Paul McWilliams was one of the few to not be surprised by the upside surprises in recent quarterly earnings reports from Intel (NASDAQ: INTC), as he has been consistently more bullish than others on Wall Street.

In his Next Inning, the tech stock specialist -- who personally owns a position in the stock -- offers a detailed and in-depth review of the firm's latest results and outlook.

"For the first time in what now seems like at least a year, not a single analyst on the Intel conference call asked about whether netbook sales were 'cannibalizing' notebook sales.

"While refreshing, based on what seemed to be on the analysts' minds during the Q&A session, I don't think we should take this as a sign that Wall Street has finally come to grips with the real INTC story; a few paragraphs, yes, but the whole story, no.

"Oh, don't get me wrong, no one could misinterpret the point that INTC made abundantly clear, in spite of the fact that the company shipped nearly half of its year-to-date netbook Atom revenue in Q3, sales of notebook processors and chipsets still posted higher growth during the third quarter.

"Heck, that was even an upside to my expectations. However, that's just the tactical side of the story; the much more important strategic side to this story still appears to be an enigma to Wall Street.

"While the netbook market is important for a number of reasons, including the fact it has generated over $1 billion in revenue during the last three quarters and has opened personal computing to consumers in emerging markets with its low entry prices, those aspects of the first generation Atom processors are more tactical than strategic. 

"The larger strategy will unfold during the coming year as INTC leverages the experience and economy of scale it has gained through the creation of the netbook market with its new 32nm fabrication technology to produce its first low-cost System on a Chip (SoC) devices that I believe will open new markets outside the personal computer sector. 

"As important as it is to understand INTC's strategy and business model, it's every bit as important to also understand what INTC has accomplished with its operating model.

"Even though we got a very good sampling of this in the Q3 results and Q4 guidance, it appears this is another part of the INTC story that Wall Street has yet to embrace.

"INTC's CEO Paul Otellini has made radical changes in virtually every aspect of both INTC's business and operating models. The result of these changes can be summed up in one word: Leverage. 

"In the pre-Otellini years, INTC reinvented the wheel every time it did something new. In its previous model when INTC moved from one processor design to the next, its engineers started with a clean slate rather than grabbing the best of the past to use as a foundation.

"Now INTC takes the time to methodically design its processors so that the intellectual property developed can be leveraged easily and at a very low cost going forward.

"The not so subtle implication here is that INTC is spending less than it has in the past yet realizing more and will, therefore, have some extra wind beneath the wings of its gross profit margins going forward.

"Possibly a better way to sum this all up is to look at the non-GAAP 'Operating Elegance' (OE) factor; a fundamental measure I developed that quickly illustrates how many gross profit dollars a company realizes for every operating expense dollar it invests.

"In Q3, INTC's OE ratio (number of gross profit dollars for every operating expense dollar invested) was 2.16 to 1. If we look back, we can see this is only the third time during the last 15 quarters that this ratio has come in above 2.00 to 1. 

"Further, I think the record $10.7B revenue INTC reported in Q4 2007 has a proverbial target on its back. OK, just one forecast - the way I see it, INTC will report all-time record non-GAAP operating profits in Q4 2009.

"To make this doubly sweet, INTC will likely have 400M fewer shares at the end of this year than it did at the end of 2007. The implication here is I think INTC will very easily set a new operating profit per share record in Q4 2009.

"There's one more aspect of this improved efficiency story to evaluate; cash flow. Beyond its normal operating costs, during the third quarter INTC paid $771M in dividends, purchased $944M in capital assets, bought back $1,671M in common stock, reported $853M in acquisition costs (mostly associated with Wind River) and paid the EC fine of $1,447M. 

"These costs total to $5,686M. In spite of this, INTC's net current asset value declined only $1,169M (and due to the lower share count resulting from the buy back, declined only $0.19 per fully diluted share). The implication here is that INTC is was a cash flow machine in Q3, a trend I think will persist going forward.

"My previous forecast for 2010 earnings ran from $1.25, which at the time was $0.02 over the $1.23 consensus, to $1.50 and that my fair value price range for INTC ran from $21.50 to $25.50. 

"Based on my thinking that INTC will enjoy significant further leverage from the improvements made to its operating model that will be somewhat offset from the investments to move boldly into new markets with SoC designs, I've decided to modestly increase this earnings forecast by a dime on both sides making it now $1.35 to $1.60. 

"In conjunction with this, my fair value range is now $22.90 to $26.90. This range is based on applying a forward valuation multiple of only 16 times the forecasted earnings range and adding INTC's net current asset value per fully diluted share of roughly $1.30 to the result.

"If we used a more aggressive multiple of 18 the high side of the range would extend slightly above $30, but I don't think Wall Street is ready to view INTC in that favorable of a light just yet."