International Business Machines Corporation (IBM) Management Presents at Morgan Stanley Technology, Media and Telecom Brokers Conference 2022 [Transcript]

A – Tom Rosamilia

Thank you so much for having me Katy. I really appreciate all of you coming and I appreciate being in person, which is a treat for all of us I think. It’s so nice to see people again and so glad that you invited us for the conference.

Question-and-Answer Session

Q – Katy Huberty

Good! I couldn’t agree more. So just to kick off the discussion, talk a little bit more about your role and background, and then some of the biggest changes that IBM is making around just strategic focus and culture.

Tom Rosamilia

So I’ve been with IBM forever, it’s a long time and I’ve been in mostly hardware and software roles. I spent a year running corporate strategy and then I took over as the Head of Hardware or Systems as we call it, and then as of July I took over as Head of Software. But most of my roles have been in software prior to the hardware job.

I am very excited by the pivots that are currency CEO, Arvind Krishna has been making. I would say the largest acquisition we’ve seen in Red Hat and it has been very successful and we’ll talk about that. The courage and the execution to spin out GTS or our Global Technology Services has been a great thing for us for focus.

The pivot to hybrid multi-cloud and I’ll stress the multi here, that we run on everybody’s cloud, but specifically on partnering everyday with AWS and with Azure for our software in addition to the IBM cloud and in addition to on-prem and also the moves Arvind’s made around the ecosystem partners. You will see us partnering with EY with Deloitte, with Salesforce, with as I said AWS and Azure. And so across consulting and across software providers and across hardware platforms and across cloud providers, it’s great to see the pivot towards the ecosystem.

Katy Huberty

So, I want to talk about how that strategy plays into the financial model. But I’d be remiss if I didn’t ask about just the current environment with what’s going on in Russia and Ukraine and how investors should think about, just at a high level what the impact could be in the business.

Tom Rosamilia

So our first priority as you’ve heard from others is absolutely our people. We do have people in Ukraine; we’ve been working with them for over a month to get them out or get them safe. By the way I also have employees in Russia and I will tell you after talking to several of them, they are not all for the invasion, they are not all for the war. So there’s a humanitarian side to our employees in Russia as well.

So first and foremost, it’s about the people. And then secondly for us I would say the direct impact of Russia is not significant, but the in-direct and the macro environment that it creates is TBD. We don’t know what oil prices will do or supply lines will change or sentiment in Europe, all those various pieces. But direct, very small, trivial as I look at the numbers; indirect, TBD.

Katy Huberty

So, just a shift back to the long term models. One of the I think most strategic things from an investor standpoint that Arvind did was to shift away from the focus on earnings towards sustainable revenue growth and free cash flow. And obviously, the software business is a big part of that goal to get to sustained mid-single digit revenue growth. So just walk through how you will plan to achieve that and particularly, how you achieved sustainable growth, even though there is some cyclicality in parts of the software business like TPP?

Tom Rosamilia

Yeah, not as much as cyclicality to the software business as you might think. It really does – because the TP business or our mainframe software business really grows based on capacity and so capacity can increase when we come out with a new model or it doesn’t have to. So it can increase when we don’t come out with a new model. So the TP part of it is really my much more consistent and not as cyclical.

But getting back to your point, we promised and I promised with investors back in October that we’d get to mid-single digits in the mid-term, which is ’22 to ’24, and it’s really a combination of Red Hat. We’ve seen great success with Red Hat thus far. It grew 21% all-in in the fourth quarter; that gives us only about four points of tailwind to the software business. And then I get about two points from the rest of software. You say, well what is that that adds up to six, but I do have the negative headwind of our TP Software, which is predicted to decline in the mid to high single digits.

Didn’t do that in the fourth quarter. We think that was a one-time event. It was certainly an easy compare, but the combination of four plus two, minus one, gets me to mid-single digit growth in the mid-term.

The investments we are making around data and automation, I’m very excited about what we’ve seen with automation. We’ve had some excellent acquisitions in that space, that really helped us and I think automation is going to be one of the hot topics of this year and sustainably based on skills, and I just think the more we can automate, the better off people will be. I saw the jobs report this morning; 11 million jobs open.

