Sales Down 6% Annually Since 2011, IBM Is Full Of Business Line Dinobabies

IBM is in the news for executive memos which describe its older workers as “Dinobabies” who should be made an “Extinct species,” according to Bloomberg. A spokesperson’s said that IBM “never engaged in systematic age discrimination.”

These memos sadly reveal the condescending attitude of IBM executives towards its older workers. They are also rich with irony because in the last decade IBM has so badly trailed its peers that I believe it may never catch up.

That’s because despite 6% revenue growth in the most recent quarter, IBM’s business line dinobabies — its many moribund business units (most notably its computer hardware lines) — are still holding back its growth.

How so? Based on my research into what elevates the fastest growing tech companies above the pack, I see three reasons — based on examples below — that IBM risks slowly going extinct:

• IBM can’t set and reach double-digit revenue growth targets
• IBM can’t add significant revenue growth either from inventing new products from R&D or encouraging employees to create new businesses
• IBM can’t spur rapid revenue growth by acquiring companies

IBM did not respond to my request for comment.

IBM’s Age Discrimination Suit

IBM has reportedly dismissed plenty of workers over 40. While precise statistics are not available, ProPublica estimated that between 2012 and 2017, Big Blue “fired about 20,000 American employees over the age of 40, which amounted to about 60% of its total U.S. job cuts” during those five years.

Shannon Liss-Riordan, a lawyer who represents hundreds of workers suing IBM, filed a lawsuit — Lohnn v. International Business Machines Corp., 21-cv-06379, U.S. District Court, Southern District of New York — on February 11, according to Bloomberg.

Evidence in the lawsuit includes an incriminating email chain with names redacted. In one such chain, an IBM official describes a plan to “accelerate change by inviting the ‘dinobabies’ (new species) to leave” and turn them into an “Extinct species.”

Company officials also wrung their hands over IBM’s “dated maternal workforce” that “must change,” and expressed dissatisfaction with its relatively low share of millennial workers — a problem that it hoped to solve with the layoffs of older workers, according to the lawsuit.

An IBM spokesperson told Bloomberg that “the company never engaged in systematic age discrimination and it terminated employees because of changing business conditions, not because of their age. In 2020, the median age of IBM’s U.S. workforce was 48, the same as it was in 2010.”

In my humble opinion, IBM does not get what motivates young entrepreneurial talent. I cannot imagine why someone with the talent to turn their idea into a multi-billion dollar public company would work at IBM.

Simply ditching older workers will not do the trick. Nor, as I describe below, will its program to encourage employees to pitch business plans to a committee that promises to give their “startups” financial support.

IBM’s Solid Q4 2021 Report

IBM’s revenue from continuing operations rose 6% in the fourth quarter, according to CNBC. That’s far better than its 10 year revenue trajectory — down at a 6% average annual rate — in the decade ending 2021. During that decade, IBM stock declined at a 3.2% annual rate while investors in the S&P 500 enjoyed a 14.2% average annual increase.

IBM spun out Kyndryl — its managed infrastructure services unit during the quarter into a publicly held company. But that did not stop the company from beating investor expectations. Revenue of $16.7 billion came in $740 million above the analyst consensus while its earnings per share of $3.35 were a nickel more than estimates, according to CNBC.

IBM — which has not grown revenue this fast since the third quarter of 2011 — is telling investors of late to look for “mid-single digit revenue growth,” reported CNBC.

Arvind Krishna, IBM’s CEO, told investors that the company has $20 billion worth of “liquidity” which it hopes to use to acquire companies at lower valuations thanks to the stock market downturn. He also emphasized that IBM will spend the next decade trying to hire enough people with the right skills.

Since its earnings announcement, IBM’s stock has risen 4%.

How Fast-Growing Tech Companies Make Room For Innovation

IBM lags its peers in the race to sustain high revenue and stock price growth.

To put this in perspective, I found that between 2010 and 2020, 37 publicly-traded technology companies I track enjoyed average annual revenue growth of 21%, they generated an average net cash flow margin of 22% (more than twice the S&P 500’s 9.8%), and their stock prices increased at a 25.4% average annual rate.

IBM surpassed only one company — Xerox — out of these 37 companies ranked by average annual stock price appreciation during the decade. During that decade, IBM’s revenues declined at an average annual rate of 3% while its stock price rose at a mere 5.6% average annual rate.

Why has IBM fallen so far short of its peers? The top performing companies both meet short-term targets in their maturing core businesses and innovate — by investing in new products with greater growth potential.

Of the six ways that these companies make room for innovation, here are the three that I find most relevant for evaluating IBM:

• They foster explicit tension between beating short-term goals and adding revenue through employee innovation;
• They invent new products and extend them to new uses and customer groups
• They build a dominant marketing and sales force, acquire new products that customers crave, and use their go-to-market skills to scale the revenues of the acquired products.

IBM is deficient in each area — particularly when it comes to getting double-digit revenue growth from its efforts to do these things.

Why IBM Can’t Set And Reach Double-Digit Growth Targets

One of the most basic principles of successful publicly-traded companies is that they should set and achieve ambitious goals. For the high tech companies I analyzed, the most important of those is to achieve revenue growth in excess of 20% every quarter.

If a company sets and exceeds such ambitious growth goals and raises its forecast, investors bid up its stock price. A case in point is Sydney, Australia-based teamwork software provider, Atlassian — which sustained 40% annual revenue growth in the decade ending 2020 while its stock soared at a 53% average annual rate.

Atlassian holds people accountable for measurable outcomes – both in meeting short-term goals and in spurring new products that add meaningfully to revenues.

Atlassian pursues a two-track approach to achieving short-term results and creating the future. As I wrote in May 2021, it has a very focused process for achieving shorter-term goals. Moreover, it unleashes the entrepreneurial instincts of its people to identify and seize opportunities without waiting for someone to tell them what to do.

IBM has clearly fallen short when it comes to holding its people accountable for growth — in the past, IBM set ambitious goals and failed to achieve them. Such goals convinced Warren Buffet to invest in IBM some 11 years — a decision which he later regretted.

How so? As I wrote in November 2015, four years earlier, he announced that he had acquired 5.7% of IBM — betting $10.7 billion on Big Blue — a stake which increased to 8.2% at the time of my article.

When Buffett bought IBM, he justified the decision based on a specific financial target — to hit earnings per share of $20 by 2015. As Buffett said, “They have laid out a road map and I should have paid more attention to it five years ago where they were going to go in five years ending in 2010. Now they’ve laid out another road map for 2015.”

IBM was unable to execute. In October 2014, the company abandoned its roadmap to earn EPS of $20 a share by 2015 (employees had long dubbed it Roadkill 2015 because IBM regularly missed its revenue goals and tried to make up for that deficit by cutting thousands of jobs). In 2015, IBM reported EPS if $13.42 — 33% below its target.

By 2018, Buffett had given up on IBM. As he told CNBC, in February 2017 that he was more certain about Apple’s future than that of IBM. By July 2017, he said he lost confidence in IBM and roughly a year later, he had completely sold his IBM shares.

A key contributor to IBM’s inability to set and achieve double-digit revenue growth goals is its insistence on maintaining a corporate strategy of being a technology conglomerate rather than focusing on rapidly-growing industry segments which it dominates.

It is difficult to tell whether achieving such a focused corporate strategy is even feasible — partially due to its opaque and changing way of reporting its financial results.

Krishna — who forecast single-digit revenue growth in the first quarter of 2022 — has staked IBM’s future on the hybrid cloud which grew at 16% in the fourth quarter, according to the Wall Street Journal. Specifically, IBM’s hybrid cloud revenue rose to $6.2 billion.

On the basis of its fourth quarter report, IBM might also choose to keep its consulting unit (formerly called Global Business Services) which achieved 13% revenue growth to $4.75 billion in the quarter.

Were IBM to sell its infrastructure business (a unit that includes computer hardware) — whose revenue declined 0.3% to $4.41 — and its data and AI tools business which rose a mere 8.2% to $7.3 billion, IBM could be a faster-growing company — although much smaller than it is now.

But that leaves open the question of whether IBM can come up with new hybrid cloud and consulting services that customers will eagerly buy.

Why IBM R&D And Employee New Business Programs Don’t Generate Big Sales

In theory, there are two ways for companies to come up with new sources of growth as their current core products mature. They can develop new products internally or they can acquire companies that make the products that will spur new growth.

Top performing high tech companies develop new products based on their R&D and from programs that encourage employees to develop new business lines. Here are examples of such top-performing companies and how IBM compares.

R&D-Led Growth

Companies whose R&D people come up with significantly better ways for customers to achieve their goals have the potential to grow faster than their peers.

A case in point is ServiceNow, a Santa Clara, Calif.-based supplier of workflow management software that tops my list of fastest growing technology companies — with a 59.2% average annual growth and 44% stock price increase in the decade from 2010 to 2020. What’s more, it was highly profitable with a 2020 free cash flow margin of 30%.

