IBM Continues Its Growth Streak

Going into the company's second-quarter financial release, IBM (IBM 0.17%) investors were cautiously optimistic that the computing giant would be able to continue the winning streak it started in 2017. After nearly six years of declining revenue growth, IBM had given investors two quarters of improvements.

Investors got what they were looking for, though the positive results were boosted by a strong dollar. 

Image source: IBM.

The raw numbers

Data source: IBM Second-Quarter 2018 Financial Release. Chart by author.

For the second quarter, IBM reported revenue of $20 billion, up nearly 4% year over year, exceeding consensus estimates of $19.88 billion. Adjusted net income of $2.8 billion increased 3% compared to the prior-year quarter, producing adjusted earnings per share of $3.08, up 5%, ahead of analysts' expectations of $3.04. 

Revenue increased across all of the company's major business segments:

Data source: IBM Second-Quarter 2018 Financial Release. Chart by author.

Revenue from cognitive solutions grew 0.5% year over year, but fell 1% when adjusting for currency changes resulting from a strong dollar. Global business services also benefited from exchange rates, up 2% compared to the year-ago period, but it was flat when adjusting for fluctuations in currency. Technology services and cloud platforms also gained 2% compared to the prior-year quarter, but they were also flat when taking exchange rates into account. The high point of the report was strength in systems hardware and operating systems software, which gained 25% year over year, or up 23% when adjusting for changes in currency.

Strategic imperatives

IBM has been banking on growth in its strategic imperatives, the company's pet name for its high-growth initiatives. These areas include analytics, cloud computing, security, and mobile, and they grew to $10.1 billion for the quarter, up 13% year over year -- the first time the group accounted for more than half of IBM's total revenue. Strategic imperatives generated revenue of $39 billion over the trailing-12-month period, up 15% compared to the prior 12-month period, and up 12% when adjusting for currency changes.

Cloud revenue for the previous 12 months of $18.5 billion increased 23% year over year. Another highlight was the strong performance of security revenue, which increased 81% compared to the prior 12-month period, cresting $1 billion.

"We delivered strong revenue and profit growth in the quarter, underscoring IBM's progress and momentum in the emerging, high-value segments of the IT industry," said Ginni Rometty, IBM's chairman and CEO.

Looking ahead

IBM maintained its 2018 forecast for at least $13.80 in non-GAAP operating earnings per diluted share, and GAAP diluted earnings per share inched higher to at least $11.60. The company continues to expect free cash flow of about $12 billion for the year and a realization rate greater than 100%. IBM also expects strategic imperatives to produce trailing-12-month revenue of $40 billion by the end of 2018.

The fine print

While IBM's several quarters of improving results have given investors reasons to be optimistic, there are still several asterisks that stand out in the current quarter's results.

It's important to point out that the majority of IBM's current growth was courtesy of its legacy systems business, or the effects of favorable exchange rates. The refresh cycle on its mainframe sales will eventually slow, and exchange rates could turn against them at any time. While IBM has ridden its recent good fortune to three successive quarters of improving results, over the longer term, its cognitive solutions and cloud businesses will need to drive the majority of the growth.

So far, that hasn't been the case.