So people are struggling obviously to hire, and so if we can automate more of the mundane tasks, the better off we’ll be. So I’m very bullish on the automation portfolio. I think the security market in general give us a great opportunity. It wasn’t great for me in 4Q, it was okay in 2021, full year was up 5%, but I think we’ll get back to you know where we need to be with the security space.

So I think the combination of all that gives us a great opportunity to deliver on what I promised back in October and I’ll promise again today.

Katy Huberty

You mentioned the Red Hat acquisition, you are a couple of years into the integration with the rest of IBM. Talk about some of the synergies you’ve seen with Red Hat and IBM software and how you see that evolving and growing over time.

Tom Rosamilia

Very good! And I should just mention that all the number I gave there without the benefit of Kyndryl. So that gave me another five points in the fourth quarter. So five plus five got us 10, but five points was without Kyndryl.

So as I said, this was a hugely strategic acquisition for us. We spent $34 billion for the reason of acquiring OpenShift. So we could rebase our entire software portfolio based on OpenShift and move it to a container model and move it so they could run everywhere. By rebasing our Cloud Pak’s in this case on OpenShift, we’ve now moved all of our middleware to an environment where I can deploy on AWS, I can deploy it on Azure, I can deploy it on the IBM Cloud and I can deploy it on prem.

And I should define for all of you, to me hybrid multi-cloud means the combination of on-prem plus at least one cloud provider, and we see that data says that you know three years ago people – like almost 30% of people said I’m only going to have one cloud provider. Well that number is down to three in the most recent survey. So people are saying, I’m going to choose multi-cloud because I want the best of all worlds, including what I have on prem and so our classic examples are combinations of those.

But when I mentioned skills, I think the combination of having a consistent deployable software model that says, if I’m doing Cloud Pak for data, I can do it on prem or I can do it on AWS. If I’m doing Cloud Pak for business automation, I can do it on prem or I could do in the IBM cloud. If I’m doing Cloud Pak for security, I could do it on prem, I can do it with Azure. Having that consistent set of skills across the hybrid multi-cloud, I think it’s just a great advantage and having the ability to run on prem and either an x86 world or in our case a lot of Z franchise. So it gives us the ability to extend that value across the multi-cloud environment.

Katy Huberty

So, that’s a great segway into the broader discussion that I often hear from investors; is that customers are moving to the cloud. IBM has a lot of big customers that run their most important application with IBM. How in your conversation with the customers, how are they thinking about their cloud journey, how are they thinking about the part that IBM plays in that journey and how do you go out and capture wallet share?

Tom Rosamilia

I think that’s great, and I will tell you that five years ago we were fighting an uphill battle, talking about hybrid cloud as a destination. Everybody said it was a point along the way. Nowadays we have zero of those conversations. So everybody is accepting of the fact, that some of their workload is going to stay on-prem and they need to modernize it, partnering with IBM Consulting to modernize their mainframe workloads. But it’s a combination of that with what they are doing in hybrid-cloud that really gives the ability to sell. And so, I think this days of everything’s going public cloud are over. Most people see it as, I’m going to be – the destination is going to be a hybrid multi cloud environment, where I want to take advantage of the best of all worlds.

If I have economic reasons or I could have GDPR reasons, why I want the data to be in a certain location, working closely with a bank in Europe, ING that has GDPR reasons and I would say cost reasons why they don’t want to move big chunks of data. They want to move the result of queries, not the data to generate those queries or AI, for again governance reasons, domain reason and cost reasons. It’s very expensive to move data to compute. It’s actually easier to move computer, cheaper to move compute to the data.

So I think that gives us a great leg up on the fact that people have realized and we’ll look into the fact that they are going to be in a hybrid cloud environment. So in that environment, I have the ability to secure a hybrid multi-cloud, I have the ability to federate data in a multi-cloud and not to put it all in one data link only to find out you missed one piece of data and I got to go and get that one. People are looking at 20-plus sources of data in order to do the work they want to do in AI, so they’d rather be able to federate that than have to move it all into one place.

