Key Takeaways

  • IBM reported adjusted EPS of $1.84, matching analyst expectations.
  • Overall sales fell more than expected.
  • Global Technology Services revenue dropped more than expected.

What Happened

IBM reported $1.84 in adjusted earnings per share for Q1 2020, exactly in line with analyst estimates. Sales dropped by more than expected, as did sales of its largest legacy segment, Global Technology Services. IBM is trying to pivot to a more cloud-focused strategy after its purchase of Red Hat. However, the sales of most IBM's other businesses have continued to fall, dragging down the profitability of the company's overall business even as cloud sales grow. IBM's stock fell slightly in after-hours trading.

(Below is Investopedia's original earnings preview, published 4/14/20)

What to Look for

In the first week of April, International Business Machines Corp. (IBM) welcomed company veteran Arvind Krishna as its new chief executive officer (CEO), just as both his company and the global economy were entering a period of massive change. Krishna, principal architect of IBM's $34 billion acquisition of software company Red Hat, wants to move tradition-bound IBM to a cloud-computing-oriented business model. But he now must do that when global markets are shrinking due to the coronavirus pandemic. IBM investors will focus intently on how the giant is weathering the pandemic, and also on whether Krishna's strategy will work, when IBM reports earnings on April 20 after the market close for Q1 2020.

A key metric investors will focus on is the health of IBM's legacy Global Technology Services (GTS) business and how much it's likely to be hurt by the expected sharp economic downturn. For Q1 of 2020, analysts estimate that IBM's adjusted earnings per share will drop sharply while corporate revenue and revenue at Global Technology Services will see moderate declines.

Over the past 12 months, IBM has underperformed the broader market. The company's shares have posted a total return of -10.5% compared to the S&P 500's -3.1% total return. All figures are as of April 10, 2020.

One Year Total Return for S&P 500 and IBM
Source: TradingView.

IBM's shares rose after the company posted earnings that slightly beat expectations for Q4 2019. While adjusted earnings per share (EPS) fell 3.5% year-over-year (YOY), revenue was essentially flat, increasing 0.1%. The rise in revenue, however small, was the first increase since Q2 2018, thus ending a five-quarter streak of revenue declines. It was a sign that the Red Hat acquisition may be starting to pay off.

That quarter also was a definite improvement from Q3 2019 when the company reported YOY adjusted EPS and revenue declines of 21.7% and 3.9%, respectively. The drop in adjusted EPS was the largest since Q2 2016. Even the slight earnings beat was not enough to keep the stock on pace with the rest of the market, which it had been doing during the first half of 2019.

After the initial boost following the Q4 2019 earnings report, IBM's stock started to fall and then rallied on the January news of Krishna's promotion to CEO.  That was just before the stock got crushed along with the rest of the market on fears of the spread of COVID-19. Due to the economic turmoil caused by the virus, analysts expect IBM's adjusted EPS and revenue to decline 18.3% and 1.0%, respectively, in Q1 2020.

IBM Key Metrics
  Estimate for Q1 2020 (FY) Q1 2019 (FY) Q1 2018 (FY)
Adjusted Earnings Per Share ($) 1.84 2.25 2.45
Revenue ($B) 18.0 18.2 19.1
Global Technology Services Revenue ($B) 6.8 7.2 7.6

Source: Visible Alpha

As mentioned, a major metric investors will focus on is revenue growth in IBM's giant Global Technology Services unit. The business has been a major drag on the company, posting falling revenue during 11 of the last 13 quarters, including the estimated Q1 2020 drop. Despite that, GTS remains IBM's long-standing information technology (IT) infrastructure and platform services business. Built on decades of experience, GTS is seen as crucial to enabling IBM to pivot more aggressively toward the cloud. It's also IBM's largest source of revenue, comprising about 35% of total revenue in 2019.

However, that revenue share has been falling. GTS comprised nearly 37% of IBM's total consolidated revenue in 2018. The segment posted YOY revenue declines of 4.7% and 5.3% in Q4 and Q3 of 2019, respectively. Analysts are expecting another decline of 5.3% for Q1 2020.

One of the main reasons IBM's consolidated revenue numbers haven't fallen sharply is due to the strong growth in the company's Cloud & Cognitive Software segment, which grew 4.5% during 2019. The challenge for Krishna and the rest of the executive management team will be to get the Cloud segment and Global Technology Services growing in tandem.