Company Reports

We are maintaining our $139 fair value estimate for narrow-moat IBM after the firm started 2024 on the right foot, with solid first-quarter sales and profitability, and reaffirmed its guidance for the remaining three quarters of the year. IBM also announced its intention to acquire HashiCorp for roughly $6.4 billion in an all-cash deal. While this acquisition does not affect our IBM valuation, we think HashiCorp's cloud infrastructure software has synergies with IBM’s existing products, especially Red Hat.

We are raising our fair value estimate for narrow-moat IBM to $139 from $126 after the firm finished out fiscal 2023 with quarterly results ahead of our revenue and profitability estimates. While we think IBM will continue to have standout parts of its portfolio that will prove to be best-of-breed in their respective areas, like transaction processing software, we continue to believe the new age of IT interoperability will continue and will drive the unraveling of the average customer's spending with IBM. With this view baked into our forecast, we view IBM’s shares as overvalued relative to our updated fair value estimate.

IBM still brings the “big” to its moniker Big Blue. IBM is one of the world’s largest IT services companies, the dominant provider of mainframes and a prominent player in the public cloud, data management systems, and other software products, like middleware and integration software. While IBM has tried to refresh its diverse offerings, we think IBM’s moat is weakening as the cloud transition chips away at IBM’s competitive advantage associated with customer switching costs.

IBM's third quarter beat our EPS expectations while coming in slightly under our revenue forecasts. While the infrastructure business saw revenue declines, interest in business automation software was healthy as the efficiency gains are seen as a worthy cost to enterprises even amid general budget tightening. We are maintaining our fair value estimate of $126 per share for the narrow-moat IT services provider, which leaves the company overvalued. While we think IBM will continue to have standout parts of its portfolio that will prove to be best-of-breed in their respective areas (like transaction processing software), we continue to believe the new age of IT interoperability will continue and will drive unraveling of the average customer's spend with IBM. As a result, we think a five-year revenue compound annual growth rate of 2% and margin expansion of just over 2 points is within reason for Big Blue. But we find it difficult to wrap our heads around greater expectations for the firm.

IBM’s second-quarter results were mixed—with a revenue miss but a strong earnings beat. Yet, with a maintained outlook, IBM appears to be on a steady path for the remainder of the year to hit moderate revenue growth thanks to steady performance in software and consulting, especially related to the boom in data and artificial intelligence. We retain our fair value estimate of $126 per share for the narrow-moat IT services provider, which leaves shares slightly overvalued. We continue to believe that there are more appealing opportunities in the IT services space, such as Cognizant, given our $91 fair value estimate for the narrow-moat name.

IBM’s first quarter came short of our expectations on the top line while exceeding our earnings forecasts, thanks to margin strength. While consulting revenue has weakened due to its discretionary nature, we found it comforting that IBM is not seeing weakness in software, as we believe software is the stickiest of IBM’s offering, which contributes to the firm’s narrow moat. This assurance is reflected in management’s roughly maintained guidance for the year. As a result, we are reiterating our fair value estimate of $126 per share, which leaves shares fairly valued, in our view. As a reminder, since December 2022, IBM’s stock price has consistently fallen, approaching our fair value estimate. We believe the market is now properly factoring in IBM’s vulnerabilities amid tougher competition in a quite different IT services landscape compared with the once closed systems landscape it used to benefit from.

IBM reported fourth-quarter results that beat FactSet revenue and earnings consensus expectations and visibility into the year ahead. However, weaker free cash flow dampened the beat, contributing to shares declining by roughly 2% after-hours to nearly $138 per share. While earnings also came with news of job cuts at IBM, we see these cuts being unlike other technology sector layoffs at the moment, as they are related to IBM’s recent divestitures. Altogether, we are maintaining our fair value estimate for the narrow-moat stock at $126 per share, which leaves shares fairly valued, in our view. While we think IBM benefits from a narrow moat, we think its moat is trending negative as the IT stack of enterprises has become increasingly interoperable, chipping away at IBM’s less-differentiated businesses. We believe IBM will benefit from overall robust demand for enterprise software and IT consulting—but not come close to growth rates we expect for the respective markets individually.

