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IBM profits beat the Street

Big Blue slightly exceeds expectations on strong mainframe sales and services deals, despite weaker software sales.

IBM on Thursday posted better second-quarter earnings than anticipated but didn't escape the current weakness in corporate software sales.

IBM said earnings per share rose 18 percent to $1.16, beating the consensus estimate of $1.12 from financial analysts surveyed by Thomson First Call. Revenue from continuing operations in the second quarter climbed 7 percent to $23.2 billion.

Adjusting for currency changes, IBM's revenue was 4 percent higher than the same period last year. Total net income for the second quarter of 2004 was $2 billion, up 17 percent from the same period last year.

Echoing comments made in the two previous quarters, IBM executives said corporate spending on information technology continues to rise 4 percent to 5 percent, which is the best since 2000. But IBM revenue in some areas, notably software and some of IBM's server lines, was down slightly or flat.

"Customer spending continues to improve, though not uniformly across all segments and regions," said Mark Loughridge, IBM's chief financial officer. "We, too, face some of the issues that have been highlighted by our competition in the last two weeks."

IBM's diversified business allowed it to return relatively strong earnings overall, according to Loughridge, who said IBM was "very pleased" with the second-quarter results. Loughridge said he was comfortable with the consensus estimate for IBM's full-year earnings, which analysts expect to come in at $4.95 per share.

Company chairman and CEO Samuel Palmisano voiced faith in IBM's business model and its position versus its competitors. "We are confident about our prospects going forward," he said in a statement.

In the second quarter this year, strong sales of IBM's zSeries mainframes and growth in its Global Services consulting arm helped fuel the solid financial results, the company said. Sales in emerging markets grew significantly, with sales in China, Russia, India and Brazil rising a combined 35 percent in the first half of the year, compared to the same period the previous year.

IBM's hardware revenue, which came in at $7.4 billion, was 10 percent higher than in the second quarter last year, in constant currency. Global Services revenue, at $11.3 billion, was up 2 percent, adjusted for currency.

But IBM's software business and global-financing arm were dark spots on the overall positive financial picture.

IBM's software revenue of $3.5 billion was flat, compared to the same quarter last year--down 4 percent when adjusted for currency changes. Big Blue's Global Financing business came in at $700 million, down 6 percent in constant currency.

In hardware, IBM blamed a transition to the Power5 processor for "significant" slowing of revenue in its iSeries midrange and pSeries Unix servers.

The company said that improved yields in its chip manufacturing will make its former technology group, which includes its semiconductor facilities, profitable in the second half of the year on a pro-forma basis. Apple Computer on Wednesday said that supply problems with IBM's G5 processor will cause it to delay shipping its next iMac.

IBM's PC division, Personal Systems Group, was profitable for its second consecutive quarter. The group will increase its contribution to overall profits for the rest of the year, Loughridge said.

Meanwhile, improving margins boosted revenue for IBM's global services, Loughridge said. The company also is investing heavily in its emerging "business process transformation services," by which IBM takes over an entire function for a company, such as human resources or accounting.

One analyst said that strong hardware performance and improved chip production facilities indicate that IBM has the potential to garner more growth from its product divisions including software.

"Most people have stuck IBM with being a slow-growth, annuity business tied to the billing of its consultants in its services business," said Mark Stahlman, an analyst with Caris & Co.

But Stahlman said IBM's product groups can benefit from corporate spending on Internet-related projects. Companies "are focused on building out their digital service infrastructures, and you can't do that without a lot of hardware and software," he said.

IBM's stock closed down 11 cents to $84.02 on Thursday. In after-hours trading, shares rose slightly, gaining 37 cents to $84.39.