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IBM Reports 2014 Third-Quarter Results

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IBM Reports 2014 Third-Quarter Results

 Net Income Disappoints the Market

IBM today announced third-quarter 2014 diluted earnings from continuing operations of $3.46 per share, compared with diluted earnings of $3.77 per share in the third-quarter of 2013, a decrease of 8 percent.  Operating (non-GAAP) diluted earnings from continuing operations were $3.68 per share compared with operating diluted earnings of $4.08 per share in the third-quarter of 2013, a decrease of 10 percent. 

Third-quarter net income from continuing operations was $3.5 billion compared with $4.1 billion in the third-quarter of 2013, a decrease of 17 percent.  Operating (non-GAAP) net income from continuing operations was $3.7 billion, as compared with $4.5 billion in the third-quarter of 2013, a decrease of 18 percent.

For the third-quarter of 2014, IBM reported consolidated net income of $18 million or $0.02 of diluted earnings per share, which includes a net loss from discontinued operations of $3.4 billion, or $3.44 per diluted common share.

Total revenues from continuing operations for the third-quarter of 2014 of $22.4 billion were down 4 percent (down 2 percent, adjusting for the impact of the divested customer care outsourcing business and for currency) from the third-quarter of 2013.    

“We are disappointed in our performance.  We saw a marked slowdown in September in client buying behavior, and our results also point to the unprecedented pace of change in our industry.  While we did not produce the results we expected to achieve, we again performed well in our strategic growth areas – cloud, data and analytics, security, social and mobile – where we continue to shift our business.  We will accelerate this transformation,” said Ginni Rometty, IBM chairman, president and chief executive officer. 

“We are executing on a clear strategy that is moving IBM to higher value, and we’ve taken significant actions to exit nonstrategic elements of the business.  This includes the announcement that we will divest semiconductor manufacturing to focus on research and development that will differentiate our systems.  We will continue to make the investments and the changes necessary to manage our business for the long term.  And we remain fully committed to returning significant value to shareholders through dividends and share repurchase.”     

Summary

  • Diluted EPS from continuing operations:
    • GAAP: $3.46, down 8 percent;
    • Operating (non-GAAP): $3.68, down 10 percent;
  • Net income from continuing operations:
    • GAAP: $3.5 billion, down 17 percent;
    • Operating (non-GAAP): $3.7 billion, down 18 percent;
  • Consolidated results, including net loss on discontinued operations of $3.4 billion:
    • Net income: $18 million
    • EPS: $0.02
  • Gross profit margin from continuing operations:
    • GAAP: 48.6 percent, down 40 basis points;
    • Operating (non-GAAP): 49.2 percent, down 90 basis points;
  • Revenue from continuing operations: $22.4 billion:
    • Down 4 percent; down 2 percent adjusting for divested customer care outsourcing business and currency;
  • Strategic imperatives grew double digits year-to-date:
    • Cloud revenue up more than 50 percent year-to-date;Business analytics revenue up 8 percent year-to-date;
      • For cloud delivered as a service, up 80 percent year-to-date with a third-quarter annual run rate of $3.1 billion;
    • Mobile revenue more than doubled year-to-date;
    • Security revenue up more than 20 percent year-to-date;
  • Impact of customer care outsourcing, industry standard server and      Microelectronics business divestitures, based on full-year 2013:
    • Generated more than $7.0 billion of annual revenue;
    • Incurred more than $0.5 billion in annual pre-tax losses.

Discontinued Operations 

The company has reached an agreement under which GLOBALFOUNDRIES will acquire IBM’s Microelectronics OEM semiconductor business and manufacturing operations.  The transaction with GLOBALFOUNDRIES is expected to close in 2015.  The results from continuing operations exclude the Microelectronics business, which is presented separately as discontinued operations.

