In my years following Intel (NASDAQ:INTC), one common bearish argument that I've heard with respect to the company's mobile efforts goes a little something like this: "Intel is used to selling expensive, high-margin chips, there's no way that they can compete with low-margin vendors like MediaTek."
While that narrative does serve to paint a picture of doom-and-gloom for Intel, it doesn't seem particularly grounded in reality. In fact, the purpose of this article is to show that the margins in this market aren't anywhere near as low as some like to suggest that they are.
It pays to actually look at MediaTek's financial statements
Firstly, I'd like to take a deeper look at MediaTek's financials, particularly as this is the company that seems to be used as the "poster child" for "cheap, low-margin mobile chips."
A look at MediaTek's second quarter financial results show that the company saw a gross profit margin of 49.6% and operating margin of 23.6%. While these numbers don't quite compare to the margins that Intel sees in its PC Client Group or its Data Center Group, these are very strong numbers, particularly for a fabless semiconductor company.
Look at who else has large margins...
To my knowledge, the majority of MediaTek's processors are manufactured by Taiwan Semiconductor (NYSE:TSM), or TSMC. Note that Taiwan Semiconductor is a pure-play chip manufacturing house. It doesn't design processors for sale to end customers; TSMC works with companies like MediaTek to enable them to develop competitive chip designs, and then it actually builds the chips.
Now, last quarter, Taiwan Semiconductor also reported gross profit margins of 50.5% and guided to post margins between 48% and 50% in the coming quarter.
This means that TSMC is able to generate approximately 50% gross margin on a wafer that it sells to MediaTek, and then when MediaTek actually sells the chips from that wafer, it too collects approximately 50% gross profit margins.
OK, so what does this have to do with Intel?
The idea here is that if MediaTek and Taiwan Semiconductor can each see approximately 50% in gross profit margins, then a company like Intel – which designs and builds its own processors – should be able to do well in excess of that.
To understand this, let's do some math. If it costs TSMC "X" to build a wafer and it collects 50% gross profit margins on said wafer, then that means it is selling the wafer to MediaTek for "2X." Then, the value that MediaTek generates from the wafer at 50% gross profit margin, is "4X."
Putting this into concrete terms: If it costs TSMC $2,000 to build a wafer of MediaTek chips, MediaTek needs to pay $4,000 for that wafer. Now, the value that MediaTek is getting paid for that wafer when it sells the chips to its customers comes out to $8,000.
Now, in the case of Intel, it doesn't need to pay an external foundry its margins. So, if it costs Intel "X" to build a wafer of Intel-designed chips, then if it turned around and sold that wafer of chips for the same "4X" that MediaTek does, its gross profit margin percentage at the same selling price would be about 75%.
Foolish bottom line
While we obviously don't have enough data to figure out MediaTek's and Intel's exact cost structures/selling prices, I think the point has been made: the gross and net profit margins for mobile chip vendors that are operating at scale are actually quite good.
Intel isn't to scale today which is why it continues to burn through significant amounts of cash trying to compete in mobile. There's no guarantee that Intel will solve its mobile problems anytime soon. However, the purpose of this article was to show that if Intel can execute properly, then it can generate solid revenue and profitability from mobile chips in the long-term.
Ashraf Eassa owns shares of Intel. The Motley Fool recommends Intel. The Motley Fool owns shares of Intel. 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. The Motley Fool has a disclosure policy.