Good day, ladies and gentlemen, and welcome to Intel's Q4 2011 Update. At this time, all participants are in a listen-only mode. Later, we will conduct a question- and- answer session, and instructions will follow at that time. If anyone should require assistance during the conference, please press star and zero on your touch-tone telephone. As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Mark Henninger, Director of Investor Relations.
Thank you, Javon, and welcome everyone to Intel's Fourth Quarter 2011 Update Call. By now, you should have received a copy of our press release. If not, it's available on our investor website, intc.com. I'm joined today by Stacy Smith, our CFO, and Tom Kilroy, Senior Vice President and General Manager of our Sales and Marketing Group. In a moment, we'll hear some brief remarks from Stacy, followed by a short Q&A period. Before we begin, let me remind everyone that today's discussion contains forward-looking statements based on the environment as we currently see it, and as such, does include risks and uncertainties. Please refer to our press release for more information on the specific risk factors that could cause actual results to differ materially. Also, if during the call we use any non-GAAP financial measures or references, we'll post the appropriate GAAP financial reconciliation to our website, intc.com.
With that, let me hand it over to Stacy.
Thanks, Mark. The floods in Thailand have had an impact on the supply of hard disk drives, and as a result, the PC supply chain. As hard disk drive vendors have committed supply availability in the first quarter of 2012 on a customer-by-customer basis, we have seen a drop in orders for microprocessors in the fourth quarter. We believe that sales of personal computers and servers are up substantially in the fourth quarter. Consistent with our expectations at the beginning of the quarter, we are seeing a reduction of inventories across the supply chain as a result of hard disk drive shortages. Based on this, we're revising the midpoint of our fourth quarter revenue outlook to $13.7 billion, down from our previous expectation of $14.7 billion. We're also slightly lowering the midpoint of our gross margin forecast for the fourth quarter to 64.5%, down from our previous expectation of 65%.
All other expectations for the fourth quarter remain unchanged. The supply-driven impact of our business as a result of the natural disaster in Thailand does not change our view that demand for servers and personal computers is healthy and growing. We will continue to monitor the supply situation closely, and we'll provide updates on the first quarter in 2012 at our fourth quarter earnings call on January 19. With that, let me turn it back over to Mark.
Okay, thank you, Stacy. We'll now move to a brief Q&A. As is our normal practice, we ask that each participant ask one question and just one follow-up if you have one. Javon, if you could pull up our questions and go ahead and introduce our first questioner, please.
Yes, sir. If you have a question at this time, please press star and one on your touch-tone telephone. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. Our first question comes from Stacy Rasgon with (Inaudible) Bernstein .
All right, thanks for taking my questions. Just to go off on my first question, can you give us some feelings about how you can actually disaggregate the impact of the hard disk drive issues that you're seeing with your overall picture for the broader end demand as we go through, I guess, this year and into the end of the first half of next year?
Yeah, this is Stacy. Hi, Stacy. We have fairly good insight into the actual sell-through of personal computers. From a demand standpoint, what we've seen in the fourth quarter is it's really played out consistent with the expectations we had at the beginning of the quarter. If you go back to the start of Q4, we did guide below seasonal. We were anticipating some weakness in the mature market consumer segment, particularly in Europe, but also pockets of strength in enterprise and in emerging markets. That's really how we've seen the sell-through of computers play through. What we're now seeing, though, is as our customers have seen a customer-by-customer limit of supply of hard disk drives, they've started to align their backlog to future HDD supply. We saw a pretty rapid reduction in backlog over the last few weeks.
Yeah, this is Tom. Just to add, as you can imagine, quite a bit of triangulation we've been doing with all our customers in terms of seeing an irregular billings order rate over the last week or two. A lot of discussion, and clearly what has created the situation we're in is the hard disk drive shortage.
Got it. For my follow-up, I just want to go into the numbers a little bit. You're guiding revenues down, whatever it is, 4% or so sequentially. A lot of the hard disk drives, as the industry is forecasting, something like a 30% or so drop in hard disk drive shipments coming up. Can you give me some feeling, I guess, for how the different parts of your business that are affected can feed into that differential? If the hard disk drives are actually going to be down that much, what does that actually imply for your Q1 outlook and the type of seasonality that we ought to expect, given that it seems like you're still suggesting that there's going to be material slowdown in Q1 versus what we would ordinarily see?
