Intel’s Margins Set to Normalize after Reaching a Peak in Q3

Gross margin

Strong demand in the PC and server markets drove Intel’s (INTC) revenue in 2018. This unexpected demand created a CPU supply shortage for Intel in the second half of the year. To meet this growing demand, the company operated its fabrication facilities at full capacity and sold off CPU inventory, which significantly boosted its third-quarter non-GAAP (generally accepted accounting principles) gross margin to 65.9% after a very long time. After removing one-off instances, its gross margin stood at 64%.

For the fourth quarter, Intel expects to report a gross margin of 62%, lower than its previous three fourth-quarter margins. The company’s gross margin is expected to fall as it increases its 14 nm (nanometer) capacity on an urgent basis.

Intel’s Margins Set to Normalize after Reaching a Peak in Q3

Operating margin

The benefit of Intel’s high gross margin trickled down, and it reported a third-quarter non-GAAP operating margin of 39.6%, its highest margin since 2011. The company’s margin peaked in the third quarter, and it’s now set to contract in the fourth quarter and the first half of 2019.

For the fourth quarter, Intel expects its operating margin to contract 508 basis points sequentially to 34.5% as the effects of one-off instances fade and its revenue falls 1% sequentially. Intel’s operating margin tends to peak in the third quarter and fall in the other three quarters.

Intel’s foundry rival TSMC (TSM) lowered its profit guidance for the first quarter of 2019, as it expects a slowdown in demand to lead to the underutilization of its manufacturing capacity while its research and development costs continue to rise. TSMC expects its gross margin to contract 370 basis points sequentially to 44% and its operating margin to contract 500 basis points sequentially to 32% in the first quarter of 2019.

After reporting strong profits in 2018 due to unexpected demand for its high-end products, Intel could return to normalized profit margins in 2019 as several technology headwinds increase its operating expenses. We’ll look into this next.