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IBM has a long history of drifting in and out of investor favour, mainly due to fear that new technologies will put it out of business.
However, IBM also has long history of successfully shifting out of slowing businesses into faster-growing fields. For example, as computer prices fell in the 1990s, IBM expanded its more-profitable software and consulting operations. Later it unloaded its struggling personal computer operations, and now it’s selling its low-end server business. It will invest the proceeds in areas such as cloud computing and analytics software.
In addition, IBM’s well-known brand and global salesforce continue to give it a big advantage, particularly in developing countries.
INTERNATIONAL BUSINESS MACHINES CORP. (New York symbol IBM; www.ibm.com) started up in 1911 making machines that processed U.S. census data, as well as other industrial equipment such as time clocks and scales.
The company now gets 55% of its revenue by designing computer systems and managing them for business and government clients. It typically does this under long-term contracts, which cuts its risk.
In the past few years, IBM has aggressively expanded its software business. It’s particularly interested in analytics software, which helps clients gather and analyze a wide variety of data. Software now supplies 27% of IBM’s revenue.
The company’s computer hardware business, which accounts for 14% of its revenue, continues to shrink.
For example, IBM recently agreed to sell its low-end server business to China’s Lenovo Group. The Chinese government has already approved the deal, but it’s unclear if U.S. regulators will do likewise. That’s mainly because U.S. government and military agencies use these servers, and selling these operations to a Chinese company could compromise sensitive data.
IBM still expects to complete the sale by the end of 2014. If it does, it will receive $2 billion in cash and $300 million in Lenovo shares.
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Tech stocks: IBM bolsters research with spending and acquisitions
The company wants to sell all or part of its computer chip manufacturing business. However, it will keep developing high-end chips, which should help improve the performance of its analytics software. It has earmarked $3 billion over the next five years to develop new ways to make chips smaller and faster, including using materials other than silicon.
The remaining 4% of IBM’s revenue comes from providing loans to buyers of its mainframes.
IBM’s revenue fell to $99.8 billion in 2013 from $104.5 billion the year before. That’s partly because IBM sold its point-of-sale business, which makes cash registers and other equipment for retailers. Unfavourable currency rates also hurt its revenue growth. Earnings dipped slightly to $16.5 billion in 2013, but per-share earnings rose to $14.94.
IBM continues to invest in research, which helps it compete in the rapidly changing technology business. It spent $6.2 billion (or 6.2% of its revenue) on research in 2013.
Thanks to this spending, IBM received 6,809 patents in the U.S. in 2013, up 5.1% from 6,478 in 2012. Licensing intellectual property generated $822 million in pre-tax income for IBM in 2013.
The company bolsters its research by acquiring smaller firms with attractive technologies. In 2013, it spent $3.1 billion buying 10 companies.
Its biggest acquisition was its $2.0-billion purchase of SoftLayer Technologies, a Texas firm that sells online data storage and related services to 21,000 businesses. SoftLayer will help IBM profit from rising demand for cloud computing.
Tech stocks: Alliance with Apple should spur cloud computing sales
IBM’s recent alliance with Apple should also spur sales of its cloud computing services and analytics software. Under this deal, IBM will develop business-related apps for the iPhone and iPad. It will also provide companies that use its mainframes and software with on-site support for Apple products.
The company is optimistic about Watson, the supercomputer that beat human contestants on the TV quiz show Jeopardy. IBM feels Watson is ready to help its clients with their complex computing needs, and plans to spend $1 billion to develop new commercial uses for this machine. Watson could add $10 billion to IBM’s annual revenue within 10 years.
IBM’s balance sheet remains strong. Its $34.0 billion of long-term debt (as of June 30, 2014) is a moderate 18% of its market cap. It also holds cash and investments of $9.7 billion, or $9.60 a share.
The company is also cutting 3% of its workforce, which should help boost its earnings to $18.00 a share in 2014. The stock trades at just 10.8 times that estimate. IBM still aims to raise its earnings to $20.00 a share by 2015. The $4.40 dividend yields 2.3%.
IBM is a buy.
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Every Thursday we bring you “Best U.S. Stocks.”. You get our specific recommendation on the stocks we profile, with a full explanation of how we arrived at our opinion. You will read about stocks making moves you should know about, from coverage in our newsletter on U.S. investing, Wall Street Stock Forecaster.