IBM still brings the “big” to its moniker Big Blue. IBM is one of the world’s largest IT services companies, the dominant provider of mainframes and a prominent player in the public cloud, data management systems, and other software products, like middleware and integration software. While IBM has tried to refresh its diverse offerings, we think IBM’s moat is deteriorating as the cloud transition chips away at IBM’s competitive advantage associated with customer switching costs.

IBM still brings the “big” to its moniker Big Blue. IBM is one of the world’s largest IT services companies, the dominant provider of mainframes and a prominent player in the public cloud, data management systems, and other software products, like middleware and integration software. While IBM has tried to refresh its diverse offerings, we think IBM’s moat is deteriorating as the cloud transition chips away at IBM’s competitive advantage associated with customer switching costs.

IBM’s third quarter involved a nice beat on the top line despite significant currency headwinds, while EPS came in slightly under our non-GAAP expectations. As a result of rosier demand, the revenue outlook for the year increased, and is now expected by management to be above its former mid-single-digit growth forecast in constant currency. Upon results, IBM shares have risen by 3%, which now has the stock trading right at our fair value estimate. We maintain our fair value estimate of $126 per share for the IT services provider. Altogether, we reiterate our narrow moat and negative moat trend rating for Big Blue—as we think that the hybrid cloud strategy the company is banking on will not come to fruition in full. Instead, we believe the majority of workloads will eventually move to the cloud.

IBM’s second quarter beat FactSet consensus for the top and bottom lines despite currency and inflationary headwinds, especially for IBM's consulting business. As a reminder, IBM's second quarter is seasonally a strong one, and this was combined with the launch of a new mainframe cycle, with the z16, a combination that IBM hasn't benefited from in 20 years. The combination helped blitz headwinds, but we caution investors that this was more happenstance than an element of long-term beneficial change. And, while the revenue outlook was reconfirmed for the year, management tapered free cash flow estimates due to headwinds from currency and Russia, bringing shares down approximately 4% upon results to near $132 per share. We are maintaining our fair value estimate of $126 per share for the narrow-moat IT services provider, which leaves the company fairly valued.

IBM's first-quarter results missed our expectations on the bottom line. We had been slightly more optimistic on margin expansion given that the quarter was the first full quarter in which IBM's low-margin Kyndryl business had been spun off. Nonetheless, the quarter included bright spots like upped guidance and strength in consulting revenue, as digital transformation demand has seemingly no end in sight. All in all, we're maintaining our fair value estimate of $126 per share for the narrow-moat IT services provider, which leaves the company fairly valued. Shares are up nearly 2% upon results, which we believe to be a result of guidance.

IBM still brings the “big” to its moniker Big Blue. IBM is one of the world’s largest IT services companies, the dominant provider of mainframes and a prominent player in the public cloud, data management systems, and other software products, like middleware and integration software. While IBM has tried to refresh its diverse offerings, we think IBM’s moat is deteriorating as the cloud transition chips away at IBM’s competitive advantage associated with customer switching costs.

IBM reported fourth-quarter results that came in strong as major enterprise digital transformation projects are underway--serving as tailwinds to IBM's software and consulting business. In addition, the company benefited from a one-time boost to revenue after establishing a commercial relationship with the now spun-off segment Kyndryl. All in all, results were above our expectations as well as FactSet consensus. We continue to believe IBM is undergoing a negative moat trend due to vulnerability as customers migrate workloads to the cloud, which we think is the reason why IBM's software and consulting group are continuing to lag its peers. However, IBM's fresh start after divesting its worst-performing segment, Kyndryl, has us likely to raise expectations slightly over the next five years, as we do expect IBM to benefit from a renewed focus on software and consulting. Combined with rolling our model ahead, we will likely raise our fair value estimate for the narrow-moat name from $119 per share.

