Mathew Ingram: Goliath lands a mighty blow

Even though it is dramatically smaller than its main competitor, until recently many analysts and investors thought Advanced Micro Devices had the upper hand on Intel.

Not only did AMD have what many felt was a more attractive range of processors than Intel, offering faster speeds and lower power consumption, but it charged less for them and gained some key customers - leaving Intel saddled with excess inventory and higher costs.

There's just one problem for a David battling a Goliath, however: when the big guy lands a blow, it can really hurt. AMD appears to be finding that out the hard way.

The company announced late last week that its revenue this quarter will be almost 10 per cent lower than in the previous quarter, sharply below estimates from analysts.

The simple reason for the drop is that Intel has decided to play hardball with its competitor and has cut prices across the board - first in May, then last month, and probably this month as well. That means not only a slump in demand for AMD's chips as some buyers shift to its competitor, but also a blow to the bottom line as it tries to match the price reductions from its much larger competitor.

Analysts at Stifel Nicolaus expect AMD to be under further pressure in the coming months, and believe Intel's impact has just begun to be felt. "We believe things will get worse before they get better," the brokerage firm said in a report for clients. "Intel's aggressive price cuts in May and June will likely be followed by more cuts in July as the firm works to clear the channel of older products."

AMD was also slow to respond to the initial price cuts, the brokerage firm said, perhaps because it wanted to minimise the damage to its bottom line - but all that did was delay the cuts it eventually had to make, and increase the short-term loss in market share.

Although AMD is still a strong company, Stifel Nicolaus said that the momentum in the chip sector "will likely shift in Intel's favour for at least the next few quarters".

While AMD has been strong in the corporate server market because of its superior products (although Intel is coming out soon with its own competitive chips in that market), its larger competitor is seen by some as having the advantage in the desktop and laptop markets, and that is where much of the industry momentum is.

"We continue to view AMD as quite vulnerable competitively for the next year, given our opinion that the company's product line is simply inferior in the desktop and notebook segments," said brokerage analysts for Moors & Cabot in a research note after the company's forecast was released. The firm rates AMD's shares as a sell.

"We believe it's going to be a tough summer for AMD," Moors & Cabot said in an earlier review of the chip sector, after the company started cutting prices to try to compete with Intel's price drop. AMD's dilemma, the brokerage said, "is that if they choose to maintain market share their average selling prices should plummet. If they choose to maintain average selling prices their market share should plummet ... we believe consensus estimates for AMD are in jeopardy for the rest of the year".

"The pricing war is escalating between Intel and AMD," Jefferies & Co analyst John Lau said. He has a "hold" rating on AMD stock.

Last month, executives from two of the biggest makers of computer circuit boards said that Intel promised them price cuts of up to 60 per cent over the coming months. Some market watchers said that the chip giant may have been trying to crimp demand - and thus land a blow on AMD - by giving the market advance warning of price drops.

Several other analysts noted that while AMD's technology gains put it further ahead earlier this year and last year, its competitor had been catching up, and had moved ahead in certain areas - which could give Intel the upper hand with some large chip buyers over the coming months.

In many ways, the microchip sector is like a tug of war, or a tennis match, in which the advantage shifts back and forth over time, depending on several factors. Six months ago, the advantage was definitely in AMD's favour but now Intel has the momentum. That could make the coming months unpleasant for the smaller company.