Barron's Streetwise - Intel and Amazon

Episode Date: December 15, 2023

Jack speaks with a chip analyst about Intel’s recent stock bounce and examines Wall Street’s prediction of a coming Amazon cash flood. Learn more about your ad choices. Visit megaphone.fm/adchoices

Calling all sellers, Salesforce is hiring account executives to join us on the cutting edge of technology. Here, innovation isn't a buzzword. It's a way of life. You'll be solving customer challenges faster with agents, winning with purpose, and showing the world what AI was meant to be. Let's create the agent-first future together. Head to salesforce.com slash careers to learn more. The more and more we tailor AI large language models to the individual need, then we can push AI decision-making onto your own PC, and it becomes extremely more applicable and useful.

Hello, and welcome to the Barron Streetwise podcast. I'm Jack Howe, and the voice that you just heard, that's Cody Acree. He covers Intel stock for a New York investment bank called Benchmark, And he's bullish. And that in itself is noteworthy because I'm looking at FactSet and I see 42 analysts covering the stock and nine of them say to buy it. Just nine. I'll tell you another thing about Cody is he got the timing right on Intel stock because he upgraded it to a buy rating earlier this year around springtime. Intel is, well, it's not keeping up with Nvidia this year, but it's way ahead of both the S&P 500 index and

the Philly Semiconductor Index. And the question on my mind is, is this a head fake? Intel had underperformed for so long. Can it keep beating the market? And that i wanted to hear the bull case cody will give us that in a moment listening in is our audio producer jackson hi jackson hey jack any uh business that we have to catch up on before we push ahead to intel we We got an election coming up. Okay, so Intel it is then. Although maybe we can just touch on Amazon stock before we come to Intel. Amazon is, let's call it in the opposite position of Intel.

There are 57 analysts who covered that stock and 56 of them say you should buy it right now. The 57th one is a hold and Amazon has obviously been a wonderful performer of late. It's one of the magnificent seven tech companies as they're called and those are the ones pulling all of our S&P 500 index funds higher. And when I look at Amazon stock, it's trading at about 40 times this year's projected free cash flow. That is an ambitious price. And so you put them all together, it's done very well recently.

It's super duper popular. It might be pricey. And you think to yourself, I don't know, maybe Amazon is headed for, if not a fall, then a pause. But I look at JP Morgan's 2024 internet outlook and behold, they say Amazon remains our top large cap pick. And I think I see their point. Jackson, are you familiar with an investment strategy called the Dogs of the Dow? I know what that is. I think that's where you buy the worst stocks of the year because there's no way that could happen again next year. Highly unlikely that those same stocks would be the worst stocks.

And yet, to your point, you buy the worst 10 performers from the Dow Jones Industrial Average. That's a group of 30 stocks. And, you know, I don't know if it's that they can't do poorly again, but the thinking, I guess, is one thing we know about them is that they're cheaper than they were a year ago. And also, a lot of them have dividends and the dividend yields are now higher. So you get, you know, some income. And for a long time, that strategy seemed to work. And then for a long time, it seemed to no longer work. And now I don't really know if there's anything to it.

I have no idea. I think it's probably a crapshoot about whether it works or not. I feel like dogs are getting the short end of the stick here. Why are we calling them dogs? Someone has to take a shot here. A mollusk is unlikely to complain too loudly about it. I take your point. Yeah, the mollusks of the Dow.

Well, I think that that's, you know, I think that's part of a broader investment ethos. It just feels like there should be a certain amount of maybe pain and suffering isn't the right word, but contrarianism, right? A certain amount of like, hey, hey, the herd's over there doing that thing but i'm too smart for them i'm gonna do this thing over here that everyone says is crazy but you know what i'm like noah building that ark when that flood comes they're not gonna be saying crazy anymore you know what i mean maybe but it could there could be an easier way to make money and in this case um i don't know maybe it's just buying amazon. Let's look at some numbers on this thing. First of all, JP Morgan thinks that next year will be a year of not only revenue growth for Amazon and not only double-digit revenue growth, but accelerating double-digit revenue growth.

And that's just highly unusual for a company that large. They're projecting a 13% increase in total revenue, excluding currency swings. And that's versus their projection for an 11% increase this year. And they say that's supported by a reacceleration across both AWS, the Amazon's cloud business, and retail. They say the cloud business in particular, they expect it to accelerate to 17% next year from 13% growth this year. And that's just what they call strong secular trends, a lot of opportunity for growth. They point out that 90% of IT resources for big organizations are still on-premises. In other words, there's a lot that still could be moved to the cloud. Okay, we all know what Amazon is and what it does.

