Updated from 8:40 a.m. to include comments from BMO analyst.
NEW YORK (TheStreet) –– IBM (IBM) - Get International Business Machines Corporation Report shares slumped as the company's service backlog continued to slip, despite reporting better-than-expected second-quarter results.
Armonk, N.Y.-based IBM said its services backlog fell 1% to $136 billion, when adjusting for the customer care outsourcing business which it sold off earlier this year. IBM depends on services for more than half of its quarterly revenue, as it transitions into higher growth businesses, such as cloud computing, big data and analytics, security and mobile.
Global services segment revenue decreased 1% to $13.9 billion, with the global technology services segment amounting to much of that at $9.4 billion. IBM's global business services segment revenue fell 2% to $4.5 billion.
On the earnings conference call, Chief Financial Officer Martin Schroeter addressed this, saying that signings growth had a difficult comparison last year, but that it should improve. "So we had a difficult compare," Schroeter said on the call, noting that contract signings growth in the first and second quarters of last year was north of 30%. "We knew that in the first half. But we do see getting the signings content growing again in the third."
IBM shares slumped 0.45% in early Friday trading to $191.63.
The worries over IBM's service backlog comes despite the company beating analysts' earnings estimates. Investors, however, have expressed concerns that the company is no longer focusing on revenue and earnings but rather financial engineering.
IBM reported non-GAAP earnings of $4.32 a share on revenue of $24.36 billion. Analysts polled by Thomson Reuters had expected earnings of $4.29 a share on revenue of $24.13 billion.
TheStreet's Keris Lahiff breaks down IBM's Q2 results:
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"In the second quarter, we made further progress on our transformation. We performed well in our strategic imperatives around cloud, big data and analytics, security and mobile," said Ginni Rometty, IBM chairman, president and CEO. "We will continue to extend and leverage our unique strengths to address the emerging trends in enterprise IT and transform our business, positioning ourselves for growth over the long term."
Despite the concerns over services, IBM continues to make headway in its key initiatives, despite having been behind the curve in cloud, allowing competitors such as Amazon (AMZN) - Get Amazon.com, Inc. Report to surpass it. IBM noted cloud revenue was up more than 50% year to date, and business analytics revenue rose more than 7% year to date.
IBM continues to say that it expects to deliver at least $18 a share in non-GAAP earnings, though Wall Street remains cautious on that.
Most analysts were slightly negative on the results following the call. Here's what a few of them had to say.
Barclays Capital analyst Ben Reitzes (Equal Weight, $180 PT)
"While core profitability was modestly below expectations and bookings were very weak, IBM showed some progress in hardware and emerging markets. The company maintained guidance for non-GAAP EPS of 'at least' $18 for CY14 and $20 for 2015, despite weaker software revenues. We believe that the revenue environment for IBM will remain challenging given pressures from the Cloud, but cost savings, 'below-the-line' items and an expected new mainframe should all help results in C2H into 2015. With bookings weak and changing behaviour in software consumption, we still believe that free cash flow is the right metric to track with IBM, and it should remain well below EPS for some time."
UBS analyst Steve Milunovich (Neutral, $195 PT)
"IBM's 3Q report was mixed but did not suffer the revenue disappointment so common the past two years. Revenue of $24.4bn down 2% was on our estimate and EPS of $4.32 slightly beat our $4.31. Weak software revenue and services bookings suggest the legacy businesses remain at risk, but overall we are encouraged. Keys to the stock working from here are (1) investor confidence in making $20 in 2015 aided by a new mainframe cycle, and (2) a shift in the perception that cloud could devastate IBM."
JPMorgan analyst Tien-tsin Huang (Neutral, $197 PT)
"Revenue upside was driven by better-than-expected improvement in two challenged areas (hardware and China), which more than offset softer results in software and services (GBS). EPS was $0.01/$0.03 ahead of consensus/JPMe primarily on a lower share count. Mgmt reiterated prior FY guidance, but their 3Q outlook missed consensus (and our own)
estimates, as we under-appreciated transactional mix in 2H."
Cantor Fitzgerald analyst Brian White (Buy, $220 PT)
"Last night, IBM reported 2Q:14 results with sales and EPS beating our projections, while the company maintained its 2014 EPS projection of at least $18.00 and reiterated its 2015 EPS outlook of at least $20.00. In our view, the tone of last night's call was decidedly more constructive than in recent quarters, and we believe the worst is over for IBM as the recovery appears to be in the works. With early signs of improving trends, IBM still trades at nearly a 40% discount to the S&P 500 Index, investor sentiment around the stock remains negative and our model reflects a bottom in the profit cycle occurred in 1Q:14, supporting our view that the stock has attractive upside, as reflected in our 12-month price target of $220.00."
BMO Capital Markets analyst Keith Bachman (Market Perform, $195 PT)
"We believe that IBM is counting on a big Q4 to make $18 in EPS this year. If EPS in the September quarter is going to be around June-quarter levels, this suggests that EPS in Q4 will need to be about $6.70/share. Moreover, EPS will need to increase by about 58% q/q, compared with the last two years' q/q average EPS increase of 51%. In addition, the December 2012 quarter had a strong mainframe contribution, and we believe that the next mainframe will more likely come in 1H15 vs. 4Q14. We believe that IBM will have to be aggressive with its share count or tax rate to make $18, which we don't think will impress investors. Services signings declined 33% y/y in the June quarter, and 1H14 signings declined by 25% y/y in CC. In addition, backlog declined 3% y/y in CC, excluding the sale of the BPO business. We think it is likely that backlog ends the year lower, even if signings increase in the 2H14. We think it will be hard for IBM stock to work with declining backlog."
-- Written by Chris Ciaccia in New York
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