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The share price of IBM (NYSE:IBM) dropped sharply following the company's lackluster quarterly earnings released in last week. At $187.83, the stock is trading near its 52-week low and offers a 1.8% dividend yield. I believe the selloff has presented a significant buying opportunity based on the following reasons:

1. After the price dip, IBM's trailing P/E multiple of 13.0x trades below its historical 3-year average at 14.0x (see chart below).

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This appears to be an attractive valuation level based on the company's past financial performance as well as its growth profile. Over the past 3 years, IBM has been able to maintain a stable capital return performance as reflected by the development of its ROE, ROIC and ROA ratios. The firm's various profitability margins have also trended steadily over the period. In addition, although IBM is currently experiencing a growth slowdown across the revenue, EBITDA, and EPS lines, market's consensus growth projections suggest a modest recovery in late 2013 and 2014, and the estimated growth rates are fairly consistent with their 3-year historical averages (see charts below).

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2. From a relative valuation standpoint, IBM shares are very cheap at this level. The stock's forward P/E multiple is now trading at a 24% discount to the same multiple of S&P 500 Index, which stands at 14.6x (see chart below).

(click to enlarge)

In my view, the market discount is largely exaggerated based the following facts:

1) IBM's consensus 5-year earnings growth estimate of 11.4% (adjusted after earnings release) remains considerably above the average estimate of 8.2% of the S&P 500 companies;

2) IBM's profitability margins and return on investment ratios are notably above the market averages, and the company's double-digit free cash flow margin is also in a healthy state (see chart below);

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3) The stock also offers a 1.8% dividend yield and gets supported from the share repurchase program; and

4) In the past 12 months, IBM stock's market discount averaged at only 8.4%.

3. The stock would likely enjoy a solid downside support from the robust dividend growth prospect and continued share buyback. Since 2010, the company has raised the dividend per share 3 times by 18.2%, 15.4%, and 13.3%, consecutively. Given that the current dividend payout ratios on both free cash flow and earnings basis are only 25.1% and 23.1%, respectively, the double-digit dividend growth rate can likely be sustained in the medium term. Further, IBM has a sizable share repurchase program. Over the past 5 fiscal years, the company has retired approximately $60.4B value of shares. Comparing with the current market capitalization at $208.5B, the buyback activity is definitely one of the key supportive drivers for the share price.

4. There has been a technical price support between $185 and $190 over the past 12 months, and the share price is currently near this level (see chart below).

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5. In a Deutsche Bank research note dated April 19, Chris Whitmore reiterated his buy rating for the stock and commented on his medium-term view which I tend to agree on (sourced from Thomson One, Equity Research):

While the quarter was clearly a disappointment (and we adjust our model accordingly), we believe IBM's competitive advantage and the defensive characteristics of its business model (large recurring revenue streams that are diverse across business segments and geographically) remain intact. Over the medium-term, we expect a hardware upgrade cycle to drive improving growth in Services and Software revenue and growth over multiple quarters. The strength in bookings and backlog growth in 1Q suggests this is beginning to play out. In addition, IBM should benefit from the mix shift towards higher margin Software and ongoing cost reduction initiatives (global service delivery productivity improvements etc) and growth in Emerging markets, analytics, cloud and Smarter Planet.

Bottom line, the recent selloff appears to be overdone, given IBM's healthy financials and growth prospects, and investors should be buyers on this weakness.

All charts are created by the author and all financial data used in the article and the charts is sourced from S&P Capital IQ unless otherwise specified.

Disclosure: I am long IBM. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: IBM Is Not A Falling Knife