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IBM has head in cloud and feet in hardware

Three loud cheers and a couple of silent fist-pumps are in order for IBM chief executive officer Ginni Rometty and her top executives for giving up their 2013 bonuses after another less-than-stellar year of falling revenue, slipping earnings and weaker cash flow. It's a rare event when executives of profitable public companies leave money on the table – especially in tech land.

But it's a measure of the deepening problems IBM faces in the midst of its latest transformation. If the computer services powerhouse doesn't re-establish its credentials with Wall Street as a relatively nimble player able to carve out new paths to higher growth in a fast-changing environment, Ms. Rometty may be out more than her bonus payment by this time next year.

IBM's main problem is that it has failed to build a large enough footprint in such key new growth drivers as cloud computing, big data and wireless services, and also failed to bolster its other software-related businesses to offset the predictable decline of its traditional hardware business, including low-margin servers, mainframes, chips and storage devices. Overall sales have dropped for seven consecutive quarters, and hardware revenues have shrunk for nine in a row. A sharp falloff in such important emerging markets as China, Brazil and India – partly in response to slowing economies and cheaper alternatives, but also because of anger over U.S. government snooping – has further darkened a gloomy picture.

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Ms. Rometty and her crew have already trotted out the favoured financial engineering tricks to mollify investors, including billions of dollars in share buybacks – with more to come this year – to help IBM hit its target of $20 (U.S.) in adjusted earnings per share by 2015. Future executive bonuses depend on it. For fiscal 2014, the company projects at least $18 a share in operating profit.

Following the usual script, IBM has also slashed jobs. It will absorb about another $1-billion in what it calls "work force rebalancing" charges for more layoffs coming this quarter, about the same restructuring cost as last fiscal year. But as the company struggles with top-line growth, it has to go to plan B of its how-to-restore-our-bonuses strategy and shed more of its lower-margin activities, including its high-growth but low-profit server business.

IBM rejected what it considered a low-ball $2.5-billion offer from Lenovo Group Ltd. last year. But the Chinese computer maker is back at the table and offering less this time around. IBM would love to stoke a bidding war. Which may explain news reports indicating that Fujitsu Ltd. is also kicking the tires.

It might be easier to win U.S. government approval for a sale to the Japanese company or to Dell Inc., another computer maker changing its focus from fickle consumers to still-growing corporate and government markets. But this much is certain: IBM is an increasingly eager seller, as it seeks to bolster waning investor confidence.

Ms. Rometty rightly is betting a hefty chunk of IBM's future on surging corporate demand for cloud services, eliminating the need for costly storage systems and other hardware at its clients' locations. IBM, which spent $2-billion to acquire SoftLayer, a cloud computing provider, last year, saw its cloud-related revenue climb nearly 70 per cent to $4.4-billion. But what the company gained on one hand, it lost on the other, as sales on the hardware side plunged more than 25 per cent to $4.3-billion in the fourth quarter.

It's a tricky balancing act that IBM's chief executive will have to get right if she wants those bonuses restored soon.

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About the Author
Senior Economics Writer and Global Markets Columnist

Brian Milner is a senior economics writer and global markets columnist. In a long career at The Globe and Mail, he has covered diverse business beats, including international trade, the automotive industry, media, debt markets, banking and the business side of sports. More

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