Services: Will the big bet pay off?
IBM leads the high-tech service industry but faces obstacles ranging from offshoring to making money.
Services: Will IBM's big bet pay off?
By Ed Frauenheim
Staff Writer, CNET News.com
June 15, 4:00AM PT
As Woods did his part, executives at the PGA Tour turned to IBM to capitalize on golf's revitalized popularity from a virtual perspective. The result was a service that allowed fans to track live play and follow more than 100 players at a time on 450 acres of courses, making roughly 25,000 shots per tournament.
Steve Evans, vice president of information systems for the golf tournament company, was particularly impressed with IBM's flexible advice on which technologies to use--whatever's best suited, regardless of the maker.
"I get the right recommendation," Evans said. "I don't get IBM product pushed."
So far, the approach seems to be working. For more than a decade, the company's services business has moved well beyond its roots in routine maintenance. IBM Global Services, whose $42.6 billion in sales last year made up nearly half the company's revenue, has become the world's largest provider of information technology services. And this services king is determined to conquer new realms.
The origins of IBM's services unit lie in commonplace contracts to fix computer gear that breaks down. Former CEO Lou Gerstner is credited with emphasizing services as a key to the company's turnaround from losses in the early 1990s. In 1991, two years before his arrival, maintenance services accounted for more than half of the company's $13 billion in services revenue. By 2002, the year Gerstner stepped down, maintenance revenue had declined, but total services revenue had soared to $36.4 billion.
Since then, IBM has gained business consulting skills with the acquisition of PricewaterhouseCoopers' consulting business and entered the growing market for managing clients' less technical tasks, such as equipment purchases and customer service. The new IBM is processing thousands of insurance claims, ensuring that Procter & Gamble employees get paid, and taking on the repair of televisions and CD players from Philips Consumer Electronics.
"IBM is the dominant player," said Michael West, an analyst at research firm Saugatuck Technology. "Who else has such a cohesive vision?"
Its ultimate success, of course, will not be automatic. As IBM seeks to expand its dominion in services, it faces formidable competition from such established companies as Electronic Data Systems, Accenture and Perot Systems. As it targets midsize businesses, IBM will likely run into niche companies that work exclusively with specific industries, such as banking, transportation and health care. Competition will also come from software makers, including Oracle, Microsoft and SAP.
Moreover, profitability is an issue in the services unit, which saw its gross margin drop four-tenths of a percentage point to 24.5 percent for the first quarter. Yet another concern involves criticism of its offshore-outsourcing practices and a recent internal memo suggesting that communication with employees on the subject be "sanitized."
Despite these issues, industry analysts say, the services business is IBM's to lose.
"It is a very fragmented market, which is why we think there are a lot of opportunities for growth," said John Jones, an analyst at Schwab Soundview Capital Markets.
To extend its services leadership, IBM touts its pledge of impartial advice on hardware and software. The company says 45 percent of server computers devoted to customers in IBM data centers are not IBM boxes, and after the recent economic boom and bust, companies would be skeptical of costlier and less creative recommendations that would require entire existing systems to be scrapped.
More things to more people
Another part of IBM's strategy is to offer a broad range of technology
services that few other companies could handle at once. They include developing
software applications, helping clients recover from disasters and running
clients' computer operations.
IBM described its contracts with Marathon Oil (to manage accounting functions) and with natural gas producer Williams (for such things as help in managing human resources tasks) as "business process transformation services" agreements. Earlier, IBM had put its own spin on the industry term "business process outsourcing" by saying it offered "business transformation outsourcing", or BTO, improving the functions it takes on.
IBM denies that it is shying away from a politically charged term. Instead, the company claims that business process transformation services can include outsourcing but comprise a broader category: helping companies in areas such as human resources and accounting through a combination of technology and business expertise. "This isn't just a rebranding exercise," IBM spokesman Ian Colley said. "This is a new market that we think is emerging."
Linda Cohen, an analyst at market research firm Gartner, said the former PwC consultants were vital in getting IBM into the fast-growing BPO market. Worldwide spending on these outsourced functions rose about 8 percent last year to roughly $405 billion and will increase to $682.5 billion in 2008, according to research firm IDC.
IBM tries to stand out from the competition in this area by offering what it calls "business process transformation services." IBM says it will not only handle a procedure for a customer, but will improve it, too. IDC ranks IBM and Accenture as the most advanced IT services companies when it comes to business process outsourcing. IBM says it has a pipeline of potential business transformation outsourcing deals worth about $15 billion.
"They're doing the right things to assume a leadership position," IDC analyst Katrina Menzigian said.
One of Big Blue's most prominent customers is consumer products giant Procter & Gamble, which last year signed a 10-year deal worth $400 million for IBM to manage employee services such as payroll and benefits administration. P&G spokesman Damon Jones said IBM stood out from rivals such as Convergys and Accenture because of its collaborative approach.
