With $34B Red Hat deal closed, IBM needs to execute now


IBM President and CEO Virginia Rometty
Image Credits: Chesnot / Getty Images

In a summer surprise this week, IBM announced it had closed its $34 billion blockbuster deal to acquire Red Hat. The deal, which was announced in October, was expected to take a year to clear all of the regulatory hurdles, but U.S. and EU regulators moved surprisingly quickly. For IBM, the future starts now, and it needs to find a way to ensure that this works.

There are always going to be layers of complexity in a deal of this scope, as IBM moves to incorporate Red Hat into its product family quickly and get the company moving. It’s never easy combining two large organizations, but with IBM mired in single-digit cloud market share and years of sluggish growth, it is hoping that Red Hat will give it a strong hybrid cloud story that can help begin to alter its recent fortunes.

As Box CEO (and IBM partner) Aaron Levie tweeted at the time the deal was announced, “Transformation requires big bets, and this is a good one.” While the deal is very much about transformation, we won’t know for some time if it’s a good one.

Transformation blues

GettyImages 149615583
Photo: Jon Feingersh Photography Inc via Getty Images

IBM has been in the process of transforming for the better part of this decade with limited success. To its credit, and that of CEO Ginni Rometty, it recognized that it needed to move the company to the cloud if it was going to survive long term. To that end, the company purchased SoftLayer in June 2013 and began the process of becoming a cloud company. Over time, it has layered on platform and software services, but it has consistently struggled to move the market share needle.

How tough has it been for IBM to transform? The company suffered through an astonishing losing streak of 22 straight quarters without positive revenue, a streak that dated back to 2012 and finally ended in January 2018. But IBM has started yet another ignominious streak of 3 additional losing quarters. It clearly needs a win.

As it has struggled to find its way in the cloud, IBM decided to go after a market leader in Red Hat, which in itself has been on a transformation journey over the last couple of years, moving from a company that strictly sold enterprise Linux to one that helped companies manage the hybrid cloud, and it was the latter in particular which likely motivated IBM to pay so much money.

Hybrid to the rescue

IBM believes it can parlay the Red Hat deal into a much broader market presence, allowing it to not only sell its own cloud, which obviously hasn’t gone all that well to this point, but to other clouds as well. Rometty told CNBC’s Jim Cramer that she sees this is as a strong market differentiator. “We have the leading platform for the hybrid cloud. That means it runs not only on the IBM Cloud, not only on-premise and private clouds, it runs on every other public cloud out there, so whether that’s Amazon, Microsoft, Google, whoever it is, it now runs on those as well. So, that extends our reach into those clouds,” she told Cramer.

She’s not wrong about the opportunity, and Patrick Moorhead, principal analyst at Moor Insights and Strategy sees a combined IBM and Red Hat as a company that could be at the forefront of the hybrid market. “IBM clients can come to the new combined company as a “one-stop-shop” for hybrid cloud. To work best, IBM needs to integrate enough to matter, but distance itself enough to quickly innovate,” Moorhead told TechCrunch.

Making the most of an opportunity

Yet having a market opportunity doesn’t automatically mean that IBM can execute on it. In fact, according to John Dinsdale, principal analyst at cloud market research firm, Synergy Research, the term ‘hybrid cloud’ is difficult to nail down. “The term is bandied around like it is a very discrete market and it just isn’t. In terms of a simple description hybrid cloud is basically all about enabling enterprises to deploy and manage a bundle of cloud services from public cloud providers and internal IT assets. So it is mixing, matching and managing external cloud services and internal private cloud infrastructure,” Dinsdale explained.

Dinsdale thinks the deal was a good move from a strategic perspective, but has issues with the price tag. “It’s just enormous. This was a huge bet for IBM and its destiny is now in its own hands. Whenever you pay a high price for a company that has a unique position in a market, you have to work hard and smart to protect and nurture that business,” he said.

While Moorhead likes the deal overall, he recognizes there could be pitfalls along the way, and this is by no means going to be a slam dunk. “If the transition goes as planned for IBM and Red Hat, IBM will be a full-service cloud provider spanning traditional enterprise, private cloud, hybrid cloud and multi-cloud. That is a very powerful value proposition,” he said. Conversely, Moorhead said that if the deal doesn’t go as planned, companies will accelerate quickly to alternatives like VMware and other public cloud vendors.

Even though the deal is sound on paper, the devil will certainly be in the execution details, and combining two companies like IBM and Red Hat was never going to be easy. “In terms of culture and independence, IBM and Red Hat are two very different beasts and IBM has to be extremely careful about leveraging all of the strengths of Red Hat while not over-managing it or diminishing its ability to thrive and grow. So far IBM seems to be saying the right things. This will come down to how well IBM follows through in the next couple of years,” Dinsdale said.

All of this means, IBM has once again seen the future clearly and used its pocketbook to move where it sees the puck is going, but whether it can take that rather expensive asset and combine it smoothly into the organization will likely be the key to its success. As Levie pointed out, transformation takes big bets, and IBM just went all-in with this one.

IBM is betting the farm on Red Hat, and it better not mess up

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