Is This Technology Giant Losing its Luster?

Bob is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

It’s no secret that the market has been on a tear since the beginning of 2013. At this point, the Dow Jones Industrial Average is up 18% to start the year, excluding dividends.

At the same time, International Business Machines (NYSE: IBM), the stock that has the biggest effect on the price-weighted Dow, has held the index back from even stronger returns this year. That’s because, despite Big Blue’s reputation as a secure blue chip stock, shares of IBM are actually down year-to-date.

Does IBM’s under-performance to start 2013 represent a strong buying opportunity? Or should investors look elsewhere for better opportunities?

A bump in the road, or a sign of things to come?

Over the past couple of years, IBM has carried a higher valuation than many of its technology-sector peers. To illustrate, consider that IBM trades for 9 times its enterprise value to EBITDA, whereas Intel (NASDAQ: INTC) and Microsoft (NASDAQ: MSFT) hold multiples of 5 and 6 times, respectively, on the same metric.

That’s because investors became accustomed to IBM routinely posting better growth than its technology brethren, and as a result, Big Blue hasn’t been branded with the same ‘old tech’ label as its two peers have.

Plainly stated, Intel and Microsoft are two companies that are still reliant on the personal computer, which analysts and technology experts claim is a dying technology. Whether that’s true remains to be seen, but there’s no doubting that Microsoft and Intel suffer restrained valuations because of it.

Microsoft and Intel trade much more like mature consumer staples stocks than technology stocks. Each are now counted on for their dividend yields more than earnings growth, the reverse of how technology stocks traditionally behave.

Microsoft and Intel both provide dividend yields well ahead of IBM’s yield or the yield on the broader market, at 2.9% and 3.9%, respectively.

The market is now concerned that IBM’s own growth trajectory is in doubt. IBM’s last quarterly report was not well received by the market, and shares have steadily declined in the ensuing weeks.

Revenue declined 3% in IBM’s fiscal second quarter, in what is quickly becoming a troubling pattern. This was IBM's fifth consecutive quarterly decline in revenue, and the struggle to grow sales is likely behind recent investor pessimism.

Profits also fell by 17% year over year in the most recent quarter, due to both lower sales and a $1 billion charge for a previously announced workforce restructuring.

That being said, earnings still topped analyst estimates, and IBM raised its forecast for the rest of the year.

In addition, IBM has such a proven history of success that I’m tempted to believe the company’s problems are short-term in nature, and will turn around when business conditions improve.

Over the long term, IBM remains a winner

IBM has a corporate track record that most companies would love to have. The company has provided investors superb revenue and earnings growth throughout its history, and the past few years have been no exception.

IBM earned $15.25 per share in 2012 diluted operating earnings, marking a new record. The company has reported double digit diluted EPS growth for 10 years in a row.

In addition, it’s worth noting that the company’s dividend payments have been an important piece of its total return puzzle. 2012 marked the 97th consecutive year in which IBM has paid a dividend, and the company increased its dividend earlier this year.

The Foolish takeaway

When I last wrote about IBM, shares were hovering around $206 per share, and my position was that I’d consider the stock to be a buy under $190 per share.

I still hold that belief, and due to the stock’s steady downtrend over the past few weeks shares of IBM are now in my buy zone. At its current level, I think the market has overreacted to the company’s short-term struggles, and that a higher multiple is warranted assuming IBM gets back to its days of strong growth.

At its current price, the stock yields 2%, a level much more in-line with the yield on the broader market than where IBM usually trades. Investors interested in highly profitable technology stocks should seriously consider IBM now, at what looks to be an attractive entry point.

The tech world has been thrown into chaos as the biggest titans invade one another's turf. At stake is the future of a trillion-dollar revolution: mobile. To find out which of these giants is set to dominate the next decade, we've created a free report called "Who Will Win the War Between the 5 Biggest Tech Stocks?" Inside, you'll find out which companies are set to dominate and give in-the-know investors an edge. To grab a copy of this report, simply click here -- it's free!

Robert Ciura owns shares of Intel. The Motley Fool recommends Intel. The Motley Fool owns shares of Intel, International Business Machines., and Microsoft. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

blog comments powered by Disqus