"They really did value the expertise that our people brought," he said, adding that P&G was looking for better service, lower costs and innovation. "Some providers come in and say, 'We're the experts in this area. Get out of our way and let us do it.'"
About 800 P&G employees around the world moved to work for IBM when the contract took effect in January. The arrangement has so far focused on IBM taking over responsibilities rather than offering new processes. Jones said the transition has gone smoothly.
Brave new worlds
The expansion in services has often taken IBM into new territory. "It's
going to be hard to continue growing without getting into new markets,"
said Richard Petersen, an analyst at Pacific Crest Securities.
For example, in a deal to manage after-sales services for Philips in
North America, Big Blue
What's more, consumers buying high-end TVs are going to expect a high
level of customer service akin to that of computers, said
Other parts of business process deals, such as handling employee expense reports, require a fair amount of manual and clerical work. Such lower-skilled labor is taking off in developing nations, and IBM is part of this trend. Through its P&G deal, IBM is handling payroll tasks out of a center that P&G set up in Costa Rica.
Yet even as it expands its global reach, IBM's services unit is thinking smaller. The company is aiming for midsize businesses, those with 100 to 1,000 employees, which are estimated to number 100,000 in the United States alone. Last year, Big Blue launched its Express initiative, which includes hardware, software, services and financing plans tailored for such businesses.
Collaborating with smaller systems integrators is central to IBM's strategy in this market, said Kneko Burney, an analyst at research firm In-Stat/MDR. But the company must first overcome a reputation for bullying partners.
"IBM has been perceived to be a horrible partner over the years," Burney said. "But they've really cleaned up their act."
The dubious legacy is just one factor inherited by a new leadership in IBM Global Services. Anxiety about the unit's profitability may have prompted IBM to change its leadership in early May.
When IBM's top sales executive left to head Siebel Systems, the company moved Doug Elix from services chief to head of sales. Former Chief Financial Officer John Joyce was appointed to lead the services operation.
But Joyce is not just a number cruncher. Before becoming CFO more than four years ago, he led the company's Asia-Pacific group. He may well need to tap that broader experience in dealing with obstacles that go far beyond accounting ledgers.
The services operation must, for instance, adapt to a rising level of automation that IBM and others are pursuing. Gordon Haff, an analyst at research firm Illuminata, said computer systems will eventually become more reliable and work together more easily, reducing the demand for technicians.
Zapfel conceded that IBM Global Services faces serious challenges as it attempts to expand its empire. But he suggested that occupying the throne as the largest technology services company in the world, with an army of 180,000 consultants, has its advantages.
"We like the position from which we're competing," he said. 
Services: Will IBM's big bet pay off?
By Ed Frauenheim
Staff Writer, CNET News.com
June 15, 4:00AM PT
As Woods did his part, executives at the PGA Tour turned to IBM to capitalize on golf's revitalized popularity from a virtual perspective. The result was a service that allowed fans to track live play and follow more than 100 players at a time on 450 acres of courses, making roughly 25,000 shots per tournament.
Steve Evans, vice president of information systems for the golf tournament company, was particularly impressed with IBM's flexible advice on which technologies to use--whatever's best suited, regardless of the maker.
"I get the right recommendation," Evans said. "I don't get IBM product pushed."
So far, the approach seems to be working. For more than a decade, the company's services business has moved well beyond its roots in routine maintenance. IBM Global Services, whose $42.6 billion in sales last year made up nearly half the company's revenue, has become the world's largest provider of information technology services. And this services king is determined to conquer new realms.
The origins of IBM's services unit lie in commonplace contracts to fix computer gear that breaks down. Former CEO Lou Gerstner is credited with emphasizing services as a key to the company's turnaround from losses in the early 1990s. In 1991, two years before his arrival, maintenance services accounted for more than half of the company's $13 billion in services revenue. By 2002, the year Gerstner stepped down, maintenance revenue had declined, but total services revenue had soared to $36.4 billion.
Since then, IBM has gained business consulting skills with the acquisition of PricewaterhouseCoopers' consulting business and entered the growing market for managing clients' less technical tasks, such as equipment purchases and customer service. The new IBM is processing thousands of insurance claims, ensuring that Procter & Gamble employees get paid, and taking on the repair of televisions and CD players from Philips Consumer Electronics.
"IBM is the dominant player," said Michael West, an analyst at research firm Saugatuck Technology. "Who else has such a cohesive vision?"
Its ultimate success, of course, will not be automatic. As IBM seeks to expand its dominion in services, it faces formidable competition from such established companies as Electronic Data Systems, Accenture and Perot Systems. As it targets midsize businesses, IBM will likely run into niche companies that work exclusively with specific industries, such as banking, transportation and health care. Competition will also come from software makers, including Oracle, Microsoft and SAP.
Moreover, profitability is an issue in the services unit, which saw its gross margin drop four-tenths of a percentage point to 24.5 percent for the first quarter. Yet another concern involves criticism of its offshore-outsourcing practices and a recent internal memo suggesting that communication with employees on the subject be "sanitized."
