Drip Portfolio Report
Monday, November 03, 1997
by Jeff Fischer (JeffF@fool.com)

ALEXANDRIA, VA (Nov. 3, 1997) -- Hambrecht & Quist did us a favor today by downgrading INTEL (Nasdaq: INTC) from a "buy" to a "hold," which arguably kept the stock from rising sharply in this market. Not that it would matter twenty years hence, but for today, what the heck -- let's be glad for small favors. The Drip Port bought $300 worth of Intel sometime today through the Harris Trust transfer agent. The most we might have paid was $79 per share. We'll find out what we did pay when we receive our next Intel DRIP statement. It's not a big deal either way.

Hambrecht & Quist might have done better to downgrade the stock a few months ago, when it traded at 24 times trailing earnings rather than the current 20 times earnings. Granted, only recently were earnings estimates lowered for the fourth quarter and for next year, and if we were short-term we might care, too. But with the stock trading at 18 times estimates for 1998 (only 16.9 times estimates when you include the $5 per share in cash that the company has), and with our eyes on the year 2010 and beyond, we're buying. With over 80% of the PC microprocessor market under its belt, Intel is trading at a discount to the S&P and at a slight discount to its growth rate. Gross margins should continue to leak downward for a while, but gross and operating margins should still level off at levels well above those of most all public companies. There aren't many giants out there that rake in the amount of cash that Intel does from every sale -- only companies like Microsoft and Coca-Cola come to mind.

Alongside with the latest issue of Worth magazine being devoted to Intel, the November 10, 1997 issue of Fortune has an article about the coming Merced chip that Intel has been developing with HEWLETT-PACKARD (NYSE: HWP) since 1994. The article, behind the link above, is well worth a read. The new chip design represents the third major milestone of the microprocessor since Intel introduced it in 1971. The Merced chip is aimed at the high-end market of Unix servers and workstations, but will also run just about every system that's come to pass thus far, from Windows NT to Atari 2400 (ok, maybe not Atari 2400). The Merced should begin to ship for high-end use in 1999.

The author of the article seems to understand that much of the barrier to entry in this business resides in the high cost of the fabs where chips are built, not to mention the constant need to upgrade the fabs and the immense cost of building a fab large enough to supply chips in large quantities. The Intel bears repeatedly ignore the supply issue. A competitor can build a great chip, but if it can't build enough to meet demand then the possible growth in market share is obviously limited. Anyway, the article states: "When one of Intel's $5 billion semiconductor fabs starts pumping out Merced chips in 1999, they will embody a significant shift in microprocessor design. Just as important, if the Merced measures up to expectations, it could all but eliminate what serious competition Intel still faces in the lucrative general-purpose microprocessor business."

What we like to hear as long-term investors (even while admitting that the future, especially in technology, is impossible to predict) is the long-term thinking behind Intel's plans. From the article again:

By marketing Merced as a high-end complement to the venerable Pentium -- Crawford says Intel has plans for at least six more versions of Pentium that should carry it well into the next decade -- Intel will have a complete line of chips ready to power anything from the lowliest laptop to a supercomputer. Eventually Merced will begin to displace Pentiums in mainstream desktop and laptop PCs. [Intel] doesn't expect wholesale replacement until 2004, but Merced gives Intel the luxury of thinking that far ahead -- and beyond. AMD's Dham is only half-joking when he says: "Merced will ensure Intel's dominance of the microprocessor business for the next 50 years."

Not banking on complete world domination, we at least like the odds of Intel continuing to lead the market and control a large part of it, and with that hopefully Intel will offer a market-beating return over the coming few decades. This won't be repeated, but over the past five years Intel's stock has compounded 62% annually. As for the downgrade of Intel today at $77, we'll keep track and see when Hambrecht & Quist upgrades the stock again. We'll see if they made a good call or not.

We most likely bought our first share of JOHNSON & JOHNSON (NYSE: JNJ) today, alongside our $300 buy of Intel. The J&J purchase was in the hands of Temper of the Times. Tomorrow we'll take a look at the recent earnings of the largest health care company on the market. J&J rose $1 5/8 to $59 per share, and trades at 21 times 1998 estimates while yielding 1.50%.

Fool on!

--Jeff Fischer


              Stock   Close    Change
               Intel  $78 5/8   +1 5/8

            Day   Month Year  History
        Drip:    +0.00%   0.00%  0.00% 0.00%
        S&P:     +0.00%   0.00%  0.00% 0.00%
        NASDAQ:  +0.00%   0.00%  0.00% 0.00%

        Rec'd   #    Security         In At 
       9/8/97   1      Intel         $94.69

                        Base: $800.00
                    Expenses: $ 55.50 (Moneypaper)
                   Purchases: See above
                        Cash: $649.10
                 Total Value: $735.00 apprx.