We'd recommend investors wait for a larger discount to our fair value estimate before diving into this stock.
By Andrew Lange | 10-17-16 | 07:15 PM | Email Article

 IBM  reported fairly unremarkable third-quarter results which reflect the firm’s ongoing transition away from declining or low-growth core activities to higher growth “strategic imperatives.” On a trailing 12-month basis, strategic imperatives now constitute 40% of IBM’s revenue, well ahead of IBM’s goal of 40% by fiscal 2018. Cloud and analytics mainly contributed to the overall strategic imperative revenue growth rate of 15% (adjusting for currency). Capital allocation remains focused on higher-growth opportunities with IBM investing more than $12 billion over the last three quarters toward such endeavors. We believe the firm’s commitment to Watson remains a large unknown at this stage with CEO Ginni Rometty even recently referring to Watson as a "moonshot." However, high-profile adoption across industries is a good early indicator of Watson’s sector relevance, although it may not influence IBM’s results in the mid term. With the firm reiterating its full-year outlook and our financial model unchanged, we maintain our $145 fair value estimate and narrow economic moat rating. The stock is trading close to our fair value and we would suggest that investors seek a wider margin of safety before committing capital to the name.

Andrew Lange is an equity analyst for Morningstar.

For the quarter, reported revenue was flat year over year at $19.2 billion (fell 1% in constant currency). The Cognitive Solutions segment was again IBM’s standout business with analytics software driving the result. Similar to last quarter, the Systems segment was notably weak with an ebb in the z Systems’ product lifecycle. Additionally, consulting was down, which we view as an overarching issue for the IT services industry given clients’ hesitation about discretionary spending in the near term.

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