Could Intel Score You 100% Returns?

Investors just don't like Intel (Nasdaq: INTC  ) .

The proof is all over the place, but really we don't have to look any further than the stock's current valuation. With a trailing price-to-earnings ratio of just 10, it's pretty obvious that this one-time tech darling is no longer loved by investors.

Why the lack of love? In a word: mobility. Intel hasn't kept up with ARM Holdings (Nasdaq: ARMH  ) when it comes to chips for tablets or smartphones, and while it may be able to claw its way back if gadgets based on Microsoft's Windows platform gain traction, Microsoft hasn't done a great job keeping up with Apple (Nasdaq: AAPL  ) and its stable of wireless products.

However, I think investors may have an overly bleak view of the future of more traditional computers and Intel's ability to compete in mobility, and so the pessimism that's kept Intel's stock down may be a significant opportunity.

Earnings expectations
As I outlined in a previous article, a good way to get a baseline for growth expectations is to check on what Wall Street analysts expect and how fast the company has actually grown in the past.

Metric

Annual Growth Rate

Analysts' estimates 10.7%
10-year historical 4.0%
5-year historical 5.0%
3-year historical 21.3%
Last 12 months 80.4%

Source: Capital IQ, a Standard & Poor's company. Historical growth based on operating earnings.

Now comes the tougher part: How fast do we actually believe Intel can grow? Right away, I'm going to suggest that analysts' estimates are far too optimistic. Intel's business is cyclical, and right now it's much closer to the peak than the trough. And that's not to mention the feared impact that mobile products will have on traditional PC chips. More broadly though, demand for high-quality processors is only going to increase as global growth picks back up and technology plays an ever-larger part in our day-to-day lives.

The top end of my expectation is that Intel will grow its earnings at 7% per year over the next five years -- and I consider that a pretty optimistic view. At the midpoint, I see growth closer to the 10-year average of 4% per year. And on the bottom end, I've penciled in a 4% decline per year.

Pinning down valuation
Valuations are a moving target that can be tough to predict, but, as with growth above, using a range of values can give us a view of our potential returns without requiring a Miss Cleo-type prescience.

In creating our range, a good place to start is where the stock is trading right now and what its historical trading range has been. As I pointed out above, Intel is currently trading at a very low multiple. In fact, its average annual multiple of 10.5 over the past 12 months is the lowest it's been over the past decade. Excluding this past year, Intel's annual-average P/E has been as high as 80 and as low as 17.

For broader context we can also look at how similar companies trade.

Company

Industry

Trailing P/E

Estimated Growth

Cisco (Nasdaq: CSCO  ) Communications equipment 13.2 11.3%
Texas Instruments Semiconductors 13.3 10.0%
Broadcom (Nasdaq: BRCM  ) Semiconductors 19.7 18.7%
NVIDIA (Nasdaq: NVDA  ) Semiconductors 40.3 16.6%
National Semiconductor Semiconductors 19 8.0%
AMD (NYSE: AMD  ) Semiconductors 13.3 6.0%

Source: Capital IQ, a Standard & Poor's company.

Obviously, these companies aren't all exactly the same as Intel. AMD's business may be the closest, but even there its status as runner-up to Intel makes it -- at least if you ask me -- a less attractive business to own. And even though many of the others are similarly listed as semiconductor manufacturers, the product sets differ -- from graphics processors at NVIDIA, to analog and mixed signal chips at National Semiconductor. However, the group still gives us some insight into how we might value Intel.

Even after we throw out NVIDIA as an outlier, it still appears that Intel is sorely undervalued when it comes to its industry and comparable companies. If we look at it from the broader context of the S&P 500 index, it's even more apparent; on a trailing basis, the overall S&P trades at 16.8 times trailing earnings.

For my downside case, I assumed that investor faith in Intel doesn't recover and the stock continues to trade at 10 times earnings. In the more likely midcase scenario, I have the stock's trading multiple climbing to 13, while on the upside I could see it trading at 17 times earnings.

Dividends and share count
Our final stop is to consider how much we'll get paid through dividends and whether changes in share count will impact our bottom line.

My main concern with share count is that I'll end up with a company that has a history of significant dilution. That's far from ideal because big share issuances cut the portion of the profits that each share receives. Although Intel's share count crept up slightly last year, we don't have much to worry about here. Over the past decade, the share count, on average, has fallen by roughly 2% per year.

