobile market grew 15% this quarter, reflecting worldwide growth in that market segment. Pentium II processor shipments grew significantly this quarter and are on track to become mainstream products for Intel in the second half. Production yields for this product are ahead of forecasts and they now expect the 300 megahertz version to move this year beyond the workstation market segment and into the high-end desktop segment as well. Additionally, at PC Expo, Intel hosted the introduction of the Net PC by a number of OEMs. This is an exciting new product category for them as it brings the benefits of highly managed, low cost of ownership computing to the enterprise without sacrificing high performance or PC compatibility.

OTHER PRODUCT AREAS. In other product areas, their chipset products declined from Q1, approximately on a slope equal to their processors. Flash grew to record unit volumes and they believe they remain the market leader in this product. With regard to flash memory pricing, last year Intel dropped their prices despite high industry demand and short supply, to honor contractual agreements. As a result when they came out of that period, there wasn't quite the freefall that other vendors may have experienced.


* A Fool conference call synopsis represents an effort to highlight the salient points of a conference call and should not be taken as an authoritative accounting or transcription of the entire event. Note: Statements made by a company other than historical information may constitute forward-looking statements for which the company can claim protection under the Safe Harbor Act. Please consult the company's filings with the SEC for information on risk factors which might cause actual results to differ materially from the information contained in these forward-looking statements.

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