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IBM beats on earnings, but the stock is not being rewarded

International Business Machines Corp. had a better-than-expected second quarter, but shares were not rewarded Monday as an executive warned about the effects of the strengthening dollar.

IBM 
IBM,
-1.28%
reported second-quarter net income of $1.39 billion, or $1.54 a share, compared with $1.47 a share in the year-ago period, while adjusted earnings, which exclude stock-based compensation expenses and other items, were $2.31 a share, up from $2.23 a share a year ago. Revenue increased to $15.54 billion from $14.22 billion in the year-ago quarter, after adjusting for discontinued operations, namely IBM’s spinoff of managed infrastructure-service business Kyndryl Holdings Inc. 
KD,
+2.88%.

Analysts surveyed by FactSet expected adjusted earnings of $2.26 a share on revenue of $15.08 billion.

Shares declined more than 3% after hours, following a 1.3% decline to close Monday’s regular session at $138.13. IBM’s stock has been positive in a rough year, rising 5.9% so far in 2022 while the Dow Jones Industrial Average — which counts IBM as a component — is down 13.9%, the S&P 500 index
SPX,
-0.84%
is off 19% and the tech-heavy Nasdaq Composite Index
COMP,
-0.81%
is down 27.4%.

IBM reported that software revenue grew 6.4% to $6.2 billion, consulting revenue increased 9.8% to $4.8 billion, while infrastructure revenue grew 19% to $4.2 billion.

While IBM declined to provide an earnings forecast at the beginning of the year, the company expressed optimism about the year in the previous quarter, forecasting that the loss of Russian business because of the war in Ukraine was the only real headwind it faced and it expected demand to remain strong were a “very slight recession” to occur.

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Last quarter, the company also forecast revenue growth at the high end of its previously forecast model, which was the high end of the mid-single-digit range. Analysts expect full-year revenue of $60.54 billion, or a 5.6% increase from the previous year.

“With our first-half results, we continue to expect full-year revenue growth at the high end of our mid-single-digit model,” IBM Chief Executive Arvind Krishna said in a statement.

Analysts were concerned about the effect of the strengthening dollar on IBM’s financials heading into the print, and the company seemed to confirm some issues there. Chief Financial Officer James Kavanaugh told Reuters ahead of Monday afternoon’s conference call that foreign-exchange rates would hurt second-half revenue more than previously expected, and spelled that out in more depth in the call.

“With the significant movement of the U.S. dollar as compared to nearly every currency, at mid-July spot rates, currency translation will not be about a 6-point headwind to revenue growth for the year,” Kavanaugh said on the call, after previously guiding for a headwind of 3% to 4%. “That’s a degredation of about $1.5 billion from April’s rates, with most of that incremental impact still ahead of us in the second half.”

The effects in the third quarter could be even sharper, Kavanaugh said.

“At current spot rates, currency translation has increased to about an 8-point headwind to revenue growth, impacting our reported revenue, profit and cash,” he said of the current quarter, while adding that the launch of a new mainframe product in the second quarter will lead to a sharper quarter-over-quarter decline in the current period than is typical.

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Kavanaugh also confirmed that IBM has been raising prices to deal with higher salaries and inflation.

“Our year-to-year gross margin decline reflects escalating labor and component costs,” the CFO said. “We’re addressing this through pricing, though it takes time to show up in our margin profile, especially in consulting.”

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