Let me separate those into two questions. Whether we're seeing in terms of demand across different segments and then kind of the shape of the first half of 2012, the demand across the various segments, again, played out, is playing out pretty much as we expected when we started the quarter. We're seeing that in our sales pattern. Server has been relatively strong, but we're seeing a pretty significant reduction in backlog in the PC-related segment of our business. That seems to be where it's really hitting us. In terms of the shape of 2012, kind of the shape of this thing, we do expect continued shortage of HDDs to be pretty significant in the early part of 2012. We expect supply to catch up to overall demand sometime in the first half of 2012.
Where exactly that happens over the course of the first half, it's too early to say, but we do expect that it'll catch up sometime in the first half.
All right, thank you again.
Great. Thanks, Stacy.
Our next question comes from Jim Covello.
Jim, are you there?
Jim, your line is open.
Can you hear me now?
Yeah, we can.
Okay, thanks. Stacy, what are the plans now in terms of your own factory loadings as you go through the fourth quarter and into the first quarter in light of the cut in your backlog?
I mean, you have to keep in perspective that this is a supply-driven shortage of HDDs, not an underlying demand issue. We're not currently changing our utilization rates. Our underlying view of demand is still intact, and the drivers that we've been talking to you about in terms of demand, those still are driving the industry forward. We will continue to watch it carefully. You also have to keep in mind that a lot of our builds in Q4 are the first products coming out on 22 nm that will be available for sale in the early part of 2012. We haven't made any changes to our build plan as a result of this supply-driven issue.
If I could just ask for my one follow-up, should we then be expecting a pretty significant inventory build if you're going to keep your production at the same level and obviously demand for this quarter at least is a lot lower?
Probably less than you'd expect because remember, a lot of our builds right now are those first products coming out on 22 nm. You know, that would have, so that's kind of independent of what's happening with HDD supply. We expect those will sell out nicely after we qualify it for sale.
The stuff that you were going to build that isn't shipping, all that's just going to be in inventory. Wouldn't that then be on the balance sheet?
I think we will see a bit of an increase in inventory, but again, I think in Q4 it's going to be less than you would expect. It really depends on how the shape of this plays out over the first half of 2012.
Okay, thanks very much.
You're welcome.
Go on, you can go ahead and introduce the next questioner, please.
That's all right. Next question comes from Sean Webster with Macquarie.
[Thanks, Sean]. If you could actually talk about order linearity in the quarter, you said orders dropped off pretty meaningfully in the last couple of weeks. How you saw that play out, or you say it played out in the Q1?
Yeah. Over the course of Q4, October was normal for a fourth quarter and right in line with what we thought when we started the quarter. We saw a little bit of weakness in November that we started to watch and tried to discern how much that was HDD- related. It's really been in the last couple of weeks as the big hard disk drive manufacturers have given their statement of supply on a customer-by-customer basis that we saw a dropping off of backlog as customers aligned the purchases of microprocessors with future shipment of an HDD. That's really how it played out. I don't know if Tom wants to add anything to that.
Yeah, exactly, Stacy. It's the last two weeks where as the supply became more apparent, we saw a substantial change in our order rate. I think most of our customers are concerned that the shortage will certainly continue, especially through the early part of the first quarter. That's our point relative to seeing the trend of reduction continuing through the first quarter.
Great, that's very helpful, thanks. One follow-up question would be, when you think about how OpEx is going to be pending, you mentioned that you'd see some kind of variable step up based on profit sharing in Q4. Do we expect OpEx to kind of maybe be flatter from Q3 levels because of this, or do you think there's going to be some other impact that we should look at?
My guess is there'll be a minor impact on OpEx, but I don't think it changes the round on the forecast that I gave you back in October.
Okay, great, thanks for that.
You can go ahead.