As for dividends, Intel currently pays a very attractive 3.6% dividend and has grown that payout nearly 15% per year over the past five years. Though I assumed above that earnings growth will be somewhat sluggish, thanks to ample cash flow, a low payout ratio, and a hefty cash balance on the balance sheet, I'm projecting that the company will grow dividends at a brisker pace. For my upside, midcase, and downside scenarios, respectively, I projected dividend growth of 12%, 8%, and 4%.

The verdict please!
The end result of all of this is the returns we can expect under the various scenarios. Here's what my three scenarios would look like.

Scenario

Annual Earnings-per-Share Growth

Earnings Multiple

Annual Dividend Growth

Expected Annual Returns

Upside 7% 17 12% 22.6%
Midcase 4% 13 8% 13.4%
Downside (4%) 10 4% 0.4%

Source: Author's calculations.

Let's now go back to that question that we started with: Can you double your money with Intel's stock? If the upside scenario holds, the answer is a definite "yes." Even in the more likely midcase scenario, the overall return of 88% is nothing to thumb your nose at. The risk, of course, is the downside scenario, where your money would basically do nothing over the next five years. I happen to think that's a pretty attractive risk/reward trade-off and I've put my money where my mouth is as I own Intel in my personal portfolio.

Of course, the future is an ever-changing picture, so you need to keep on top of what's going on at Intel to see which set of numbers the company and stock are able to live up to. And you can do just that by adding Intel to your Foolish watchlist.

Intel and Microsoft are Motley Fool Inside Value recommendations. Apple and NVIDIA are Motley Fool Stock Advisor recommendations. The Fool has written puts on Apple. The Fool has created a bull call spread position on Cisco Systems. The Fool owns shares of and has bought calls on Intel. Motley Fool Options has recommended a bull call spread position on Apple. Motley Fool Options has recommended a diagonal call position on Intel. Motley Fool Options has recommended a diagonal call position on Microsoft. The Fool owns shares of Apple, Microsoft, and Texas Instruments. Motley Fool Alpha LLC owns shares of Cisco Systems and Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

Fool contributor Matt Koppenheffer owns shares of Intel and Microsoft, but does not have a financial interest in any of the other companies mentioned. You can check out what Matt is keeping an eye on by visiting his CAPS portfolio, or you can follow Matt on Twitter @KoppTheFool or on his RSS feed. The Fool's disclosure policy prefers dividends over a sharp stick in the eye.


Read/Post Comments (20) | Recommend This Article (11)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 12, 2011, at 6:07 PM, jwtrotter wrote:

    You need to have a place to say one doesn't recommend an article because you guys just don't really write many articles that are accurate or portray the stocks in the field you address appropriately. There's a reason most of your articles rarely have more than a couple of recommended clicks.

  • Report this Comment On April 12, 2011, at 6:32 PM, TMFKopp wrote:

    @jwtrotter

    "you guys just don't really write many articles that are accurate"

    Can you please specify what's inaccurate above?

    Thanks-

    Matt

  • Report this Comment On April 12, 2011, at 7:15 PM, midnightmoney wrote:

    There should also be a button here to let writers know when they've done a piss poor job of backing up an argument. That'd be for you, jwtrotter. What exactly are you on about?

    My concern with intel is that it will continue to respond more to negative sentiment than it will to actual earnings success. Even if it does do middling well, will investors continue to expect it to fall back and therefore never drive it up? Nonetheless, on the strength of the dividend, I concur with your move, Matt, and am getting into intel while the getting is good, or at least good enough to take a sensible risk. Thanks for putting pen to a question I'm sure a lot of people are chewing over.

  • Report this Comment On April 12, 2011, at 7:24 PM, techy46 wrote:

    Intel's fair value of $27-28 share won't be realized until younger investors get over Applemania which will probably occur sometime in 2012. Microsoft shares are in thge same boat but since Intel and Microsoft are providing pretty good dividends it's worth the wait. Too late to enter Apple if you don;t have prior positions.

  • Report this Comment On April 12, 2011, at 7:47 PM, TheDumbMoney wrote:

    techy46, I agree with you but it is more than "younger investors." Major "growth" funds are likely still also unwinding positions in these names, and also in Cisco, etc., as they realize/decide they are no longer growth stocks. That translates into a lot less demand. But the just of what you say is true. Also people have a tendancy to make "either/or" binary decisions: Apple good = Microsoft bad. ARMH or Nvidia good = Intel bad. In the real world, however, there is no reason why Apple, Microsoft, and Google, for example, can't and won't all thrive to varying degrees over the next decade, just as both Coke and Pepsi thrive, just as both Toyota and Honda thrive, etc., etc.

