Intel Corporation

Good day, ladies and gentlemen, and welcome to the first quarter 2019 Intel Corporation earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session, and instructions will be given at that time. If anyone should require assistance during the program, please press star then zero on your touchtone telephone. As a reminder, today's program is being recorded. And now I'd like to introduce your host for today's program, Mr. Mark Henninger, Head of Infest Relations. Please go ahead, sir.

Thank you, Operator, and welcome everyone to Intel's second quarter 2018 earnings conference call. By now, you should have received a copy of our earnings release and the earnings presentation. If you've not received both documents, they're available on our investor website, intc.com. The earnings presentation is also available in the webcast window for those joining us online. I'm joined today by Bob Swan, our interim CEO and Chief Financial Officer. Murthy Renditintala, Group President of the Technology Systems Architecture and Client Group and Chief Engineering Officer. As well as Naveen Shanoi, Executive Vice President and General Manager of the Data Center Group. In a moment, we'll hear brief remarks from Bob, followed by Q&A. We're having technical difficulties. Let me jump back in here. I'm joined today by our CEO, Bob Swan, our CFO, George Davis. And in a moment, we'll hear brief remarks from both of them, followed by the Q&A. Before we begin, let me remind everyone that today's discussion contains forward-looking statements based on the environment as we currently see it. And as such, does include risks and uncertainties. Please refer to our press release for more information on the specific risk factors that could cause actual results to differ materially. A brief reminder that this quarter we have provided GAAP and non-GAAP financial measures. Today we will be speaking to the non-GAAP financial measures when we describe our consolidated results. The earnings presentation and earnings release available on intc.com include the full GAAP and non-GAAP reconciliations. With that, let me hand it over to Bob.