I want to automate that, I want to automate it from a network automation perspective, from a business automation perspective, and from what we call AI ops or the operation of IT, so I can get the most out of the systems that I’m buying, whether its on-prem or in the cloud. And so the combination of all those things gives us the ability to help them understand this journey to a hybrid multi-cloud. Its best served with somebody you can trust, so you don’t have vendor lock-in. You can run this everywhere you want to.

Katy Huberty

You mentioned earlier, big push into automation and IBM, both organically and inorganically has been investing in opportunity. So talk a little bit more about how you see that evolving and the opportunity for IBM.

Tom Rosamilia

So I think with the skills gap that all of you see every day, the ability to do automation and maybe it’s some of the simpler stuff we called BPM and RPA. Just being able to automate more mundane processes, whether with humans or without. I still think it’s a great opportunity and we did four acquisitions in the automation space in the last two years.

Then you get into the world of AI operations and it’s really difficult and hard to find the skills to get somebody that can really be an expert in all things in your system. So we did an acquisition of a company called Turbonomic, that’s done very well for us and it automates the process of IT. And not only does it give the users a better experience, they are customers of our customers, but it also optimizes the spend that they have in different environments in a multi-cloud.

So if you’re spending too much on storage and not enough on processor, I’m limited by the number of JDMs I have or the size of my JDM’s or my network is a really limiting factor. It means I’m overspending in all the other areas, because I already ran out of capacity at some point and everything about that I’m spending on storage or processor or whatever it is, network is just wasted.

And so the ability to do ARM and turn on against the leading product in this area that we bought, gives us a great ability to not only do the organic piece of AI ops, which we got from IBM research, but also add to a combination of Instana around APM, which is the first container native APM environment and Turbonomic gives us great ability.

And then the last piece which is much more nascent is our ability to do network automation and that’s a new unit for me under a new GM we hired from outside and we’ve had some great wins in combination with IBM consulting around DISH and Telefonica and others. In fact the team was just over in Barcelona at Mobile World Congress; lots of interesting network automation.

So I think automation is a hot area based on skills and based on the ability to have those same product skills to be deployed across multiple environments.

Katy Huberty

And at the October Analysts Day, you profiled in addition to automation, some other growth focus areas like data and security. Just talk about how those round out the strategy in software.

Tom Rosamilia

So I think, you guys asked me back in October, where we would – where was I looking versus M&A activity – for M&A activity. I think data and security are two great topics, and they are both broad. I mean in the security space you got everything from identity to XDR, EDR, to threat detection. All these data protection, all of these areas are of interest.

We just did an acquisition in security following our conversation in October. Something called Reactor which helps add to our EDR, XDR capability and QRadar. That really augments. It’s a smaller acquisition, but I think significant in the function that it provides. So security certainly a topic of interest to me. It’s a high growth area. One that I think will continue to see growing and the threats coming from Ukraine and Russia have gotten us to unprecedented levels of attacks and so it’s – and the cost of a data breach now is the highest it’s been in 17 years; it’s more than $4 million per breach. So across our hardware and software, we are working with people to give them more resilient solutions.

I just saw a note from a bank in France talking about the resilience of their on prem solution with Z and the fact that they can do a level of cyber vault activity, so that they can create copies of their data, where it gives them a real advantage in this kind of environment.

And then around data, its data science, its analytics, it’s AI. I should say that, it’s not just AI and the business of AI, but we are injecting AI everywhere. AI is in security, AI is in automation and AI is in obviously the work we’re doing around voice recognition and the NLP work that I’m doing. I’m very bullish on Natural Language Processing and the work we’ve done with CVS around what we can do it automating their calls. They never could have hired enough people and the domain is kind of narrow. People are asking where can I get a vaccine or where I can I get a test? What kind of vaccine can I get? How do I make an appointment? We were able to do 80% plus handled with automation and so the call center could be freed up to handle the much more challenging calls.

Same thing with State of Rhode Island. They didn’t have to hire a bunch of people that I don’t think they would have found the same kind of things. And then you may have noticed in the data area, we did do an acquisition in November of a company from McDonald’s, McDonald Tech, which actually was a company out here called the PrintA [ph] when McDonald’s bought them a couple years ago and it does automated order taking.

