There's A New Way To Think Big Blue

By Daniel Eisenberg/Armonk

Sam Palmisano has the easy, boyish grin and hearty laugh of the consummate salesman he has been for much of his 30-year career at IBM. He can seem quite a contrast to his predecessor as CEO, Lou Gerstner, a notoriously gruff, prickly outsider responsible for one of the greatest turnarounds in corporate history. But nearly a year after taking over the reins amid a lingering slump in corporate spending on technology, Palmisano, 51, has shown that he has sharp teeth behind that smile.

He has accelerated Big Blue's transformation from a hardware dinosaur to a technology-services dynamo--a firm that, rather than just selling computers and software, can persuade FORTUNE 500 clients to let it provide all their technology needs, from support staff to data storage. Over just the past half-year, Palmisano has spent $3.5 billion for the consulting arm of PricewaterhouseCoopers, which gave IBM the people and contacts to turbocharge its services business, and has paid $2 billion for Rational Software, which provided new software-development tools. He agreed to sell IBM's money-losing hard-drive business to Hitachi. And he's still working his magic on clients: J.P. Morgan Chase just agreed to pay IBM $5 billion over seven years to take over much of the financial giant's elaborate IT operations.

Even as Palmisano sat down to talk with TIME at IBM's woodsy, secluded headquarters in Armonk, N.Y., he was busy last week announcing a pact to outsource more of IBM's PC and low-end server manufacturing. "This is the opportunity of a lifetime for IBM," he says, "to go from a company that was almost out, to a comeback, to being the undisputed leader."

Palmisano's optimism might seem forced amid the wreckage left behind by the tech bust, with cash-strapped companies wary of spending on technology that often doesn't live up to expectations. Such skepticism is one of the principal reasons that IBM's 2002 earnings, which will be announced this week, are expected to drop more than 10%, a reversal from the solid, double-digit annual earnings growth that Gerstner consistently achieved--and that Palmisano is promising for 2003. That pledge will be all the harder to keep at a time when Wall Street is taking a much closer look at earnings quality, especially at IBM, which, while doing nothing illegal, has been known for boosting earnings with pension income, asset sales and share repurchases.

Listen to Palmisano for a while, though, and you might begin to share some of his contrarian views. With CEOs, CFOs and CIOs desperate to cut costs and focus on their core businesses, IBM believes it can, in the words of a money manager who owns the stock, "wrap its arms around customers even more" by supplying IT seamlessly, on demand, on a variable, pay-as-you-go basis. J.P Morgan Chase bought Palmisano's pitch, as did American Express. But it's not yet clear how many others will be willing to hand over more control to IBM. And fine-tuning the technology to accurately measure and bill customers for their usage will be no small feat. But if Palmisano can pull it off, and finally make all those confounding boxes and wires work the way they're supposed to, he will not just be enriching the lives of millions of IBM shareholders, its 319,000 employees and the entire tech economy--but all the beleaguered office workers who daily curse their PCs.

In its CEO's ambitious vision, IBM is becoming an unprecedented, one-stop shopping destination to help companies electronically integrate their divisions, as well as suppliers, partners and customers. Not only will it help devise business strategy, redesign and even take over key processes like human resources and finance, it will also deploy hardware and Web-enabled software (from both IBM and others) to make it happen. In some cases IBM will provide the entire system--with the hardware often located far from the customer--as a utility that corporations can buy "just like they buy electricity," as Palmisano has said. Instead of having to make a costly bet on an army of new servers and software, companies like American Express can ramp their computing power up or down as market conditions dictate. "There's a lot less risk for the customer if they can work their way up and see the benefits as they go," says Bob Zapfel, head of IBM Services for the Americas.

Big Blue, of course, isn't the only one going after this industry Holy Grail. It will have to do battle with hardwaremakers like Hewlett-Packard and Sun Microsystems; consultants like Accenture; outsourcers like EDS; and software players like BEA, Oracle and Microsoft. Its competitors snort that IBM simply glues together a hodgepodge of inferior systems--all too often pushing its own--and then charges big bucks to have its consultants keep them from breaking down, an approach they predict will soon lose its appeal. IBM's strategy "is an acknowledgment that the very technology it has been peddling all these years has been tremendously complex and expensive," says Barry Goffe, a group manager at Microsoft. Palmisano is quick to fire back at rivals, who have pushed their expensive, "best of breed" tech solutions to hapless customers. "The so-called pure plays were supposed to kill integrated players like IBM every day," he says. "But their model didn't fulfill the economic promises it made."

In the past couple of years, IBM has rounded out its software portfolio, leaving the applications side of the business to specialists like J.D. Edwards, PeopleSoft, SAP and Siebel and focusing instead on the "middleware" market that glues those business applications together. With the savvy leadership of software chief Steve Mills, IBM's database and application server product WebSphere has gained market share, even winning a key, much contested contract with eBay. J.D. Edwards, an enterprise software company focused on the fast-growing market among medium-size businesses (those with 100 to 1,000 employees), recently decided to standardize all its applications on IBM's middleware. "It's about ongoing viability, who's going to be able to compete with Microsoft," says Lenley Hensarling, a vice president of product management at J.D. Edwards. "We're going to see a choosing up of sides."

