Shares of Intel (INTC +0.32%) have climbed nearly 40% over the past 12 months, easily outperforming the Nasdaq's 15% gain.
The stock has plenty of strengths. It trades at a mere 13 times forward earnings, with a five-year average dividend yield of 3.9%. Last year, revenue rose 6% year over year as net income improved 22%, fueled by robust demand for new PC and server chips. Intel holds near monopolies in CPUs for the desktop, laptop, and server markets, and it's also the world's largest manufacturer of GPUs thanks to its integrated graphics chips.
In a previous article, I discussed Intel's strengths as an income investment. Today, we'll examine two weaknesses that could cause the stock to eventually fall.
The mobile money pit
ARM Holdings (ARMH +0.00%) marginalized Intel in the mobile market by licensing its low-power-consumption designs to companies. Intel manufactured its own mobile chips, but they were initially considered more expensive and less power efficient. That's why ARM-licensed processors are now installed in 95% of mobile handsets and the majority of tablets.
To buy its way back into this market, Intel offered companies steep discounts on Atom chips, co-marketing agreements, and even financial assistance in redesigning their logic boards for Atom processors. As a result, Intel gained a limited presence in smartphones and tablets with partners such as Asus, Lenovo (LNVGY +0.69%), and Dell.
Asus' Atom-powered ZenFones. Source: Asus.
But subsidizing its mobile business was a costly effort. Revenue at the segment fell 85% year over year to just $202 million. Intel said it will eventually phase out these subsidies, but when it does, its handful of partners could simply go back to licensing ARM designs. Therefore, Intel will probably keep racking up losses to gain limited market share against ARM's allies.
ARM's microserver ambitions
Intel controlled 98.5% of the data server market in the third quarter of 2014, according to IDC. In 2014, Intel's data center revenue rose 18% year over year to $14.4 billion, accounting for 26% of the company's top line. Operating income climbed 31% to $7.3 billion.
ARM previously dominated the mobile market by sacrificing horsepower for more power-efficient designs, which prolonged battery life. But in high-performance servers, raw processing power often matters more than power efficiency. As a result, ARM had a tough time convincing regular Intel customers to switch over to ARM-licensed server chips.
But over the past few years, a new class of cheap, low-energy servers known as "microservers" emerged. Microservers specialize in specific purposes, such as delivering static elements of a Web page, instead of multitasking. By comparison, regular servers, like those powered by Intel's Xeon processors, are beefy and expensive jacks of all trades.
Last September, Hewlett-Packard (HPQ +1.42%) launched its first 64-bit ARM-based "enterprise class" microservers to expand its HP ProLiant Moonshot line, which were previously powered only by Intel Atom and AMD (AMD +0.79%) Opteron processors. Qualcomm (QCOM 1.19%) also plans to enter the server market with ARM-licensed chips, which could either power microservers or full-sized servers.
HP's ProLiant microserver. Source: HP.
As the Internet of Things expands, so will demand for microservers, which IHS projects will account for over 10% of the server market by 2016. Intel is shoring up its defenses with Atom chips for microservers, but HP's partnerships with ARM and Qualcomm indicate that its server business isn't invincible. Back in 2012, ARM Chief Operating Officer Graham Budd stated that ARM aimed to claim 5% to 10% of the server market by 2016 -- which might be enough to loosen Intel's iron grip.
The road ahead
In my opinion, Intel is still a fairly low-risk stock, since it will remain the dominant chipmaker in desktops, laptops, and servers for the foreseeable future. However, investors should also be aware of the amount of money it pours into mobile and of the major alliances that ARM has forged in the server business, which could affect Intel's outlook as a long-term investment.
