International Business Machines Corp. of Armonk, New York, in the third quarter announced more than $3.6 billion of acquisitions in software companies as it expanded its most profitable business amid slowing growth in computer services, its largest unit. Software revenue rose 8.5 percent to $4.4 billion in the third quarter.
While it can make perfect business sense to buy up profitable companies (as we have frequently noted with Oracle (NYSE:ORCL), it doesn’t necessarily tell you much about how the business is being run. And when global services, the company’s larges business, grows 3% (2% adjusted for currency movements) and investors make comments like “the services business is apparently picking up some steam,” one has to wonder how long it will take before the steam is up enough to move this boat.
A review of the conference call shows we weren’t the only ones picking up on the services weakness:
Richard Gardner - Citigroup
Mark, after last quarter, you commented that you were fairly confident you could grow bookings for the services business year-over-year in Q3. You did talk about a shortfall in long-term signings. Can you give a little bit of color on the reason for the shortfall? Was it competitive losses, was it deferrals into Q4? Then maybe in connection with that, give us your view of the services pipeline heading into the fourth quarter?
….If you look back at the third quarter, we did have a very good pipeline of deals coming into the third. So I for one — and I think the team as well — fully expected to grow our signings. We just didn’t get the deals closed in time as a number of opportunities slipped out of the quarter. We haven’t lost these deals, we’re still working on them. So as I look forward to the fourth quarter, including the deal that slipped out of the third, we see plenty of opportunity and should have sufficient signings growth to have a good quarter. But as always, as you know, we have to execute and get those deals closed.
Ahh, if only they didn’t have to execute. When all is said and done, the move in stock price probably had less to do with performance and more to do with valuation. As Reuters noted, IBM shares gained 7 percent in the third quarter, but the stock trades at just 13 times expected 2007 earnings per share, a 14 percent discount to Hewlett-Packard (NYSE:HPQ).
IBM 1-yr chart: