Welcome to a new stock analysis from DividendDeveloper! My goal in analyzing stocks on this blog is twofold. First, I want to check if a given stock meets my criteria for investing, and if it would make a good investment. Second, I want to expose my readers to companies that they may not have encountered before, whether because the company’s dividend yield is too low, their streak of increasing dividends is not long enough, or it just slipped through the cracks of their screeners.
The company that I will be looking at today is the International Business Machines Corporation (NYSE:IBM).
Quick Background:
Quoting from the 2013 annual report and Scottrade:
International Business Machines Corporation (IBM) is an information technology (IT) company. IBM operates in five segments: Global Technology Services (GTS), Global Business Services (GBS), Software, Systems and Technology and Global Financing. GTS primarily provides IT infrastructure services and business process services. GBS provides professional services and application management services. Software consists primarily of middleware and operating systems software. Systems and Technology provides clients with business solutions requiring advanced computing power and storage capabilities. Global Financing invests in financing assets, leverages with debt and manages the associated risks.
IBM was founded in 1911 by the merger of three companies, and is headquartered in Armonk, New York, ‘Big Blue’ is legendary in tech for being a hotbed of innovation and research. IBM’s employees invented the ATM, magnetic stripe card, the floppy disk, the hard disk drive, and relational databases. Continuing on this trend, IBM and Apple recently announced a partnership to merge Apple’s penchant for usability and beauty and IBM’s ‘Big Data’ strengths. IBM also recently launched Watson Analytics, which provides natural language-based predictive analytics tools to enterprise users, and leverages IBM’s huge cloud-computing resource bank. The company’s competitors include Accenture plc (ACN) and Hewlett-Packard Corp (HPQ).
For more basic information, check out the company’s website and the above links.
Fun fact: An investment of $10,000 in December 2000 would be worth $26,363.44 today, all dividends reinvested. (Source: FAST Graphs)
Investment Criteria:
So now that we have a basic understanding of who IBM is and what it does, let’s run our basic screening criteria on it, with the help of David Fish’s US Dividend Champions List:
- Pays a dividend: Yes
- Has 5 years of dividend increases: Yes (19 years)
- Has not frozen dividend for over 8 quarters: Yes
- Has a Chowder number of 12 or more: Yes (16.6)
- Has am EPS payout ratio of less than 70%: Yes (27.83%)
- Pays a dividend monthly or quarterly: Yes (Quarterly; February, May, August, November)
Awesome, all initial screening criteria appear to be met! Let’s pull up FAST Graphs and see how IBM fares in round two:
- Has an S&P Quality Ranking of ‘A-‘ or better: Yes (AA-)
- Has generally increasing earnings over the past 10 years: Yes
- Is fairly valued/undervalued according to the Normal P/E ratio (blue line): Yes
- Is fairly valued/undervalued according to the Intrinsic P/E ratio (orange line): Yes
Other Bonus Ratings:
- S&P Capital IQ: 3-star hold
- Scale is 1-5, 1 being ‘strong sell’, 5 being ‘strong buy’
- Thompson Reuters StockReport: 7 (optimized score of 6)
- Scale is 1-10, 10 being best, 1 being worst
- Optimized scores weight insider trading and price momentum heavier than other criteria
- Value Line: 1 for safety; 1 for timeliness
- Scale is 1-5, 1 being best, 5 being worst
Thoughts:
The dividend yield is solid at 2.36%, and is well covered by cash flows (IBM had $17.19 billion in operating cash flow in the past 12 months). With a low payout ratio of 27.84%, IBM has plenty of room to continue raising its dividend. Debt is a concern though, as the company has a debt/equity ratio of 2.7, 3 times its peer group’s average of 0.8 (Source: Scottrade).
The P/E ratio is very reasonable at 11.95, and Morningstar has a one year forward P/E ratio of 9.6, suggesting solid growth in earnings.
Revenue, gross profit, and operating profit have increased 3%, 6%, and 12% annually since 2002 (Source: Morningstar). IBM’s net profit margin is 17.04%, 0.03% higher than its sector peers. However, IBM’s gross margin and operating margin are behind the peer group’s, at 49.06% vs 55.56% and 20.28% vs 21.26% respectively. The company does have an amazing return on equity of 95.33%, four times the peer group’s average.
IBM is classified as a ‘wide’-moat stock; Morningstar cites the difficulty of switching from an established IT service provider like IBM (the ‘stickiness’ factor), IBM’s profitability from service contracts, as well as its focus on the high end of the market in server systems. The company also has a stewardship rating of ‘exemplary’. Morningstar sees management’s desire to return capital to shareholders as excellent. Under CEO Virginia Rometty, management has committed to buying back $50 billion of shares through the end of 2015, and returning $20 billion through dividends.
For the next five years, it is projected that IBM’s earnings will grow 10.0%, and the estimated total return is 18.2%, which, if true, is fantastic. For comparison, ACN’s ETR is 8.1% and HPQ’s is 16.4% (Source: FAST Graphs). However, teh company just released a statement saying that it will no longer meet its 2015 earnings forecast, possibly calling this number into doubt.
