Most every good company changes while great companies evolve. Is IBM a good company or a great company? As one of the oldest information technology-based companies in the world, it’s doing pretty well—even if its current success has a tendency to get stuck in the throats of IBM i-lovin’ professionals.

Consider IBM’s financial performance. In a generally lousy economy, IBM has managed to turn in some impressive gains. Overall, hardware sales have been less than stellar, but services and software have more than made up for any hardware slides.

For instance, take the second quarter of 2009: IBM delivered $2.32 of earnings per share, up 18 percent year to year. IBM generated more than $4 billion of cash from operations, ended the quarter with $12.5 billion in the bank, and returned $2.4 billion to shareholders, with $700 million in dividends and $1.7 billion of share repurchases. IBM now expects to generate at least $9.70 of earnings per share, which is up 50 cents from the company’s previous estimates. Sure, some of this was created by a strategic use of layoffs, a.k.a. resource management and global hiring, but the fact remains: IBM has been doing what its shareholders tend to ask, which is make money and bigger profits.

“This is the result of the strategic transformation of our business,” CFO Mark Loughridge told investors this summer.

Boiled down, IBM is working to provide high margin services and software through a nimble global workforce. “Margins are fueling our profit growth,” Loughridge noted. “This quarter, our strategic outsourcing signings were up 38 percent at constant currency, and our key branded middleware revenue, now 58 percent of software, grew 5 percent at constant currency.”

Is IBM Still a Hardware Company?

Back in the mid-nineties, IBM was very much associated with the hardware it produced—the AS/400 and then iSeries, of course, but also its mainframes and burgeoning AIX and Windows boxes. Regardless of the operating system, it seemed as if IBM’s strategy was all about solutions centered around the hardware—start at the core and build out from there.

But that’s a hardware-centric reputation, and while it might still exist in the hearts and minds of those who enjoyed the heyday of the AS/400, is it part of our current reality?

“Not really,” says Rob Enderle, principal analyst for Enderle Group. “IBM has shifted its business model to focus more on software and services. In terms of contributing to the bottom line, it is these two areas that appear to make up around 90 percent of the mix now. IBM is no longer Big Iron, it is more Big Software, arguably second only to Microsoft, and in services they are second to no one.”

The service sentiment is shared by IDC, by the way, which for the second year running, ranked IBM as the top worldwide IT consulting vendor in terms of revenue.

Of course, IBM has been focusing on software and services for quite some time, but are we now entering a phase where IBM has transformed its foundation of expertise to services offerings rather than the hardware and operating systems that support a business need?

“If you go back to the 90’s, our gross margin was declining, with increasing pressure from commoditizing products. This was a massive headwind for us, which impacted our ability to reinvest in the business. Since then, we exited commoditizing businesses, including HDD’s in 2002, PCs in 2005, and printers in 2007—which represent nearly $15 billion of annual revenue. In that same time, we acquired over 100 companies for $20 billion. This has clearly accelerated our shift to higher value capabilities,” Loughridge told investors.

“We are investing in capabilities that will differentiate IBM in the future and accelerate the development of new market opportunities. For example, in support of Smarter Planet solutions, 25 percent of our research projects are dedicated to these initiatives which take IT well beyond its traditional data center boundaries. This requires both unique technical capabilities and skills, in areas like healthcare, transportation, telecommunications and utility systems,” Loughridge added.

“From 2000 to 2008, the profit from software and services combined almost doubled,” Loughridge noted. “In 2009, we’re continuing to drive solid profit growth in software and services. In fact, we expect both software and services PTI to grow double-digits this year.”

As for the financial performance of hardware, it was down 26 percent year-to-year, and while IBM believes that dip was in line with the decreases seen by other hardware manufacturers, IBM gained market share in the Unix space for the fifth consecutive quarter. System p declined 13 percent overall (which includes IBM i Power Systems), while System x dipped 22 percent and storage dropped 20 percent. System z revenue declined 39 percent (though that’s compared to a huge quarter in 2008). The point? IBM was able to increase services and software revenue while hardware revenue plummeted. And IBM, like most public companies, is built to chase money. So in which direction will the company choose to evolve?