I just want to mention briefly here the free cash flow because I just find the size of these numbers a little bit shocking. There was a period not too long ago, maybe we're talking about a decade ago, where people used to joke about Amazon being this company that was very successful and gaining a lot of customers and growing very quickly, but wasn't turning a profit. Didn't generate meaningful free cash. It had negative paper profits. That's one thing. The company has always said that its main goal is to generate free cash, but it wasn't even really generating a ton of free cash.

cash, but it wasn't even really generating a ton of free cash. And then starting about a little less than a decade ago, that free cash flow started to ramp up from a couple of billion dollars to seven to 10. Then it topped 20 and then it topped 30 in 2020, 30 billion dollars in free cash flow. And then the company went on another one of these investment cycles. That's what Amazon always seems to do is just when you think that the level of free cash flow. And then the company went on another one of these investment cycles. That's what Amazon always seems to do, is just when you think that the level of free cash flow is going to hit the stratosphere, they say, we're going to spend a ton of money to build out our cloud infrastructure. We're going to spend a ton of money to build out our delivery platform. So push ahead to this year, and the consensus estimate is that Amazon's free cash flow will not only turn positive again, but it's going to come in at $38 billion. That's the estimate.

$38 billion is a ton of free cash flow. That would put Amazon about on the level of where Chevron was last year with oil prices so high. about on the level of where Chevron was last year with oil prices so high. And so I'm looking at a list of S&P 500 companies ranked by free cash flow in their latest fiscal year. And Chevron is number eight. OK, so back to J.P. Morgan and its estimates. They project that free cash flow next year in 2024, it's going to hit $54 billion. And the following year in 2025, it's going to hit $74 billion. And that would be enough based on what companies did in their latest fiscal years. That would put Amazon, let's say, ahead of Alphabet,

behind Bank of America. It would put it in the number four spot for U.S. companies. behind Bank of America. It would put it in the number four spot for US companies. Okay, so JP Morgan has a price target on Amazon stock of $190. And you know price targets you can take them with a grain of salt. Who knows what the stock is gonna be at a year from now, but I always think it's instructive to look at what are they based on, right? How reasonable is it that the stock could make that kind of a gain? First of all, $190 would represent a 28% gain over the coming year versus Amazon's recent price. And JP Morgan says that that target price works out to about 25 times its free cash flow estimate for 2025. And that is a number that blue chip companies trade at pretty frequently. I'm looking at a screen of companies ranked by price to free cash flow ratio using their most

recent fiscal year. And the companies that I find in the mid twenties are for example, Deere, Texas Instruments, BlackRock, Caterpillar, General Mills, Hershey. All high growth tech companies. Right. Well, I've been seeing a lot of different Reese's varieties out there for Hershey's, so they're doing some wild things. But I guess my point here is that you don't need to anticipate that Amazon is going to hang on to this go-go growth valuation over the next couple of years for you to like the stock now. All you have to do is

believe that these free cash flow estimates that are produced by a pretty big group of analysts are reasonably accurate or feasible. And I think they might be just because eventually you run out of things that you can spend that amount of money on. I mean, we looked ahead to 2025. If you look ahead at the consensus estimates just one year further, they have Amazon's free cash flow topping $100 billion. That would make it maybe the most cash generative company in America. We have to see what apple generates by then apple might be on top as i've said before on this podcast it would put both of those companies in the league of saudi aramco the saudi oil monopoly and on a scale of things that generate

a lot of cash saudi oil monopolies are up there they make a lot of money are up there. They make a lot of money. So how would Amazon go on its next big investing spree? What's it going to announce that would require cash on the scale of building an enormous cloud computing infrastructure, building an enormous logistics infrastructure for delivering packages? I just don't know. It would have to be pretty darn big. Nuclear power plants? Nuclear power plants. Private armies? Well, delivered in boxes.

They'll ship them to your door. Intergalactic space travel? I'd settle for just galactic. You don't have to do intergalactic. Keep me... Andromeda is not too far away. There's a lot of this galaxy I still want to explore. It's only 2.5 million light years. All right, put away your calculator watch.

Don't run with your slide ruler. I don't know. I don't think... I think Amazon is going to become a company in just a few years. It is going to have to be looking at a big dividend, big stock buybacks, classic things that companies do to return cash to shareholders, because I don't know how they put that enormous sum of money to work.

And I think that if those estimates are anything close to accurate, they're going to make Amazon stock look like a pretty square deal today. That's what JP Morgan seems to be saying. And that's a case for not buying the dogs of the Dow, buying the darling of the Amazon and the Dow. Or the shacks of the NASDAQ. I don't know what that strategy is, but I love it. Turn that into an ETF immediately. Jackson, should we roll right into Intel here?

Should we take a quick break first? Please calculate on the slide rule the ad dollars and margins. Break is better for cash flow. We will be right back to hear why the Intel bulls, minority though they are, say the stock can keep shining. Welcome back, Jackson. When did we have Intel CEO Pat Gelsinger on this podcast? In summer 21.

