Intel to hit 40 million mobile chip units with aid of subsidies

Intel is buying its way into the mobile market with subsidies to vendors, but that investment — on track to lose $4 billion in 2014 — is needed if it's going to threaten the ARM ecosystem.

Intel is on track to deliver 40 million mobile chips for tablets and smartphones for the year, but the company is buying its way into the market with subsidies — an investment that is killing revenue and racking up hefty losses.

The chip giant's third-quarter results were solid on many fronts as the PC corporate upgrade cycle continued and datacenter processors and Internet of things efforts provided the growth. What stuck out in Intel's third quarter was mobile and communications revenue of $1 million with an operating loss of $1.04 billion. For the nine months ended Sept. 27, Intel's mobile chip unit lost $3.1 billion on revenue of $208 million.

Do the math and Intel will likely surpass 40 million smartphone and tablet processors and lose $4 billion for the year.

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What's going on? Intel is subsidizing its chips — practically giving them away to partners — and recording the transactions as "contra revenue." Intel is shipping its mobile processors and offering refunds or rebates to the vendor for using them. If devices with the processors don't sell, Intel gives its partner, say Lenovo or Dell, a refund. The move, which on an accounting level provides a better view into actual demand, lowers Intel's revenue for mobile processors.

That rough definition is why Intel's mobile unit sticks out in a big way on the financial statement.

Analysts have been forgiving about Intel's mobile subsidy practices because the processor giant has to get share somehow. Intel CEO Brian Krzanich said the company is likely to ship 10 million to 12 million mobile processors in the fourth quarter to hit at least 40 million units for the year. Krzanich said:

We're not going to necessarily try and blow the number out, but we're also not going to miss it by a million or two. So my guess is somewhere between 40 million and 45 million is where we will end up. Exactly where that is, we'll make sure we're past the 40 but not, there's no need to go well above that. As we said, that puts us as the largest merchant supplier to the tablet business. We're really trying to move that space now as both our cost reduction but also differentiating with products like the Dell Venue, which we believe is the thinnest, and has a lot of innovation with the first of the RealSense. We'll have other products with our other OEM partners, like Lenovo, moving forward.

TBR Research analyst Andrew Smith noted:

Tablet processor shipments, which have served as a bellwether for Intel’s Mobile & Communications Group performance, reached approximately 15 million units in 3Q14, and the vendor is on track to reach its goal of 40 million total tablet processor shipments by the end of 2014. However, the rise of Intel’s tablet market share has come at a price due to requisite subsidization, which the vendor classifies as contra revenue transactions. Due to these additional costs, the Mobile & Communications Group brought in just $1 million in total revenue during 3Q14. TBR expects the Mobile & Communications Group to continue recording a net loss in 4Q14, and into the first half of 2015, as the vendor utilizes tablet processor subsidies as a strategy to quickly bolster its market share and become a more serious competitor in the tablet market alongside rivals like Qualcomm, Samsung and Apple.

When asked whether Intel contra revenue will continue on mobile processors in the fourth quarter, CFO Stacy Smith said the results in the fourth quarter won't be "terribly dissimilar" from the third quarter.

Intel's bet is that real revenue will improve over time. For 2014, Intel spent a lot of time and money to become the second largest system on a chip tablet vendor globally.

Going into 2015, Intel's latest mobile chips won't carry the subsidy so revenue on the earnings statement should show up. That outcome assumes that Intel can sell its mobile processors without the subsidies. The other wrinkle here is that Intel is betting on the Internet of things to help mobile units too.

However, Intel's problem on the mobile front is the same as it ever was: ARM's ecosystem of partners.

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