<%@ LANGUAGE=VBScript %> <% Set asplObj=Server.CreateObject("ASPL.Login") asplObj.Protect Set asplObj=Nothing %> Excerpts from analysis of IBM 3Q07 results (Oct 16, 2007)

Annex Bulletin 2007-36                            October 16 , 2007

Excerpts from CONFIDENTIAL CLIENT edition (Annex clients click here)

Recent...

On the Button Again -  Analysis of IBM 3Q07 results [Annex clients click here]

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IBM CORPORATE

Updated 10/16/07, 7:50PM PDT

Analysis of IBM's Third Quarter Business Results

On the Button Again

Services Exceed Expectations, But Financial Sector, Mainframe and High-end Software Disappoint

SCOTTSDALE, Oct 16 - IBM hit the third quarter numbers on the button again (in line with Wall Street's expectations), but the financial services sector, mainframe and high-end software growth slowdowns disappointed analysts and investors.  As a result, the IBM stock gave up in after-hours trading most of the gains it had accumulated earlier in the day in anticipation of a better third quarter.

[chart here]

After dropping by as much as 2%, IBM shares stabilized around $118 in after-hours trading, down 1.3% from their today's closing price of $119.6 (see the chart).

IBM earnings were up 6% to $1.68, a tad higher than the $1.67 Wall Street had expected, while revenues hit the average analyst estimates on the nose at $24.1 billion, up 7% from the year before.

[snip & charts here]

Asia/Pacific Continues to Grow Fastest

Geographies. The Americas revenue growth was 3%, same as the U.S. market.  IBM cited the weakness in Financial Services sector as the main reason for its relatively slow growth.

Europe had a slightly better  performance, rising 11% as reported, and 4% in constant currency.  Germany and Spain turned in the best results.  

[snip]

Strong Services Growth

Services.  Offsetting some hardware and software disappointments were the stronger-than-expected IBM Global Services growth rates.  The GTS (Global Technology Services - mostly outsourcing) revenues were up 13%, while its profits rose 26%.  The GBS (Global Business Services - mostly consulting) business performed even better.  Its revenues were up 16%, while profits surged by 29%.

[snip]

So the best thing IBM should to do offset the negative effects of its services resurgence is to boost its highly profitable software growth.

Slower Software Growth, Lower Margins

Software: Alas, IBM software's profitability has also come under pressure in the third quarter.  Gross margins are down 1.1 points from a year ago.  But at 84.2%, this Big Blue segment is still hugely profitable.  That is why a slowdown in its revenue growth rates has been particularly unwelcome at this time when IBM could have used a boost.

[snip]

Slowing Mainframe Demand, Financial Sector Woes

Hardware: We figure that the lower growth rates of the IBM software brands are probably related to a slowdown in mainframe demand.  After all, mainframes pulls over $14 billion in revenues for IBM, almost five times the actual hardware server sales.  And slowed the System z revenues did in the third quarter - down 31% as reported and down 34% in constant currency.  MIPS shipments also dropped by 21% since a year ago.

[snip]

"Hardware did not meet our expectations," Loughridge summed it up.  "We are disappointed with the third quarter results."

Summary

Overall, however, it was a good quarter for IBM, right on the money as far as Wall Street expectations are concerned.  But some of the above disappointments may negatively affect the IBM stock that had risen in anticipation of strong third quarter results.  Furthermore, a possibility that the financial credit crisis may spread and affect IBM's high end results is also likely to be on the back of investors' minds.

As if anticipating such worries, the IBM CFO tried to assure the analysts that the company expects to meet the average of earnings per share estimates on the Street for the fourth quarter of a 15% growth.  Loughridge said that analysts' full year estimates were "consistent with our full-year objectives."

[snip]

"That's all she wrote," we're afraid, for those of you who are NOT Annex Research clients, who are now reading the complete Annex Bulletin, along with many tables and charts that back up our forecast.  

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Bob Djurdjevic

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Volume XXIII, Annex Bulletin 2007-36
October 16, 2007

Bob Djurdjevic, Editor
(c) Copyright 2007 by Annex Research, Inc. All rights reserved.
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