Summer 21. He had to be pretty new in the job then. I think this coming February, he will have been in that job for three years. And the stock did not have, let's say, an immediate and overwhelmingly positive response, but it seems to be coming around now. I raised the question in a recent column in Barons of Weather, Intel from here is going to go on to be, let's say, a General Motors or a Microsoft. Is it going to be a serial turnaround tease, or is it going to be a genuine blue chip comeback?

Or is it going to be a genuine blue chip comeback? GM is a stock that always seems to disappoint in the end. It's starting to feel like an immutable law of finance that just never works out for the GM shareholder. The latest iteration of GM stock debuted in the market 13 years ago at $33. That was after a bankruptcy restructuring, $33. And then a couple of years ago, they shot in the high 50s. There was a lot of electro-robo-auto 2.0 euphoria, let's call it. But that seems to be subsiding right now. Companies like GM have been pulling back on the spending on electric vehicles and GM has had some trouble with its robo taxi unit it has slash spending there and so the stock is recently back down to exactly

where it started 33 dollars 13 years ago and you compare that with Microsoft I mean that's the opposite extreme back during the dot-com stock bubble in 1999, Microsoft went up to $58 a share and then it tumbled into the 20s. And the stock more or less stayed there for more than a decade. Once in a while, it shot up into the 30s. At one point during the global financial crisis, it collapsed into the teens. And now the stock is over $370. I read that column and you called it a who moved my cheese problem. I'm confused. Okay. There's a book called who moved my cheese it's a it's a tiny little book that um there's it's

about mice and cheese literally but i guess it's supposed to be a metaphor and it's supposed to be about how sometimes the way you did things in the past stops working and you think there's no hope but it turns out you just have to make an adjustment and you do things differently and everything works out fine so and microsoft is the mouse the cheese is the money yeah and it's you the cheese is always the money the way the reason that book got so popular by the way is when big companies are doing things that i don't want to use the word screw when they do things that employees might find objectionable they like to to give out large quantities of these books to all their employees, and then the employees read them, and the employees get the message like,

hey, somebody just moved your cheese. It's okay. Don't be upset. You've got to go find your cheese somewhere else. The reality is somebody might have cut your cheese in half, and when you find the cheese, there could be less cheese. If your company recently handed you a copy of Who Moved My Cheese, there could be trouble ahead. So the reason that came up for Microsoft was I just said that originally investors had the view that this was an existential crisis because the Internet was killing demand for desktop software. All of the software was moving into the Internet.

But it turns out that it was more of a who moved my cheese problem because software is doing quite well in the cloud and Microsoft is making more money than ever. Cheese cloud. Got it. Right. So, OK, so which is it going to be for Intel? The GM course of the microsoft course and to be clear i am not saying that intel will achieve microsoft level success anytime soon microsoft is recently valued at 2.7 trillion dollars that's about 92 of the value of apple

so that makes microsoft it's really regularly a challenger for the title of the biggest U.S. company. Intel was recently valued at $174 billion. It's only the fourth largest U.S. chip company. It's smaller than Advanced Micro Devices and Broadcom and NVIDIA. But the question for investors is, can Intel stock keep beating the market? That stock spent, you you know during Microsoft's lost decade Intel stock was mostly in the teens and the 20s and then it started to run a few years ago it went over 65 and then it plunged to 25 last year and recently it has rebounded to the 40s so is it headed to 65 next is it headed to 25 next? Is it headed to 25 next? To figure that out,

I think the place to start is what went wrong for the company to begin with. And for that, I checked in with Cody Acree over at Benchmark. Well, I think where they fell behind was, it was even their decisions back before 14 nanometer. That's when EUV came on the scene. Some companies like TSMC and Samsung were very quick to adopt EUV and then deep EUV after that. When Cody mentions 14 nanometer, he's talking about a past design specification for chips. It's basically measuring a distance between features on a chip. Jackson, if you're wondering, the human fingernail grows a nanometer per second.

Oh my gosh. It should give you a sense of what 14 nanometers is. Just wait 14 seconds and then check your fingernails for how long they've grown. So anyhow, the specifications are well smaller than that now. But Cody also mentioned EUV. That stands for extreme ultraviolet lithography. And that is just a new technology for creating features on chips that are packed so closely together, and that's created by a Dutch company called ASML. And as Cody said, some of Intel's competitors were quick to adopt that technology, but Intel was not particularly quick. Intel's misstep has been particularly good for advanced micro devices and its manufacturing

partner Taiwan Semi. AMD has taken about a third of the market for personal computer chips and there are other competitors out there. First of all Apple makes many of its own chips for its computers. There are other players like Arm the chip design company, and Qualcomm. And so Intel still gets about 60% of its revenue from PC chips and about 40% of its profits. Intel still has an edge in the data center, but that lead is shrinking. Here's Cody. Intel is still the dominant player with its Xeon processors, but AMD in the last decade has been under Lisa Su's management. They have caught up on the data center and have been taking share pretty consistently for the last five plus years.

