After IBM disclosed its preliminary second-quarter performance on July 14th, the stock price fell by about 24%-26% in a single day, closing at $217.07, a decrease of approximately 25.23% from the previous close, marking an uncommonly large drop in decades.
The anomaly of this decline lies in the fact that IBM is not a company unrelated to AI. Over the past few years, it has continuously presented hybrid cloud, enterprise AI, consulting, and automation as its growth story. The market's concern in this trading session was not "Does IBM have AI?" but rather "Is AI spending currently squeezing IBM's legacy revenue."
IBM's preliminary disclosed revenue for the second quarter was $17.2 billion, a 1% year-over-year increase, with non-GAAP earnings per share of $2.93 on an operating basis. Based on aggregated estimates from FactSet and other media outlets, Wall Street expected revenue of around $17.86 billion and earnings per share of about $3.01. By segment, software revenue grew by 5%, consulting remained flat, and infrastructure revenue fell by 7%.
For the average investor, this event can be understood as a shift in corporate IT budget prioritization. When customers are concerned about AI server, storage, and memory price increases or shortages, they tend to allocate their money to these hardware components that are crucial for AI deployment and might face supply constraints. As a result, the funds originally designated for mainframes and related software may be delayed.
AI Hardware Takes Budget Priority
Mainframes are not simply outdated computers. For banks, insurance companies, governments, and large enterprises, they serve as the foundation of core transaction systems, handling high concurrency and ensuring the reliability of critical operations. Transaction processing software supports the operation of these core transactions.
These types of businesses are typically sticky, with high customer migration costs, allowing IBM to enjoy relatively stable cash flow over the long term. However, stability does not guarantee immunity from budget squeezes every quarter. When AI infrastructure suddenly becomes a priority resource, upgrades and purchases for traditional core systems may take a back seat.
This is called "Capex Preloading". Customers are not completely avoiding buying IBM products, but are instead redirecting their recent budgets toward AI hardware to secure servers, storage, memory, and other supplies. For IBM, this has disrupted the revenue recognition cadence and made it easier for large transactions to be delayed.
IBM CEO Arvind Krishna acknowledged in an investor letter that the company had underperformed this quarter by not quickly adapting to the shift in customer capital expenditures. He mentioned that customers, in the final weeks of June, redirected their quarterly capital expenditures to servers, storage, and memory to secure infrastructure amid supply constraints and mitigate expected price increases. The rapidly evolving cybersecurity issues also diverted both customer and management attention.
The significance of this letter is that it is not mere external speculation but a direct acknowledgment from the company's top management of the budget migration and execution misstep. While AI spending is indeed on the rise, this growth has not been uniformly distributed across all tech companies.
CEO Attributes Execution, Market Reassesses Stability
Krishna's explanation is relatively benign. IBM this time failed to keep pace with customer budget changes, with multiple large transactions not closing as expected, but the company remains confident in its portfolio and strategy and will introduce new response measures.
If this explanation holds, IBM's issue appears more like a short-term budget misalignment. Customers spending on AI hardware upfront does not mean they will never buy mainframes and software. The delayed transactions may also be caught up in the latter half of the year. For long-term investors, this would be an execution hiccup rather than a failure of the business model.
However, the market reaction is harsher. The stock price fell by about a quarter in a single day, indicating that investors are not just penalizing a quarterly revenue shortfall but are reevaluating IBM's growth visibility. In the past, the market was willing to afford IBM a stable valuation anchor, with the traditional core systems providing cash flow and the new business offering transformational opportunities.
The current issue is that if the AI infrastructure cycle continues to absorb enterprise budgets, the stability of the traditional cash flow will be discounted. IBM still has the AI narrative, but it must first prove that the new business can make up for the squeezed pace of the old business.
Therefore, the 7% decline in the Infrastructure segment is more striking than the surface numbers suggest. It is not just a fluctuation in a single department but a decline in a business line that best reflects IBM's traditional customer stickiness. The more revenue was historically considered stable, the more any significant deviation is likely to trigger a valuation reassessment.
HSBC Downgrade Amplifies Transformation Pace Concerns
According to Investing.com and StreetInsider, HSBC analyst Abhishek Shukla and others have downgraded IBM's rating from Hold to Reduce, with the target price dropping from $231 to $191.
Reduce can be easily understood as lowering a position. When a traditional tech giant is downgraded to this tier after underperforming, the market often sees it as a signal of fund position adjustment, especially when the stock price has already priced in expectations of a successful transformation.
This doesn't mean HSBC's judgment is definitive, but it explains why IBM's decline far exceeds the underperformance itself. A revenue miss of about 4% is not enough to straightforwardly result in around 25% of market cap evaporation. What is really cut off is the premium on visibility for the next few quarters.
The market also interpreted Krishna's mention of network security issues in the context of a pure cybersecurity company's relative resilience framework. Targets like CrowdStrike have thus been reconsidered. However, this correlation seems more like circumstantial evidence of sector repricing and cannot simply be construed as the IBM event directly boosting cybersecurity stocks.
The clearer theme is still budget migration. AI infrastructure hardware, memory, and storage are moving up in customer spending priorities, while traditional software and mainframe businesses face short-term pressure. The divergence between winners and losers is not happening between "those with AI" but rather between "what customers need to buy first now."
Earnings Call on July 22 to Provide Recovery Path
This current decline in IBM cannot be directly equated to a failure of traditional IT giants in the AI era. The more prudent assessment at present is that AI infrastructure spending is disrupting customer budget cycles and exposing IBM's challenges in traditional business and execution pace.
The full earnings conference call is scheduled for July 22 at 5:00 p.m. Eastern Time. Since the preliminary results for the second quarter were disclosed on July 14, there may be slight differences in the final results. What the market will be listening for next is not the management team continuing to emphasize the AI strategy but rather whether the delayed large deals have a clear closing timeline and if the decline in the infrastructure segment can narrow.
If these deals are caught up in the second half of the year, the market may reclassify this event as a short-term misalignment. By then, IBM will need to demonstrate that customers are merely changing the procurement sequence and not permanently reducing their investment in Z mainframes and transaction processing software.
A more perilous scenario is if the full earnings report and subsequent guidance still fail to provide a path to recovery. If the management cannot explain when the large deals will be picked up again or if AI-related revenue cannot cover the time gap from the squeeze on traditional revenue, the market will continue to price "execution misstep" as "lagging transformation pace." For investors, IBM's core issue is no longer whether there is an AI story but rather how much time the old cash flow can buy for the new narrative.
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