Thanks, Mark. With that interim introduction, I thought on our outlook I was getting demoted already. But look, coming off a record 2018, our top line results came in slightly higher than expectations with upsides in the PC and IoT segments offset by incremental NAND pricing weakness. Total revenue of $16.1 billion was flat year over year as our PC-centric business grew 4% and our data-centric businesses were down 5%. The team executed well, though underlying trends are concerning. And as a result, we've revised our expectations down for the full year. I'll give you some insight into the customer trends informing our outlook. But first I'd like to take a few minutes to recap the progress we've made over the first quarter. It's been just under three months since I was honored with the best job in the world. At that time, I said that our leadership team would focus relentlessly on delivering for our customers to take advantage of the biggest opportunity in our company's history. We're making important progress by intensifying our focus in three key areas, expanding our TAM, accelerating innovation, and improving our execution while evolving our culture. I'd like to spend a few minutes talking about our philosophy and progress in each of those areas. First, expanding our TAM. We are transforming from a PC-centric company to a data-centric company, and our ambitions are bigger than they've ever been. Our aim is to identify and capitalize on key technology inflections that set us up to play a larger role in our customers' success while improving returns for our owners. You can see the impact of this approach in our Q1 execution. For example, our first ever data-centric portfolio launch marked an important milestone in our to capitalize on the AI opportunity and undisputed technology inflection. Our new second generation Xeon Scalable is the only processor in the industry with built-in artificial intelligence acceleration. Not only did we deliver a 14x -over-generation performance improvement, but we also showed CPU performance beating GPU performance on major AI workloads like recommendation engines. And we worked closely with the software industry ahead of the launch to deliver a great -the-box experience for customers like Siemens. They're collaborating with us on a breakthrough AI-based cardiac MRI model. This application has the potential to provide real-time diagnosis using the DL Boost technology in our newest Xeon Scalable processor. Another TAM expanding business that continues to gain traction is Mobileye. With eight new global ADAS designs in the first quarter alone, including our first win in India, Mobileye's real-time crowdsourced mapping technology, Road Experience Management, or REM, continues to build momentum with a major North American automaker adopting this breakthrough data-centric capability. Autonomous driving is a technology inflection that we're ready to lead. 2019 will be a foundational year for another disruptive technology, 5G. As you know, we recently sharpened our 5G focus. When it became apparent that we don't have a clear path to profitability in 5G smartphone modems, we acted. We are now winding down that business and conducting a strategic assessment of 5G modems for the PC and IoT sectors while continuing to meet our current 4G customer commitments. By acting now, we focus our 5G efforts on the transformation of the wireless network and edge infrastructure where we have a clear technology advantage, market share to win, and a strategic role to play with customers. At Mobile World Congress, we demonstrated a range of 5G products under development, including the 5G-ready N3000 FPGA acceleration card and the new 10 nanometer base Snow Ridge Network SoC for use in 5G base stations. As networks cloudify, Intel is in a great position to win in this base station segment, where we expect to grow to 40% market segment share by 2022. The vast majority of the 5G market opportunity and profit is in the transformation of network and edge infrastructure, where we are now laser-focused. Next, accelerating innovation. Successfully competing in a bigger TAM requires a broad range of products and technologies. Only Intel has the breadth of IP to deliver leadership products across increasingly diverse workloads for the data-centric era. Harnessing data for discovery, invention, and business value is not a -fits-all computing challenge. That's why we are investing in six important pillars of innovation. Process technology, architecture, memory, interconnect, security features, and software. Already this year, we've introduced incredible examples of this approach to innovation across the business. Let me take a minute to talk about a few. We are currently architecting what we expect will be the United States' first exascale supercomputer for the U.S. Department of Energy's Argonne National Laboratory. This supercomputer, called Aurora, will be delivered in 2021 and powered by Intel technologies designed specifically for the convergence of artificial intelligence and high-performance computing. These include a future generation of the Intel Xeon Scalable Processor, Intel's Xe Compute Architecture, a future generation of Optane Persistent Memory, and Intel's OneAPI software. It's a great example of how our data-centric products, architected together, can deliver technology breakthroughs for our customers. We are also accelerating innovation in our PC-centric business. For example, our team is hard at work with our OEM customers to define and deliver a stunning new class of next-generation laptops. We call this project Athena, and the first of these sleek, beautiful designs are coming in the second half of 2019. And just this week, we launched the most powerful generation of Intel Core Mobile Processors ever, designed for gamers and content creators. On the process technology front, our teams executed well in Q1, and our velocity is increasing. We remain on track to have volume client systems on shelves for the holiday selling season. And over the past four months, the organization drove a nearly 2x improvement in the rate at which 10-nanometer products move through our factories. Finally, execution and culture. This is about concentrating our resources on the vital few programs that will have an impact on our customers' success and our owners' return, rather than the trivial many. Over the last couple years, that focus has resulted in exiting McAfee and Wearables business, shutting down Saffron, and divesting Wind River. And our spending as a percentage of revenue has gone from approximately 36% to about 30% this quarter. It has allowed us to invest more of our resources, and just as importantly, our collective attention and focus where it really counts. By doing fewer things, we'll execute better at the things that matter most. Specific areas where we need to improve execution include meeting customer demand and delivering on our 10-nanometer lineup of products. And we are making progress. Our supply constraints have had a disruptive impact on our customers and the ecosystem. We've committed never again to be a constraint on our customers' growth. We've increased capacity to improve our position in the second half, although product mix will continue to be a challenge in the third quarter as our teams align available supply with customer demand. As I shared earlier, our confidence in 10-nanometer is also improving. In addition to the manufacturing velocity improvement I described earlier, we expect to qualify our first volume 10-nanometer product, Ice Lake, this quarter, and are increasing our 10-nanometer volume goals for the year. I'll shift now to our full-year outlook. Going forward, George will deliver our forecast, but given this is his third week with us, I'll share my thoughts on our full-year reset, and he'll review our first quarter results and second quarter guide. Our conversations with customers and partners across our PC and data-centric businesses over the past couple months have made several trends clear. The decline in memory pricing has intensified. The data center inventory and capacity digestion that we described in January is more pronounced than we expected, and China headwinds have increased, leading to a more cautious IT spending environment. And yet those same customer conversations reinforce our confidence that demand will improve in the second half. Still, we've reassessed our 19 expectations based on the challenges we're seeing. Our full-year outlook is now $69 billion in revenue, down 3% -over-year, and down approximately $2.5 billion from our previous estimate. Given the magnitude of the change, we'll be somewhat more granular in explaining the drivers. We now see data-centric revenue down low single digits -over-year, with DCG down mid-single digits -over-year off a tough compare, continued China weakness, and inventory and capacity absorption. We are also anticipating an incrementally more challenging NAND pricing environment. Our PC-centric forecast remains unchanged at low single digits. We are forecasting operating margins to be 32%, down approximately 3 points -over-year, and down approximately 2 points from our previous guide. This outlook reflects lower full-year revenue and a -over-year decline in gross margins as a result of the 10-nanometer ramp and NAND pricing. We continue to see good discipline on spending and expect our exit from the 5G smartphone modem segment, annualizing 2018 spending actions, and incremental spending efficiencies to reduce OPEX by approximately $1 billion -over-year, partially offset in the impact of lower gross margins. We now forecast full-year EPS at $4.35 per share, down approximately 5% -over-year, and 25 cents from our previous guide. We now expect our full-year tax rate to be 12%, up 1 point -over-year, and down 1.5 points versus our prior guide, largely as a result of lower pretax income. Before I hand the call over to George, I'd like to welcome him as Intel's new CFO. I've known George for a long time from his CFO days at Applied Materials while I was a board member. He's a great person. He brings deep industry knowledge from prior roles. He's a true team player, and he cares deeply about people development and diversity. George will review our first quarter financials and second quarter guide, then we'll get to your questions. George?