So if you go through the drive through, you can actually do the ordering from a voice reco system that can handle a lot. I mean I was there being of course you know a wise guy trying to order sushi, just to see what it sad or trying to order something from a competitor and it handles it very well. And you know it times out after a certain amount of time or if you curse at it, it will time out and it will get a human on the line, but most orders can be handled, you know 80% plus, and franchise owners are going to love it because this is an employee they’ll show up every day.

Katy Huberty

Interesting! Just going back to security, you mentioned 5% growth last year; fourth quarter was a bit weaker. What are you doing to invest in securities to achieve the growth profiles?

Tom Rosamilia

Yeah, it was weaker in the fourth quarter, but as you said 5% on the year. I think the combination of product cycles, we just came out with a new version of our data privacy software, Guardium you may know it by, and we did the acquisition of ReaQta. So you know looking at pipeline and looking an opportunity and looking at the growth in security in general, I’m confident we’ll get back to the kind of 2021 average levels if not better as I look at ‘22 in the mid-term. So I think it was really a more of a blip based on a couple of factors and not a long term problem.

But, we’re hiring lots of security professionals every day. I’ve got the professional services part of security that goes out and works with everybody’s software including my own, to implement solutions and we’ve got several centers. If you haven’t been to a cyber-range, I’d encourage you to go. We’ve got great examples of simulated attacks on your company and how do you handle it, what do you do with ransomware, how to handle the media, what do you tell your people.

It’s very exciting and I will tell you despite the fact that it’s a simulation, your blood pressure and heart rate go up like it was the real deal. We put microphones in your face and tell you, you know address – you know Morgan Stanley is on the phone. They want to know what it means to your investors and/or NBCs on the phone, they want to know what it means to the world. So it’s very exciting to see the world of security and I think we’ll see good growth in that area great.

Katy Huberty

Great! So we spent a lot of time on hybrid cloud. You know Arvind pitches, the story in the transformation is hybrid cloud plus AI. You gave y a few examples on this front, but just share a little bit more about how you see AI as part of the value that IBM brings to the market.

Tom Rosamilia

I think the combination of what we’re doing with voice and injecting AI everywhere, and the fact that if you look at the most recent IDC report which just came out last week, they ranked us Number 1 in AI from a platform perspective. They call it the lifecycle, I would call it a platform; the platform of AI, being able to do the data science, the analytics.

We’ve got some great technology I should mention on the system side in the new Z16 which is coming out this year, which is going to give us the ability to do accelerated analytics. I think it’s great to be able to do in transaction fraud prevention, and this whole move to doing this from a learning perspective. The example I’ll use is we were working with a bank in Japan that had a, for fraud had a rules engine. So if you happen to trigger these rules, it would say okay, this is logic, probably fraud, likely fraud, don’t let this transaction through.

Rules engines are a bit outdated, and so we work with them to work on one that really uses AI and NL to say there’s a pattern here that are not just a set of rules, like if the transaction is more than this or easily written rules. If this does not match, this does not match Katy’s buying pattern. This looks very anomalous, and/or actually on the AI side of security, you’re allowed to download files, but if you’re doing like four times the volume at 2:30 in the morning, maybe you’re about to leave and take our data to a competitor. So maybe I should stop that, because it’s an anomalous activity.

So I think we’re seeing the infusion of AI, whether it’s AI informed BPM, AI informed security or any of these areas, really giving people much more insight into the what’s normal look like, what’s abnormal look like, what could be an opportunity and what could be a threat.

Katy Huberty

IBM has completed over 20 tuck-in acquisitions since the beginning of 2020, roughly half of which have been in software areas that we talked about data and security and automation. Just at a high level, how important is M&A as a driver of growth as you go through the transformation and what are some of the incremental areas of software that you’re looking at?

Tom Rosamilia

So you mentioned the 20-plus, and half of those are software, which is great for me, and the other half for consulting, which I think is also great for IBM. We’ve been augmenting skills; we’ve been accompanies a give us additional skills around DevOps, acquiring companies that give us skills around Salesforce and around Azure and I think my colleagues over in IBM consulting will continue to do that.

I’m continuing to fill out the portfolio and I mention data and security are good ones, to look at. Network Automation is another one that’s nascent for me. I think these are all really rich areas, and I’ve got – you know I’ve got my eyes on a lot. We’re shopping every day. I know evaluations aren’t great for this room, but they are better for me. So as valuations fall, I can afford more and other ROIs and IRRs closed for these that might not close otherwise and so we’ll see how that goes.

