After IBM struggled for more than a year to divest its low commodity x86 servers business, Lenovo has agreed to buy IBM’s x86 server hardware business and related maintenance services for US$2.3 billion. Lenovo will pay $2.07 billion in cash for the IBM business unit, and the balance in Lenovo stock. The deal includes IBM’s System x, BladeCenter and Flex System blade servers and switches; x86-based Flex integrated systems; NeXtScale and iDataPlex servers and associated software; and blade networking and maintenance operations. IBM will retain its System z mainframes, Power Systems, Storage Systems, Power-based Flex servers, and PureApplication and PureData appliances. Lenovo also signed a global OEM and Reseller agreement to resell various IBM product and service offerings. There are multiple factors which have led to divestiture by IBM.

  • Declining market for x86 servers: x86 servers ruled in the 1990’s and early 2000, but market growth for x86 servers has been slowing down for a few years now. Even though volume was high, profit margins from these servers were actually quite low. The overall x86 server market grew 2.1% in unit terms in the third quarter and grew 4.4% by revenue, says Gartner.
  • Impact of Cloud Computing: Virtualization and Cloud Computing have been one of the major factors that have impacted the adoption of commodity servers like x86. SMBs and start-ups are increasingly leveraging cloud computing for their IT needs resulting in less CAPEX and allowing them to focus on their business rather than managing IT infrastructure.
  • Changing server purchasing patterns: Large enterprises IT shops like Amazon, Microsoft, Google and Facebook that were purchasing servers from server manufacturers like IBM, Dell, HP are forging direct agreements with Chip vendors, Server ODMs like Quanta, Wistron, Inventec, etc. for customized servers. This move will provide them with even more customization, a reduction in IT and server costs, simpler and cleaner systems and add overall mileage in the long run.
  • Workloads: Since a majority of the workloads are moving to the cloud environment, the need for servers to run these applications is decreasing due to growing virtualization and renewal cycles have become slower. Companies are emphasizing on their mission critical and important apps which typically run on specialized systems like UNIX or searching out converged infrastructure systems, an evolving market.
  • Profitability: IBM has been struggling to make profits from its hardware business for a few quarters now and has not able to recover in spite of some restructuring, including layoffs. Currently, hardware constitutes only 10% of its revenues and this alignment may allow them to emphasize more on their highly profitable services and software focus.

Smart Move by IBM

As a whole, this was a smart move by IBM. By moving away from the commodity business like x86 servers, it fits well with IBM’s strategy to have a greater presence in higher margin areas, as evidenced by the 2005 sale of its PC business to Lenovo and the divestiture of its Printing Systems division two years later. At the same time, IBM expanded into the software and services markets both organically and inorganically through multiple acquisitions over the last 5-10 years, where its technological strength and consulting expertise offer a better profit potential. IBM like other big technology companies, is also stepping up its investment in cloud computing, Big Data and analytics, and next-generation computing such as Cognitive Computing with Watson supercomputer. IBM expects the cloud computing market to reach $7 billion by 2015, and Big Data and Analytics to reach $20 billion by 2015.

Providing efficiencies of scale for Lenovo

As Lenovo was trying to recover from the shrinking PC business by diversifying with smartphones, tablets and televisions, acquiring server hardware assets from IBM was a good move to expand into newer tech markets like hardware. Lenovo was already focusing on the server space through its partnership with EMC and this will further strengthen its presence, tightening its competition with Dell and HP. Lenovo can leverage its great operational and manufacturing capabilities, apart from its channel ecosystem, to make this profitable and may even give others a run for their money – outmaneuvering HP and Dell similar to the PC market. In addition, Lenovo can also draw strength from IBM’s deep market understanding with the move of IBM’s 7,500 employees (including sales, channels and marketing teams) to Lenovo.

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