The Foundation Is There . . . Somewhere

So where did the foundation of IBM go? The company is still producing mainframes, and while IBM i doesn’t get a box to call its very own, it runs on IBM’s best midrange hardware, the Power Systems line.

“Delivering highly flexible, multi-platform computing solutions tailored to specific business and application needs—what IBM calls fit for purpose—is a fundamental reality at IBM,” Charles King, principal analyst for Pund-IT, explains. “This concept is diametrically opposite from the one-size-platform-fits-all-purposes approach favored by x86-centric vendors. And as its competitors shift more and more toward x86-based technologies, IBM’s position becomes clearer. In this scenario, software and services provide the decoration on the hardware foundation. You can’t have one without the other, but pile things on thick enough and the foundation becomes obscure.”

So where is this foundation? Take, for instance, IBM’s Smart Market initiative, which IBM launched in the U.S. this summer. The program targets small businesses by creating an ecosystem for the purchase, service, and support of appliance-like IBM Smart Cubes that run pre-packaged applications. These units are really cool, and they run IBM i (rock-solid, low-maintenance) and Linux (cheap and also solid). Yet, it takes an awful lot of work to figure out what hardware and OS a customer might actually purchase. The presumption is that SMB-sized customers don’t care about the hardware or OS, just the applications and IBM for the trouble-free service and support.

This strategy doesn’t seem to be terribly off-base, but IBM could also promote the rock-solid, no-maintenance reliability of IBM i and at the same time offer a box with a pre-configured Linux partition and claim, “No matter what you want or how you grow, we can handle it.” But IBM is choosing not to clutter the messages with the hardware and OS details.

For customers bigger than the little Smart Market targets, IBM introduced a new Smart Analytics System over the summer, which IBM bills as the industry’s first comprehensive offering that brings the power of analytics to clients in just a matter of days. IBM says it is “taking advantage of its unique combination of software and hardware technology, industry knowledge, research math sciences and services expertise to help clients make more informed decisions faster than ever before.”

While IBM mentions “hardware” in its announcement materials, the company doesn’t actually say what the hardware is. Here’s a bit more detail: “The Smart Analytics System is a single, fine-tuned system optimized with the right balance of software, systems and storage capabilities for deep analytics computing workloads. It can uncover insights and hidden relationships among massive amounts of data—not just structured information found in databases, but unstructured and incompatible data from such diverse sources as videos, emails, Web sites, podcasts, blogs, wikis, archival data and more,” IBM noted. IBM even hinted that hardware existed but never actually identified it. “The Smart Analytics System can harness the power of analytics to solve complex business problems as much as three times faster than other systems, while requiring up to 50 percent less storage—saving both floor space and energy.”

The Cloud and Big Contracts

Anyone who’s been watching IBM for the last few years surely has seen a shift in the type and kinds of announcements the company makes. IBM is a huge corporation, of course, but the bulk of its announcements seem to be shifting toward services and contracts—bragging rights and messages to Wall Street analysts in the form of press releases touting the latest big wins. For instance, late this summer IBM bragged about a contract with JVC KENWOOD Holdings, Inc., for a 2.6 billion yen, six-year strategic outsourcing contract with IBM Japan for the management of its IT systems and shared hosting services. Granted, in U.S. dollars, that’s just about $27 million or so, but there’s another twist: JVC KENWOOD Holdings will leverage cloud computing to create a dynamic infrastructure that acts more like the Internet to allow access to vast pools of technology resources during periods of high volume, IBM noted. The new system will use IBM’s Shared Hosting Services for IBM System z mainframes (zSHS) and will be hosted out of IBM’s data center in Makuhari, Chiba, Japan.

