TechPulse 360

Roger Kay, President, Endpoint Technologies

Quite often these days, people compare the results and business models of IBM and Hewlett-Packard (H-P) as if they were direct competitors. In truth, they do compete in several key areas, notably enterprise hardware and services. But in other ways, they are very different beasts.

Services help smooth IBM revenues, profits

Under Sam Palmisano, IBM has transformed itself into an enterprise services-led company, with that
division accounting for $39.3 billion or 38% of the company’s $103.6 billion revenue in 2008.

By contrast, H-P, even with the EDS acquisition, derived only $22.4 billion or 18.9% of its $118.3 billion fiscal
2008 revenue from services.

In many cases, IBM’s services division pulls the company’s other groups along in its slipstream. When an IBM services sales team wins an enterprise customer with a complex set of requirements, it is often able to bring the hardware, software, and financing divisions along as well.

Services have a way of smoothing out a company’s revenue picture.  Long-term signings create a huge pile of deferred revenue, which comes in handy during lean years like this one.  IBM’s financials reflect the steadying nature of its large services business.

Software sales provide high margin revenues

One area of extreme contrast between the two companies is software.  HP’s software group contributed only 2.5 per cent of revenue in 2008.  In contrast, IBM’s software division represented 21.2 per cent of revenue.  Software can be a high margin business and greatly contributed to IBM’s overall profitability in 2008, allowing it to garner pre-tax earnings of 21.5 per cent.  HP’s pre-tax earnings were only 10 per cent.

H-P is the king of cost-cutting but for how long?

The difference in the two companies’ earnings is more than a matter of cost management. HP CEO Mark Hurd is a master of cost cutting. No, it is in the fundamental nature of the firms that the difference lies. HP’s earnings are heavily weighted by commodity businesses. PCs, which contributed 35.8% of HP’s revenue in 2008, are a low-margin business. Much of the intellectual property in the PC business is commonly licensed by a horde of competitors, and margins are only going down further from here. IBM sold its PC division to Lenovo in 2005, getting out from under an increasingly commoditizing industry.

IBM margins are better than H-P

Despite printers, however, HP derives less income from more revenue than IBM. While winning the revenue sweepstakes confers bragging rights, shareholders generally prefer profits. While HP has relied in recent times on cost cutting to achieve its profit goals, IBM continues to invest its strong cash flow in profitable growth.

Roger L. Kay is the founder and president of Endpoint Technologies Associates.