IBM's Q2 falls short as budgets shift to server, storage, memory

IBM said its second quarter earnings and revenue will fall short of expectations due to weaker demand for its software and infrastructure. CEO Arvind Krishna said customers shifted budget toward hardware such as servers, storage and memory.

The company said second quarter non-GAAP earnings were $2.93 a share on revenue of $17.2 billion. GAAP earnings for the second quarter were $2.27 a share. The results are preliminary but may be slightly different when IBM's books close.

Wall Street was expecting IBM to report second quarter non-GAAP earnings of $3.01 a share on revenue of $17.86 billion.

IBM said its software revenue was up 5% in the quarter compared to a year ago, consulting revenue was flat and infrastructure revenue fell 7%.

Krisnha's letter to shareholders indicated that hardware component inflation and a buyer's panic over supply chain concerns shifted budgets.

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Krishna said the company expected results to infrastructure performance to tail off beginning in the second quarter as IBM lapped the launch of its z17 mainframe. He said:

"When we discussed our expectations with you in April, we noted that we would be wrapping on the launch of z17 in the second quarter. Given this was the strongest start to a mainframe program in our history, we expected Infrastructure revenue to decline low single digits for the year, beginning this quarter. What played out was worse than our expectations, driven by a shortfall in our Z performance and the associated software stack, primarily in Transaction Processing.

In the last few weeks of June, we saw clients shift their quarterly capex spend toward servers, storage, and memory purchases to secure supply-constrained infrastructure ahead of expected price increases. This dynamic impacted client buying patterns. While we anticipated some supply chain related impact in our expectations, we did not anticipate the magnitude of the capex reprioritization. In addition, clients were distracted with rapidly evolving, industry-wide cybersecurity concerns in the quarter."

Krishna said the changing conditions required perfect execution to adapt, but IBM fell short. "We did not adapt and move quickly enough, and numerous large deals failed to close on the timelines we expected, driving the majority of our shortfall," said Krishna. "These are not excuses, but they are realities."

IBM did see some strength in the second quarter including Red Hat sequential revenue growth of 11%, strong performance from HashiCorp and Confluent, distributed infrastructure revenue growth of 37% due to server and storage system sales, and AI consulting gains. Krishna also touted recent quantum computing developments.

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The company said it will detail more about the quarter during a conference call July 22.

A few thoughts:

• IBM was coming off a mainframe cycle so comparisons were going to be challenging.
• Customers shifted budgets to servers, storage and memory and that hurt software spend and magnified the mainframe dip.
• The read-through is that IT budgets aren't infinite. A buying panic for distributed infrastructure is gobbling up dollars that could go elsewhere.
• If servers, storage and memory is prioritized does that mean on-prem AI is really happening now? If so, what does that mean for cloud demand?
• Is this situation unique to IBM? If it isn't, there's a lot of Q2 hurt on deck.
• Life is good for the likes of Dell, HPE and Micron, but I wonder how much demand is being pulled forward. Boom now and bust later increasingly likely.