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IBM CORPORATE

Updated 5/12/10, 9:30AM HIT

Analysis of IBM's Long-term Business Outlook

Big Blue Rains Honey on Wall Street

Market Laps It Up and Boosts IBM Shares; IBM Executives Lay Out Six-year Plan for Financial Analysts

HAIKU, Maui, May 12 – This morning, Big Blue picked up Wall Street by its boot straps and pulled it out of its self-inflicted blues.  As the IBM chairman and CEO Sam Palmisano outlined his next five-year plan, IBM shares rose like a soufflé.  And not just the IBM stock. Take a look...

Obviously, the market liked what it heard this morning at the IBM investor conference in New York.  The bottom line is that Big Blue is driving toward an earnings per share ("operating" EPS) target of "at least $20" in 2015. 

At a quick first glance, IBM's five-year goal sounds lofty (left chart). It is considerably higher than our own five-year forecast, updated earlier this year, and summarized in the middle and right charts.

But the company's recent track record of meeting or exceeding expectations is also impressive (right chart).  So Palmisano and his team have credibility in their corner.  IBM reached its current roadmap objective of at least $10 per share at the end of 2009 -- one year early -- and expects full-year 2010 EPS of at least $11.20.

So the market is certainly reacting positively and buying into IBM's strategy and forecast.  Here are some highlights of it: 

•     Growth Markets will represent over 25% of IBM’s total revenue, up from about 15 percent in 2005.

•     Software will become almost half of IBM’s profit by 2015.

•    Investing about $20B in acquisitions that leverage IBM's global reach.

•     Improve operating leverage -- delivering productivity gains that will drive an additional $8B in gross savings.

•     Return value to shareholders -- generating $100B in free cash and returning some $70B to shareholders in the form of dividends and share repurchase.  (IBM also raised recently its dividend by 18% and expanded its stock buyback plan by $8 billion)

In other words, Big Blue rained honey this morning on the Street that's been lately been splashed with vinegar.  No wonder the investors lapped it up and pushed IBM and most other high tech share up in response.

And the investor enthusiasm carried on in the afternoon, pushing the Big Blue shares almost five percent higher on the day (right chart).

Summary

The Big Blue stock managed to hang on to most of its Wednesday gains the "day after" (May 13) despite an overall down day on Wall Street that pushed Dow Jones industrials down 114 points (right chart).   Jittery investors continued their erratic behavior punishing the Cisco shares by a drop of over 4% even though the company's latest earnings shot up 67% and its revenues soared by 27% since a year ago.

Notwithstanding the current market volatility, looks like IBM finally got Wall Street's ears with its $20 "operating" EPS forecast for 2015.   There are not many companies that can see even a couple of years into the future, let alone six.

So if it looks like Big Blue went out on a limb with such a forecast, it did.  But IBM now also has credibility of having made and exceeded its past long-term estimates in its favor.  And the investors are evidently giving it the benefit of the doubt.

Having said that, we still think that the IBM stock is grossly undervalued at the current levels relative to its peers (see Big Blue Poised for Growth Again, Jan 3).  Back in January, we figured IBM was worth about $154 per share all other things being equal. 

Of course, computer companies, like IBM and HP have underperformed the market since then by 5% to 8%.  Which means that Big Blue shares have even more headroom to grow in value since the start of the year.  It remains to be seen if what happened on May 12 was a start of such a rally or just a flash-in-the-pan reaction to a bullish forecast.

Happy bargain hunting!

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