The Power Systems And System z Mainframe Cycles Start Anew

April 25, 2022 Timothy Prickett Morgan

If you listen to Big Blue a lot, like we do at The Four Hundred, you know IBM spends a lot of its time yammering about hybrid cloud and artificial intelligence, and how it has domain expertise to help develop applications for very precise problems in very specific businesses and markets. And sometimes in its quarterly financial reports, it can go through the whole hour and not mention Power Systems at all.

But thanks to the beginning of the Power10 product cycle last September with the high-end “Denali” Power E1080 server and the launch of the “Telum” z16 mainframe processor in the System z16 mainframes in April, IBM talked a bit about its systems during its call going over its first quarter financial results for 2022 last week. I said a little, so don’t get too excited.

The Kyndryl Effect is still going strong, where the IBM managed services spinoff is still buying lots of things from its former parent company as its customers – and no doubt the timing of the spinoff and the Power E1080 launch last year and the z16 launch this year is not a coincidence, since Kyndryl customers are among the largest IBM systems shops in the world and are due for some upgrades to their z13 and z14 and Power7+ and Power8 machines that are getting long in the tooth. (You don’t actually think managed services providers stay any more on the cutting edge than they have to, right?)

In the quarter, IBM’s overall revenues rose by 7.7 percent to $14.2 billion, but Jim Kavanaugh, the company’s chief financial officer, said on a call with Wall Street that at constant currency Big Blue’s sales rose by 11 percent and that Kyndryl accounted for over 5 percent of IBM’s growth all by itself. (That does not mean we know what Kyndryl’s overall contribution to IBM’s revenues were, but it does mean of the $1.01 billion in incremental revenues that IBM posted year-on-year, that about $475 million of that came from Kyndryl if it the growth rate was, oh let’s call it 5.2 percent to pick something that is “over 5 percent.” That Kyndryl bump was most dramatic in IBM’s Software group, where Transaction Processing product revenues rose by 31 percent at constant currency, and Kyndryl accounted for 28 points of growth all by itself. In the Hybrid Platforms & Solutions division within the Software Group, constant currency growth was 10 percent and Kyndryl was 1.5 points of that.

After taking out currency effects and converting to US dollars, we reckon that Hybrid Platforms & Solutions, which includes the Red Hat stack, databases and data analytics tools, security tools, and automation tools, drove $4.1 billion in revenues and Transaction Processing drove $1.7 billion in sales in Q1 2022. (Why IBM doesn’t just give these figures out as reported, and not just percentages of growth at constant currency, is beyond me. Why not just say it? Why make me do all this work figuring it out? Securities and Exchange Commission, are you listening?) Add it up, and Software group had $5.8 billion in sales, up 15 percent, with 8 points of that coming from Kyndryl.

Speaking of Red Hat and hybrid cloud, IBM now has over 4,000 clients using its “hybrid cloud platform,” an increase of 400 customers in the quarter, and Red Hat sales were up 21 percent at constant currency and rose 18 percent as reported to $1.41 billion. Red Hat is on track to break $6 billion in sales this year, and could even do better.

Here is how IBM’s “real systems business” and the Red Hat business, both inside and outside of IBM, have tracked each other over time:

Starting with the fourth quarter 2021 numbers, when IBM restructured its financial reporting, the Red Hat revenues are actually part of the real systems figure that we calculate each quarter and plot against time. This way, we can see the effect that Red Hat’s revenues will have on the overall business. We think Red Hat will stop the declination trend in the IBM systems business but it certainly will not stop the spikiness of it. It is in the nature of that systems business to be spiky, especially across the maybe 40,000 or so reasonably active enterprise customers who keep their IBM Power and z systems relatively current.

By our model, IBM posted just under $6 billion in “real systems” sales in the quarter, up 3.5 percent.

If you drill down in the Infrastructure group, which sells servers, storage, operating systems, and tech support for the whole shebang, sales were flat at constant currency to $3.22 billion and down 2.3 percent as reported. By our model, Hybrid Infrastructure – meaning servers and storage and operating systems as a group – accounted for $1.69 billion in sales, down around 5 percent as reported, and Infrastructure Support rose by just under 1 percent to $1.53 billion. At the constant currency measures IBM loves so much, Hybrid Infrastructure was down 2 percent with Infrastructure Support revenues up 4 percent, Kyndryl actually added 8 points of growth to the Infrastructure business, which means the rest of the IBM customer base was weaker than even this.

System z sales were off 18 percent, which is expected as a new line is getting ready to launch, and Kavanaugh pointed out that the z15 line has been available for 11 quarters and was the strongest mainframe line in IBM’s history in terms of revenues and aggregate capacity shipped. (I would love to have the mainframe line figured back to 1964 and inflation adjust those figures. . . . ) The Distributed Infrastructure segment, which includes Power Systems and storage together, rose by 8 percent at constant currency in the quarter. “Client demand for S/4 HANA data-intensive workloads on our newest Power10 high end systems fueled this performance,” Kavanaugh said.

In the quarter, IBM’s Consulting group had sales of $4.83 billion, up 13.3 percent, and its Financing group had sales of $154 million, down 26 percent. (That financing business will no doubt bounce as customers lease new z16 and Power10 iron.)

Add it all up, and IBM’s gross profits came to $7.34 billion, pretax income came to $662 million (up 2.8X), and net income after some benefits of $733 million (up 1.9X).

IBM has had worse quarters – that’s for sure. And this year looks to be a pretty good one if the z16 and Power10 cycles really kick in as we expect.

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