On Wednesday, IBM officially reported earnings, and the news was as bad as everyone knew.
The 115-year-old company still generates a ton of cash – $17.2 billion in revenue, $9.9 billion in gross profit, margins of about 58% and net income of $2.2 billion – but its results have fallen far short of Wall Street’s expectations.
It was such a huge mistake that IBM CEO Arvind Krishna and the board took the unprecedented step of warning investors in advance that earnings were “worse than our expectations” and giving everyone a preview.
He released a “Letter to Investors” last week sharing preliminary results. It warned that profits from the company’s most important “infrastructure” division would be poor and said profit margins would also take a hit. The company’s stock price immediately plummeted 25%, the largest one-day decline ever. Until then, the stock had performed well, helped by the AI data center boom that was lifting all boats under Krishna’s six years of leadership.
IBM on Wednesday also lowered its full-year growth outlook. That means this terrible quarter will carry over into the rest of the year. Who is the culprit? IBM’s cash cow mainframe business fell 42%.
As CFO Jim Kavanaugh explained on his quarterly call with investors, it’s a cascading problem. That’s because IBM earns $3 in software revenue for every dollar of mainframe hardware it sells.
But the CEO and CFO insisted throughout the call that this was a temporary problem and that things would get better soon.
They said “dozens” of customers who had planned to buy new mainframes this quarter decided not to do so. It may not sound like you have that many customers, but mainframes are systems that cost hundreds of thousands to millions of dollars, and generate millions more through maintenance contracts and software.
The same AI boom that lifted IBM’s ship also sunk it.
Krishna explained that instead of purchasing a new mainframe, these customers purchased other hardware. They faced astronomically high cost increases of 15 to 30 percent in data center equipment and PC costs.
“When we faced that problem, we decided to shift our budget to areas where prices were too high,” says Krishna.
Enterprise hardware manufacturers such as Dell and HP have warned that prices will inevitably rise due to rising costs of components such as memory due to the AI deployment boom. Apple also said the same thing.
But Krishna promised that these customers will eventually purchase new mainframes along with new software contracts. In fact, he said some of them have already done so this quarter. “There is no evidence that clients are moving away from mainframes,” he said.
We’ll have to wait. But the technology industry has been predicting the demise of the mainframe for decades. Maybe not even AI can kill it.
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