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IBM Stock – Flat Sales, But Some Potential

An increase in IBM's dividend payout could drive shares higher

By Kenneth Fick, InvestorPlace Contributor

http://invstplc.com/1yubLlV

International Business Machines (IBM) dates back to 1911 and has been a major player in information technology for the century-plus since.

ibm-stockOf course, IBM’s focus has changed from primarily a hardware vendor to include software and service as key components to its overall business strategy.

As of 2013, hardware made up 14% of sales, service 58%, software 26% and financing the remaining 2%. IBM’s operations span 170 countries with 44% of sales derived from the Americas, 32% from Europe, the Middle East and Africa and 24% in Asia Pacific.

IBM’s focus on innovation has also stood the test of time, having been awarded 6,809 patents in 2013, more than any other company for the 21st consecutive year.

IBM Continues to Evolve

Ever since being hired as CEO at the beginning of 2012, Virginia Rometty has been working to transform the company’s focus from mainframes to cloud computing, reporting a 50% increase in cloud revenue for the first quarter. Cloud computing allows customers to rent computing power as needed as opposed to making large capital investments in data centers.

IBM has also been focusing on its high-end server business, and sold its low-end server business to Lenovo (LNVGY) in January. In a move to continue to divest its lower-margin hardware businesses, IBM also began exploring the sale of its semiconductor manufacturing operations earlier this year.

Still, the results haven’t been spectacular.

IBM’s first quarter disappointed investors thanks to its lowest quarterly revenue in five years and the eighth straight quarter with no revenue increases. For the first quarter, revenue declined 4% to $22.5 billion, with the systems and technology segment declining 23%, while software and service both increased 2% each, and financing grew 3%.

IBM’s total net income declined 21% to $2.4 billion, decreasing net income margins from 13% to 10.6%.

IBM’s second quarter reported more of the same, producing a ninth straight quarter of declining or flat revenues. Revenues declined 2.2% to $24.4 billion with increases in sales and services and a decline in systems and technology. IBM also reported an increase of cloud revenue, however, of 50% YTD to $2.8 billion. Gross margins increased from 48.7% to 49.1%, which helped produce $4.1 billion in net income, an increase of 42%.

IBM: Valuation

In the second quarter, IBM reached a shareholder milestone, falling to 1 billion shares outstanding — that’s down from 2 billion in 1995 when the share buyback program started. Buybacks have aided EPS growth, even in the face of flat to declining revenues.

IBM stock is not a growth play just given its size and business, but shares have reflected that, returning less than 1% since the beginning of the year. While IBM’s price-to-earnings ratio of 12.2 is below the industry average of 16.5, I would not anticipate share price appreciation to fill that gap.

IBM 1-Year Stock Price Return
Source: www.nasdaq.com

Stock appreciation is not the only way investor can make money, however.

IBM has built a solid performing business and, although it is facing some challenges, it is certainly in no risk of going away any time soon. IBM pays out 25% of profits as dividends producing a dividend yield of 2.3% — below the psychological long-term inflation rate barrier of 3% that many income investors look for, but above the 1.9% average for the S&P 500.

If IBM significantly increased its dividend, that might drive the stock price higher (as the market likely would rationalize the yield in comparison to IBM’s stock price). However, I would not look for IBM to raise dividends until the results of its move to the cloud become more prominent on the company’s financials.

Instead of raising dividends, IBM might choose to deploy that capital to capture market share and grow its cloud infrastructure over the short- to mid-term periods.

Hopefully that would spur revenue growth. But don’t necessarily bank on it.

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As of this writing, Kenneth Fick did not hold a position in any of the aforementioned securities. Write him at [email protected] or follow him on his blog at www.piercethefog.com


Article printed from InvestorPlace Media, https://investorplace.com/2014/09/ibm-stock-dividends/.

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