Why Investors Should Care About IBM

ARMONK, New York ( TheStreet) -- IBM ( IBM) may not be the sexiest name in tech, but investors still have plenty of reasons to love the 100-year-old hardware and software giant.

"I think that this is an industry that treasures new things; there's almost a natural tendency to devalue companies that have a history," said Charles King, president of research firm Pund-IT. "And in the IT world, there's no other company around that has the history of IBM."
IBM
IBM may not be tech's sexiest company, but investors should still check out the hardware and software giant.

From its early years selling tabulating machines, Big Blue has morphed into a 21st century powerhouse touting a vast range of tech products from mainframes and servers to a growing portfolio of software and services. Based on Monday's close, IBM has now even surpassed Microsoft's ( MSFT) market cap for the first time in 15 years, highlighting its ongoing momentum.

"Large cap investors have fewer and fewer places to go; Cisco ( CSCO), HP ( HPQ), and Microsoft are on their backs, while others that are doing well have sky-high valuations such as NetApp ( NTAP), Oracle ( ORCL) and VMware ( VMW)," added another analyst, who asked not to be named. "That leaves a precious few in the middle such as IBM and EMC ( EMC)."

Despite consistently strong results, though, investors still seem more inclined towards the glitz and glamour of Apple ( AAPL) or even Google ( GOOG). Over the last ten years, IBM's shares have climbed just 43% to reach $168.36, compared to a massive hike of more than 2742% at Apple. Google's stock has gained more than 378% since its 2004 IPO.

The recent struggles of Cisco and HP, however, have added significantly to IBM's allure. "My view is that IBM has performed well and has a great business model compared to other large cap tech names," explained Brian Marshall, an analyst at Gleacher & Co. "Their commodity hardware revenue as a percentage of sales is only 20%, versus HP at around 50% and Dell ( DELL) at 66%."

Marshall adds that IBM generates an impressive 22% of its total sales from software, pointing out that this is a high-margin, sticky, recurring business. HP, in contrast, generates just over 2% of its total revenue from software.

"IBM made a big bet about five or six years ago that computing would become increasingly commoditized and that the product differentiation would be defined more and more by software," explained Pund-IT's King. "They have continued to bet big on that -- IBM is still a strong player in IT hardware, but software now dominates the company's value proposition."

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During the last five years, for example, IBM has spent more than $14 billion on acquisitions designed to bolster its business analysis software and services. Last week IBM also announced a $100 million commitment to research into this area, part of a broader strategy to help businesses handle vast quantities of information, known as Big Data.

Services is another key weapon within IBM's armory. The company's total services revenue climbed 6% year-over-year in its recent first-quarter results, and accounts for more than half of IBM's total sales. In contrast, HP is preparing to overhaul its lackluster services business.

"IBM's services group continues to define the gold standard for services in the world," explained Pund-IT's King. "Obviously, the company is still relevant."

"The industry we participate in today is more dominated by software and services than by hardware," Steve Mills, IBM's senior vice president of software and systems, told TheStreet, during a recent interview at the company's headquarters. "We have gone to the high value space, as reflected in some of the things like we have gotten out of, like the PC business."

Gleacher's Marshall, however, says that investors should still approach IBM with a degree of caution. " There's no doubt IBM has a solid financial model with annual EPS growth of more than 10%, but I feel the stock is fully valued at a market multiple," he said. "Additionally, IBM still lacks core IP intellectual property in the networking space."

Mills, however, argues that IBM does have a networking presence, albeit one that is largely hidden from investors. "You see us participate in a lot of areas where we might not be that visible," he explained. "We're a major component supplier to network and network equipment companies -- we're a component supplier to the handheld device manufacturers, we actually provide software to those companies."

IBM, which celebrates its centennial on June 16, may not be in the first flush of youth, but this doesn't mean that investors should shun the technology giant.

"As long as the business computing refresh continues and the migration to cloud computing continues, IBM is in a very strong and powerful place," said Pund-IT's King.

-- Written by James Rogers in New York.

>To follow the writer on Twitter, go to http://twitter.com/jamesjrogers.

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