Tag Archives: Cloud Computing

Ballmer vs. Chambers: A Corporate Cage Match

Amidst adding Cisco to Dinosaur Row, I asked someone “If Steve Ballmer got run off by Wall Street, how does John Chambers still have a job?”

Both are/were long-tenured, non-founder CEOs of two of the biggest technology companies. Both have presided over erosion of prior dominance during the course of the 21st century, even as revenues and profits kept growing. Neither has been shy about making sweeping calls about the future, yet their predictions have stubbornly refused to come to pass. Both found themselves increasingly reacting to rather then driving key industry trends (although Ballmer will eventually get credit for not missing cloud computing, which is coming for Cisco, even as Chambers continues to ply ye olde enterprise playbook in response). Ballmer’s tenure as CEO began January 1, 2000 while Chambers took the CEO chair in January 1995.

I’ve related this story before, but Steve was acutely aware of the consequences of taking office almost exactly at the top of the dot com bubble. He would bellow, not proudly, that “I’ve lost more market cap than any CEO in history”. After a couple years, he could amend that with “Thank god for John Chambers”.

Lets look at their performance during their shared tenure (January 1, 2000 to February 4, 2014). Revenue and profits are generally up and to the right, but stock performance is negative – presumably their future performance was already priced into the stocks. Microsoft’s total return is better with all the dividends, but still in the red over Ballmer’s tenure.

Total Return: Advantage Ballmer (Microsoft -15.3% vs. Cisco -56.8% )

CSCO Total Return Price Chart

CSCO Total Return Price data by YCharts

Market Capitalization: Advantage Ballmer (Microsoft -49.7% vs. Cisco -68.2%)

CSCO Market Cap Chart

CSCO Market Cap data by YCharts

Revenue Growth: Advantage Ballmer (Microsoft +333.5% vs. Cisco +156%)

CSCO Revenue (Quarterly) Chart

CSCO Revenue (Quarterly) data by YCharts

Profit Growth: Advantage Ballmer (Microsoft +175% vs. Cisco 75.12%)

CSCO Net Income (Quarterly) Chart

CSCO Net Income (Quarterly) data by YCharts

Bigendian Suit: Advantage Chambers

John Chambers, chairman and chief executive officer of Cisco Systems

(A picture of Steve in his red v-neck sweater — or worse, forthcoming Los Angeles “America’s Team” Clippers garb — is omitted as a matter of common courtesy).

Now you may say “but lets look at Chambers’ full tenure”, as he assumed the big boy chair five years before Ballmer. And you’re welcome to do that, even in our what have you done for me lately culture, but the record is uglier than that of the much derided Microsoft (I won’t even start digging up all those acquisitions everyone has rightly forgotten about). Will Chambers declare victory and head for the exits before the future pain becomes more evident at Cisco, or will he overstay his welcome until the hounds of Wall Street start baying for his head? Stay tuned. And then we can have a discussion about whether Cisco’s next CEO should be a product guy or another sales guy…

Dinosaur Row

IBM’s cloudy predicament is now widely understood.

BusinessWeek made IBM’s existential crisis a cover story (a concept that doesn’t really exist any more if you read the publication online):

Bloomberg Businessweek (US)

Forbes then called out recently departed IBM CEO Sam Palmasaino for his financial engineering shenanigans with “Why IBM is in Decline”. Cringely went one better with the full Gibbon in his new book “The Decline and Fall of IBM”.

To which I say, welcome to the club!

IBM employees have been crawling out of the woodwork over the last year to defend the holy EPS roadmap (even as Wall Street tells them “um, you might stop the financial engineering games and optimize for survival at this point”). While I have listened patiently, not a single Big Blue booster made an argument based on their product portfolio or confidence in their ability to innovate or adapt. They have a bad case of assuming past performance guarantees future survival.

The most compelling argument I heard from any IBMer was “Well, at least we’re not HP”. HP is in a similar situation as IBM, except a few years behind. On the plus side, HP has less software legacy (there are positives to not being a software company period). I’m waiting for HP to buy Rackspace as their SoftLayer-like “Hail Mary”, except paying more and doing it a couple years later due to the need to rebuild their balance sheet “autonomy”. But a wise man once told me “life is too short to work with HP”, so enough about them. Unlike some other vendors, I don’t think anyone really cares whether HP make the next transition or not.

