International Business Machines (IBM): Is the Transition Is Taking Hold?

Posted on Jul 21 2015 - 12:00pm by Sharpe Trade

For years, I have stated that new investors should tune into companies quarterly conference calls, presented to shareholders. The benefits are numerous and many.

It only generally takes one hour or so, every three months.

News items that hit the market do not catch you as much by surprise, leaving you to wonder “Why did this happen?

One can become familiar with the business with which one is invested.

One can listen to the board members of various corporations around the planet, as they attempt to manage businesses worth billions of dollars. You’re not listening to some doofus and his thoughts on the economy who has no stake in issues facing the economy. You’re not even listening to my thoughts on the economy. You are listening to board members discuss the very real issues they face as they manage corporations worth billions.

When I listen to the conference call of a company, I take some notes. And therefore … I thought that to help out new folks as they navigate conference calls, I would start posting my notes, as I’ve taken them. Perhaps, we can make this a continual feature here at Sharpe Trade with the stocks that we have mentioned in the Sharpe Income project.

This week, it was the International Business Machines (IBM) call, that you can find here.

International Business Machines – 4 Hour Chart

IBM 4 Hour Chart Revenue

So what’s ‘the low-down’ for this quarter?

A few notes from my desk as I listened to the conference call

IBM Earnings 2nd Quarter

If one were just to look at the headline numbers of IBM’s Income Statement, Balance Sheet, and Cash flow up to this point … this is not typically the sort of business with which I stay invested.  But when it comes to IBM, we have an interesting scenario.  Not only am I invested with IBM, but I’m actually encouraged by what I see.

Briefly and simply put, to illustrate the scenario for those unfamiliar with what has been happening with IBM, let’s view IBM as two pieces.  The “old IBM” with lower profit margin businesses.  And the “new IBM” striving towards higher profit margin businesses; of Analytics, Cloud, etc.  The issue, is that the “old IBM” was a large, large business.  IBM no longer wants to be that company, and is striving to transform itself into the “new IBM” with the higher profit margins.  The challenge, is that IBM’s “old business” was very, very large.

Can such a large company, transform itself into this new business?  Because transforming a business, costs money.  It has cost IBM a lot of money to try to accomplish this, and the results are not guaranteed, nor is the process complete.  It has basically been a ‘balancing act’ for IBM.  Phasing out the “old business” while growing the “new business”.  There have beeen ‘two camps’ regarding IBM.  Those who believe in the transformation.  Those who do not.

You can put me in the ‘believer’ camp.

The ‘non-believers’ I have found, generally point to single issue items of cost in the transformational process of IBM.

The revenue is dropping continuously!

The cash flow is negative!

The buybacks are too high!

All true.

However, if they are successful in the transformation, we will be left with a company that has higher profit margins, can grow for a long period of time, and the company will be more streamlined.  Less … ‘bulky’.

There were a few interesting points this quarter. 

The “new businesses” of IBM grew by 30% this quarter.  Analytics was up 20%.  Cloud revenue was up by 70%.  Obviously, being a new, and smaller business, those growth rates will decrease somewhat.  But encouraging nonetheless.

For some time, critics have pointed towards IBM’s falling cash flow.  However this quarter, we saw an increase of $400 million in cash flow, and the company expects to see a year over year increase in cash flow.  That stood out to me.

While the balance sheet assets are falling?  It’s the nominal numbers that are falling as IBM transforms their business.  The ratios are actually improving, and the leverage is decreasing as the transition begins to occur over time.  Signing of new business was up, and the backlog is beginning to increase.

We have seen some volatility as the price moves lower around earnings.  It doesn’t concern me in the least.  My time-frame can be measured on a monthly chart, and for the time being, we’re only trading at price of two weeks ago.  My portfolio’s that hold IBM were impacted by 0.04%.  That’s it.

If I was forced to put this quarter into a few sentence?

The question I face each quarter with IBM is  ‘Am I a believer in their transition to the new strategeic imperitives‘?   After listening to the latest conference call?   I would say that I am more convinced in IBM’s transition strategy …

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