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IBM beats estimates despite sluggish sales

The company surpasses analyst expectations for the first quarter, even though poor hardware sales sapped revenues.

IBM surpasses analyst expectations for the first quarter, even though poor hardware sales sapped revenues.

IBM earned 83 cents a share--a 6 percent increase from a year earlier--compared with the 78 cents a share predicted by a consensus of analysts polled by First Call. Net income was $1.52 billion, compared with $1.47 billion, or 78 cents a share, in the year-ago quarter.

Despite increased profits, revenues declined 5 percent year-over-year to $19.3 billion, and most business segments showed flat or negative growth.

"While revenues declined, profitability improved, yielding earnings that were better than expected," said IBM chief financial officer John Joyce in a conference call with financial analysts today. "Our business portfolio and the pipleline of opportunity is starting to build."

The lingering sluggishness of Year 2000 sales and an unexpected decline in hard drive sales took a toll on hardware revenue. The segment decreased 12 percent, with $7.7 billion in revenue. But high-end server mainframe sales rebounded more than expected, gaining year over year.

"In our (hard drive) business for servers, we missed the market shift to the 10,000 rpm drive, and our new 10,000 rpm drives slipped," Joyce said. As a result, IBM's hard drive revenue to original equipment manufacturers (OEMs) declined over $350 million. "We plan on shipping product shortly, but we will not ship in volume to the second half," Joyce added.

Overall, OEM revenues fell 19 percent to $1.4 billion. While DRAM revenue was down 22 percent, IBM cut its loss in half.

Revenue for IBM's Personal Systems Group--responsible for PC products such as notebooks, desktops and servers--was down $550 million for the quarter. In part due to IBM's transition from retail to direct, Aptiva consumer PC sales declined 45 percent, and commercial PCs were down 30 percent.

ThinkPad portables, high-end Unix systems, Netfinity servers and S/390 mainframes were big sellers. But AS/400, while making modest gains, grew mostly due to upgrades and not new sales.

The year 2000 sales slowdown accounted for much of the overall weakness in hardware sales. IBM first revealed slower server sales during the third quarter of 1999 and predicted flat revenues for the first quarter. During the third quarter, S/390 server sales declined 40 percent and AS/400 sales 30 percent. High-end server sales remained sluggish during the fourth quarter and rebounded modestly during the first quarter.

"For all practical purposes Y2K is behind us," Joyce told financial analysts. "Several of you have said you see IBM as a second-half story. Based on what we know at this time, we agree with this assessment."

Joyce told financial analysts they should expect double-digit growth in the second half. "As such, you should not change your current estimates for earnings per share for full-year 2000."

Services revenue, which also is rebounding slower from the Year 2000 than expected, remained flat year over year, at $7.6 billion. The segment accounts for 39 percent of IBM's revenue.

"Their services business is still the positive story there in revenue growth," said Gartner Group analyst Kevin Knox. "Yeah, they will show a revenue slowdown the next three months, but it's still going to be the main engine."

Software revenue also was flat from the first quarter of 1999, totaling $2.9 billion. Middleware grew 9 percent, although "a number of sizable contracts slipped into the second quarter," Joyce said.

Two thirds of IBM's software revenue--which totaled $12.7 billion last year--comes from middleware, such as database, transaction processing, system management, groupware and messaging software.

The other third goes to Unix and PC servers. "That part of IBM's business has been growing significant double digits," said Steve Mills, an IBM software general manager. "We've been growing faster than the industry."

Operating system software declined 7 percent, largely due to AS/400. While AS/400 sales grew in the quarter, the majority was incremental upgrades, which did not involve software.

Regionally, first-quarter revenues in America fell 4 percent to $8.4 billion; Europe, Middle East and Africa declined 13 percent to $5.4 billion; and the Asia-Pacific region increased 15 percent to $4 billion.

Revenue declines in the Americas and Europe were consistent with the fourth quarter. But revenue growth in Asia-Pacific picked up in part due to strong server and PC sales and services, particularly in Japan.

Other areas of interest: Global financing revenues increased 16 percent to $816; Enterprise investments revenue declined 13 percent to $341 million; gross profit margin was 36.2 percent in the first quarter compared with 35.7 percent.

In recent days several Wall Street analysts reiterated or raised their recommendations for IBM. Global Capital Markets analyst Stewart Kalter last week rated IBM as a new "strong buy" with a 6 to 12 month share estimate of $190. Salomon Smith Barney analyst John B. Jones Jr. reiterated his "buy" rating and target of $155 a share.

IBM announced earnings at 1:30 PM PT, after U.S. markets closed. IBM shares ended the day at $115.13, up $3.25, or 2.19 percent.