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International Business Machines, (IBMFree IBM Stock Report) a global supplier of computer hardware, software, and services to large enterprises, as well as a Dow 30 component, reported earnings of $3.17 a share for the June quarter, adjusted for $0.36 of so-called nonoperating costs. That compares favorably to our estimate of $3.05 and results in the 2018 June term of $3.08. Revenues declined a currency-adjusted 1.6%, but the stock traded higher in early Thursday morning trading.

June-period results don't yet include Red Hat, a provider of open-source cloud computing software, which IBM acquired on July 9th for $34 billion in cash. The purchase ought to accelerate IBM's growth in the business of helping companies manage their operations in a hybrid cloud environment. Management expects Red Hat to be accretive to operating earnings per share by the end of 2020 and plans to provide more information regarding the acquisition in early August.

Meanwhile, in the June quarter, revenue growth was held back by declines in the Global Technology Services and Systems segments, as well as by currency shifts. But IBM's gross margin expanded a percentage point, supported by changes in the product mix, productivity initiatives, and increased scale in the cloud computing business. Workforce rebalancing costs hurt operating margins. Currency shifts, which weighed on revenues, had a positive effect on expenses.

Looking closer at performance by business, Cloud & Cognitive Software revenues rose 5%, led by several newer offerings, but the pretax margin contracted slightly, reflecting workforce rebalancing initiatives and expenses in preparation for Red Hat, which henceforth will be part of this segment.

Global Businesses Services revenues increased 3%, with growth in Application Management, Consulting, and Process Services. Segment pretax margins narrowed, also hurt by the costs of adding more skilled workers.

On the other hand, Global Technology Services revenues declined 4%, hurt by efforts to shift away from low-value services, and workforce charges squeezed the pretax margin. Management believes the business may have reached an inflection point, however, since large deals signed at the end of 2018 are beginning to ramp up.

Lastly, Systems revenues fell 18% in the June term and the pretax margin contracted two percentage points. Revenues are in the process of winding down after an initial favorable reception to IBM's zSystem mainframe eight quarters ago. The company intends to bring out new high-end mainframe and information storage systems later this year, which we assume will improve the revenue trajectory in 2020.

With information concerning Red Hat still limited, the near-term earnings outlook is uncertain. Owing to the better-than-expected June-quarter results, but excluding Red Hat, we are increasing our share-net outlook for 2019, from $13.75 to $13.90 (excluding an estimated $1.45 of one-time costs), and on that basis, we continue to look for earnings of $14.10 in 2020.

Investors are hoping Red Hat will strengthen IBM's position in the cloud computing arena and lead to a resumption in revenue growth. But it probably will take time to make the most of the purchase. Assuming all goes well, the stock has worthwhile total return potential to 2022-2024, enhanced by its above-average dividend yield. That said, long-term investors may need to be very patient. 
About The Company: International Business Machines Corporation is a worldwide supplier of technology and business services, software, and systems hardware. Revenues in 2018 can be broken down as follows: Technology Services & Cloud Platforms, 43%; Cognitive Solutions, 23%; Global Business Services, 21%; Systems, 10%; Financing & Other, 3%.

About The Company: International Business Machines Corporation is a worldwide supplier of technology and business services, software, and systems hardware. Revenues in 2018 can be broken down as follows: Technology Services & Cloud Platforms, 43%; Cognitive Solutions, 23%; Global Business Services, 21%; Systems, 10%; Financing & Other, 3%.

At the time of this article’s writing, the author did not have positions in any of the companies mentioned.