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IBM Sales Fell in 2014, but CEO Rometty's Changes Are Starting to Stick

More work to do, but much has been done.

At the start of 2015, IBM is a different company than it was a year ago.

It is, by some measures, a smaller company than before. One of those measures is revenue: IBM closed out 2014 with $93 billion in revenue, down by about six percent from nearly $100 billion in 2013.

Much of that decline is because it has fewer pieces than before. During the year, it sold off three money-losing business units worth about $7 billion in revenue: Commodity servers, customer care and chip manufacturing. Collectively they lost about $500 million a year.

There are more changes to come and many already in the works, but they will take time to take hold. CEO Ginni Rometty has sought to boost Big Blue’s focus on software and cloud computing. But it was clear from the results of its fourth quarter that there is much work yet to do.

Revenue at $24.1 billion fell short of the $24.8 billion analysts had expected. Earnings on a per-share basis, at $5.81, beat the consensus by 40 cents. Guidance for the year was below expectations. IBM said it expects to earn between $15.75 and $16.50 per share in 2015, well below the consensus view of $16.53. (Another change: IBM abandoned a prior promise to deliver earnings of $20 per share this year.) Shares fell about two percent in after-hours trading.

In the fourth quarter, practically every business unit posted revenue declines: Hardware sales fell 39 percent; Global Technology Services fell more than seven percent; Global Business Services fell by more than eight percent; Software fell seven percent.

Geographically, revenue was down all over the map: Sales in the once-powerful BRIC countries (Brazil, Russia, India and China) fell 21 percent; The Americas fell nine percent; Europe dropped 13 percent; Asia-Pacific declined 17 percent.

That’s not to say there weren’t mitigating factors. In hardware, for example, IBM just announced a new mainframe product (its big industrial-strength computer, typically purchased by financial and banking companies for processing transactions). Historically speaking, a decline in hardware sales could be expected because customers knew a new mainframe was coming. On the other side, a new mainframe usually boosts hardware sales, so stay tuned for that.

In software, IBM’s transition is under way toward selling applications as a service, with a corresponding effect on how software revenue is reported. Cloud software is sold as a subscription, whereas old-school on-premise software is sold for a single up-front price and booked all at once. Selling the new way has to catch up with the old way. This tends to hurt revenue in the short term as cloud sales scale up over time. Other companies trudging through similar territory include Oracle and SAP.

There was some good news. IBM said its cloud business, made up primarily of the SoftLayer cloud business on which it spent $2 billion in 2012, is now worth about $7 billion in annual revenue, having grown 60 percent versus 2013. IBM claims it’s now the biggest cloud services business in the world, bigger even than Amazon Web Services, though saying that is a bit of an apples-and-oranges comparison.

The cloud business is one of what IBM likes to call its “strategic imperatives,” which also include its mobile, analytics software and security initiatives. Combined revenue in these businesses grew by 16 percent. But they’re not yet big enough to move the needle on IBM’s overall results.

That could change this year. For example if the cloud business grows at anywhere near the 60 percent rate it posted in 2014, it could reach $11 billion annually. That would be bigger than hardware by revenue. More importantly, assuming its gross margins are similar to what Amazon is thought to get (Amazon doesn’t disclose this figure, but estimates range as high as 90 percent), IBM’s cloud business could be twice as profitable as hardware.

That in a nutshell symbolizes the transformation that Rometty is trying to execute: Build up new, more profitable businesses, while getting rid of unprofitable ones. As CFO Martin Schroeter put it when wrapping up a conference call with analysts: “I think you’ll see us exit 2015 with higher margins than we started with.”

There are still many hurdles. The cloud business in particular will require investment to build new data centers and to market aggressively to new customers. Schroeter warned there will be more such investments this year: “Margins are impacted by the investments we are making and the cloud business, as it is not yet at scale.”

And there’s potentially more good news to come. There’s the alliance around mobile software with Apple, which is only now beginning to get going for real.

Clearly there’s more work to do at Big Blue. But much has already been done.

This article originally appeared on Recode.net.