IBM's second quarter earnings report beat the estimates of analysts, but just barely. And that''s about the only good news that IBM had to offer during this disappointing economic time. It reported declining revenues and profit and warned that its expectations for the rest of the year have been downgraded as IT customers delay or shelve plans to buy new equipment, software, and services.

"Revenues in the second half won''t pick up as much as everyone thought 90 days ago," John R. Joyce, the chief financial officer, said in a conference call with analysts. And though software and some hardware segments had stronger sales than some analysts predicted, IBM said that most of the gains were not in demand, but in market share.

WebSphere/DB2 Bright Spots

IBM''s strongest performance came from the sales of WebSphere and DB2 software, where revenue increased 8% to $3.3 billion. By comparison, IBM's microchip operations are continuing to struggle, and they''ve became the target of the company''s restructuring efforts. IBM expects its newest chip factory to begin operations later this year and is expecting a sharp rebound in profitability as it closes older money-losing factories.

The 2^nd quarter report of returns maps almost precisely to the scenarios that analysts had been expecting during this IT recession as customers reevaluate their priorities in the purchase of hardware, software, and services. When times are uncertain, customer capital investments in hardware will lag, and budgets for services all but dry up. However, software purchases may continue at a reduced rate as customers work within the defined limits of their existing systems, making modest investments where they are needed. The fact that IBM beat analysts'' predictions is a measure that its strategies for maintaining profitability are continuing to bear fruit.

Too Much IT Capacity Spells Troubled Future

However, the underlying weakness in IT demand has many in the industry concerned. In difficult economic times, companies have historically used technology to gain strategic advantage over competitors. The fact that there is still so much unused IT capacity two and a half years after the buying spree of Y2K and the collapse of the dot-com industry is a major problem. Unless the economy rebounds quickly, companies may be content to consume the computing horsepower that they have already purchased. And with so much hardware available in the used marketplace at substantial discounts, IBM and others will need to create substantial incentives to convince customers to buy new.

This economic pressure, combined with the continued trend toward commodity pricing of hardware, requires that IBM dig deeply into its roots as a technology company to bring forth newer technologies that can make a difference to its customers. Such technologies include IBM''s second generation Surface Laminar Circuit (SLC) "flip chip" packaging that it announced on July 15. The new SLC packaging technology is designed to support higher performance and more complex chip designs. However, these kinds of technologies--technologies that are important to the manufacture of IT equipment--will have little impact in a weak customer-driven marketplace.

Software: Gaining Market Share

On the software front, IBM''s continued focus on Linux, WebSphere, DB2, Tivoli, and the collaborative software products from its Lotus division should continue to propel IT customers along the trajectory that will benefit IBM. But in these weak economic times, all IBM seems to be doing is gaining market share at the expense of its competitors. This seems to point to a certain lack of momentum.

Indeed, looking at the Lotus collaboration suites, IBM says it is locked in a dead heat with Microsoft. It has offerings in products like SameTime and QuickPlace--products that, at some previous time, might have propelled it ahead of its nearest competitor. However, with IT investment so weak, companies are viewing these collaborative services with a jaundiced eye: If it doesn''t directly impact the bottom line of the organization, the decision to purchase will be deferred.

WebSphere and DB2, by comparison, are gaining ground on the middleware front against the failing strategies of IBM''s competitors. Of the two brand offerings, IBM''s WebSphere seems to be getting all the marketing attention, but DB2 has made substantial technological advancement over the past two years as well. These middleware products are slipping into organizations as part of the IT infrastructure beneath the radar of management, and a lot of their success on paper is the result of IBM''s reorganization of branding strategies. Often, they are incremental infrastructural enhancements to current systems, not major new IT projects.

Future Warnings

Squeaking by the expectations of stock market analysts may not be the best strategy for growing the business, but after IBM''s 2^nd quarter announcements, its stock climbed briefly and then stalled. In comparison to other companies in the IT sector, IBM is holding its own. What is not clear, however, is where the entire IT sector will be headed over the next 18 months.

Clearly, analysts have grown accustomed to the double-digit growth that characterized the IT industry in the 1990s. But the industry as a whole has never faced the kinds of challenges it is experiencing today: commodity pricing, excess customer capacity, and the lack of a clear technological pathway into the future. And how IBM and others chart that path for customers will certainly be more important than how it impresses the stock analysts. If IBM can move itself back into the position of being a strategic partner with its customers--instead of a stock analyst's' best friend--its fortunes will improve dramatically. Getting back to that basic customer relationship, however, will probably take more than a single financial quarter to achieve.

Thomas M. Stockwell is the Editor in Chief of MC Press, LLC. He has written extensively about program development, project management, IT management, and IT consulting and has been a frequent contributor to many midrange periodicals. He has authored numerous white papers for iSeries solutions providers. His most recent consulting assignments have been as a Senior Industry Analyst working with IBM on the iSeries, on the mid-market, and specifically on WebSphere brand positioning. He welcomes your comments about this or other articles and can be reached at This email address is being protected from spambots. You need JavaScript enabled to view it..