The storm clouds of creative destruction blow not just in Armonk and Palo Alto. Things also look blustery in San Jose, home of another dinosaur: Cisco (or as I like to call them, “the IBM of networking”).

Cisco has many parallels to IBM:

  • Revenue has plateaued and oscillates between flat and down.
  • Competitive threats abound including fundamental technical and economic disruption.
  • They can’t innovate and have relied on buying R&D for even longer than IBM and to a greater degree.
  • Lots of acquisitions that haven’t had much discernable impact. One can argue IBM has done better with its acquisitions, where they at least milk the installed base for revenue even if the acquired products go immediately into maintenance mode.
  • They have lost the leading edge customers who prefer to build their own switches or rely on other vendors.
  • Their biggest customers may face an existential threat by continuing to rely upon them, facing competitors who don’t have that legacy dependency.
  • Their core competencies have shrunk to browbeating the press (and watch the press pay it back that the dam has finally broken on IBM after years of oppression) and manipulating Wall Street expectations (revenue only down 5.5% – it’s a beat!!!).
  • They are dismissive of the threats they face (a la “it is early days for cloud”) and take their survival and market position for granted.
  • Their product efforts focus on trying to pull innovation back into the old way of doing things (see Cisco’s ACI, which kind of misses the whole SDN point).
  • They believe they can play with the big boys in cloud but on a bonsai budget. Cisco’s Intercloud is another “multi-year, one billion dollar investment” in cloud capex that amounts to about six weeks of Google’s capex spending.

Cisco is flailing all over the place when it comes to communicating their strategy:

  • Competitive bluster and/or schizophrenia: they plan to “crush” VMware who is “enemy number one for Cisco” (but also maintain this SDN thing is not a big deal…). Yet VMware doesn’t even make their slide of competitors today or in 2018, when it seems they plan to compete exclusively with the cream of the late 20th century NASDAQ:

Cisco competitors prediction

  • Misdirection and/or distraction: “Hey, look at this $14 TRILLION dollar market over here. It isn’t just the Internet of Things, it is the Internet of Everything!” I’m a big believer in the Internet of Things (hold the “Every”) but am hard-pressed to understand what Cisco is going to do to capture any disproportionate part of that. Cisco’s IoT executives are so impressed with the opportunity they keep bailing out.
  • Safety in numbers: they would like you to believe their challenges are not unique to Cisco, but plague the whole “industry” (aka Big Old Tech with no appearances from the companies taking share). John Chambers forecasts “brutal” times ahead and provides this handy chart by which to track his self-selected cohort’s misery:

Cisco Chambers Keynote 5 Tech Revenue

Cisco picked the right peers with HP and IBM (aka Dinosaur Row), but Microsoft and Oracle are in a different class as I am sure this time series will prove out over time. We’ll be tracking the “Chambers Chart” going forward.

Small Blue and the Bonsai Datacenter

Bonsai by Andreas D., on Flickr
Creative Commons Attribution 2.0 Generic License  Via Flickr

IBM today announced new datacenter investment plans to bolster its cloud computing presence. They’re going to spend $1.2 billion to build 15 new datacenters (seen above, lower shelf). After some consultation with the Twitterati on matters of long division, it appears IBM is going to spend a whopping $80 million per datacenter. That may sound impressive until you consider that the big boys in cloud can spend half a billion or more per datacenter. Google’s most recently reported quarterly capex was $2.29 billion.

Perhaps IBM is has some special sauce that lets them go toe-to-toe with the big boys on the cheap? If so, they haven’t bothered to mention it and they’re not known for their low costs or frugality. I for one am disappointed IBM has stifled its usual impulse to pitch the mainframe as the obvious choice for the workload de jour. Surely there is a story to weave about cloud computing bringing the industry back to its timesharing roots, blah, blah, blah, mainframe uber alles? Or maybe they’ve beaten their heads against that wall enough to knock some sense into them.

In the absence of special sauce, it seems more likely that IBM is either confused about what it takes to play in the big leagues and/or lacks the financial resources. They continue to confuse cloud computing with web hosting. Do they really believe their Amazon depositioning is relevant or is it just an attempt to muddy the water? What does IBM say when Amazon utters the letters C, I and A? IBM also has real constraints on their ability to invest due to their prioritization of financial engineering over engineering engineering.

