Big system sales hit the Y2K wall

Fears of a high-end hardware slowdown caused by year 2000-inspired system "freezes" became reality last week when industry bellwether IBM stunned observers with server sales far below already lowered analyst expectations.

IBM's warning that Y2K was also likely to affect hardware sales for the next two quarters resulted in its stock getting hammered. Shares closed at 91 Thursday, down 16, or 15%.

But chances of an IBM-like slowdown hitting vendors of lower-end servers and PCs as well were less likely, as users of those systems have said they will continue to develop new applications during their freeze periods.

"There appears to be Y2K impact, especially in legacy, mission-critical environments like IBM's," wrote Steve Milunovich, an analyst at Merrill Lynch & Co., in a report issued following IBM's earnings announcement.

Another big-system vendor, Unisys also warned of a hardware decline in the next quarter because most of its customers had shifted fourth-quarter hardware spending to the third quarter in preparation for the year 2000 transition.

"Unix and Internet-driven applications are less affected," Milunovich said.

Revenue from IBM's flagship S/390 mainframe fell by 40%, and revenue from its popular AS/400 midrange systems plummeted by 30%, contributing to an overall decline of 1% in IBM's hardware revenue of $8.8 billion from the same quarter last year.

IBM's S/390 sales decline was double what Milunovich had predicted for the quarter. It was also greater than the 30% decline from last year projected by David Floyer, an analyst at mainframe consultancy Impact IT in San Francisco.

Overall for the quarter ended September 30, IBM had profits of $1.8 billion on revenue of $21.1 billion. Those figures were up 1.3% and 5%, respectively, from the same period last year.

Freezes weren't the only Y2K-related reason that large-system customers didn't buy as many systems as expected. Some companies are still absorbing the extra capacity they purchased for Y2K testing, said IBM Chief Financial Officer Douglas Maine.

The critical nature of applications that run on mainframes and on specialised servers like the AS/400 had always made it unlikely that users would want to tinker with hardware upgrades in the fourth quarter, said Joseph Ferlazzo, an analyst at Technology Business Research.

"The idea of doing any radical changes to our mainframe systems in mid-December just seemed plain stupid this year," said Dan Kaberon, parallel sysplex manager at Hewitt Associates, a benefits outsourcer.

Hewitt completed installing four of IBM's new Generation 6 mainframes in the past month and figures it has enough capacity to carry it through the year. Now it has a system freeze in place until mid-January during which "all we will do is fix any functional problems as they arise," Kaberon said.

Many companies, such as Sears, Roebuck and Co. and Merrill Lynch, enacted similar year 2000 "lockdowns" that began on or around October 1. "We've put a deep freeze" on deploying any new applications from October 1 until early January, said Douglas W. Paige, vice president of the information technology division at American Re Corp. in Princeton, N.J. But like other companies, American Re isn't putting the brakes on developing new systems, only on rolling them out, noted Paige.

"CIOs are just being very reluctant about doing any modifications" to their mainframe environments for the moment, Floyer said. "This does not mean the death knell of the S/390."

Meanwhile, Y2K factors were also to blame for lower earnings at makers of corporate software packages, including SAP AG.