Shares of Intel (NASDAQ:INTC) tanked yesterday after the company reported disappointing third-quarter earnings results. Investors were rattled by a 7% drop in Data Center Group (DCG) revenue, one of the company's largest and most profitable businesses. Intel also warned that the challenges will remain next quarter.

Here's what investors need to know.

Intel sign in front of headquarters

Image source: Intel.

Continuing weakness

DCG revenue in the third quarter declined by 7% to $5.9 billion, which led to a 39% drop in DCG operating income due to lower average selling prices (ASPs) and the loss of operating leverage.

Sales shifted from the enterprise and government market to cloud service providers. Revenue from cloud service providers was up 15% while sales to the enterprise and government market plunged by 47%, which Intel attributed to the macroeconomic uncertainty caused by the COVID-19 pandemic.

"In Q4, we anticipate COVID-19 impacts will drive weaker demand in our data-centric businesses and demand in the cloud service providers market segment to moderate," Intel cautioned in its quarterly filing.

On the bright side, the Client Computing Group (CCG) saw sales increase modestly to $9.8 billion, as the broad shift to remote work has boosted demand for laptops and workstations. However, the strength in CCG wasn't nearly enough to offset the weakness in DCG.

A stark contrast with NVIDIA

The results stand in contrast to fabless rival NVIDIA (NASDAQ:NVDA), which has been making inroads in the data center. The graphics specialist saw data center revenue skyrocket by 167% to $1.75 billion last quarter, although that includes results from Mellanox; NVIDIA closed its acquisition of the networking equipment company in April. Mellanox represented approximately 30% of NVIDIA's data center business in the fiscal second quarter. While Intel is struggling in data centers, NVIDIA is making strides with its new Ampere architecture.

"The biggest news in data center this quarter was the launch of our Ampere architecture," NVIDIA CFO Colette Kress commented on the last earnings call. "We are very proud of the team's execution in launching and ramping this technological marvel, especially amid the pandemic."

NVIDIA is looking to build on its data center momentum with the recent acquisition of Cumulus, which makes networking software and "augments our Mellanox acquisition in building our open modern data center." NVIDIA is forecasting data center revenue to grow by low- to mid-single-digit percentages next quarter on a sequential basis, which looks particularly good when compared to Intel's gloomy outlook.

In the wake of the release, Bank of America analyst Vivek Arya downgraded his rating on Intel shares from neutral to underperform, warning that the company faces numerous execution risks, including a manufacturing strategy that has lacked clarity combined with intensifying competition from NVIDIA and other Arm-based chipmakers. The analyst cut his price target on the stock from $60 to $45.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.