I will offer IBM some free consulting for their next big initiative to help them come up with some differentiation and a storyline beyond how much money they are going to spend. What are the odds that they find themselves budgeting a billion dollars for almost every initiative? (The way we knew they had given up on AS/400 was when their grand revitalization initiative was only backed by $125 million). “One billion dollars” has been the only page in their marketing playbook for a long time. Had I more time and dedication to the cause, I would collect all the “one billion dollar” announcements and assess their subsequent market impact. Because this is capex (and because it isn’t a round billion dollars), the $1.2 billion number is probably a real number unlike most IBM investment numbers. But there is at least one real billion dollar number for IBM and that is their Q3 revenue miss.

Various evergreen belittlements aside, IBM seems to have woken up to the reality of cloud computing and the existential threat it poses. The “it is early days for cloud” speaking point seems to have been retired. They’re overreaching and flailing around with announcements and advertising. but are at least trying to get into the discussion. But they still face an extremely difficult road. IBM’s ability to develop technology (the engineering engineering thing) has atrophied (“SmartCloud? Just kidding…”) and letting others do the technology development is risky (e.g. taking an OpenStack dependency in the absence of controlling your own destiny is looking a lot riskier). And IBM is operationally unproven across multiple datacenters. It is easy to needle AWS for outages, but another to avoid outages yourself. The real question is would anyone notice an IBM outage. Finally, IBM is constrained financially relative to the competition.

Many financial observers assume that because IBM is one of the few technology companies to have survived multiple generational technology transitions, they will successfully traverse this one as well. Past performance is definitely no guarantee of future survival in technology and IBM’s past transitions are notable exceptions to the broader industry history. And this transition is different in that the workloads in play are core workloads for IBM. With the minicomputer and PC transitions (the later of which was near fatal to IBM), the workloads in question were mostly net new and didn’t directly replace mainframe workloads. The cloud is taking core workloads, so even if IBM executes well and moves existing customers to its cloud, they will take a revenue and margin hit.

IBM is damned if they do, damned if they don’t. If they accelerate the move to cloud, they will undercut their existing business and miss their sacred financial roadmap. If they don’t, everyone else will partition up their existing business. Maybe they can thread that needle, but IBM has not shown any reason to believe they can successfully catch up to and compete with the leaders in cloud computing. Bonsai datacenters show IBM wants (or needs) to compete on the cheap.

A Dispatch from Cloud City

A few end of the year observations from Cloud City (aka Seattle):

Cloud Infrastructure

  • AWS remains a beast. Yet a chink in their armor is emerging…
  • Azure has become the clear challenger to AWS. The much maligned Mr. Ballmer is not getting credit for Microsoft’s embrace and execution on cloud. Unlike most of its cohorts rooted (mired?) in previous generations of technology, Microsoft is well on its way to making the cloud transition.
  • Despite very strong technology and an impressive operational footprint, Google Cloud Platform is still a hobby for Google. They are as yet unwilling to make the necessary non-technology investments to really compete to win here.
  • Private infrastructure clouds just aren’t happening – instead enterprises are both getting more comfortable (surrendering?) with public cloud and continuing to invest in virtualization (VMware obituaries were definitely premature).
  • OpenStack’s identity crisis is warranted. Without a credible ecosystem of OpenStack-based public cloud providers and little enterprise private cloud adoption, the OpenStack bandwagon is left providing ingredient technology to the industry itself, which doesn’t really need what the vendors are selling.
  • Rackspace’s OpenStack bet outcome is increasingly clear: they may not exit 2014 as an independent entity. They should have invested up the stack in higher value services like Amazon, not down (and to add insult to injury, I’ll wager their VMware business still is bigger than their OpenStack business). They’ve lost over half of their market cap this year. While they still sport a premium multiple, the overall trend is towards a SoftLayer kind of valuation which could put them in play for acquisition by the kind of legacy vendors who confuse hosting with cloud (isn’t HP out telling the world their balance sheet has finally recovered from Autonomy?).

Cloud Platform

  • PaaS is still a zero billion dollar category, but could PaaS end up being the level at which enterprises implement private cloud? I see more traction for PaaS than IaaS in the enterprise.

