Morningstar

IBM Earnings: Red Hat’s Growth Speed Bump Should Not Affect Long-Term Portfolio Synergy

We think International Business Machines stock is fairly valued.

The IBM logo hangs on the facade of an office building in Parkstadt Schwabing, in the north of the Bavarian capital
Peter Kneffel via AP
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International Business Machines Corp
(IBM)

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What We Thought of International Business Machines’ Earnings

IBM posted solid third-quarter results where momentum across software, consulting, and infrastructure aligned to deliver 7% companywide growth, the highest in three years. However, Red Hat’s growth tapered by 200 basis points sequentially, leading to a 6% after-hours selloff.

Why it matters: We think the strong synergy across IBM’s integrated portfolio was the main driver behind its outstanding quarterly performance. Going forward, innovative capabilities of IBM’s new z17 mainframe should help maintain a stable growth profile for consulting and software.

  • Within the software segment, HashiCorp also benefited from early synergy with Red Hat, delivering its highest quarterly bookings and contributing to automation software’s 22% quarterly growth.
  • Given that IBM closed the HashiCorp acquisition less than a year ago, we expect to see continued dynamics between Red Hat and HashiCorp, supporting double-digit growth for both hybrid cloud and automation software over the next five years.

The bottom line: We maintain our $264 fair value estimate for narrow-moat IBM as the company’s updates were mostly in line with our expectations. Shares appear fairly valued following the selloff.

  • Besides the Red Hat growth deceleration, we think another potential factor leading to the post-earnings price drop might be investors’ overenthusiasm around IBM’s recent progress with artificial intelligence and quantum computing, including a new Anthropic partnership and a breakthrough in quantum bond trading.
  • While we like IBM’s focus on enhancing its AI capabilities, we do not see the company as an AI leader at the moment. Similarly, quantum computing’s market potential is still murky. Hybrid cloud and automation should remain the main drivers of IBM’s growth.

Coming up: Besides raising its full-year free cash flow outlook to $14 billion from $13.5 billion, management also offered a breakdown of software’s 2026 outlook, including midteens growth for Red Hat and double-digit for automation.

Editor’s Note: This analysis was originally published as a stock note by Morningstar Equity Research.

The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.

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