For most of 2013 IBM (IBM) has been under pressure. The latest to pile on is Barclays analyst Ben Reitzes, who is concerned that the company's free cash flow "yield" - the amount of cash it's generating against its equity value, is down to 6%.
He blames cloud computing for the shortfall, and he's right. The growth of public cloud, especially through Amazon.Com (AMZN) and, to a lesser extent, Google (GOOG), has taken budgets away from mainstream computing solutions like those IBM provides. The question, however, is whether this will continue.
That's because the nature of cloud computing is in the process of changing, as enterprises finish experimenting with cloud and start pushing to put major operations onto the technology. They're obsessed over all the Information Technology points - security, uptime, global reach, compatibility with existing systems. But while a year ago this meant they would just experiment with public cloud, now it means they are seeking to build their own clouds, and connect to publicly-accessible clouds that meet their requirements, the so-called hybrid cloud.
That's where IBM has been putting its money all along. The acquisition of SoftLayer means it has more flexible cloud infrastructure than many rivals, the kind that can plug-and-play with what enterprise companies have. Its global sales force is adapted to working with the largest enterprise customers. Its development teams are located where the customers are, the balance of its work force having been switched away from the U.S. for years.
Plus, IBM maintains its mainframe monopoly. Yes, that's important. Mainframes still do most of the high-transaction business lifting. It's a huge profit generator for Big Blue, and as a recent survey from BMC Software revealed, businesses are still adding mainframe capacity.
It's very true that IBM isn't alone here. Not only are rivals like Microsoft (MSFT) seeing the same market pattern, but so are the old PC makers like Hewlett-Packard (HPQ), and the carriers like AT&T (T) and Verizon (VZ). Each has announced their own "hybrid cloud" moves in recent weeks, Microsoft with Equinix (EQIX), Verizon-Terramark with VMware (VMW) and Sea Micro, AT&T through a network of re-sellers.
The question is whether IBM has what it takes to win in this environment, and whether the prize will be accretive to earnings or a pyrrhic victory. I think it will be accretive, and offer winners like IBM enormous opportunities to take out losers like Hewlett-Packard at very attractive prices, within the next year.
IBM, in short, is very well positioned for the hybrid cloud wars, and its current weakness may be a great opportunity for value investors to pick up a bargain.