Big Data

  • In the absence of a strong set of customer successes, I think Hadoop may be spending some time in the trough of disillusionment. The challenge is not filling the data lake, the challenge is extracting meaningful and material business results from the lake. It is a data science problem far more than an infrastructure problem. How long will it take to transition to a Hadoop 2 that is robust, deployable, performance, has ecosystem support, etc.?
  • I continue to be amused that Google is so far ahead when it comes to big data that it is a material disadvantage for them. They get dismissed as proprietary while the rest of the industry is enraptured with Google’s technology from two generations back that has been awkwardly laundered through Yahoo.

What else is happening below the clouds on the ground?

Dinosaur Down: IBM’s Q3 Earnings

Scene: Armonk, New York

The earnings release speaks for itself (love that typeface – they must still do press releases on a Selectric typewriter in the IBM museum), but a few comments:

A billion dollar (as in $1,000,000,000) miss on the top line. Everything in varying levels of freefall, led by the swan dive of the hardware business (Power Series down 38%!). After a decade of the consistency so prized by Wall Street, that is three misses in a row for IBM and six straight quarters of declining revenue. Yet they beat their EPS number (modulo “other stuff”) and recommitted to the EPS roadmap for the year. Somehow, profits keep going up even as revenue declines (key contributor: a materially lower tax rate).

The earnings release in a nutshell: “Growth markets revenue down 9 percent”.

Cloud is starting to bite IBM and as I have noted, they lack a relevance amidst generational change. The company made some more detailed yet meaningless claims about cloud revenue. As with Q2, “cloud revenue up more than 70 percent year to date” but with no definition of what constitutes cloud (last week they were out making a distinction between “cloud-enabled” and actual cloud services). They did break new ground and say “$460 million is delivered as a cloud service” which presumably is mostly SoftLayer. Most glaring, IBM still doesn’t seem to have any material customer references, either in terms of the cloud technology being consumed or in terms of business impact.

IBM’s fundamental problem: they supply those being disrupted by technology, not those doing the disrupting. Today an IBM dependency can be an existential risk.

Open Season: A Short Industrial Drama

Cloud Foundry had a pretty good week with endorsements from Baidu and IBM. Both relationships were developed after I left VMware so what follows is purely speculation on my part. But some companies have a tough time getting over their history and playbooks, so it is easy to imagine how things went down.

Warning: this post contains serious “inside baseball” about the past and present of software standardization and open source mechanics. If you don’t know what ECMA oxymoronically used to mean or haven’t debated the merits of different open source licenses, you may want to stop reading right now (go see Pacific Rim or read up on Bitcoin instead). I may be the only person who gets some of these jokes. Apologies to David Mamet.

OPEN SEASON

Scene: a hipster office in SOMA populated by dogs, twenty-something Siamese programmers and two older gentlemen trying with limited success to project a casual air.

Characters:
Jim – a Pivotal executive
Dan – an IBM executive
Angel – an IBM standards executive

Dan: We’re from the IBM company and today is your lucky day. We have decided Cloud Foundry is going to be the platform-as-a-service for the cloud.

Jim: Oh…

Angel: It’s still early days for the cloud.

Dan: The way this will work is IBM will make Cloud Foundry open and therefore viable for the enterprise. We know how to do this and will tell you what you have to do.

Jim: I’m not sure I follow as our strategy has been to make Cloud Foundry as open as possible from day one. Am I missing something?

Dan: Cloud Foundry cannot be used in the enterprise until IBM gives it our blessing. It is critical that enterprises only use open technologies.

Jim: Open like the mainframe?

Dan: Watch your tone son. We’re from IBM and we make sure that enterprises are not locked into proprietary technologies.

Jim: I’m definitely not following you. What do you mean by “open”?

Dan: Openness depends on having a comprehensive governance strategy. We will work with you to create a Cloud Foundry Foundation to manage the governance of Cloud Foundry.

Jim: What exactly would such a Foundation do? And isn’t “Cloud Foundry Foundation” kind of awkward phrasing? Did you consider just Foundration? That domain might still be available.

Dan: The Cloud Foundry Foundation will handle the governance of Cloud Foundry. With a formal governance process as defined in bylaws, Cloud Foundry will then be open so enterprise customers can embrace it.

Jim: Hmm.. I assume you’d describe GE as an enterprise customer. They’ve embraced Cloud Foundry to the tune of investing $105 million. And they’ve never mentioned the word governance as far as I can recall. They have been known to throw around terms like productivity and time-to-market.

