This Chipmaker Rewards Shareholders and Sees Huge Potential in a Growing Market

The next technological trend is here, and today's company is profiting off it...

With the advent of machine learning and artificial intelligence, and an explosion of data that needs to be stored somewhere, semiconductors – or "chips" – are becoming an indispensable cornerstone of our increasingly digital society.

And semiconductors aren't just used for these super-tech, futuristic processes. Believe it or not, almost every technological device relies on chips to operate. Your smartphone, personal computer ("PC"), and cloud storage would all be rendered useless without chips.

And there's another market that has huge demand for chips – data centers.

You see, much of the work performed on your home computer or smartphone isn't stored on the device anymore...

Instead, the data are off-loaded to massive data centers all over the world. When you use cloud services (like Amazon Web Services) to store data, an Intel chip is likely running your computations. These centers don't use regular old computers either.

Data centers have specific needs for power consumption and distributing workloads across their servers. And the big data-center operators – like Google, Facebook, and Equinix – also regularly place million-dollar orders for specialized chips for these tasks.

As more and more data need to be stored in data centers, chip demand will remain high.

And that's great news for today's company...

We're talking about Intel (Nasdaq: INTC). Intel is a $250 billion chipmaking giant – the largest maker of semiconductors in the world.

Intel jockeys with Samsung are known for being the world leader in semiconductors. They split about 30% of the market. When you look specifically at chips that end up in computers (as opposed to automotive or industrial applications), Intel alone owns 41% of the market.

Today, Intel's big opportunity is its data-center chips. Right now, the company does about $70 billion in revenue per year. The data-center market could be worth another $65 billion in sales – though there is some competition.

Intel's data-center chips, the Xeon and Xeon Phi, are more like a complete computer on a chip. They keep all the communication on one piece of silicon. This means it can have up to 60 cores all running at the same time and communicating directly. (If you go buy a good computer today, you'll have around four cores).

Having a large number of cores ensures that Intel is ready to cope with high demand for its data centers.

Because of their high quality, Intel can charge a premium price for its chips.

The company also has high-performance, solid-state storage (think super-fast hard drives) that can improve data-center performance and power consumption.

Intel's data-center division posted sales of $23 billion last year – good for annual growth of 20.6%. That's much higher than the company's 13% overall growth.

Better yet, the division's margins are higher. Overall, Intel earns about 27% of sales as operating income. But its data-center division earns 49%.

Intel's thick margins trickle down to free cash flow ("FCF"). FCF is simply a measure of a company's "cash profits" minus "capital expenditures" – or "capex." And remember, FCF is the one metric we value most. That's because you can't fake cash... It's the one number on the financial statement that can't lie. This is what makes FCF an ideal way to measure profitability.

Of Intel's $70 billion in sales last year, nearly $15 billion trickled down to FCF.

That means for every $1 Intel brought in with revenue, $0.21 went straight to FCF.

That's a great return. The average S&P 500 company is lucky if FCF makes up more than 10% of its revenue... and Intel's return is double that.

With such thick FCF margins, Intel loves to reward its shareholders. There are two ways companies can do this: through paying out dividends and stock buybacks. And Intel has a history of doing both. Since 2014, the company has bought back more than 10% of its shares outstanding.

And that theme continued this year...

Intel paid out $5.5 billion in dividends over the past 12 months, and bought back $11 billion worth in shares.

Intel's shares fell 26% earlier this year on a disappointing sales forecast due to the ongoing U.S.-China trade war. There was also uncertainty over the company's new CEO.

But recent results from the company show that any fears over the company's operations were overblown. Intel's third-quarter results, released in late-October, set new records for the company.

In the most recent quarter, Intel reported adjusted earnings per share of $1.42, blowing away estimates. Revenue for the quarter came in at a record-high $19.2 billion – also beating expectations.

And Intel reported that sales of its data-center chips grew 4% to $6.38 billion, a new record for the company.

Intel is a leading company in an industry that is mission-critical for all technology devices. Given the strong recent results and opportunity from data centers, Intel should remain a dominant player in the industry.

Sometimes investing is simple.