The Intel Story

By Rob Landley (TMF Oak)

AUSTIN, TX (July 30, 1999) -- For the second time, I agree with Phil's conclusions on where we should invest our next $500 -- without necessarily duplicating his reasoning. My vote for the August $500 investment goes to Intel (Nasdaq: INTC). Here's why:

When I research companies, I want to assemble the news and the numbers so that they tell me a clear story, good or bad. Numerical trends, product announcements, and management appointments are all interesting indicators of future potential. But the overall plot, even with the surprising twists and turns it often takes, is the best indicator I've found of what comes next.

Our story so far:

Once upon a time, a computer company named Intel faced stiff competition from Advanced Micro Devices (NYSE: AMD), National Semiconductor's (NYSE: NSM) Cyrix division, and Integrated Device Technology's (Nasdaq: IDTI) WinChip. But the main weapon they fought with was low price, and Intel had huge profit margins while they barely broke even. Clearly, they could compete with Intel on price because Intel wanted it that way.

As it turns out, Intel was laying low while its cousin, Microsoft, made daily headlines fighting antitrust charges from the Department of Justice (DOJ). It was only a matter of time until the DOJ turned its gaze on such a closely related company as Intel, and when that happened Intel made sure it had several carefully cultivated competitors to point to. Then, with a polite demeanor and a few relatively painless concessions, Intel was able to get out of the antitrust hot seat almost immediately, with barely a slap on the wrist.

Shortly afterwards, Intel sprayed for competitors. It no longer needed its competition to be quite so prominent, so it took advantage of its huge profit margins, and cut prices to the point where its competitors started losing money.

The results were dramatic. Its competition was decimated. AMD lost almost $50 million last quarter, and its president resigned. National Semiconductor sold its Cyrix division. And the latest casualty came two weeks ago, when IDT exited the Intel clone business, announcing it would stop making the WinChip.

Meanwhile, the Intel financial machine is humming along quite nicely. On July 13, the company turned in solid second quarter financial results (see 7/15/99 Rule Maker), including 14% revenue growth and 55% growth in diluted earnings per share. The earnings missed Wall Street's estimates by a few pennies, and this disappointed analysts, who had expected Intel to do better. Normal seasonality had an impact on the quarter, and Intel sacrificed a little short-term revenue growth in order to protect its long-term position.

The story won't end there, of course. Intel continues to grow, but since it dominates its niche, it can't simply take market share away from competitors. It must either expand its niche or expand out of its niche. Apparently, it plans to do both.

Intel has completed the design of its 64 bit "Merced" CPU (central processing unit), and sent the finished design to manufacturing. Samples of the chip should be available this summer, and Intel hopes to produce it in bulk next year.

In the same way that Gillette has had success recently selling three blades per razor, Intel wants to sell "parallel processing" machines equipped with more than one CPU. Four-way boxes are selling now, and eight-way boxes are in development.

The main roadblock to both approaches is Microsoft. Hardware is useless without software, and Microsoft has always had trouble creating software to take full advantage of Intel's new hardware advances. Intel's x386 introduced the potential for 32-bit multitasking in the 1980s, but the only operating system available from Microsoft was 16-bit DOS. Later, the Pentium Pro was so thoroughly optimized for 32-bit code that it responded to 16-bit code the way an Indy 500 racecar responds to a dirt road. Because of this, the Pentium Pro didn't sell very well after Windows 95 (which shipped 2 years late) turned out to still run under 16-bit DOS despite Microsoft's promises for a fully 32-bit operating system (OS).

Now Intel is all set to introduce 64-bit chip designs and widespread parallel processing. Yet just this month, Microsoft announced that its next OS offering, "Millenium," will be a further extension of Windows 98, meaning it still runs 16-bit DOS under the covers and has no chance of running on more than one processor. Microsoft's attempt at a fully 32-bit operating system, Windows NT, only had 11% of the business market in 1998, compared to Windows 98's 17% and Windows 95's 57% (see OS market share). In the home market, NT barely registers, and the next NT version, Windows 2000, has been repeatedly delayed.

Even home video game consoles from Sony and Nintendo long ago switched to 64-bit processors. Without the roadblock of Microsoft, they've started to outperform desktop computers.

Faced with the improbability of Microsoft producing an OS that will allow 64-bit parallel processing to penetrate the home and business markets any time soon, Intel turned to Linux last year. Linux already runs on 64-bit processors like the Alpha, and scales up to four processors per box with more to come. A port of Linux to Merced is basically ready today.