Thanks, Bob, and good afternoon, everyone. I'm delighted to be at Intel and look forward to regularly engaging with our key stakeholders. Revenue for our first quarter came in at $16.1 billion, flat -on-year and slightly higher than our guide. Data-centric revenue was $7.5 billion, down 5%, and PC-centric revenue was $8.6 billion, up 4% -on-year. U1 operating margin was 28%, down 2 points due to cost of our 10-nanometer ramp and NAND reserves, partially offset by platform ASP strength as supply constraints at the low end in CCG led to an especially rich mix as well as lower spending overall. U1 EPS came in at $0.89, up 2% versus the prior year, and $0.02 over what we guided for the quarter. -to-date, we have generated $1.6 billion of free cash flow, returned $3.9 billion to shareholders, including dividends of $1.4 billion, and repurchased approximately 49 million shares. We are pleased with the team's focused execution for the quarter. We anticipated a challenging start to 2019, and that's what we have encountered. We also knew that the timing of our 10-nanometer ramp would pressure margins in the first quarter, and while we continue to make progress on the roadmap, that pressure remains a factor. We see customers becoming more cautious in their buying patterns, with the most acute deceleration happening in China. Demand pressure is particularly evident in our data center business, where we are seeing a continuing inventory correction in enterprise and comms and capacity digestion among cloud service providers who ramped consumption strongly in 2018. Non-GAAP EPS was up 2% -over-year, driven by strength in our client and IoT ASPs, lower spending, lower shares outstanding, and a McAfee dividend received in the quarter. Offsetting factors were continued NAND pricing pressure, 10-nanometer ramp costs, and weak enterprise and government data center demand. Our tax rate came in at 12.5%, up almost a point -over-year, due to non-recurring benefits in Q1 of 2018. We continued to improve our operating efficiency -over-year from .4% to .3% spending as a percent of revenue. Total spending was down 7% -over-year in the quarter, as we drove efficiencies in our SG&A spending and kept R&D spending flat compared to the prior year. Within that overall flat R&D spend, we are making thoughtful trade-offs so that we can amplify the investment in the key priorities to grow the business. This has resulted in more investment in 10-nanometer and 7-nanometer process technology, in accelerating roadmaps in DCG and CCG, and in key growth areas like autonomous driving, AI, and 5G network infrastructure. Let me now break down our performance by segment. Our data center group ended the quarter with revenue at $4.9 billion, down 6% from the prior year and 19% sequentially, within our expected range of sequential decline, given the headwinds we noted last quarter. Against the challenging -over-year compare, platform units were down 8%. We saw record Xeon ASPs as customers continued to select high-performance products. We also saw a strong ramp of network SOCs, resulting in moderation of our blended platform ASP. Non-CPU adjacencies were up 2%, driven by strength in network ASICs and silicon photonics. Cloud revenue grew 5% -over-year in the first quarter, as cloud service providers absorbed capacity put in place in 2018. Enterprise and government revenue declined by 21%, and comms service provider revenue declined 4% -over-year in the first quarter, as both enterprise and comms customers worked through inventory, and China demand weakened. Overall, our data-centric businesses were flat -over-year. Our IoT businesses saw 19% revenue growth adjusted for Wind River and operating income growth of 11% -on-year due to a mixed shift to higher core products in the quarter, with a growth of compute-intensive applications like AI and computer vision. Mobileye had record revenue up 38% due to an expanded product portfolio and customer base. Our memory business was down 12% due to continued NAND pricing pressures offset by NAND data center and client bit growth. Operating income for this group is driven by NAND ASP deterioration and demand softness, resulting in inventory revaluations. The PSG group declined 2% -on-year due to weakness in cloud and enterprise, partially offset by strength in wireless and advanced node products. The client computing group showed continued growth, with revenue up 4% -over-year. Platform revenue was up 3%, driven by strength in large commercial and gaming. Modem drove the majority of strength in the adjacencies, resulting in a 26% increase over the prior year. We have added supply capacity and continue working closely with our customers to align our available supply to their demand. However, supply of our PC processors and chipsets remains tight, particularly for our small core products, as we prioritize big core. We saw strong ASP growth in desktop and notebook, in part due to the small core constraints, but also on strong performance in gaming. Constraints were also responsible for the -over-year decline in volume. This quarter, we generated $5 billion in operating cash flow, and we invested $3.3 billion to expand our 14 nanometer capacity and ramp 10 nanometer. We raised the dividend by 5% and repurchased 49 million shares. Let me wrap up with our Q2 outlook. We expect Q2 revenue to be $15.6 billion, down 8% -over-year. Our data-centric businesses are expected to decline in the high single digits -over-year, as memory pricing declines weigh on our NAND business and DCG customers continue to consume inventory and absorb capacity. We expect DCG to be approximately flat sequentially. The PC-centric segment is expected to decline in the high single digits on declining PC ASPs on a relative mix of more small core units. Operating margin in Q2 is expected to be 29%, down 4 points -over-year on lower platform revenue, the 4G modem ramp, and NAND pricing. We forecast earnings per share of 89 cents, flat sequentially, and down 15 cents -over-year. We expect the non-GAAP tax rate in the quarter to be 11.5%. I will conclude here and turn the call back to Mark. Great.

