IBM $90~$98 Posts Stellar Quarter
By K.C. Swanson
TheStreet.com Staff Reporter
01/16/2004 10:52 AM EST
Click here for more stories by K.C. Swanson
Updated from Jan. 15
IBM (IBM:NYSE - commentary - research) shares rose again Friday as the market shrugged off some analysts' concerns about earnings quality in Thursday's earnings report. In late morning trading, the stock was up $1.02, or 1.1%, to $95.04 -- a climb of just over 5% since Wednesday's close.
IBM pulled off a major upside earnings surprise before the bell Thursday and reported strong bookings in its massive services arm in the December quarter, while acknowledging that the division's gross margins have fallen because of tough price competition. The technology bellwether also endorsed Wall Street's consensus estimate for 2004 earnings, suggesting it expects to see profit growth of nearly 13%.
At First Albany, analyst Joel Wagonfeld noted that most of the top-line growth was driven by currency benefits, but he said he's increasing his 2004 calendar year estimate to $4.89 to $4.82, pointing to an "incrementally positive" tone and outlook from management. "Strong services signings should boost sentiment and provide evidence that IBM is holding its own," he added. (First Albany hasn't done recent investment banking for IBM.)
Thursday morning, IBM said fourth-quarter earnings rose 166% from a year earlier, thanks mainly to about $1 billion of charges on discontinued operations in the year-ago quarter. On a continuing operations basis, fourth-quarter earnings rose 41% to $1.56 a share on a 9% jump in continuing revenue to $25.9 billion.
The year-ago quarter's continuing operations included a charge totaling 23 cents a share related to its acquisition of PricewaterhouseCoopers. Excluding that, earnings rose 16% year over year. Analysts surveyed by Thomson First Call had been forecasting earnings in the latest quarter of $1.50 a share from continuing operations on sales of $25.02 billion.
The stock surged $4.99, or 5.5%, to $95.30 in premarket trading on Instinet.
IBM surpassed expectations on service signings with $18.7 billion in bookings. Wall Street expectations were more modest, with Goldman Sachs outlining expected signings of a mere $14 billion. "Given the environment, global services had another solid quarter," said Chief Financial Officer John Joyce, though he acknowledged that fourth-quarter gross profit margins slid 1.5 percentage points from last year's levels to 25%.
Joyce chalked up the slide to "continued price and cost pressures on business consulting services given current demand" and acknowledged that IBM had seen a "rescoping of a handful of contracts" in the quarter.
On a more auspicious note, looking forward, Joyce said he would characterize 2004 as the year the IT industry begins to grow again, after a few years marked by market decline or sluggish growth.
"Clearly, services signings were strong. About three or four weeks ago there were rumors that signings were going to be weak, so people are going to be happy with that. The CFO sounded pretty confident about 2004, that we're going from a period of stabilization to a period of growth as far as IT spending is concerned," said Sunil Reddy, co-manager of the Fifth Third Quality Growth fund. "IBM is as good a proxy as you can get for overall tech because of its portfolio of businesses, with hardware, software, services and tech. So it makes you feel comfortable about a bullish outlook for 2004. The takeaway is not only for IBM, it's for tech spending in general -- that it's going to be OK, or actually good, this year."
"They did beat my estimates on earnings and revenues, which is good. But a lot of that came from currency, which is a little disappointing," said Kim Caughey, an analyst at Parker/Hunter. "It's good that they're seeing a general pickup in all of their businesses, especially in financial services, which has always been a big IT buyer. So we're very pleased to hear that, and going into the future I think that will benefit not only IBM, but other tech companies."
But going forward, she said IBM's own guidance on expected currency benefits suggests that a fair amount of its growth will come from a weak dollar. Caughey pointed out that IBM's own detailed earnings presentation says the company expects to see 8 to 9 points of currency benefit in the first quarter and 6 to 7 points in the second quarter. "That's a lot, so they must be expecting a pretty good second half of the year" in terms of organic growth, she said.
Caughey has a market perform rating on the stock due to concern over an SEC investigation at IBM. The company said earlier this month that it had received a Wells notice signifying the SEC has uncovered evidence of wrongdoing in its accounting. IBM said the case was limited to a specific customer. "They didn't talk about that in the call either," she said. Parker/Hunter hasn't done investment banking for IBM.
IBM's forecast didn't make clear whether its growth this year would come from organic growth versus currency gains, agreed Rob Tholemeier, an analyst at Dahlman Ross Weiss; in an email to clients he said the company "dodged the question" on its conference call. In a phone interview Tholemeier added, "They purchased revenue [through acquisitions] and between that and the currency impact, there's really no growth there. I think IBM's no longer a growth company."
Most of the company's main business lines saw higher revenue in the quarter compared with last year. Revenue from global services rose 8% to $11.4 billion in the fourth quarter. Hardware revenue from continuing operations was $9.1 billion, an increase of 12% from a year ago.
Within the broader hardware category, IBM's server business grew 18% year on year (or 8% at constant currency), boosted by 33% sales growth in the mainframe zSeries and 20% in its Intel-based servers. Software revenue was $4.3 billion, an increase of 12% from last year.
The company's financial-services revenue jumped 17% in the quarter from a year ago, but revenue in its global financing arm fell 12% to $734 million.
Currency benefits from a weak dollar offered the bulk of year-on-year revenue gains. CFO Joyce said the dollar's weakening in the fourth quarter had probably chipped in a few pennies of unexpected benefit. Measured at constant currency, IBM's services revenue would have been down 1%, while hardware and software would have grown only 4% and 2%, respectively.
IBM's total gross profit margin from continuing operations was 38.4% in the fourth quarter of 2003, compared to 38.8% a year ago. |
