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Update: IBM posts 3Q letdown, sees trouble ahead

Big Blue's third quarter generated lighter-than-anticipated revenue, and things will only get worse in the fourth, the company says.

"It was a decidedly mixed quarter," said Lou Gerstner, chairman and CEO of IBM Corp. (NYSE: IBM)

In results released after market close Wednesday, the technology giant reported third quarter earnings of $1.8 billion, or 93 cents per share. However, that included a one-time gains of $63 million, or 3 cents per share. Excluding those costs tied to the sale of pieces of the Global Network business to AT&T acquisitions of computer maker Sequent and data storage equipment maker Mylex, IBM earned 90 cents per share. That was on target with the figure predicted by First Call's survey of 22 analysts.

IBM executives predicted lower earnings for the current quarter and possibly the next. CFO Douglas Maine told analysts to expect fourth quarter per-share earnings to be 15 to 20 cents lower from the 1998 fourth quarter, when IBM earned $1.24 per share. Analyst consensus had predicted $1.33 per share for this year's fourth quarter.

First quarter earnings, which First Call had predicted would be 90 cents per share, instead will be flat or below the year earlier period, Maine said. IBM earned 78 cents per share in the first quarter of this year.

Third quarter revenue rose to a less-than-expected $21.1 billion. Analyst consensus had predicted revenue of $21.7 billion for IBM. A sale of some network businesses helped cut IBM's gross margin to 35.7 percent, from 37.2 percent in the year earlier period.

Analysts weren't happy about the results.

"This is even uglier than I expected," Robertson Stephens analyst Dan Niles told Reuters. "This is not IBM-specific, it's an industrywide problem and they're finally admitting that they have issues. We're going to have to take our numbers down. ... I thought they would squeak through on the third quarter. They said they're blowing the fourth quarter even worse than I had expected."

The company blamed corporate spending slowdowns related to Year 2000 preparation for hurting sales of large servers, services and operating systems. Shortages of flat-panel displays, continued price pressure in the hard disk drive market and sales disruptions related to IBM's divestitute of some network hardware assets also hurt the company's revenue, Gerstner said.

"There were concerns about some of the revenue characteristics and more importantly there was some sort of veiled warning about Y2K and the fourth quarter," said Barry Hyman, market strategist with Ehrenkrantz, King Nussbaum. "They indicated component shortages and that was no different than what Intel and Dell Computer said. It's going to impact the market tomorrow on the opening. The technology market, which was very strong today, will be a little bit nervous."

IBM expects Y2K projects to reduce customers' spending in the fourth quarter and early in the first. "Next year has the potential to be a very good year for IBM," Gerstner said. "Once we get past any lingering Y2K effects."

Services revenue, adjusted for the recent sale of IBM Global Network and excluding maintenance contracts, rose 19 percent as gross margin rose to 27.6 percent from 25.9 percent. IBM ended the third quarter with a services backlog of $57.5 billion.

Hardware sales fell 1 percent year-over-year to $8.8 billion, as AS/400 revenue dropped "significantly". System 390 sales also declined, with the company blaming price reductions and Y2K effects. RS/6000 revenue slid slightly, while Netfinity servers saw especially strong growth.

Software revenue increased 7 percent, led by sales of middleware such as Tivoli's system management, database and transaction processing products.

Revenues from Global Financing increased 14 percentin the third quarter to $774 million.

IBM's Asia-Pacific business rose 28 percent to $3.7 billion, while revenue in the Americas slid 1 percent to $9.6 billion and Europe/Middle East/Africa sales dropped 2 percent to $5.8 billion.

The company, which has continually repurchased stock during Gerstner's tenure, spent $1.5 billion on share buybacks during the third quarter.

Shares of IBM fell 1/8 to 107 in Wednesday's regular trading prior to the earnings report.>