Intel to Offer Replacements for Flawed Chip
Reeling from an unprecedented consumer uproar, Intel Corp. reversed course on Tuesday and offered free replacements for its flawed Pentium computer chip along with a “sincere apology” for its botched handling of the situation.
Intel, one of the nation’s largest and most profitable high-tech companies, had tenaciously resisted such a move for weeks, arguing that the Pentium flaw was a minor problem affecting only a few scientists. But analysts say Intel failed to recognize that the personal computer business has become a consumer products business--and customer expectations have changed accordingly.
The belated mea culpa could cost Intel as much $1 billion, and it promises months of chaos in the PC world as consumers and vendors scramble to replace millions of Pentium chips. It remains unclear whether Intel will be able to avoid lasting damage to its reputation and its position as the dominant supplier of microprocessors, which form the brains inside personal computers.
The Intel chip furor didn’t affect sales much Tuesday at Computer City Supercenter in Santa Ana, said Gary Luce, the store’s retail sales manager.
“There really wasn’t a slowdown,” he said. “Most consumers already had caught up on the news that it wouldn’t affect them. People have asked a lot of questions, but they’re still buying it.”
Luce was not sure how replacements would be handled, but he pointed out that computer users themselves can easily change out the defective Intel chip with the new one. “You just lift a lever, and the chip falls out,” he said.
Intel President and Chief Executive Andrew S. Grove is widely regarded as one of the most brilliant men in American business, but over the last several weeks analysts say he has failed to understand the simplist of business maxims: the customer is always right.
Speaking in an early morning conference call with reporters and analysts Tuesday from company headquarters in Santa Clara, Calif., Grove admitted that Intel had mishandled the issue by, for example, grilling consumers who wanted replacements to see if the replacement was really necessary.
“To some people this seemed arrogant and uncaring; we apologize for that,” Grove said. Intel’s apology and offer to replace the chip without questions asked will be published in national newspapers in America, Japan and Europe beginning today.
The Pentium problem emerged last month when a Virginia math professor said Intel’s newest and most elaborate microprocessor made mistakes in certain division calculations. Intel then disclosed that it had known about the problem since last summer. That admission infuriated many customers, who took to the Internet computer network to air their indignation.
Major newspapers then began to report the problem, and IBM Corp. sounded another alarm last week when it said it would stop shipping Pentium chips.
All of this was a rude awakening for Intel, which had been accustomed to dealing with technically sophisticated buyers who were willing to accept a certain level of flaws in a chip. Consumer outrage expressed over electronic mail and in tens of thousands of phone calls to Intel’s hot lines played a key role in the company’s change of heart, according to Intel insiders.
“Intel has been an engineering driven company and they took a hard-core engineering stance,” said John Lazlo, analyst at Paine Webber. “It proved to be the wrong stance and they had to eat their words.”
Admitted a somewhat befuddled Grove: “What we view as an extremely minor problem has taken on a life of its own.”
But even as he apologized, Grove warned that leading edge microprocessors like the Pentium are so complex “testing methodology cannot ensure that all errors will be caught.”
Such admissions are a surprise to many consumers who have equated high technology with high accuracy.
“This represents a loss of innocence for consumers buying computers,” said Paul Saffo, director of the Institute for the Future, a Menlo Park-based think tank. “It will be a long time before buyers trust computers or computer manufacturers again. People can’t assume that just because it’s in silicon it is accurate.”
Intel itself has been a leader in the drive to make the PC a consumer product, and it has deliberately sought to build its own brand name with the $150-million “Intel Inside” advertising campaign.
But it will now have to work hard to repair its image on two fronts: with consumers who might associate the company with the flawed chip, and with personal computer manufacturers who have long resented Intel’s power and are furious over the way the company has handled the Pentium problem.
While IBM and Compaq Computer said early on that they would replace Pentium chips for any of their customers, other vendors, including Dell, AST Research and Gateway 2000, stuck by Intel’s assurances that there was no problem--and now look foolish for doing so.
How effectively Intel redeems itself may depend on its handling of the messy logistics of responding to millions of consumers likely to demand replacements.
The company is working its employees seven days a week to get a corrected chip into full production, but the reality is that there won’t be enough of the “clean chips” to go around for some time. Intel said there was a 60-day waiting list for replacing chips even before the announcement was made. That list could easily lengthen.
Jerry Banks, an analyst for Dataquest, a San Jose-based research firm, estimates that Intel will ship 8 million of the flawed chips before it converts completely to production of the corrected versions. He believes that all 3 million of the corporate buyers of the chips will eventually demand replacements while about 1 million of the 5 million consumer users will ask for replacements.
With each replacement costing Intel up to $200, Banks estimate the total cost to Intel at up to $800 million. On the low side, John Lazlo, a Paine Webber analyst, estimates the cost at $150 million to $200 million. Those costs value the chips at production cost of about $30 a piece and don’t include the lost “opportunity cost” from having to divert chip production for filling replacement orders rather than selling them for their market value of $500 to $1,000 apiece. Opportunity costs could be in the billions of dollars, analysts estimate.
Intel will take an unspecified charge against earnings in the fourth quarter to cover the costs.
Retailers, who are looking anxiously over their shoulders to see if the Intel flap will hurt Christmas sales, said they are content with the Intel move. “Intel’s put the whole thing to rest today,” said Jim Halpin, chief executive officer of CompUSA, the largest chain of computer stores. “If a customer wants a new chip, Intel will replace it.”
Halpin angrily blames “reporters and analysts” for exaggerating the importance of the flaw and insists that the task of replacing chips will be a simple one that can be handled by existing in-house technicians.
PC makers are hiding their annoyance. “It’s a significant business distraction,” says Michele Moore, spokeswoman for Dell computer. “We’ve had to incur additional costs. It hasn’t been an easy situation.” Moore said the cost of replacing chips would be “either born by Intel or be immaterial.”
But these are the same PC makers and retailers who have been telling consumers all along that flaws in the Pentium chip were not a serious concern.
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