The loss from discontinued operations in the third quarter includes a non-recurring pre-tax charge of $4.7 billion, or $3.3 billion, net of tax.  The charge includes an impairment to reflect fair value less estimated costs to sell the Microelectronics business assets, which the company has classified as held for sale at September 30, 2014.  The charge also includes other estimated costs related to the transaction, including cash consideration expected to be transferred to GLOBALFOUNDRIES of approximately $1.5 billion.  The cash consideration is expected to be paid to GLOBALFOUNDRIES over the next three years and will be adjusted by the amount of the working capital due by GLOBALFOUNDRIES to IBM, estimated to be $0.2 billion.  In addition, discontinued operations includes operational net losses from the Microelectronics business of $0.1 billion in both the third quarter of 2014 and the third quarter of 2013.    

Third-Quarter GAAP – Operating (non-GAAP) Reconciliation

Third-quarter operating (non-GAAP) diluted earnings from continuing operations exclude $0.22 per share of charges; $0.16 per share for the amortization of purchased intangible assets and other acquisition-related charges; and $0.06 per share for retirement-related charges driven by changes to plan assets and liabilities primarily related to market performance.

Earnings Guidance

The company will provide earnings guidance during today’s quarterly earnings conference call, and it is included in the presentation charts. 

Geographic Regions

The Americas’ third-quarter revenues were $10.1 billion, a decrease of 2 percent (down 1 percent, adjusting for currency) from the 2013 period.  Revenues from Europe/Middle East/Africa were down 2 percent to $7.2 billion (down 3 percent, adjusting for currency).  Asia-Pacific revenues decreased 9 percent (down 8 percent, adjusting for currency) to $5.0 billion.                                    

Growth Markets

Revenues from the company’s growth markets were down 6 percent (down 5 percent, adjusting for currency).  Revenues in the BRIC countries — Brazil, Russia, India and China — were down 7 percent (down 7 percent, adjusting for currency).

Services

Global Services segment revenues decreased 3 percent (flat adjusting for the impact of the divested customer care outsourcing business and for currency) to $13.7 billion.  Global Technology Services segment revenues decreased 3 percent (up 1 percent adjusting for the impact of the divested customer care outsourcing business and for currency) to $9.2 billion.  Global Business Services segment revenues were down 2 percent (down 1 percent, adjusting for currency) to $4.5 billion.

Pre-tax income from Global Technology Services decreased 11 percent and pre-tax margin decreased to 17.7 percent.  Global Business Services pre-tax income decreased 15 percent and pre-tax margin decreased to 17.5 percent.

The estimated services backlog at September 30, 2014 was $128 billion, down 7 percent year to year adjusting for the divested customer care outsourcing business (down 2 percent, adjusting for currency). 

Software

Revenues from the Software segment were $5.7 billion, down 2 percent (down 2 percent, adjusting for currency) compared with the third-quarter of 2013.  Software pre-tax income decreased 3 percent and pre-tax margin decreased to 35.5 percent. 

Revenues from IBM’s key middleware products, which include WebSphere, Information Management, Tivoli, Workforce Solutions and Rational products, were $3.7 billion, down 1 percent (down 1 percent, adjusting for currency) versus the third-quarter of 2013.  Operating systems revenues of $513 million were down 11 percent (down 11 percent, adjusting for currency) compared with the prior-year quarter.   

Financing

Global Financing segment revenues decreased 3 percent (down 3 percent, adjusting for currency) in the third-quarter to $487 million.  Pre-tax income for the segment decreased 4 percent to $475 million.

Hardware

Revenues from continuing operations from the Systems and Technology segment totaled $2.4 billion for the quarter, down 15 percent (down 15 percent, adjusting for currency) from the third-quarter of 2013.  Systems and Technology pre-tax loss increased $91 million to a loss of $99 million. 

Revenues from Power Systems were down 12 percent compared with the 2013 period.  Revenues from System x were down 10 percent.  Revenues from System z mainframe server products decreased 35 percent compared with the year-ago period.  Revenues from System Storage decreased 6 percent.  

