IBM Misses Sales Estimates, Casting Doubt on Growth Engines

Olivia Carville (Bloomberg) -- International Business Machines Corp. missed analysts’ quarterly revenue estimates, ending a short-lived streak of sales gains and casting doubt on its strategy to boost growth through new businesses like cloud and artificial intelligence. The shares slipped in extended trading.

Revenue fell 2.1 percent to $18.8 billion in the third quarter, while analysts were expecting $19.1 billion. Cloud revenue, which has become a key metric to watch, grew 10 percent in the period to $4.5 billion. That was slower than the 20 percent expansion in the second quarter. Profit, excluding certain items, was $3.42, IBM said Tuesday in a statement, compared with the average projection of $3.40 a share, according to data compiled by Bloomberg.

After six years of declining sales, the 107-year-old company showed gains in the past three quarters. Those were largely due to its legacy mainframes, the massive computers that help power global financial transactions and other complicated calculations for businesses and governments.

A new sales cycle for those computers, launched about a year ago, is now winding down and the newer businesses IBM has been counting on to spur future, sustainable growth -- known as “strategic imperatives” -- have expanded over the past three years, but have yet to fulfill their promise. The group includes IBM’s Watson artificial intelligence program, security software and cloud computing.

In the third quarter, revenue from strategic imperatives rose 13 percent for the past 12 months to $39.5 billion. That was a slower 12-month growth rate than the 15 percent reported in the previous quarter.

IBM shares fell 4.7 percent to $138.25 in extended trading. They have declined 5.4 percent this year, compared with a 5.1 percent gain in the Standard & Poor’s 500 Index.

Jim Kavanaugh, IBM’s chief financial officer, said in an interview that the deceleration in cloud and strategic imperatives revenue growth was because of IBM “wrapping up our most successful mainframe product ever.”

Revenue in the Cognitive Solutions unit, which includes many Watson-related products, fell 6 percent in the third quarter, IBM said. Sales in the Global Business Services division rose 1 percent, while Technology Services & Cloud Platforms posted a revenue drop of 2 percent. The company’s Systems unit saw sales gain 1 percent, and Global Financing revenue declined 9 percent.

On a conference call following the report, Kavanaugh said that IBM "fell short" in third-quarter signings in services, but added that the business is expected to ramp up in the next quarter. "We’ve got a chance to exit the year with a very strong position in our services base of business," he said.

IBM is bolstering its appeal to customers by strengthening its AI arm, running 75 active blockchain networks and helping to protect banks from cyberattacks, Kavanaugh said, adding that more than 400 businesses have already embraced IBM’s one-year-old secure Cloud Private program. IBM is "fundamentally changing the way we operate this company," Kavanaugh said on the call.

The real threat for IBM is that demand for its mainframe servers is rapidly fading into nonexistence as "everyone is migrating towards the cloud," said Ivan Feinseth, an analyst with Tigress Financial Partners LLC, before the results were announced.

"They need their new key initiatives, such as the cloud and Watson AI development, to continue to ramp up," he said. "They are growing, but they are not moving the bigger needle and that’s the issue."

On Monday, IBM unveiled a new technology platform to help companies manage security, artificial intelligence and storage services across multiple cloud systems, regardless of where they were built. This is part of IBM’s strategy to make cloud services more compatible with its competitors, rather than taking them head-on as it vies to catch up.