Sunday, August 25, 2013

Why The Skeptics Are Dead Wrong About Intel

Even the best companies have their skeptics.

If you're a regular reader of StreetAuthority, you've probably seen me recommend chip-manufacturer Intel (Nasdaq: INTC) before. In fact, I've even hailed it as one of the "10 Best Stocks to Hold Forever," as the company contains three key market-beating traits and a few future growth catalysts, which I'll show you in a moment.

Understandably, many investors are not just skeptical of Intel's prospects -- they are outright bearish on the stock's future prospects. This email from one of my Top 10 Stocks subscribers outlines some of that skepticism:

"I am a new subscriber and novice investor. I appreciate your research, knowledge and acumen in your approach to purchasing equities, but I do have a question regarding your consistent recommendation of Intel.

"Other than the tremendous amount of cash that the company hordes, how can you recommend this purchase when PC sales are down 11% worldwide? I don't see a lot of growth potential with Intel in the foreseeable future. Thank you in advance."


Off the bat, Intel's consistent policy of buying back stock and paying a generous dividend are two major reasons for purchasing the stock.

As I explained in a recent essay about "shareholder yield," companies that have a history of buying back stock and paying dividends have outperformed the stocks that don't. 

For example, in Mebane Faber's book on shareholder yield, Mebane cites a study by Dartmouth University Prof. Kenneth French that covers all U.S. stocks from 1927 to 2010. Professor French sorted all U.S. stocks into high, low and zero dividend yield portfolios. He found that the high-yield and low-yield portfolios had an average annualized return of 11.2% and 9.1%, respectively. That's compared to just an 8.4% annualized return for the zero-yield basket of stocks.

And as I wrote in that same essay, companies that buy back their own stock are market beaters as well. 

A study of the top quarter of stocks in the S&P 500 ranked by buyback yield -- the value of net shares repurchased divided by market capitalization -- between 1982 and 2011 shows that the high-buyback firms generated annualized gains of 13.19% compared with 10.96% for the S&P 500. By contrast, stocks with the lowest buyback yield significantly underperformed the index, generating annualized gains of just 9.62% over the same holding period.

I've also explained in the past just how important R&D spending is for a company's future success. In a stock screen dating back to April 1993, I found unequivocally that innovative market leaders with a history of consistent spending on R&D and returning capital to shareholders have outperformed the broader market by a roughly 3-to-1 ratio over the past 20 years.

Just look at how much $10,000 would have grown in companies that have traits similar to these compared to the broad market over that time:

Intel has all three of these market-beating traits with a two-decades-long history of a) repurchasing its own shares, b) paying an ever-growing dividend and c) a history of consistent spending on R&D. And I'm confident it will continue using these practices well into the future. That's why it's on my list of Forever Stocks.

As of today, Intel offers a 4% dividend yield and has $4.2 billion available for future share repurchases which will help support the stock price going forward. And for the record Intel has repurchased about $90 billion of its own stock -- or 4.3 billion shares -- since 1990.

These are big reasons why its stock has returned over 2,590%, including dividends, since 1990.

From a fundamental standpoint, continued weakness in personal computer (PC) sales has been a headwind for Intel over the past year as the company has traditionally dominated the manufacture of processors for PCs. Unfortunately, Intel has not traditionally held a strong position in chips for tablets and smartphones, both markets that have seen extraordinary growth even as PC sales have languished.

But the second half of 2013 holds several upside catalysts for Intel. First, the company plans to launch a new processor that's cheaper to produce and should extend battery life in laptops. This chip could help to revive the ultrabook segment and boost Intel's sales. In addition, the firm's Bay Trail chip will power tablets that run Google's Android operating system, giving the company exposure to a rapidly growing market segment.

Don't underestimate a market dominator, either. Intel retains a more than 90% market share in chips used in servers. Demand for servers has been growing, powered in part by demand for servers at data centers. More data centers will need to be built in coming years to handle the increased Internet traffic caused by new trends such as cloud computing.

Finally, Intel is cheap trading at just over 12 times 2013 earnings forecasts. Expectations aren't high for the stock and analysts have downgraded their forecasts after the company's weak quarterly results released last month. But as a value play, it won't take much of an upside catalyst to send shares of Intel sharply higher. 

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P.S. -- As I mentioned before, Intel belongs to a special group of investments I call Forever Stocks. These are world-dominating companies that pay investors a healthy and growing dividend, dig a deep moat around their business to fend off competitors and buy back massive amounts of stock -- which drives up value for the rest of the shares. The idea behind these stocks is simple: buy them and collect the growing value and dividend income they throw off every year. To get my report, "The 10 Best Stocks To Hold Forever," and get access to my Top 10 Stocks newsletter, go here.

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