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Intel’s financial results provide useful insight into the economic activities of the Cloud and Colo market. Effectively all of the CPUs (and now FPGAs) used in data centers come from Intel, and the company is slowly extending into other businesses via silicon photonics. The company reported results this week and digging through the numbers foreshadows an interesting conclusion about Cloud and Colo spend in 3Q16.

Intel reported yet another record quarter in its Datacenter business group (DCG), securing $4.5B in revenue with 10% YoY growth. This is Intel’s most strategic business – it is responsible for generating half of the companies profits despite being less than a third of total revenue.

This quarters DCG results were especially notable because of explosive growth in the cloud and colo sub-segment of DCG, i.e. sales directly to the Webco’s.

CEO Brian M. Krzanich:

We saw the growth segments of the Data Center Group accelerating at a rate above our forecast. The Cloud Service Provider segment was up 32%. And the competitive service provider segment continued to grow at a faster rate than the market, 16% growth as the market converts of NFV and SDN and demand for our products increased.

The 32% growth in the cloud and colo market this quarter is much faster than previous quarters. At this point, it is compounding from what is now a larger number than a year ago. This is what we know about the growth of these segments within Intel:

Calendar Quarter Datacenter Cloud & Colo (YoY Growth)
3Q16 +10% +32%
2Q16 +5% +9%
3Q16 +9% N/A
2Q16 +5% +20%
3Q16 +12% N/A

Basically, Intel had a spectacular quarter selling to cloud and colo customers, something that hasn’t really been noticed. The key question is – why?

Part of this is new products. Intel highlighted that DCG is no longer just a processor play and noted an expectation that silicon photonics & memory products are ramping into this segment as well.

In addition, non-CPU adjacency across DCG grew an impressive 34%. This category includes our new omni-path high-performance fabric which is leading in performance and gaining design win momentum. It includes our Silicon Photonics and our Xeon Phi, all of which began to ramp this year… All of those are growing at or above what we had forecasted and doing quite well.

But revenue from silicon photonics and new memories are not yet material. Most of this is organic growth from existing product areas.

Our theory: this growth could be the result of the transition to 25 Gigabit electronics & 100GbE finally kicking in. This could be catalyzing a burst in spending all the way down to the compute infrastructure Intel supplies. The Intel CEO fielded a good question from JP Morgan analyst during their Q1 call six months ago – it is worth revisting:

Harlan Sur – JPMorgan Securities LLC

There seems to be a big upgrade cycle in networking with the move to 25-gigabit. You guys are rolling out 14nm Broadwell. Can you guys just be a bit more specific on expectations for DCG growth?

Brian M. Krzanich – Chief Executive Officer & Director

You did a great job explaining exactly why we believe that the data center will continue in double-digit growth this year. And if you take a look at the numbers that Stacy has talked about, they incorporate double-digit growth and it’s for exactly those reasons. We believe we have great products that we are introducing with the Broadwell lineup. We have got – we started shipping our first Xeon plus FPGA samples to customers, which was part of our additional gaining more footprint and more performance in certain segments of the Data Center.

We’re shipping an Omni-Path Fabric now. Later this year, we will have Silicon Photonics. We’ve got 3D XPoint starting to be sampled, and will start to ramp later this year. So we’re very confident on our Data Center roadmap and we are still absolutely forecasting double-digit growth in that space.

It is a circumstantial data point, but Intel is signalling there is a refresh cycle underway in the datacenter. We also heard at ECOC2016 that component vendors are under great pressure to deliver QSFP28 optics in volume. It will be very interesting to see what optical component vendors have to say as earnings season kicks off.

We hate to end on a negative note but Intel wasn’t confident enough about the segment to extrapolate into 2017 and expect the same levels of growth to continue, and the company both cut it’s 4Q forecast and withdrew previous provided guidance about it’s 2017 business. One can’t imagine they did this because things are trending better than expected.

C.J. Muse – Evercore partners

On DCG, you took the number down for Q4. Curious how we should think about contribution from enterprise looking into 2017, when you think that could stabilize. And then as you start to think about greater contributions from hyperscale and networking, is that 10% to 15% sustainable or should we be thinking high single digits going forward?

Stacy Smith – CFO

What we’re seeing in the Data Center is very strong growth rates in the cloud, very strong growth rates in networking and storage as those areas become virtualized and our products extending to those areas.

And then we saw some weakness in the enterprise in Q3 and that’s what we’re expecting for Q4. I think we’re going to hold-off on providing a forecast for 2017 at this time. We would normally provide that to you in January and then have a much more in-depth conversation in the investor meeting in February