International Business Machines Corp. (NYSE:IBM) delivered an earnings beat a few weeks ago and the market responded by sending the shares higher. After looking more closely at some of the important data in the report, there’s no reason at all to get excited about IBM stock.
We always look at net income rather than earnings per share, because it’s easier to use that bottom-line number without getting distracted by share repurchases, and because it’s also easier to back out one-time expenses.
Net income fell about 5%, to $2.73 billion from $2.85 billion last year. That came on revenues of $19.15 billion, down a hair from $19.23 billion.
Hardware Obsolete
For several years, IBM has been touting its Strategic Imperatives division, its big push to drive revenues into emerging markets and reinvent itself as a software and service provider. IBM has been doing a fine job of selling its cloud, analytics, mobile, social, and security services. Necessity is the mother of invention, because hardware is rapidly becoming obsolete.
Q3 cloud revenues indeed demonstrate that this segment is doing very well. Sales increased 20% to $4.1 billion, bringing the TTM total to $15.8 billion. There’s something called the “annual exit run rate for as-a-service revenue”, meaning the run rate for revenues at the end of each quarter. Because services tend to be subscription oriented, the run rate will differ at the start and end of the quarter.
That metric has increased to $9.4 billion from $7.5 billion. Meanwhile, analytics revenue increased 5%, mobile increased 7%, and security increased 51%.
Meanwhile, Cognitive Solutions segment revenues were up 4% to $4.4 billion. Global Business Services slipped 2% to $4.1 billion. Technology Services and Cloud Platforms fell 3% to $8.5 billion. Systems jumped 10% to $1.7 billion. Global Financing went up 4% to $427 million.
Low Expectations
Overall, though, I’m not impressed. This was the 23rd consecutive quarter that revenue fell year-over-year. The results were “meh”, if you ask me, because expectations were already pretty low. The hardware business is not a growth business and Global Business and Tech Services revenue fell. And just because each segment beat estimates, yet still posted declines in some cases, hardly means IBM stock is on the road to recovery.
Source: Statista
The underlying problem is that IBM management’s thinking is stuck in the 20th century. Microsoft Corporation (NASDAQ:MSFT) figured out how to make money off of cloud services ages ago and it didn’t take the folks in Redmond five years to figure out how.
What to do With IBM Stock Now
IBM has been consistently repurchasing shares, which I think is a terrible use of capital in general, and particularly awful for IBM stock. Companies should buyback stock when it is cheap. IBM stock is not cheap. It trades for 12-13x earnings while net income is declining.
If there’s all that extra money lying around, then just increase the dividend or pay down debt, more than the $3.2 billion it did just cut. Get the company debt-free and, along with its $11.5 billion in cash, that is of greater interest to me. Cutting debt will also increase earnings.
With its $6 annual payout, at current levels the yield equates to 3.96%. That is not significant enough to me to merit a purchase of IBM stock by dividend investors.
I don’t see IBM making any meaningful progress. Sell IBM stock if you have it.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance and is the Manager of The Liberty Portfolio at www.thelibertyportfolio.com. He has no position in any stock mentioned. He has 22 years’ experience in the stock market, and has written more than 1,600 articles on investing. Lawrence Meyers can be reached at TheLibertyPortfolio@gmail.com.