Thank you, George. After that eventful start to the call, we'll now move on to the Q&A. As is our normal practice, we'll ask each participant to ask just one question. Operator, please go ahead and introduce our first caller.

Certainly. Our first question comes from the line of Joe Moore from Morgan Stanley. Your question, please.

Joe, can you hear us? We can't hear you.

Mr. Moore, if your line is on mute, could you unmute it?

Operator, why don't we go ahead and move on to the next caller,

please. Certainly. Our next question comes from the line of Aaron Rakers. Your question, please.

Yeah, thanks for taking the question. As we think about the gross margin trajectory through the course of the year, I'm wondering if you could help us understand the delta between the impact of 10 nanometer ramping relative to the impact that you're seeing that seems like it's going to persist related to NAND flash.

Yeah, it's lots of movement going on in the gross margin line. I'd start by saying implied in our guide for the first half is roughly 60 percent. So it implies a little increase off of Q1. And our implied guide then for full year is almost 60 percent. So through all the ups and downs, it's going to be quite a bit of consistency. That being said, Q1 will likely be the lowest because, as I indicated in my prepared remarks, we intend to qualify the 10 nanometer part in the second quarter. So what that means is in the first quarter, all of our 10 nanometer cost is flowing through cost of sales. When we qualify, it goes on the balance sheet. And then when we sell those previously reserved units in the third quarter, those units go out with no cost. So the dynamics imply low Q1 and a much stronger Q3, but through it all, fairly stable at roughly 60 percent level. On the year on year decline, obviously the NSG pricing is having a real impact on us. We expect NSG for the year to be down roughly 10 percent almost. And that is primarily driven by significant change in pricing dynamics during the course of the year. So that'll be a headwind force throughout the year.

Thank you very much.

Thanks,

Aaron.

Hey, Aaron, sorry, I should probably add something, Mark. The one last thing is, as we indicated, we expect to have systems on shelf in the fourth quarter for holiday season. And that given the progress we've made on 10, we're going to be shipping more units in the fourth quarter than we previously anticipated. So all else equal, that implies Q4 would be a little bit lower than the full year guide.

