The Great IBM Software Gamble

With an 83 percent profit margin, IBM’s Software Group accounts for more than one-third of the company’s overall profits. Small wonder then that IBM is betting big on software— touting its on-demand model, embracing Linux, and extending its tentacles into the SME segment. VAL SOUZA analyses the company’s software strategy and places his bets on where it could all lead

Software is the glue that makes the whole on-demand environment come together and work, says STEVE MILLS

Quick! What’s the first thing that comes to mind when you hear the word ‘IBM’? Well, if you’ve been in the industry for a while, but haven’t been monitoring developments with a fine-tooth comb lately, you’re probably likely to answer “Mainframes” or “PCs” or something connected with “Hardware” in some way.

But get this: Last year the world’s largest computer company amassed over $13 billion worth of revenues in software alone, second only to Microsoft in the software products sphere. And now it wants more. Big Blue is flexing its gigantic machinery worldwide to drill down into new reservoirs of software revenue. Highly successful in large enterprises with its four software ‘brands’—WebSphere, DB2, Tivoli and Lotus—IBM is now setting its sights on the vast mid-market, a segment dominated by Microsoft. The recent acquisition of development tools leader Rational Software for $2.1 billion adds further firepower to IBM’s software arsenal.

On-demand computing
Aggressively and relentlessly pushing open standards and backing Linux, IBM’s been trumpeting its e-business on-demand paradigm of computing, wherein organisations structure their IT infrastructure in such a manner that they become scalable and flexible to the point they can follow a pay-as-you-go ‘utility’ model for the computing power and resources they need. All this while seamlessly integrating all systems and platforms within the organisation, as well as with partners and customers.

No one’s a bigger champion of the on-demand model than IBM CEO Sam Palmisano, who’s confidently picked up the baton from previous head Lou Gerstner. While Gerstner pulled the company up from the brink of break-up and possible extinction to the position of strength it enjoys today, Palmisano is blazing trails of his own, keen to take IBM back to the pinnacles of pre-eminence that it enjoyed through much of the last century—defining the computing paradigms for the rest of the industry to follow. The on-demand bet is a big one—well over a billion dollars of the company’s $5 billion budget has reportedly gone into this one, backed by an $800 million marketing campaign as well. Overall, the company has committed $10 billion towards realising the e-business on demand dream.

And software is the core enabler of the on-demand e-business environment. Says Steve Mills, IBM’s senior vice president who heads the software group, “Finally, it’s all about software. Software is the glue that makes the whole environment come together and work.”

The idea of on-demand computing is in fact a natural progression and evolution of IBM’s e-business thrust over the last decade or so. On-demand brings together all the concepts that IBM has been weaving into its industry-leading software brands—self-healing autonomic capabilities, resource-sharing grid computing, cross-platform integration, resource virtualisation, open standards and Web services.

There’s no doubt that with IT spending coming under increased scrutiny and RoI the order of the day, on-demand is the best way forward. Says Gaurav Dua, industry analyst for IT at Frost & Sullivan, "On-demand is an excellent concept that can help organisations derive economic advantages. In the current economic climate, with a drastic reduction in IT spending, CIOs would be keen to scale up their IT operations based on measurable demand rather than getting influenced by sporadic economic cycles."

The cost benefits of tapping into IT applications, storage and bandwidth as per need are potentially tremendous. But Dua has a word of caution: "The on-demand computing model is still in its nascent stage, he says. "It would take another 3-4 years for this concept to gain momentum.

IBM is certainly not the only company that’s been banging the on-demand drum. Sun Microsystems has been making similar noises for quite some time now, first with Webtone and now with N1; Hewlett-Packard has its Utility Data Centre and Planetary Scale computing initiative; Microsoft talks of "software for the agile business." So who’s ahead?

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Says Dua: "On-demand is still an evolving market with few success stories. Presently, there is no clear winner in this space. There is plenty of competition in the marketplace with each vendor claiming to have the best on-demand strategy in place."

However, IBM seems to have packaged its marketing message the best so far; and from a technology viewpoint has several products under each of its software brands already adhering to its implementation of on-demand. Now all it has to do is get a totally integrated offering out the door before the competition does. Meanwhile, CEO Palmisano has ordered the remaking of IBM from within—he wants that the company itself should transform into a user of on-demand computing, as an example to customers.

On-demand for India
What does the on-demand paradigm mean for a country like India where most businesses fall into the small and mid-sized category, and computerisation often hasn’t reached the levels of complexity seen elsewhere?

IBM India’s managing director Abraham Thomas is convinced that on-demand is highly relevant for India. Says he: "Becoming an on-demand business is about changing the way you operate and reducing costs, serving customers better, reducing risks, and improving speed and agility in the marketplace. Size and complexity of businesses then become irrelevant. Whatever the size of your business, you need to follow the on-demand route to become successful. This is applicable to India as well. We are addressing the essence of on-demand with our customers, where they can use computing on demand rather than buy software, hardware and networking."

