For investors, IBM (NYSE:IBM) is in an interesting place, but “interesting” doesn’t mean “good.” Fresh off a post-earnings drubbing, IBM stock could be primed for a near-term rally, albeit a modest one.
But, remember, the devil is in the details and the details confirm what many investors have already known: there are better opportunities among older, mature technology companies.
In profiling IBM stock in early September, I noted that the Red Hat acquisition will add to the top line over the coming years, but that IBM’s third-quarter earnings report, which took place last week, needed to give something investors to cheer about.
The Red Hat thesis remains in play, but the most recent earnings numbers were not impressive. For the most recently completed quarter, Big Blue earned $2.68 a share on revenue of $18.03 billion while Wall Street was expecting earnings of $2.67 on revenue of $18.22 billion. On the back of that big revenue miss, investors unceremoniously dumped IBM.
The year-over-year comps were dreadful as well the results speak to a long-running concern investor have had about IBM: management can grow earnings by buying back massive amounts of stock, but all those buybacks don’t create higher revenue.
Criticism, Caution Warranted
In the wake of the gloomy third-quarter results, analysts have been pretty bearish on IBM with several downward price target revisions emerging over the past week. One of the largest bearish price target revisions on IBM came courtesy of Munjal Shah at UBS, who lowered his target on the shares to $140 from $170.
Shah noted softness in the companies global technology services unit and declining inventory backlogs as among the reasons for the downbeat on IBM stock.
“New mainframe and Red Hat acquisition would drive revenue growth next year,” Shah said in a note to clients. “However, beyond 2020, Red Hat contribution to growth lessens and mainframe compares are difficult.”
To be fair, IBM’s cloud and cognitive software segment, where Red Hat dwells, boosted revenue by 6.4% in the third quarter. However, IBM has a way to go in the cloud arena before it can be a more credible threat to the likes of Amazon (NASDAQ:AMZN) and Microsoft (NASDAQ:MSFT). In the third quarter, Microsoft’s Azure cloud unit increased sales by a staggering 59%.
“In our view, IBM has acknowledged the shift in customer buying behavior from large upfront hardware purchases and toward more consumption-based solutions and services that can offer tools like analytics, monitoring, and computing on-demand,” said Morningstar in a recent note. “While IBM still has a long way to go to challenge the large hyperscale cloud providers, we believe the company is headed in the right direction to remain a force in the IT environment.”
Bottom Line on IBM Stock
At less than 10x forward earnings and with a dividend yield of 4.83%, it’s easy to understand why IBM is tempting to some investors, but as noted earlier, there are better opportunities in the mature, dividend-paying technology equity camp. Microsoft and Intel (NASDAQ:INTC) are just two names that come to mind.
The other issue confounding investors with IBM is that absent Red Hat, there aren’t a whole lot of catalysts to get excited about here. Making matters worse is that Red Hat, although its growth has been robust for IBM, isn’t enough to offset weakness in the global technology services unit.
And to compound IBM’s near-term woes, when the shares have suffered previous declines on par with the most recent, history indicates that the stock is frequently lower several months down the road.
In other words, if IBM stock is on your shopping list, wait a while before hitting the “buy” button because better pricing could soon be available.
As of this writing, Todd Shriber did not hold a position in any of the aforementioned securities.