IBM: A Value Buy?
Maxwell is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
IBM (NYSE: IBM), the grand old name in technology, is currently trading around $190 per share. So is IBM really worth that price tag in an age when the tech pundits are declaring the PC dead? Not if you take a look at its PE 10 ratio, which is rather high, but falling.
Even though it is falling, IBM’s PE 10 ratio is still higher than that of Hewlett-Packard (HPQ) and Intel (NASDAQ: INTC). Hewlett-Packard’s current PE 10 ratio is 7.22, while Intel’s came in at 13.6. Like IBM, both Intel and Hewlett-Packard have PE 10 ratios that are falling currently, which seem to indicate speculation that the manufacture and servicing of traditional desktop computers are in decline.
The PE 10 ratios of these companies also seem to indicate that enterprise computing, one of IBM’s main businesses, still has a lot of value. Oracle (ORCL) had a much higher PE 10 ratio of 15.09, compared to IBM at 29.22, even though it had a slightly smaller market cap than IBM. Qualcomm (QCOM) also had a higher PE 10 ratio than IBM at 36.21. The big problem for IBM is that its market cap and its business are shrinking. Judging by the market cap shrinkage, it looks like the doomsayers are right in saying that traditional computer service is a shrinking business. But value investors know that you can still make a lot of money in a so-called shrinking or dying business. Is IBM still making money in its core business?
The answer is yes. IBM’s revenues have gone way up in the past couple of years, but they have started to fall again. IBM has had a tough time keeping up its revenues in a changing business. The reason for this due to the fact that the explosion of free enterprise software from companies such as Google (NASDAQ: GOOG) is starting to eat into some of IBM’s profits. IBM is having a tough time selling software; it has decided to kill off the Lotus brand, a sure sign of slowing sales and a growing need to cut costs.
Despite the trouble maintaining its revenues, IBM still has a lot of cash. IBM brought in $20.34 billion in cash from operations (trailing twelve months), a figure that’s been virtually unchanged for the past few years. Even though its revenues have been on a roller coaster ride, IBM has been able to keep a fairly steady incoming cash flow and a lot of money in the bank despite declining revenues. As of September 30, IBM had $12.25 billion in cash on hand, a figure that’s remained fairly constant for the past few years.
In spite of the poor economy and all the changes in the computer business, IBM has been able to maintain its value. The problem is that it might not be able to maintain that value much longer. It’s hard to see how IBM can keep its cash flow high as revenues fall.
IBM is facing aggressive challenges from Google, Apple (NASDAQ: AAPL), and Microsoft (NASDAQ: MSFT) in the enterprise computing sector. Each of those companies is slowly evolving into a diversified computer services company that is similar to IBM. These three companies also have a lot of cash to spend in their efforts to penetrate the corporate sector. Google can afford to give away software, and Microsoft can afford to reinvent itself as a hardware and software company. Google, for example, has $45.72 billion in cash on hand and Microsoft has $66.64 billion in cash on hand. Apple currently holds total cash of $29.13 billion.
According to a report from Forrester Research earlier this year, "The Apple assault on the corporate market has so far taken place without much formal Apple support, and probably without Apple itself understanding its full extent. That's because corporate adoption of Apple products has been largely clandestine."
It’s hard to see how IBM can compete directly with these cash cows. A better strategy will be to concentrate on the company’s strengths in order to maintain value. That will enable IBM to keep its cash and maintain value. It will also help it avoid the dismal fate that’s befallen some other big names in tech, such as Nokia (NOK) and Hewlett-Packard.
StockCroc1 has no positions in the stocks mentioned above. The Motley Fool owns shares of Google, International Business Machines, and Intel. Motley Fool newsletter services recommend Google, International Business Machines, and Intel. 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!