International Business Machines Corp. (IBM) reported fourth-quarter 2014 results. Non-GAAP earnings (including acquisition and retirement related adjustments) of $5.81 per share beat the Zacks Consensus Estimate of $5.41. However, earnings declined 5.7% from the year-ago quarter figure of $6.16.

For full-year 2014, the company’s earnings per share of $16.53 were down from $16.64 reported in 2013.

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Fourth-quarter revenues of $24.1 billion not only missed the Zacks Consensus Estimate of $24.7 billion but also declined 11.9% year over year. Full-year revenues also went down 5.7% year over year to $46.4 billion.

Segment Revenue Details

Global services revenues declined 7.8% year over year to $13.5 billion. This was primarily due to sluggish revenue growth across both Global Technology Services and Global Business Services segments. 

Global Technology Services (GTS) revenues declined 7.6% year over year to $9.2 billion. On a year-over-year basis, GTS outsourcing revenues (including divested customer care business) increased 1% at constant currency. Maintenance revenues also went up 1% from the year-ago quarter.

Global Business Services revenues declined 8.4% to $4.4 billion. Consulting & Systems Integration declined 3% on a constant currency.

Services backlog at the end of the fourth quarter stood at $128 billion, flat year over year.

Revenues from the Software segment were $7.6 billion, down 6.9% compared with the year-ago quarter. Software-as-a-Service offerings were up nearly 50%. Revenues from IBM’s key middleware products, which include WebSphere, Information Management, Tivoli, Workforce Solutions and Rational, were down 6% from the year-ago quarter. Operating systems revenues declined 19% from the prior-year quarter. IBM’s mobile revenues increased more than three times on a year-over-year basis.

Systems and Technology revenues were down 39% on a year-over-year basis to $2.5 billion. Revenues from Power Systems declined 13% compared with the year-ago period. Revenues from System z mainframe server products decreased 26%. Revenues from System Storage went down 8% year over year.

On the other hand, IBM’s cloud revenues jumped 60% from the year-ago quarter. Cloud delivered as a service revenues soared 75% year over year. Business Analytics revenues increased 7% year over year, while security offerings grew more than 19% from the year-ago quarter.

Global Financing revenues declined 0.4% on a year-over-year basis to $532 million.

Other revenues declined 18% year over year to $82 million.

Geographic Revenue Details

Region-wise, revenues from the Americas, Europe/Middle East/Africa and Asia-Pacific declined 9%, 13% and 17% to $11.1 billion, $8 billion and $4.9 billion, respectively.

Revenues from IBM’s BRIC (Brazil, Russia, India & China) markets declined 21% (down 8% in constant currency).

Revenues from growth markets decreased 16% while that from major markets decreased 11%, on a year-over-year basis.

Margins

Non-GAAP gross margin increased 60 basis points (bps) from the year-ago quarter. Total operating expense & other income as a percentage of revenues decreased 180 bps year over year to 23.2%. The decline was primarily due to lower research & development expense and growth in other income. Non-GAAP net income was down 13% year over year to $5.8 million.

Acquisitions & Divestitures

In 2014, IBM divested its System x and customer care BPO business. In Oct 2014, the company announced its decision to sell the semiconductor technologies unit that makes its Power processors to GlobalFoundries, for about $1.3 billion, in order to cut costs.

During the fourth quarter, the company secured a $350 million contract from the U.S. Department of Energy to create future super-computers based on OpenPOWER technology. In addition, Suzhou PowerCore signed a deal with the company to use POWER architecture for developing and marketing processors for servers in China.

Balance Sheet & Cash Flow Details

IBM ended the quarter with $8.5 billion in total cash and marketable securities, compared with $11 billion at the end of fourth-quarter 2013. Total debt was $40.8 billion compared with $39.7 billion in the prior quarter.

IBM reported cash flow from operations (excluding Global Financing receivables) of $7.6 billion versus $9.5 billion in the year-ago quarter. IBM generated free cash flow of $6.6 billion, compared with $8.4 billion from the year-ago period.

In the reported quarter, IBM returned $1.2 billion to shareholders — $1.1 billion as dividends and $0.1 billion through share repurchases.

At the end of the fourth quarter, IBM had approximately $6.3 billion remaining from the current share repurchase authorization.

Guidance

For 2015, IBM rendered a soft outlook. The company expects revenues to remain flat year over year and adjusted earnings in the range of $15.75 to $16.50. In addition, free cash flow is likely to be flat in 2015.

The company expects to continue to invest more in SoftLayer in 2015. Going forward, it expects capital expenditure to increase owing to investment in its cloud platforms.

Our Take

IBM's growth initiatives, including its Big Data & business analytics, cloud computing, mobile and social business, are the positives. However, it continues to struggle in transforming its business from primarily hardware to software and services, which is hampering business growth.

As a result, IBM is focusing more on analytics and cloud-computing to combat a massive slowdown in hardware sales and persistent softness in traditional software. As part of this transition, IBM partnered with several industry bigwigs such as Twitter (TWTR) and Microsoft (MSFT) to offer cloud-based solutions, which are accretive to its business. In addition, its partnership with Apple (AAPL) will help it to further expand its software, services and consulting business in the enterprise market, going forward.

However, we expect competition to intensify in the industry which, in addition to, sluggish IT spending, particularly on on-premise and data center hardware, will remain the key near-term headwinds.

Currently, IBM has a Zacks Rank #3 (Hold).

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