Where will IBM be in 5 years?

The International Business Machines (IBM -0.91%) you see today is very different from the Big Blue of yore. The company has gone from an all-you-can-eat tech buffet to a software and services expert with a heavy dose of artificial intelligence (AI) — just in time for the ongoing AI boom.

And IBM will continue to change from here. Let’s see what plans this tech veteran has for the next five years.

IBM’s long road to AI mastery

You already know all about IBM’s long history in AI research. For example, the company still highlights the 1997 victory of chess computer Big Blue over human world champion Garry Kasparov on its investor relations website. This was an early example of AI beating humans at a complex task, using a supercomputer with number crunching powers comparable to a 2011-era smartphone.

And IBM remains a leader in artificial intelligence today, though its business-focused research might not inspire many headlines. The Watson AI engine provides data analytics and generative AI services with some unusual qualities. Above all, the company ensures that Watson’s output can be traced back to its original sources, helping customers avoid pitfalls like AI hallucinations, copyright infringement, and low-quality data sources.

The company is also designing its own AI acceleration chips, complementing its use Nvidia (NVDA -4.08%) processors. AI accelerators are already moving into IBM’s classic line of Z-system mainframe servers. Going beyond today’s traditional chip architectures, Big Blue is even aiming to lead the next generation as an innovator in the quantum computing space.

Quantum computers probably won’t be ready for prime time in five years. This is a long-term ambition, but an important one that should always be in mind when considering IBM’s long-term future. Go back 10 or 15 years and you’ll probably see quantum processors in the mainframes of that era.

So I’m looking at an experienced technology leader with solid AI business prospects in the near term and quantum plans further ahead. Management covers all the bases when it comes to growth-enhancing technologies.

“Leadership is not a birthright,” Arvind Krishna said in October 2020, six months after taking over as IBM’s CEO. “It takes perpetual reinvention. It takes tireless work to innovate. It takes a willingness to question tired traditions. And it involves making big, bold decisions to be on the right track.”

See the results of this renewal effort today. As a result, IBM should deliver fantastic financial results over the long term.

Recent performance and growth prospects

The renewed focus on IBM’s business took years, and the transition was painful for long-term investors like yours truly. The stock has gained just 28% over the past 13 years, lagging far behind S&P 500 (^GSPC -1.73%) 371% gain of the index. The company fared better in terms of total return, which includes the value of reinvested dividends, but still couldn’t keep up with the broader market in this very long transition:

IBM’s level of total profitability; data by YCharts.

It’s hard to say whether the next era of AI-driven growth will make up for the market pain of years past, but this certainly looks like a good entry point for new IBM investors.

Sales rose 4.5% over two years, despite currency headwinds. Free cash flow grew 61% over the same time frame. A weaker and worse IBM should continue to grow its cash profits over the next five years. And the stock is trading at just 14.7x free cash flow and 3x sales today, making it a low-cost play in the growing AI market.

I will gladly hold onto the stocks I bought in 2015 as the generative AI era unfolds. New investors get a generous 3.3% dividend yield on their newly purchased shares, but my effective yield comes to 6.5% after nine years of reinvested dividends. Patience is always a virtue on Wall Street, but there’s no time like the present to start your own long-term IBM holding.