Intel: Hefty Investments and Recent Losses Lead Us to Downgrade Our Moat Rating to None

We downgrade our economic moat rating for Intel INTC to none from narrow, while retaining our $35 fair value estimate. Our moat downgrade comes from the deterioration in Intel’s returns on invested capital in recent years, and we do not foresee the company generating excess returns on capital for the next few years, either. This considers the firm’s manufacturing struggles and hefty investment into new manufacturing processes (even when considering a host of government incentives).

On the upside, we expect Intel should remain the market share leader in central processing units, or CPUs, in PCs and servers for years to come. We think Intel’s aspirations to regain parity with Taiwan Semiconductor, or TSMC, and other strategic moves are the right path forward. Meanwhile, we still view Intel as having a topnotch chip design team in x86 processors and believe it owns good businesses in the form of the former Altera and Mobileye. Further, we anticipate a recovery in demand for PC processors off a cyclical bottom in recent quarters, while server CPU demand should grow along with the rise of artificial intelligence. In turn, we envision a nice improvement in financial performance, albeit not a full recovery back to robust profits earned a decade ago.

On the downside, however, we don’t foresee Intel ever recapturing its former glory as the only reliable choice in PC and server processors. Intel’s balance sheet isn’t as strong as it once was, and the company will need to invest heavily to play catch-up. The firm faces execution risk and a chance that it won’t achieve its manufacturing aspirations, as we don’t foresee TSMC standing still on the manufacturing front, either. Even if successful, Intel’s competitors will be stronger than when the firm was dominant a decade ago.

All in, we view shares as fairly valued, perhaps with healthy upside for investors if it can achieve its lofty ambitions or further downside if the company were to fall further behind on the technology front.