Despite these issues, industry analysts say, the services business is IBM's to lose.
"It is a very fragmented market, which is why we think there are a lot of opportunities for growth," said John Jones, an analyst at Schwab Soundview Capital Markets.
To extend its services leadership, IBM touts its pledge of impartial advice on hardware and software. The company says 45 percent of server computers devoted to customers in IBM data centers are not IBM boxes, and after the recent economic boom and bust, companies would be skeptical of costlier and less creative recommendations that would require entire existing systems to be scrapped.
More things to more people
Another part of IBM's strategy is to offer a broad range of technology
services that few other companies could handle at once. They include developing
software applications, helping clients recover from disasters and running
clients' computer operations.
IBM described its contracts with Marathon Oil (to manage accounting functions) and with natural gas producer Williams (for such things as help in managing human resources tasks) as "business process transformation services" agreements. Earlier, IBM had put its own spin on the industry term "business process outsourcing" by saying it offered "business transformation outsourcing", or BTO, improving the functions it takes on.
IBM denies that it is shying away from a politically charged term. Instead, the company claims that business process transformation services can include outsourcing but comprise a broader category: helping companies in areas such as human resources and accounting through a combination of technology and business expertise. "This isn't just a rebranding exercise," IBM spokesman Ian Colley said. "This is a new market that we think is emerging."
Linda Cohen, an analyst at market research firm Gartner, said the former PwC consultants were vital in getting IBM into the fast-growing BPO market. Worldwide spending on these outsourced functions rose about 8 percent last year to roughly $405 billion and will increase to $682.5 billion in 2008, according to research firm IDC.
IBM tries to stand out from the competition in this area by offering what it calls "business process transformation services." IBM says it will not only handle a procedure for a customer, but will improve it, too. IDC ranks IBM and Accenture as the most advanced IT services companies when it comes to business process outsourcing. IBM says it has a pipeline of potential business transformation outsourcing deals worth about $15 billion.
"They're doing the right things to assume a leadership position," IDC analyst Katrina Menzigian said.
One of Big Blue's most prominent customers is consumer products giant Procter & Gamble, which last year signed a 10-year deal worth $400 million for IBM to manage employee services such as payroll and benefits administration. P&G spokesman Damon Jones said IBM stood out from rivals such as Convergys and Accenture because of its collaborative approach.
"They really did value the expertise that our people brought," he said, adding that P&G was looking for better service, lower costs and innovation. "Some providers come in and say, 'We're the experts in this area. Get out of our way and let us do it.'"
About 800 P&G employees around the world moved to work for IBM when the contract took effect in January. The arrangement has so far focused on IBM taking over responsibilities rather than offering new processes. Jones said the transition has gone smoothly.
Brave new worlds
The expansion in services has often taken IBM into new territory. "It's
going to be hard to continue growing without getting into new markets,"
said Richard Petersen, an analyst at Pacific Crest Securities.
For example, in a deal to manage after-sales services for Philips in
North America, Big Blue
What's more, consumers buying high-end TVs are going to expect a high
level of customer service akin to that of computers, said
Other parts of business process deals, such as handling employee expense reports, require a fair amount of manual and clerical work. Such lower-skilled labor is taking off in developing nations, and IBM is part of this trend. Through its P&G deal, IBM is handling payroll tasks out of a center that P&G set up in Costa Rica.
Yet even as it expands its global reach, IBM's services unit is thinking smaller. The company is aiming for midsize businesses, those with 100 to 1,000 employees, which are estimated to number 100,000 in the United States alone. Last year, Big Blue launched its Express initiative, which includes hardware, software, services and financing plans tailored for such businesses.
Collaborating with smaller systems integrators is central to IBM's strategy in this market, said Kneko Burney, an analyst at research firm In-Stat/MDR. But the company must first overcome a reputation for bullying partners.
"IBM has been perceived to be a horrible partner over the years," Burney said. "But they've really cleaned up their act."
The dubious legacy is just one factor inherited by a new leadership in IBM Global Services. Anxiety about the unit's profitability may have prompted IBM to change its leadership in early May.
When IBM's top sales executive left to head Siebel Systems, the company moved Doug Elix from services chief to head of sales. Former Chief Financial Officer John Joyce was appointed to lead the services operation.
But Joyce is not just a number cruncher. Before becoming CFO more than four years ago, he led the company's Asia-Pacific group. He may well need to tap that broader experience in dealing with obstacles that go far beyond accounting ledgers.
The services operation must, for instance, adapt to a rising level of automation that IBM and others are pursuing. Gordon Haff, an analyst at research firm Illuminata, said computer systems will eventually become more reliable and work together more easily, reducing the demand for technicians.
Zapfel conceded that IBM Global Services faces serious challenges as it attempts to expand its empire. But he suggested that occupying the throne as the largest technology services company in the world, with an army of 180,000 consultants, has its advantages.
"We like the position from which we're competing," he said.
