bookings made investors shiver last month. But an industrywide spike in services revenue, plus sentiment that December's concerns were overblown, indicate that Big Blue may well post a solid fourth quarter.
"In Like a Lamb, Out Like a Lion," was the upbeat headline on a note about the services industry by Moors & Cabot analyst Cindy Shaw. "Based on big deal signings that we tracked, we believe Q4 recovered from a tepid start to post increases of 12% sequentially and 10% year over year," she wrote last week.
Services revenue is rightly a top-of-the-mind concern for IBM investors; this year it will likely account for about $50 billion of the $93 billion in total revenue analysts expect the company to report. Bookings represent new services business, often recognized over five or more years.
Although she called the concerns over services bookings "overblown," Shaw, whose firm has no banking relationship with IBM, doesn't expect IBM to do much better than the $11 billion in new business it posted in the third quarter.
Indeed, $11 billion would represent a year-over-year decline from the $12.7 billion posted a year ago.
Goldman Sachs analyst Laura Conigliaro, whose company has a recent investment banking relationship with IBM, was a bit more optimistic, saying she's looking for bookings of "$11 billion plus" in the quarter.
A month ago, though, some analysts were expecting bookings of just $10 billion in the quarter. What's more, the services business is notoriously "lumpy," meaning that changes over a trailing 12-month basis are somewhat more meaningful than the usual quarter-vs.-quarter comparisons, and massive deals can take some time to close.
Both Shaw and Conigliaro wrote that IBM seems well positioned to score some big services wins in 2006, including a $2 billion to $2.5 billion deal with the German army and a five-year, $15 billion contract with
The larger issue is IBM's ability to do something that will energize its stock price, which dropped 16% last year and has been essentially flat for three years. Despite poor recent returns, there's a fair amount of optimism about the stock's future.
The bullishness is not confined to the sell side, where First Call pegs the consensus target price at $97.50 (the stock closed Friday down 40 cents to $83.17), but is easy to find on the buy side as well.
"As IBM continues retooling its business model and becomes more of a software and services company, I think it will start seeing better multiples," says Mike Binger, a fund manager at Thrivent Financial, which holds Big Blue shares.
Binger figures that consistent progress will take some time, perhaps 12 month to 24 months, and he views the stock as a buy at about $80 a share, and a sell at $90.
Sushil Wagle, an analyst at J&W Seligman, has a target price of $97 and says he expects the company to do well in 2006, as long as the macro-environment stays positive.
He expects IT spending to grow modestly this year, and says that IBM, along with other large, broad-based technology companies, will get more than their share of the added dollars.
Wagle adds that some investors thought the massive GM deal would close in the fall, and when it didn't, IBM's services business looked worse than it is. His company owns shares of IBM.
Also, last week the
Securities and Exchange Commission
said that an ongoing probe of the way in which IBM announced a change in how it accounts for stock options has been
upgraded to a formal investigation. But because the period in question is the first quarter, it isn't likely that the SEC investigation will ultimately lead to changes in the numbers that IBM is set to report.
On a P/E basis, IBM is somewhat cheaper than its peers at 15 times estimated 2006 earnings, but not by much.
, for example, is trading at 17 times earnings;
at 16 times;
at 18 and
Despite the sale of its PC business in 2005, IBM still has a big foot in the hardware business. In the third quarter, hardware revenue was $5.1 billion, or nearly 24% of the company's total revenue of $21.5 billion.
Prudential analyst Steven Fortuna expects the company's mainframe revenue to grow by 7% to 8% in the quarter, while the storage business, closely tied to the mainframe, will grow by some 20%, he said in a recent note to clients.
The entire hardware business, including semiconductors, buoyed by sales related to Microsoft's Xbox 360, should do well and see higher margins, wrote Fortuna, whose company does not have an investment banking relationship with IBM.
Worth noting: IBM's revenue will take a hit in the quarter because of the stronger dollar, and the company will record a charge of $270 million related to its decision to scale back pension benefits.
Earnings will be released after Tuesday's closing bell.