U.S.Federal Trade Commission investigators looking into allegations of Intel's tight-fisted control over PC makers might want to follow the money--specifically, the hundreds of millions of dollars Intel spends annually with PC makers for the Intel Inside program.
The wildly successful program, which began broadly in 1994 as a way to create brand equity for the Pentium processor, has evolved into Intel's premier marketing vehicle, managed by an army of attorneys, accountants and administrators.
Keeping foes at bay
Intel has deftly used the program to keep competitors at bay in the most profitable segment of its business: corporate PCs.
That, in turn, has left corporate buyers with fewer options--and higher prices--when choosing business desktops, notebooks and PC servers.
A look at the Intel Inside program requirements, which Intel keeps under tight wraps, shows how fully the chip maker controls the marketing purse strings of PC makers that sign on.
Interviews with numerous current and former executives at Intel's largest OEM customers--all of whom declined to be identified, fearing reprisals from Intel--add fuel to the fire. These executives call the program addictive and claim their companies can't compete without it.
The stakes are enormous. Funding from the Intel Inside program covered about half of one top PC maker's US$100 million 1997 advertising budget. Another licensee used the funding to pay for half of last year's US$64 million budget for non-U.S. regions.
Still another spent US$1.6 billion on Intel chips in 1997; as part of the program, the company was reimbursed about US$50 million for advertising.
Carrot and stick
"You're not competitive if you're not on board," said an official at a top PC maker.
The marketing dollars are enough of a carrot to make PC vendors sign off on Intel's restrictive program requirements.
Before PC makers are eligible for reimbursement, they must sign an OEM Trademark License Agreement that regulates everything from logo size and color to branding. (See story, "The letter of the law.")
The eligible systems are added to a form called Attachment C, which Intel uses to keep track of qualifying Intel Inside products. OEMs must modify Attachment C every time they introduce a new Intel-based system.
Once a PC maker meets all Attachment C guidelines, Intel reimburses 6 percent of the total average selling price of each vendor's worldwide monthly microprocessor shipments.
Intel development fund?
But Intel doesn't give the cash back to the PC makers to use as they wish.
Instead, it deposits the money into an Intel-managed market development fund, or MDF, which the vendors must use to pay for print, Web, broadcast or radio advertising of their Intel-based systems. If they don't use the funding within 12 months, they lose it.
The restrictions don't end there.
OEMs must submit every ad, regardless of medium, to Intel for approval. The Intel Inside Program Office checks on compliance for items such as size, color and prominence of Intel's logo; accompanying taglines; and, in the case of Web ads, click-throughs to Intel Web sites.
The restrictions don't end there. OEMs must submit every ad, regardless of medium, to Intel for approval. The Intel Inside Program Office checks on compliance for items such as size, color and prominence of Intel's logo; accompanying taglines; and, in the case of Web ads, click-throughs to Intel Web sites.
Intel also dictates the percentage of the funds that vendors must use for advertising in each medium.
Freezing funds
If a vendor strays from Intel's guidelines--even for an infraction as minor as using the wrong size Intel logo on their packaging--Intel can freeze its eligible marketing funds.
Since the funds come from the PC companies' chip payments, many customers believe Intel artificially inflates processor pricing to cover the costs.
"They already have your extra money," said a veteran executive who retired last year from a top PC company. "They're charging you more money and then giving it back to you so you can advertise their products."
The MDF "almost certainly" is one of the factors Intel builds into its pricing schemes, added a former Intel employee who requested anonymity. "Intel bases its prices on a few similar metrics, such as overall value of the architecture, value of that architecture [relative to] alternative architectures and how much volume you can drive at any given price point."
Allegations denied
Intel vehemently denies the allegation.
"Look at chip prices," said Chuck Mulloy, a spokesman for the Intel. "They've historically come down."
Citing the ongoing FTC investigation, Mulloy said no Intel executives could comment on the program. Without elaborating, he said Intel uses a "tried-and-true methodology" to determine pricing.
Nevertheless, pricing in the corporate PC market, where Intel has little competition, has dropped at a lower rate than in the retail/consumer market, where Intel has healthy competition from Advanced Micro Devices Inc. and Cyrix Corp. (see chart, below).
Some IT executives acknowledge the premiums they must pay for Intel-based systems. But large companies often can negotiate better pricing through volume purchase agreements, so they stay with Intel to maintain platform consistency.
Where companies end up
"We don't have an Intel-only mandate, but that's where we end up [because] we can negotiate pretty aggressive pricing [with our supplier]," said Ken Harris, vice president and chief information officer at Nike.
Nike, Harris added, wants "the fewest amount of moving parts" as it establishes a more consistent hardware and software platform globally.
In addition to its impact on pricing, the Intel Inside program also affects PC makers' product decisions. Although the guidelines don't prohibit use of non-Intel chips, they provide strong monetary disincentives for doing so, several OEMs said.
How strong? A licensee forfeits all MDF funding for a brand if it adds a non-Intel chip to the line. If it wishes to use another vendor's processor, it must establish an entirely new brand or sub-brand for that chip to retain funding for the existing brand.
'Major' factor
"There is no doubt that it's one of the major factors that influences [product] decisions," said a 20-year IBM PC executive who left the company in 1997.
The source spoke from experience. In 1995, he said, IBM built several prototypes of low-cost retail and small-office PCs based on Cyrix processors. But executives scrapped the plans, in part because they couldn't leave what the source described as a "substantial" amount of advertising money on the table.