ServiceNow’s initial product — developed by its founder and Chairman, Fred Luddy — helped IT departments streamline the workflow for responding to IT department service requests.

After the initial success, ServiceNow has extended into adjacent markets — including IT operations, human resources, and finance. ServiceNow has also added new technical capabilities — such as artificial intelligence and analytics — that customers wanted to buy.

As it aims to reach $10 billion in revenue, this 14,000-employee company sees growth potential from expanding to new customer groups (small and medium-sized businesses), new geographies, and new vertical markets — such as telecommunications, finance, healthcare, and manufacturing.

IBM’s ability to develop new products that spur growth have fallen flat.

As I wrote in 2016, its ponderous approach to developing new products makes it hard for IBM to innovate. In a nutshell, IBM executives set internal mandates for product development teams — such as building products that can be used by vision-impaired individuals or that they run on mainframes — regardless of whether there is strong demand for the feature.

While these requirements may have been important to some customers, internal mandates slowed down IBM’s ability to respond to more urgent and broadly felt customer needs

A case in point was IBM’s loss of market share in the market for identity management services.

Identity management service provider SailPoint’s CEO Mark McClain, who previously worked at IBM, told me, “Big technology companies [including IBM] acquire companies that make point products. [IBM] product managers focus on making the acquired products compatible with other [IBM] products such as database software and middleware.”

This internal focus puts IBM at a competitive disadvantage. As McClain said, “Their product managers don’t spend enough time listening to customers and if a customer wants new features, they struggle to get the engineering resources to respond.”

An IBM source I interviewed in 2021 echoed McClain. He described IBM’s product development process as “sluggish” compared to those of other software companies.

The reason is that IBM’s internal process requirements take precedence over urgently bringing compelling new products to market. “Everything takes just a bit more time and executive approvals than necessary. Every team is distributed across time zones and low-cost countries. Executives who are fighting to stay relevant exacerbate IBM’s weakness working across departments. [IBM expects departmental vice presidents to collaborate by sharing success] but no one wants to share.”

Until IBM can accelerate its product development process to bring products to market that customers value more highly than those of faster-moving upstarts, there is no reason to believe that Big Blue will grow fast enough to be a good investment.

Employee New Business Programs

One of the easiest ways for a company to make room for innovation is to create management processes that allow two inherently contradictory demands to coexist.

Specifically, such processes enable companies to respond both to quarterly pressure to exceed Wall Street growth targets and the longer-term need to add new products — the development of which requires investments that reduce short-term profitability.

This approach is only easy to implement if doing so is consistent with the CEO’s values. Atlassian’s scale gives those internal entrepreneurs access to resources that can help them turn a new product idea into a revenue-generating business. “As we get bigger, we hope our people have the connections within the company that they need to make it happen.”

By 2021, Atlassian had invented 14 different products by “looking at customer use cases and trends outside the norm.” To keep a new vendor from completely rethinking what it is doing, Atlassian operates “two easy, repeatable approaches that make room for employees to truly innovate — by solving their own problems or following the emergence of a fast-growing competitor,” Deatsch told me.

The first is ShipIt — a competition that happens four times a year. “People have 24 hours to develop any new idea. Our two CEOs actually compete in this. You have to build it and ship it. Jira Service came out of this process. It’s one thing to do this when you have 500 people — [Our co-CEOs] can say, let’s do it. But when you have 6,000 employees, you need structure,” according to Deatsch.

Atlassian also operates a process called Point A. As he said, “It’s not an incubator. It gives R&D and Go-to-Market people an opportunity to pitch new product ideas. We call them founders and once a quarter they pitch the ideas, get funding, and have six months to prove it could be a viable product. Four new products have been launched from this.”

IBM has encouraged employees to come up with new products and services. Sadly, those have fallen short when it comes to generating enough revenue to make a difference to its top line growth.

A case in point was IBM’s innovation jam. As Sloan Management Review reported, the 2006 version of this program engaged 150,000 IBM employees and partners to create new ideas that received $100 million in funding. Yet turning those ideas into significant IBM revenues was elusive.

IBM is still trying to spur new businesses through a process called Hyper Blue. As I learned from a February 11 interview with Jessica Ridella and Anna Kershisnik, CEO and COO, respectively of Conclude.ai, Hyper Blue is a new intrapreneurship program at IBM that aims to fund 10 companies developed by IBM employees to become $100 million startups.

