Hardware Earnings May Not Be Sustainable

Revenue from sales of IBM’s (NYSE: IBM) System z mainframe server products rose 41% last quarter. Data Center Group revenue at Intel (NASDAQ: INTC) rose 32% in the last quarter. The Intel division improvement helped boost the chipmaker’s net income by 29% to $3.2 billion. The mainframe improvement helped IBM’s net income move higher by 10% to $2.9 billion.

The advance in the sales of the two companies probably cannot be sustained, at least not in the core hardware businesses.

The surge in hardware sales is due to increases in business investment as the recession has ended. That build-up will only go so far as the need for next generation products is fulfilled. The move toward distributed computing based on “cloud” solutions will also continue to push businesses toward less expensive servers. Improved vitualization software will have a similar impact. The march toward software driven solutions should not be masked by a temporary improvement in hardware sales.

Intel remarked that cloud applications would help sales of products like its Xeon chips. Smaller, more powerful chips will accelerate the trend. That is only so if there is not an improvement in the way that software improves hardware efficiency–something that has gone on for years. Betting against software advancement is a dangerous game, especially when software company earnings are based on the efficiency that they bring to the computing model.

Douglas A. McIntyre