As I've mentioned here before, Intel is not alone in its support for Linux. A random sampling:

If Intel can help break Microsoft's stranglehold on the PC operating system market, its future CPU sales look bright. If not, it will have to do some of that lateral expansion I mentioned earlier. (If you'd like to continue this discussion, please visit our Companies Board or the Intel Message Board.)

So, will this month's $500 investment go to Yahoo!, American Express, or Intel? We'll make our announcement on Monday. Until then, have a great weekend, and Fool On!

- Oak

[If you know of some friends who might like to learn more about Intel's growth prospects, scroll up and click on the "E-mail this to a friend" link in the upper-right-hand corner.]

07/30/99 Close

Stock Change    Bid
AXP   -6 13/16  131.75
CHV   -  1/8     91.25
CSCO  +  3/8     62.13
DPH   -1         18.00
EK    -  1/2     69.13
GM    -2 13/16   61.13
GPS   +  7/16    46.75
INTC  -  1/2     69.00
KO    -  15/16   60.56
MSFT  -1 1/8     85.81
PFE   -  1/8     33.88
SGP   -1 3/16    49.00
TROW  +1 1/8     35.00
XON   +1 1/2     79.38
YHOO  -  9/16   136.44

                  Day     Month  Year    History
        R-MAKER  -0.63%  -3.09%   9.99%  38.52%
        S&P:     -0.92%  -3.21%   8.67%  34.43%
        NASDAQ:  -0.06%  -1.76%  20.33%  59.63%

Rule Maker Stocks

    Rec'd    #  Security     In At       Now    Change
   6/23/98   68 Cisco Syst    29.21     62.13   112.72%
    5/1/98   82 Gap Inc.      23.05     46.75   102.80%
    2/3/98   54 Microsoft     45.13     85.81    90.12%
   2/13/98   44 Intel         42.34     69.00    62.98%
   5/26/98   18 AmExpress    104.07    131.75    26.60%
    2/3/98   66 Pfizer        27.43     33.88    23.48%
    6/3/99   11 *Delphi Au    17.19     18.00     4.71%
    2/6/98   56 T. Rowe Pr    33.67     35.00     3.94%
   8/21/98   44 Schering-P    47.99     49.00     2.10%
   2/27/98   27 Coca-Cola     69.11     60.56   -12.36%
   2/17/99   16 Yahoo Inc.   126.31    136.44     8.02%

Foolish Four Stocks

    Rec'd    #  Security     In At     Value    Change
   3/12/98   20 Exxon         64.34     79.38    23.38%
   3/12/98   15 Chevron       83.34     91.25     9.49%
   3/12/98   20 Eastman Ko    63.15     69.13     9.47%
   3/12/98   17 *General M    61.28     61.13    -0.26%

Rule Maker Stocks

    Rec'd    #  Security     In At     Value    Change
   6/23/98   68 Cisco Syst  1985.95   4224.50  $2238.55
    2/3/98   54 Microsoft   2437.28   4633.88  $2196.60
    5/1/98   82 Gap Inc.    1890.33   3833.50  $1943.17
   2/13/98   44 Intel       1862.83   3036.00  $1173.17
   5/26/98   18 AmExpress   1873.20   2371.50   $498.30
    2/3/98   66 Pfizer      1810.58   2235.75   $425.17
   8/21/98   44 Schering-P   2111.7   2156.00    $44.30
    6/3/99   11 *Delphi Au   189.09    198.00     $8.91
   2/27/98   27 Coca-Cola   1865.89   1635.19  -$230.70
    2/6/98   56 T. Rowe Pr  1885.70   1960.00    $74.30
   2/17/99   16 Yahoo Inc.  2020.95   2183.00   $162.05

Foolish Four Stocks
    Rec'd    #  Security     In At     Value    Change
   3/12/98   20 Eastman Ko  1262.95   1382.50   $119.55
   3/12/98   15 Chevron     1250.14   1368.75   $118.61
   3/12/98   20 Exxon       1286.70   1587.50   $300.80
   3/12/98   17 *General M  1041.80   1039.13    -$2.67

                              CASH    $255.59
                             TOTAL  $34100.78

Notes: The Rule Maker Portfolio began with $20,000 on February 2, 1998, and it added $2,000 in August 1998 and February 1999. Beginning in July 1999, $500 in cash (which is soon invested in stocks) is added every month.

*Although DPH is not a Foolish Four stock, it was spun-off from GM on June 3, 1999

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