Getting Intel Back on the Inside Track

CEO-designate Paul Otellini needs to regain ground lost to AMD -- a tough task, given that some of his likely moves will also lower margins

By Cliff Edwards

Finally, Intel's president, Paul S. Otellini, got some good news. After a year in which the chipmaker blundered from one execution gaffe to another and rival Advanced Micro Devices (AMD ) stole the limelight with hot new chips, Intel's directors offered a welcome vote of confidence: On Nov. 8, they formally tapped him to succeed CEO Craig R. Barrett next spring.

But there's no time to celebrate. Rival AMD has pulled ahead in the latest generation of server and PC chips. That puts Intel's key partners, Microsoft (MSFT ) and Dell (DELL ), in an awkward spot: loath to damage long ties with Intel but under pressure to work with a rising AMD. To keep Intel ahead, Otellini has laid out a three-pronged strategy: Package chips together to meet customers' needs, adopt new metrics to ensure manufacturing and execution glitches don't happen again, and improve relationships with Dell and Microsoft. As the CEO-designate told BusinessWeek on Nov. 17: "Job One is to get the company growing again." (See BW Online, 11/18/04, " Intel Will Continue to Run Faster".)

To achieve that, Otellini will have to change a hidebound engineering culture that has been much criticized for continuing to design microprocessors more for speed than utility. That began to change in 2003, when Intel rolled out Centrino, a so-called platform that combines processors with specialty chips to perform a specific task -- in this case, connecting notebooks wirelessly to the Web.


  Centrino was a huge hit, and Otellini is determined to adopt the platform strategy in three more potentially lucrative areas: the digital home, handheld computing, and corporate servers. For example, Intel aims to bake features into chips that let companies manage PCs and servers remotely -- which could bring huge cost-savings, says Intel. Otellini believes the shift will give Intel a major boost over AMD. "If my theory on platforms is right," he says, "that will be our sustainable advantage."

The big question is whether customers will want combo packages. In September, Intel dropped plans to make its chips capable of wireless Net access without the need for the external base stations now found in many home networks; PC makers weren't interested in paying extra for it. Furthermore, rivals such as Texas Instruments (TXN ) and AMD contend that many makers of computers and other tech gadgets are leery of getting locked into single-platform solutions. "Customers are going to make sure they keep their options open," AMD CEO Hector Ruiz said in an interview in July.

What's more, the strategy to create chip packages could hurt profits. When Intel ramped up production of the chipsets and motherboards that go into platforms in the third quarter, gross profits slipped to just under 56%, from an expected 60%, that quarter. Why? Because chipsets and motherboards fetch much lower margins than microprocessors.


  Whatever the merits of the platform strategy, analysts say, Intel needs to shore up relations with Microsoft and Dell. In recent weeks, Dell, which uses Intel's chips exclusively, has sounded more serious about using AMD chips. "We've been studying AMD products closely," Dell President Kevin B. Rollins said on Nov. 11. "Some have come a long way."

Microsoft, meanwhile, will snub Intel's high-end server chip, Itanium, in an upcoming software update. Otellini "isn't thrilled" about Microsoft's decision, but he says he understands because the Itanium market is not big enough for the software giant. Otellini says relations with Microsoft are the best in a long time. As for Dell, he accepts that AMD's success in servers has "probably [put] some pressure on them."

That's why catching up with AMD is key. But it won't be easy. Analysts say Intel may be 18 months behind in creating its own technology. What's more, the company has developed a habit of overpromising. That's why Otellini vows to set more reasonable deadlines. He has also started killing nonessential projects so engineers can focus on getting the new chips right and avoiding manufacturing glitches. Otellini's challenges are clear. If he prevails, he will have proved he deserves his new title.

Edwards is a correspondent in BusinessWeek's Silicon Valley bureau, with bureau reports

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