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Investment Overview for IBM (NYSE:IBM)
Below are key drivers of IBM's value that present opportunities for upside or downside to the current Trefis price estimate for IBM:
Branded Middleware Software
- IBM Branded Middleware License Revenues: We currently forecast the revenues from the sale of IBM's middleware licenses to flatline at $5.6 billion by the end of the Trefis forecast period in 2022. While we expect demand to pick up on the back of increase in software development around the globe, especially from legacy code conversion to newer standards and capabilities, IBM might not be able to capitalize on it as it is looking to roll back perpetual licensing in light of emerging cloud SaaS and focus on the subscription model. However, if demand were to decline, due to overall downturn in economy, there could be a 5% downside to the Trefis price estimate if middleware license revenues were to decline to $4.5 billion by the end of Trefis forecast period.
- IBM Middleware Software EBITDA Margin: We currently forecast middleware software EBITDA margin to decrease from about 53.2% in 2014 to 51.7% by the end of the 2022. There could be 3% upside to the Trefis price estimate if margin was to remain constant at current high level going forward due to IBM's brand recognition. On the other hand, there could be 5% downside to the Trefis price estimate if the margin were to fall due to lower economic demand, reaching its pre-crisis level of 35% by the end of the Trefis forecast period.
OS and Others
- OS & Other License Revenue: While OS license revenues have suffered in the last two year as the company has dis-invested from x86 servers and microelectronics (Fabrication unit) division.However, the recent product refresh should help the company to stem the decline in OS license revenues in the future. We believe that OS licenses revenue should decrease from $1.32 billion in 2014 to $1.17 billion in 2022. However, if product refresh were unable to fillip revenues (due to decline in overall demand for servers), it could negatively affect our valuation by 3%.
- GTS EBITDA Margin: GTS margins have historically witnessed solid growth increasing from 19.4% in 2010 to around 25.1% in 2014. While we currently forecast GBT EBITDA margin to stabilize at 22.6% in the future as demand for outsourcing improves and the company restructures its low margin contracts for higher margins in an industry that is highly competitive. Nevertheless, a decline in the future to recession level of 15% could result in a significant downside of 5% to the Trefis price estimate.
- GTS Outsourcing Signings: We currently forecast IBM's Global Technology Services signings decrease from $22.5 billion in 2014 to $17.5 billion by the end of our forecast period, primarily due to sale of outsourcing business in 2013. However, there could be a 5% downside to the Trefis price estimate if GTSO signings were to decrease to $12 billion due to lower demand for theses services as a result of price war from other vendors like Accenture, Cognizant and Infosys.
For additional details, select a driver above or select a division from the interactive Trefis split for IBM at the top of the page.
IBM makes money primarily through the sale of Middle-ware Software and Technology Services such as outsourcing and integration. IBM's customers are large and medium-sized businesses worldwide.
Middle-ware is a portfolio of software products used to build and deploy software applications. Middle-ware acts as an interface between front-end applications like web-based applications and back-end applications like the database. Examples include database systems, telecommunications software, transaction monitors, and messaging and queuing software.
IBM, Red Hat and Oracle Corporation are major vendors providing middleware software.
We believe that Middle-ware is the most valuable segment within IBM due to:
High Middle-ware Margins
IBM has typically enjoyed higher margins in its middle-ware software business as compared to its other major business segments.
We estimate that IBM's middle-ware software division will have EBITDA margins of over 51% during our forecast period. In comparison, we estimate that the businesses within Technology Services will have EBITDA margins of about 22.6% and Business Services will have EBITDA margins of about 17.5% over the forecast period.
Recurring Middleware Software Revenues
Much of IBM's middleware software business is based on recurring maintenance and services revenue streams as contracts are often renewed on expiry. We believe IBM would be able to maintain steady cash flows, even in tough times, in a segment where it is the market leader.
Business Analytics and Optimization
Global data volume is expected to increase by 29 times over to 35 zettabytes (a zettabyte is a 1 followed by 21 zeros) in the next ten years, according to research firm IDC. With enterprises needing a way to manage and mine potentially valuable information from this huge source of data, advanced data analytics will witness increased adoption.
IBM has built the world’s leading analytics practice. With more than 500 analytics patents, and several acquisitions, the firm has extended its capabilities beyond any other player in the market. IBM expects analytics solutions to contribute a mammoth $15 billion to its revenue in 2015, providing a significant boost to both its middleware software and services offerings.
Smarter Planet Initiative Offers Tremendous Potential
IBM launched its Smarter Planet Initiative in 2008 to provide new ways of monitoring, connecting and analyzing the systems allowing business, civic and non-governmental leaders to develop more efficient ways to manage these systems.
The firm aims to capture new and potentially huge markets (like utilities, e-commerce etc.) by offering solutions that will essentially be integrated with its middleware software platforms.
If IBM manages to successfully extend its software and solution offerings leveraging its Smarter Planet Initiative, its middleware software business and GBS could witness tremendous growth in the future.
GTS Outsourcing To Benefit from Contract Restructuring and Increased Competition
GTS Outsourcing Services of IBM are aimed at enabling clients to reduce costs and improve productivity and efficiency. GTS Outsourcing forms almost 60% of the Global Technology Services (GTS) revenues and 33% of Overall Global Services revenues. Even though demand for outsourcing has grown post the recession, IBM has been restructuring low margin and value contracts that have resulted in a decrease in signing and outsourcing revenues over the past year i.e 2014. However, outsourcing will continue to remain important as companies look to cut costs and improve productivity in an increasingly competitive environment.
How Does Trefis Modelling Work?
How do we get the historical numbers for this chart?
Trefis has a team of in-house Analysts who gather historical data from company filings and other verifiable sources. When historicals are available, we explain how we got them at the bottom of the Trefis analysis section below.
Who came up with the Trefis forecast for future years?
The Trefis team of in-house Analysts considers a variety of factors when projecting any forecast. The rationale for our projections is explained in the Trefis analysis section below.
How does my dragging the trendline on the chart impact the stock price?
- We use forecasts for business drivers to calculate forecasted Revenues and Profits for each division of the company.
- We then use forecasted Profits in a Discounted Cash Flow (DCF) model to obtain the Price Estimate for the company.
See more on: DCF Methodology
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