Chairwoman and CEO of IBM Ginni Rometty speaks onstage at the FORTUNE Most Powerful Women Summit in 2013 in Washington, DC. (Photo by Paul Morigi/Getty Images for FORTUNE)

IBM Sales Miss Shows Return to Growth Not Without Roadblocks

Jing Cao (Bloomberg) — IBM’s quarterly sales fell short of analysts’ estimates for the first time in a year on struggles in some overseas markets and delays in service contracts, reminding investors that obstacles remain on the path back to growth.

The results announced Tuesday marked a 20th consecutive quarterly revenue decline. IBM also reported gross margin that contracted from last year, sending shares down as much as 5.5 percent in extended trading. The stock had gained 11 percent in the past year.

“In 2016, they were really on a winning streak both in terms of stock performance and in terms of beating street expectations on revenue,” said Greg McDowell, an analyst at JMP Securities. “When a company that size has a streak and that streak comes to an end, investors really want to dig into the underlying reasons.”

For years, Chief Executive Officer Ginni Rometty has been investing in higher-growth areas and moving the technology company away from older products like computers and operating system software. Even as she has shed units to cut costs and made acquisitions to bolster technology and sales, the legacy products are still a drag. During this time, investors have been waiting for the inflection point when the newer areas make up for the declines in the older ones.

Revenue in the first quarter fell 2.8 percent from a year earlier to $18.2 billion, International Business Machines Corp. said in a statement. That was a bigger drop than the 1.3 percent decline in the previous quarter. Analysts had expected $18.4 billion on average.

McDowell said declines in the U.K. and Germany contributed to the sales miss, as well as lackluster performance in two segments that account for hardware and some service products: systems and technology services and cloud platforms.

In IBM’s technology services and cloud platforms segment, revenue declined for the first time in three quarters. That group helps clients move applications onto cloud servers and manage workloads through multiyear deals of $500 million to $1 billion. Some of those contracts were expected to be signed in the first quarter but didn’t go through, Chief Financial Officer Martin Schroeter said in an interview.

Had they been completed, revenue from the Global Technology Services group would have been better, Schroeter said. “When we do get those done in April, May or June, they’ll start to deliver.” A couple of clients also decided to move some of the work they had contracted out to IBM in-house instead, he said on a conference call with analysts.

As part of its transformation, the company is working to sell more software that works over the internet, where customers pay as they use the tools. IBM has spent billions building and buying the products and cloud data centers needed to support this type of business, a move that has eroded profitability.

Profit, adjusting for some items, was $2.38 a share. Analysts expected $2.35 a share on average, according to data compiled by Bloomberg. Gross margin shrank across all segments and the company’s operating margin was 44.5 percent for the quarter, narrowing 3 percentage points from the previous year.

IBM is aiming to reach $40 billion in sales in the new growth businesses by next year, which would require about a 21 percent jump from 2016. The company said it was ahead of pace to reach that target. Included in this group are all the products and services related to cloud, analytics, security and mobile technology.

The company’s cognitive solutions segment, which houses much of the software and services in the newer businesses, has shown the most promise in recent quarters. Sales in cognitive solutions, which includes the Watson artificial intelligence platform and machine learning, grew for the fourth quarter in a row.

IBM’s systems segment, home to legacy businesses like mainframe and operating systems software business, posted a 17 percent drop in sales. That compared with a 22 percent drop during the same period last year.

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