You can’t turn back the hands of time, but if you are lucky enough in business, you can continue to find some modicum of relevance that outlasts your initial success and even adapt to new conditions as they inevitably and often unexpectedly change.
Say what you will, but that is what the conglomerate known as International Business Machines has been doing since Herman Hollerith, an engineer from Columbia University who became a mechanical engineering professor at MIT, left to create a startup in 1884 that specialized in punch card tabulating machinery. That machinery was perfected in the next several years and was used to record data from and do calculations upon the US census data from 1890.
After many years of agglomerating and spinning off businesses, the IBM of today is much smaller than it has been in recent decades, but it is tightly focused on the data processing and storage needs of large organizations that are often global in nature. It is not a hyperscaler, although it certainly knows a lot about scale, and while it is one of the largest cloud operators, it is far behind Amazon Web Services, Microsoft Azure, and Google Cloud in terms of scale and customer set. And yet, IBM still retains access to and influence at the largest enterprises and governments of the world that do make it a peer of AWS, Microsoft, and Google.
While expensive, the acquisition of commercial open source software distributor Red Hat has been transformative for Big Blue, and as we expected many years ago, Red Hat’s Enterprise Linux, OpenShift container platform, and other middleware such as KVM and OpenStack, have helped revitalize the financials and share of budget that IBM gets from the largest IT shops in the world. The upward trends continued in the fourth quarter of 2022, even as the growth rate for Red Hat has slowed since the October 2018 acquisition was announced.
In the chart above, we plot out IBM’s “real” systems business against Red Hat revenues before and after the acquisition, and obviously, Red Hat has helped reverse a particularly alarming downward trend in IBM’s revenues as there is a secular decline in System z mainframe and Power Systems sales and since it sold off its X86-based System x business to Lenovo in 2014. IBM does not report its financials as if it were a systems vendor – or even more precisely, a platform vendor – and so we have to estimate this as best we can from the ever-changing ways it does report its financials. We try to ascertain the sales of servers, storage, operating systems, and core middleware such as server virtualization hypervisors, transaction processing systems, and container systems. Our estimate of “real” system sales does not include other middleware or database management software or development tools, but it does include technical support for those systems.
IBM talks about itself very differently from these numbers. In the quarter ended in December, IBM’s overall revenues were flat at $16.69 billion, and thanks to cost cutting and some tax benefits, net income was up 16.3 percent to $2.71 billion and representing 16.2 percent of overall sales. IBM was benefitting from the System z16 and Power10 upgrade cycles at the same time in Q4 2022, and warned Wall Street that the party was dying down and that revenues for infrastructure would be declining in the coming quarters and that operating income would also take a hit. This seems a bit early, considering that both products have another two years or more in the field, but IBM has been perfectly clear that its infrastructure business – which includes servers and storage together and which does not include Red Hat – would be flat on average over the next couple of years, with product cycle ups and downs.
As you can see in the chart above, IBM ain’t kidding about the ups and downs. The mainframe tends to have a big bump in the fourth quarter, and Power Systems oscillates between strong and weak quarters very regularly, like this:
In terms of big iron, the Power Systems business is what we really care about, and AIX is still the largest revenue source for this business, but Linux is growing fast (thanks in large part of SAP HANA and a smattering of open source data analytics tools).
Our model shows that IBM’s Power Systems server sales were down 1 percent to $411 million in the fourth quarter, and storage arrays based on Power iron brought in another $67 million, down 16.3 percent. For the full year, however, Power Systems hardware sales rose by 6.5 percent to $1.45 billion. Operating systems probably contributed another $400 million or so, and tech support maybe another $250 million. Call it somewhere around $2.1 billion for the year. (It is hard to be sure.)
This is why IBM still invests in the Power Systems business, and why it will continue to do so for the Power11 generation expected sometime in 2025 or so.
IBM’s Infrastructure group had sales of $4.48 billion in the quarter, up 1.6 percent, with Hybrid Infrastructure (what we call servers and storage) up 5 percent to $3.06 billion by our estimates and Infrastructure Support garnering $1.43 billion, down 5.1 percent. The Infrastructure group had gross profits of 54.9 percent, which is about normal. Pre-tax income for Infrastructure was $1.03 billion, down 1 percent.
As best as we can figure, IBM’s Power Systems and System z platforms and their operating systems and core middleware drove $7.95 billion in sales in Q4 2022, up 1 percent, and Red Hat sales were up 10 percent to $1.65 billion; if you take 70 percent of that, we think this is for core systems software with the Red Hat brand, excluding databases, storage, dev tools, and such. Add them together and you get $9.11 billion, up 2 percent. For the full year, this “real” IBM systems business with Red Hat’s portion included generated $31.45 billion, up 6.93 percent. The rest of IBM, including various higher-level software and services as well as stuff for other platforms, grew by 4.1 percent to $29.08 billion in 2022. Big Blue’s overall sales rose by 5.5 percent to $60.53 billion for the year.
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