Given recent political developments around the Build Back Better bill, we are reversing our forecast that the U.S. corporate tax rate will rise to 26% in 2022. We now believe the U.S. statutory tax rate will remain at 21% at least through President Joe Biden’s remaining term, which ends in early 2025. Our equity analysts will incorporate this new U.S. corporate tax rate assumption into their valuation models in the coming weeks. We previously simulated the impact of various tax rate changes on covered U.S. equities; reversing the statutory tax rate assumption to 21% results in a 3% average valuation increase, all else being equal.

On Nov. 4, IBM completed its spin-off of its managed infrastructure business, Kyndryl, and, in turn, forfeited its spot as the number one IT services firm in terms of revenue to Accenture, according to CRN. Our post-spin-off fair value estimate for IBM is now $119 per share, as opposed to the $125 fair value estimate we had for the combined pre-spin-off entity. As a reminder, ahead of the spin-off, IBM steadily approached our fair value range upon news of disappointing third-quarter results. With the spin-off, we believe IBM continues to trade in 3-star territory--and maintains its narrow moat, negative moat trend rating. This is a result of our continued belief that the migration to the cloud is affecting all aspects of IBM’s business (not only managed infrastructure) as enterprises rethink their IT needs across the board as they migrate and endure an already disruptive experience. We reiterate that the spin-off’s main benefit is in optics, as though Kyndryl represented the majority of the former IBM’s largest segment, it was a dying business, in our view, dragging down IBM’s top line. Managed infrastructure services for IBM and other IT services vendors have been extremely hard-hit by the migration of workloads to the cloud from on-premises instances, as with the move, enterprises have cloud service providers to manage their infrastructure instead of legacy providers, like IBM. In addition, we think shedding the group will improve IBM’s margin profile.

IBM still brings the “big” to its moniker Big Blue. IBM is one of the world’s largest IT services companies, the dominant provider of mainframes and a prominent player in the public cloud, data management systems and other software products, like middleware and integration software. While IBM has tried to refresh its diverse offerings, we think IBM’s moat is deteriorating as the cloud transition chips away at IBM’s competitive advantage associated with customer switching costs.

Despite significant market demand for digital transformation tech and services, IBM’s third-quarter results didn’t live up to our expectations, even when omitting its poor-performing Kyndryl business to be spun off soon. As IBM nears the spin-off of its managed infrastructure business, to be known as Kyndryl, we think that the real drivers for the remaining company lie in IBM’s consulting and software businesses. While consulting revenue surpassed our expectations (and consensus’), IBM’s software revenue missed—leaving us wary of the remaining company’s performance after the spin-off. Overall, we thought results were reflective of our ongoing thesis that while IBM has a narrow moat rating based on switching costs, IBM is undergoing a negative moat trend. Enterprise workload migration to the cloud already involves major business disruptions, making enterprises have to undergo switching costs regardless of if they stay with an IT services or software vendor or not.

In IBM’s second quarter, the company dealt with continued headwinds to its managed infrastructure business because of the option to now have public cloud providers manage workloads, while also benefiting from cloud tailwinds in its software and business services portfolio. But IBM won’t experience as significant offsetting trends thanks to the cloud in its results for much longer. IBM plans to spin off its managed infrastructure business, which will be called Kyndryl, by the end of this fiscal year. IBM retained its adjusted free cash flow expectations at a midpoint of $11.5 billion for 2021, while refraining from providing a top- and bottom-line outlook. As a result, we’re maintaining our fair value estimate of $125 per share for narrow-moat IBM, which leaves the company overvalued, in our view.

IBM still brings the “big” to its moniker Big Blue. IBM is the world’s largest IT services company (per management), the dominant provider of mainframes and a prominent player in the public cloud, data management systems and other software products, like middleware and integration software. While IBM has tried to refresh its diverse offerings, we think IBM’s moat is deteriorating as the cloud transition chips away at IBM’s competitive advantage associated with customer switching costs.