Thank you. Once again, Joe Moore, your line is open.

Hi, I hope you can hear me now. With regards to DCG being down mid-single digits for the year, I understand the issues in the first half, but it seems like the Cloud guys were, you know, the CapEx has been okay. And I thought we had a little bit more of a snap back in the back half. Can you talk a little bit more about the dynamics, specifically on the Cloud side and related to the inventory that they may have of your parts there?

Yeah, Joe, as you know, we came off a very strong 2018 up 21 percent. As we came into the year, implied in our guide, particularly in Q1, was our expectations that we'd be in quite a digestion period, both for enterprise and government, but Cloud as well, and that that would really impact Q1. What we're highlighting today as it relates to Cloud is two things, that we expect the digestion to continue into Q2. That demand is going to be soft in Q2, and it's even exacerbated in China, where, if you'll remember, through the third quarter last year, our demand for Cloud players in China was close to triple digit. That was negative in the first quarter. So overall, they're still in a digestion period, the Cloud guys, and in China, it's been even more dramatic in the first quarter, in the first couple weeks here in the second quarter. That being said, when we ask about, you know, we look at end demand, you know, in this data-centric environment, when we're looking at end demand, it still seems relatively strong, and in our dialogues with our customers, they are implying an uptick as we move from first half into second half.

Great. Thank you.

Thanks, Bill.

Thank you. Our next question comes from the line, Kuchihari from Goldman Sachs. Your question, please.

Great. Thank you so much for taking the question. I had a question on your enterprise business within DCG. I was a little bit surprised by the magnitude of the decline in Q1. Bob, in your view, and based on what you know, what you hear from customers, how much of that decline is tied to true end demand versus inventory dynamics at your customers? And I ask that question because, you know, some of your customers may have pre-bought in fear of supply constraints. Thank you.

Yeah, it's a great question. Truly, we believe that there's the end demand, and forget about which segment, but end demand remains relatively strong. But by segment, enterprise and government, -on-year decline was not way off what we expected because we didn't have a real robust guide for Q1, but we have seen it continue into the second quarter. And I just think that the ordering ahead or the digestion of last year's strong growth, we expect now just to continue in enterprise and government through the first half and even a little more into the second half as it relates to ENG.

Thank you. Thank you. Our next question comes to the line of Stacy Raskin from Bernstein Research. Your question, please.

Hi, guys. Thanks for taking my question. I wanted to know, of the -single-digit decline for data center, how much of that do you think is units versus pricing? I would have expected with the new platform launch, we might have seen better. And obviously you have the inventory and digestion and everything, but there's also competition that's coming in the second half. So, how do you see units versus pricing declining within the envelope of your down mid-single digits for the business overall?

Yeah, we kind of, as we came in, the updated guide, the guide down is more a unit story. When we came into the year back in January, our expectation on ASPs is that they would be pressured in DCG by two things in particular. One, just we indicated at the time that we expected an increased competitive environment as we go into the second half. And then two, as we look at 5G SOCs beginning to ramp as we go into the fourth quarter, they tend to be at lower ASPs. So, we expect product enhancements, but offset by tougher competitive environment and mix of SOCs for the comm service providers. So, the big change from January is really more a unit story. And we think we bounded the ASPs best we could back in January timeframe. That hasn't changed.

Thank you. Our next question comes from the line of CJ Muse from Evercore. Your question, please.

Yeah, good afternoon. Thank you for taking the question. I guess a question on the modem side of things. As you think about the cost savings as you do emphasize that business, will that be repurposed or should that accrue to the bottom line? And can you give some thoughts as to what the cost savings will look like and what timeframe we should see it?

Yeah, CJ, let me take a run and ask George to chime in as well. You know, we announced that we were going to exit the 5G smartphone business and that we were going to evaluate the 5G modem and other applications like PC and IoT while assessing our alternatives as it relates to the 5G modem overall. So what's reflected in kind of the updated guide we gave is we do expect lower spending for 5G smartphone as we go through the course of the year. That is part of the lower spending going into the second half that we reflected. But we also, we haven't really completed our assessment about what to do with the wonderful IP that we've developed, the real strong team that we have, and the other opportunities we have, whether it's in network infrastructure where we're really excited about the role we'll play in 5G or whether it's the role that a 5G modem plays in these non-smartphone applications. So that's something that we're working very hard on to try to get to the right answer about how we'll deal with the technologies we built, the capabilities we have, and what the implications will be on cost structure as we go into the second half of the year and into next year. So that's still a work in progress.

