Just in time for IBM's (IBM +2.06%) fourth-quarter earnings report, which drops down after the closing bell on Tuesday, business analyst firm Technology Business Research delivered a fresh report on Big Blue's painful transformation.
TBR analyzes technology firms from a business-focused point of view, and is more interested in IBM's relationships with customers and suppliers than in shareholder returns. That, of course, makes TBR's report a great starting point for the right kind of investing research. Earnings and stock returns tend to get all the glory, while the business reasons behind these figures get swept under the rug. The best investors start with the business and then work toward the numbers.
IBM CEO Ginni Rometty has her eyes fixed on the far horizon. Source: IBM.
The back story
IBM shares fell 14% in 2014 while the S&P 500 (^GSPC +0.11%) rose 12% higher. The stock plunged because the company is reinventing its business model, and the results along the way have not been impressive. In particular, IBM admitted that it would miss key targets in its long-term plan this year, triggering a massive price drop in October.
Big Blue followed up with an internal reorganization at the beginning of January. In TBR's view, the new structure sets IBM up to win in the long run. "This reorganization begins the road to redemption," according to the report.
In the new paradigm, IBM is breaking its monolithic operating model into six smaller divisions. These new segments are not built around specific products, but around various classes of customer needs. For example, the new systems group will manage products and services formerly belonging to a plethora of hardware and middleware divisions. Anything related to building a basic information-technology infrastructure will belong to the group.
The analysis
The idea is to streamline development and sales processes with customer needs in mind. TBR said IBM is presenting a "unified" front to customers now. "What previously required coordination across different groups within IBM is now restructured to speed the time to value for customers," the report states. The sales force remains the same, but IBM customers get deeper access to Big Blue's expertise in each particular area.
Finally, the reorganization comes just as IBM is unloading its x86 server systems business to Lenovo. If the business structure and customer relationships were due for a system shock anyhow, it just makes sense to rip all the bandages off at once.
My take
Rebuilding a century-old business is no easy task. IBM CEO Ginni Rometty is balancing what worked in the previous era of enterprise computing against a whole new slate of demands in the next cycle.
So the old two-tiered combination of hardware and software solutions is going out the door, replaced by a more flexible, mobile, and tailored computing model. IBM was a leader in the old landscape, and hopes to stay at the head of the pack as the market evolves.
That's exactly what this reorganization was designed to do. IBM's changing business model fairly closely replicates changes in the overall IT market. That's the good news.
The bad news, of course, is that big changes hurt. IBM is sacrificing both profit margin and sales volume during this difficult transition.
IBM Revenue (TTM) data by YCharts.
TBR's analysts would say it's the right decision. The new IBM looks much better prepared to deal with the business demands in the era of mobility everywhere, the Internet of Things revolution, and increasingly specialized computing needs for every new customer.
That brings us back to my introduction. The business will always drive the numbers, and not the other way around. If that leads to temporary discounts on the stock, I'm not complaining.
IBM has survived and thrived for over 100 years, through World Wars and recessions, often taking on new technology that would destroy Big Blue's core business, and a myriad other challenges, precisely because the company was never afraid of change.
Shareholders who suffered through a difficult 2014 might say Rometty is failing in her duties. On the contrary -- she's doing exactly what must be done if IBM wants to survive another decade, much less a century. Short-sighted investors punished IBM's stock, creating a nice buy-in discount for those who see value in the new strategy.
TBR said IBM's long-term story still looks good from a business perspective. I'd say the same thing about Big Blue's long-term investment appeal.
I don't own IBM shares, but that might change if the stock drops any further without good reason. Keep an eye on Tuesday's earnings report for more detail on IBM's new structure, and watch for market overreactions to short-term pain points.
