Intel Corporation — Q2 2015 Form 10-Q
Reporting period: Three and six months ended June 27, 2015; unaudited. Comparisons are with the periods ended June 28, 2014, unless noted.
Business context
Intel’s business remained led by Client Computing Group (CCG) and Data Center Group (DCG). Management described ongoing transformation toward DCG, Internet of Things (IoT), and non-volatile memory; together, those businesses represented almost 40% of Q2 revenue and more than 70% of operating profit. CCG faced weaker demand, particularly in business PCs and emerging markets.
Financial performance
| Metric | Q2 2015 | Q2 2014 | First six months 2015 | First six months 2014 |
|---|---|---|---|---|
| Revenue | $13.195bn | $13.831bn | $25.976bn | $26.595bn |
| Gross margin | $8.248bn; 62.5% | $8.917bn; 64.5% | $15.978bn; 61.5% | $16.530bn; 62.2% |
| Operating income | $2.896bn | $3.844bn | $5.511bn | $6.354bn |
| Net income | $2.706bn | $2.796bn | $4.698bn | $4.726bn |
| Diluted EPS | $0.55 | $0.55 | $0.96 | $0.92 |
| Operating cash flow | $3.4bn, per MD&A | Not stated in the Q2 overview | $7.855bn | $8.954bn |
Margins and earnings: Q2 revenue declined 5% year over year; operating income fell 25%, while net income fell 3% and diluted EPS was unchanged. Gross margin decreased two percentage points, primarily from higher platform unit costs and lower platform sales. For the first half, revenue declined 2%, operating income declined 13%, and net income was nearly flat.
Segments: Q2 CCG revenue declined 14% to $7.537bn and operating income fell 38% to $1.602bn. DCG revenue rose 10% to $3.850bn, with operating income essentially flat at $1.843bn. IoT revenue increased 4% to $559m; operating income was $145m.
Cash, liquidity, and debt: At June 27, cash and cash equivalents were $4.454bn; short-term investments $2.606bn; and trading assets $6.810bn. These totaled $13.870bn, versus $14.054bn at year-end 2014. Intel reported $7.855bn of first-half operating cash flow, $1.744bn of investing cash outflow, and $4.219bn of financing cash outflow. Cash capital expenditures were $3.792bn for the first half. Short- and long-term debt totaled $13.234bn; debt was 22.9% of permanent stockholders’ equity. Total current assets were $26.710bn and current liabilities $13.529bn.
Material changes versus prior comparable periods
- Q2 platform unit sales were down 8% overall; average selling prices were up 3%. CCG platform units and average selling prices each declined, while DCG platform units and average selling prices each grew 5%.
- R&D rose 8% in Q2 to $3.087bn, including higher DCG product development and 10nm process development. MG&A fell 5% to $1.949bn. Restructuring charges increased to $248m from $81m.
- First-half operating cash flow decreased by about $1.1bn, which Intel attributed to working-capital changes and lower adjustments to net income, including lower deferred-tax adjustments.
- Q2 share repurchases were $750m, versus $2.2bn a year earlier; first-half repurchases were $1.447bn, versus $2.625bn. First-half dividends paid were $2.283bn.
Outlook, management commentary, risks, and unusual items
- Guidance: Intel forecast Q3 2015 revenue of $14.3bn at the midpoint and gross margin of 63%. For full-year 2015, it expected revenue to decline approximately 1% from 2014, spending (R&D plus MG&A) of about $19.8bn, plus or minus $400m, and capital spending of about $7.7bn—$1.0bn below its previous outlook. Management cited a weaker-than-previously-expected PC market, partly offset by expected growth in DCG, IoT, and non-volatile memory.
- Restructuring: A 2015 program recorded $250m of employee severance charges and affected approximately 3,500 employees. Intel estimated gross annual savings of about $300m, expected to be fully realized beginning in Q3 2015. The ongoing 2013 program had incurred $638m in charges to date and was expected to be substantially complete by year-end 2015.
- Tax items: The Q2 effective tax rate was 9.3%, versus 28.7% a year earlier; first-half rates were 16.9% and 28.3%. The lower 2015 rate reflected a $320m one-time tax benefit from settling a refund claim and a $185m release of previously accrued U.S. deferred taxes after Intel decided to indefinitely reinvest certain prior-year foreign earnings.
- Altera acquisition and financing: Intel agreed to acquire Altera for $54 per share in cash, with an estimated transaction value of $16.7bn, subject to regulatory, shareholder, and other closing conditions. Intel expected to finance it with $7bn–$9bn of long-term debt plus commercial paper and cash/investments. On July 22, after quarter-end, Intel announced a $7bn senior-note offering intended to fund part of the acquisition.
- Other post-quarter investment: After quarter-end and before filing, Intel invested approximately $1.0bn in Tsinghua Unigroup’s holding company; a further approximately $500m was contemplated, subject to approvals and conditions.
- Risks and contingencies: Intel disclosed continuing competition-related proceedings, employee antitrust litigation, shareholder derivative actions, and other lawsuits. Management said outcomes could involve substantial damages or business restrictions; for certain cases it could not reasonably estimate potential losses. Intel also highlighted equity-market exposure: its marketable equity portfolio was concentrated in a $6.9bn ASML holding, and a modeled 30% market-price decline could reduce portfolio value by about $2.2bn after hedges and offsets. Three customers accounted for 44% of first-half revenue.
- Product roadmap: Intel said its sixth-generation 14nm Core processor had qualified for sale. It planned a third 14nm product for the second half of 2016 and expected its first 10nm product in the second half of 2017.
Important facts for investors to verify
- Whether PC demand and CCG performance develop in line with the reduced full-year revenue outlook, and whether growth in DCG, IoT, and non-volatile memory offsets that weakness.
- Whether the forecast 63% Q3 gross margin and $7.7bn full-year capital spending are achieved, including the expected benefit from manufacturing efficiencies.
- Altera acquisition approvals, closing timing, final financing mix, and resulting debt and integration costs.
- Realization and timing of restructuring savings, and the cash costs associated with severance and other obligations.
- Developments in material litigation and the value and concentration risk of Intel’s equity investments, especially ASML.