TAKING STOCK: IBM and J.C. Penney

Dear Mr. Berko:

Last April, IBM reported lower revenues and profits, and the stock dropped 25 points, to $195. I've been looking for an opportunity to buy the stock because the new CEO seems like a very sharp lady. So do you think this is a good time to buy 100 shares? Also, what do you think of J.C. Penney Co. now that legendary investor George Soros has bought 18 million shares? My broker doesn't think I should buy IBM but recommends that I buy 1,000 shares of J.C. Penney. I would like your thoughts.

HF, Erie, Pa.

Dear HF:

I don't think your broker is even half-right! I'd be a buyer of neither IBM nor J.C. Penney. Though both may have some modest short-term appreciation potential, neither appears to be an attractive issue for a two- to three-year time frame.

More than a few investors who follow IBM (IBM-$210) were disappointed in its report on the first quarter of this year. They believe that IBM's 5 percent drop in revenues and 1 percent decline in profits will portend the future. No single company provides the breadth of products and services that makes IBM a nonpareil single-stop vendor for information technology departments. However, these knowledgeable folks suggest that Big Blue has lost its mojo. They suggest that the mainframe market is beginning to shrink because virtualization technologies allow IT personnel to manage workloads across collections of x86 servers in a cost-effective way and that the emergence of cloud computing is creating huge amounts of excess capacity; therefore, clients have less reason to purchase IBM's hugely expensive high-end systems. The consensus is that the rise of cloud computing is creating some fundamental problems for others, too, such as Oracle, Hewlett-Packard, EMC and Cisco. IBM made bundles of money selling costly software packages to big corporations and taking over entire lines of business. Today these companies want to eliminate their expensive software and hardware systems. It's a heck of a lot cheaper and more people-efficient to rent them. As a result, companies that exploit the Internet - such as Salesforce.com, which rents software over the Web, and Amazon.com, which rents computing power - are growing significantly faster than IBM and cohorts.

Now it appears that IBM's software business, in the absence of continued acquisitions, has hit a wall. IBM's top line has stopped growing, and the company's ability to deliver 10 percent annual earnings growth is in doubt. Virginia Rometty, the new CEO, blames lower revenues and profits on poor execution of the sales force. The Street is blaming Virginia. There seems to be an overarching concern that IBM doesn't have all the technologies its customers want, so what does Virginia do? She cuts costs and spends $1 billion on layoffs in the second quarter. According to a Goldman Sachs analyst, a more effective response would be to edge IBM out of its low-margin hardware business. Software generates 25 percent of IBM's revenues but nearly 60 percent of gross profits. Then have IBM update its technology by acquiring more modern software, and finally, move aggressively into the cloud and other growth areas, such as mobile computing. If IBM fails to take these clear steps, the stock will flounder; then the bloom will be off the rose for a few years to come.

J.C. Penney (JCP-$19.75) is a fading American memory, like Sinclair and Phillips 66 service stations, McCrory's, Smith Brothers cough drops, Burdines, Kodak film, Polaroid and Wildroot cream oil. Frankly, I can't imagine a single compelling reason to shop at JCP. JCP has little to offer that customers can't find at Wal-Mart, Target, Macy's or T.J. Maxx. And like Sears, its 1,100 cavernous department stores lack warmth, color and personality. Those stores are badly merchandised and poorly staffed, and the ambiance feels desperate. JCP was successful as your father's store, but try as it may, management is unable to attract younger customers or communicate a more fashionable image. JCP is out of sync in today's milieu. And I think the legendary Georgie Soros may have fallen off the ledge with this investment.

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Please address your financial questions to Malcolm Berko, P.O. Box 8303, Largo, FL 33775 or e-mail him at mjberko@yahoo.com. Visit Creators Syndicate website at www.creators.com.

© 2013 Creators Syndicate Inc.

Published: Wed, Jun 5, 2013

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