While other AI stocks soar, IBM takes a slow and steady approach. Is Big Blue poised for massive long-term gains as its AI strategy unfolds?
Technology veteran IBM (IBM -0.83%) is catching some tailwinds nowadays. The stock has gained more than 45% over the last year, boosted by the market frenzy for artificial intelligence (AI) experts.
Big Blue has a few growth catalysts in its pocket. Are they enough to make IBM’s stock a buy today?
Let’s have a look.
IBM’s growth catalysts
This experienced tech titan didn’t rush into the current generative AI boom. Instead, IBM took some time to set up a sustainable service model for large-scale corporate clients.
The resulting watsonx platform, launched in the spring of 2023, can tap into each customers proprietary business data with rock-solid security. Clients can also trace the path of generated statements and images through the watsonx system, which is important for proper auditing of the data flows. Consumers would shrug and walk away from these features, but they are what your corporate IT managers crave.
Just six quarters later, IBM has built a $3 billion book of watsonx orders. That includes a $1 billion jump in the third quarter of 2024.
This is a very IBM-like future revenue stream. Only 20% of the long-term watsonx service contract values so far have been for the generative AI software itself. The remaining 80% is all about consulting services to help IBM customers make the most of their AI spending.
This is a unique business advantage. AI software rivals like OpenAI and Alphabet (GOOG 0.12%) (GOOGL 0.07%) can’t match Big Blue’s consulting expertise.
The explosive watsonx business should become an important growth driver for IBM over the years. Those billion-dollar orders will convert into revenue on the income statement one annual or quarterly payment at a time. Meanwhile, IBM has a plethora of other business drivers ready to go. Here’s how IBM CFO Jim Kavanaugh outlined the opportunities in the third-quarter earnings call:
“We are confident in our portfolio and growth trajectory as we head into 2025 given the acceleration in Software, the opportunities ahead of us in Red Hat, our new mainframe cycle and associated hardware and software stack, our generative AI positioning and contribution from acquisitions.”
Slow and steady wins the AI race (but worries investors)
A 45% one-year gain is a substantial jump, but other AI specialists have seen far greater returns recently. AI hardware designer Nvidia (NVDA -1.15%) stock has gained 184% in 52 weeks. AI-based data analytics expert Palantir (PLTR 0.47%) soared 244% over the same period. And IBM didn’t receive that kind of Wall Street love.
Market makers can be impatient, and IBM isn’t rushing its AI strategy. Why should they, given the company’s decades of leading-edge AI research and expertise? Focusing on generative AI is a plot twist, but one IBM should be equipped to tackle. So the big AI business will arrive a bit later, while investors excited about ChatGPT and AI-generated photos push a more consumer-oriented bunch of AI stocks to the stratosphere.
Patience is a virtue, especially on Wall Street. I can’t say that IBM will catch up to the Palantirs and Nvidias of the world in 2025, but the journey has started and should accelerate in the next couple of years. Give those booked orders some time to generate cash-based revenues.
IBM: a quiet, undervalued leader in the roaring AI sector
The lack of soaring stock market action puts IBM in a rare position. I’m thrilled about the company’s long-term growth prospects and up-to-the-minute AI focus.
At the same time, the stock trades at a very affordable 3.4 times sales and 17 times free cash flows. Big Blue’s stock price could multiply more than five-fold and still look affordable next to Palantir.
My two takeaways from this situation are that Palantir might be overdue for a price correction, and that IBM’s stock deserves a richer valuation. Long story short, I highly recommend buying some IBM stock while the shares are undervalued.
Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. Anders Bylund has positions in Alphabet, International Business Machines, and Nvidia. The Motley Fool has positions in and recommends Alphabet, Nvidia, and Palantir Technologies. The Motley Fool recommends International Business Machines. The Motley Fool has a disclosure policy.
