IBM Wraps Up Change In 2014, Looks Ahead To 2015

Although the company might be called International Business Machines, the real drivers, at least in 2015, are set to revolve around data, cloud, and engagement. That was the message from Martin Schroeter, IBM’s chief financial officer, who walked Wall Street analysts through the company’s financial results for the fourth quarter of 2014 after the markets closed on Tuesday. While Power Systems and System z servers and various storage products will be a foundation for IBM’s business, Big Blue will continue to push its software and services in the pursuit of revenue and profit growth.

As is usually the case, Ginni Rometty, IBM’s CEO and chairman, was not on the conference call with Wall Street analysts but like her predecessor, she made her statements about how the fourth quarter went in the press release accompanying the financial figures.

“We are making significant progress in our transformation, continuing to shift IBM’s business to higher value, and investing and positioning ourselves for the longer term,” said Ginni Rometty, IBM chairman, president and chief executive officer. “In 2014, we repositioned our hardware portfolio for higher value, maintained a services backlog of $128 billion and achieved strong revenue growth across cloud, analytics, mobile, social, and security. Together these strategic imperatives grew 16 percent in 2014 and now represent $25 billion and 27 percent of our revenue.”

But the growth in these areas was not enough to make up for declines in the Power Systems and System z businesses, even taking into account the divesture of IBM’s System x server division, its customer care business process optimization, and Microelectronics chip making businesses. IBM’s revenues dropped by 11.9 percent to $24.11 billion and net income dropped by 11.3 percent to $5.48 billion in the quarter. For the full 2014 year, IBM’s revenues were down 5.7 percent to $92.79 billion and its net income dropped a staggering 27.1 percent to a smidgen over $12 billion. You can see now why IBM has been jettisoning unprofitable businesses. Those three businesses outlined above that IBM sold off last year generated $7 billion in revenues, but booked more than $500 million in pre-tax operating losses.

Over the long haul, Schroeter said that IBM would be able to scale up its SoftLayer cloud business and drive up operating profits in this relatively new yet important operation for the company. With the ramp of the Power8 systems and a new generation of System z mainframes, and the push in data management in its various aspects and engagement application software and services, IBM thinks it can grow revenues in the low single digits and grow its operating cash flow in the high single digits.

IBM is looking ahead for growth, but due to the divestitures as well as a very strong currency headwind as the U.S. dollar strengthened mightily in September, it was not able to get it during the fourth quarter. But there are pockets of good growth. IBM’s overall cloud business is now running at $7 billion a year–a level that it had promised Wall Street it would hit back in 2010 when IBM set its five-year plan through the end of 2014. This cloud business grew by 60 percent in 2014, and includes sales of private cloud systems installed at customer sites, hybrid clouds that mix internal private cloud capacity with external services from IBM, as well as myriad “as a service” offerings for raw infrastructure, platform services, and application services. The latter cloud services, which includes the SoftLayer cloud, had a $3.5 billion run rate as IBM exited the fourth quarter and accounted for $3 billion in revenues in 2014, up from $2.2 billion in 2013.

The Power Systems business continues to be under pressure as all non-X86 systems are these days, but Shroeter said that IBM’s Power-based systems business showed sequential growth from the third quarter. Sales of low-end Power Systems machines, driven by the adoption of scale-out Power8 machines, had double-digit growth in the fourth quarter. IBM announced its high-end Power E870 and Power E880 systems in the fall and while Schroeter did not make any promises looking ahead, it seems likely that sales will rise for high-end machines in 2015 with so many customers still using Power7-based machines at the high end. A lot depends on when the remaining high-end Power E880s are delivered and what kind of performance and bang for the buck they offer compared to the Power 795.

The Power Systems business had a 13 percent decline during the fourth quarter, but should see improving quarters in 2015. So should the System z mainframe business, with the z12 line of mainframes now finishing its tenth quarter and the z13 line announced and shipping in volume in a few months. The System z line had a 26 decline in the fourth quarter. Storage revenues were down 8 percent, with FlashSystem and Storwize arrays growing and high-end disk arrays declining more than that rise. Add it all up, and IBM’s Systems and Technology Group had $2.41 billion, down 12 percent if you exclude the System x business and down 39 percent if you leave it in the 2013 figures. The important thing for Big Blue is that this much smaller systems business posted a pre-tax income of $388 million, which is up from the $346 million in the year-ago period with the System x and Microelectronics businesses in there. Profits should increase in 2015 as the z13 mainframe ramp starts and as the Power8 ramp continues to gain steam.

IBM’s Software Group, which has not been busted apart yet to spread it content across the new units that Rometty and her management team created in a reorganization that was announced internally a few weeks ago, had $7.6 billion in revenues, down 3 percent but still delivering a remarkable 90 percent gross margins. The Software Group’s revenues were adversely affected by operating system revenue declines from the slipping Power Systems business and the divested System x business; the shift to monthly software services instead of perpetual software licenses is also affecting the Software Group revenue stream, as it is all software providers. Global Services, which has a tiny slice of business that is related to the Power Systems division and even less devoted to the self-sufficient IBM i platform, posted a revenue decline of 7.8 percent to $13.52 billion in the quarter and booked a pre-tax profit of $2.2 billion, down 25 percent from the year-ago period. If you adjust the revenues for Global Services to not include the System x and customer care BPO business units and for the currency fluctuations, then revenues for Global Services would have been more or less flat for the fourth quarter.