Gross Profit

The company’s total gross profit margin from continuing operations was 48.6 percent in the 2014 third-quarter period compared with 49.0 percent in the 2013 third-quarter period.  Total operating (non-GAAP) gross profit margin from continuing operations was 49.2 percent in the 2014 third-quarter compared with 50.1 percent in the 2013 third-quarter period.                        

Expense

Total expense and other income from continuing operations increased 1 percent to $6.5 billion compared  with the prior year period.  S,G&A expense of $5.3 billion was flat year over year.  R,D&E expense of $1.4 billion was flat compared with the year-ago period.  Intellectual property and custom development income decreased to $145 million compared with $191 million a year ago.  Other (income) and expense was income of $103 million compared with prior-year income of $63 million.  Interest expense increased to $126 million compared with $97 million in the prior year period.

Total operating (non-GAAP) expense and other income from continuing operations increased 2 percent to $6.4 billion compared with the prior-year period.  Operating (non-GAAP) S,G&A expense increased 2 percent to $5.1 billion compared with the prior-year period.  Operating (non-GAAP) R,D&E expense of $1.4 billion was up 2 percent compared with the year-ago period.                                

Pre-Tax Income 

Pre-tax income from continuing operations decreased 12 percent to $4.4 billion and pre-tax margin of 19.5 percent was down 1.8 points compared with the prior-year period.  Operating (non-GAAP) pre-tax income decreased 15 percent to $4.6 billion and pre-tax margin was 20.7 percent, down 2.6 points, compared to the year-ago period.

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IBM’s tax rate from continuing operations was 20.8 percent, up 4.0 points year over year; operating (non-GAAP) tax rate was 20.8 percent, up 3.2 points compared to the year-ago period.  The change in the third-quarter tax rate is driven by discrete benefits associated with foreign tax audits in the third-quarter 2013.

Net income margin from continuing operations decreased 2.3 points to 15.4 percent.  Total operating (non-GAAP) net income margin decreased 2.8 points to 16.4 percent.

The weighted-average number of diluted common shares outstanding in the third-quarter 2014 was 998 million compared with 1.10 billion shares in the same period of 2013.  As of September 30, 2014, there were 990 million basic common shares outstanding.

Debt, including Global Financing, totaled $45.7 billion, compared with $39.7 billion at year-end 2013.  From a management segment view, Global Financing debt totaled $28.6 billion versus $27.5 billion at year-end 2013, resulting in a debt-to-equity ratio of 7.4 to 1.  Non-global financing debt totaled $17.1 billion, an increase of $4.8 billion since year-end 2013, resulting in a debt-to-capitalization ratio of 61.9 percent (higher than the ratio at year-end 2013).                     

IBM ended the third-quarter 2014 with $9.6 billion of cash on hand and generated free cash flow of $2.2 billion, excluding Global Financing receivables, down approximately $0.1 billion year over year.  In the third quarter of 2014, the company returned $2.8 billion to shareholders through $1.1 billion in dividends and $1.7 billion of gross share repurchases.

At the end of September 2014, IBM had approximately $1.4 billion remaining from the current share repurchase authorization.  The company expects to request an additional share repurchase authorization at the October 2014 board meeting.

Year-To-Date 2014 Results

Net income from continuing operations for the nine months ended September 30, 2014 was $10.2 billion compared with $10.7 billion in the year-ago period, a decrease of 4 percent.  Diluted earnings per share from continuing operations were $10.09, up 5 percent compared to the 2013 period.  The consolidated diluted earnings per share were $6.44 as compared to $9.27, down 31 percent as compared to the 2013 period. Revenues from continuing operations for the nine-month period totaled $68.7 billion, a decrease of 3 percent (down 3 percent, adjusting for currency) compared with $71.0 billion for the first nine months of 2013.

Operating (non-GAAP) net income from continuing operations for the nine months ended September 30, 2014 was $10.9 billion compared with $11.7 billion in the year-ago period, a decrease of 7 percent.  Operating (non-GAAP) diluted earnings per share from continuing operations were $10.76 compared with $10.54 per diluted share for the 2013 period, an increase of 2 percent.