Wednesday, January 21, 2009

The power of maintenance in software companies

J.P. Morgan Research North America Equity Research

Software Update: IBM's Software Results: The Power of Maintenance

IBM’s results will likely have a net positive effect on equities in the Software sector, at least over the near term, as the Software business results provided support to both the top and bottom lines against a difficult macro backdrop. We believe that IBM’s software performance helps to validate our positive call on the Software sector relative to other tech segments, primarily because of the recurring nature of highly profitable maintenance.
  • *  Software shines against rough macro. Both revenue and margins for the software business grew (margins meaningfully) even in a quarter where hardware sales certainly suffered. We believe this can largely be attributed to maintenance, as lower margin license revenue likely declined. We expect maintenance to grow and enable Software companies to protect their bottom lines better than most anticipate.

  • *  What’s the real growth rate? The most important numbers here when gauging the software industry were +5% estimated organic growth on a cc basis for Key Branded Middleware, and +4% estimated organic growth on a cc basis for overall software. These numbers are up from flat and +2%, respectively, in the September quarter.

  • *  Read-across to software industry. As the third-largest software company in the world, IBM’s results for its software business can offer some insight into the entire software segment. While we attempt to draw some conclusions here, we would also caution that it is often difficult to ascertain granular conclusions from these results, as they are muddied by acquisitions and the vastness of IBM’s software business, which can be confusing when determining revenue allocation.