SANTA CLARA, Calif. -- The pressure on Intel Corp. to cut Pentium 4 manufacturing costs is causing the company to hold fast to this year's massive $7.5 billion capital spending plan, according to analysts.

The company's mettle was tested earlier this month when it announced delays on two fab projects while forecasting a 25% drop in first-quarter revenue. Many in the industry expected a commensurate decline in capital spending, but Intel president and chief executive Craig Barrett clung steadfast to the company's budget projections.

According to analysts, the answer may lie in the fact that despite weakness in the PC sector and declining gross margins, Intel has set a nearly irreversible course that dictates it must move the Pentium 4 to a 0.13-micron feature size to maintain a competitive cost structure.

"The present Pentium 4 die size is huge at more than 200-mm square. Even as Pentium 4 ramps up and yields increase, the big die size means Intel is eating up a lot of silicon," said Danny Lam, an analyst with Fisher-Holstein Inc., Wilmington, Del.

"They have to shrink the Pentium 4 die size drastically, and that only happens when the new P860 0.13-micron process comes into mass production."

Louis Burns, general manager and vice president of the Intel Desktop Platform Group, told EBN recently that the 0.13-micron Pentium 4, which will first appear as the Northwood version late this year, will be half the die size of the current Willamette-class Pentium 4.

In addition to cutting production costs, the 0.13-micron process and smaller chip geometries will increase the Northwood's speed and performance, he said.

While it works to make that happen, Intel has been forced to institute deep discounting programs to keep the Willamette competitive against Advanced Micro Devices Inc.'s Athlon, according to Nathan Brookwood, an analyst with InSight64 in Saratoga, Calif.

Intel has been offering OEMs a $70 rebate on each Pentium 4 system shipped, a promotional program that was supposed to end this quarter but has been extended to May. A second discount program involves bundling Pentium 4 processors with Direct Rambus DRAMs, according to Brookwood.

Lam said that as Intel's gross margin falls (Intel expects a sequential decline from 63% to 51% in the first quarter), the Pentium 4 discounts are taking a significant toll on profits.

Cutting costs through a move to 0.13-micron linewidths is a far better way to make the new chip a mainstream competitor against the Athlon, he said.

Intel is also mindful of the fact that AMD is itself moving quickly to 0.13-micron processing, according to observers.

Company president Hector Ruiz predicted AMD will have 0.13-micron capability by the end of the year at its Dresden, Germany, fab.

"It could be a competitive standoff as both companies ramp up 0.13-micron chip production at nearly the same time," said Dean McCarron, an analyst at Mercury Research in Scottsdale, Ariz.

Despite some doubts it will maintain its capital spending levels, Intel's $7.5 billion budget is still within the typical industry capital investment-to-sales ratio. Even with the first quarter's projected revenue drop, Intel's spending is 26% of sales, not much out of line with the industry norm of 22%, according to Lam. Intel's 1999 capital budget of $6.7 billion was 18% of sales, actually below the industry average.

In comparison, AMD's 2001 capital budget of $1 billion pales against Intel's spending plans. But AMD needs to install far less new equipment than Intel, according to Lam.

That's because AMD's current lithography systems, which are made by ASM Lithography, can move to 0.13-micron processing with little modification. Intel, on the other hand, is installing entirely new exposure tools from Silicon Valley Group Lithography for 0.13-micron critical layers, Lam said.

Additionally, AMD is already running copper interconnect production at the Dresden plant, while Intel is just implementing copper deposition at fabs launching 0.13-micron processing.

Intel is on a fast-track 0.13-micron ramp, retrofitting two existing but unidentified fabs, which next quarter are expected to start producing a 1.26-GHz Pentium III processor code-named Tualatin. Other fabs will be upgraded to start Pentium 4 Northwood production late in the year.