Intel (INTC): Growth, income & strength

by Jim Stack, editor InvesTech Market Analyst

As this bull market continues to mature and become more selective, we will shift to companies that combine strong growth potential with solid financial strength.

The are both attributes of our latest featured investment -- Intel (INTC), the world’s largest semiconductor company.

Intel provides more than three-fourths of the world’s microprocessors. It also serves as a bellwether for the Technology sector and overall economy.  

Last month, Intel reported its best quarter ever in the 42-year history of the company with $10.8 billion in sales, an increase of 34% over last year.

The second quarter is typically slower than the first in the semiconductor industry, but Intel bucked that trend with a 5% sequential improvement.  

Another record breaking performance is forecast for the third quarter with sales projected to climb to around $11.6 billion.

In addition to the cyclical rebound in revenues, the company’s recent earnings release also highlighted Intel’s unique position within the Technology sector.

Robust corporate demand is fueling Intel’s revenues, as many companies, including small businesses, are updating computers for their workers.

Managers know that it’s more costly to maintain a four-year-old computer than to buy a new machine, but due to the recession, firms held off replacing old equipment last year.  

New Microsoft products (Windows 7 and Office 2010) are also prompting PC purchases.  

In addition, Intel’s current revenue mix has a higher ratio of more expensive chips for equipment that is needed to keep up with increased Internet service demand.

On top of all this, the firm is operating very efficiently as the gross profit margin has increased to 67%, which is historically a strong number and reflects cost savings from process improvements.

Intel’s financial standing also places it in an enviable position. With nearly $18 billion in cash and marketable securities, management has the ability to invest in Research & Development (R&D), new capital equipment or acquisitions.

The dividend yield is particularly appealing (especially rare for a technology stock) at nearly 3% with a payout ratio of less than 50%.

Major valuation metrics are all attractive, including a P/E ratio that is sitting near 20-year lows.

Supported by a massive R&D budget (projected to be $6.6 billion this year), Intel continuously introduces new micro architecture and silicon technology to create smaller, faster and more energy efficient chips.

For nearly 40 years the company has kept pace with Moore’s Law, a prediction made in 1965 by Intel’s co-founder that states the number of transistors on a chip should double every two years.

Intel’s newest product family of 32 nanometer chips known as “Sandybridge” is expected to be shipped late this year.  

In fact, the chip maker recently increased its 2010 capital expenditure budget by $400 million to be able to meet the anticipated demand.  

The CEO, Paul Otellini, recently stated, “I am more excited about Sandybridge than I have been on any product that the company has launched in a number of years.”

Over the next few years, Intel is projecting double-digit revenue and earnings growth.  With an expected 20% annual increase in global demand for PCs, the company’s innovative technology will help ensure that the firm maintains its dominance in the industry.  

In addition to Internet service growth, another targeted area of expansion for this chip behemoth is the embedded technology in smart devices such as phones, TVs, and home energy management.  

Although the semiconductor industry is highly cyclical, increasing business demand and the fact that we are heading into the strongest seasonal period for computer sales should lend support to this stock.

There is risk if the economic recovery falters, but Intel’s superior growth potential and financial position, along with its current low valuation, are compelling reasons to hold it in the Model Portfolio.

Learn more about this financial newsletter at Jim Stack's InvesTech Market Analyst.