Chip maker Intel (Nasdaq:INTC) is cutting costs and rolling out a series of new products in an effort to turn things around. The question is, will these actions finally make a difference and drive up the stock price?

In the second quarter of 2007, Intel's sales rose 8.4% from the year earlier quarter to $8.68 billion. Per-share profit rose 46.7% to 22 cents, but 3 cents of that came from one-time tax items. Analysts expected 22 cents, compared with 15 cents a year ago. Gross margin fell to 46.9% from 50.1% the previous quarter, and 52.1% a year ago quarter.

This result is due to pricing pressure in the lower end of the market where competition is fierce and start-up costs incurred due to new process technology. Operating cash flow rose 9.1% and free cash flow moved up 1,066.7% as capital expenditures fell.

Cost Cutting
Several years ago, Intel embarked on a strategy to reduce costs and improve plant utilization. The company cut the size of its work force to 90,300 people as of the end of the second quarter 2007. It had 94,100 employees as of December 30, 2006, while one year ago, it had 99,900.

The company has also put its existing plants under the microscope, closing those that were not part of its long-term strategy. This is helping to spread fixed costs over a larger number of chips produced, lowering per-unit costs.

These efforts are contributing to faster factory throughput, higher yields and better use of equipment. This has allowed the company to lower its future capital spending.

Also, Intel is increasing production of its latest 45 nanometer process technology. This will increase lot sizes which will lower per-unit costs even further. Startup costs were incurred in the first half of 2007 that lowered operating margins. Management stated it expects manufacturing costs to decline in the second half of the year as these costs will be much lower. This will further contribute to lower costs for the company as they ramp up production of their new products.

As a result second quarter operating expenses rose only 5.7% from the comparable quarter last year while operating income grew 25.9%. This helped increase operating income margin to 15.6% from 13.4%.

And finally in May 2007 Intel, STMicroelectronics (NYSE:STM) and Francisco Partners announced an agreement to form a new independent company by combining Intel's NOR flash memory business and STMicroelectronics' NAND flash businesses. The new company is expected to be a market segment leader in non-volatile memory solutions, serving customers in wireless communications and other segments.

Intel will own 45.1% and receive $432 million in cash for the deal. The new company will borrow the money necessary to pay the cash, which will be more expensive in today's new credit markets. Hopefully, the transaction will close by the fourth quarter of 2007, once regulatory reviews and closing conditions are met. This should eliminate a losing business for Intel, once the deal is finalized and the company is able to ramp up operations.

New Products
In the emerging markets, desktops did better than expected, causing shipment of desktop chips to grow faster. The company is still expecting higher margins in the second half of the year as manufacturing of the 45 nanometer microprocessors will ramp up, overcoming the start up costs that were incurred in the first half of the year.

Support for this growth outlook is a report from research company IDC that PC shipments are expected to grow at low double-digit rates up from single-digit rates in 2006. This growth is being driven by the continuous move to mobile computing. When coupled with the technology refresh for desktops and growth of spending for faster more power efficient servers, it is very reasonable to expect an increase in the demand for Intel microprocessors.

Intel intends to roll out new, better-performing chips every year to help solidify and expand its market share position. The company is doing well with its dual-core processors. Intel is currently the only company with a quad-core processor, with these shipments doubling in the latest quarter. The company announced it has shipped over 1 million quad-core microprocessors for servers and desktop systems, expanding its quad-core line-up to 14 different processors.

In the last quarter Intel introduced a new generation of Centrino processor technology (formerly code-named Santa Rosa) that delivers high-bandwidth WiFi connectivity and richer graphics processing. Notebook PC makers are launching more than 230 new designs for consumers and business users with this technology. Mobile computing represents 40% of shipments in the second quarter.

The company introduced the Intel 3 Series chipset family which adds new capabilities and provides manufacturers with a socket-compatible migration path to Intel's upcoming "Penryn" family of processors based on the industry's first 45 nanometer process technology. Speaking of Penryn, Advanced Micro Devices (NYSE:AMD) is about to release its first quad-core processors named Barcelona. Intel will face competition in the quad-core processor market, though it will also help Intel to encourage server and PC manufacturers to migrate to the new architecture. As yet, there haven't been any published performance comparisons of the AMD and Intel quad-core processors.

The Bottom Line
Intel has long-term potential as the company becomes more dominant in semi-conductors and grows its mobile business. The company has fundamentally changed its direction and is poised for growth. It would be attractive if it dipped down in price.

Keep in mind, this is a turnaround situation and it may take awhile for the company to correct all of its problems. However, it has overcome the pressure from AMD and is continuing to lower its costs. As Intel's new products gain acceptance in the market, the company should see growing profits and margins. So far, the market for these new products is positive, which leads one to believe now is the time to enter into a position. This is a high risk investment suitable for aggressive investors.

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