Hyper Blue applicants supply their business idea, marketing plan, and team members and 50 to 100 of them are invited to pitch their idea to IBM general managers and vice presidents. Ridella and Kershisnik — who are operating Conclude.ai as full-time IBM employees — were invited to pitch the executives and were the seventh and last Hyper Blue business that that was funded.

Conclude.ai came from Ridella’s experience with the difficulty of managing sales expenses as an IBM security sales leader.

Before the pandemic, for example, a sales rep could spend, say, $125 per person to take a potential client out to dinner. However, once the pandemic hit, sales reps looking to strengthen customer relationships could not do in-person events so they tried to buy gifts for the customers — which are limited to $50 according to regulation.

Sales reps who were not aware of the regulations got into trouble if they, for example, bought customers a gift worth $125. IBM was not aware of the problem until after the event had expired. Not only did reps need to be terminated, but IBM was struggling to “engage distinctively” with customers.

Conclude.ai was the solution that Ridella and Kershisnik developed for this problem. They describe it as a gift platform for business-to-business sales reps — targeting a total addressable market that they estimate is worth $1.54 billion — that enables reps to engage distinctively with their customers while complying with regulations.

The cofounders are targeting an April 2022 launch for the service and they are in talks with 100 sellers employing 5,000 people which they hope to charge $125 per user per month.

While Ridella and Kershisnik have left their old roles, they are running Conclude.ai as full-time employees of IBM. As they told me, “We want this company to be successful and we are excited to use social media to market the service and capture this window of opportunity to get to market quickly.”

The ownership structure of the company has yet to be defined and it is unclear what will happen next “because it is so new and it is unclear whether it will be synergistic with IBM.”

Were all seven of these Hyper Blue businesses to reach their $100 million target, the added revenue would be meaningful. But there is much uncertainty — such as the strategic fit between these internal startup’s and IBM’s goals — about whether this program will add meaningfully to IBM’s revenue growth.

Why IBM’s Acquisitions Don’t Spur Fast Growth

Sometimes acquisitions can add meaningfully to high-tech company growth. In the 1990s, this approached worked well for network equipment marker, Cisco Systems which had a dominant marketing and sales force, acquired new products, and boosted their sales after the deal closed.

The strategy paid off. Between 1990 and 2000, Cisco typically acquired about 60 startups a year. in the 1990s, its revenues rose at over 40% a year and its stock soared at a 58% average annual rate — becoming the world’s most valuable company in September 2000.

As I wrote in The Technology Leaders, the idea worked because Cisco had built the industry’s most effective enterprise sales force. Cisco effectively outsourced innovation to startups and kept a keen eye on which ones were winning a bigger share of enterprise network equipment budgets.

As then-Chairman, John Morgridge told me in 1996, he had worked as a sales person for Honeywell and he saw that sales people were loyal to their customers. Therefore, if a new company came out with a product that their customers liked better, the sales people would leave Honeywell and sell the rival’s product.

Morgridge decided that to keep the best sales people, Cisco would need to acquire the upstarts whose products customers were buying. Cisco’s acquisition strategy propelled its growth.

Sadly, this strategy has not worked well since. In the decade ending 2020, Cisco’s revenue grew at a mere 2.1% average annual rate as faster growing competitors — such as Arista Networks have entered the market.

Meanwhile, IBM has had less success with acquisitions. While Krishna credits IBM’s success with hybrid cloud to his leadership of IBM’s 2018 acquisition of Red Hat, Big Blue’s acquisitions to build up Watson Health resulted in what was likely a money-losing divestiture.

IBM launched Watson Health in 2015 aiming to revolutionize medicine through AI, according to MarketWatch. After years of acquisitions — including $4 billion spent on acquisitions aimed at combining “patient records, medical literature, and medical imaging, and applying data analytics to the process,” IBM disposed of Watson Health.

Although terms weren’t disclosed, Bloomberg valued the deal “at more than $1 billion”— far less than what IBM paid for acquisitions. UBS analyst David Vogt was not surprised by the deal due to reports of ineffectiveness, the lack of significant revenue, and the 2020 retirement John Kelly, an IBM executive and Watson proponent, according to MarketWatch.

It’s great that IBM is trying to cut out its slow-growing businesses. But with IBM lagging far behind Amazon, Microsoft, and Google in cloud services, I question whether Krishna’s bet on hybrid cloud will boost its revenues at double-digit rates.

Source: Forbes