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Is IBM Ready to Take Off?

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Lost track

International Business Machines (IBM), a leading enterprise solutions provider, has seen its revenue decline consistently for the past 22 quarters. It fell from $102.9 billion to $79.9 billion, while its pre-tax profit fell from $22.5 billion to $12.3 billion. The reason for IBM’s weakening fundamentals could be due to its strategic shift away from low margin segments and the decline in its core business due to cloud-computing technologies (TDIV). During that period, the company spent almost $50 billion on buybacks and managed to reduce its float by ~19%.

Over the last year, Warren Buffett’s Berkshire Hathaway has sold ~55% of its holdings in IBM. Buffett says he has revalued the company somewhat downward.

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Rebound in sight? 

Although IBM continued its downward journey in 3Q17, it posted better-than-expected revenue and earnings growth (excluding certain items) in all its segments, mainly driven by the mainframe cycle and improving growth in the software segment. IBM guided EPS (earnings per share) of at least $13.80 for 2017 compared to analysts’ expectation of $13.75.

The company expects its future growth to be driven by strategic imperatives, which include high-growth technologies such as cloud computing, artificial intelligence, mobile, and security. In 3Q17, revenues from these initiatives contributed ~46% to the company’s total revenue. Its strategic imperatives could contribute substantially to its top line in the next few years, thus offsetting losses from its traditional businesses. Some believe it’s just a matter of time before IBM breaks its trend of consistent revenue declines.

Better return ratios

IBM currently trades at one-year forward PE (price-to-earnings) multiple of ~11.1x, which is much lower than the sector average of 36.7x. It’s also much lower than peers Automatic Data Processing (ADP) at 30.1x, Cognizant Technology Solutions (CTSH) at 19.2x, and CDW (CDW) at 18.0x. Its return on equity at 73.1% and return on assets at 10.4% are much better than the sector average of 17.7% and 7.8%, respectively.

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