International Business Machines Corp. (IBM): Buy the Dip or Pump the Brakes?

Oppenheimer's Ittai Kidron asks where can IBM "go from here" following two consecutive years of gross margin downturns in every segment?


International Business Machines Corp. (NYSE:IBM) investors are sending shares on a 3% dip this morning after the tech giant turned over a mixed fourth quarter earnings showcase last evening. True, revenue beat out consensus expectations, and this growth is not a side note. However, gross margin weakness has left some shareholders less-than-impressed.

Oppenheimer analyst Ittai Kidron chimes in with a take from the sidelines on IBM, a company that got its start as one of the initial production makers of PCs, since making the transition to to broad-based production, both as an integrator as well as a software maker.

This tech giant scored a “return to YoY revenue growth,” a key positive from Kidron’s eyes. “Now” it is a game of “waiting for margins” to come out from the current “pressure” holding them under.

In reaction to the “mixed” print, the analyst reiterates a Perform rating on IBM stock without listing a price target. (To watch Kidron’s track record, click here)

For the fourth quarter, IBM posted $22.54 billion in revenue and $5.18 in EPS, topping the Street’s expectations calling for $22.05 billion in revenue and $5.17 in EPS. Overall revenue rose year-over-year, an exciting milestone that IBM had not seen since the first quarter of 2012. Yet, Kidron notes the revenue upside took advantage mostly from Systems all with gross margin falling year-over-year and coming up short of consensus on all segments. The analyst highlights a tax headwind as stirring the bottom-line pressure IBM is confronting this year.

“Positives include a return to YoY revenue growth for the first time in nearly six years and strong revenue growth in IBM’s Strategic Imperatives (SI), which appears on track to exceed 50% of revenue in 2018. While positive, YoY revenue growth was driven entirely by Systems, thanks to strong uptake for IBM’s new mainframe, and gross margin concerns remain front-and-center, falling YoY across every product category. Overall, we’re positive on the continued progress in SI, but we view it as baked in and believe investors are balancing it against margin concerns. For sentiment to improve, IBM will need to see margins bottom and growth come from high-profile areas (Cognitive),” writes Kidron.

The looming question for Kidron is hovering over just “when will gross margins bottom” considering IBM has now seen two back-to-back years of gross margin dips in each of its segments. With top-line growth and margin trends appearing hazy, right now from where the analyst is surveying IBM’s bigger picture, the company’s earnings prospects for the new year seem “cloudy.”

Ultimately, “Despite the overall top-line progress, the devil is in the details, with revenue challenges in several key growth segments. On top of that, gross margin pressures continue and it isn’t clear when margins will bottom. We expect progress in SI to continue and would wait for margin stability before revisiting our view. Adjusting estimates for results/guidance,” Kidron concludes.

TipRanks showcases caution-tinged optimism circling this tech player, with 4 out of 11 analysts of the last 3 months betting bullish on IBM and 7 playing it safe on the sidelines. With a return potential of 3%, the stock’s consensus target price stands at $174.25.

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