IBM (NYSE:IBM) stock is one of Berkshire Hathaway's (NYSE:BRK-A) (NYSE:BRK-B) "big four" portfolio holdings, with a total market value of approximately $12.3 billion in Berkshire's portfolio. Perhaps even more telling is that Warren Buffett increased Berkshire's exposure to IBM during the last quarter, indicating that the Oracle of Omaha is quite confident on IBM stock and its prospects.
On the other hand, billionaire investor Stanley Druckenmiller, who was George Soros' main man when together they broke the Bank of England, earning more than $1 billion in profits by shorting the pound in 1992, is betting against Buffett -- Druckenmiller is short IBM stock.
Both Buffett and Druckenmiller were on CNBC on Monday, and they shared their opposing views regarding IBM stock. Buffett was first, explaining that he is not concerned at all about IBM's falling stock price, and that he's even capitalizing on the opportunity to buy more IBM stock for Berkshire's portfolio at lower prices. Druckenmiller reaffirmed his negative view on IBM, saying that he "respectfully disagrees" with Buffett about the future of the company.
One of us will be right, and one of us will be wrong
During the interview, Buffet said that investors should never make decisions based on the opinions of others. Druckenmiller highlighted Warren Buffett's own words, and he said that he will be following Buffett's advice when it comes to independent thinking. Regarding his discrepancies with Buffett about IBM, Druckenmiller said:
My guess is, looking at the situation, he thinks IBM's problem is cyclical. I think it's secular, and if you think a company has a secular problem, particularly the sales being lower than they were six years ago when the economy was much worse, the last thing they should be doing is buying back stock. But, if it is a cyclical problem, I am sure it'll work out. The market will fair this out, and one of us will be right and one of us will be wrong.
To be clearer, Warren Buffett believes IBM is going through a transformation process and the decline in revenues is only temporary, as the company is streamlining its business and operations to better focus on its most promising segments with higher profit margins and superior strategic value. From this point of view, management is doing the right thing by aggressively repurchasing stock, as the company is smartly capitalizing on the opportunity to buy shares back at attractive prices.
Druckenmiller, on the other hand, believes IBM is facing a permanent, or at least long-term, decline in revenues. From his perspective, the company should be focusing its capital and attention on turning things around, as opposed to repurchasing shares.
Cyclical versus secular decline
IBM is in the midst of a transformation: The company is moving away from commoditized hardware and focusing on software and services with higher profitability and opportunities to add value. In particular, IBM is betting strongly on the segments it has identified as "strategic imperatives" -- cloud, analytics, mobile, social, and security.
At the same time, the industry is changing, and this represents a considerable challenge for IBM. The cloud-computing boom is affecting demand for IBM's servers and related software business, and the middleware and systems-management markets are going through considerable changes due to the rise of software-as-a-service. The company is also facing considerable competitive pressure, both from big and well-established industry players and smaller competitors competing on the low-end of the pricing spectrum.
In this context, revenues are under pressure, and IBM announced a 1% decline in revenues adjusted for divested business and currency fluctuations during 2014. Both sales and earnings have been basically stagnant though the last five years, so the company is facing much more than a difficult year.
Not everything was that dismal, though. Sales coming from the strategic imperatives group of businesses grew by a vibrant 16% in 2014, reaching $25 billion, or 27% of total revenues, during the year.
The company intends to generate $40 billion from its strategic-imperative segments by 2018, and management believes the bulk of those revenues will come from organic growth as opposed to acquisitions. This would mean a compounded annual growth rate of 12% per year, which should provide a nice contribution to overall revenue growth.
At the end of the day, it all comes down to whether IBM has the resources and competitive strengths to successfully adapt to changing industry dynamics. The company has a large and well-established presence across different segments on a global scale. Trajectory, brand recognition, and deep relationships across the corporate world bode well in that regard. After all, there's a reason why the saying, "Nobody ever got fired for choosing IBM," is a popular mantra in the corporate world.
The road ahead for IBM could be tricky during the middle term. But on a long-term basis, I'm siding with Buffett on this one, as I believe the upside potential outweighs the downside risks in IBM stock at current prices.