The branding restrictions go a long way toward explaining why none of the top 10 PC makers uses non-Intel chips in its business desktop lines.
Nine of the 10 use non-Intel chips in separately branded systems targeted at the consumer or small-business markets. Dell is the only all-Intel shop.
Rivals shut out
While AMD and Cyrix have made significant strides in the retail space--the two rival chip makers collectively account for nearly 75 percent of the chips in the sub-US$1,000 PC market--they're virtually unseen in the more lucrative corporate PC arena.
There, AMD and Cyrix have been hampered by lingering corporate conservatism toward non-Intel chips and internal business and manufacturing issues that have inhibited their ability to meet demand. (See ZD InfoBeads' research for market data on Intel and its rivals.)
But they've also been blunted by Intel's ability, through the Intel Inside program, to entice PC makers to push Intel processors harder.
Take Intel's current advertising "special" for Pentium III and Pentium II Xeon processors. Intel is encouraging PC makers to spend up to 75 percent of available market development funds on print and broadcast advertising for those new processors. The normal limit is 60 percent.
Depending on the number of chips shipped to vendors, that means significantly more funds being poured into promoting new Intel chips, further propagating mind share and, as a result, market share.
Attracting FTC scrutiny
This type of influence has drawn the FTC's attention as it looks into broader parts of Intel's business. Two witnesses deposed by the FTC during its earlier investigation of the chip maker said FTC lawyers asked many questions about chip pricing and the Intel Inside campaign.
"The FTC is after anything that smells of monopolistic practices," said one of those deposed.
Richard Parker, who would have been lead FTC attorney in the Intel trial had the two sides not settled their initial dispute last month, declined to discuss specifics of the ongoing investigation. Parker acknowledged, however, that the FTC is using some of the information deposed from witnesses in the earlier case to look into possible anti-competitive practices.
"Sometimes when you're investigating something, you notice conduct along the way that [can be put aside and investigated separately later]," he said, explaining why the FTC didn't broaden its original case.
'Legal, lawful'
Intel's Mulloy staunchly denied any suggestion that the company is engaging in anti-competitive behavior through the Intel Inside program.
"It is a legal, lawful program designed to support the Intel brand and generate demand for those who participate in the program," said Mulloy, adding that it is "scrubbed thoroughly" for any potential legal infractions.
Mulloy also downplayed the program's impact on competitors or PC makers.
"PC makers make their own individual decisions," he said.
Some PC makers, publicly at least, concur. For the record, these vendors say they've yet to stray from Intel for their business PCs not because of Intel's tactics but because corporate customers don't want them to.
"There's no reason to change," said Mike Borg, PC Business Unit manager at Hewlett-Packard. Corporate customers, Borg argued, are more comfortable with the Intel brand and are more concerned with quality and reliability than with low-ball pricing.
Intel brand resonates
Others agree that the Intel brand resonates with corporate customers.
"Intel Inside is obviously a force in the marketplace because it's perceived as the safe choice," said Will Townsend, manager of Deskpro platform marketing at Houston-based Compaq Computer.
Not all corporate customers agree.
"If my suppliers [Compaq and Dell] had AMD-based corporate systems, I wouldn't turn them down," said Henry Danziger, vice president of IT at Johnson Controls. "But I'd want a few hundred dollars differential."
The "Intel Inside" logo, Danziger added, matters less than it did several years ago. Consistency of configuration and longer life cycles for PCs are more important, he said.
PC makers' hesitance in using non-Intel chips in corporate systems could be put to the test in June, when AMD releases the K7 processor, its first chip geared specifically toward enterprise markets. Officials at AMD said several PC makers have been sampling the K7 since last year, but they won't identify the companies or say if they're committed to building systems around it. Companies that currently use AMD chips, such as IBM and HP, declined to comment on whether they plan to use the K7.
To make the platform more attractive, AMD is hoping to take a page out of Intel's book with enhancements to the market development program already in place with the K6. AMD officials declined to discuss specifics of those changes.
Daunting task
When it comes to marketing, taking on the chip giant is no easy task. Cyrix, of Richardson, Texas, toyed with the idea of a market development program in the mid-1990s.
"We considered similar programs and provided funds on a case-by-case basis, but we lacked the business structure to do that," said Steve Tobak, vice president of corporate marketing at National Semiconductor which purchased Cyrix in 1997.
The Intel Inside program, Tobak said, "clearly raises barriers [for competitors], although a lot of those have broken down in the consumer and small-office market."
The remaining barriers are not likely to fall until a large PC maker breaks ranks and begins using processors from AMD or another chip maker in corporate PCs. Compaq took a step in that direction last week when it announced plans to use AMD chips in some ProSignia notebooks for small and medium-size businesses. (See story, "Compaq strays from Intel again.")
When Compaq chose Cyrix chips for a line of Presario PCs in January 1997, it validated the low-cost PC segment and gave the unofficial thumbs up to using non-Intel chips. All major PC makers with the exception of Dell have followed suit.
'Stranglehold' remains
Until a similar event takes place in the corporate market, Intel's stranglehold in that space is not likely to weaken. And it will continue to use the Intel Inside program to keep PC makers in the fold.
While Intel is certainly not the only company to establish lavish cooperative marketing programs, the FTC's Parker points out an important difference in Intel's case.
"The rules that apply to a monopolist don't apply to anyone else," he said. "If there is one supplier of widgets, then you're dependent on them [regardless of] their conduct. If there are 10 suppliers and you don't like what they're doing, you've got choices."
