Ginni Rometty’s profit goal for IBM just got harder to reach.
International Business Machines Corp. (IBM:US) shares dropped (IBM:US) the most in three months after the company said yesterday that first-quarter revenue slid 3.9 percent to $22.5 billion. Growth fell short of analysts’ estimates amid declining demand for hardware and waning sales in developing countries. The company, led by Rometty, said adjusted earnings fell to $2.54 a share, in line with estimates.
Now, the computer-services provider has to make up more ground to end the year with an increase in profit as it shifts its business from hardware to cloud computing and data analysis. IBM reiterated its projection for 2014 adjusted earnings of at least $18 a share this year, even as sales fall.
“The big issue is IBM’s legacy businesses are getting hit by multiple points,” said Moshe Katri, an analyst at Cowen & Co. “Ultimately, that affects the company’s ability to grow earnings.”
This was the eighth straight quarter of declining revenue, and analysts had estimated $22.9 billion in sales on average. Profit was hurt by an $870 million charge for job cuts, the Armonk, New York-based company said yesterday in a statement.
Rometty is banking on a strong comeback in the coming quarters. In each of the past three years, first-quarter earnings (IBM:US) have made up 18 percent of IBM’s full-year results. If IBM gets $18 a share in profit this year, the first quarter will have represented just 14 percent of the total.
By the end of June, IBM will be 38 percent toward its profit goal, similar to last year, Chief Financial Officer Martin Schroeter said yesterday on a conference call. That implies second-quarter earnings this year of $4.21 to $4.39 a share, compared with the average analyst estimate of $4.39.
The company didn’t raise its profit goal for 2014 even though it cut its forecast for this year’s tax rate to 20 percent from 23 percent.
“Guidance was reiterated essentially, but again that was really reset lower given the fact that we are talking about a lower effective tax rate,” said Katri, who has the equivalent of a hold rating on IBM.
Even before yesterday’s results, analysts estimated IBM would have adjusted earnings this year of $17.91 a share -- below Rometty’s forecast.
IBM is targeting $20 a share in adjusted earnings by 2015, up from $11.67 in 2010 -- a pledge instated by former Chief Executive Officer Sam Palmisano and sustained by Rometty, who succeeded him in 2012.
To get there, Rometty has tried to shift the company’s focus to cloud services and data analytics to keep up with changes in the industry. Technology customers are increasingly storing data and software on cloud-computing networks, rather than onsite, limiting their need for servers and mainframes.
IBM spent more than $1 billion to create a new group around its Watson technology, which analyzes large troves of data in plain English. Rometty bought cloud provider SoftLayer Technologies Inc. in 2013 for $2 billion and this year committed an additional $1.2 billion to bolster its data centers and offerings.
Cloud revenue grew more than 50 percent last quarter, and cloud offerings delivered as a service are now at an annual run rate of $2.3 billion. That’s still a fraction of IBM’s total $100 billion in revenue (IBM:US) last year.
Rometty has also been getting out of less profitable businesses. IBM sold its customer-care unit to Synnex Corp. for $505 million in September. A $100 million gain from the deal was recognized in the first quarter.
Leaving out that unit’s results and adjusting for currency changes, IBM’s first-quarter sales would have only dropped 1 percent from a year earlier, the company said. Net income fell 21 percent to $2.4 billion, while adjusted earnings were down 22 percent to $2.6 billion.
IBM’s adjusted results exclude amortization of acquired intangible assets, acquisition-related charges and retirement-related items.
Another asset sale is on the way. China’s Lenovo Group Ltd. agreed to buy IBM’s low-end server business for $2.3 billion. The deal is awaiting government review before closing, and the companies must convince U.S. officials that it won’t give China back-door access to secrets and infrastructure.
Even with the changes, the company has struggled in its transition, prompting Rometty and her executive team to forgo bonuses last year.
“CEO Rometty and new CFO Schroeter need to take more dramatic action to transform the company,” Brian Marshall, an analyst at International Strategy & Investment Group LLC, said in a note to investors. “Unless IBM can generate additional sales growth, we think the days of double-digit EPS growth may be numbered.”
Lagging demand for IBM’s hardware division continues to drag down revenue, with the unit’s sales falling 23 percent to $2.4 billion in the first quarter. Sales in developing countries slid 11 percent, or 5 percent when adjusting for currency fluctuations. Revenue from China fell 20 percent.
The company will be relying on its global business services and software units, which together make up about three-quarters of sales, to reach the profit goals.
IBM shares tumbled 3.3 percent to $190.01, the biggest decline since Jan. 22. The stock had gained 4.7 percent this year through yesterday, compared with a less than 1 percent increase for technology companies in the Standard and Poor’s 500 Index.
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