Is it Time to Get Bullish on Big Blue?

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International Business Machines (NYSE: IBM) saw its stock take an almost 10% plunge after reporting 3Q earnings. The company saw a 5% decline in revenue from the same quarter last year but grew its gross margins and still managed to beat earnings estimates for the fourth straight quarter; the stock’s slide came as management admitted that the macro operating environment appears to be weaker than expected. We still believe this might be a key buying opportunity for the stock, as the company has identified the slowdown in hardware, and now expects to refocus on its software and service offerings. This should help the company expand margins even as top line revenues continue to see pressure due to a weak global economy.

We see the company being able to take advantage of the fact that Hewlett-Packard (NYSE: HPQ) is in restructure mode (check out our thoughts on whether HP can survive). When coupled with new product introductions, this will help IBM meet its road map EPS of $20 per share in 2015, representing a 10% EPS CAGR.

HP is down almost 50% year to date, and not only faces the internal pressures of a turnaround, but also the external economic pressures. However, it is not just poor economic situations that are impacting the company, but a fundamental change in consumer preferences. There has been a shift from PC use to smartphones and tablets, which is expected to continue into the future. At least one big name firm might be betting on a HP turnaround, though; Seth Klarman owned 27 million shares at the end of June, worth 14% of his firm’s 2Q 13F portfolio.

Some of IBM’s biggest competition is on the business intelligence and services side. It competes with the likes of SAP AG (NYSE: SAP) and Oracle (NYSE: ORCL). Oracle’s product breadth should help the company grow 3% for this fiscal year, as new licenses show growth of 5%. The company is also looking to capitalize on synergies with its hardware segment, thanks to its Sun Microsystems acquisition. We believe that Oracle’s overall aggressive nature will bode well for the company in the future, as it looks to be one of the big-tech leaders to address cloud computing. CEO Larry Ellison’s big bets in the past have paid off for the company, allowing the company to grow EPS at an annual rate of 20%, and this should be the case for the company in the future. With possible rewards, though, come risks.

SAP missed 3Q earnings late last month, but saw a 10% jump in revenue year over year. The company is seeing accelerating software sales, with 12% growth last quarter, up from 10% in the first half of the year. SAP continues to believe that revenue growth will rebound as companies increase budgets for spending on technology infrastructure. Even though Europe continues to be weak, SAP saw license growth of almost 30% in the Americas year over year last quarter.

Just as IBM may see troubles keeping up with smaller, more nimble technology companies, Cisco (NASDAQ: CSCO) is having similar troubles in the network communications space. Yet, just as we speculate what could be the remedy for Cisco’s woes, IBM plans to look to the M&A market to help mitigate market share infringement concerns. IBM has made net acquisitions of $3.5 billion in the software industry over the last year, which is helping gear the company up for its big entry into data. Cisco has solid prospects and a good grip on the routing market, with expectations to grow revenue by over 5% each year through 2014. This will be driven by the increase in bandwidth usage worldwide. Meanwhile, the company trades attractively at 12x P/E and pays a 3.0%+ dividend yield.

IBM is a Navellier & Associates top pick, but more impressive is Warren Buffett’s affinity for the stock. Buffett owned over 65 million shares at the end of 2Q, which was 17.5% of Berkshire’s 2Q 13F portfolio; see all of Buffett’s holdings here. Other notable investors included Ken Fisher and D.E. Shaw at the end of 2Q.

When we compare IBM to other business intelligence and data management companies like Oracle and SAP, its shares appear to be trading rather cheaply. IBM is trading at 14x trailing earnings, where Oracle is at 16x and SAP at 23x. The leg up for IBM, so to speak, is its three-pronged offering capabilities of hardware, software and services. However, the company does have a profit margin of 15%, which is below the average of Oracle and SAP of 25%, so it's not all sunshine and rainbows. On the whole, we believe that the company’s recent initiatives will allow it to raise its margins, while leveraging its $200+ billion market cap and vast customer base to grow nicely going forward.

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This article is written by Marshall Hargrave and edited by Jake Mann. They don't own shares in any of the stocks mentioned in this article. The Motley Fool owns shares of International Business Machines and Oracle. Motley Fool newsletter services recommend International Business Machines. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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