Some business risks include complaints of the cost of maintenance, the difficulty of customizing IBM’s solutions for individual enterprises (which I believe to be a problem with many companies, not just IBM), as well as new challenges from companies seeking to capitalize on this weakness. The company may have difficulty transitioning into mainstream cloud services from its legacy hardware business or specialized cloud tools. I also see the issue of non-accretive acquisitions occurring, where IBM decides to buy a newer player in some space in the hope of more growth. In the tech space, that’s always a risky strategy, but IBM has a rational and long-term-focused management, so I think this risk is minimal. I do see more risk in high debt levels, as someday, share buybacks and dividend growth may be curtailed. Investors should keep an eye on that for the future.
Some good SeekingAlpha articles on IBM can be found here (bullish), here (bullish), and here (bearish).
Final conclusion:
I believe IBM is an attractive investment. It passes every one of my criteria, has a wide moat, great leadership, and solid earnings. Although I’m not going to pretend this is a risk-free investment (see the debt levels and complaints from customers and employees), I personally like what I see, and I am prepared to take that risk. Since some people like price points, here’s what I would do (rough estimates based on FAST Graphs):
- Buy a full position at: $190.00 or below
- Add to/accumulate between: $190.00 and $250.00
- Hold only at: $250.00 or above
What do you think? Does IBM make the cut for your portfolio? Also, how can I improve future analyses?
Disclosure: None.
All data is accurate as of market close, 10/09/2014. My stock analysis archive page has been updated accordingly. Please read my disclaimer here before choosing to invest. Image source is available here. Data source is FAST Graphs or company materials, unless otherwise indicated.
14 Comments
Very timely, DD. I am in the process of writing a very negative review of IBM – blog post should be up tomorrow
I have no arguments over how IBM has performed in the past and your analysis is correct, but the present and the future are really dark. For IBM’s sake, I hope they figure something out else they are going to end up bankrupt.
cheers
R2R
Roadmap2Retire recently posted…Recent Buy – Apple Inc (AAPL)
I look forward to reading it, especially as a techie. With today’s earnings announcement, the future doesn’t really look too bright right now, so I’m curious to see how the next few months play out.
Very good write-up DD! I’m not too bullish on IBM, as it could go either way really. I can see the potential but something just scares me with the company. I’m very curious to read Roadmap2Retire’s posting on IBM as well. Solid post, as always DD.
Special Agent Dividend recently posted…Weekly Investment Activity – Dividend Stocks and TSP
That describes it perfectly. I like what’s happened so far, and what could be, but is it worth the risk? Who knows? Thanks for stopping by!
It appears that IBM is facing a headwind, they are still very shareholder friendly but their growth had slack this past few earnings and in the future. I definetely agree with R2R above. Its not the company that I used to like when they announced the $20 EPS for 2015. I am guessing they are lowering their forecast when they announce it on January next year. Nice review!
FrugalitytoFinancialFreedom recently posted…IBM Disappoints
Does seem kind of interesting though. “Shareholder friendly”, “facing headwinds”, lack of growth … sound familiar? Almost looks like MCD these past few weeks, you know? And people have been buying pretty heavily there. I also see a bit of that criticism in commentary on DE, XOM, and CVX, on the blogs and on SeekingAlpha. Honestly, I’m concerned for IBM’s future a bit, but they haven’t touched the dividend, and buybacks look strong. May be a turnaround play, if you have a bit of an appetite for risk.
Well… IBM just announced their latest earnings report and the stock price dropped. It’s starting to look interesting now. Too bad I’m low on cash for the month. =(
Henry @ Living At Home recently posted…Weekly Memoir – October 18, 2014
Yeah, I saw the announcement right after I posted this. That’s why I barely touched on it. Haha, I know the feeling! So many things are getting interesting, but it’s hard to get the funds together to make some buys.
Great article DD. I am strongly considering IBM right now but I need to see what other opportunities are available. One thing that concerns me about IBM is what have they innovated lately? The things you mentioned that IBM invented, while huge, are 40+ years old (ATM (’70’s), magnetic stripe card (late ’60’s), the floppy disk (early ’70’s), the hard disk drive (’60’s), and relational databases (’70’s)). I know they are heavily involved with cloud computing and providing computing solutions for business, but as I consumer those things are a black box. So in I sense I don’t see what IBM does and its hard for me judge how the fit into the competitive landscape.
Good points, Nick. It’s definitely true they’re struggling with innovation at this point. Looks like a good value, but again, that may be for a reason here. I don’t really know of any game changers at this point, or even of anything that would cause me to raise an eyebrow as a techie. That is kind of concerning, but they are restructuring and changing focus. I tend to be bullish, but IBM is far from the only good value out there, so who knows?
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Just to play devil’s advocate – one might say that IBM issues debt to repurchase shares.
That is NOT sustainable…..
http://www.zerohedge.com/news/2014-07-17/scariest-chart-ibms-history
I heard that too. Just one more reason I ended up removing it from my current watch list. I can’t sleep comfortably, knowing I own it. So if that’s the case, I won’t be buying, you know?