Lawsuit Aside, NSA Scandal Is Bad News for IBM

International Business Machines (NYSE: IBM  ) has had a rough couple of months, with the concerns over their business prospects in China causing share prices to drop. That gave way to a shareholder lawsuit early this past week.

The lawsuit alleges that IBM concealed the depth of the risks the NSA surveillance scandal posed to their business overseas, particularly in China. They go on to say IBM's direct cooperation with the NSA in certain surveillance schemes posed a "material risk" to sales. IBM's sales dropped 22% quarter over quarter in China, something the company directly attributed to the NSA backlash.

Shareholder lawsuits come and go, and I'm not going to pretend to have any particular insights on the merits of the case or whether the lawsuit in and of itself poses any real financial problem for IBM. Whether or not IBM "concealed" the risks of the NSA scandal, those risks are palpable and impacting the bottom line

The NSA problem
With fears of industrial espionage as well as government spying front page news across the globe, IBM is going to continue to face struggles overseas whether it cooperates directly with the NSA or not. The taint of being an American company, in this case, is the whole problem, and that means its being the scope of IBM's management to do very much about where it is based, nor the implications.

Worldwide, but particularly in countries like China, Brazil, and Germany where the scandal is getting the most coverage, NSA policy is directly threatening American companies' competitiveness in technology. Those buying anything that is security-sensitive are increasingly choosing European or Asian alternatives.

In the long run, the only thing that's going to end this is wholesale policy reforms, and so far politicians haven't made more than a cursory effort to touch the matter. In all likelihood it's going to take years to resolve this. That means a lot of lobbying from both civil liberties groups and the companies affected, which we're already seeing in the form of public calls for reform.

What this means for IBM
IBM makes great business solutions and they're going to remain a top dog in the domestic IT market as a matter of course. The problem is that the US market is already pretty mature, and their growth was supposed to come from overseas.

Still, floating near its 52-week lows one might be forgiven for seeing IBM as a buy at these levels, something to sit on and wait for the rebound. It's hard not to be sympathetic to that position when the company is a world-class one like IBM. With $36 billion in debt and the NSA scandal likely to be a very long-term drag this may be a time to wait and see if there's a cheaper entry point in the future. Either way, stopping the bleeding on overseas sales is going to take a while, so this is something you'd buy for the long term.

Then there was Siemens
But IBM's troubles may be other companies' gains. Those companies that are ditching IBM because of the NSA are probably not just putting their buys on hold, and are no doubt looking for a (preferably not-American) replacement.

Siemens AG (NASDAQOTH: SIEGY  ) springs immediately to mind as a company comparable to IBM in size, focus, and product quality. Even more appealingly, it's German and therefore has the inside track across the EU for replacing IBM in security-sensitive applications. If they can also use IBM's stumble to grow their business in China, so much the better.

Siemens boasts a better price/book ratio and was already growing at a healthy clip, one that should be even healthier with IBM no longer in the mix for certain contracts. With its history of dividends and its broad international appeal there was already a lot to like about Siemens, and there's even more to like now.

Final Foolish thoughts
IBM isn't going anywhere, but its competitiveness is stunted internationally and likely for years to come. Because of this, companies like Siemens should continue to make inroads in the fast-growing overseas markets, making it the place to be in the near term.

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  • Report this Comment On December 18, 2013, at 10:18 AM, king4life wrote:

    That is not true. IBM denied that the NSA attributed to the fall in revenue from China. Search Allthingsdigital. You need to retract this now.

    Yesterday, IBM learned of a lawsuit pushing a wild conspiracy theory. This lawsuit seeks to confuse IBM’s support for a U.S. cybersecurity legislative proposal — which has yet to be enacted — with the completely unrelated NSA surveillance program called PRISM. Even a cursory reading of the legislative proposal, known as CISPA, makes clear that it has nothing to do with the recently disclosed NSA surveillance program. The legislation is designed to help protect companies from cyber attacks by encouraging the sharing of technical cyber threat information, such as malware code. The ability for those under attack to work together to help prevent cybercrime is a modern business requirement and an important goal, which is why many companies, including IBM, support such legislation. This bill does not refer to China, and it does not authorize government surveillance, facts that the plaintiff and its attorneys could have easily determined had they bothered to do the slightest fact checking.

    Starting from this fictitious connection between CISPA and PRISM, the complaint proceeds to make numerous specious and false accusations, and IBM calls upon the law firm that filed this action to do the right thing and dismiss this action immediately. To fail to do so is a profound disservice to the judicial system, to the public, and in this case, to IBM.

    IBM will vigorously fight this baseless lawsuit.

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