Meanwhile, Big Blue has more tightly embraced Linux, the grass-roots operating system that Palmisano originally championed inside the company and that is becoming a legitimate threat to both Unix and Microsoft's Windows. IBM's research division, in which the company invests $5 billion a year, is also trying to come up with an "autonomic" technology, so that complex systems can fix themselves, and IBM can serve up technology without spending so much on labor.

But the linchpin of Palmisano's strategy is Big Blue's services business, which already accounts for about half the company's revenue. By shrewdly purchasing PWC's consulting business on the cheap at the bottom of the market--only a couple of years after HP had considered buying it for five times the price--Palmisano acquired a wealth of industry-and-process expertise, as well as a valuable Rolodex of high-level CEOs and CFOs who increasingly make big IT purchasing decisions.

He may have learned a lot of what he knows from Gerstner, but early in his career Palmisano gleaned valuable insights from another business legend, Sam Walton, founder of Wal-Mart. At the time, Palmisano had been tapped as a "high potential" leader at IBM and was serving a stint as an executive assistant to Gerstner's predecessor, John Akers, learning the ropes by shadowing the CEO. It was 1989, a few years before Gerstner arrived to tear apart IBM's insular culture, and Big Blue was still plagued by rigid hierarchies, endless meetings and wasteful trappings of executive life.

Walton had asked Akers to give a speech at a university near Wal-Mart's headquarters in Bentonville, Ark., and he invited both Akers and his young assistant to come by the next day to sit in on a staff meeting. That morning Palmisano was shocked to see Walton, one of the richest men in America, pull up to the hotel in his battered pickup truck and drive the two IBM suits over to his company's bare-bones headquarters. As Walton's top lieutenants spoke, the chairman took copious notes. Then, after about 90 minutes, Walton abruptly excused himself, telling all assembled that he had to go check out what was going on at his stores. "It made a big impression on me," says Palmisano. "He had a complete focus on the customer and on what generated shareholder value."

As Palmisano climbed the ladder at IBM, he became known as a penny-pinching tactician who loves to court developers or customers but doesn't have much patience for sales-award cruises or team-building retreats. Palmisano "doesn't talk down to anybody, and he doesn't put on airs," says technology consultant Sam Albert, a former executive at IBM. Palmisano doesn't travel with an entourage, nor does he have an executive assistant or personal spokesman. On at least one occasion, he arrived at a meeting and lit into underlings for spending money on an elaborate floral centerpiece. They may be little things, Palmisano says, "but they set the tone for the whole organization."

Raised in Baltimore, the son of an auto body-shop owner, Palmisano grew up in a big, solidly middle-class, Catholic family, learning the ways of the world at an early age from his grade-school classmates, some of whose fathers in the rough, corruption-rife port city were being indicted for various crimes.

As an offensive lineman on his high school football team, Palmisano displayed a knack for preparation, devouring the scouting reports before games and almost never blowing a blocking assignment, according to assistant coach Augie Miceli. (Palmisano went on to play for Johns Hopkins University, where he earned a degree in history.) Off the field, he also showed an early entrepreneurial streak, once earning $1,000 as a fill-in saxophonist when the Temptations were in town.

Through a string of promotions, Palmisano has lived with his wife and four kids for nearly two decades in the same house in Southport, Conn., where his neighbors and friends include GE chairman Jeff Immelt. But along the way, Palmisano has developed a bit of a taste for the good life. By way of his wife, who comes from a prominent Connecticut banking family, Palmisano counts the first President Bush as a friend and golfing buddy, and his family's hideaway is a house in Kennebunkport, Maine, that he purchased from, you guessed it, the Bush family. "Palmisano is loose around power," says Doug Garr, the author of IBM Redux.

From almost the moment Palmisano joined IBM as a marketing trainee in the data-processing unit straight out of Hopkins in 1973, he stood out for his maniacal attention to execution, candor and wit. Throughout his career, as he built up the services organization, stemmed the losses at the PC unit, simplified the server assembly line and skillfully bridged the culture gap at IBM Japan, he has made clear that he is not your average IBM stuffed shirt. He would get visibly upset, sometimes snapping pencils in half, if meetings or presentations dragged on, and he was known on at least one occasion to go over to an IBM plant to personally thank workers for beating the production schedule on a new computer. A former colleague says of Palmisano, "It's a rare guy who can beat the hell out of you if you missed your numbers, and you still can't wait to show up for him the next day." That kind of loyalty should come in handy if Palmisano and Big Blue are going to meet their own ambitious goals. --With reporting by Jyoti Thottam/New York

With reporting by Jyoti Thottam/New York