IBM Tops Microsoft to Be World’s Second-Most Valuable Technology Company

International Business Machines Corp. (IBM) passed Microsoft Corp. (MSFT) to become the world’s second-most valuable technology company, a reflection of industry changes including the shift away from the personal computer.

IBM’s market value rose to $214 billion yesterday, while Microsoft’s fell to $213.2 billion. It’s the first time IBM has exceeded its software rival based on closing prices since 1996, according to Bloomberg data. IBM became the fourth-largest company by market value, based on yesterday’s closing price, and, in technology, trails only Apple Inc. (AAPL)

Chief Executive Officer Sam Palmisano sold IBM’s PC business six years ago to focus on corporate software and services. Though Microsoft has expanded into online advertising and games, it gets most of its revenue and earnings from the Windows and Office software used primarily on PCs.

“IBM went beyond technology,” said Ted Schadler, an analyst with Forrester Research Inc. “They were early to recognize that computing was moving way beyond these boxes on our desks.”

IBM remained ahead of Microsoft for a second day today, sliding $4.30 to $174.87 at 4 p.m. in New York Stock Exchange composite trading, as Microsoft dropped 56 cents to $24.89 in Nasdaq Stock Market trading. IBM, based in Armonk, New York, has gained 19 percent this year, while Microsoft, based in Redmond, Washington, has fallen 11 percent.

Apple, which long competed against IBM and Microsoft in the PC business, passed Microsoft in market value last year, on rising sales of iPhones, iPods and iPads. Apple’s market capitalization is $353.5 billion based on today’s close.

Palmisano’s Strategy

Palmisano, who is also chairman, has spent his nine years at the helm sharpening the company’s focus on software and services for corporations and government. Once known as the world’s largest computer company, IBM in 2005 sold its PC unit to Lenovo Group Ltd. (992), calling it “commoditized.” The company has spent more than $25 billion investing in its software, computer-services and consulting businesses.

The maneuvers have helped increase per-share profit for more than 30 straight quarters. Palmisano has boosted sales by 20 percent from 2001 through last year, while keeping the costs of the 426,000-employee company little changed. IBM pulled in more than half of its $99.9 billion in revenue last year from services and is now the world’s largest computer-services provider.

The company is betting it can add another $20 billion to revenue through 2015. Palmisano is investing in emerging markets and analytics, as well as cloud-computing and an initiative called Smarter Planet to connect roads, electrical systems and other infrastructure to the Internet.

Railways, Waterways

“Computing is now found in things that no one thinks of as ‘computers’,” said Palmisano at a trade show keynote in February. “Today, there are nearly a billion transistors per human, and each one costs one ten-millionth of a cent. Yes, some of these transistors are going into servers, PCs, smart phones, MP3 players and tablets. But an increasing number of them are going into appliances and automobiles, power grids, roadways, railways and waterways.”

IBM plans to almost double operating earnings to at least $20 a share in 2015. Investors have taken notice: Shares have climbed 35 percent since the company first announced the goal in May 2010.

Microsoft’s Slump

Microsoft, the world’s largest software company, was worth three times as much as IBM in January 2000 and hit a market capitalization of more than $430 billion in July 2000, according to Bloomberg data. Microsoft fell to about $135 billion in March 2009 during the economic downturn, before recovering with the market.

Microsoft, which had $69.9 billion in revenue for the fiscal year ending in June, got about 60 percent of its sales from the Windows and Office units in the most recent quarter.

“They were trapped in the classic innovator’s dilemma” because their software business was so good,” said Schadler. “The bet that Microsoft made in the PC business was to double down and double down and double down.”

CEO Steve Ballmer said investors may not appreciate the company’s progress in other businesses, including server software and online versions of Office, given the higher profile of its consumer businesses.

“People are saying, ‘Where do you go next?’,” said Ballmer at the company’s annual meeting in November. There probably isn’t “as much appreciation for the incredible growth and success we’ve had with enterprises since people relate better to the consumer market. But it’s great products with great earnings and particularly in some high-visibility categories.”

Xbox, Bing

The company’s server software and Office divisions boosted sales last quarter, as did the entertainment division, which includes its Xbox games business. Revenue at the online services division, including the Bing search engine, climbed to $662 million, while its operating loss widened to $728 million.

Microsoft also cut a deal with Nokia Oyj (NOK1V) this year to make its Windows Phone the primary operating system for the company’s smartphones. The deal is designed to help both companies compete against Apple and Google Inc. (GOOG)’s Android operating system, which is available for free to handset makers such as Motorola Mobility Holdings Inc. and Samsung Electronics Co.

Mobile and Cloud

IBM briefly passed Microsoft in market value rank on an intraday basis in May, and the companies may continue to switch positions, said Joel Achramowicz, an analyst for Blaylock Robert Van LLC in Oakland, California. While IBM has largely convinced investors it can execute its stable growth strategy, Microsoft has to prove it can move beyond PCs to tackle the mobile and cloud computing markets, he said.

“Right now, we’re on the cusp of a major offensive move on the part of Microsoft to position itself with some significant leadership, this time in the mobile sector,” he said. “Investors are skeptical, so the opportunity here is actually bigger for Microsoft than it is for IBM.”

Still, mobile computing is unlikely to ever be as profitable for Microsoft as the PC business, said Forrester’s Schadler.

“They’re never going to win in that business the way they did in the PC business,” he said.

To contact the reporters on this story: Sarah Frier in New York at sfrier1@bloomberg.net; Dina Bass in Seattle at dbass2@bloomberg.net

To contact the editor responsible for this story: Peter Elstrom at pelstrom@bloomberg.net