  • Report this Comment On April 12, 2011, at 8:35 PM, BuyemHoldem wrote:

    INTC hasn't seen $35/share since 2002 so what makes you think it's going to $40? You guys must be smoking crack!!!!

    I was long INTC for 7 years in 2001 & unloaded 11,200 shares at $38 - $40/share and day traded another 10,000 shares. These INTC articles are all ridiculous. INTC is dead $$$.

  • Report this Comment On April 12, 2011, at 9:37 PM, TMFKopp wrote:

    @BuyemHoldem

    "INTC hasn't seen $35/share since 2002"

    What bearing does INTC's price in 2002 have on its share price five years from now?

    "what makes you think it's going to $40?"

    There is a 1,000 word article above...

    Matt

  • Report this Comment On April 12, 2011, at 9:45 PM, Fool wrote:

    Anyone else think it's ironic that the day-trader's name is "BuyemHoldem"?

  • Report this Comment On April 12, 2011, at 11:17 PM, ikkyu2 wrote:

    I just bought some INTC today, before I read this article. The only real thing I needed to see was one incredible stat - the trailing-twelve-months P/E ratio was 9.8.

    Are you kidding me? Even if earnings went down 30% this would be fair value for this company. But Intel has a 15nm architecture on the way. Name one other company in the history of the planet that has ever created even a single functioning 15nm chip?

    Oh wait, you can't?

    This is crazy valuation. If you're a margin of safety investor, tip your hat to Mr Market, because right at this moment he's offering you Christmas in April.

  • Report this Comment On April 13, 2011, at 3:44 AM, KurtEng wrote:

    I have also added to my Intel position recently. I agree with ikkyu2 - Intel is a technology leader paying a nearly 3% dividend with a valuation that seems way too low.

    I think some of the pessimism is due to the $1 billion it will cost them to recall the new iCore motherboards, but I'm not so worried about it. They have a new division dedicated to mobile devices and they should have a good shot at making quality products. The Atom processors are already dominating the netbook market. I say it's a buy.

  • Report this Comment On April 13, 2011, at 10:03 AM, BuyemHoldem wrote:

    Matt, INTC has been on a decade long downward spiral... NOBODY WANTS IT but everybody seems to think it is worth writing about.

    It starts with the HEADLINE Matt and goes on from there. INTC hasn't even doubled since March 2009. Their lowly competitor AMD is a 4+ bagger in the same time frame. Chips are no longer a 2 horse race so Marketing Hype & Manufacturing Muscle (read strong arming (no pun intended))won't cut it ant more.

    TXinvestor82: There's nothing ironic about my handle. I day traded for 1 month n 2001.

  • Report this Comment On April 13, 2011, at 11:58 AM, TheDumbMoney wrote:

    Buyem, everything about your handle is in fact ironic. Your entire analysis of Intel is predicated on technical "analysis" of A) how the stock (not the company - do you understand the distinction?) has performed since 2002; and now B) apparently how it has performed since 2009 vs. AMD being a "4+ bagger". This entire line of thinking is the absolute antithesis of buy-and-hold investing, which looks at the company, *not* at the stock price, which is merely the market's present-day (and often quite irrational) *appraisal* of a company. I have never once met a single technical investor who holds stocks for the long-term. So yes, your handle is ironic. If you had said one word about Intel's p/e today, it's p/e in 2001, its revenue growth rates, its earnings growth rates, its PEG ratio, its free cash flow, its return on equity, or anything that actually has the remotest thing to do with a fundamental review of the company (not the stock) with a view as to why Intel is or is not a buy going forward, you might have a leg to stand on. As it is, you are legless, a condition ameliorated only by the fact that you are swimming in a sea of irony.

    But maybe we're being unfair. Maybe you are a buyandhold investor who bases his/her decisions entirely on the fact that the stock you are buying has just been a "4+ bagger" or is not "dead $$$", to use your own insightful quotes. If so, congratulations, you are probably the world's first such investor!

