IBM (NYSE:IBM) continues to deepen its focus on artificial intelligence (AI). The Armonk, New York-based technology giant just announced an enhancement to its Watson AI technology that explains the decision-making process of its system.
However, despite the potential of Watson, IBM stock has struggled with anemic growth. Given Big Blue’s history, Watson will likely become a force in the AI world. For investors, though, the more important question is whether being a major AI player will help push the IBM stock price higher.
IBM has improved its AI technology
Since its founding in 1911, the company known formally as International Business Machines Corporation has kept pace with change — and sometimes led that change — as new technologies emerged and fell out of favor over time.
The company has relied more on services than “machines” in recent years as it became heavily involved in IT infrastructure. However, Watson, its latest innovation, makes the company’s formal name more relevant as it redefines “business machines.” This technology utilizes AI across a range of industries, with Internet of Things (IoT), health, and financial services just a few examples of sectors that will benefit from Watson.
One of the challenges of AI has been explaining what’s inside the “black box”, in other words, how does Watson arrive at its business decisions. Without an explanation, customers will lack confidence in the technology.
That changed this week with IBM’s announcement that it’s cloud software will include features to identify any bias in artificial intelligence applications while also recommending fixes. “We are giving new transparency and control to the businesses who use AI and face the most potential risk from any flawed decision making,” said Beth Smith, general manager of Watson AI at IBM, in a statement.
In other words, not only will Watson AI make decisions, but it will also explain to users how the system came to its conclusions.
Will Watson attract buyers to IBM stock?
IBM stock rose modestly in trading following the announcement However, the more critical question hinges on whether the IBM stock price will rise further in the long term due to Watson.
Much will depend on both valuation and profit growth. The stock trades at a forward price-to-earnings (PE) ratio of about 10.8x. Over the last five years, the average PE has come in at 13.3x. Hence, it trades at a discount to its own averages as well as AI peers such as Alphabet (NASDAQ:GOOGL, NASDAQ:GOOG), Nvidia (NASDAQ:NVDA), and Salesforce (NYSE:CRM).
Still, profit growth (or the lack of) may explain the low multiple. Analysts project the company will earn $13.81 per share this year. In 2017, IBM made a profit of $13.66 per share. Consensus estimates for 2019 put earnings at $14.03 per share. This gives the company less than 2% earnings growth per year.
To be sure, that’s an improvement over previous years when overall profit growth fell. Still, I question whether that level of growth will inspire widespread buying of IBM stock.
Despite the meager growth, I think income-oriented investors should look at IBM stock. At the current IBM stock price, the company’s annual dividend at $6.28 per share brings the yield to about 4.2%. The company has also increased that dividend every year since 2000; IBM also enjoyed a long history of dividend increases before its financial troubles during the 1990s forced cuts in its payout. Even then, dividend increases did not occur annually as they do today. If the current pace keeps up, IBM stock will achieve dividend aristocrat status (meaning 25 straight years of dividend hikes) in 2025.
Final thoughts on IBM stock
Whether or not Watson AI boosts the anemic growth rates in IBM stock, the shares appear poised to benefit income-oriented investors. IBM has added features to Watson that could genuinely enhance the appeal of AI. Now that the system can explain how it makes AI-based decisions, business managers can place more trust in Watson’s abilities.
Despite IBM’s place in AI, profit growth has remained anemic, growing at under 2% per year. While profit growth will likely not drive buyers into IBM stock, the dividend might. The 4.2% yield combined with an 18-year record of dividend increases bodes well for investors who want income. No matter what Watson does for the IBM stock price, it will provide a niche to both users of AI and to stock investors who want cash payouts.
As of this writing, Will Healy did not hold a position in any of the aforementioned stocks. You can follow Will on Twitter at @HealyWriting.