So IBM’s hardware foundation is a mainframe that IBM is running itself and providing access to via the so-called cloud.

IBM Will Still Talk Hardware

As IBM rolls out new hardware, the company will still announce it and brag about it. Most recently, this was a summer announcement of a new virtualization management solution and the ability for companies to upgrade to new POWER7-based processors when they are released in the future. IBM didn’t mention any release dates, and the move was clearly an incentive to get customers to buy POWER6-based hardware sooner rather than waiting for the next generation of processors.

As savvy IT pros can deduce, IBM is not overly keen on having a customer base that spends money in fits and spurts—the nice steady stream of services-based payments is hard to resist.

“In many ways IBM is a company in the midst of major change, from the hardware company of its roots to the services oriented company of its future. Even with software, the shift is more and more to a SAAS model which has services at its core,” Enderle says. “In some ways this will likely be a back-to-the-future path for the company which was once largely supported by annuity based leasing revenue from hardware and services and may, in the future, be largely supported by annuity based revenue from software and services.”

IBM’s New Rep

While IBM’s reputation with long-standing IT pros might continue to hang onto its Big Iron hardware roots, how is its new reputation shaking out in the industry at large? What sorts of impressions do business owners and CIOs have of IBM these days?

“I think ‘reliable’ and ‘innovative’ are both fair impressions—the former is due to IBM’s steady performance during what most consider the worst financial crisis in a generation, and the latter is supported by the company’s continuing stream of commercial solutions and newly developed technologies,” King says.

Enderle has a similar take. “IBM remains one of the most trusted companies in the world, not yet where they were in their prime in the 70s and early 80s but vastly better than they were in the late 80s and 90s,” he says.

And how does IBM seem to be crafting its mindshare these days?

“Generally as the vendor you can most trust to do the difficult IT jobs,” Enderle notes.

What about IBM’s peer companies? How have they shifted over the years in comparison?

“Other vendors have been pursuing similar strategies, but I’d argue that only EMC has been entirely successful. Though HP has done well under Mark Hurd, the company’s efforts are spread more broadly—and some would say more thinly—than IBM’s,” King explains.

“For several years now, Sun has been a company in transition but with vague destinations. The Oracle acquisition—if it survives regulatory scrutiny—should help stabilize Sun but it won’t happen overnight,” he adds.

And Enderle’s take? “HP has shifted solidly into IBM’s one-stop-shop hardware centric role, Sun got caught halfway into transitioning into a software/services model and died in the no-man’s land in the middle, while IBM has largely completed the shift and their profit margins are reflecting the benefits.”

The New IBM

It’s hard to say IBM is new. Companies the size of IBM can’t get a haircut and buy a fancy wardrobe and claim a makeover—this stuff takes years. But, considering the many changes from AS/400 to iSeries to System i to IBM i on a Power System, hasn’t this all been one long, multi-year effort to simplify IBM’s hardware lines—including x86 and mainframe? And now, as virtualization is all the rage and unlikely to do anything but continue to proliferate, the underlying hardware may even become more obscure.

If overall hardware continues to scale faster than the organizations it supports and if the remote bandwidth that connects the clouds can continue to support workload after workload with little disruption . . . big box servers may become the gas guzzling SUVs of the IT industry—under fire for a dubious cost-to-value ratio. The real question isn’t if IBM will stop making hardware, the question is: When will more boxes ship to IBM locations than to customer sites?

Chris Maxcer [chris.maxcer@penton.com] is news editor for System iNEWS. “A little over a year ago my colleague Robert Tipton wrote an excellent article, ‘Where Are the Machines in IBM?’ on this same topic,” Chris says. “Bob took a close look at IBM’s shifting financials to make his case, whereas now, I don’t think IBM is trying to claim it’s a hardware company at all. When Loughridge is talking to investors about ‘transformation’ and ‘margins’, he’s clearly shouting that IBM is a different kind of company than what people may yet still perceive.”