IBM plans to spin off its IT infrastructure unit
IBM shares soared Thursday after the company announced it would spin off its IT infrastructure unit into a new publicly-traded company to focus its legacy business more on cloud computing, which has emerged as a high-margin segment as companies increasingly ramp up their digital shift. Most analysts maintain IBM stock is still trading at a valuation that is far below its peers. Read more on what the spinoff means for IBM, and whether to buy, sell, or hold IBM stock.
Background
IBM announced it will split off the Managed Infrastructure Services unit of its Global Technology Services business into a new company, temporarily called NewCo, by the end of 2021. IBM will manage and modernize client-owned infrastructures, which presents a $500 billion market opportunity. IBM has J.P. Morgan and Lazard are serving as financial advisors for the transaction.
Over the years, IBM has trimmed its legacy businesses to focus on cloud computing, aiming to make up for slowing software sales and seasonal demand for its mainframe servers while taking advantage of the increased opportunities within the cloud computing business segment.
IBM’s CEO, Krishna, said IBM’s software and solutions portfolio will account for the majority of company revenue after the separation. The New company, tentatively named NewCo, will have greater agility to design, run and modernize the infrastructure of the world’s most important organizations. Both companies will be on an improved growth trajectory with greater ability to partner and capture new opportunities – creating value for clients and shareholders.
Krishna led IBM’s $34 billion acquisition of Red Hat, an enterprise software maker that is now a part of IBM’s hybrid cloud division.
“The success we’ve had with Red Hat gives us confidence that this is the right move,” he IBM’s Cloud and Cognitive Software segment, which includes Red Hat, produced $5.75 billion in revenue in its second quarter of 2020, slightly beating analysts’ estimates. The Global Technology Services unit, which is the portion from which the new company is being spun out, booked $6.32 billion in Q2, a drop of 8% from the previous year.
Outlook
During the Thursday announcement, IBM also provided preliminary financial results for the third quarter. The company expects third-quarter revenue of $17.6 billion and an adjusted profit per share of $2.58, in line with Wall Street estimates. IBM is expected to report Q3 earnings October 21.
Analysts believe that the spin-off of the IT infrastructure business and the cloud business begins a major transformative period for IBM, under the Krishna, who took over IBM leadership in April.
Like Microsoft’s CEO, Satya Nadella, who shifted Microsoft’s focus to cloud business after taking over as CEO in 2014, Krishna is expected to restructure and transform the IBM and orient it towards the cloud business. Microsoft’s cloud business revenue has increased 17% to $13.4 billion in its fourth-quarter ended June, accounting for more than one-third of overall sales. IBM’s cloud business generates 30% of total revenue.
Analysts note that IBM shares are still trading at a valuation that is far below its peers. The technology sector has been a massive performer year to date. As such, IBM shares ultimately pay investors while they wait for the stock to catch up to the rest of the high-flying tech names.
How did the stock move?
Shares of IBM soared nearly 7% on Thursday after the company announced plans to spin off its IT infrastructure unit to focus on its cloud computing business. As at Tuesday’s market close, the stock was trading at $139.49.
What analysts are saying?
The 13 analysts offering 12-month price forecasts for International Business Machines Corp have a median target of 140.00, with a high estimate of 155.00 and a low estimate of 115.00. The median estimate represents a +6.50% increase from the last price of 131.45, according to CNN Business.
The current consensus among 15 polled investment analysts is to Hold stock in International Business Machines Corp. This rating has held steady since October, when it was unchanged from a Hold rating, according to CNN Business.