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    International Business Machines Corp (IBM)

    Q2 2024 Summary

    Published Jan 10, 2025, 5:10 PM UTC
    Initial Price$190.00April 1, 2024
    Final Price$175.10July 1, 2024
    Price Change$-14.90
    % Change-7.84%

    What went well

    • IBM's AI-related consulting signings have exceeded $1.5 billion in the first 12 months, doubling quarter-over-quarter, demonstrating strong early momentum and positioning IBM as a strategic provider in generative AI services.
    • IBM's Software business is seeing significant growth due to AI adoption, with an AI book of business of $0.5 billion through the first 12 months, contributing about 1 point of growth, leading IBM to raise its Software revenue guidance for the year.
    • Red Hat's annual bookings growth accelerated to over 20%, with OpenShift bookings up over 40%, reflecting robust demand for IBM's hybrid cloud solutions and supporting expectations of low double-digit revenue growth going forward.

    What went wrong

    • IBM expects near-term weakness in its Consulting business, revising growth expectations to low single digits for 2024, due to spending reprioritization around short-term discretionary projects influenced by macroeconomic factors like prolonged geopolitical uncertainties and inflation leading to higher interest rates.
    • Despite strong AI consulting signings, AI investments are primarily a shift from other consulting areas rather than incremental, with IBM acknowledging that the bulk of the demand is indeed a shift and consulting expectations for the year are being lowered.
    • The acquisition of HashiCorp may lead to potential dilution in 2025, with concerns about a loss of around $0.30 in interest income, and IBM acknowledges the need to manage balance sheet capital structure implications and execute well to realize synergies.

    Q&A Summary

    1. Margin Progress and HashiCorp Acquisition
      Q: Can earnings sustain with margin improvements and HashiCorp acquisition?
      A: IBM is pleased with its strong free cash flow of $4.5 billion, up $1.1 billion year-over-year, and believes margin progress is sustainable for the year. They anticipate flowing the $0.25 EPS upside through to adjusted EBITDA and free cash flow guidance. Regarding the HashiCorp acquisition, IBM sees it as a strategic fit with higher revenue growth, expecting it to be adjusted EBITDA accretive in 12 months and free cash flow accretive within 2 years.

    2. Consulting Weakness and Outlook
      Q: Will non-AI consulting worsen in H2, and when will consulting weakness end?
      A: IBM views the consulting weakness as temporary, driven by prolonged geopolitical uncertainties and inflation leading to higher interest rates. They are optimistic about medium- to long-term prospects, expecting consulting growth to become a tailwind over time. In the short term, they anticipate the weakness may last another 6 months.

    3. AI Investments in Consulting
      Q: Are AI investments in consulting shifting spending or additive?
      A: IBM believes that the bulk of AI investments in consulting are a shift from other consulting areas rather than incremental or cannibalistic. As clients move from early experimentation to scaling AI, these investments are expected to become additive and accretive over time. They have over $1.5 billion in AI-related consulting signings in the first 12 months, exceeding expectations.

    4. Red Hat Growth Outlook
      Q: What's causing the slowdown in Red Hat growth, and what's the outlook?
      A: Despite strong bookings growth between 14% and 20%, Red Hat's revenue is recognized over time due to its consumption-based model. IBM expects Red Hat revenue to grow in the low double digits in the second half of 2024, supported by mid-teens growth in revenue performance obligations and strong demand for OpenShift, which grew 40% in the past quarter.

    5. M&A Strategy and Valuations
      Q: What's IBM's M&A approach given current market valuations?
      A: IBM remains disciplined and focused on acquisitions in hybrid cloud and artificial intelligence, seeking synergy and accretion to free cash flow within 2 years. They acknowledge that valuations are rich but reasonable compared to 18 months ago. IBM plans to proceed with the HashiCorp acquisition in the second half of the year.

    6. Transaction Processing Growth
      Q: How will Transaction Processing growth trend in 2024 and 2025?
      A: IBM is increasing its guidance for Transaction Processing growth to mid-single digits for the year, driven by strong first-half performance. They are confident in continuing this growth into 2025, supported by investments in offerings like watsonx Code Assistant for Z.

    7. Open Sourcing Granite Models
      Q: Why is IBM open sourcing the Granite models and focusing on developers?
      A: IBM believes that fit-for-purpose, smaller AI models are more efficient and cost-effective than extremely large models. By open sourcing the Granite models under the Apache license, clients can customize models without sharing proprietary data. This approach opens access to millions of developers and expands the market.

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