Updated from 7:00 a.m. EDT

Investors are understandably nervous heading into Intel's ( INTC) second-quarter financial report after the market close Tuesday. The past few weeks have seen a rash of profit warnings from the software side, prompting increasingly bearish analyst calls on the hardware sector.

A backdrop to Intel's highly anticipated earnings report is the debate between those who see Intel as the victim of forces beyond its control, and those who say big-picture worries have been overly hyped.

In the former camp are a handful of chip analysts -- a group now eager to call the downturn in advance after having disastrously stayed bullish in 2000-01. In the past two weeks, analysts at Merrill Lynch and Deutsche Bank downgraded Intel, while Lehman Brothers trimmed third-quarter sales and profit estimates for the chip giant.

In the latter camp, some money managers say Wall Street may have grown too dour, suggesting Intel shares are slipping toward what they view as bargain territory. In that vein, Morgan Stanley upgraded IBM ( IBM) Tuesday, citing a "strong fundamental story and an attractive valuation"; Big Blue shares were recently up 96 cents, or 1.1%, to $85.91.

Intel shares were recently down 8 cents, or 0.3%, to $26.16 and were down 18% year to date heading into Tuesday's session. The stock fell 33 cents, or 1.2%, to $26.24 Monday in the wake of Merrill's downgrade. Intel's decline and Merrill's downgrade followed a series of profit shortfalls across techland, with software outfits PeopleSoft ( PSFT), Siebel Systems ( SEBL) and Veritas ( VRTS) warning of an apparent hiccup in U.S. corporate spending.

Meanwhile, the Fed's June rate hike -- likely the first in a series -- is almost certain to crimp spending by both businesses and consumers. Furthermore, weak same-store sales suggest buying trends have lately been underwhelming, while the weaker-than-expected June employment report raised concerns about jobs growth.

Granted, Intel actually raised its quarterly sales guidance in June, surprising many on Wall Street. Still, the tech bellwether attributed the upside to its sideline business in flash chips, not to the basic microprocessor line, where sales were running only in line with expectations. Analysts already take it on faith that Intel can meet the consensus estimate for June quarter earnings of 27 cents a share on $8.10 billion in revenue.

But September-quarter estimates are more of a question mark, with individual estimates ranging from sales-growth guidance of 5% to 10%. The current estimate assumes a midpoint of 32 cents EPS on sales of $8.76 billion.

Besides the uncertainty around the sales outlook, Intel's closely watched gross margin level would be vulnerable if demand slows because the company wouldn't be able to use its chip plants as efficiently, Merrill analyst Joseph Osha observed in Monday's downgrade. Osha said Intel might have a harder time meeting his current margin projection of 63% for the third quarter. (In a separate trend contributing to margin pressure, lower-margin flash sales are likely to increase as a percentage of revenue, as Intel's long-stagnant flash business continues to recover.)

Yet plenty of investors say it's a mistake to get too worried about a broader tech slowdown based on a few short-term blips.

Keeping the Faith

"I think people have gotten a little too bearish on Intel. I'm not buying into the thought process that we've hit a peak in terms of tech spending and we're rolling over," said Patrick Adams, manager of the ( CHLAX) Choice Long-Short fund, who is long Intel.

Although plenty of smaller tech outfits have warned, Adams said some of the culprits are "second-tier" while others are in unusual circumstances that make them unrepresentative of broader tech trends. The latter category includes Veritas, whose results have been complicated by prior accounting adjustments, and PeopleSoft, which is battling a takeover bid from Oracle ( ORCL).

In that light, some argue that Wall Street's conniption fit over the apparent corporate-spending pause is misguided.

Sanford Bernstein analyst Adam Parker said in a recent note that international growth for Intel could offset possible weakness in the U.S., and is likely to push overall corporate growth in the second half of 2004. Sales from outside the Americas accounted for nearly three-quarters of Intel's sales in the most recent quarter. Parker, who has an outperform rating on Intel, contends that robust international PC-unit growth isn't yet reflected in Intel's stock price and could fuel further upside to 2005 expectations.

It wouldn't be the first time overseas growth has given U.S. tech names a push: Back in April, Dell ( DELL) cited stronger-than-expected international growth when it raised its first-quarter revenue guidance.

Demand issues aside, some investors are looking more favorably on Intel simply because its stock price has slid so much.

Based on Monday's close, the stock trades at 22 times 2004 consensus estimates of $1.22 a share and 18 times the 2005 estimate of $1.44.

At that level, bulls say Intel may find it easier to scale the expectations bar now that market-watchers have lowered their sights.

Fund manager Adams, for example, owns Intel not so much as a bullish call on the economy but more as a valuation play. "If this isn't a full-fledged chip correction, there's 30% to 40% upside in the stock," he said.

Intel now qualifies as "a little bit of a contrarian play. Everybody's so negative on these chip stocks now," agreed Jack Holden, manager of the ( TVPAX) Touchstone Value Plus fund, which has a stake in the name based in part on its valuation.

Still, on a technical analysis basis, it's hard to make a case for Intel, said Robert Bacarella, manager of the ( MSCEX) Monetta Select Technology fund, which has been trimming its stake in the chipmaker. The stock broke through its 200-day moving average in early March and has been below that important water mark ever since, he noted. "I just don't see enough interest and volume to say it's going to move a lot higher before it moves lower," Bacarella said. "I would be on the sidelines using a rally to book profits, but I would definitely not buy here."

Investors who focus on business fundamentals "are looking at multiples and saying, 'Historically Intel has been at 25 times earnings and now, at 17 times it looks pretty good,' " he continued. "But to me the question is, why wouldn't it stay stuck at 17 times? I just don't see the catalyst" for a rally.

Arguably, that sums up the case for the whole chip sector, which has stumbled through the spring and early summer. The Philadelphia Stock Exchange Semiconductor Index closed at 441 Monday, matching the year-to-date low it set in May.

At an especially critical juncture for technology investors, Intel's earnings report and conference call Tuesday will, investors hope, provide some answers on the state of the tech cycle.