IBM hits restart.

IBM hits restart.

IBM hits restart.

Moneybox
Commentary about business and finance.
April 9 2002 12:05 PM

IBM Hits Restart

Because IBM's warning about its future earnings yesterday was its first such announcement in more than a decade, it's no surprise that the reaction has been gloomy and alarmist. The question is what the warning really says about IBM's future and even about the earnings game as public companies play it. Is this a sign of a new candor, brought on by an uptick in investor savviness about earnings quality? Or is it the start of a new kind of earnings game? Or some of both?

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The candor argument is straightforward. IBM is simply fessing up that it's been overly optimistic, and the tech sector just isn't bouncing back the way some believed it might. IBM said it expected to post revenue of around $18.5 billion, significantly lower than the $19.7 billion forecast by analysts; earnings per share are now expected to be around 66 to 70 cents instead of the previous estimate of 85 cents.

But as Steve Lohr notes in today's Times, some wonder whether there's something else at work here: Perhaps IBM's new CEO wants to "lower expectations" so that the firm's actual results going forward will look better against a new, more modest yardstick. Today's warning is tomorrow's "upside surprise."

Yesterday, the former view certainly seemed prevalent, as IBM shares got creamed, falling more than 10 percent and closing at around $87.40. On the other hand, the market didn't seem to take IBM's news as a verdict on the whole economy, since the Dow was off only slightly (despite the huge drop in IBM, which is a Dow component) and many technology shares were up.

What's most likely, though, is that IBM is doing a little bit of both here. There was probably no way for the company to avoid some kind of negative announcement. A couple of years ago a company in this pickle might have tried to put the best possible face on things, minimize short-term damage to its stock, and hope the rising economic tide would lift its boat to the best of the bad scenarios.

In the current environment, the opposite strategy can make sense: If you must announce bad news, then the lower you set expectations, the better. If business doesn't rebound, well, at least you're less likely to get pounded again for failing to live up to your revised promises. And if it does pick up, you look like a genius: Your numbers come in "at the high end of the range," and everyone is pleasantly "surprised." And if you're a new CEO thinking about how your numbers will look over the course of a hoped-for multiyear tenure, you may as well lower the bar as much as possible right from the start.