Dan: Let me help you understand how this will work. Do you remember Java and Linux? IBM made those technologies successful in the enterprise by ensuring they were open. We will do the same thing for Cloud Foundry. But you will need to follow our direction.

Jim: You’ll have to excuse me as I was in junior high school when you were running that playbook for Java and Linux. But I’m still not certain what this has to do with Cloud Foundry.

Dan: Enterprise customers expect new technologies have formal governance processes so they can trust them to be open. For example, it is critical there be explicit rules to specify the voting rights for different classes of membership and how to deal with conflicts of interest on the board of directors.

Jim: I am afraid I still don’t understand what this has to do with making it easier for customers to build applications for the cloud. I defer to your knowledge of the previous century as well as conflicts of interest, but it seems customers today are more focused on functioning code that solves their business problems than governance processes. But you should explain to me what governance you think is necessary.

Dan: The Cloud Foundry Foundation will be a legal entity with a steering committee which will define all the subcommittees necessary for different aspects of Cloud Foundry. Obviously, we will use Robert’s Rules of Order.

Jim: Is this how you created the Java programming model?

Dan: Exactly.

Jim: You do know the majority of enterprise Java development is done today with the Spring Framework which was developed to shelter developers from the horrors of committee-developed technologies like EJB?

Dan: Son, enterprises can’t build enterprise solutions without enterprise technologies like EJB. When you start doing transactions, it is no longer child’s play. You may have your simple solutions for simple problems, but IBM solves enterprise problems.

Jim: I won’t ask how it is that the biggest Internet companies on the planet somehow manage to do transactions at vastly greater scale than any enterprise that uses IBM technology. I guess I should also be surprised the cloud has gotten as far as it has without any committees and Robert’s Rules of Order.

Angel: It’s still early days for the cloud.

Jim: Your faith in committees is touching, but pretty much for every broadly successful technology in the world today, there was a committee-driven alternative that failed. Take IP vs. OSI, or HTML succeeding only by throwing away the vast standardized bulk of SGML. I think the world has learned from these experiences. We have seen over and over that committees are prone to making bad political tradeoffs, delivering least common denominator solutions and losing sight of the real problem at hand. Premature standardization is a killer; you need to allow for experimentation, evolution and finding the proverbial product-market fit.

Dan: Son, you need to understand how things work in the enterprise.

Jim: Is there more to IBM’s cloud strategy than a vague appeal for standards? Do you really think a bunch of random committees are going to keep up with Amazon Web Services? I guess it could be a good strategy if they’re laughing so hard they can’t get any work done.

Angel: It’s still early days for the cloud.

Dan: Let me give you a recent example. Have you heard of OpenStack? IBM is making OpenStack part of the open enterprise cloud.

Jim: I am familiar with OpenStack as it turns out. In fact, Cloud Foundry runs on OpenStack. I do seem to recall you guys jumped on the OpenStack bandwagon a couple years after it got started. Are you saying IBM is somehow responsible for OpenStack’s momentum?

Dan: IBM is making OpenStack open and acceptable for enterprises.

Jim: So what contributions have you made to OpenStack?

Angel: We have dozens of our best standards people working on OpenStack.

Jim: I was thinking more in terms of code. NASA and Rackspace have contributed major pieces of technology – what has IBM brought to OpenStack?

Angel: It’s still early days for the cloud.

Jim: Well, even if software development is not your focus, you do operate a lot of outsourced IT infrastructure. With IBM’s enterprise presence you must have a lot of customers running OpenStack today. How many megawatts of OpenStack capacity are you operating?

Angel: It’s still early days for the cloud.

Jim: I’m not sure where you guys have been for the last decade, but the world has changed. We now achieve openness at the engineering level, not with lawyers writing bylaws and Robert’s Rules of Order. The days of heavyweight governance via committees staffed by people whose primary skill is sleeping while sitting up have probably come and gone. Cloud Foundry is extremely open today by any practical measure. The code is all on GitHub under the very permissive Apache license. Is there something we’re missing?

Angel: What is this Geet Hub? Can you spell that for me?

Jim: GitHub is a public code repository. Anyone can submit a pull request and contribute code to the project. If you don’t like the vision or want to do something different that is more tailored to your specific needs, you can always fork the project and take it in whatever direction you want.

