Jan 31, 2017
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Intel Corporation Gets an Apple Inc. iPhone 7 Boost

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Finally, microprocessor giant Intel (NASDAQ: INTC) has managed to achieve a real degree of success in the market for chips that go into smartphones. A while back, it was revealed that Apple (NASDAQ: AAPL) had chosen to use Intel as a second source for the LTE modems that power its iPhone.

Apple's iPhone SE. Image source: Apple.
Now, while some investors may have worried that Intel might be “giving away” these cellular modems — in a move similar to what the company did with its Bay Trail tablet processors (i.e. providing platform cost offsets valued more than the selling prices of the chips) — the company's most recent financial results show that this is very clearly not the case.
The big modem boost Intel's modem sales fall under its Client Computing Group (CCG), which derives the bulk of its revenue from sales of processors and other components that go into personal computers. When Intel reports financial results for CCG, it gives investors two numbers to chew on: ..

Finally, microprocessor giant Intel (NASDAQ: INTC) has managed to achieve a real degree of success in the market for chips that go into smartphones. A while back, it was revealed that Apple (NASDAQ: AAPL) had chosen to use Intel as a second source for the LTE modems that power its iPhone.

This is an image showing Apple's iPhone SE in four colors: gold, silver, rose gold, and space gray.

Apple's iPhone SE. Image source: Apple.

Now, while some investors may have worried that Intel might be "giving away" these cellular modems — in a move similar to what the company did with its Bay Trail tablet processors (i.e. providing platform cost offsets valued more than the selling prices of the chips) — the company's most recent financial results show that this is very clearly not the case.

The big modem boost

Intel's modem sales fall under its Client Computing Group (CCG), which derives the bulk of its revenue from sales of processors and other components that go into personal computers. When Intel reports financial results for CCG, it gives investors two numbers to chew on: platform revenue and "other" revenue. Platform revenue is made up of processor and accompanying chipset (also known as a PCH) sales, while "other" revenue refers to a smorgasbord of other complementary technologies, including cellular modems.

We can see that Intel is seeing a very large boost in cellular modem sales because Intel's revenue from "other" went from $356 million in the fourth quarter of 2015 — when Intel sold precisely zero modems to Apple — to $773 million in the fourth quarter of 2016 — when Intel is known to be selling modems to Apple.

Of course, it's likely that not all of that increase is due to the ramp up in cellular modem shipments — Intel did take the time to highlight that it enjoyed record Wi-Fi chip shipments last quarter — but there's really nothing else that can explain the substantial majority of that increase.

What does this revenue increase tell us?

The bad news is that we can't deduce too much about the profitability of these modems solely from these results — though Intel did indicate later in the call that cellular modem shipments during 2017 would serve as a headwind to the company's gross profit margins. So we know that the modems are sold at lower than corporate average margins.

What we can deduce is this, however: Intel isn't providing excessive "contra-revenue" payments to get these modems into the iPhone because Intel is generating positive revenue — and significant revenue at that — from its modems. (Although we already knew this because Intel would almost have certainly disclosed to investors in advance that a ramp of its modem shipments would detract from operating profit.) If that were the case, some investors may have wanted to see the financial evidence before believing it.

Looking ahead

If we assume that Intel is going to continue to supply Apple with modems beyond the iPhone 7 — and the odds of this look good — then there are some interesting financial implications. First, Intel's share at Apple may be set to grow in the coming product cycle. Right now, Intel is in some portion of the iPhone 7 models, but is completely absent from the iPhone SE, iPhone 6s, or iPhone 6s.

Once Apple releases new models and waterfalls the iPhone 7 and iPhone 7 Plus to serve as its mid-range offerings — and if we assume that Intel and Qualcomm get roughly equivalent order allocations during the next iPhone cycle to what we're seeing with the iPhone 7 series — then Intel's share will necessarily go up. I also wouldn't be surprised to see Intel inside of a future iPhone SE, as well.

It's reasonable to expect that Intel will see some nice year-over-year growth in the "other" portion of CCG over the course of 2017, with acceleration happening in the second half of the year, due to the launch of the new iPhone models.

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The author(s) may have a position in any stocks mentioned.

Ashraf Eassa owns shares of Intel. The Motley Fool owns shares of and recommends Apple. The Motley Fool has the following options: long January 2018 $90 calls on Apple and short January 2018 $95 calls on Apple. The Motley Fool recommends Intel. The Motley Fool has a disclosure policy .

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