But we’re shopping every day; we’ve got activity going all the time. I’ve got a couple in play right now, so it’s not uncommon. But we’re looking – we probably look at 10 for every one we end up trying to buy.

Katy Huberty

Okay.

Tom Rosamilia

I love the addition of not only what comes out of IBM Research and my team and software development, but what we can add to it with companies like Instana, Turbonomic, ReaQta. We just did an acquisition and completed this year of a company called Envizi, in the environmental intelligence area. So that – in fact we were using them. We were a customer of Envizi. As IBM we’ve committed to get the carbon neutrality by 2030 and reduce carbon by 75% by 2025. So having the carbon on a dashboard really can show us our impact on the environment. By the way the combination of that with AI Ops, if you think about the possibilities of saying if you ran that work here, your electricity would be much cleaner than if you ran your work there.

I lived in China for a year. If your Tesla is fueled by electricity that’s generated by coal, I’m not sure that that’s a positive move. So you really got to say, where does my electricity come from, is a natural gas, is it wind, is it solar, is it coal, is it oil, you know where is it coming from? So if I can – and data centers are getting a lot of attention right now, and crypto is getting a lot of attention right now for the impact on the environment.

So if I can give somebody a sense, ‘hey! If you do that there it’s going to generate this much carbon, but if you do it here, it’s going to generate a whole lot less.’ That could actually give people visibility to where to run workloads. So that might be another reason to run here or there, independent of data privacy and governance and GDPR and all of those things to give me an advantage.

So we did this acquisition of a dashboard company. As I said, we were a customer. We started out like in maybe OEM and then we got enamored with it and said let’s just buy the company. So we completed that in January and I’m very excited to add that to what’s called the environmental intelligence suite.

Katy Huberty

Interesting! One of the more under-appreciated elements of the transformation is what you’re doing internally around the go-to-market and investing and technical skill, rethinking how you compensate the sales people. I imagine to drive it more hunting and to build a more open ecosystem. You mentioned a number of partners. Just give us a little more detail around those changes and how investors should think about the impact over time?

Tom Rosamilia

So, thank you. We made a significant change in our go-to-market this year around how we put many more people on quota. So from a productivity standpoint, I’m very happy to have increased our capacity, without increasing, the price of all of this, but just having a lot more people focused.

When we shed GTS, when we spun out GTS, it gave us the ability to have technology focus sellers and IBM consulting focus sellers and so we no longer have the overlay of somebody who will hold quota for both. Now it’s here either in technology, which means hardware and software, on prem or anywhere or IBM consulting. And I would say quite frankly, if you’re in IBM consulting, you were selling yourself. So it’s not clear that I’m going to do a job saying, a good job saying “Hey! Let me sell you Katy’s services.” Like Katie services like he can sell your services to the customer. So I think they get to go directly to the customer and we get to do the same thing with technology.

So it not only gave us the ability to focus without having to manage services, but also gave the ability to increase productivity and reduce the number of overlays and really increase the number of quota carrying guys and gals that are out there selling technology and selling consulting. That combination has really given us – by the way, they’re all motivated to sell Red Hat.

I should have mentioned that, like when you asked about the benefits. I think the go-to-market benefits of Red Hat have been fantastic and the reach that we’ve added in our go-to-market capabilities that Red Hat couldn’t get there fast enough to get scale and so that was another benefit for Red Hat.

It certainly – we’ve changed our selling motion to be one of consumption and deployment, so we’ve now hired about 1,000 CSM’s or Customer Success Managers around the world, because selling software is one piece of it, but getting it deployed is really what’s important and so getting all those cloud packs that we’ve sold, getting the open shift software deployed is absolutely critical. And so now we pay people only on the consumption, only on the deployment of the software and their clients and then we pay them to cross sell and up sell obviously. But getting the stuff we’ve already “sold” and getting it installed and up and running and in production is something we track religiously, every two weeks, and these people are paid an incentive on how much software they get deployed.

