Mad Dog 21/21: Big Apple

IBM was once America’s most valuable company; today Apple enjoys that distinction. Apple’s liquid assets alone significantly exceed the total market value of IBM’s shares. Apple could acquire Big Blue for cash and still have tens of millions left over. Hoping that the knack for making money will rub off, IBM has cozied up to Apple.

But saving IBM will take more than a bunch of iPad apps and some press conferences. IBM isn’t going to escape the consequences of its stupidity by shilling for Apple’s most problematic product, the iPad, in Apple’s worst market, Japan.

In Apple’s most recent quarter, which ended in March, iPad sales fell 23 percent from the prior year’s second fiscal quarter, dipping to 12.6 million units. Apple’s iPad revenue was even more severely impacted, falling 29 percent to $5.4 billion. Apple’s stock kept soaring because its most important product, the iPhone, jumped 40 percent in unit sales, passing 61.1 million devices. Revenue from the iPhone rose a spectacular 55 percent to $40.3 billion. All told, with services, Macs and other products in the mixture, Apple’s intake passed $58 billion, a 27 percent increase from the prior year’s quarter.

The good news was everywhere except in Japan. Revenue from China was up a stunning 71 percent to more than $18.8 billion. The rest of the Asia-Pacific region reported sales up 48 percent to $4.2 billion. But in Japan, revenue fell 15 percent to $3.4 billion.

Three Marketeers: Apple CEO Tim Cook, left, Japan Post CEO Taizo Nishimuro, and IBM CEO Ginni Rometty are promoting a plan to help Japan’s senior citizens via iPad apps they are jointly developing and deploying.

To put things in perspective, Apple’s quarterly revenue from hardware was around $53 billion, a little over 10 percent coming from the sinking iPad. IBM’s hardware revenue was $1.7 billion in the quarter out of total intake of $19.6 billion. In other words, all of IBM activities brought in half the money Apple got from its iPhone alone. All told, IBM’s revenue fell 12 percent from last year’s quarter.

IBM’s hardware business, which includes servers and disk subsystems, is about the same size as the category Apple calls other, a collection of items including the iPod, Beats headphones, various accessories; soon it may also include the Apple Watch, unless Apple quickly breaks out the watch into its own reporting segment. IBM’s hardware sales results are small by Apple standards, but revenue, given a very nice boost by sales of the new z13 mainframes, rose 30 percent from last year, when IBM’s sales of hardware from the product lines it didn’t shed was about $1.3 billion.

Apple iPads: These tablets are expected to play a key role in Apple’s hunt for users in large organizations and IBM’s attempts to revive its flagging sales.

Breaking down IBM’s numbers a bit more, servers comprised 69 percent of reported hardware revenue, or $1.14 billion in the most recent quarter. Of that, we reckon mainframe brought in about $700 million and Power boxes something north of $450 million. This represents a change from last year’s first fiscal quarter, in which IBM had a larger business in Power servers than mainframes.

This year Apple is most likely going to keep growing, and investors seem be betting it will be able to keep up its pace for at least the rest of the fiscal year that ends in September and then most likely have a blowout first fiscal quarter as it enjoys its first Christmas season with the Apple Watch in its portfolio. There may also be other new products in time for the gift and holiday season, such as a TV or TV-related gadget. Even if the iPad fades, it will be a while before it dips below $15 billion a year, making it something like three or four times the size of IBM’s total server business.

Apple’s gross margin in the March quarter was above 40 percent. The company’s financial reports don’t margin by product line. IBM, however, does disclose pre-tax margins for each business segment. In hardware, IBM’s pre-tax profit came to only 1.4 percent. Basically, IBM is breaking even on hardware, even with a big jump in mainframe sales, notwithstanding the disposal of the money-losing chip business and the X86 server trade. It’s impossible for an outside to guess how IBM did in the X86 line, but whatever the results IBM was mightily displeased and said so when it sold the operation to Lenovo.

IBM’s Hardware Situation: As part of its first quarter report to shareholders, IBM detailed its hardware business, which is growing but barely breaking even.

