IBM Should Beat the Street Again

You know another earnings season just started when IBM (NYS: IBM) reports results. The Big Blue bellwether will publish first-quarter earnings on Tuesday night, covering the first period under new CEO Ginny Rometty.

Will this be another "steady as she goes" report from one of the most reliable names in tech, or is Rometty taking IBM in a whole new direction?

Word on the Street
Analysts expect earnings to rise 10% year over year to $2.65 on roughly flat sales of $24.8 billion. Like Google, which stated early on that short-term guidance was "as pointless as a dieter stepping on a scale every half-hour," IBM doesn't play the guidance game, so we don't have any internal targets to go on.100

Rometty might change that, but I doubt it. Her antecedent, Sam Palmisano, published a roadmap last spring that guides IBM to hitting $20 in operating earnings by 2015. The five years between 2011 and 2015 should produce $100 billion of free cash flows; $70 billion of that will be returned to shareholders as dividends and share repurchases, and another $20 billion will be spent on acquisitions. There are no wayposts or milestone markers on the road to these big, bold targets.

IBM tends to beat estimates anyhow. Looking all the way back to 2007, I can see Big Blue meeting earnings targets twice in that year -- everything else in that time span is a modest beat. The fact that the company doesn't try to manage Wall Street's expectations makes this streak all the more impressive.

And this high-performance habit has paid off for IBM's shareholders: Over that five-year period, shares have gained a market-thumping 130%, assuming you reinvest your dividends. Shares hit fresh all-time highs as recently as April 3 but have pulled back a modest 3% since then.

This just in
All is quiet on the IBM front, except that the company just bought business analytics specialist Varicent Software. It's a small tuck-in deal that adds the formerly private company to a stable of recently bought Big Data plays.
That buyout binge will help Big Blue compete against fellow all-inclusive tech titans Oracle (NAS: ORCL) and Hewlett-Packard (NYS: HPQ) when juicy Big Data contracts come up for competitive bidding. Selling hardware, then software, then services represents a high switching-cost business model that IBM has down beautifully. I'm not so sure it's enough, though, to stem the tide of deals lost to innovative upstartsTIBCO Software (NAS: TIBX) and (NAS: CRM) . For many smaller firms, the combination of affordability and agility from cloud-based offerings represents a very real threat for the more established players in the enterprise space. Even an intensely R&D-focused behemoth like IBM will find it hard to copy something like TIBCO's "information bus" architecture short of just buying the company, which isn't for sale.

For me, the big story about Big Blue lies in the margins. Here's what I mean:

Data from S&P Capital IQ.

Here, you can see gross margins marching relentlessly upward as IBM's highly profitable software and services become ever more important. The GAAP bottom line is steady as a rock. Both of these metrics should either hold steady or nudge slightly upward on Tuesday.

The fly in my Chardonnay
And then there's the one thing I don't like about IBM: The cash flows aren't as reliable as the earnings. Ask any Fool and we'll tell you that in a perfect world, it should be the other way around. I'll be looking for signs that Rometty can turn that frown upside down. In all honesty, I'm not particularly nervous given the cash-flow focus in IBM's long-term plan. Still, it's worth noting that even Big Blue ain't perfect.

IBM has crushed the market and all of its major rivals over the past year with a 24% return, not even counting dividends. I see no signs that this terrific ride will end anytime soon, but I'm very interested to hear Rometty's first remarks on IBM's long-term strategy. Steady as she goes, indeed.

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At the time thisarticle was published Fool contributorAnders Bylundowns shares in Google but holds no other position in any of the companies mentioned. Check outAnders' holdings and bio, or follow him onTwitterandGoogle+. The Motley Fool owns shares of IBM, Oracle, and Google.Motley Fool newsletter serviceshave recommended buying shares of TIBCO Software, Google, and and creating a bear put spread position in The Motley Fool has adisclosure policy. We Fools may not all hold the same opinion, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter servicesfree for 30 days.

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