Although chip giant Intel (NASDAQ:INTC) is mainly known for its PC and server chips, it has built up a respectable business serving the market for embedded processors and system solutions. This company calls this business unit the Internet of Things Group, no doubt to capitalize on this very poplar buzz-phrase.
In 2013, this business brought in $1.8 billion in revenue and $550 million in operating income, putting operating margin at around 30.5%. Then, in 2014 this business saw revenue grow to $2.14 billion and operating income move upward to $616 million, representing operating margin of 28.8% -- a slight reduction year-over-year.
Although the 2015 results aren't in yet, during the first three quarters of the year the Internet of Things Group brought in $1.67 billion in revenue (up a bit from the $1.55 billion seen during the first three quarters of 2014), but saw operating profit drop from $406 million in the prior year to just $383 million.
That's an operating margin percentage of just under 23% -- a substantial year-over-year contraction.
This is a clear sign that Intel is increasing its investments in this space, which makes sense given that the company views this business as a key part of its longer-term growth strategy.
In this article, I'd like to go over one interesting way that investors will see these increased investments will manifest themselves over the next couple of year.
Understanding why operating margins were so high before
Traditionally, the products that Intel sold into the Internet of Things/embedded market were more or less chips repurposed from other business segments. This strategy had obviously worked very nicely for Intel, particularly as the company built quite a lot of different chips to service its core PC/server markets.
Since the bulk of the research and development for these chips was already more or less paid for by other business units, this meant that product development costs in this segment were probably fairly minimal.
However, the Internet of Things market is becoming increasingly diverse, which means that even Intel's fairly broad portfolio of PC and server chips might not have chips ideal for a customer's particular use case.
This means that if Intel wants to continue to grab share in this segment, it's going to have to start building products that are more custom-tailored for the new Internet of Things markets it wishes to serve.
Intel seems to be doing just that
Earlier this year, I noticed that Steven Tu, formerly the "Chief Architect of Intel Mobile Products ," was no longer working on future mobile chip products. Instead, according to his LinkedIn profile, he is now in charge of product definition and development for Atom, Core, and Xeon class products in the company's Internet of Things Group .
If Intel were simply planning on repurposing chips from other segments going forward as it had previously, then this person would probably have very little to actually do.
What this means, then, is that going forward Intel will release chips aimed specifically at different Internet of Things segments. Of course, I don't expect Intel to build new "foundational" intellectual properties such as CPU cores, graphics processors, and so on just for these segments – the other business units drive the creation of a lot of IP.
Instead, I expect that Intel will piece together system-on-chip products with different combinations of Intel's intellectual properties. And, in cases where a reasonably large market segment requires a custom IP block (perhaps a dedicated accelerator or something), Intel's IP group could design it for integration into a system-on-chip.
This could ultimately help Intel gain market segment share
According to the company's late 2014 investor meeting presentation, Intel had around 17% market segment share of its served addressable market within the Internet of Things. With a bigger investment in more targeted products, Intel might be able to gain additional market segment share within many of the sub-segments that it serves.
Share gains, coupled with the secular growth of many of these segments, should mean robust revenue growth in Intel's Internet of Things Group in the coming years -- something that shareholders should certainly welcome.