And CJ, I just might add, you know, as we talked about spending being down a billion dollars year over year, I would say the expectations for slowing 5G spend or reducing 5G smartphone spend prior to getting through the decision process that we're going through right now is maybe 20 to 30 percent of that. So there's not a lot yet evident in the spend rate that we're talking about that results from the 5G modem business.

Thanks, CJ.

Thank you. Our next question comes from the line of John Pitzer from Credit Suisse. Your question, please.

Yeah, good afternoon, guys. Bob, thanks, as always, for all the detail. I know you would like us to focus a little bit more on op margin than gross margin, but I just want to go back to the gross margin line. As far as I can remember, with an inline revenue quarter for March, this is the most significant gross margin missed to street estimates that I can remember for the company. And I know you've talked about 10 nanometer volumes being higher than you expected this year. Can you talk a little bit about the yield curve and kind of the cost of 10 nanometer? And I guess really importantly, if the long-term sort of upper range of your gross margin had been 60 to 65, do you still think that that's the right sort of higher end range as we go through the 10 nanometer node for CPUs, notwithstanding that some of the adjacencies are lower gross margin?

Yeah, thanks, John. Well, first, in the first quarter, you know, kind of two things that really impacted gross margin. And one, frankly, we planned for and it played out as we expected, and two, we did not plan for. But the one we planned for is just as we ramp 10, as you're aware, and I mentioned earlier, until we qualify the product, which we expect to do in the second quarter, all that cost flows through cost of sales. So when we're in early stages of ramp prior to qualification, you know, that does impress gross margin. And that played out as we expected because I mentioned in my prepared remarks that our progress and our improvement on 10 nanometer yields was in line with what we've expected coming into the year. A little bit better, they gave us the comfort that we're going to increase volume at the end of the year. But Q1 is just the dynamics of all of that ramp cost going through cost of sales. That was planned and that was anticipated. The not planned in the quarter was just the ASP declines much greater than we had anticipated for NSG. We were expecting kind of mid-20s to 30% ASP declines. The reality is it was closer to the mid-40s. And as a result, and George flagged us, but as a result, we had to take a lower cost or market reserve against our inventory balance in the quarter. You know, that cost us over a point of gross margins in the quarter. But that we did not quite anticipate. So gross margin Q1 in line with kind of what we thought with the exception of inventory reserves that we took in the quarter. And as I said, Q2, we expect it to be better than Q1 because we'll begin to capitalize those costs because of the progress we're making on 10 nanometer. And then just to kind of go from your Q1 to your five years out point of view, you know, I guess maybe on the gross margin, operating margin dynamics, maybe we'll defer that -to-can a couple weeks until we see you on May 8th when we kind of walk through our longer range planning process. Perfect. Thank you.

Thank you. Our next question comes from the line of Timothy Akurey from UBS. Your question, please.

Thank you. Bob, I wanted to ask you just a question strategically about memory. And I wanted to understand, you know, obviously you need to make cross-point, but, you know, relative to NAND, why the need to make NAND on your own? It seems like you could sell the factory and maybe strike some sort of a supply agreement and save a lot of free cash flow, you know, particularly after a quarter where it basically costs you a hundred basis points. Thank you.

Yeah, you know, first maybe just some context on when we talk about expanded TAM, maybe the criteria we think about, and then I'll try to apply them to where we are in memory. First, you know, we look for technology inflections where we think we have a real advantage, whether it's process manufacturing or performance-oriented design that is worth pursuing, number one. Number two, such that we can play a more important role in the success of our customers. And third, in an area where we think we can get attractive returns for our investors. So those are the three criteria that we're applying, and we're going to be increasingly disciplined on the third aspect of those criteria. As it relates to memory, we have a high-performance Optane product that we think is really differentiated, coupled with our CPU that can do things best in industry that's really needed to keep pace with the increased performance of CPU processing. So strategically, we think it's really important. Technically, we think we have a real advantage. And third, we think we can get good returns. As it relates to NAND, you know, we think we have process technology advantage. We're at this stage where we've gone from 32-layer to 64-layer now. The profitability of the NAND business pre this massive decline in ASPs was okay last year as we were ramping the business. And our challenge going forward is we're just going to have to execute better in the NAND business. So we can check that third box of attractive returns for our investors. And I don't want to, when the markets plummeted, I don't want to conclude what the right decision is. I want to maybe look through the horizon a little bit to get to the right decision. But clearly, we've got to generate more attractive returns on the NAND side of the business. And the team is very focused on making that a reality. And to the extent there's a partnership out there that's going to increase the likelihood and or accelerate the pace, we're going to evaluate those partnerships along the way so it can be enhancing to the returns of what we do in the memory space.

