IBM: An Old Dog With New Tricks

8/1/2011


  Recent Price
$183
  Dividend
$3.00
  Yield
1.6%
  P/E Ratio
15
  Shares (millions)
1,221
  Long-Term Debt as % of Capital
49%
  52-Week Price Range
$185.63 - $122.28

In its 100-year history, IBM ($183; IBM) is credited with developing the bar code, the electric typewriter, and the magnetic strip affixed to the backs of credit cards. But perhaps IBM's most significant innovation involved reinventing itself, first in the early 1990s as it careened toward irrelevance, then again a decade later when it jettisoned its personal-computer business.

Those decisions put IBM in a position to deliver June-quarter growth of 12% for sales and 14% for operating cash flow, boosted by solid corporate technology spending. IBM is a Focus List Buy and a Long-Term Buy.

Turnaround story

Revenue has risen less than 4% since 2004, the last full year IBM owned its personal-computer unit. But net income has soared 76% since then, and per-share earnings have more than doubled. Over the last five years, IBM's pretax profit margin rose five percentage points, a gain unmatched among its largest rivals.

Hardware produced 43% of IBM's revenue in 2000 but just 18% last year. Filling the hole left by hardware are services (56% of 2010 sales, up from 38% a decade ago) and software (23% versus 14%). IBM has aggressively built up its higher-margin software segment via acquisitions.

IBM has also reduced its reliance on the U.S. economy. The U.S. accounted for 52% of IBM's total sales in 1995. That proportion has decreased steadily, falling to 36% in 2010. Sales derived from BRIC countries — emerging-market powers Brazil, Russia, India, and China — surged about 21% at constant currency in the first half of 2011, on top of 18% growth in 2010. IBM's rush to infiltrate emerging markets makes sense. The International Monetary Fund expects emerging countries will represent 50% of the global economy by 2015.

IBM sees emerging markets playing an ever-larger role in its growth, accounting for nearly 30% of 2015 revenue, versus 21% in 2010 and 11% in 2000. Limited competition in these markets has allowed IBM to generate higher profit margins than it manages in developed markets.

In July, IBM raised its 2011 profit guidance to at least $13.25 per share, representing 15% growth. IBM predicts annual profits will reach $20 per share by 2015, implying average annual growth of nearly 12%. Over the next five years, management expects to generate $100 billion in free cash flow, also equating to a 12% annual growth rate. IBM expects to return 70% of that cash to shareholders in the form of dividends and share repurchases. IBM said that translates to an estimated $50 billion in buybacks, enough to trim the share count by 22% at the stock's current price, and $20 billion in dividends, up from the $12 billion paid out over the last five years.

Conclusion

The shares have more than doubled from March 2009 lows and surged 25% so far this year. Despite that rally, the stock seems reasonably valued at 14 times the 2011 consensus estimate of $13.33 per share, a 14% discount to the average technology stock in the S&P 1500 Index. An annual report for International Business Machines Corp. can be obtained at 1 New Orchard Road, Armonk, NY 10504, (914) 499-1900, www.ibm.com.

IBM
Quarter
Per-Share Earnings*
($)
Sales
Change
Quarterly
Price Range
($)
P/E Ratio
Range
Jun '11
3.09
vs.
2.61
+ 12%
173..54
-
161.52
15 - 14
Mar '11
2.31
vs.
1.97
+ 8%
167.72
-
146.64
14 - 13
Dec '10
4.18
vs.
3.59
+ 7%
147.53
-
134.39
13 - 12
Sep '10
2.82
vs.
2.40
+ 3%
136.11
-
120.61
13 - 11
Year
(Dec.)
Sales
 ($Bil.)
Per-Share
Earnings*
($)
Per-Share
Dividend
($)
52-Week
Price Range
($)
P/E Ratio
Range
2010
99.87
11.52
2.50
147.53
-
116.00
13 - 10
2009
95.76
10.01
2.15
132.85
-
81.76
13 - 8
2008
103.63
8.93
1.90
130.93
-
69.50
15 - 8
2007
98.79
7.18
1.50
121.46
-
88.77
17 - 12
 
Quadrix Scores †
Overall
Momen-
tum
Value
Quality
Financial
Strength
Earnings
Estimates
Performance
89
70
55
88
71
72
83

   * Earnings exclude special items.
   † Quadrix® scores are percentile ranks, with 100 the best.


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