Smaller blue

Top line shrinkage catches up with IBM

IBM is running out of road - again. For two decades, Big Blue's profit increased faster than its revenue through buybacks, cost cuts, and M&A deals. But eight quarters of declining sales mean earnings and free cash flow are now ebbing away.

Revenue fell again in the first quarter, this time by four per cent from a year earlier. Yet again, it was the company's hardware division that bore the brunt of the damage, with sales plunging 23 per cent to $2.4 billion. IBM's giant consulting operations also did less business. Even the supposed growth markets of the world failed to live up to their moniker, with IBM's revenue there shrinking 11 per cent as Russian, Chinese and Brazilian enterprises bought less American-made hardware.
 
The problems are clearest in IBM's declining free cash flow. Last year, it generated about $15 billion but spent about $21 billion on buybacks, dividends and acquisitions. In the first quarter this year, the company produced only $600 million of free cash flow yet shelled out $1 billion on dividends and bought back $8.2 billion of stock.

IBM can still offload divisions for cash. For example, it agreed earlier this year to sell its low-end server business for $2.3 billion. But the growing disparity between cash generated by the business and money handed back to shareholders is becoming harder to paper over with asset sales. Furthermore, IBM needs cash flow if it wants to buy more software companies, and earnings growth from these acquisitions has been a key part of its strategy.

Chief Executive Ginni Rometty remains adamant that IBM will reach $20 per share of earnings - according to its own adjusted metric - in 2015. That's getting tougher to credit, especially when the equivalent figure for the first quarter this year was just $2.54. The danger is that the bottom line shrinkage just accelerates. Lou Gerstner engineered a storied rebirth for the company in the 1990s. Rometty is in need of another, and fast.