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Intel (Nasdaq: INTC ) is engaged in a chip war as it attempts to break ARM Holdings' (Nasdaq: ARMH ) dominance in mobile-phone chip architecture. While the company plans to charge ahead with its 32-nanometer Medfield chips, it's ramping up factories for the 22-nanometer process, which uses 3-D Tri-Gate Transistors, offering greater performance and efficiency -- ideal for use in smartphones, tablets, and Ultrabooks. That shift appears to be the reason Intel's forecasted gross margins for the second quarter came in below analyst estimates.
Intel's initial costs here will naturally be high, as the company starts with relatively low volumes. But as production ramps up, it will be able to realize greater economies of scale. The question is, will demand be able to cope with increased production?
In the short term, Intel reported first-quarter earnings that beat analyst expectations. Net income declined by 13% from the year-ago quarter to $2.7 billion, which translates to $0.53 per share. Analysts were expecting $0.50 per share in profit. The fall was due to increased expenditures on marketing and research. While revenue landed slightly higher at $12.9 billion, it remained pretty much unchanged from the previous year.
ARM, meanwhile, recently tried to counter the growing threat from Intel by focusing on security for online mobile payments, but it was a rather feeble attempt at trying to get back at Intel's DeepSAFE technology, which it gained from its acquisition of McAfee back in 2011.
Besides Intel's smartphone push, its chips used in personal computers should also get a demand boost. Research firm Gartner predicts that 2012 will see 4.4% growth in PC shipments. Consequently, demand for its core business of selling computer processors will probably do well. The growth in data centers will also play out in its favor, as it's been predicted that IP traffic will triple by 2015, along with an almost 50% rise in data-storage needs.
Moreover, Microsoft (Nasdaq: MSFT ) is expected to release its much-hyped Windows 8 operating system this year, and Intel will probably see greater demand for its computer chips once that happens. On the other hand, competition won't be far off, as Microsoft is planning to release a special version of its operating system, billed as Windows RT, that will support ARM-based processors as well.
Intel may also have to deal with a slow rise in demand as hard-disk shortages -- a result of the Thai floods last year -- continue to dampen the PC industry's prospects. Then there's the ongoing European debt crisis, which has affected orders for most industry players.
The Foolish bottom line
While Intel's margins may be suppressed for now, the company should eventually be able to recover its margins once its 22-nanometer production process becomes mainstream. At the same time, it should expect decent demand for its next-generation products going forward. I'd keep an eye on Intel and recommend adding it to your free Watchlist.
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