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Why IBM Shares Were Rising Today

Motley Fool - Wed Sep 20, 1:40PM CDT

What happened

Shares of IBM(NYSE: IBM) were on the rise on Wednesday, up as much as 3.7% before settling in to a 2.8% gain as of 1:05 p.m. ET. The reason for IBM's rise was a rare outperform rating given on the stock in a new initiation by a Wall Street sell-side equity analyst.

Investors and Wall Street seem to have been lulled into a pessimistic take on IBM after years of seeing its business disrupted by Silicon Valley cloud companies. But following the company's massive acquisition of open-source software giant Red Hat in 2019 and the appointment of new CEO Arvind Krishna in 2020, it appears at least one analyst is willing to issue a fresh and more optimistic take.

So what

Today, analyst Matthew Swanson of Wall Street firm RBC Capital initiated IBM with an outperform rating (just the eighth analyst out of 26 with the equivalent of a buy rating) and a $188 price target, which is a street-high target on Big Blue.

According to Swanson, IBM's software and consulting businesses are underrated, and could benefit as post-pandemic cloud and artificial intelligence (AI) trends make IT environments more complex. The company's consulting and software divisions have long been go-to services for companies looking to digitally transform their businesses. So at first glance, that assessment seems to have merit.

While IBM actually saw a 0.4% decline in revenue last quarter, that was mainly due to a cyclical decline in its hardware and infrastructure business, which is certainly not unique across the technology landscape.

But looking under the hood, things were much better. IBM's software division, its largest, grew 7.5% on a constant currency basis, led by Red Hat, which grew 11%; data and AI products grew 10%; and its second largest segment, consulting, was up 5.3% on a constant currency basis.

Red Hat was a growth company when IBM bought it, albeit for a fairly high price. As corporate IT environments adopt multiple public clouds, private clouds, and on-premises computing with complex computing and governance rules, Red Hat should help customers simplify that infrastructure by using its software.

Moreover, IBM has been fairly acquisitive this year and aggressive about AI investments, with seven hybrid cloud and AI acquisitions already made in 2023.

And in May, IBM announced its Watsonx platform for enterprises in collaboration with open-source AI start-up Hugging Face. The platform offers a slew of different services for generative AI, data stores, and data governance across multiple clouds, including an IBM cloud-hosted GPU platform.

Now what

After years of stagnant financial performance, it's no surprise investors have a skeptical take on IBM, especially up against Silicon Valley giants. But since those companies are all working on their proprietary solutions within their own clouds, IBM might be able to carve itself a good business in helping enterprises navigate complexity and working on multi-cloud environments. Still, we will have to see if Watsonx eventually catches on later this year, because there's lots of competition in the AI space.

The stock has recently gained a new believer, and dividend-seeking investors could probably do worse than IBM's stock at a 4.5% yield, with a much better software franchise now than in years past.

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Billy Duberstein has no position in any of the stocks mentioned. His clients may own shares of the companies mentioned. The Motley Fool recommends International Business Machines. The Motley Fool has a disclosure policy.

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