Intel's Otellini announces massive restructuring, possible business sell-off

Santa Clara (CA) - Facing for the first time the real possibility of becoming the #2 player in microprocessors, Intel CEO Paul Otellini yesterday revealed that Wednesday’s earnings news was a wake-up call for him and his company. Revealing few specifics - presumably because specifics don’t exist yet - Otellini told a meeting of analysts he has ordered his company to commence an extensive "self re-evaluation," with the objective being to cut $1 billion in costs during the remainder of this year. Despite what some analysts think they heard yesterday, the possibility of Intel selling off business operations - and cutting jobs - is on the table.

In earnings numbers released Wednesday, Intel stated that for its fiscal first quarter just ended, operating income dropped a staggering 44% compared to Q1 2005, to $1.7 billion, on revenue that dropped only 5% year-over-year to $8.9 billion. There’s bad economic news that plays into these figures, with the cost of doing business rising for many companies - often as dramatically as Intel’s figures indicate - and with what industry analysts now agree is a clear slowdown in the growth of PC sales. Yesterday, in its own quarterly report, Microsoft acknowledged it predicted a slowdown in PC sales growth in 2007 to an annual rate of 10% or below, after the industry had been enjoying growth of 17% annually or higher just last year.

While Microsoft’s sales are generally impacted by PC sales growth, Intel’s numbers are more often the cause for that growth. Wednesday, Intel acknowledged lower sales in all of its key product areas, including microprocessors, chipsets, motherboard components, Flash memory, and cell phone and handset components. In its guidance for the second quarter, Intel warned that lower PC market growth will result in higher than normal inventory levels, which means demand for PC parts will be reduced. When that happens, sales margins have to fall. Gross margins could fall below 50%, the company continued, as older inventory collects dust, and has to be discounted to be sold off. Revenue for Q2 could fall to as low as $8.0 billion.

But the really bad news is that expenses for the next quarter could exceed $3 billion, as they did for Q1, compared to only $2.5 billion in expenses for Q1 2005. For Otellini’s plan to meet his objectives, Intel may have to cut quarterly expenses by 10% or higher. He’s given his people 90 days for them to figure out how to do this - which truthfully means that all the cost cutting will have to take place in the second half of the year. Thus, Intel needs to cut $500 - 600 million in expenses per quarter, for Q3 and Q4.

For this plan to even make sense, Otellini told analysts, Intel needs to sell off all that excess inventory by the end of June. Chipsets will apparently be the primary focus of this discounting. Yesterday, Otellini admitted that the total value of Intel’s excess inventory stands at $3.55 billion - the highest level since 2000.

A Mercury Research report released earlier this week showed Intel’s market share for Q1 2006 declined a seemingly impossible 69%, with ATI picking up the lion’s share of that loss. While Mercury cited Intel’s factory transition from 130 nm to 90 nm as the cause for this rather massive hiccup, other analysts have pointed to more qualitative concerns, especially with Intel’s lower-price, mainstream chipsets.

The act of discounting Intel’s chipsets even further could, of course, reduce the company’s gross margins further still, which makes even that $8.0 billion revenue figure seem a little more tentative.

Once the chipsets themselves are jettisoned, analysts point to the possibility of Intel jettisoning some underperforming business segments along with them. And for reasons which may become clearer over the next 90 days, the word "chipsets" fails to disappear from the discussion at this point. But a San Jose Mercury News reporter noted that Otellini also just happened to mention the fact that Intel has over 1,000 employees working in the Ultra Mobile PC (UMPC) division, which could have been just an incidental comment...but might not have been.