Our next question comes from C.J. Muse with Barclays Capital.
Thank you for my question. First question, can you talk about, I guess, MIPS for you guys? I would assume that the implications are a bit worse for White Box. Is this impacting you guys worse, and what are the implications there for your ASPs and margins?
Yeah, you know, this is hitting us in terms of our order pattern more at the low end of our pricing set. Yes, mechanically, we're seeing a little bit of a richer mix. When you look at a gross margin recon, what you see is there's a, we're seeing a downward impact based on lower volume. It's being partially offset by the fact that our ASPs will be a little bit higher. In terms of how it's hitting the channel versus OEMs, let me turn that over to Tom.
At this point in time, I would characterize it as quite broad across customer segments as well as geography. We haven't seen any pattern in White Box that would deviate substantially. At this stage anyway, from our standpoint, the shark bowl is quite broad.
I'd also say it's probably important to go ask customers the impact on the business having on their business. The folks that's commenting on it, it's going to be different customer by customer depending on how much inventory they had when they started, the segments of the business in which they participate, and then how supply is being allocated. It gets really complex on a customer-by-customer basis. Not every customer is going to be the same.
Very helpful. As a follow-up, solid-state drive pricing has moved up. Curious if you've seen that with your JV with Micron and whether that moves the needle for you at all in Q4, Q1, or whether it's just too small.
It's an interesting question. So far, we have not seen a big uptick in demand for SSDs. That said, I do expect that to happen. I think that it'll be one of the ways that the industry helps offset some of the HDD shortage. I also think if you go out towards the end of 2012 and you think about a notebook computer at the end of 2012, which is very thin, very light, very power-efficient, you know, ultrabook class machine, HDDs become really, I'm sorry, SSDs become really important in that. We will certainly be using this as an opportunity to help drive that trend.
I also think now that the supply picture on HDDs is becoming more apparent to our customers, they will look at all options going forward to address the gap that will be occurring in the supply chain. The SSD picture could change going forward.
Thank you.
Thanks, C.J.
Our next question comes from Uche Orji with UBS.
Very much. A sub-question for you, Stacy. In terms of how you see the allocation of drives across your customer base, both by region and also between the channel and the OEMs, is there any area where you think it's being more disproportionately impacted for you from what you can see, either regionally or by type of customer?
No, as Tom said, we expect that this is going to be broad-based. It gets complex when you get customer by customer and channel by channel based on the factors I said of beginning on hand inventory, the segments of the business, and then how supply is being allocated to them. I do think there could be some timing differences, particularly based on that beginning on hand inventory of when different customers feel the impact. I think it's going to be pretty broad-based.
Okay. Just given that this drive issue happened probably a month, a month and a half ago, is there anything you're doing in terms of the way you manage your supply chain just to make sure that your reaction to it, which from my perspective is a little bit delayed relative to when these events happened and when companies like Marvell complained about it, is there something in your supply chain that kind of needs to be tightened a little bit in terms of how you see the impact to your business and when you communicate with the street?
Actually, I think one of the reasons that we've seen such kind of rapid realignment of backlog or reduction of backlog over the last couple of weeks is because it is a lean and efficient supply chain. We ended Q3 with a low amount of inventory. I think what had to happen was that the supply allocation of HDD s had to be done on a customer-by-customer basis. Once that happened, we saw a rapid change in backlog levels. I think it's a pretty efficient supply chain. It just was one that had a shock of supply of hard disk drives that had to be incorporated into people's build plans. I think the flip side of that is consistent with what we've seen in the past when we've seen a demand-driven shock or a supply-driven shock. We see a rapid reduction once people understand the magnitude of that.
As supply improves here, I think we'll see a pretty rapid refilling of the inventory pipeline. Where that happens in the first half remains to be seen, but I think it's sometime in the first half.
Thank you.
Thanks, Uche.
Our next question comes from (Inaudible) with SBI Capital Markets.
Hi, thanks for taking my question. Can you just help us understand the dynamics of air freight versus ocean freight and whether that's causing your customers to build systems earlier in the year than they used to do and how that might be impacting things?
