Power Systems Keeps Growing Against A Tough Compare

July 22, 2019 Timothy Prickett Morgan

This time last year, Big Blue was just starting to ship Power9-based systems for the “Summit” and “Sierra” supercomputers built for the U.S. Department of Energy’s Oak Ridge National Laboratory and Lawrence Livermore National Laboratory, and that gave the Power Systems line a revenue bump through the third and fourth quarters of last year. There is no such big deal this year, although IBM has sold a baby version of these machines – if you consider the 25 petaflops “Pangea III” supercomputer small – to European oil and gas giant Total.

That deal with Total surely helped IBM make its numbers for Power Systems for the second quarter of this year, but the line is seeing broad adoption across small, medium, and large enterprises with systems ranging across those t-shirt sizes to match the computing needs. And so, the Power Systems line can now say that it has turned in six straight quarters of growth.

To be specific, Jim Kavanaugh, IBM’s chief financial officer, said in a conference call with Wall Street analysts going over the second quarter numbers that the Power Systems line had 3 percent growth in constant currency – meaning aggregating the growth from booking deals in local currencies in the 170 countries where Big Blue does business.

“Our enterprise clients are increasingly looking to adopt hybrid cloud strategies, backed by the performance, resiliency, and security capabilities of IBM Power9 to help optimize everything from supply chains to sales,” Kavanaugh said in his brief explanation of what was driving sales for Power Systems. That’s not much detail, although Kavanaugh did mention that sales of big iron to run SAP’s HANA in-memory database behind its ERP applications help drive revenues, and also that Linux on Power continues to rise. Mind you, IBM always talks more about the System z platform because it still drives so much of the company’s revenues and profits – considerably more than Power Systems. In this quarter, where the System z14 mainframe cycle is totally losing steam – revenues were off 42 percent as reported and IBM does not give out aggregate MIPS shipped data anymore but it is probably off about half that rate – the company nonetheless booked slightly more money for System z hardware than for Power Systems iron and it is usually around twice the rate when a new set of product lines comes out. The software and services revenue stream atop System z platforms is even larger, and brings IBM billions of dollars each quarter in one form or another.

When those Power Systems sales in Q2 2019 were converted across to US dollars, the sales rose by only 1 percent – not the kind of growth that we have seen in prior quarters, but growth just the same. Here is the trend for growth of Power Systems sales in constant currency and in reported financials since the 2010, just so you can see this visually:

In our model of IBM’s Power Systems revenues, which makes use of these growth rates, we reckon what iron IBM was sold to other IBM divisions as servers, what systems were embedded in IBM storage products like the DS8800 series of high end arrays, as well as to external customers buying Power8 and Power9 systems as well as capacity upgrades in the installed base. IBM doesn’t provide such precise data to investors, which is why we have to create our own model to have some sense of what is going on.

In our model, Power Systems revenues for systems sold externally as well as those booked internally to other divisions – but not including gear sold to Global Business Services for hosted customers, which is tracked separately and not reported – rose by that 1 percent to $518 million in the second quarter. We reckon that IBM sold another $48 million in Power-based iron to its Storage division for use in storage arrays, and that this fell by 22 percent along with the overall storage business. Add it all up, and total Power Systems hardware sales were off 1.5 percent to $566 million. For the first six months of 2019, we reckon Power iron for servers and storage generated $867 million, flat from the same period in 2018, which all things considered is not that bad. Here’s the bar chart we created for Power Systems server and storage revenues since 2010:

Obviously, IBM has seen some pretty big declines in recent years, but the trend has been favorable in the past year and a half and is consistently growing in a very aggressive market dominated by machinery based on Intel Xeon and now AMD Epyc processors.

Officially, IBM’s Systems group had external sales of $1.75 billion, down 19.5 percent as reported, with another $171 million in sales from the System z, Power Systems, and Storage divisions to other IBM groups, which was down 29.3 percent. Total sales for Systems group were $1.92 billion, down 20.5 percent. Pre-tax income for Systems group fell by a large – but expected – 82.4 percent to $61 million. Kavanaugh attributed this decline to increased investments in the future System z15 processor and companion system, which is expected later this year, and did not mention Power10 processors, which are expected next year. We are working on trying to figure out more about the Power10 chip, so stay tuned and don’t get nervous just because Kavanaugh did not mention Power10 specifically in his comments.

The Power Systems line did better than IBM did overall during the second quarter. IBM’s overall revenues fell by 4.2 percent, to $19.16 billion, and pre-tax income fell by 0.3 percent to $2.77 billion, with net income up 3.9 percent to $2.5 billion.

Big Blue has a much larger systems business than it lets on, of course, and we have also been tearing apart its numbers and putting them back together to reckon the size of this base systems business. This part of our IBM financial model does not include database software or high end middleware, but just the core hardware, operating systems and transaction processing middleware, integration software, tech support and other services, and financing for IBM’s own systems. (IBM is, by the way, winding down its financing of the IT gear from other vendors – something that Kavanaugh mentioned was in process and that we did not know about.)

By our estimates, this real IBM systems business accounted for $6.56 billion, up a smidgen but under 1 percent in the quarter; we think that gross profits for this real systems business fell by 27.3 percent to $2.62 billion in the quarter as System z14 revenues fell and storage array sales fell and Power Systems could not fill in the gap when IBM was spending money on System z15 and Power10 development as well as chip manufacturing development with new fab partner Samsung. The Red Hat acquisition will help IBM bolster its systems business considerably – particularly with revenues from operating systems and middleware, but it is not enough in the short term to get the overall systems business up where it was a decade ago. But over the long haul, the combination of the Red Hat stack plus the IBM Cloud could start generating a lot of cash. We shall see.

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