And it is now in a 15 to 20 percent market sharing data center. OK, so market share losses in Intel's two main businesses do not sound great. What is there to like about the company and the stock? Here's Cody. Well, I think that where we got bullish was once we saw that Pat Gelsinger's management style was taking effect. Cody says that Pat has given employees more responsibility and has aggressively pushed Intel's upgrade cycles. And his objective was for Intel to push through five of those nodes in a four-year period, which is unheard of in Intel's pace. Typically, a lithography node would be at least two years between.

These are not the kind of things that show up as improvement on financial statements right away, but there are positive signs. Intel had been losing employees to competitors, but Cody says the trend has reversed. Really is very telling because it's a measurement of core attitude, of core culture. And has he had an effect on people wanting to work at Intel? And if they want to work, they're going to do a better job. And I think that that is a very tangible number that Intel has been able to swing back in their favor, where now they're hiring more away from their key competitors of AMD and NVIDIA and Qualcomm. More and more data center spending is going for artificial intelligence chips,

and there, NVIDIA is perceived as having built an insurmountable lead. Cody says that Intel's latest AI accelerator for servers called Gaudi 2, it compares well enough with NVIDIA's chip, especially considering the price. It's not beating them on every benchmark, but it is competitive, and the price is significantly less than NVIDIA's extremely high prices

that many of its consumers in the server side, on the data center side, are looking for an alternative to NVIDIA's stranglehold on that market. In December, Intel will launch new PC chips, and they're going to come with AI coprocessors. that these will become increasingly important as AI shifts from generalized tools in the cloud, like that open AI that everyone's playing with, to more commercialized products that are customized for things like graphic design and finance. The more and more we tailor AI large language models to the individual need, then we can push AI decision-making onto your own PC, and it becomes extremely more applicable and useful. And so Intel has now the first AI-accelerated processing unit on desktop.

It's a very big change in the world where AI up to now has been tens of thousands of dollars per chip into the data center itself. Cody, of course, is not the only Intel bull. The analyst at Mizuho Securities upgraded Intel stock to buy from hold last month. In a report, that analyst cited a potential PC and data center upgrade next year, what he called a prolific coming year for Intel product launches, which he said could boost market share and margins. And he pointed to cash coming from a spinoff of a past acquisition called Altera. That one has been a poor performer, better for Intel to have the cash. And speaking of cash, I can

remember when the bull case for Intel used to be, yes, I know they're not the most exciting chip company around, but look at all that free cash flow that they generate. And surely they can spend that money on something useful in research and development and come up with the next big thing that's going to beat the competition. Well, now that's no longer the argument on Intel. The free cash flow has turned sharply negative because the company is spending so much money to quickly improve its chips. It's also spending a lot on manufacturing to build massive new foundries. And it just announced that it plans to separate its manufacturing business from its design business with each of those groups getting its own accounting. The idea is that Intel's chip designers will be free to quickly come up with new

advancements, even if that means that Intel's own factories aren't ready yet to do the work. And Intel's factories will be better able to compete with the likes of Taiwan Semi to go after business from other chip companies. Will it work? I don't know. I may be not fully convinced, but I'm certainly intrigued. I'm not particularly good at picking more timing stocks, so what does it matter what I say anyway? I'll bring you the facts and you can decide for yourself.

What I'd like to know is when that free cash flow is going to ramp back up again. like to know is when that free cash flow is going to ramp back up again. And Cody says that's going to take time because Intel is likely to remain a heavy spender through 2026. Yeah, I think in the years ahead that they will continue to spend probably through the middle of the decade, middle of the decade, at least through 25 and 26 with their current projects. And after that, we head to 2030, then their pace can slow because they go to keeping up with the market instead of catching up to the market. Thank you, Cody. And thank all of you for listening. Now it's mid-December. It's time for our annual listener question drive. Jackson, I've sent you the words to Carol of the Bells.

Let's have you come in with the lyrics, but lightly now because I've got to make the pitch. The first eight lines are all just ding dong, ding dong. Skip those. Yes, go right to the...

Our cattle bells, sweet silver bells... Send us your questions. Use the voice memo app and send it to jack.how that's h-o-u-g-h at barons.com the ding-dongs are back i i timed it perfectly to get right to the ding-dong part all right jackson cantrell is our producer and he sings subscribe to the podcast on Apple Podcasts, Spotify or wherever you listen, if you listen on Apple

write us a review not of the singing you know what, maybe wait until next week for the review that's it for us, see you next week