  • Report this Comment On April 13, 2011, at 12:21 PM, BuyemHoldem wrote:

    No, I am a fundamentalist 1st & foremost; however, good fundamentals alone are no guarantee. There must be demand to absorb the available supply of shares. That's another fundamental. Simply looking back at INTC (and probably MSFT & CSCO) shows there hasn't been enough demand to compensate for the supply of available shares.

    INTC can't even BUY enough demand for the shares per the above: "As for dividends, Intel currently pays a very attractive 3.6% dividend and has grown that payout nearly 15% per year over the past five years."

    If that can't drive the demand for a stock then not much else will. I have made millions in the stock market (including a lot of $$$ on INTC) but unless something drastically changed there are far better places to invest. For instance, I'm long BIDU since $10.80, BAC since $4.91, F since $1.20... plus many more. But I wouldn't (and didn't) buy INTC at 12!!! I took my $40/share and never looked back.

    It's still somewhat of a free country so you are welcome to invest as you please. I try to make as few foolish mistakes as possible and buying INTC at this point in time will not be one of them.

  • Report this Comment On April 13, 2011, at 1:40 PM, TMFKopp wrote:

    @BuyemHoldem

    "It's still somewhat of a free country so you are welcome to invest as you please."

    Absolutely, so buy INTC or skip it, it's no skin off of my back.

    But you may deluding yourself if you think that you're first and foremost a fundamental investor. Everything that you've said is straight out of the tech-trader/momentum playbook. That's fine -- again, it's a free country -- but the supply/demand dynamics of the stock is not a fundamental factor last I checked.

    Matt

  • Report this Comment On April 13, 2011, at 2:41 PM, BuyemHoldem wrote:

    You said it right in your 1st line Matt: "Investors just don't like Intel".

    No like, no buy, no appreciation... regardless of the dividend. At least the dividend makes it the equivalent of a bond, regardless of the fundamentals, which I don't need to spew on a worthless investment. If it weren't for the dividend it would just be another CSCO.

  • Report this Comment On April 13, 2011, at 2:51 PM, TMFKopp wrote:

    @BuyemHoldem

    Again, all true if you're a momentum investor. Fundamental investors care little what the market thinks and instead focus on (shocker!) the fundamentals!

    Not that you need to listen to anything I have to say -- as you said, you've made millions in the stock market so you're obviously doing something right. Right?

    Matt

  • Report this Comment On April 13, 2011, at 3:48 PM, BuyemHoldem wrote:

    I have been lucky Matt. I do my home work and then follow my instincts.

  • Report this Comment On April 13, 2011, at 5:48 PM, EquityBull wrote:

    I think INTC is a great value play here. It is in a space with no real competitors. AMD is a joke Intel let's them exist so they don't get anti-trust all over them. ARM has no hold in the desktop and server arena and they won't in the next 20 years. INTC too far ahead in design, patents and manufacturing. There is no value in these markets for people to buy chips with ARM processors.

    Yes INTC is behind for now in the mobile space and they may change that or they may not. Even if they don't the loss of share in mobile will be made up in the fat margin server business. Why you ask? Allow me to explain.

    All those phones and ipads out there are heavy consumers of cloud/internet based services. Think gmail, netflix, amazon, yahoo, news, flicker, facebook, etc. All these services are in the cloud which means lots and lots of servers running fat margin intel server chips. For every tablet sold without an Intel chip that computing power required is merely moved to the cloud. Same for every mobile phone.

    Intel is a tremendous value play here. Should they tap any of the mobile or tablet market it will merely supercharge them but even if they don't their command in the server and desktop markets (and laptops) plus their fast growing SSD segment and all the other segments and investments make INTC a steal at today's price.

    I've backed up the truck on this and only hope more sellers come forward to give me some better prices so I can continue to add to this position.

  • Report this Comment On April 13, 2011, at 5:57 PM, ContraryDude wrote:

    EquityBull has the best comment I have seen on this topic in a while! Why should Intel fret over the loss of market share in the mobile space when they have the market cornered in the server space? And with the increase in cloud computing leading the way in the business world over the next 10 to 20 years they only stand to gain additional market share.

    I also intend to add to my position as long as the stock is trading for under $20 and I have cash to invest for the long haul.

  • Report this Comment On April 15, 2011, at 1:05 PM, ErinInRowayton wrote:

    As an Intel holder, your positive view is refreshing. I'm looking at the 22nm ramp for Intel to get in the Smartphone area. What's the math behind your

    "expected annual return" number? Thanks, Erin

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