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Dow-30 Earnings: International Business Machines - Third Quarter 2013
International Business Machines (IBM – Free IBM Stock Report) shares fell sharply after the worldwide supplier of mainframe computers, software, and services, and a component of the Dow 30, turned in its sixth consecutive quarter of lower year-to-year revenues. September-quarter earnings nonetheless matched expectations.
The company reported earnings of $3.68 a share for the period, after $0.31 of acquisitions and retirement costs. That compares with our estimate of $3.70 a share and the $3.33 that it logged in the comparable period of 2012. Wider margins, a lower tax rate, and stock repurchases supported the bottom-line increase.
Revenues, however, slipped 4%, or 2% adjusted for the effects of currency. On an adjusted basis, services revenues, which had declined 1% in the June period, rose 1% in the September interim, supported by strength in consulting & systems integration and a slight improvement in integrated technology services. However, software revenues rose just 2% on an adjusted basis compared with 5% in the prior period, with the slower growth across most of its software lines. And the decline in mainframe computer and systems revenues accelerated to 17% compared with an 11% decline in the June period, with particular weakness in Power Systems revenues (down 37%).
On a geographic basis, revenues were flat in the Americas, slipped 2% in the region comprised of Europe, the Middle East, and Africa, and declined 4% in Asia. In a change from the usual pattern, the weakness was pronounced in IBM's developing nation markets, where adjusted revenues fell 5% compared with the 1% decline in revenues in developed nation markets. Historically, revenue growth in the company's developing nation markets has outpaced its developed nation markets by eight to ten percentage points. Revenues in China plunged 22% and drove much of the decline in the computer hardware business. Apparently, China state-owned enterprises are awaiting the government's November release of an economic reform plan and slowed purchases in the interim.
Meanwhile, gross margins expanded, reflecting wider services margins and the growing contribution of higher-margined software to the revenue mix, as well as the benefit of a workforce rebalancing initiative in the June period. And the tax rate declined due to benefits associated with foreign tax audits and the absence of a highly taxed divestiture gain booked in the year-earlier quarter.
Looking ahead, IBM indicated it has a strong pipeline of software business, and expects double-digit profit growth in that segment in the December quarter. Growth initiatives, like analytics, should also continue to perform well. But improvement in the mainframe and systems business's profits may take time, with weak demand in China possibly lingering for a couple of quarters. It will also take time to bring out new systems products. The company trimmed its 2013 share-net forecast by a few pennies, to at least $15.01, down a tad from $15.08 at the time of the June-period earnings report. This reflects an increase in estimated acquisitions and retirement costs, from $1.17 a share to $1.24. We are clipping a dime from our full-year 2013 earnings estimate, which now stands at $15.00.
Note that earnings in the June quarter of 2013 were reduced by a $0.65-a-share workforce rebalancing charge. We don't expect a similar charge in 2014, and we look for further benefits from the workforce rebalancing initiative and efforts to increase efficiency. As a result, we are tentatively raising our full-year estimate for next year by $0.50 a share, to $16.75.
Over the long-haul, if the company fails to accelerate revenue growth, it may have a hard time achieving its goal of earning $20.00 a share (before acquisitions and restructuring costs) in 2015. But we still look for it to reach that mark on an all-in basis within the 2016-2018 time frame. The stock's pullback on the disappointing September-quarter results, which continues the bearish trend in place for several quarters now, may provide long-term investors an attractive entry point. But they will need to be very patient.
About The Company: International Business Machines is a worldwide supplier of advanced information processing technology, communication systems, services, and program products. Revenues in 2012 can be broken down as follows: Global Technology Services, 38%; Global Business Services, 18%; Systems and Technology, 17%; Software, 24%; Global Financing, 2%; Other, 1%. Foreign business accounted for 57% of 2012 revenues.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.