ModernGraham Valuation: International Business Machines (IBM)


Company Profile (obtained from Google Finance): International Business Machines Corporation (IBM) is an information technology (IT) company. IBM operates in five segments: Global Technology Services (GTS), Global Business Services (GBS), Software, Systems and Technology and Global Financing. GTS primarily provides IT infrastructure services and business process services. GBS provides professional services and application management services. Software consists primarily of middleware and operating systems software. Systems and Technology provides clients with business solutions requiring advanced computing power and storage capabilities. In October 2013, International Business Machines Corporation acquired Xtify Inc. In October 2013, the Company announced that it has completed the acquisition of The Now Factory, a privately held provider of analytics software that helps communications service providers (CSPs) deliver better customer experiences and drive new revenue opportunities.


Defensive and Enterprising Investor Tests (What is the significance of these tests, and what is PEmg ratio?):

Defensive Investor – must pass at least 6 of the following 7 tests: Score = 5/7

  1. Adequate Size of Enterprise – market capitalization of at least $2 billion – PASS
  2. Sufficiently Strong Financial Condition – current ratio greater than 2 – FAIL
  3. Earnings Stability – positive earnings per share for at least 10 straight years – PASS
  4. Dividend Record – has paid a dividend for at least 10 straight years – PASS
  5. Earnings Growth – earnings per share has increased by at least 1/3 over the last 10 years using 3 year averages at beginning and end of period – PASS
  6. Moderate PEmg ratio – PEmg is less than 20 – PASS
  7. Moderate Price to Assets – PB ratio is less than 2.5 or PB x PEmg is less than 50 – FAIL

Enterprising Investor – must pass at least 4 of the following 5 tests or be suitable for a defensive investor: Score = 3/5

  1. Sufficiently Strong Financial Condition, Part 1 – current ratio greater than 1.5 – FAIL
  2. Sufficiently Strong Financial Condition, Part 2 – Debt to Net Current Assets ratio less than 1.1 – FAIL
  3. Earnings Stability – positive earnings per share for at least 5 years – PASS
  4. Dividend Record – currently pays a dividend – PASS
  5. Earnings growth – EPSmg greater than 5 years ago – PASS

Valuation Summary (explanation of the ModernGraham valuation model):

MG Value $382
MG Opinion Undervalued
Value Based on 3% Growth $198
Value Based on 0% Growth $116
Market Implied Growth Rate 2.34%
Net Current Asset Value (NCAV) -$46.45
PEmg 13.18
Current Ratio 1.21
PB Ratio 9.83

Key Data:

Balance Sheet – 9/30/2013 (an Introduction to the Balance Sheet)

Current Assets $47,533,000,000
Current Liabilities $39,222,000,000
Total Debt $28,478,000,000
Total Assets $117,845,000,000
Intangible Assets $34,884,000,000
Total Liabilities $97,968,000,000
Outstanding Shares 1,085,850,000


Earnings Per Share – Diluted

2013 (estimate) $15.04
2012 $14.37
2011 $13.06
2010 $11.52
2009 $10.01
2008 $8.93
2007 $7.18
2006 $6.06
2005 $4.91
2004 $4.94
2003 $4.34
2002 $3.07

Earnings Per Share – Modern Graham

2013 (estimate) $13.66
2012 $12.51
2011 $11.10
2010 $9.66
2009 $8.29
2008 $7.09


International Business Machines has exhibited outstanding growth in its earnings over the last 10 years, which is shown in the rise in EPSmg (normalized earnings) from $7.09 in 2008 to an estimated $13.66 in 2013.  This sort of growth leads to a very high intrinsic value using ModernGraham’s valuation model derived from an updated version of Benjamin Graham’s formula in The Intelligent Investor.  However, investors seeking to follow Graham’s stringent requirements for Defensive Investors or Enterprising Investors should stay away from IBM at this time.  The company simply holds too much debt to qualify as a quality investment and holds enough risk to be considered speculative at this time.  If the current ratio improves to over 1.5, then this company would become significantly more interesting to Enterprising Investors.

What do you think?  Is International Business Machines undervalued or does Mr. Market have it right?  Leave a comment or mention @ModernGraham on Twitter to discuss.

Disclaimer:  The author did not hold a position in International Business Machines at the time of publication and had no intention of purchasing a position in the next 72 hours.

Photo Credit:  Andrew Magill

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