IBM and Sun: Is it about the hardware or the software?

The Wall Street Journal reports IBM is in acquisition talks with Sun Micro systems. At this point, the companies are refusing to comment on the rumor. If it comes to pass, the acquisition would give IBM a larger share of the high-end server and storage markets and enhanced access to certain customers, especially in the financial services and telecommunications industries. However, the software aspect of the deal might have a larger impact on IBM and the industry as a whole.

Today, IBM is best thought of as a services and software company with a computer hardware division. In 2008, services and software represented 79% of IBM’s revenue and 82% of its pre-tax income. In contrast, hardware represented only 19% of revenue and 9% of pre-tax income. The Sun acquisition would undoubtedly boost IBM hardware revenue and might improve hardware profitability, but the positive impact to IBM’s services and software businesses could easily dwarf these benefits.

Java makes Sun shine for IBM

In addition to its sizeable hardware business, Sun has some strategic software assets, including the Java programming language, the Solaris operating system, and several open source technologies, including the MySQL database management suite. Solaris and the open source technologies are unlikely to make significant contributions to IBM’s software or services revenue, but by owning and guiding Java, the company could create a sustainable competitive advantage over some of its largest services and software competitors.

Java has flourished while Sun hasn’t. Nearly every major middle ware and enterprise application vendor (with Microsoft the exception) has built key applications using Java and has plans to build more. By extension, nearly every major corporation relies on Java for some part of its core business processes.

Sun has realized little revenue from all this love for Java. In 2008, the company recognized only $200M from its Java software, an increase of only 0.5% from the year before. As a hardware company, Sun struggled to turn Java into revenue and profit. Unlike Sun, IBM is in a prime position to monetize that asset.

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