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What Investors Need to Know About IBM's Earnings

By Timothy Green - Jan 20, 2016 at 1:40PM

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Another disappointing quarter for Big Blue is in the books, but ignore the noise: The turnaround is still making progress.

International Business Machines (IBM 0.01%) reported its fourth-quarter results after the market close on Jan. 19. The company beat analyst estimates for both revenue and earnings, but a year-over-year revenue decline marks the 15th quarter in a row that the century-old technology company has reported declining sales. Guidance for 2016 was also disappointing, with IBM expecting earnings to decline again this year, following an earnings decline in 2015. Here's what investors need to know about IBM's fourth-quarter results.

Image source: IBM.

Earnings rundown
IBM reported quarterly revenue of $22.1 billion, down 9% year over year but slightly higher than analysts' expectations. Most of this decline was due to currency fluctuations; on an adjusted basis, revenue fell by just 2% year over year. A strong U.S. dollar has been wreaking havoc on IBM's headline numbers for the past few quarters, but the adjusted figures are a more relevant indication of the performance of the company.

By geographic region, here's how IBM performed during the quarter:

Region

Reported Revenue

Reported Revenue Growth

Adjusted Revenue Growth

Americas

$10.3 billion

(8%)

(4%)

Europe/ME/Africa

$7.3 billion

(9%)

1%

Asia-Pacific

$4.4 billion

(10%)

(3%)

Data source: IBM earnings release.

All of IBM's segments suffered year-over-year revenue declines during the fourth quarter, but adjusting for currency, the situation doesn't look quite as dire:

Segment

Reported Revenue

Reported Revenue Growth

Adjusted Revenue Growth

Software

$6.8 billion

(11%)

(6%)

Global technology services (GTS)

$8.1 billion

(7%)

1%

Global business services

$4.3 billion

(10%)

(4%)

Hardware

$2.4 billion

(1%)

3%

Financing

$0.5 billion

(15%)

(6%)

Data source: IBM earnings release.

While weakness in software is something to be concerned about, strength in both the GTS and hardware segments on an adjusted basis points to at least some things going right for IBM. Growth in hardware sales was driven by a 21% year-over-year increase in mainframe sales, as well as an 8% increase in sales of Power systems. IBM has worked over the past few years to reposition its Power business through the OpenPOWER initiative, and growth in that segment is encouraging.

IBM's strategic imperatives, which include cloud, analytics, security, mobile, and social, grew by 10% year over year during the fourth quarter, or 16% on an adjusted basis. During 2015, the strategic imperatives accounted for 35% of IBM's total revenue, generating $28.9 billion in sales. These are the areas where IBM is betting big, and while declines in other parts of the company currently more than offset strong strategic imperative growth, a double-digit growth rate is impressive given the size of these businesses.

For the full year, total cloud revenue increased by 57%, adjusted for currency to $10.2 billion. Cloud-delivered-as-a-service is now at a $5.3 billion annual run rate, compared to $3.5 billion at the end of the fourth quarter of 2014. Analytics generated $17.9 billion of revenue for the year, growing by 16% adjusted for currency. Mobile revenue more than tripled, and security revenue grew by 12%.

Turning to profit, IBM reported fourth-quarter operating EPS of $4.84, down 17% year over year but a few cents higher than the average analyst estimate. A gain during the fourth quarter of 2014 related the divestiture of the x86 server business skewed the comparison, as did currency issues. IBM estimates that currency translation reduced its fourth-quarter profit by about $300 million.

Unfortunately, IBM expects currency issues to continue into 2016, based on current spot prices as well as the roll-off of currency hedges. During 2016, IBM expects its pre-tax profit to be reduced by about $1.3 billion due to currency, with about 75% of this coming from issues related to hedging. Operating EPS is expected to be at least $13.50 for the full year, compared to $14.92 in 2015, with currency knocking off more than $1 per share in earnings.

Not much has changed
Despite the market's reaction to IBM's earnings, which sent the stock down considerably the next day, nothing has really changed about IBM. The company continues to shift resources to its strategic imperatives, currency continues to make the headline numbers look terrible, and the turnaround continues to make steady, if uneven, progress. I was hopeful that IBM's currency issues would be reduced this year, as I said in my IBM earnings preview, but it now looks like this won't be the case.

However, all of these currency-related issues have nothing to do with the business itself, and in the long run, exchange-rate fluctuations are unlikely to matter. What does matter is the progress IBM is making moving its business toward its high-growth and high-value strategic imperatives. There's a lot of noise in IBM's results, and its guidance for 2016 is disappointing, but the company still appears to be on the right track. As always, investors will need to be patient.

Timothy Green owns shares of International Business Machines. The Motley Fool has no position in any of the stocks mentioned. 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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