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Is Kyndryl Holdings a Top Stock to Buy in 2024?

Motley Fool - Mon Dec 18, 2023

Kyndryl Holdings (NYSE: KD), the old managed infrastructure segment that IBM spun off as a stand-alone company in late 2021, rallied in 2023. The stock is up 65% in 2023 with just a couple weeks to go until 2024, a partial reverse from its precipitous fall after its publicly traded debut a couple years ago.

After its separation from IBM, Kyndryl has been restructuring for a new era of information technology -- and not just by making a maddening change from a fiscal year aligning with the calendar year to one ending every March. (The most recent Q2 fiscal 2024 was for the three-month period ended in September 2023). Kyndryl has been offloading unprofitable business as it steers its customers to a hybrid cloud strategy. With this migration now well underway, is Kyndryl stock still a top buy for 2024?

What is "managed infrastructure," anyway?

Before delving into Kyndryl's path forward, let's address what it does in the first place. Remember IBM mainframes? These days such machines may be referred to as servers, big computers, or, in some tech company reports, enterprise (or non-cloud) computers.

Basically, a mainframe is a powerful on-premises computer (one not housed in a data center) that's responsible for some heavy lifting for a company -- like crunching data before it heads for long-term storage, handling financial transactions, or filtering data to help an organization make financial plans and projections.

The cloud is all the rage these days. The public cloud, provided by companies like Amazon's AWS or Microsoft's Azure, is a shared data center-based infrastructure accessed via the internet. The new IBM post-Kyndryl split is focused on "hybrid cloud," whereby a large organization uses public cloud infrastructure as well as its own privately owned and operated data centers.

So where does that leave a company like Kyndryl, which provides consulting and management services for the mainframe computing of yesteryear (or yester-decade)?

As it turns out, a hybrid cloud IT strategy still makes plenty of use of on-premises mainframes. Some data is just too critical or sensitive to be offloaded to a remote data center. So to this day, even left to its own devices, Kyndryl remains a close collaborator and business partner to the "new" hybrid cloud IBM.

It's not just "new IBM," it's "new Kyndryl," too

That said, when Kyndryl was separated from IBM a couple of years ago, it looked like nothing more than a collection of IBM's unwanted no-growth and no-profit businesses -- and it was sandbagged with ample debt IBM didn't want, to boot.

KD Revenue (TTM) Chart

KD Total Long Term Debt (Quarterly) Chart

Data by YCharts.

But Kyndryl is fixing these problems by walking away from low- or no-margin mainframe business and instead promoting its higher-margin consulting and management services aimed at hybrid cloud. Today even mainframe management services tend to have flexible pricing like cloud computing platforms. And in a sign of the times, of course the catchphrase "AI" is being bandied about even when it comes to mainframe management.

Kyndryl's pivot is showing early signs of success. Q2 fiscal 2024 (again, the three months ended in September 2023) declined 3% year over year to $4.1 billion. But according to generally accepted accounting principles (GAAP), net losses narrowed to $142 million, compared to a net loss of $281 million last year.

However, much of that GAAP net loss is due to noncash depreciation expenses on property and equipment and the amortization of intangible assets (both items expensed in the past, but their costs were realized over time for tax purposes). So, promisingly, Kyndryl's preferred adjusted EBITDA (earnings before interest, tax, depreciation, and amortization) was $574 million, up 34% from the same period a year ago.

Queue up the buy for 2024?

For value investors looking to scoop up a hot deal, Kyndryl stock might check off some boxes. While the top-line revenue print is far from flattering, Kyndryl is making real and measurable progress on profitability. And the stock trades for 19 times trailing 12-month EBITDA -- a deal indeed if the company keeps making rapid advances on profit margins in the years ahead.

But some investors may not want to babysit a stock like this. Kyndryl is, after all, a rebound story in a very low-growth niche of the overall growing IT industry. Kyndryl doesn't pay a dividend, nor does it meaningfully repurchase stock -- at least not yet.

For most tech investors, Kyndryl is probably not a buy-now stock. Nevertheless, if unearthing stocks that do not reflect the full value of future business potential is your bag, Kyndryl might be worth doing some digging on.

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John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Nicholas Rossolillo has positions in Amazon. The Motley Fool has positions in and recommends Amazon and Microsoft. The Motley Fool recommends International Business Machines. The Motley Fool has a disclosure policy.