Editor’s note: Geoff Woollacott is a senior analyst and engagement manager with research firm Technology Business Research. He sees both good and bad news in IBM’s earnings report, which was released Wednesday. The news rattled investors with IBM shares dropping more than 6 percent in after-hours trading. Revenue fell to $23.7 billion in the quarter as hardware sales fell and IBM posted the first revenue decline in emerging markets in its history.

HAMPTON, N.H. – IBM’s (NYSE: IBM) Global Services segment led the way for the third quarter, but that performance was not enough to offset declines in Systems and Technology Group (STG) and in growth markets

A smarter IBM sees accelerating performance in Global Services fueled by 5 percent year-to-year constant currency growth from GBS to $4.6 billion and break even performance by GTS at $9.5 billion for 3Q13. In 3Q13, GBS gross margin improved 170 basis points to 39.0% while GTS improved gross margin 180 basis points to 32.9% for the corresponding period.

Against the backdrop of the external disruptions in the industry, the top and bottom line performance metrics remains sound and allowed IBM to claim that GBS gained share in the quarter.

Overall, services came out of the quarter with 6 percent growth in total backlog on a constant currency basis to $141 billion, leading IBM to believe both segments will accelerate their year-to-year operating performance metric improvements in the fourth quarter. 3Q13 did have ominous elements, leading with the continued challenges of the performance of the STG and in the growth market geographies.

IBM pushed China onto the sword to explain the operating difficulties, claiming China was down 22 percent overall with hardware sales to China down 40%. Partially offsetting the decline in growth markets, was a return to level to slightly improved revenue performance in mature markets such as North America and Western Europe for the first time since 1Q12. Should this quarter be a leading indicator of these economies returning to growth, it will bode well for data center incumbents such as IBM due to pent up demand for technology refresh cycles finally being unleashed.

IBM Heightens Focus on Cloud

IBM is managing the accelerating transition to the cloud that erodes core business lines in the process.

IBM is not immune to the overarching disruptions to core revenue streams cloud technology accelerates. IBM reported that Smarter Planet, Business Analytics, and Cloud revenue comprising its growth initiatives were up 20 percent, 8 percent and 70 percent, respectively year to year. IBM also stated cloud revenue surpassed the $1 billion mark for the first time on a quarterly basis, with $460 million coming from “‘as-a-service” revenue streams.

Reporting clarity will improve going forward both due to its strategic importance to IBM and due to the external concerns being raised by the SEC on the reporting metrics. In August 2013 reports surfaced noting that leaked internal documents placed IBM’s cloud revenue at $2.26 billion in 2012, indicating an implied compound annual growth rate of 46 percent required over the next three years to hit its 2015 goal of $7 billion. Despite external concerns, IBM continues to build momentum in expanding its cloud business.

The firm captured multiple new cloud wins in 2013, announced the availability of a full suite of cloud offerings on its SoftLayer infrastructure layer, and launched new cloud centers in LATAM and EMEA. IBM’s cloud success will depend on its ability to build critical mass in the space through additional acquisitions, which will increasingly be deployed to add niche specific applications for deeper industry-specific offerings.

Further, renewing client confidence in the cloud brand will take center stage, compelling the firm to become more transparent about cloud performance to secure its cloud mind share at the large enterprise level and protect against vendor churn as its ITO install base migrates to comparable cloud offerings.

IBM Continues to Shift to Higher-Value Solutions

IBM continues to migrate its services and solutions portfolio up the value stack by pairing divestitures with selective software-centric M&As. Acquisitions will remain IBM’s primary vehicle for transformation during the remainder of 2013 and 2014, as the firm targets tuck-in candidates that augment its cloud, mobility, and business analytics capabilities in both software and services.

Further, IBM will emphasize joint pursuit of acquisitions with IBM Software and IBM Global Services teams to ensure identified candidates can be quickly integrated into high-growth cross-organizational solutions brands such as MobileFirst, Smarter Commerce, and the IBM Cloud Services division. In September, IBM unveiled plans to sell its customer care BPO business to Synnex for $505 million.

IBM also announced multiple acquisitions in 3Q13, including U.S.-based security software firm Trusteer, analytics software company The Now Factory and mobile development firm Xtify. The Now Factory will be folded into IBM’s MobileFirst solution set, while Xtify will become part of IBM’s Smarter Commerce portfolio. These investments underscore IBM’s ongoing drive to develop standardized, end-to-end solutions built on proprietary software that deliver industry or functional business outcomes.

(C) TBR