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Also, check out: "A Solid Quarter," "Now IBM Is Even 'Officially' Spineless", "Where Armonk Meets Wall Street, Greed Breeds Incest", "Some Insiders Cashed in on IBM Stock Buybacks", "Louis XIX of Armonk", "Wag the Big Blue Dog", "the new blue"  

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Analysis of IBM's Third Quarter Results

A Solid Quarter Under Trying Circumstances

S/390 Fuels Comeback, But IBM CFO Warns Against Raising Estimates

PHOENIX, Oct. 20 - After a dismal first half of 1998, IBM bounced back with a vengeance in the third quarter, according to the just-reported financial results, released after the stockmarket closed today. Big Blue's recovery was primarily fueled by a resurgence of its mainframe business which recorded a 20% revenue growth, on a 135% surge in MIPS shipments.

The AS/400 and RS/6000 servers also reported increases in revenues, as did IBM's storage products. But the semiconductor (OEM) revenues fell sharply due to a glut of worldwide supply of DRAM chips, and about a 70% price drop since a year ago.

Overall, IBM's hardware revenues increased 4% to $8.7 billion, exceeding our as well as Wall Street's expectations (we expected hardware revenues to decline to $8.1 billion from $8.3 billion in the third quarter 1997).

Rentals and financing revenues were also slightly higher than expected ($1 billion versus $929 million we had predicted).

The rest of IBM business segments reported results generally in line with our expectations. Services continued their 20%-plus growth (23% in the latest period). Software revenues rose 4.5%, while the maintenance business declined by 8%.

Overall, it was a solid quarter delivered under trying global economic circumstances. Yet IBM's new CFO, Doug Maine, warned analysts during this evening's teleconference not to increase their year-end estimates for IBM. And he did it not once, but twice - guess just in case there were some tone-deaf people analyzing IBM for Wall Street investors.

Maine cited the vagaries of currency markets and generally unstable global economic conditions as the reason for his caution. All of which is true, of course. And refreshing, compared to other IBM CFOs who used to spew out their ever-onward-and-upward optimistic BS even as their company was about to hit the rocks (e.g., Allen Krowe, Frank Metz).










But we could not help but wonder if, in the back of IBM CFO's mind (who, by the way, sounds like a breath of fresh air compared to his predecessors), there might not have been a chart such as the one shown above. Our IBM "Fluff Chart" shows how its stock was not propelled into record territory by increased earnings and equity, but by its $23 billion-and-counting stock buyback program, plus other "financial engineering" feats, such as lower tax rates, both of which helped Wall Street blow "hot air" into the Big Blue balloon.

IBM's current market capitalization, for example (a record high, by the way) - consists of $18.6 billion of equity, and $111.4 billion of "fluff," read Wall Street's inflated expectations of future earnings. Which means that IBM's F/R ("fluff ratio" - market cap over equity) has now also reached a record high of seven!

To give you a feel for what that means, consider that Hewlett-Packard's and EDS' "F/R ratios," for example, are just over three times equity. Which means that IBM stock is now overpriced by more than a factor of two relative to its peers' shares.

This Wall Street financial perversion also means that IBM's current EQUITY is $9 billion LOWER (!) than it was when its former chairman, John Akers, was deposed in January 1993, supposedly for not delivering value to its shareholders. Yet Big Blue's today's market capitalization is $102 billion higher!

Since 1990, when IBM's equity peaked at $43 billion, the Big Blue's shareholders have lost $24 billion in tangible equity, while gaining $67 billion in "fluff money."

Who says you can't buy Wall Street research's recommendations? Who says the stockmarket investors today are less gullible that were their ancestors during the California or Alaska gold rush?

On the contrary, the preceding facts suggest that today's stockmarket investors are greater fools than those who panned for gold in sub-freezing temperatures a century ago. And least the latter had something tangible in their hands.

In the end, IBM's chairman, Lou Gerstner, may turn out to be a hero in this land of the Farce and Greed, for the time being, at least. He seems to have figured out the Wall Street's scam (or was he a part of it, by being let in on it on the "house rules" as one of the insiders?).

Either way, Gerstner poured $23 billion of IBM's shareholders' equity down the drain (or so we thought). Yet he increased the "fluff value" (the paper value) of his company by over $100 billion! To the applause of all present "fluff money" benefactors.

And so, the aura of the "Great Houdini" lives on. Only in a different setting and a smaller, plumper body.

Until one day, something or somebody bursts the "hot air" balloon. And the facts become facts once again. And the fluff is brushed away. At which point, "Louis XIX of Armonk," along with quite a few of his Wall Street fair-weather friends, will need a shelter imagined and sought, but never attained, by the French aristocracy who showed a similar disdain for their people's welfare a couple of centuries ago.

Of course, most of this is likely to be brushed off as mere crowd noise by today's powers that be on Wall Street. As it was over two centuries ago in Paris. Before the royal and other heads started to roll...

Happy bargain hunting!

  Bob Djurdjevic

Additional Charts

  • IBM's 3Q98 Pretax Profit Shares (last 3 years)
  • IBM's 3Q98 Revenue Shares (last 3 years)
  • IBM's 3Q98 Gross Profit Shares (last 3 years)
  • IBM's Quarterly Net Profit (Loss) (1990-1998)
  • IBM's Quarterly Gross Margins, SG&A (1990-1998)
  • IBM's Quarterly Operating Margins (1990-1998)
  • IBM's Negative Cashflows (last 3 years0
  • Equity Drops by Another $1.2B! (since Sep/97)
  • IBM International Revenues (North America, Europe, Asia/Pacific, Latin America)


  • IBM Income Statement - 3Q98 (last 3 years)
  • IBM Pretax Profitability - 3Q98 (last 3 years)
  • IBM '98-'99 Revenue/Earnings Forecast

Are you eager to learn more? If so, please call 602/824-8111.

Also check out Annex Bulletins "Wag the Big Blue Dog" and "the new blue."

Volume XIV, No. 98-36
October 20, 1998

Editor: Bob Djurdjevic
Published by: Annex Research;

5110 North 40th Street,      Phoenix, Arizona 85018
TEL: (602) 824-8111        FAX:

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