IBM to switch focus to software division

IBM embarked on another stage in its transformation on Thursday by pledging to derive half of its profits from software and double its revenues in emerging markets to $9bn by the end of the decade.

The goals underline IBM’s strategy of moving further away from old-style hardware and decreasing its reliance on its large technology services arm by focusing on the high-margin market for corporate software.

However, Sam Palmisano, IBM’s chief executive, told the Financial Times that the drive to boost profits in the software division would not put it on a collision course with the “big three” software groups: Microsoft, Oracle and SAP of Germany.

“We are not going after the space they are in,” he said in an interview. “We are going after the thousand of other [companies] in this very fragmented software space.”

Unlike its three major rivals, which have focused on creating vertically integrated “stacks” of software that operate at every level of a company’s system, IBM has focused on “middleware” that lies inside a corporate information technology system.

IBM, whose software business is the second-largest in the world behind Microsoft’s, says that its strategy offers companies more flexibility in overhauling and adapting their legacy systems.

The software division, which has been boosted by more than 50 acquisitions since Mr Palmisano took over in 2003, accounted for 40 per cent of IBM’s pre-tax profits of $13.3bn in 2006, up from 35 per cent in 2004.

In a meeting with Wall Street analysts yesterday, Mr Palmisano said that strong growth in the middleware market made it likely that the software division would account for about half of IBM’s profit by 2010.

The shift in the balance of earnings for IBM reflects its decision to abandon its origins by selling low-margin computers and printer businesses and move towards more profitable areas.

“We made a conscious decision to go and seek where the value was,” Mr Palmisano said.

He identified Brazil, Russia, China and India as a key source of revenue growth for IBM in the next few years.

He said the “irresistible forces of globalisation” would help IBM double its revenues from emerging markets, which were $4.5bn in 2006, by 2010.

The goal means IBM will have to increase emerging markets revenue at an average of 19 per cent a year between 2007 and 2010, faster than the 14-15 per cent over the past two years.

IBM employs more than 53,000 people in India, and 10,000 each in China, Brazil, Russia and eastern Europe. It is expected to announce the opening of a third research and development centre in Beijing next month.

IBM said it woud increase efforts to improve margins in IBM’s technology services business, which accounts for about half of its revenues and more than one-third of pre-tax profits, and continue to return cash to investors through share buybacks.

IBM shares closed 0.5 per cent lower at $105.31 in New York trading.