Will the low US dollar help IBM in its quest to hit the $1bn revenue figure in 2004?

Rethink IT, Jan, 2005

MARKET OVERVIEW

With the year end rapidly approaching, IBM was pushing to close as much business as possible with the apparent objective of hitting the 'magic' $100bn revenue figure for 2004. A figure first anticipated by IBM in the 1980s when inflation was measured in double digits and rapid revenue growth was therefore easy. (Figures will be revealed in February.)

In fact, it is no coincidence that the target once more seems realistic for external reasons this time the weak US dollar. A worldwide financial situation that sees each unit of foreign currency generating as much as 30% more US dollar than in the early 2000s.

The main actions that I saw from IBM (within the mainframe area in particular) to enable them to hit this $100bn revenue figure were:

* A slow down in price reductions within zSeries and 'sky high' z900 upgrade prices as IBM exploits its competitive position (ie no competition in this segment)

* Special storage offers to increase volume

* Long term software deals with high OTC content to bring forward revenue

Of course, with the exception of the first item, the other two items are good for the users and allow them to benefit from IBM's requirement to increase revenues. However, users purchasing zSeries processors were able to push a little harder to get a better price and not give in to the pressure as IBM was likely to 'crumble' at the last minute in late December as its target began to look too ambitious.

In simple terms this resulted in IBM reducing prices by 10% or more for those last minute orders if the user could also take delivery before year end. And remember, taking delivery does not mean actually installing the system, as IBM will be more than happy to let the user continue using the old equipment for a month or so into 2005.

With regard to my expectation of a new mainframe processor to replace the T-Rex (z990) in the first half of 2005, it is interesting to note that IBM recently changed its SoD (Statement of Direction) for LPARs on the zSeries from "to support up to 60 LPARs on z990" to "IBM now intends to support greater than 30 LPARs on a future zSeries server". It is the change from "z990" to "future zSeries server" which is significant, not the change from "up to 60 LPARs" to "greater than 30 LPARs".

This means there will probably be no improvement for the z990 but an improvement for its successor. Wily would IBM announce this change now if the successor was not very close? But more damaging for the users is the fact that they clearly need protection when investing in the z990 in the interim with its successor imminent and clearly likely to have new functionality that will never be retro-fitted to the z990.

Users should insist on such protection and not be put off by IBM claims that there is no z990 replacement planned!

THE PRICING IMPACT OF EXCHANGE RATE MOVEMENTS

In the distant past it was quite normal for experienced users to buy their systems and storage in another country if the pricing in that country was lower. This was called 'cross border' shipping and was something that IBM tried hard to prevent, but with little success in the days of the strong leasing industry and third party maintainers.

In fact, with the decline of the leasing industry and the virtual elimination of any serious third party maintenance alternative for new equipment (all cleverly managed by various IBM marketing strategies over the years), such 'cross border' purchases had all but disappeared. This was also due to IBM trying quite hard to keep pricing level on a global basis. Of course this was only 'level' when viewed at the price level attained by the best negotiators, as even within one country some users were paying twice as much as others.

But recent swings in exchange rates have played havoc with IBM's strategy.

For example, let's look at just the US, the UK and the Eurozone. From 2003 to 2004 the exchange rates have moved as shown in the following example, which would have resulted in the pricing shown if the US price had declined by 20% (a relatively normal annual rate of decline these days).

                                                $US/UK
                      UK [pounds               [pounds
               $US     sterling]     Euro    sterling]    $US/Euro

2003         1,500         1,000    1,500        1.5         1
2004         1,200           640      906        1.875       1.325

The problem is that this would result in a reduction of 36% in the UK and 40% in the Eurozone.

                      UK [pounds
               $US     sterling]     Euro

2003         1,500         1,000    1,500
2004         1,200           640      906
Reduction      20%           36%      40%

Of course, IBM could have allowed this to happen, but the problem it would have created should the US dollar rapidly return to the former level would be immense, with a huge decline in the total revenues when reported in US dollars (as they are in fact reported).

Another approach would be to leave the US price unchanged--that is no annual reduction--and keep the European prices in line with the exchange rates. Then the UK annual reduction would be just 20% and the Eurozone reduction a still not un-acceptable 25%.