Reflections on IBM’s Financials: The Rebirth Process

Rob Enderle
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Big news came out this week on IBM. Most of IBM’s traditional businesses are down, in terms of net income but, for the most part, down in the low single digits. Most of IBM’s new initiatives are up in aggregate, in net income, in the low double digits. Since the base of the old stuff is bigger than the base of the new stuff, IBM in aggregate was down, but when you contrast the numbers you can see that IBM does appear to be successfully transitioning. I should point out, though, that both BMC and Dell are transitioning far more easily, suggesting that their path of going private first may be the better one. IBM may be too big to take that path, but we said the same thing about Dell.

Let’s look underneath the IBM numbers this week.

The Quickly Changing Market

We tend to go through market changes at an increasing rate. A few months ago, everyone seemed to be saying that the PC is dead and that tablets would rule what had been a PC world. Now Lenovo, Dell and HP are showing strong increases in PCs and tablet growth is slowing, suggesting that we are reaching some kind of equilibrium. So too in the enterprise market, we are moving more toward a cloud delivery model but, like it was years ago with hosting, not everyone is going to move to this model. Some will begin moving back, having found the lack of control problematic, as it was with hosting.

Even mainframes, which were all supposed to be replaced by more advanced servers, never really went away. They just evolved to do what they do best in the new world. Far from being dead, they remain one of IBM’s most profitable businesses.

What you have to remember is that the pain IBM is showcasing is better than the alternative. The alternative is corporate death. Folks tend to forget that IBM has weathered many of these events. IBM is, unlike most of its peers, well over 100 years old now, largely because it was designed to survive these events.

Big Changes

IBM recently sold off its x86 server business and this week sold off microelectronics. The server business had to go because it was simply too low margin. Without PCs (it sold off its PC business some time ago), it couldn’t get the necessary volumes to drive down processor costs, which collapsed these margins even farther. Add to this IBM’s large corporate overhead fees and you had a business that just wasn’t viable inside IBM anymore. But in Lenovo, the company that bought the business, the overhead is far lower, the margin expectations are far lower, and the company recently moved to the top worldwide position in PCs, giving it the buying advantage that IBM lacked.

Microelectronics should have been gone a decade or more ago, but IBM had a continued need to have someone build its own processors and there wasn’t anyone that was in a good position to buy the business. Global Foundries was the best candidate, but it was a young company back then and had to reach some kind of a steady state before even attempting a huge acquisition like this. There was also a chance that IBM could make it work because it had picked up business from the game consoles, but that didn’t hold.

With these units gone, IBM loses two major distractions, and both Lenovo and Global Foundries become far more powerful and relevant in their respective markets.

Looking Forward to Growth

IBM has three big growth areas: its partnership with Apple, its cloud effort with SoftLayer, and its effort to redefine analytics with Watson. In interesting ways, these are all somewhat related. Apple could find its Siri app, which is somewhat of an industry joke at the moment, becoming a truly defining feature, with Watson providing the engine behind it. Apple has also had issues delivering cloud services well; SoftLayer could help tighten that up and assure the Watson solution, as well.

Coordination between the two firms will be critical, suggesting something like a VCE partnership to assure that the result is seen as a complete solution rather than a build-it-yourself set of parts from the two vendors. Done right, IBM would emerge more powerful than it was back when it had the PC company. The two firms do dovetail together very nicely, with almost no overlap.

Wrapping Up: Ugly Year, Good Strategic Outlook

No doubt, this was an ugly quarter for IBM. But the massive changes it has made, coupled with its growth areas and Apple partnership, position it far better to roll with the market change. Just remember, IBM was designed to go through this kind of a rebirth regularly. It will survive and emerge far more ready to deal with the world the way it is. In the end, the only important thing is that the company has a great reputation for taking care of its customers, and nothing we’ve seen puts that at risk.

Rob Enderle is President and Principal Analyst of the Enderle Group, a forward-looking emerging technology advisory firm.  With over 30 years’ experience in emerging technologies, he has provided regional and global companies with guidance in how to better target customer needs; create new business opportunities; anticipate technology changes; select vendors and products; and present their products in the best possible light. Rob covers the technology industry broadly. Before founding the Enderle Group, Rob was the Senior Research Fellow for Forrester Research and the Giga Information Group, and held senior positions at IBM and ROLM. Follow Rob on Twitter @enderle, on Facebook and on Google+

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