Thank you,

Bob. Thank you. Our next question comes from the line, David Wong from Numero. Your question, please.

Thanks very much. Bob, given your stance on concentration of resources, what are you thinking with regard to Intel developing its own GPU products? And if you are pressing ahead with this, can you give us an update on where you are and when we might see the first Intel GPUs?

Yeah. I mean, first, as we think about the key technologies that we believe are going to be increasingly important going forward, I flagged them earlier, but we characterize them as our kind of our six pillars of technology differentiation. Obviously, process technology is an important component. Second, architecture, I'll come back to that. Third, memory. Fourth, interconnect. Fifth, security. And sixth, software. And how we bring the collection of those six things together that nobody else in the industry can do, we think is really what's going to allow us to capitalize on an increasingly data-centric world. When we think about architecture, you know, we just, as we learn more and more about how workloads are evolving and the increasingly importance of artificial intelligence and parallel processing, we believe that architectures beyond the CPU, like GPU, like FPGA, like AI, like other accelerators, become increasingly important. So we have decided that we are going to invest in discrete GPUs. We're going to launch a new integrated GPU in the near term, which we're pretty excited about. But discrete GPUs, I think we said that we were going to launch it in 2020 timeframe, both for clients and for a data center. Increased workloads, we're going to leverage the integrated technology that we've enhanced and invest in discrete GPUs because we think it's an architecture that's increasingly important. And we think we can develop some real attractive products based on our existing core architecture.

Great. Thanks.

Thank you. Our next question comes from the line of Vivek Arya from Bank of America. Your question, please.

Thanks for taking my question. Bob, I had a question on 10-nanometer progress and the competition on the server side. I know the team is sounding more confident about 10-nanometer on the client side. I'm curious what the progress is on 10-nanometer and the server side. As part of that, how do you think your customers are reacting to a competitor bringing out their products in the backup? Your products are coming out next year. What are you hearing from customers as to how they are thinking about the next generation of server CPUs and the desire for perhaps diversifying suppliers?

First, on 10-nanometer for server, what we've indicated is that we would have client systems on shelf for the holiday season. And our expectation is that server CPUs would be a fast follow. Historically, I think it's been more of a 12 to 18-month gap between client and then server. On 10-nanometer, that gap will be much shorter. And again, all we've said is fast follow after client systems on shelf sometime in 2020. Earlier versus later. In terms of just competitive positioning, our Xeon scalable product that we launched last year and then enhanced with our Cascade Lake launch just a few weeks ago, I think, that has increased performance. It's got AI acceleration built into it. It's coupled with Optane memory. It's got a 56-core count. And the performance of that product coupled with our knowledge of the environments in which our customers' environments, we think we really have demonstrated differentiated product leadership performance, even though it is still on 14 nanometers. So we have a good product that really pulls together those six pillars that I talked about earlier. We launched it a few weeks ago. We said we expect it to ramp as fast as any launch that we've done in the past. And we think it positions us competitively in the second half of the year, despite increased competition prior to launch in 10 nanometer in 2020. So we feel good about 10 nanometer in general. We're going to be a fast follow with server in 2020. In the meantime, the Cascade Lake product has some real performance enhancements based on our deep domain knowledge of our customers. And it'll be an increased competitive environment, but we feel pretty good. And we tried the best we could to capture that in our outlook for 2019.

Thank you.

Thanks,

Rebecca. Thank you. Our next question comes from the line of Harlan Serf from JPMorgan. Your question, please.