Steve Mills endorses this view. "The concepts of flexibility and adaptability apply regardless of business size," he says. "Small and medium businesses are probably more open to the idea of turning to a utility, to an outside provider for increasing their efficiency." Given that such organisations would be unlikely to have deep IT skills within, he feels that they would be better off outsourcing their entire IT setup. To IBM, naturally.

Betting on Linux
For on-demand to have any kind of chance of succeeding, it’s imperative that cross-platform interoperability becomes a reality. That’s why IBM’s working hard to make its software standards-compliant and pumping in money and human resources into just about every standards committee in existence. But this does not exactly come from a sense of charity. "We don’t do it because we are more generous than other corporations," explains Michel Bezy, a manager for worldwide marketing at an IBM software solutions division. "Rather, we know that if interoperability is total, if everyone can become an e-business and interconnect, that dramatically increases the total opportunity in the market for us to sell middleware."

ABRAHAM THOMAS says that becoming an on-demand business is about changing the way you operate, and reducing costs, serving customers better, reducing risks and improving speed and agility

One of the lynchpins of this open strategy is IBM’s wholehearted support for the Linux operating system across its hardware offerings, right up to the mainframe level. Steve Mills is happy with the Linux progress. "Last year we realised well over a billion dollars in revenue from the hardware, software and services that we provide that run on Linux and support Linux. It’s helping our business grow and in some cases it’s not helping some of our competitors grow—and that’s not all bad either."

Says Dua of Frost & Sullivan, "It's primarily the pull from the market that has prompted the company to get aggressive on its Linux initiatives so as to offer its customers the best solution to address their needs. Linux is likely to get adopted on various appliances, devices and even in the embedded space. Clearly, IBM would like to be in the forefront of technology and have a solution in place when the customer demands it."

IBM’s endorsement of Linux is clearly giving the open-source platform a lot of credibility, and large corporations the confidence to deploy Linux for mission-critical applications as well. Says Javed Tapia, Red Hat’s director for India, "Large organisations like IBM, Oracle, etc, have credibility and strength in the enterprise business space. Their taking up the cause of Linux usage will encourage corporates to use Linux for mission-critical apps."

The SME thrust
The segment of small and medium enterprises is new terrain for IBM. And it is approaching it with missionary zeal. Faced with near-saturation in its traditional large-enterprise playground, this is one avenue of growth that can prove to be highly lucrative in the long run. But here’s where Big Blue faces its strongest challenge as it encroaches on territory dominated by Microsoft, which is not exactly going to sit back and watch its share being snatched away.

IBM’s interest in this segment is borne out by the numbers. "From a small and medium enterprise standpoint, we believe that there are in excess of 100,000 potential customers in the range of 50-500 employees in the ASEAN region alone," explains Richard Smith, vice president for software channels at IBM Asia-Pacific. Further, on a global scale, the company estimates that there’s a $15 billion middleware market opportunity among 400,000 mid-sized companies.

But the strategy required to tap this market is completely different from that of IBM’s traditional stronghold. Smith explains that the company has developed special offerings of its middleware for this segment under the ‘Express’ brand name. These are not just stripped-down versions of the full-blown product, but incorporate features that the user segment actually requires, with competitive pricing and ease-of-use. "A little over 30 percent of our sales coverage resources within the IBM company are now focused on supporting this segment. Further, business partners and solution providers are key to creating value in this environment," explains Smith. "So if you consider business partners, independent software vendors developing localised solutions utilising IBM middleware, with a strong deployment of sales and technical support behind us, we can get the winning combination."

The SME segment in India is an important one for IBM. Says Smith, "The SME segment opportunity in India is clearly enormous. IBM is very very committed to India. We have increased our resource investment in India 300 percent over the last two years, both from a sales and support perspective as well as from a technical labs standpoint. Both local use and the exports potential are very important aspects for us."

The bottom line
IBM’s Software Group seems to be backing all the right horses, with its emphasis on open standards and weaving in platform-agnostic interoperability into all of its middleware products. The company is investing heavily in software, because its internal research estimates that by 2005, almost 60 percent of profits will come from software and services in the $1 trillion high-tech industry. Even now, although the IBM Software Group contributes just about 17 percent to overall revenues, in terms of profits that percentage shoots up to about 37. Thus the huge investments in on-demand ($10 billion); the SME thrust ($2.5 billion on R&D, $500 million on partner programmes); and, acquisitions of PricewaterhouseCoopers Consulting ($3.5 billion) and Rational Software ($2.1 billion), all seem justified. All of IBM’s software brands including the WebSphere Application Server, the DB2 database management software, the Tivoli network management suite and the Lotus collaboration tools are in positions of leadership in their respective segments. But in addition to internal technology, success of the on-demand model will depend upon how standards like Web services actually evolve in the coming months. And as for the SME segment, apart from all other factors, perhaps IBM’s success (or lack of it) here could well hinge on one small detail—Microsoft’s $43 billion cash reserve.

Additional inputs from Srikanth R P.