Q – Katy Huberty

And a lot of those changes went into effect I think a year ago. You said you feel like IBM is – you know it’s passed some of the risk points of making changes within the sales force.

A – Tom Rosamilia

Yeah, I don’t know that we want to make a lot of changes. I’m sure we’ll do some refinement, but the most recent of these changes, just one effect in January in putting more people on quota. So having the technology sellers and IBM consulting sellers, that’s really, that’s only two months old, two and a half months old.

And so I think from a risk perspective I think we’ve managed it really well. From an upside perspective I think it’s more to come and we’re obviously counting on the fact that this was a good change to make. But I don’t think you want to keep changing and changing and changing, especially when it goes to in a sales motion you want to – the commitment to CSM, yes happened 18 months ago. The commitment to refined – I’ll call it go-to-market around consulting and technology is very recent.

Q – Katy Huberty

And just to wrap up, we’ve talked about some disruptive technologies that are playing out in the market today around things like AI and security. But when you think about the business over the next five years, what opportunities will we be talking about. I know Arvind has spent a lot of time on for instance, quantum computing.

Tom Rosamilia

And as did I up until about eight months ago in the systems role, and I think Quantum is going to fundamentally change the computer business, and I think we’re on the leading edge of this based on the work that’s been done with research and getting to an over 100 cubic system and getting to the point where quantum actually benefits, because most – up to this point it’s been, you know what you could do on a quantum system, you could do on a classic computer. So now we’re at the point where you have quantum supremacy, that things you couldn’t accomplish otherwise.

Think of quantum as really about mass optimization and about today we model things, because you couldn’t possibly represent all of them, whether it’s at the atomic level or it’s at the risk level for Monty Carlo [ph] simulation. You know I think we’re going to be able to – you’re going to be able to re-price risk on a transaction basis if they were – what did that loan or what would that loan do to my written portfolio if I go ahead and approve it.

So being able to do that level of optimization, some of which we do. I mean you saw this with – we’re going to see it more with oil, but you saw it with ships getting stuck in canals and people having to re-route things. Things stuck off the coast south of here and you know waiting for goods to come in, you know scheduling which things should get there first, where do I get paid a premium in order to get it quickly, where do I pay a penalty; I’m going to get spoilage if this container ship doesn’t come in. So there’s a whole bunch of work crew scheduling for airlines or hospital scheduling for balancing staffing with the quality of care obviously, are all things I think we’re going to see benefits from quantum computing.

On the software side, I think it’s going to be realizing a lot of what we’ve declared. I mean I will tell you that the pivots that Arvind has made in the last two years have been powerful and have me as a long time, which means old guy in the business, really excited about what I’m seeing. And so this move in this pivot to hybrid multi-cloud and our partnership in getting our software up and running on AWS and Azure in addition to the IBM cloud and on prem; building out the data portfolio, the security portfolio, it’s like we’ve done with automation. I think it’s very exciting and I think the move to ESG is also very exciting.

I think the partnerships around the eco systems will do more of this. We’ve got to prove it to people who are serious about the EY’s, the Deloitte, the Caps, the Indian providers and I think we’re building that, but we’ve got more work to do. So I think I’m good on pivots for now. I think we got to go execute what plays the boss has already called, and make sure that we can put the right meat on those bones of the strategy that he’s put together.

That doesn’t mean we won’t be paranoid and be watching and make sure that we’re adjusting to events in the marketplace, but I don’t think we’re going to see new categories of software, other than what I just defined in ESG and maybe what we’re doing with network automation around SDM. But I think the categories are there. It’s up to me now to go deliver.

Katy Huberty

Yeah, no that’s a great place to end, because it has been amazing to watch with the new leadership team, granted it came from within, but a new re-energized leadership team that as we talked about, changed the financial focus to the right metrics, made some big bets like with Red Hat, divested you know slower growth, less profitable business, investing in go-to-markets, clearly a focus on M&A. There’s a lot that’s been done in a pretty short period of time, right, since April of 2020 and now it’s really just about going and executing on sort of the hand you’re holding, so that’s great. Thank you so much for joining us.

Tom Rosamilia

Thank you so much Katy. Very much appreciate it. Great to see you in person.

Katy Huberty

Same, likewise.