Dan: (visibly flinching and frothing) Are you mad? Anyone can just contribute code? To a product that will be used by enterprises?

Dan: You encourage people to fragment the project by modifying it and making derivative works? (pause)  Do you not know any history boy? We spent years trying to minimize Java fragmentation. Microsoft would taunt us that even Ivory soap was only 99 and 44/100th pure. Despite Herculean efforts, we never quite achieved it, but we tell ourselves, much like with the current economic recovery, it could have been so much worse. You would let anyone do whatever they want with the software? (aghast)

Dan: How will enterprises ensure they’re getting the official version of Cloud Foundry? Do you not see how critical it is to have a Foundation that controls Cloud Foundry?

Jim: The market decides what the best version of Cloud Foundry is, not some committee. If you don’t like the direction, you could always fork and go in whatever direction you think is most appropriate. One would think with 400,000 or so employees, IBM would have some people who could write code as opposed to committee minutes.

Dan: Surely you jest. We can’t rely on the market to make decisions for the enterprise. That is IBM’s role and has been since the dawn of information technology. If you don’t fully appreciate the criticality of governance, we can go elsewhere. We have options. We could bless OpenShit, sorry I mean OpenShift instead. I bet Red Hat would play ball. We’re old friends with their standards guys.

Jim: Good luck with that.

Dan: Or we could bring the full might of IBM’s research labs to bear and build our own platform-as-a-service. Don’t underestimate the technological prowess of the IBM company. We get more patents every year than any other company. We can write the letters IBM at the atomic level. We are going to positively own the burgeoning robotic game show contestant market. We can make WebSphere the application platform for the cloud. WebSphere is the biggest middleware on the planet, though I’m not sure why the development team was laughing when they said that. If you don’t hand over Cloud Foundry to the Cloud Foundry Foundation, we’ll just compete with you.

Jim: You’d think with all those great patents, you’d have more innovation to show in your product line and wouldn’t be here trying to figure out how to co-opt the fruits of someone else’s R&D. I get that what’s yours is yours, like the mainframe, but you’d also like what other people have developed to be under your control. You’re welcome to participate in the Cloud Foundry ecosystem on the same level playing field as everyone else, but we’re not going to distract ourselves from building a great platform with some giant bureaucratic foundation. If you want to compete, by all means compete, but at some point you’re going to have to write some code people actually want to use. Maybe you can create an IDE that lets people write code at the atomic level. And with all due respect, WebSphere at this point is just a middleware museum. It is about as relevant to the cloud as the mainframe.

Dan (quietly to Angel): They’re onto us. Our strategy of blessing different piece parts defined by multiple slow-moving and conflicted committees that don’t work together well and need busloads of consultants to make them limp along may not fly in the cloud. This may be a problem for our earnings roadmap. Our CFO told Wall Street we’d have $7 billion in cloud revenues by 2015 and SmartCloud unfortunately isn’t looking that smart.

Angel: It’s still early days for the cloud.

Jim: I’ll tell you what. I’d hate for you to have to go back to Armonk and get yelled at by your CEO again for not working hard enough and not bothering to return customer calls. We’re doing a Cloud Foundry developer conference this fall and how about IBM sponsor breakfast there or something? You can buy some healthy fare and we can explain how in the past you would have brought donuts, but you’ve gotten religion about reducing middleware girth. You can even come to the advisory board meeting. And of course you can submit all the code you want to the project, but I realize that may not be your thing. But I do have one request if we’re going to work together: please don’t ever use that the word governance again in my presence.

Angel: It’s still early days for the cloud.

Jim: Yes, it’s still early days for the cloud…at IBM.

FINIS

Note: the voices in my head for this are the default Xtranormal voices. In the sequel, the Bernank will make an appearance.

Dino Watch: IBM’s Q2 Results

 Dinosaur World by mcdlttx, on Flickr
Creative Commons Attribution 2.0 Generic License  Image via Flickr 

Our favorite “technology” company IBM “beat” the number last week and saw its stock pop on Thursday after announcing earnings. Bloomberg cheered the results:

“IBM Raises Annual Forecast After Earnings Top Analyst Estimates”

International Business Machines Corp. (IBM), the largest computer-services company, topped estimates with its second-quarter earnings and raised its forecast for the year after cutting costs and buying back shares.

