IBM Set to Benefit from AI Boom with Strong Performance

IBM shares have experienced a remarkable rally, surging 6% this year and an impressive 26% over the last three months. Investors are eagerly buying into the idea that IBM is well-positioned to capitalize on the artificial intelligence (AI) boom.

The upcoming fourth-quarter earnings report, set to be released after market close on Wednesday, will provide investors with valuable insight into the progress made on this front.

According to Street estimates compiled by FactSet, IBM is projected to report a revenue of $17.3 billion for the December quarter, representing a 3.6% increase from the previous year. Additionally, the anticipated profit is set at $3.79 per share.

A substantial portion of this revenue is expected to come from software, with estimated earnings of $7.7 billion, reflecting a 5.3% increase. Furthermore, consulting revenue is projected to grow by 7.3% to reach $5.1 billion. However, IBM's infrastructure business, primarily focused on mainframe computers, is expected to decline by 4.5% and reach $4.3 billion.

IBM has already forecasted a 3% to 5% growth range for the full year of 2023, along with an estimated free cash flow exceeding $10.5 billion. The Street consensus suggests a slightly higher figure of $10.7 billion in free cash flow for the year.

While announcing the fourth-quarter results, IBM is likely to provide investors with an initial outlook for 2024. The consensus estimates indicate a revenue of $63.5 billion for that year, reflecting a 2.9% increase, and an even $10 per share in profit. Furthermore, free cash flow for 2024 is expected to inch up to $11 billion.

Heading into the earnings report, analysts have raised their expectations for IBM's performance. Amit Daryanani, an analyst from Evercore ISI, recently upgraded IBM shares to Outperform from In Line, while raising the target price to $200 from $165.

IBM Positioned for Growth in 2024 and Beyond

According to a research note, IBM is primed to reap the benefits of several favorable market trends in 2024 and beyond. The company is expected to benefit from a combination of increased enterprise IT spending, improved productivity, and the growing adoption of artificial intelligence (AI).

J.P. Morgan analyst Brian Essex, who maintains a Neutral rating on IBM shares, recently raised his target price to $170. He believes that the key focus for investors will be on IBM's commentary about its expected growth and free cash flow guidance during its upcoming results announcement. Essex anticipates that IBM will deliver solid results, with healthy consulting revenue and mid-single-digit software growth. He also factors in a more favorable foreign exchange environment, supportive renewal cycles, and cost rationalization efforts.

Despite his positive outlook, Essex acknowledges that IBM faces challenges, particularly in light of a potential macroeconomic slowdown and the company's management of the final stages of its current mainframe product cycle.

Stifel analyst David Grossman maintains a Buy rating on IBM shares and recently increased his target price to $183. Grossman emphasizes that the recent movements in the dollar over the past 90 days could provide a significant boost to IBM's fourth-quarter results. He believes that the consensus estimates fail to fully capture this positive impact. Furthermore, Grossman has confidence in IBM's outlook for 2024.

However, Grossman points out that the stock currently trades at a 14% discount to the S&P 500 based on forward multiple earnings. This represents an approaching historic peak relative valuation. He also highlights that the recent stock appreciation has pushed IBM's dividend yield below 4% for the first time since 2018.

In summary, analysts are increasingly optimistic about IBM's prospects, with many recognizing its potential as an overlooked beneficiary of AI adoption. As the company navigates through its current product cycle challenges, it looks set to capitalize on the tailwinds of enterprise IT spending and AI-centric growth.