Hitachi Ltd. has been one of the most successful examples of the Japanese conglomerate structure: a panoply of business units spread across the industrial, consumer and technology sectors that is meant to buttress the parent organization against fluctuating market demands and spending patterns.

While Hitachi’s more well-known consumer and industrial divisions have garnered the bulk of the international recognition, it’s the company‘s recent efforts within the technology sector, by way of its Hitachi Data Systems (HDS) business unit, that have moved Hitachi up from the factory floor and onto the radar of enterprise IT buyers.
Led by CEO Shinjiro Iwata and President Dave Roberson, Santa Clara-based HDS has been aggressively cultivating the storage and server markets, with products ranging from high-performance enterprise boxes to ATA disk drives to virtualization software. With its high-performance Lightning storage systems, HDS has increasingly grabbed market share from both IBM and EMC, and the company has its eyes set on using its Thunder line of products to extend its reach in the highly competitive mid-market storage arena.

As a result of its burgeoning performance, HDS has become the primary profit engine for parent Hitachi Ltd.: its $345 million in operating profits during the first half of fiscal 2002 were over 68% of Hitachi’s overall $505 million operating profit. With 2002 revenues expected to exceed $2.1 billion, HDS is clearly the engine for Hitachi’s growth at the corporate level. (The importance of HDS’ continued success to Hitachi overall was recently enunciated by company president Etushiko Shoyama, who hopes to reinvigorate the company’s infrastructure by declaring "Hitachi is Technology.")

More Than Just a Pretty Box
While the current picture remains relatively rosy at HDS, there also are some thorns that the company must shear (or at least dull) if it hopes to continue its profitability. First and foremost, HDS continues to be seen in the industry and the media as a "box maker." While its hardware’s performance has consistently been among the best in the market, price competition, lowered margins and diminishing demand mitigate this segment’s potential as a long-term profit driver.

Like the other big-box hardware moves, HDS knows it must diversify its revenue base through higher-margin software and services offerings. To this point, HDS has not generated much, if any, momentum on this front. During 2001, Gartner Dataquest estimated that HDS sold only $91 million in storage software, placing it eighth in the sector but well behind the almost $1.5 billion sold by leader EMC and the $977 million sold by #2 Veritas. Gartner predicts the storage software market to expand from $4.9 billion in 2001 to over $8.6 billion in 2006, so HDS must seriously ramp up its application initiatives in order to keep pace with the competitors who are equally as focused on software development.

In the hopes of elevating its software and services efforts, HDS announced its True North vision, whereby HDS will deliver storage virtualization for heterogeneous storage resources. While it seems everyone has a unique vision for creating open IT operating environments, HDS brings some additional cachet to the table that its storage-only competitors lack. The company’s JP1 enterprise management software is first in market share in Japan, according to IDC, Nikkei, and Gartner—ahead of competitors such as IBM and CA.

According to analysts, this enterprise-level software background could give HDS a leg up on companies like EMC and Veritas: "The storage side could benefit not only from collaboration with the enterprise software group but also through a shift in resources toward storage," says Lehman Brothers analyst Harry Blount in a recent report. However, any software gains would mean have little bottom-line impact unless the parent company can stem the growing losses from its electronics devices unit and increase profits from its marginally profitable power and industrial systems businesses.

Management Worries
Financial analysts covering Hitachi are generally enthusiastic about HDS’ prospects, but remain skeptical about its parent’s inability to adapt to the changing global economy. Merrill Lynch recently noted that despite vigorous cost cutting taking place in the executive suite, "the company still lags in tackling liquidation/integration businesses."

Like other Japanese conglomerates, Hitachi has been loathe to jettison underperforming businesses. Salomon Smith Barney’s Kathleen Boyle notes "that operational reforms have been slow in coming" and that President Etsuhiko Shoyoma’s plans for management reforms probably will be postponed yet again.
HDS also faces the challenge of trying to integrate the recently purchased IBM hard drive business. The combination of falling prices within the hard drive market and an unclear picture of demand means the unification will likely be a drain on short-term earnings and resources.

Compounding the difficulties are the continuing vitality of the yen vs. the dollar. Analysts note that even small fluctuations in the exchange rate could have a significant impact on earnings, with a ¥10 swing translating into a potential $250 million impact on earnings.

As it enters 2003, HDS faces a tumultuous period of transition and, perhaps, transformation. While HDS’ recent track record suggests the company will continue to perform well, it is unclear whether Hitachi Ltd. knows how to handle the success.