Why IBM Is Dragging on the Dow Jones Today

IBM is down after missing earnings expectations.

Apr 17, 2014 at 1:30PM

IBM (NYSE:IBM) is weighing on the Dow Jones Industrial Average (DJINDICES:^DJI) today after reporting disappointing earnings. As of 1:20 p.m. EDT the Dow was flat at at 16,434. The S&P 500 (SNPINDEX:^GSPC) was up a mere four points to 1,866.

With its relatively high stock price, IBM is one of the Dow's heaviest-weighted components, so its 3.1% decline today is having an outsize effect on the index.

IBM reported earnings yesterday evening that disappointed investors. Earnings per share excluding one-time items fell 15% year over year to $2.54, right in line with analyst expectations. One-time items include an $870 million restructuring charge related to layoffs; with those expenses included, EPS came to $2.29.

For the fifth quarter in a row, however, IBM reported revenue that missed expectations. In the first quarter of 2014 revenue was down 4% year over year to $22.5 billion, missing analyst expectations of $22.9 billion. Sales were especially weak in China, where revenue declined 20%. IBM continues to be hurt by declines in the server business, where revenue fell 23% to $2.4 billion. IBM is taking steps to exit the server business. IBM plans to sell its x86 server business to Lenovo for $2.3 billion, provided the deal is approved by Chinese and U.S. regulators. You may recall that Lenovo is the company that purchased IBM's personal-computer and ThinkPad division in 2005. IBM and Lenovo's relationship appears to follow the classic disruptor model where an incumbent exits low-margin businesses to focus on higher-margin opportunities, continually giving up market share to challengers.

IBM maintained its EPS guidance of $18 for 2015 and $20 for 2015. The company is investing more in the high-margin growth areas of cloud computing, security, and mobile. Its most high-profile effort is cloud computing, where the company plans to invest $1 billion in an effort to grow its earnings.

Is IBM still a Buffett Pick?
Warren Buffett historically tends to buy businesses with strong moats at 10 times pre-tax earnings. Case in point, Warren first bought IBM in 2011 at 9.7 times pre-tax earnings. This came as a shock to many, as Buffett has a famous aversion to tech stocks.

Over the past 12 months, IBM had pre-tax earnings of $18.9 billion.

IBM Pre-Tax Income (TTM) Chart

IBM Pre-Tax Income (TTM) data by YCharts.

With a market cap of $204.5 billion, IBM's stock currently trades at 10.8 times pre-tax earnings, so if history is any guide, the stock may have to fall further before we can expect to see Buffett purchasing shares again.

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Dan Dzombak can be found on Twitter @DanDzombak or on his Facebook page, DanDzombak. He has no position in any stocks mentioned. The Motley Fool owns shares of International Business Machines. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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