Customers who count on IBM staying in the server business cannot be pleased with IBM’s struggles. If the server business remains essentially unprofitable and, worse, if it slips back into the red as it has done in other recent quarters, users of IBM mainframes, IBM i Power boxes and IBM AIX or Linux Power systems might begin worrying that their vendor of choice will unload its server business. IBM’s effort to foster what it calls an Open Power movement, which is what people call the bunch of other server makers that are adopting the Power architecture, is posited as an effort to give Power more strength and a bigger place in the market, but it is also a way for IBM to edge closer to the disposal of the Power machine business. Uncertainty about Power also fosters uncertainty about the mainframe, which is a cousin of Power. If IBM leaves the Power box business, it’s hard to believe it will stay in the mainframe hardware arena.

It’s possible for an observer of Apple to look at the decline in iPad sales and wonder whether that product will remain viable . . . unless Apple find a way to boost sales and profitability. Some analysts have suggested that the newest, largest iPhones are the most significant and most successful rivals of the iPad. But Apple is undoubtedly more concerned about the future of the iPad than any outsider. And there is already a pretty interesting player in the tablet space that has built a product line that is easy to distinguish from others’ mobile devices: Amazon.

Amazon’s Fire tablets play a role that no phone can fill: They are really excellent media players with attractive pricing and superior user support. Sure, the iPad is good at displaying books and periodicals, excellent at showing videos and fine for playing music, too, particularly if a user has first class headphones. But Apple hasn’t yet made the iPad into the virtual department store that the Fire has become. Nor has it made the iPad a successful alternative to the leading video delivery system: cable television feeding dedicated receivers. All of that may well change later this year, making Apple a media powerhouse.

Separately, the joint effort of IBM and Apple to make the iPad a large enterprise and big government applications terminal may be a significant fork in the iPad market. Their intentions seem sensible, but there is a lot more to this. IBM, aided and abetted by Apple, might be overplaying its hand.

Apple’s success comes from selling things one person can lift. In fact, most of its revenue comes from products that fit in a pocket. Apple’s users are happy with virtual rather than physical output, visual and audio feeds that are usually delivered with superb presentation techniques; they don’t seem to want hard copy.

IBM’s customers, by contrast, often use Big Blue’s products to produce output that is read by other computers, not directly by people. Where IBM servers feed do information to people, legacy presentation systems quite often are crude, based on decades-old green screen systems or recast pages conceived in the days of green-bar paper. IBM remains the preeminent provider of glass house backroom information technology, but its efforts to directly serve end users have little traction. It has had a succession of failures in productivity apps, beginning with the acquisition of Lotus that turned out to be one of the few strategic errors made by Lou Gerstner, the most notable boss the company has had since the days of the Watsons. It has consistently lost out in the market for presentation devices, notably the PC, and the similar servers that very often stand between central systems and presentation devices.

Before it launched its venture with Apple, IBM’s most significant recent opportunity to connect with end user arose as a byproduct of its effort to recast its remote services business as an Internet-based cloud services. So far, however, IBM has steadfastly kept its cloud operations focused on business-to-business services, leaving contact with consumers and commercial end users to its cloud clients. But IBM’s attempt to work with Apple on services that use the iPad for presentation could change things.

IBM will be writing iPad apps and also developing the back end services to support the Apps. Unlike most iOS apps, the IBM ones will not be aimed at individual consumers. Instead, IBM will be writing the apps for enterprises and government agencies. These entities will then press their employees or, in the case of government agencies, wards and beneficiaries to get Apples iPads and IBM’s apps. In April, IBM and Apple and Japan Post said they were going to develop apps for use by senior citizens with iPads. (Japan Post, formerly that country’s Post Office, does more than deliver mail. Like many postal services in Europe, Japan Post also provides some banking services, life insurance and acts as an outreach agency connecting government organizations to the citizenry.) The apps, say their promoters, will help the elderly manage their health care and medications as well as other social benefits. When the package of apps and services is fully rolled out, say the three organizations behind the scheme, five million elderly Japanese will participate; this is between 15 and 20 percent of the more than 30 million Japanese people who are at least 65 years of age.

To get things rolling, Apple is going to give away a thousand iPads, so it will only have to sell four million, nine hundred ninety-nine thousand more tablets to reach its five million user goal.