Factors That Are Expected to Influence IBM's Q2 Earnings

International Business Machines IBM is set to report second-quarter fiscal 2018 results on Jul 18, after the closing bell.

Notably, the company has delivered earnings surprises in the trailing four quarters, recording an average surprise of 2.92%. Last quarter, the company reported a positive earnings surprise of 2.08%.

Last quarter, the company delivered non-GAAP earnings of $2.45 per share beating the Zacks Consensus Estimate by a nickel. Earnings per share (EPS) increased 4.3% from the year-ago quarter but plunged 52.7% sequentially.

Higher revenues (10 cents contribution), improving gross margin trajectory, pre-tax margin expansion (four cents contribution) and aggressive share buyback (five cents contribution) drove year-over-year growth in EPS. This was partially offset by higher tax rate (couple of cents negative impact) and headwinds related to initiatives in repositioning IBM’s business (5 cents negative impact).

Revenues of $19.07 billion outpaced the Zacks Consensus Estimate of $18.72 billion and climbed 5.1% on a year-over-year basis. However, revenues declined 15.4% sequentially. At constant currency (cc), revenues remained flat at $18.20 billion.

Shares of IBM has declined 4.9% year to date, marginally higher than the industry’s drop of 3.1%.

What to Expect

IBM reiterated EPS forecast for 2018. Non-GAAP EPS is expected to be at least $13.80. Almost 40% of this figure is expected in the first half of 2018, which means EPS of at least $3.07 in the second quarter of 2018. The Zacks Consensus Estimate is currently pegged at $3.03.

For second-quarter fiscal 2018, the Zacks Consensus Estimate for IBM’s total revenues is projected to be $19.66 billion representing an increase of 1.9% year over year.

Let’s see how things are shaping up for this announcement.

Cloud, Security, AI & IoT capabilities: Key Catalysts

IBM’s significant investments in “Strategic Imperatives” — cloud computing, mobile, security, analytics, cognitive technologies and AI is a tailwind.

IBM has recently collaborated with Banca Carige, an Italian bank, to introduced Dock, a $0.5 billion U.S. joint venture agreement. IBM’s innovative capabilities comprising artificial intelligence (“AI”), big data, cognitive and analytics offerings will assist Banca Carige to digitally transform its processes.

Additionally, the tech giant also entered into an AU$1 billion (estimated to be $740 million) deal with the Australian government to become its technology partner. Per the five-year deal, IBM’s advanced AI, Internet of Things (IoT), blockchain, cloud, quantum computing and cross-brand capabilities will be leveraged by different Australian Government agencies.

IBM also entered into an enterprise services deal with France-based, Cegid. Per the agreement, the company’s hybrid cloud architecture will provide a platform facilitating Cegid’s service delivery. IBM’s hybrid cloud IT infrastructure as a service (“IaaS”), cloud capabilities, resources, among other services supported on IBM's Paris-based data center can be leveraged by Cegid.

Recently, the company also entered into agreements with six major European companies leveraging IBM Cloud’s blockchain, analytics and AI capabilities. It also collaborated with Best Western Hotels & Resorts. The AI capabilities of IBM Watson Advertising will aid Best Western to deliver interactive ads to consumers enabling customized vacation planning.

These deal wins strengthen the company’s growth prospects in the digital transformation space. IBM’s advanced AI, IoT, blockchain, cloud, machine learning ("ML") capabilities, among others positions its offerings well to gain robust adoption. The traction witnessed by the company’s Watson Ads offering is likely to boost the top line, consequently aiding IBM to better compete against peers.

Blockchain has also become a major part of IBM’s product offerings. The company is now part of more than 50 active blockchain networks. Recently, the company announced a beta version of IBM Blockchain Platform Starter Plan, which has already provisioned more than 750 networks. The company has also been winning deals in multi-line insurance, bank guarantee, automobile industry and global food supplying industry among others.

It recently announced its plans to create around 1,800 jobs over a span of two years driven by new investments and initiatives it will undertake in France.

New graduates and experienced technical professionals will be hired for emerging technology roles pertaining to data science, cloud computing, IoT, AI, cognitive business, cybersecurity and blockchain. The newly announced jobs include the 400 hirings IBM had announced in AI-domain for research at the French AI for Humanity summit in March.

We believe IBM’s increasing investment and developments in this space poise it well to capitalize on growth opportunity.

The mainframe business will also play a role in IBM's second-quarter results. The company recently entered into an infrastructure outsourcing deal with Denmark-based KMD. Notably, IBM already offers mainframe services to the technology company under its current outsourcing contract.

The company is likely to enjoy a hardware sales improvement in the coming quarter, on the back of the latest z14 mainframe, which started shipping in the third quarter of last year. IBM Z revenues in the last reported quarter grew 54% year over year on more than 100% MIPS growth driven by broad based adoption of the z14 mainframe.

All these efforts are likely to contribute meaningfully to top-line growth in the quarter to be reported.

What the Zacks Model Unveils?

Our proven model conclusively shows that IBM is likely to beat earnings estimates this quarter. Per our model, a stock with a positive Earnings ESP and a Zacks Rank #1 (Strong Buy), 2 (Buy) or at least 3 (Hold), has higher chance of beating estimates. You can uncover the best stocks to buy or sell before they’re reported with our Earnings ESP Filter.

IBM currently carries a Zacks Rank #3 and has an ESP of +0.37%.

Some Other Stocks With Favorable Combination

Here are a couple of other companies which, as per our model, have the right combination of elements to post an earnings beat this quarter:

Mellanox Technologies, Ltd. MLNX has an Earnings ESP of +4.44% and a Zacks Rank of 1. You can see the complete list of today’s Zacks #1 Rank stocks here.

Skyworks Solutions, Inc. SWKS has an Earnings ESP of +1.63% and a Zacks Rank of 3.

Textron Inc. TXT has an Earnings ESP of +0.41% and a Zacks Rank of 3.

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