Good afternoon. Thanks for taking my question. 5G networking activity is very strong and projected to continue to accelerate on a go-forward basis. Korea, China, U.S., all starting to fire. You guys have a great lineup of products, Xeon D, full-blown Xeon, base station A6, FPGAs, and so on. So help us understand, given all these dynamics, why did the comm service provider segment decline year over year in Q1? And maybe more importantly, just given the strong 5G lineup that you have, do you see comm service provider contributing to the strong second half implied growth in your data-centric segment guidance for the full year?

Yeah, I think first, yes, we feel like we got a great product lineup for the launch of 5G. We have a strong position today, and we think 5G is only going to accelerate that across a broad swath of our products and technologies. A couple things going on, we believe, in Q1. One, just in terms of the increased demand, we do expect it to be coming maybe a little bit later in the year. I think FPGAs a little bit earlier, but the Xeon we expect to follow later in the year, and even more in 2020, to be honest with you. So timing, we expect it to be out a little bit. Modest improvement in the second half, but not dramatic. And the other thing I would say is that we have a strong customer base in China in comms. And like we saw on cloud and enterprise and government, comms growth we think was also impacted by long comms growth last year. It's probably being digested a little bit in the first couple quarters of this year. Again, one of our large customers in China is a contributor to the question earlier about buying ahead and then digestion is a weight on comms growth in the first quarter. But we're pretty excited about the demand signals. We're seeing the relationships we've built for 5G and think it's going to be a really important part of our story going forward.

Thanks, Bob.

Thanks, Harlan. And operator, I think we've got time for two more questions.

Certainly. Our next question comes from the line of Ambrisha Vastava from BMO. Your question, please.

Hi. Thank you very much, Bob. I just wanted to – I was wondering if you could shed more light on the DCG op margin. We've not seen this low number in quite a few quarters, I think six to eight quarters, 38%. And you list three reasons, but it disproportionately seems to be lower versus the revenue decline. Could you shed a little bit more light and more importantly, how should we expect this to trend as the year progresses?

Yeah. I mean, I think the things we flagged, obviously, unit volume declines on a high margin business worked against us. Secondly, it's really DCG now. I talked about the fast follow of DCG on 10 nanometer after client launch. So as a result, they're just now beginning to bear some of the brunt of the cost of sales that all went through the P&L in first quarter until those products qualified. And then third, this is a big growth area for us, and we're going to continue to make investments. And those three things are really what drove the op margin decline in the quarter. As you know, just from historical trends, data center margins tend to be a little bit lower in the first quarter. And obviously, implied in our guide, first half to second half, second half is a little stronger. And with that strength on unit volume, despite maybe more intense ASP environment, we expect operating margins to kind of improve in line with revenue growth in the second half.

Thank

you. These trends are fairly consistent with how the quarterly dynamics of DCG operating margins go. They're just more exacerbated in Q1 with the 10 nanometer cost of sales start and impact of business.

Okay, makes sense.

Thank you.

Thank you. Our final question for tonight comes from the line of Lane Curtis from Barclays. Your question, please.

Hey, guys. Thanks for squeezing me in. Just one more on gross margin if possible. And I know you don't want to comment on 20, but I'm just trying to understand the trajectory here because it seems like your 10 nanometer has been delayed. You're ramping it now. It does seem like it's on a portion of the product line, not like the old days where it would flip over all of clients. I'm just trying to understand if you look at the impact you saw this year, why is it incorrect to think about that you should see a similar impact next year?

Well, you know, I think you know that, you know, our expectations are as we begin to ramp high volume manufacturing that in conjunction with that we expect to see improve yields and better unit to die performance as we go throughout the course of the year and as we step on the pedal in ramping volume. So, you know, the part of the answer is we expect to improve yields as we as we go forward. But but that being said, you know, any time we transition to a new node, the earlier stages tend to be, you know, have a little bit of a compression effect on gross margins until we get a little more maturity. And I don't want to get I don't want to get out ahead on 2020. We're more focused on 19 right now. But it's natural for the transition to a new node early stages to have a bit of a downward pressure on gross margin.

Great. Thanks, Blaine. And thank you all for joining us today. Operator, please go ahead and wrap up the call.

Certainly. Ladies and gentlemen, thank you for your participation at today's conference. This does conclude the program. You may now disconnect. Good day.