Excluding a $1 billion restructuring expense, earnings were $3.91 a share, the Armonk, New York-based company said today in a statement. That beat the $3.78 that analysts projected on average, according to data compiled by Bloomberg. The company now expects to earn at least $16.90 a share this year, up from the $16.70 it forecast earlier this year.

IBM has managed to increase profit by shifting away from low-margin businesses, cutting jobs and repurchasing stock — even as revenue slows.

And why not be ebullient? Just look at these results:

  • Revenue – down 3%
  • Net Profit – down 17%
  • EPS – down 13% (with buybacks, outstanding shares are down 4% over the last year)
    • Software – up 4%
  • Services – down 1%
  • Systems and Technology (aka Hardware) – down 12%

Investors and analysts seem to have bought into IBM’s narrative to pay no attention to the the top line and focus only on ever increasing profit forecasts, never mind whether they come from financial engineering or engineering engineering. They’re constantly “transforming” the company and getting rid of unprofitable businesses so even as revenues go down, profits will only go up, up, up (at some point, I will do a projection of where to expect the intersection between ever declining revenue and ever increasing profits). A couple financial notes on this quarter:

  • IBM is masterful in obfuscating their results and particularly forward guidance, as they guide to non-GAAP results as “most indicative of operational trajectory”. They sow a lot of confusion with a billion dollar write-off to lay off upwards of 8,000 employees (because companies that are killing it are always doing restructurings of this magnitude…). All this noise turns out to have obscured the fact they actually dropped their sacred future profit forecasts. It took the markets 24 hours to figure this out and IBM’s stock price gave up its initial pop from earnings.
  • Without a material drop in their effective tax rate, the results this quarter and last quarter would have been much worse. Pre-tax income was down 20%.
  • IBM’s all-important profit forecast previously included an assumption of a major divestiture, presumably the x86 server business, which they have walked back: “a substantial second-half gain that it was expecting in its prior view of earnings per share will not likely be achieved the end of 2013.”  Eventually, the cookie jar of one-time profit bumps will be empty as you can only sell off so many of the businesses your describe as crummy.
  • It looks like profits are starting to correlate with revenue after a long period of non-correlation (aka the financial engineering years). In the charts below, we see IBM’s revenue looks highly cyclical with the economical downturn in 2008-9 but the recent decline is harder to pin on macroeconomics. Perhaps we are at a technology inflection point? And the once monotonic five year profit trend looks like it is rolling over. We also should credit Sam Palmasaino for having exquisite timing and/or skill, leaving the CEO job at the end of 2012.

IBM Net Income TTM Chart

IBM Net Income TTM data by YCharts

IBM Revenue TTM Chart

IBM Revenue TTM data by YCharts

Meaningless Numbers

I love the plum double-digit growth numbers IBM cites for arbitrary slices of their business with no baselines so you have no idea if they contribute $1 or $1 billion. Somehow, they have an incredible growth portfolio that doesn’t move the needle for the company as a whole:

  • “Key branded middleware” up 9% – presumably this is things like WebSphere, DB2, Lotus and Tivoli, all brands that are irrelevant in the cloud era. But the “key” modifier implies some other segmentation game is being played.
  • “Growth markets revenue flat” – that single line pretty much sums up IBM.
  • “Smarter Planet revenue up more than 25% in the first half” – leaving aside any effort to figure out what might constitute Smarter Planet revenue, one might conclude the rest of IBM’s revenue comes from a Dumber Planet™. But as IBM’s revenue continues to decline, there is evidence the Dumber Planet is wising up ;-) 
  • “Cloud revenue up more than 70% in the first half” – given IBM’s paucity of cloud customer references, this may be the most nebulous of the bunch. IBM has said they’ll do $7 billion in cloud revenue by 2015, but their definition of cloud is of course cloudy. The cloud number I’d really like to see from IBM is their capex spend as a proxy for their cloud commitment. Total property, plant and equipment on the balance sheet has actually declined so far this year, while Google and Microsoft spent $3.5 billion on capex between them in the last quarter.

The problem for dinosaurs: if the meteor doesn’t get you, the (dust) cloud will.

Image: IBM Sales Team, Yucatan Penisula, 66 million years ago