There was more good news than bad in the company’s first-quarter report.
Shares of International Business Machines (IBM -1.05%) slumped on Thursday after the tech giant reported first-quarter results that fell a bit short of expectations. Revenue of $14.46 billion missed the consensus estimate by $80 million, while adjusted earnings per share of $1.68 was $0.09 below expectations.
For the most part, though, IBM’s first quarter went well. Overall revenue was up 3% in constant currency, free cash flow jumped significantly to $1.9 billion, and profit margins expanded. Software revenue rose 6%, driven by Red Hat and artificial intelligence, and the infrastructure segment managed to grow despite being two years into the current mainframe product cycle.
There was one problem
The weak point in IBM’s first quarter was the consulting business. While consulting revenue still rose by 2% year over year at constant currency, IBM is seeing more pressure related to discretionary projects. Clients are less willing to spend on smaller, less critical projects in an uncertain economic environment.
The other issue in the consulting business was a lengthening of backlog duration. The consulting business has about $30 billion worth of business in its backlog, and that number grew by 7% year over year in the first quarter. However, it’s taking a bit longer to translate that backlog into revenue for large digital transformation projects.
The silver lining is that consulting for AI-related projects is booming. IBM has now booked more than $1 billion worth of business related to generative AI, which includes its Watsonx platform. That total is a mix of consulting and software, but it’s weighted toward consulting. While companies are pulling back in some areas, they’re ramping up spending on AI.
The story hasn’t changed
While IBM’s first quarter was slightly weaker than expected, driven by slower growth for the consulting business, the company maintained its full-year outlook. IBM still sees total revenue growing at a mid-single-digit rate at constant currency, and it still expects to generate about $12 billion in free cash flow.
IBM is particularly well-positioned to win AI-related business as the AI hype cycle matures. Companies have been racing to adopt AI technology, but IBM is now seeing its clients thinking more about return on investment. Running advanced AI models can be expensive, so companies need to ensure that this heavy spending produces the desired boosts to efficiency or productivity. IBM’s consulting arm coupled with its AI software platform is a potent combination in a world where AI investments need to be justified.
Thursday’s post-earnings decline offers investors a nice opportunity to pick up shares of IBM for a reasonable price. With IBM’s market capitalization now sitting around $154 billion, the stock trades for less than 13 times the free cash flow outlook.
While IBM’s first-quarter report wasn’t a home run, there wasn’t anything that changed the long-term story.
Timothy Green has positions in International Business Machines. The Motley Fool recommends International Business Machines. The Motley Fool has a disclosure policy.