I think you'll see probably a shift more towards air. We were actually seeing that to some degree, because, this is Tom speaking, going into the quarter as we indicated, there was a lot of cautious behavior by our customers. In order to be more in tune with the market, they were leaning more towards air. That being said, for the holiday season, a lot of planning is done prior, and inventory was in process through both.
I think going forward, in order to make sure that the right product is in the right spot, for example, Chinese New Year's coming up, and it's not lost on our customers that demand will be quite strong in pockets of Asia and, of course, in China. They're fast moving to get just the right product in the right country at the right time.
I see. Just as a follow-up, you know, how do you know that you're being impacted in this rush by hard drives versus potentially just your customers who are building a lot of product in the third quarter and purchasing components and building systems ahead of consumption?
You know, we have pretty good, this is Stacy, we have pretty good visibility into sales through a computer frame. We talked about that in the past, the way we look at what's selling through from retail, what's selling through in the enterprise segment. From a sales through standpoint, it's playing out pretty much as we expected. What's happening is a reduction in inventory as a result of shortages of HDDs.
I think the timing of this is quite apparent that the decline in our order rate happened after the supply picture became much more clear. As Stacy said, we watch all the consumption indicators quite closely, but when we started to see a significant deterioration in our order rate, the timing was very much coinciding with the hard drive suppliers providing their supply picture to our customers.
I see. Super last question, any impacts on...
I'm going to cut you off there. We're trying to limit it to two per person. Thank you, though. Operator, we have time for two more questions.
Yes, sir. Our next question comes from Glen Yeung with Citi.
Hi, this is Evelyn for Glen Yeung . I just wanted to drill down a little bit more about server. Glen's been in Asia, and people there are concerned that servers are weak. Can you just tell us how is that business tracking and whether it will be a source of a strength going forward?
Again, the theme of this discussion today is all about supply. I would say that the demand across all of our segments has been as we expected, including servers. Servers has been a highlight for the year. We have seen no change at all in our order rate on servers, A, to consumption, and B, even right now at this point on supply.
You know, Romley has no impact on your server demands. Is that what you're saying?
Again, Romley is well anticipated by a number of our customers. Right now, from a supply standpoint, we haven't seen an impact on servers. We expect demand for Romley to be quite significant as we go into next year.
Yeah, so nothing has changed in terms of our view of Romley in terms of the timing or the superiority of that part and the level of demand that is out there for it.
A quick follow-up, like...
I'll cut you off there. I apologize.
Sure.
Operator, if you could go ahead and introduce our last questioner.
Our final question comes from Kevin Cassidy with Stifel, Nicolaus.
Thanks for sliding me in. Just as we look at the industry coming out of this, do you expect your product mix to stay at this higher level? You said the ASPs would see slightly higher than expected, but do you think the adoption of Sandy Bridge and even Ivy Bridge get accelerated coming out of this?
You have to separate out two issues here, Kevin. We have seen, over the course of 2010 and 2011, good strength in our core product line. That has caused us to have a bit of a mix-up. As you've seen, we've had flat to up ASPs over a relatively protracted period of time. I think that as you think about Ivy Bridge coming into the marketplace, it's going to be another great product. Whether it causes that mix to extend or just maintain, I think is up for debate. We'll talk about that in January. What we're seeing in Q4, though, is supply-driven. Think about it as we're not seeing kind of more volume in the core product line, but we've taken units out at the lower part. It's a mechanical issue where our ASP is going to be a little bit higher. I don't expect that to continue.
I think once supply catches up to demand, we'll see a kind of return to the mix we had prior to the Thailand floods. I don't know, Tom, if you'd want to add anything to that.
Kevin, did you have a follow-up?
No, that's good. Thank you.
Great, thank you. Thank you, Javon, and thank you all for joining the call today. As a reminder, our quiet period for the fourth quarter of 2011 will begin Friday, December 16th. Our fourth quarter earnings call is scheduled for Thursday, January 19th, 2012. Thank you again.
Ladies and gentlemen, thank you for participating in today's conference. This concludes the programming and all that's connected. Everyone, have a great day.