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IBM Q2 Earnings Preview: What’s in the Offing?

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International Business Machines (IBM) is scheduled to report second-quarter 2021 earnings on July 19.

Over the past year, shares of the tech giant have jumped 18.2%, trading at over $140. Solid Q2 results might propel the stock price upward, so let’s take a closer look at what analysts on the Street are expecting.

Q2 Expectations

For Q2, the Street expects IBM to report adjusted EPS of $2.25 and revenues of $18.29 billion.

Meanwhile, the Earnings Whisper number, or the Street’s unofficial view on earnings, stands at $2.34 per share. (See IBM stock charts on TipRanks)

IBM did not provide any formal guidance for the upcoming quarter.

Prior Quarter Snapshot

In the last-reported first quarter, revenues came in at $17.7 billion, which increased 1% year-over-year and outpaced the Street’s estimates of $17.34 billion, boosted by its bets in the high-margin cloud computing business.

Meanwhile, adjusted earnings decreased 4% year-over-year to $1.77 per share, which surpassed the Street’s estimates of $1.63.

Factors to Note

IBM primarily generates revenues from its various segments: Cloud & Cognitive Software Segment, Global Business Services (GBS) Segment, Global Technology Services Segment, and Systems segment.

IBM’s Cloud & Cognitive Software Segment revenues grew 4% in the first quarter, led mainly by the company’s hybrid platform growth. The trend is expected to have continued in the upcoming quarter, driven by increasing digitalization.

The digital transformation by enterprises across the globe is expected to have resulted in healthy uptake of IBM’s hybrid cloud offerings, expanding Cloud & Cognitive Software Segment revenues in the about-to-be-reported quarter. In addition, contributions from the Red Hat acquisition are likely to have contributed to the Cloud & Cognitive Software segment’s revenues.

Notably, IBM has doubled down on hybrid cloud and artificial intelligence.

In the first quarter, IBM’s CEO Arvind Krishna focused on the progress made on hybrid cloud platform and AI strategy. He said that “with about 3,000 hybrid cloud platform clients, we’ve now tripled the revenue base of OpenShift since we acquired Red Hat.” That is tremendous, and the trend, if continued in the upcoming quarter, should lead to explosive cloud revenues.

Turning to the GBS segment, revenues grew 2.4% year-over-year in the prior quarter. Healthy pipelines across hybrid cloud and data platforms, and strength in Cloud Paks and Security are expected to have continued to accelerate revenue growth in the GBS segment. IBM Cloud Paks are AI-powered tools that help businesses build, upgrade, and manage apps across any cloud securely.

In Q1, systems sales increased 4.3% year over year, owing to solid performance in IBM Z, while product cycle dynamics in Power and Storage continued to play out. The trend is expected to have continued in the upcoming quarter, owing to enterprise-grade security and regulatory requirements.

In the last earnings call, the CEO sounded positive about achieving IBM's revenue targets for 2021. Krishna stated, “As we look forward, we’re focused on revenue growth and cash generation.”

He added, "While we have more work to do, we are confident we can achieve full-year revenue growth and meet our adjusted free cash flow target in 2021.” At the same time, he didn’t specifically mention what those targets are.

The interesting part to note is that the company is making progress to strengthen its balance sheet by paying down all the debt taken to acquire Red Hat, and still maintain a healthy cash balance.

IBM CFO James Kavanaugh’s said in Q1, "With strong cash generation and disciplined financial management, we increased investments in our hybrid cloud and AI capabilities, while significantly deleveraging in the quarter and supporting our commitment to a secure and growing dividend.” Those are vital points the investors should be looking at this quarter.

Recent Key Developments

Ahead of the second-quarter earnings report, IBM announced the completion of its acquisition of Turbonomic. Turbonomic specializes in providing tools to manage application performance (mainly resource management), along with Kubernetes and network performance. The deal will enable IBM to provide its customers with AI-powered automation capabilities ranging from AIOps (the use of AI to automate IT Operations) to application and infrastructure observability, all built on Red Hat OpenShift to run across any hybrid cloud environment.

Late last month, IBM announced that it will offer its cloud services to the telecom operator Verizon (VZ) to run its 5G networks. IBM and Red Hat will enable Verizon to deploy an open hybrid cloud platform with automated operations and service orchestration.

In addition, IBM collaborated with Spain's Telefonica (TEF) to create a virtual assistant and a blockchain platform based on open hybrid cloud technologies.

During the quarter, the company also made efforts to expand its presence in the edge computing market through partnerships. In this regard, last month, IBM expanded its ecosystem with over 30 new partners including Intel (INTC), Lumen Technologies (LUMN), NetApp (NTAP), and Wipro (WIT), among others.

These new partnerships and agreements are expected to have expanded the company’s client base and added to its top-line numbers in the upcoming quarter.

Analyst Recommendations

On July 2, IBM’s President Jim Whitehurst announced his resignation. Whitehurst was a key figure in the Red Hat integration. He will, however, continue to serve as a senior advisor to IBM CEO Arvind Krishna.

Post-announcement of Whitehurst's resignation, Morgan Stanley analyst Kathryn Huberty reiterated a Hold rating on the stock with a $152 price target (8% upside potential).

Huberty commented, “Whitehurst’s departure is more of a natural progression than a red flag.”

She added, “While investors are concerned that this has negative read-throughs for the health of IBM’s hybrid cloud business and/or future outlook, we see this as a natural progression for Jim, as most of the Red Hat integration is complete.”

The rest of the Street is cautiously optimistic about the stock with a Moderate Buy consensus rating based on 4 Buys, 3 Holds, and 1 Sell. The average IBM price target of $151.75 implies 7.7% upside potential from the current levels.

IBM scores a 9 of 10 from TipRanks’ Smart Score rating system, indicating that the stock is likely to outperform market averages.

Bottom Line

Based on the aforementioned variables, the firm could post solid results in the upcoming quarter, fueled by hybrid cloud expansion, acquisitions, and increased enterprise adoption of AI-based IBM solutions.

However, uncertainty during the pandemic could have led to lower demand for transaction processing software used by banks, airlines, and retail, impacting the upcoming quarter’s performance.

To convince investors that the Q1 rise is sustainable, the company still has a long way to go.

Disclosure: Shalu Saraf held no position in any of the stocks mentioned in this article at the time of publication.

Disclaimer: The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities.