International Business Machines Annual Report 2019

FY2019 Annual Report · International Business Machines

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Dear
IBM Investor:
Over the past
decade, hundreds
of thousands
of IBMers have
transformed your
company. Today,
IBM has laid the
foundation for a new
era of technology
and business.

2019
Annual Report

Dear IBM Investor:
Over the past decade,
hundreds of thousands of
IBMers have transformed
your company. Today, IBM
has laid the foundation for
a new era of technology
and business.

It’s easy to forget that we are still in the early stages
of a long cycle of technological revolution. The driving forces
of this change are well understood: the phenomenon of data,
the value of cloud and the scaling of artificial intelligence.

As a result, we are experiencing a great wave

of corporate transformations, as the most essential
organizations in the world—transportation providers,
hospital networks, financial services, telecommunications
networks, government agencies and more—become digital.

But the most challenging and complex work of these
digital transformations still lies ahead. We call this work
“Chapter 2,” in which our clients modernize and move their
mission-critical workloads to the cloud, and infuse AI deep
into the decision-making workflows of their business.
At the end of this journey is something we have termed the
Cognitive Enterprise: an agile organization that is fueled
by data, guided by AI insight and built for change
on a hybrid cloud.

The IBM company itself has been transformed
to enable our clients’ digital reinvention. In my last letter
to you as CEO, I will share our 2019 financial results, detail
the many changes we have made to build a strong foundation
for growth and prepare your company for the future, and
share our plans for transitioning to new leadership in 2020.

Virginia M. Rometty
Chairman, President and
Chief Executive Officer

A Letter from the Chairman

2019: Enabling sustainable growth
In 2019, IBM delivered a second consecutive year of revenue
growth excluding the impact of currency and divestitures.
We ended the year on a strong note, with accelerating
revenue growth and our strongest year-to-year increase
in gross profit margins in over a decade.

For the full year, the company achieved $77.1 billion
in revenue, operating gross profit margins of 48 percent
and operating earnings per share of $12.81. We had strong
cash generation with net cash from operating activities of
$14.8 billion and free cash flow of $11.9 billion. We returned
$7.1 billion in capital to our shareholders, including
dividends of $5.7 billion. This was the 24th consecutive year
of raising our dividend, and the 104th consecutive year
of providing one.

These results are the product of bold moves to

transform your company from top to bottom, strengthening
our integrated value proposition and positioning us for
sustainable growth.

The new foundation of integrated value
The problems we solve for clients are complex equations
that cannot be satisfied with technology alone. They require
a partner that can also offer deep industry expertise
and a relationship of trust.

IBM is the only company that combines the portfolio,

people and sense of purpose necessary to meet today’s
enterprise demands. Over the last decade, we have forged the
foundations of our end-to-end, integrated value proposition
through a series of transformative actions.

1. Capital: A bold shift to drive innovation
Transformation requires investment. And since 2012,
we have devoted significant capital to developing new
capabilities. In all, we invested more than $120 billion
to transform our strategy, our portfolio and our workforce.
At the same time, we returned $97 billion to shareholders.

We invested nearly $30 billion in capital expenditures,

building our cloud and cognitive offerings and bolstering
our security and services capabilities.

We have also invested $45 billion in research and
development, forging the futures of cloud, AI, blockchain
and quantum computing. IBM inventors received 9,262
U.S. patents in 2019, the most ever awarded to a U.S.
company. It was our 27th straight year of patent leadership.
We have bolstered our portfolio with 65 companies,
including Red Hat, the largest acquisition in the history
of IBM. In Red Hat, we acquired a powerful growth engine,
and a company synonymous with the cloud, open source
and interoperability. Its singular architecture allows
clients to build an application once and run it anywhere.
And it enables the seamless integration of multiple clouds,
from any vendor, addressing a $1.2 trillion hybrid cloud
market opportunity.

2. Portfolio: Built for the future
The shifts in capital allocation were designed to build a
portfolio that is stronger and more aligned with the fastest
growing segments of the market. Since 2012, we also
divested businesses with annual revenues of more than
$10 billion ($2 billion in 2019 alone) that do not strengthen
our hand in Chapter 2. We did this while keeping annualized
revenue growth approximately flat, excluding the impact
of divestitures and currency. Today, we have reinvented
50 percent of our portfolio, including:

–

Cloud: In 2013, cloud represented only 4 percent
of IBM’s revenue. Today, cloud is 27 percent—
a $21.2 billion business—and growing rapidly. In the
past year, we’ve substantially enhanced our public
cloud offerings, including dramatic improvements
in ease of use, 99.999% availability and the strongest
security posture in the industry. That’s why clients
with the most demanding regulatory and resiliency
requirements, like BNP Paribas, are moving their most
critical workloads to the IBM Cloud.

Data and AI: Our investments in data and AI have
cemented our position of enterprise market leadership.
For the third straight year, IDC has named IBM the
global leader in AI. We secured more than 1,800
AI patents in 2019 alone. Our Data Science Elite team
is accelerating client journeys to AI. And there are
more than 30,000 Watson client engagements across
20 different industries, helping clients like Yara build
a digital farming platform, Woodside Energy optimize
its operations and Vodafone Idea transform its core
IT infrastructure.

Security: IBM helps secure 95 percent of the Fortune
Global 500 and manages more than 70 billion events
every day. In 2019, we introduced Cloud Pak for Security,
a powerful new security solution designed to solve
a critical pain point in the industry: connecting and
orchestrating disparate security tools.

Blockchain: IBM is the global leader in enterprise
blockchain solutions, with hundreds of client
engagements infusing new levels of trust and
transparency into the global supply chain. We have
more than 2,000 blockchain experts. And we are
working with more than 20 large consortium networks
that are reshaping entire industries, like IBM Food Trust
for reliable food supply and TradeLens for shipping.

Moments
from IBM’s
transformation

As our company has led
clients on their digital
journeys, IBM has also
transformed itself—
through acquisitions,
breakthrough technologies
and social innovations.

IBM Cloud
IBM Cloud has grown to be a more
than $21 billion business offering
enterprises public, private and
hybrid cloud solutions. In 2019,
IBM introduced the world’s first
financial services-ready public
cloud, secure and purpose-built
for the industry.

IBM Q
A fundamentally different way
of computing, quantum has the
potential to transform business and
solve some of the world’s biggest
problems. IBM has led in quantum
research and development and
now offers a fleet of 15 advanced
quantum computers.

Red Hat
One of the largest technology
acquisitions in history combined
the power and flexibility of
Red Hat’s open hybrid cloud
technologies with the scale
and depth of IBM’s innovation
and industry expertise.

IBM Watson
IBM Watson helped AI emerge
from a long “winter” and is now
deployed in customer service,
healthcare, supply chain, weather
forecasts, energy exploration
and other fields—totaling more
than 30,000 client engagements.

IBM Security
IBM Security was built for industry-
leading compliance, threat
monitoring and container security.
In 2019, Cloud Pak for Security
was introduced to orchestrate tools
across the entire security stack.

IBM Garage
A comprehensive approach
to innovation and transformation,
the IBM Garage process brings
designers and developers together
with clients and stakeholders. The
process helps create and scale new
ideas and achieve business value.

Strategic Divestitures
Over eight years, IBM has sold
businesses with more than
$10 billion in revenue, including
semiconductor manufacturing
and x86 servers, in order to
allocate capital to innovation.

1. Purpose

2. Ownership

3. Transparency

P-TECH
Pathways in Technology Early
College High Schools (P-TECH)
is a new education model
co-developed by IBM working
together with educators,
policymakers and elected officials.

IBM Blockchain
IBM Food Trust, TradeLens and
other initiatives are streamlining
supply chain processes and
bringing trust and transparency
to transactions.

Principles for Trust & Transparency
For more than a century, IBM
has earned the trust of clients
and society. In 2018, we codified
the core principles that guide
everything we do, from handling
client data to the responsible
deployment of new technologies.

Business Roundtable
In 2019, IBM signed the
Business Roundtable Statement
on the Purpose of a Corporation.
The Business Roundtable is
a group that brings together the
CEOs of nearly 200 American
companies.

A Letter from the Chairman

–

IBM Services: From digital strategy to infrastructure
services, IBM Services exemplifies the end-to-end
capability of our company. Over the last 10 years,
we have built the world’s largest digital agency, with
57 studios and 17,000 IBM iX digital consultants.
And we have scaled our global delivery network, with
services professionals that have breadth of experience
and industry expertise in areas like financial services,
telecommunications and supply chain, around the world.

IBM Systems: The recently launched IBM z15 is
our most secure and capable mainframe ever, with
encryption that can be applied across hybrid cloud
environments, cloud-native development capabilities
and an industry-first approach to instant recovery.

Quantum: In 2019, IBM introduced a 53-qubit quantum
computer, the largest universal quantum computing
system available for commercial use. More than
100 global clients and 200,000 registered users have
run over 160 billion experiments on the IBM Quantum
Computation Center’s fleet of 15 quantum systems
through the cloud, including Daimler AG, JPMorgan
Chase and Anthem.

3. IBMers: Talent, skills and culture
AI and other advanced technologies are changing the very
nature of work. To keep up with the rate and pace of these
changes, IBM has revitalized the skills of our workforce.
In the last five years, the percentage of IBMers with skills
of the future increased to 90 percent.

At the heart of our workforce transformation is the
constant acquisition of relevant skills. To support this work,
we built a platform that allows IBMers to plainly see the skills
they have, and the skills they need. And we developed an
AI-based, personalized learning system to help them acquire
those skills. More than 26 million learning hours were logged
in 2019 alone.

As important, IBM is committed to fostering a culture
in which all IBMers feel they can bring their best selves to
work. Diversity and inclusion are essential to our business.
They fuel innovation and drive employee satisfaction.
And in 2019, we achieved record diversity across all
representation groups and best-in-class inclusion scores.
We were again widely recognized as one of the best places
to work for mothers, veterans, LGBTQ employees and more.

IBM understands that diversity is a fact, but inclusion

is a choice. We have made our choice. And that is just one
reason why our employee engagement score is at an all-time
high, improving 17 points since 2014.

4. Speed: Changing the way we work
Today, enterprise client expectations are dictated by their
consumer technology experiences. In order to match the
speed of development found in consumer markets, we
needed to fundamentally change the way IBM worked.

This process began with the creation of IBM Design
Thinking, an enterprise-grade variant of the well-known
human-centered design process. We then adopted agile
development practices, to create the working conditions
for small, diverse teams to solve problems and introduce
new solutions quickly.

IBM has hired more than 20,000 designers. We have
more than 100,000 employees working in agile methodology.
And we have converted more than 10 million square feet
of offices into agile workspaces.

This led to a significant change in the way our clients
experience IBM today: the IBM Garage. These are dedicated,
physical spaces in which clients work side by side with
IBMers to co-create solutions, applying IBM Design Thinking
and agile methods. They can happen anywhere in the world,
in dedicated IBM spaces or client offices.

In 2019, we conducted approximately 600 engagements

in which we helped clients adopt these same practices.
The end result has been record Net Promoter Scores from
clients across all IBM businesses.

5. Good tech: A model of responsible stewardship
for the digital age
Of all the work we have done to transform IBM, I am most
proud of the way in which we are defining responsible
stewardship in the digital age.

At IBM, we have always taken the long view. That means

grounding strategy and business decisions in core values
that endure through decades of political, technological
and societal change. They are:

–
–

–

Dedication to every client’s success.
Innovation that matters, for our company
and for the world.
Trust and personal responsibility in all relationships.

Leading with values is not wide-eyed altruism. It is clear-

eyed business strategy. Values attract the best employees.
They sustain our client relationships. And they have guided
our efforts to lead the industry in modeling what “good tech”
looks like.

For example, our Principles for Trust and Transparency

have become the global ethical standard of digital
responsibility, inspiring similar doctrine in businesses
and governments around the world:

–

The purpose of new technology is to augment
mankind, not replace it.
Data and the insights it yields belong only
to the owner of that data.
AI should be open, transparent and explainable.

At IBM, we consider the full impact of our technology on
society. And we readily accept our leadership role in making
the digital era an inclusive era.

As such, we have pioneered programs that ensure
the many—not just a few—benefit from the digital economy.
To that end, we substantially expanded our 21st-century
apprenticeship program and P-TECH six-year high school
education model in 2019. Enrollment in the apprentice
program grew twice as fast as expected. And P-TECH doubled
the number of participating schools to 220, in 24 countries,
with a pipeline of 150,000 students.

Our Call for Code and Code and Response programs
continue to scale, tapping the talents of developers to address
some of society’s most intractable challenges. In 2019,
180,000 developers from 165 countries created more than
5,000 applications focused on disaster relief.

In 2019, IBM published its 29th annual IBM and the
Environment Report, and advanced our environmental
leadership as a founding member of the Climate Leadership
Council, where we have supported a carbon tax that will
reduce carbon emissions globally through market-based
incentives. At the same time, we remain on track to achieve a
40 percent reduction of carbon dioxide emissions associated
with our own energy consumption by 2025. In addition, IBM
developed a breakthrough method of recycling polyethylene
terephthalate (PET), a widely used plastic with a high carbon
footprint that is difficult to recycle. IBM’s new method will
make it possible for more types of PET plastic to become
100 percent recyclable, helping to reduce the 8 million tons
of plastics that enter our oceans each year.

New leadership for a new era
I am enormously proud of the work we have done to transform
IBM for this moment. And with the foundation for growth now
in place, it is the right time for a new leader to continue this
critically important journey for IBM and our clients.

As such, I have elected to retire at the end of 2020 after

nearly 40 years with the company. Effective April 6, 2020,
Arvind Krishna, our Senior Vice President for Cloud and
Cognitive, will become the next Chief Executive Officer of IBM
and a member of the Board. Jim Whitehurst, CEO of Red Hat,
will become President of IBM.

Arvind is a brilliant business leader and technologist

who has played a significant role in developing our key
technologies including artificial intelligence, cloud, quantum
computing and blockchain. And Jim is a seasoned leader who
built Red Hat into the world’s leading provider of open source
enterprise IT software solutions and services. Together,
this dream team of technological acumen and business
savvy will build on IBM’s new foundations.

As we make this transition, I want you to know that my

belief in IBM and IBMers has never been stronger. It has been
the privilege of my life to lead this great company during this
time of significant transformation. And, most importantly,
I would like to thank our employees for their tireless
dedication, our clients for their trust and partnership,
and our investors for their continued belief in our company
and its strategy.

At IBM, we believe in the fundamental promise of
technology: that when we apply science to real-world
problems, we can create a tomorrow that is better than today;
a tomorrow that is more sustainable, more profitable and
more equitable.

And I believe that IBM is essential to fulfilling

that promise.

Virginia M. Rometty
Chairman, President and Chief Executive Officer

In an effort to provide additional and useful information regarding the company’s
financial results and other financial information, as determined by generally accepted
accounting principles (GAAP), these materials contain non-GAAP financial measures
on a continuing operations basis, including operating earnings per share, operating
gross profit margin, free cash flow, and revenue adjusted for divested businesses and
constant currency. The rationale for management’s use of this non-GAAP information
is included on pages 26, 27 and 58 of the company’s 2019 Annual Report, which is
Exhibit 13 to the Form 10-K submitted with the SEC on February 25, 2020. For
reconciliation of these non-GAAP financial measures to GAAP and other information,
please refer to pages 39, 46, 59 and 139 of the company’s 2019 Annual Report.

What does it
take to lead
IBM’s clients
in their next
chapter of digital
transformation?

+ Innovative Technology

We help build agile organizations,
fueled by data, guided by AI insight
and built for change in any cloud
environment. Add blockchain
and the coming era of quantum
computing, and we’ll continue
leading our clients’ journeys
to the Cognitive Enterprise.

+ Industry Expertise

The problems we solve and
the opportunities we discover
for clients cannot be achieved
through technology alone.
Providing counsel and insights,
based on deep industry knowledge
and experience, IBM is the
only company with the portfolio
and the people to meet today’s
enterprise demands.

+ Trust and Security

We build trust, privacy and security
into even our most cutting-edge
technologies. Just as crucial is the
trust we build into our business
relationships. Continually
considering the full impact
of our technology on society,
we are committed to responsible
stewardship for the digital age.

8 8

Innovative
Technology

Hybrid cloud is a potential $1.2 trillion
market, with IBM already in the lead.
As businesses construct and connect
multiple clouds, IBM offers customers
the ability to build applications once
and run them anywhere. Whether
for public cloud, private cloud or
on-premises systems, IBM’s hybrid
approach enables clients to unleash
any cloud’s full potential.
Our acquisition of Red Hat has been
a game changer. Red Hat OpenShift is
the platform of choice for hybrid cloud.

$21.2
billion

cloud revenue
in 2019

2,000+

clients using Red Hat
and IBM’s hybrid
cloud platform

Innovative Technology

Banks are
accelerating their
transformations

Banks were pioneers in building consumer-facing apps,
but deeper digital reinvention in the finance industry
has been slower, limited by concerns that include data
security and privacy. Today, many institutions are working
with IBM to reinvent their infrastructure—and create new
technology models for finance, such as the world’s first
financial services-ready cloud.

When the global bank BNP Paribas began accelerating

its digitization strategy, its goal was to deliver superior
services to its customers and corporate clients while
ensuring the security and confidentiality of their data.
The bank discovered that it could not digitize quickly enough
with its existing private cloud. It turned to IBM to co-create
a public cloud that would be robust, reliable and secure
enough to support its banking applications and its extensive
compliance and security requirements. The BNP Paribas
dedicated public cloud will combine the security of a private
cloud with the speed, scalability and cost savings of a public
cloud. The bank will also benefit from IBM Watson AI and
other services—enabling it to tap into new technologies,
innovate more quickly and, ultimately, deliver a better
customer experience.

Consumers expect convenience and security from their
banks. The challenge: how to increase convenience without
giving up on security. State Bank of India, the country’s
largest bank, partnered with IBM Services to create a
secure mobile platform, YONO (You Only Need One), that
is transforming how more than 18 million people in India
bank, invest, shop, order food and more.

Airlines are building
new travel experiences

Airlines must deliver superior passenger experiences with
every flight. To do that, they are rethinking and reinventing
their technology core—and how their employees work.
Carriers are shifting mission-critical workloads to
IBM Cloud and hybrid cloud environments, taking advantage
of the open, scalable architecture and microservices to
improve their processes, accommodate growth and offer new
digital services such as automatic rebooking. And airlines
are using AI to offer personalized pricing and other
new services.

The IBM Travel Platform offers a range of customized
mobile applications that empower airline employees, allowing
them to offer higher levels of service, manage boarding more
efficiently, deploy maintenance resources, and more. Aloft,
The Weather Company’s Total Turbulence can predict
turbulence ahead of time, so plane routes can be optimized.
Across the industry, these shifts are allowing carriers

to find new ways to improve the journey.

Innovative Technology

Telcos are innovating
more nimbly

Success in any market requires rapid, agile innovation.
In Europe, Vodafone Business partnered with IBM to combine
Vodafone’s leadership in Edge, 5G and IoT with IBM’s public
and hybrid cloud, industry expertise and professional
services. The partnership is enabling companies like
National Express to deliver digital solutions faster, utilizing
a multicloud approach and capitalizing on AI, blockchain
and other advanced technologies.

In India, Vodafone Idea, a Vodafone Group joint venture,

signed an IT outsourcing partnership with IBM to deliver
enhanced customer experience to millions of connected
customers and yield synergies by consolidating two large
pre-merger IT environments. The partnership uses IBM’s
hybrid cloud, analytics and security capabilities to accelerate
Vodafone Idea’s progression to an open, agile and secure
IT environment.

IBM, with Red Hat, is also helping Vodafone Idea build

an open universal hybrid cloud, able to serve all aspects
of core network and IT from a common cloud. This will enable
continued improvements in customer service, a step change
reduction in cost, and the rapid deployment of Edge-based
offerings to enterprise clients.

12 12

Artificial intelligence is transforming
how businesses operate, how people
do their jobs and how customers
engage. Across industries, IBM clients
are rapidly moving from pilots to
enterprise-wide AI adoption. With
IBM Watson, the pieces are now in place
to scale AI with trust and transparency.
And with IBM’s allegiance to open
source technology, these AI solutions
perform with seamless interoperability,
whatever the software platform
or cloud environment.

Infrastructure can
maintain its own safety

The world’s civil infrastructure is aging. Catastrophic
failures of bridges and roads are a growing threat. A recent
study determined that in the U.S. alone, 47,052 bridges
were structurally deficient.

Sund & Bælt, which owns and operates some of the
largest infrastructure in the world—including the Great Belt
Bridge in Denmark—has partnered with IBM to create
Maximo for Civil Infrastructure, a solution that uses machine
intelligence to monitor the effects of stress, use and age
on bridges and tunnels—and to announce when intervention
is required.

It will measure the impacts of cracks, rust, corrosion
and other potential stressors by integrating and analyzing
data from The Weather Company, maintenance records
and sensors that are placed on structures, worn by workers
and flown by drones. Using predictive and prescriptive
maintenance strategies, the system can flag the most serious
issues. As a result, maintenance crews will be able to work
with maximum efficiency and effectiveness.

market leader
in enterprise AI

30,000+

IBM Watson client
engagements

1,800+

AI patents in 2019

Innovative Technology

Energy production
is embedded with AI

Advertisers are getting
closer to their audiences

Gaining real value from AI requires moving from
experiments to scale—embedding AI into processes
throughout an organization.

Woodside Energy takes a forward-looking, technology-

based approach to energy. The Australian natural gas
company has deployed IBM Watson since 2016 and now
estimates that around 80 percent of Woodside employees
have used Watson in their work.

Now, Woodside and IBM are collaborating to explore

quantum computing and to deploy and scale AI further
into operations. New applications could help Woodside
save a significant portion of annual maintenance costs
and optimize workflows, part of Woodside’s vision
for an “intelligent plant.”

In advertising, insights allow brands to better understand
and engage with their audiences. As the volume of data
accelerates, so do the challenges of aggregating and
interpreting it.

Wunderman Thompson Data, the data and analytics
arm of global creative and technology agency Wunderman
Thompson, had data dispersed across many clouds.
The company knew that if it could pull together and mine
this data, it could build new and expanded customized
campaigns for its clients. It partnered with IBM to create an
unprecedented machine learning practice using IBM Watson
to discover new customer insights and deliver increased
ROI for brands. The use of Watson also helped Wunderman
Thompson Data amplify its capabilities by being able
to leverage the company’s entire portfolio of data assets.

To make it happen, it brought in IBM’s Data Science Elite
team—all experts in helping companies push AI and machine
learning models into production—to accelerate and modernize
the building of their machine learning practice. This allowed
Wunderman Thompson Data to build a proof of concept
with IBM; the collaboration resulted in a new machine
learning pipeline—in the time span of just several weeks.

14 14

Quantum computing is an entirely
new paradigm. Based on the principles
of quantum physics, quantum
computing has the potential to crack
previously unsolvable problems in
chemistry, materials science, finance
and any other field that has hit the
limits of classical computing—and could
lead to breakthroughs in areas such as
weather forecasting and drug discovery.
For decades, IBM has led the
research and development of quantum
information science and quantum
machines. And IBM was the first to
give the world the chance to experience
it by putting a quantum computer
on the cloud in 2016. Now, quantum
computing is moving out of the lab and
into the hands of users and commercial
clients worldwide.

100+

organizations in
the IBM Q Network

160
billion

executions on IBM’s
quantum fleet

Innovative Technology

Quantum is being
applied to our
toughest problems

More than 100 companies and institutions have joined
the IBM Q Network to explore practical applications of
quantum computing. They are using IBM’s fleet of 15 of the
most advanced quantum computers commercially available.
Daimler AG and IBM are exploring ways the automotive

and transportation industry can leverage quantum
computing. Daimler’s research currently focuses on the
development of novel quantum algorithms for chemistry
and materials science to support its long-term goal
of designing new batteries. New materials may lead
to the development of higher performance, longer lasting
and less expensive vehicle batteries.

JPMorgan Chase and IBM are researching methodologies

for financial modeling and risk management. The joint
research has led to the creation of a methodology to price
financial derivative contracts, known as options, as well
as portfolios of options, which may have future potential
to substantially accelerate and enhance business operations.
This collaboration recently led to the first experiment modeling
a European call option on a real quantum computer.

16 16

Industry
Expertise

Our industry expertise is a key
advantage as we help clients
respond to their customers’ evolving
needs and stay nimble in the face
of continuous technological change.
“Mission-critical” means more than
technology. To fundamentally change
the way businesses work and innovate,
they need expert guidance. From
manufacturing to financial services,
to retail and more—our experts possess
deep knowledge developed through
decades of work with the world’s
most complex systems.

~90%

of credit card
transactions run
on IBM systems

83%

of the world’s
largest telcos
are IBM clients

Industry Expertise

Supply chains
are getting more
transparent

The worldwide container logistics ecosystem carries
90 percent of the goods we use daily, but only recently moved
beyond paper-based processes. Technology that can cut
costs, ensure transparency and eliminate inefficiencies has
become a necessity.

Enter blockchain, which is the basis for TradeLens,

the global container logistics digitization platform
developed jointly by A.P. Moller-Maersk and IBM. In 2019,
the major ocean carriers CMA CGM, MSC Mediterranean
Shipping Company, Hapag-Lloyd and Ocean Network
Express joined TradeLens.

Today, TradeLens is on pace to trace 12 million
documents annually, accounting for data on more than
60 percent of the world’s ocean container cargo. The digital
ship—secure, transparent and open-standards-based—
has come in.

Insurers can deliver
world-class customer
experience

Consumers’ expectations of how they interact with
companies are continually rising—regardless of the industry
or technology platforms involved.

To meet its customers’ evolving needs, State Farm, the
largest property and casualty insurer in the U.S., wanted to
accelerate its development of new digital services. To do that,
it needed to adopt a DevOps model in order to unlock cloud-
native development across its core systems—something often
thought impossible in the industry. For State Farm, this
meant transforming most of its mission-critical workloads,
run on the IBM Z platform, to a new way of working.

The first step for State Farm in implementing modern

DevOps practices on its z/OS systems was using industry-
standard tools—a mix of open source, homegrown and
proprietary—drawing from its experience in cloud
development.

Moving to continuous development and integration
cycles accelerated delivery of new functionality—and opened
up its enterprise servers to a new generation of developers.

18 18

Weather data is
becoming democratized

Whether gusty winds that send a delivery drone off-track
or a tornado that flattens a town, disruptive weather
patterns are affecting the lives of individuals, businesses
and institutions around the world.

IBM GRAF, the Global High-Resolution Atmospheric
Forecasting system, from The Weather Company, an IBM
Business, can now offer the whole world forecasts with
3-kilometer resolution. GRAF is democratizing weather
data, promising to improve farming and other industries
as well as our everyday lives.

An IBM supercomputer called Dyeus assimilates
108 gigabytes worth of atmospheric observations every
second and performs about 12 trillion computations
per day on that data. The result: much finer-grained
predictions of the atmosphere and forecasts updated
up to a dozen times more frequently than conventional
global modeling systems, from one of the world’s most
trusted sources for weather data.

Uganda

Kenya

Somalia

Tanzania

Industry Expertise

Yara, a global crop nutrition company based in Norway,
is on a mission to responsibly feed and protect the planet
by advancing more productive and sustainable agriculture
to create a world without hunger.

The company is combining its 115 years of agronomic

expertise with IBM technology and agriculture industry
experience to bring more knowledge to farmers by building
the world’s leading digital farming platform. By merging
Yara’s crop knowledge and modeling capabilities with
insights from IBM Watson Studio, IBM PAIRS technology,
The Weather Company and other services, the platform
will be able to provide hyperlocal weather forecasts in
addition to offering real-time recommendations, tailored
to the specific needs of individual fields and crops.
One example: Yara’s FarmWeather app, installed by more
than 800,000 small farmers in Asia and Africa, is one
of the fastest-growing digital farming tools.

Agriculture is being
enriched by data

20 20

Trust and
Security

Trust is becoming the most important
competitive differentiator of our
time. We know our obligations don’t
begin and end with the technology
itself. That’s why many of IBM’s
investments have been made in
building trust, privacy and security
into our technology.
For more than a century, IBM has
earned the confidence of businesses
and society by acting as a steward
of our clients’ data and insights,
and by responsibly ushering powerful
new technologies into the world.
That includes ensuring that our
clients’ data is theirs and theirs alone,
while helping them secure it from
mishap or malfeasance. Our values
also guide us to work with purpose
and to act as responsible stewards
of technology.

70
billion

security events
managed each day

180,000

developers
participated in
Call for Code

Trust and Security

Cities are growing
more secure

Ransomware struck more than 170 U.S. cities in
2019, costing millions, disrupting critical services and
threatening public safety. And it is often targeted at smaller
companies and organizations that don’t have the tools
to combat it.

In Los Angeles, IBM Security and the LA Cyber Lab
are helping businesses fight back. Together, they are building
the Threat Intelligence Sharing Platform to provide the city’s
businesses, utilities and local governments with threat
data. This helps them detect and identify ransomware and
other dangers.

Making enterprise-grade threat intelligence available
to these organizations lets them understand and respond
to threats with speed and tactics previously available only
to large firms. The platform is giving them a fighting chance
against ransomware and other cybercrime.

AI can now
explain itself

In every industry, key workflows and decisions are
benefiting from AI and machine learning.

But a potential drawback is the “black box problem”—

the difficulty in understanding why AI has made a decision
or recommendation. IBM holds as a core principle that
new technology such as AI must always be transparent
and explainable. Now that AI is being used in consequential
use cases, ensuring “explainability” is essential.

To empower users to understand their AI models,
IBM Research released the AI Explainability 360 toolkit.
This comprehensive, open source toolkit uses state-of-
the-art algorithms and methods to provide insights into
a machine’s decision-making process through a single
interface. By adding interpretability and explainability
in AI systems, we can help advance the theory and practice
of responsible and trustworthy AI.

22 22

We are working
with purpose and
responsibility

IBM pursues the highest standards of responsibility
in all we do. Our stewardship is focused on three areas:
Data responsibility. We have an obligation to

responsibly handle the data we collect, manage or process.
Through this commitment, IBM earns the trust of the world’s
largest enterprises as a steward of their most valuable data.

Jobs and skills. IBM has invested in building
and preparing a workforce for the 21st century, through
apprenticeship programs, returnships for women reentering
the workforce, veterans programs and skills-building
sessions for more than 3.2 million students worldwide.
Diversity and inclusion. Consciously building
inclusive teams and encouraging diversity of ideas helps
us make the greatest impact for our clients, our colleagues
and the world.

Developers are tackling
natural disasters

As the Founding Partner of Call for Code, a worldwide
developer competition, IBM is rallying the developer
community to envision innovative solutions to the world’s
most pressing problems. The effort is supported by
IBM Code and Response, a multiyear initiative dedicated
to building and deploying open source technologies
to tackle these challenges.

In Barcelona, a nurse, a firefighter and three developers

teamed up to win the 2019 Call for Code Global Challenge
with Prometeo, a solution that uses IBM’s Cloud IoT platform
to help monitor the safety of firefighters in real time as
they battle blazes. The team received a $200,000 prize as
well as support from IBM and the Linux Foundation.
Next up: deployments in Spain.

In 2020, the Call for Code challenge will focus on climate

change, inviting developers to create applications that can
help smooth the path to sustainability.

Trust and Security

150,000 students
are learning
new collar skills

It began as a challenge almost a decade ago: How could IBM,
with educators and business and community leaders,
reinvent high school education and help address the global
STEM skills shortage?

Since that time, the P-TECH education model has
grown from one school in Brooklyn, New York, into a global
network of 220 schools and 650 companies. More than
150,000 students are in the pipeline in two dozen countries.
The model integrates high school, college and career
readiness training with curricula mapped to industry needs.
Academically rigorous and economically transformative,
P-TECH schools prepare young women and men, many from
underserved communities, for 21st-century careers. Students
benefit from one-on-one mentoring and paid internships
with partners such as IBM, graduate debt-free with a high
school diploma and a community college degree, and are
first in line for new collar jobs with partner companies.
In 2020, IBM is launching Open P-TECH to equip
young people and educators with foundational knowledge
and professional skills in emerging technologies like
cybersecurity, AI and more, all for free.

Financial Highlights
International Business Machines Corporation and Subsidiary Companies

($ in millions except per share amounts)

For the year ended December 31:

Revenue

Net Income

Income from continuing operations

Operating (non-GAAP) earnings**

Earnings per share of common stock—continuing operations

Assuming dilution

Basic

Diluted operating (non-GAAP)**

Net cash provided by operating activities

Capital expenditures, net

Share repurchases

Cash dividends paid on common stock

Per share of common stock

At December 31:

Cash, cash equivalents, restricted cash and marketable securities

Total assets

Working capital

Total debt

Total equity

Common shares outstanding (in millions)

Stock price per common share

* Includes charges of $0.1 billion in 2019 and $2.0 billion in 2018 associated with U.S. tax reform.

** See page 46 for a reconciliation of net income to operating earnings.

2019

2018

$ 77,147

$ 79,591

$ 9,431*

$ 8,728*

$ 9,435*

$ 8,723*

$ 11,436

$ 12,657

$ 10.57*

$ 9.51*

$ 10.63*

$ 9.56*

$ 12.81

$ 13.81

$ 14,770

$ 15,247

$ 2,370

$ 3,716

$ 1,361

$ 4,443

$ 5,707

$ 5,666

$ 6.43

$ 6.21

2019

2018

$ 9,009

$ 12,222

$152,186

$123,382

$ 718

$ 10,918

$ 62,899

$ 45,812

$ 20,985

$ 16,929

887

892

$ 134.04

$ 113.67

Report of Financials
International Business Machines Corporation and Subsidiary Companies

MANAGEMENT DISCUSSION
Overview

Forward-Looking and Cautionary Statements

Management Discussion Snapshot

Description of Business

Year in Review

Prior Year in Review

Other Information

Looking Forward

Liquidity and Capital Resources

Critical Accounting Estimates

Currency Rate Fluctuations

Market Risk

Cybersecurity

Employees and Related Workforce

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Basis & Policies

A Significant Accounting Policies

B Accounting Changes

Performance & Operations

C Revenue Recognition

D Segments

E Acquisitions & Divestitures

F Research, Development & Engineering

G Taxes

H Earnings Per Share

Balance Sheet & Liquidity

I Financial Assets & Liabilities

Inventory

K Financing Receivables

L Property, Plant & Equipment

Report of Management

M Leases

Report of Independent Registered

Public Accounting Firm

CONSOLIDATED FINANCIAL STATEMENTS
Income Statement

Comprehensive Income

Balance Sheet

Cash Flows

Equity

N Intangible Assets Including Goodwill

O Investments & Sundry Assets

P Borrowings

Q Other Liabilities

R Commitments & Contingencies

S Equity Activity

Risk Management, Compensation/Benefits & Other

T Derivative Financial Instruments

U Stock-Based Compensation

V Retirement-Related Benefits

W Subsequent Events

Five-Year Comparison of Selected Financial Data

Selected Quarterly Data

Performance Graphs

Stockholder Information

Board of Directors and Senior Leadership

100

101

105

109

110

113

114

116

120

123

125

138

139

140

141

142

143

OVERVIEW
The financial section of the International Business Machines
Corpor ation (IBM or the company) 2019 Annual Report includes
the Management Discussion, the Consolidated Financial Statements
and the Notes to Consolidated Financial State ments. This Over view
is designed to provide the reader with some perspective regarding
the information contained in the financial section.

Organization of Information
•

The Management Discussion is designed to provide readers
with an overview of the business and a narrative on our
financial results and certain factors that may affect our
future prospects from the perspective of management.
The “Management Discussion Snap shot” presents an
overview of the key performance drivers in 2019.

•

Beginning with the “Year in Review,” the Manage ment
Discussion contains the results of operations for each
reportable segment of the business and a discussion of
our financial position and cash flows. Other key sections
within the Management Discussion include: “Looking
Forward” and “Liquidity and Capital Resources,” which
includes a description of management’s definition and
use of free cash flow.

The Consolidated Financial Statements provide an overview
of income and cash flow performance and financial position.

The Notes follow the Consolidated Financial Statements.
Among other items, the Notes contain our accounting
policies, revenue information, acquisitions and divestitures,
certain commitments and contingencies and retirement-
related plans information.

On July 9, 2019, IBM acquired 100 percent of the
outstanding shares of Red Hat, Inc. (Red Hat). Red Hat is
reported within the Cloud & Cognitive Software segment, in
Cloud & Data Platforms. The consolidated financial results
at and as of the year ended December 31, 2019 reflect the
impacts of the acquisition on IBM; including: recognition of
goodwill, intangible assets and related amortization and
deferred tax liabilities, along with other purchase accounting
adjustments including a deferred revenue fair value
adjustment. The Consolidated Income Statement for the
year ended December 31, 2019 includes impacts from these
purchase accounting adjustments, higher interest expense,
transaction-related costs and other acquisition-related
activities. Refer to note E, “Acquisitions & Divestitures” for
additional information.

Effective the first quarter of 2019, we made a number of
changes to our organizational structure and management
system. As a result of these changes, we revised our
reportable segments. There was no change to the
Consolidated Financial Statements. Refer to note D,
“Segments” for additional information on our reportable
segments. The periods presented in this Annual Report are
reported on a comparable basis. We provided recast
historical segment information reflecting these changes
in a Form 8-K dated April 4, 2019.

•

The references to “adjusted for currency” or “at constant
currency” in the Management Discussion do not include
operational impacts that could result from fluctuations in
foreign currency rates. When we refer to growth rates at
constant currency or adjust such growth rates for currency,

it is done so that certain financial results can be viewed
without the impact of fluctuations in foreign currency
exchange rates, thereby facilitating period-to-period
comparisons of business performance. Financial results
adjusted for currency are calculated by translating current
period activity in local currency using the comparable
prior-year period’s currency conversion rate. This approach
is used for countries where the functional currency is the
local currency. Generally, when the dollar either strengthens
or weakens against other currencies, the growth at constant
currency rates or adjusting for currency will be higher or lower
than growth reported at actual exchange rates. See “Currency
Rate Fluctuations” for additional information.

To provide better transparency on the recurring performance
of the ongoing business, the company provides revenue
growth rates excluding divested businesses and at constant
currency. These divested businesses are included in the
company’s Other segment.

Within the financial statements and tables in this Annual
Report, certain columns and rows may not add due to the
use of rounded numbers for disclosure purposes.
Percentages reported are calculated from the underlying
whole-dollar numbers.

•

Operating (non-GAAP) Earnings
In an effort to provide better transparency into the operational
results of the business, supplementally, management separates
business results into operating and non-operating categories.
Operating earnings from continuing operations is a non-GAAP
measure that excludes the effects of certain acquisition-related
charges, intangible asset amortization, expense resulting from basis
differences on equity method investments, retirement-related costs
and discontinued operations and their related tax impacts. Due to
the unique, non-recurring nature of the enactment of the U.S. Tax
Cuts and Jobs Act (U.S. tax reform), management characterizes the
one-time provisional charge recorded in the fourth quarter of 2017
and adjustments to that charge as non-operating. Adjustments,
among others, include true-ups, accounting elections, any changes
to regulations, laws and audit adjustments that affect the recorded
one-time charge. For acquisitions, operating (non-GAAP) earnings
exclude the amortization of purchased intangible assets and
acquisition-related charges such as in-process research and
development, transaction costs, applicable retention, restructuring
and related expenses, tax charges related to acquisition integration
and pre-closing charges, such as financing costs. These charges are
excluded as they may be inconsistent in amount and timing from
period to period and are significantly impacted by the size, type
and frequency of the company’s acquisitions. All other spending for
acquired companies is included in both earnings from continuing
operations and in operating (non-GAAP) earnings. Throughout the
Management Discussion, the impact of acquisitions over the prior
12-month period may be a driver of higher expense year to year. For
retirement-related costs, management characterizes certain items
as operating and others as non-operating, consistent with GAAP.
We include defined benefit plan and nonpension postretirement
benefit plan service costs, multi-employer plan costs and
the cost of defined contribution plans in operating earnings.
Non-operating retirement-related costs include defined benefit
plan and nonpension postretirement benefit plan amortization
of prior service costs, interest cost, expected return on plan
assets, amortized actuarial gains/losses, the impacts of any

Management Discussion International Business Machines Corporation and Subsidiary Companiesplan curtailments/settlements and pension insolvency costs and
other costs. Non-operating retirement-related costs are primarily
related to changes in pension plan assets and liabilities which are
tied to financial market performance, and the company considers
these costs to be outside of the operational performance of
the business.

Overall, management believes that supplementally providing
investors with a view of operating earnings as described above
provides increased transparency and clarity into both the
operational results of the business and the performance of the
company’s pension plans; improves visibility to management
decisions and their impacts on operational performance; enables
better comparison to peer companies; and allows the company
to provide a long-term strategic view of the business going
forward. Our reportable segment financial results reflect pre-tax
operating earnings from continuing operations, consistent with
our management and measurement system. In addition, these
non-GAAP measures provide a perspective consistent with areas
of interest we routinely receive from investors and analysts.

MANAGEMENT DISCUSSION SNAPSHOT

($ and shares in millions except per share amounts)

For the year ended December 31:

Revenue

Gross profit margin

Total expense and other (income)

Income from continuing operations before income taxes

Provision for income taxes from continuing operations

Income from continuing operations

Income from continuing operations margin

Net income

Earnings per share from continuing operations—assuming dilution

Weighted-average shares outstanding—assuming dilution
Assets++
Liabilities++
Equity++

FORWARD-LOOKING AND CAUTIONARY STATEMENTS
Certain statements contained in this Annual Report may constitute
forward-looking statements within the meaning of the Private
Secur ities Litigation Reform Act of 1995. Any forward-looking
statement in this Annual Report speaks only as of the date on
which it is made; IBM assumes no obligation to update or revise
any such statements except as required by law. Forward-looking
statements are based on IBM’s current assumptions regarding
future business and financial performance; these statements,
by their nature, address matters that are uncertain to different
degrees. Forward-looking statements involve a number of risks,
uncertainties and other factors that could cause actual results to
be materially different, as discussed more fully elsewhere in this
Annual Report and in the company’s filings with the Securities and
Exchange Commission (SEC), including IBM’s 2019 Form 10-K
filed on February 25, 2020.

2019

2018

$ 77,147

$ 79,591

47.3%

46.4%

$ 26,322

$ 10,166

$ 731

$ 9,435

12.2%

$ 9,431

$ 10.57

892.8

$152,186

$131,202

$ 20,985

$ 25,594

$ 11,342
$ 2,619+
$ 8,723+
11.0%
$ 8,728+
$ 9.51+
916.3

$123,382

$106,452

$ 16,929

Yr.-to-Yr.
Percent/Margin

Change**

(3.1)%*

0.9 pts.

2.8%

(10.4)%

(72.1)%

8.2%

1.3 pts.

8.1%

11.1%

(2.6)%

23.3%

23.2%

24.0%

* (1.0) percent adjusted for currency; 0.2 percent excluding divested businesses and adjusted for currency.

** 2019 results were impacted by Red Hat purchase accounting and acquisition-related activity.
+ Includes charges of $2.0 billion or $2.23 of diluted earnings per share in 2018 associated with U.S. tax reform.
++At December 31

The following table provides the company’s operating (non-GAAP) earnings for 2019 and 2018. See page 46 for additional information.

($ in millions except per share amounts)

For the year ended December 31:

Net income as reported

Income/(loss) from discontinued operations, net of tax

Income from continuing operations

Non-operating adjustments (net of tax)

Acquisition-related charges

Non-operating retirement-related costs/(income)

U.S. tax reform charge

Operating (non-GAAP) earnings

Diluted operating (non-GAAP) earnings per share

* 2019 results were impacted by Red Hat purchase accounting and acquisition-related activity.

** Includes charges of $2.0 billion in 2018 associated with U.S. tax reform.

NM—Not meaningful

2019

2018

$ 9,431

$ 8,728 **

(4)

$ 9,435

$ 8,723 **

1,343

512

146

$11,436

$ 12.81

649

1,248

2,037

$12,657

$ 13.81

Yr.-to-Yr.
Percent Change*

8.1%

8.2%

107.0

(58.9)

(92.8)

(9.6)%

(7.2)%

Management Discussion International Business Machines Corporation and Subsidiary Companies28

In 2019, we reported $77.1 billion in revenue, $9.4 billion in
income from continuing operations and operating (non-GAAP)
earnings of $11.4 billion, resulting in diluted earnings per share
from continuing operations of $10.57 as reported and $12.81 on
an operating (non-GAAP) basis. We also generated $14.8 billion in
cash from operations, $11.9 billion in free cash flow and delivered
shareholder returns of $7.1 billion in dividends and gross common
stock repurchases. These results reflect solid performance in key
high-value areas as we continued to strengthen our foundation
for the next chapter of our clients’ digital reinventions. During
2019, we completed the acquisition of Red Hat and have started
to benefit from the synergies of IBM and Red Hat together. We
continued to bring new innovations to the market, launching the
new z15, delivering new high-end storage and modernizing and
containerizing our software portfolio. We have expanded our
services offerings and skills for the cloud journey and the reach
of our Watson/AI offerings. We also divested select businesses
as we continue to prioritize our investments and optimize our
portfolio for this next chapter in cloud.

Total consolidated revenue decreased 3.1 percent as reported
and 1 percent adjusted for currency compared to the prior year.
Excluding divested businesses, revenue increased 0.2 percent
adjusted for currency. Cloud & Cognitive Software increased
4.5 percent as reported and 6 percent adjusted for currency,
with strong results from the contribution of Red Hat beginning
in the third quarter. Cloud & Data Platforms, which includes
Red Hat, grew 10.4 percent as reported (12 percent adjusted
for currency), Cognitive Applications increased 2.3 percent as
reported (4 percent adjusted for currency), while Transaction
Processing Platforms declined 0.5 percent as reported but grew
1 percent adjusted for currency. Global Business Services (GBS)
grew 0.2 percent as reported and 2 percent adjusted for currency
led by Consulting which grew 3.7 percent (6 percent adjusted
for currency) with year-to-year improvement in each quarter of
2019. Global Technology Services (GTS) decreased 6.1 percent
as reported and 4 percent adjusted for currency with declines
in Infrastructure & Cloud Services and Technology Support
Services. Performance in Infrastructure & Cloud Services was
impacted by lower in-period revenue from client business
volumes, while the decline in Technology Support Services was
primarily due to transitions in the hardware product cycle. As
we continued to take actions to accelerate the shift to the higher
value segments of the market opportunity, there was solid growth
in the cloud offerings within GTS. Systems decreased 5.3 percent
year to year as reported and 4 percent adjusted for currency. IBM
Z decreased 1.1 percent (flat adjusted for currency) reflecting
product cycle dynamics. There was a year-to-year decline
through the first three quarters of the year at the end of the
z14 product cycle, but strong growth in the fourth quarter after
shipment of the new z15 mainframe began in the last week of
September. Storage Systems declined 8.9 percent as reported
(8 percent adjusted for currency) with improved year-to-year
performance in the second half of the year and growth in the
fourth quarter led by high-end products. Power Systems declined
13.5 percent (12 percent adjusted for currency) compared with
strong performance in the prior year. Across the segments, total
IBM cloud revenue of $21.2 billion in 2019 grew 11 percent as
reported and 13 percent adjusted for currency and represented
27 percent of our total 2019 revenue.

From a geographic perspective, Americas revenue declined
1.9 percent year to year as reported (1 percent adjusted for
currency), but grew 1 percent excluding divested businesses
and adjusted for currency. Europe/Middle East/Africa (EMEA)
decreased 4.1 percent (flat adjusted for currency), but grew 1
percent excluding divested businesses and adjusted for currency.
Asia Pacific declined 4.0 percent year to year as reported
(3 percent adjusted for currency) and 2 percent excluding
divested businesses and adjusted for currency.

The consolidated gross margin of 47.3 percent increased 0.9
points year to year, and the operating (non-GAAP) gross margin
of 48.0 percent increased 1.1 points versus the prior year. The
improved margins in 2019 reflect the actions we have taken to
focus on higher value and portfolio optimization while also driving
productivity and operational efficiency.

Total expense and other (income) increased 2.8 percent in 2019
compared to the prior year. The year-to-year performance was
driven by higher spending including investment to deliver new
innovations, Red Hat operational spending and interest expense
from debt issuances to fund the acquisition (8 points), amortization
of acquired intangible assets and other non-operating activity
related to the Red Hat acquisition (3 points) and a decrease in
intellectual property (IP) income (1 point), partially offset by lower
non-operating retirement-related costs (4 points), gains from
divestitures (3 points) and the impact of currency (3 points). Total
operating (non-GAAP) expense and other (income) increased 4.1
percent year to year, driven primarily by the same factors excluding
the non-operating retirement-related costs and the amortization
of acquired intangible assets and other non-operating activity
related to the Red Hat acquisition.

Pre-tax income from continuing operations of $10.2 billion
decreased 10.4 percent and the pre-tax margin was 13.2
percent, a decrease of 1.1 points versus 2018. The second
half of 2019 was impacted by the deferred revenue purchase
accounting adjustment and Red Hat acquisition-related activity.
The continuing operations effective tax rate for 2019 was 7.2
percent, a decrease of 15.9 points compared to 2018. The
year-to-year change was primarily driven by a charge of $2.0
billion in 2018 for U.S. tax reform. Net income from continuing
operations of $9.4 billion increased 8.2 percent and the net
income from continuing operations margin was 12.2 percent,
up 1.3 points year to year primarily due to the 2018 $2.0 billion
charge for U.S. tax reform. Operating (non-GAAP) pre-tax income
from continuing operations of $12.5 billion decreased 9.0 percent
year to year and the operating (non-GAAP) pre-tax margin from
continuing operations decreased 1.1 points to 16.2 percent.
The operating (non-GAAP) tax rate for 2019 was 8.5 percent, an
increase of 0.7 points compared to 2018. Operating (non-GAAP)
income from continuing operations of $11.4 billion decreased
9.6 percent and the operating (non-GAAP) income margin from
continuing operations of 14.8 percent was down 1.1 points
year to year driven primarily by the Red Hat deferred revenue
purchase accounting adjustment and acquisition-related activity.

Diluted earnings per share from continuing operations of $10.57
in 2019 increased 11.1 percent and operating (non-GAAP) diluted
earnings per share of $12.81 decreased 7.2 percent versus 2018.
In 2019, we repurchased 10.0 million shares of common stock at
a cost of $1.3 billion before the share repurchase program was
suspended at the time of the Red Hat closing.

Management Discussion International Business Machines Corporation and Subsidiary Companies29

At December 31, 2019, we continued to have the financial flexibility
to support the business. Cash, restricted cash and marketable
securities at year end were $9.0 billion, a decrease of $3.2 billion
from December 31, 2018 as we had built up our cash position in
advance of the closing of the Red Hat acquisition. Goodwill and
intangible assets increased $34.1 billion and total debt increased
$17.1 billion since December 31, 2018, primarily due to the Red
Hat acquisition. With strong cash flow from operating activities
and free cash flow, and disciplined financial management, we
significantly deleveraged in the second half of 2019.

Total assets increased $28.8 billion (increased $29.0 billion
adjusted for currency) from December 31, 2018 primarily driven by:

•

Increases in goodwill of $22.0 billion and net intangible
assets of $12.1 billion primarily associated with the
acquisition of Red Hat; and

An increase in operating right-of-use assets of $5.0 billion
resulting from the adoption of the new leasing standard on
January 1, 2019; partially offset by

A decrease in financing receivables of $8.6 billion
primarily due to the wind down of OEM IT commercial
financing operations.

Total liabilities increased $24.7 billion (increased $25.0 billion
adjusted for currency) from December 31, 2018 driven by:

•

An increase in total debt of $17.1 billion primarily driven by
new issuances to finance the Red Hat acquisition; and

An increase in operating lease liabilities of $5.3 billion
resulting from the adoption of the new leasing standard.

Total equity of $21.0 billion increased $4.1 billion from December
31, 2018 as a result of:

•

Increases from net income of $9.4 billion and retirement
related plans of $1.4 billion; partially offset by

Decreases from dividends of $5.7 billion and gross share
repurchases of $1.3 billion.

Cash provided by operating activities was $14.8 billion in 2019, a
decrease of $0.5 billion compared to 2018, driven primarily by an
increase in cash income tax payments ($0.3 billion), an increase
in interest payments on debt ($0.3 billion) driven by incremental
debt used to fund the acquisition of Red Hat, and performance-
related declines within net income, including lower operating cash
flows due to businesses divested in 2019; partially offset by an
increase in cash provided by financing receivables ($0.8 billion).

Net cash used in investing activities of $26.9 billion was $22.0
billion higher than the prior year, primarily driven by an increase
in net cash used for acquisitions ($32.5 billion) driven by the
acquisition of Red Hat. This was partially offset by an increase
in cash provided by net non-operating finance receivables
($7.2 billion) primarily driven by the wind down of the OEM IT
commercial financing operations, a decrease in cash used for
net capital expenditures ($1.3 billion) and an increase in cash
provided by divestitures ($1.1 billion).

Financing activities were a net source of cash of $9.0 billion in
2019 compared to a net use of cash of $10.5 billion in 2018. The
year-to-year increase in cash flow of $19.5 billion was driven by
an increase in net cash sourced from debt transactions ($16.6
billion) primarily driven by net issuances to fund the Red Hat
acquisition and a decrease in cash used for gross common stock
repurchases ($3.1 billion).

In January 2020, the company disclosed that it is expecting
GAAP earnings per share from continuing operations of at least
$10.57 and operating (non-GAAP) earnings of at least $13.35 per
diluted share for 2020. The company expects free cash flow to be
approximately $12.5 billion in 2020. Refer to the Looking Forward
section for additional information on the company’s expectations.

DESCRIPTION OF BUSINESS
Please refer to IBM’s Annual Report on Form 10-K filed with the
SEC on February 25, 2020, for Item 1A. entitled “Risk Factors.”

We create value for clients by providing integrated solutions
and products that leverage: data, information technology, deep
expertise in industries and business processes, with trust and
security and a broad ecosystem of partners and alliances. IBM
solutions typically create value by enabling new capabilities for
clients that transform their businesses and help them engage
with their customers and employees in new ways. These solutions
draw from an industry-leading portfolio of consulting and IT
implementation services, cloud, digital and cognitive offerings,
and enterprise systems and software which are all bolstered by
one of the world’s leading research organizations.

IBM Strategy
IBM’s strategy begins with our clients. IBM is distinguished as
being first and foremost an Enterprise company, serving the
world’s leaders in their industries.

Serving enterprises requires a distinct set of skills as our clients
entrust us with building, integrating and running the world’s
mission-critical systems. These are systems that cannot fail,
systems that require the highest levels of privacy and security.
They are built with our software and on our systems, designed
and managed by IBM services. For example, we manage
approximately ninety percent of the credit card transactions
and half of the world’s wireless connections. We do this with an
unparalleled commitment to our clients’ data security.

We are unique in bringing innovative technology and industry
expertise on a foundation of trust and security as an integrated
proposition to our clients. This integrated proposition allows us
to deliver business impact that matters to our clients, impact that
requires bringing together technologies such as hybrid cloud, data
and AI insight with workflow and advanced industry skills. This
integrated proposition helps our clients transform themselves
from traditional businesses to what we call Cognitive Enterprises.

Management Discussion International Business Machines Corporation and Subsidiary Companies30

Furthermore, as technology becomes more central for business,
as well as in our personal lives, trust matters more than ever.
For decades we have followed core principles grounded
in commitments to trust and transparency that guide our
responsible development and deployment of new technologies.
These values ground our business decisions, inspire our
employees, and sustain our client relationships. We have not only
followed guidelines around the responsible handling of data and
the stewardship of new technology, but created them, published
them and invited others to adopt similar commitments. Our focus
is not just on our direct client work, but extends to society at
large, as we have been very active in areas such as education,
sustainability and security. This is reinforced through a culture
of inclusion and diversity. All of IBM treats this “responsible
stewardship” as core to our mission.

A New Chapter in Technology
2019 ushered in Chapter 2 of our clients’ digital journeys in which
the two predominant technology forces of our day—hybrid cloud
and data/AI—are moving from “start-up” to “production at scale”.
These two forces work together to help companies become what
we call Cognitive Enterprises—companies that are powered by
innovation, agility and data-driven intelligent decision making.

We describe below how IBM is leading the way in Chapter 2.

Hybrid Cloud
Chapter 1 marked the early stages of cloud with the rise of public
cloud. This stage was focused on new end-user applications,
including applications that have allowed consumers to check
their bank balances, access social media, make online purchases
and receive online support. While movement to public cloud
has been strong, only twenty percent of workloads have been
addressed in Chapter 1. Clients are merely at the beginning of a
multi-stage journey.

Chapter 2 is about clients modernizing the remaining eighty
percent of workloads, moving mission-critical workloads to
the cloud and infusing AI deep into the decision-making of
their businesses. These mission-critical workloads include
core financial transaction systems, customer databases and
Enterprise Resource Planning systems. Some of these workloads
will gravitate to the public cloud in Chapter 2, while others will
move to a private cloud or remain in traditional IT environments
for security, compliance and/or performance reasons.

Wherever clients’ workloads reside, these environments
must work together seamlessly to communicate, share data
and share capacity. With enterprises having accumulated
as many as fifteen public clouds, each with its own means of
management, harmonizing these different clouds has become
a necessity. Bringing these multiple public clouds, private cloud
and traditional IT together is what we call hybrid cloud. Hybrid
cloud defines the mission for Chapter 2 in IT.

We are a leader in hybrid cloud, and our mission in Chapter 2 is
to bring our expertise and experience in building and managing
mission-critical systems to lead our enterprise clients along this
multi-stage journey.

Our public cloud is built on a foundation of open source software
and enterprise grade infrastructure. It is the most open and
secure public cloud, and it is built for the enterprise with Cloud
Paks—enterprise-ready, containerized software solutions for
applications, automation, data, integration and multi-cloud
management.

To accelerate our clients’ success, we acquired Red Hat in 2019,
further strengthening our leadership in hybrid cloud. Red Hat is
the world’s leader in open source technology, including Enterprise
Linux, the operating system of the cloud, as well as containers
and OpenShift, technology platforms that create seamless
integration between traditional and cloud environments. As the
leader in open source, Red Hat brings capability that enables
applications to be “written once and run anywhere”, in turn
helping companies avoid lock-in to a single cloud provider,
thereby taking advantage of the entire industry’s innovation.
These technologies are central to the next era of computing.

Our systems and services play a large role in these hybrid
cloud offerings as well. We have introduced new versions of our
systems that work securely and seamlessly in the hybrid cloud,
bringing mission-critical workloads into our clients’ digital
journeys. Through our services, we play a large role in helping
our clients map out their digital journeys, and then helping them
build, manage and run the technology and the workflows.

This integrated value proposition of innovative technology and
industry expertise built on trust and security, and now together
with Red Hat, is helping our clients realize the full potential and
competitive advantage of the hybrid cloud.

Data and AI
A new era of business reinvention is emerging as leading
companies are moving from merely improving their processes
to creating truly “intelligent workflows,” processes that are not
only efficient at what they do, but intrinsically smart: capable of
finding, connecting and analyzing data to uncover deep insights
that can inform intelligent decisions. Data and AI, in concert with
hybrid cloud, are making intelligent workflows possible.

We have been a pioneer of technologies and services that help
clients collect, organize, and analyze their vast data stores and
then operationalize AI across their business. Our long-running
innovation in automation, data science, and natural language
processing is helping clients manage their data as a strategic
resource and deploy AI for greater insight and more accurate,
trusted predictions.

Our data offerings help clients organize, collect, analyze and
embed their data into their workflow. IBM software spans areas
ranging from data management and discovery to reporting,
governance, compliance and risk management. Our systems
process our clients’ data with unparalleled speed, accuracy and
security and our services help clients capture and embed the
value of their data into their business.

Management Discussion International Business Machines Corporation and Subsidiary Companies31

Our IBM Watson AI system has been named by industry analysts
as the worldwide market leader in AI for three consecutive
years. Watson is not only a leading AI technology, but a leader
in enterprise deployments in production and at scale. In addition
to extracting deep insight from data, IBM Watson allows clients
to trace the origins of the data that their AI models use, explain
what is behind their recommendations and ensure that bias
has not crept into results. Furthermore, IBM Watson is the only
system that is built for the hybrid cloud, able to work on numerous
public and private clouds. These innovations are making AI more
consumable by everyday users, not just data scientists.

Creating intelligent workflows relies on our integrated proposition
of technology, services and industry expertise, built on a
foundation of trust and security. The way in which we bring these
together is through an interactive process with our clients that we
call the IBM Garage, a process of deep collaboration, co-creation
and innovation.

This business model, supported by our financial model, has
enabled IBM to deliver strong earnings, cash flows and returns
to shareholders over the long term.

Business Segments and Capabilities
Our major operations consist of five business segments: Cloud &
Cognitive Software, Global Business Services, Global Technology
Services, Systems and Global Financing.

Cloud & Cognitive Software brings together IBM’s software
platforms and solutions, enabling us to deliver integrated and
secure cloud, data and AI solutions to our clients. It includes
all software, except operating system software reported in the
Systems segment.

Cloud & Cognitive Software comprises three business areas—
Cognitive Applications, Cloud & Data Platforms, and Transaction
Processing Platforms.

We are in an era when our clients are embedding technology into
their businesses in ways they have never done before. Technology
is no longer merely a “tool”, it is at the center of their businesses,
the source of their competitive advantage and the force behind
their emerging business models.

Cloud & Cognitive Software Capabilities
Cognitive Applications: includes software that address vertical and
domain-specific solutions, increasingly infused with AI, enabled
by IBM’s Watson technology. Application areas such as health,
financial services, Internet of Things (IoT) solutions, weather, and
security software and services are among the offerings.

In Chapter 2, IBM is bringing hybrid cloud and data/AI together
to help our clients reinvent themselves as Cognitive Enterprises.
The most challenging and complex work still lies ahead. With our
strong commitment to responsible stewardship and our integrated
value proposition, this makes us unique in helping our clients on
their transformative digital journeys.

Business Model
Our business model is built to provide long-term value to
stakeholders. We bring together innovative technology, industry
expertise and a commitment to trust and transparency to help
enterprise clients move from one era to the next. We provide
integrated solutions and platforms, leveraging global capabilities
that include services, software, systems, related financings and
fundamental research. The business model has been developed
over time through strategic investments in capabilities and
technologies that have long-term growth and profitability
prospects based on the value they deliver to clients.

The business model is dynamic, adapting to the continuously
changing industry and economic environment, including our shift
to cloud delivery models. We continue to strengthen our position
through strategic organic investments and acquisitions in higher-
value areas, broadening our industry expertise and integrating AI
into more of what we offer. In addition, we are transforming into
a more agile enterprise to drive innovation and speed, as well
as helping to drive productivity, which supports investments for
participation in markets with significant long-term opportunity.
We also regularly evaluate our portfolio and investments,
proactively bringing products to end of life, engaging in IP
partnerships and executing divestitures to optimize our portfolio.

Cloud & Data Platforms: includes the company’s distributed
middleware and data platform software, including Red Hat, which
enables the operation of clients’ hybrid multi-cloud environments,
whether on-premise or in public and private clouds. It also
includes product areas such as Cloud Paks, WebSphere
distributed, analytics platform software such as DB2 distributed,
information integration, and enterprise content management, as
well as IoT, Blockchain and AI/Watson platforms.

As clients increasingly move more of their mission-critical
workloads to the cloud, their multi-cloud environments will
be based on a foundation of Linux, with Kubernetes open-
source software to deploy, manage and scale container-based
applications. Red Hat, which provides the leading Linux operating
system—Red Hat Enterprise Linux—and the leading hybrid
cloud platform—Red Hat OpenShift—is at the center of this
transformational shift among clients.

Transaction Processing Platforms: the software that supports
client mission critical on-premise workloads in industries such as
banking, airlines and retail. This includes transaction processing
software such as Customer Information Control System and
storage software, as well as the analytics and integration
software running on IBM operating systems (e.g., DB2 and
WebSphere running on z/OS).

Global Business Services provides clients with consulting,
business process and application management services.
These professional services deliver value and innovation to
clients through solutions which leverage industry, technology
and business strategy and process expertise. GBS is the
digital reinvention partner for IBM clients, combining industry
knowledge, functional expertise, and applications with the power

Management Discussion International Business Machines Corporation and Subsidiary Companies32

of business design and cognitive and cloud technologies. The
full portfolio of GBS services is backed by its globally integrated
delivery network and integration with technologies, solutions
and services across IBM including IBM Research and Global
Technology Services.

GBS assists clients on their journeys to becoming Cognitive
Enterprises, helping them build business platform strategies
and experiences, transform processes to intelligent workflows
using AI and other exponential technologies, and build hybrid,
open cloud infrastructures.

in building and running contemporary, software-defined IT
environments. These offerings integrate long-standing expertise
in service management and emerging technologies, drawn from
across IBM’s businesses and ecosystem partners. The portfolio
is built leveraging platforms, such as the IBM Services Platform
with Watson, which augment human intelligence with cognitive
technologies and address complex, hybrid cloud environments.
IBM’s services capabilities integrate IBM Cloud, cognitive
computing and multi-cloud management to provide clients with
high-performance, end-to-end innovation and an improved ability
to achieve business objectives.

GBS Capabilities
Consulting: provides business consulting services focused on
bringing to market solutions that help clients shape their digital
blueprints and customer experiences, define their cognitive
operating models, unlock the potential in all data to improve
decision-making, set their next-generation talent strategies and
create new technology architectures in a cloud-centric world.

Technology Support Services: delivers comprehensive support
services to maintain and improve the availability of clients’ IT
infrastructures. These offerings include maintenance for IBM
products and other technology platforms, as well as open-source
and cross-vendor software and solution support, drawing on
innovative technologies and leveraging IBM Services Platform
with Watson capabilities.

Application Management: delivers system integration, application
management, maintenance and support services for packaged
software, as well as custom and traditional applications. Value
is delivered through advanced capabilities in areas such as
security and privacy, application testing and modernization,
cloud application migration and automation.

Systems provides clients with innovative infrastructure platforms
to help meet the new requirements of hybrid multi-cloud and
enterprise AI workloads. IBM Systems also designs advanced
semiconductor and systems technology in collaboration with IBM
Research, primarily for use in our systems.

Global Process Services (GPS): delivers finance, procurement,
talent and engagement, and industry-specific business process
outsourcing services. These services deliver improved business
results to clients through a consult-to-operate model which
includes the strategic change and/or operation of the client’s
processes, applications and infrastructure. GBS is redefining
process services for both growth and efficiency through the
application of the power of cognitive technologies like Watson,
as well as the IoT, blockchain and deep analytics.

Global Technology Services provides compre hensive IT
infrastructure and platform services that create business value
for clients. Clients gain access to leading-edge, high-quality
services, and realize greater flexibility and economic value.
This is enabled through insights drawn from IBM’s decades
of experience across thousands of engagements, the skills of
practitioners, advanced technologies, applied innovation from
IBM Research and global scale.

GTS Capabilities
Infrastructure & Cloud Services: delivers a portfolio of project,
managed, outsourcing and cloud-delivered services focused on
clients’ enterprise IT infrastructure environments to enable digital
transformation with improved quality, flexibility and economic
value. The portfolio contains the IBM Cloud and a comprehensive
set of hybrid cloud services and solutions that include resiliency,
network and security capabilities to assist enterprise clients

Systems Capabilities
Systems Hardware: includes IBM’s servers and Storage Systems.

Servers: a range of high-performance systems designed to
address computing capacity, security and performance needs
of businesses, hyperscale cloud service providers and scientific
computing organizations. The portfolio includes IBM Z and
LinuxONE, trusted enterprise platforms for integrating data,
transactions and insight; and Power Systems, a system designed
from the ground up for big data and enterprise AI, optimized for
hybrid cloud and Linux.

Storage Systems: data storage products and solutions that
allow clients to retain and manage rapidly growing, complex
volumes of digital information and to fuel data-centric cognitive
applications. These solutions address critical client requirements
for information retention and archiving, security, compliance and
storage optimization, including data deduplication, availability
and virtualization. The portfolio consists of a broad range of flash
storage, disk and tape storage solutions.

Operating Systems Sof tware: IBM Z operating system
environments include z/OS, a security-rich, high-performance
enterprise operating system, as well as Linux. Power Systems
offers a choice of AIX, IBM i or Linux operating systems. These
operating systems leverage POWER architecture to deliver
secure, reliable and high performing enterprise-class workloads
across a breadth of server offerings.

Management Discussion International Business Machines Corporation and Subsidiary Companies33

Global Financing encompasses two primary businesses:
financing, primarily conducted through IBM Credit LLC (IBM
Credit), and remanufacturing and remarketing. IBM Credit is a
wholly owned subsidiary of IBM that accesses the capital markets
directly. IBM Credit, through its financing solutions, facilitates IBM
clients’ acquisition of information technology systems, software
and services in the areas where we have expertise. The financing
arrangements are predominantly for products or services that are
critical to the end users’ business operations. Global Financing
conducts a comprehensive credit evaluation of its clients prior
to extending financing. As a captive financier, Global Financing
has the benefit of both deep knowledge of its client base and
a clear insight into the products and services financed. These
factors allow the business to effectively manage two of the
major risks associated with financing, credit and residual value,
while generating strong returns on equity. Global Financing also
maintains a long-term partnership with IBM’s clients through
various stages of the IT asset life cycle—from initial purchase
and technology upgrades to asset disposition decisions.

Global Financing Capabilities
Client Financing: lease, installment payment plan and loan
financing to end users and internal clients for terms up to seven
years. Assets financed are primarily new and used IT hardware,
software and services where we have expertise. Internal
financing is predominantly in support of Global Technology
Services’ long-term client service contracts. All internal financing
arrangements are at arm’s-length rates and are based upon
market conditions.

Commercial Financing: short-term working capital financing
to suppliers, distributors and resellers of IBM. Beginning in the
second quarter of 2019 and continuing throughout the year, we
wound down the portion of our commercial financing operations
which provides short-term working capital solutions for Original
Equipment Manufacturer (OEM) IT suppliers, distributors
and resellers. This wind down is consistent with IBM’s capital
allocation strategy and high-value focus. Commercial Financing
also includes internal activity where Global Financing factors a
selected portion of IBM’s accounts receivable primarily for cash
management purposes, at arm’s-length rates. This program was
suspended in the second quarter of 2019.

Remanufacturing and Remarketing: assets include used
equipment returned from lease transactions, or used and surplus
equipment acquired internally or externally. These assets may
be refurbished or upgraded, and sold or leased to new or existing
clients both externally and internally. Externally remarketed
equipment revenue represents sales or leases to clients and
resellers. Internally remarketed equipment revenue primarily
represents used equipment that is sold internally to Global
Technology Services. Systems may also sell the equipment that
it purchases from Global Financing to external clients.

IBM Worldwide Organizations
The following worldwide organizations play key roles in IBM’s
delivery of value to its clients:

• Global Markets

• Research, Development and Intellectual Property

Global Markets
IBM operates in more than 175 countries with a broad distribution
of revenue. To manage this global footprint, Global Markets leads
our dedicated country-based IBM operations in order to serve
clients, develop markets, and ultimately, ensure IBM is led
through a client lens.

These integrated teams serve our clients locally, complemented
by digital capabilities, global talent and resources, and an
extensive partner ecosystem. These country teams have client
relationship managers at their center, who integrate teams of
IBM consultants, solution specialists, delivery professionals
and business partners on behalf of clients. Their mission is to
provide insights and innovation and co-create with clients to
help them address their most pressing business challenges and
opportunities.

In this way, we serve as a trusted partner to clients, establishing
and maintaining relationships that deliver long-term value based
on industry expertise, innovative technologies and an ability to
deliver mission critical capabilities to an enterprise at scale.

Research, Development and Intellectual Property
Our research and development (R&D) operations differentiate
us from our competitors. In 2019, we invested approximately
8 percent of total revenue for R&D, focusing on high-growth,
high-value opportunities. IBM Research works with clients and
our business units through global labs on near- and mid-term
innovations. It delivers many new technologies to our portfolio
every year and helps clients address their most difficult challenges.
IBM Research scientists are conducting pioneering work in
artificial intelligence, quantum computing, security, cloud, systems
and more—applying these technologies across industries including
financial services, healthcare, manufacturing and automotive.

In 2019, for the 27th consecutive year, IBM was awarded more
U.S. patents than any other company. IBM’s 9,262 patents
awarded in 2019 represent a diverse range of inventions in
strategic growth areas for the company, including more than
4,500 patents related to work in artificial intelligence, cloud,
cybersecurity and quantum computing.

We actively continue to seek IP protection for our innovations,
while increasing emphasis on other initiatives designed
to leverage our IP leadership. Some of our technological
breakthroughs are used exclusively in IBM products, while
others are licensed and may be used in IBM products and/or
the products of the licensee. As part of our business model,
we license certain of our IP assets, which constitute high-value
technology, but may be applicable in more mature markets. The
licensee drives the future development of the IP and ultimately
expands the customer base. This generates IP income for IBM
both upon licensing, and with any ongoing royalty arrangements
between it and the licensee. While our various proprietary IP
rights are important to our success, we believe our business as
a whole is not materially dependent on any particular patent or
license, or any particular group of patents or licenses. IBM owns
or is licensed under a number of patents, which vary in duration,
relating to its products.

Management Discussion International Business Machines Corporation and Subsidiary Companies34

YEAR IN REVIEW
Results of Continuing Operations
Segment Details
The following is an analysis of the 2019 versus 2018 reportable segment results. The table below presents each reportable segment’s
external revenue and gross margin results. Segment pre-tax income includes transactions between segments that are intended to
reflect an arm’s-length transfer price and excludes certain unallocated corporate items.

($ in millions)

For the year ended December 31:

Revenue

Cloud & Cognitive Software

Gross margin

Global Business Services

Gross margin

Global Technology Services

Gross margin

Systems

Gross margin

Global Financing

Gross margin

Other

Gross margin

2019

2018

Yr.-to-Yr.
Percent/
Margin
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

$23,200

$22,209 *

4.5%**

6.2%

76.7%

77.6%*

(0.9)pts.**

16,634

16,595*

27.7%

26.8%*

27,361

29,146*

34.8%

7,604

53.1%

1,400

35.6%

948

4.7%

34.4%*

8,034

49.8%

1,590

29.1%

2,018*

37.8%*

0.2%

0.9 pts.

(6.1)%

0.3 pts.

(5.3)%

3.2 pts.

2.4%

(3.7)%

(4.1)%

(11.9)%

(10.0)%

(51.7)%

(1.0)%

6.4 pts.

(53.0)%

(33.1) pts.
(3.1)%+

(1.2)%**

0.9 pts.

43.8%

(0.7)%**

1.1 pts.

Yr.-to-Yr.
Percent
Change

Yr.-to-Yr.
Percent Change
Adjusted for

** Currency**

4.5%

2.3%

10.4

(0.5)

6.2%

3.9%

12.3

1.4

Total consolidated revenue

$77,147

$79,591

Total consolidated gross profit

Total consolidated gross margin

Non-operating adjustments

Amortization of acquired intangible assets

Acquisition-related charges

Operating (non-GAAP) gross profit

Operating (non-GAAP) gross margin

* Recast to reflect segment changes.

$36,488

$36,936

47.3%

46.4%

534

372

—

$37,035

$37,307

48.0%

46.9%

** 2019 results were impacted by Red Hat purchase accounting and acquisition-related activity.
+ 0.2 percent excluding divested businesses and adjusted for currency.

NM—Not meaningful

Cloud & Cognitive Software

($ in millions)

For the year ended December 31:

Cloud & Cognitive Software external revenue

Cognitive Applications

Cloud & Data Platforms

Transaction Processing Platforms

* Recast to reflect segment changes.

** 2019 results were impacted by Red Hat purchase accounting.

2019

$23,200

$ 5,765

9,499

7,936

2018*

$22,209

$ 5,633

8,603

7,974

Cloud & Cognitive Software revenue of $23,200 million increased
4.5 percent as reported (6 percent adjusted for currency) in 2019
compared to the prior year. There was strong growth in Cloud
& Data Platforms, as reported and at constant currency, driven
primarily by the acquisition of Red Hat in the third quarter of 2019.
Red Hat had continued strong performance since the acquisition,
in Red Hat Enterprise Linux (RHEL), application development and
emerging technologies, led by OpenShift and Ansible. Red Hat

and IBM are driving synergies with strong adoption of Cloud Paks
since their introduction, expansion of our combined client base
and more than 2,000 clients using our hybrid cloud platform.
Cognitive Applications also grew as reported and at constant
currency. Transaction Processing Platforms declined year to year
as reported, but grew 1 percent adjusted for currency driven by
strong fourth-quarter performance.

Management Discussion International Business Machines Corporation and Subsidiary Companies35

Cognitive Applications revenue of $5,765 million grew 2.3 percent
as reported (4 percent adjusted for currency) compared to the
prior year, driven by double-digit growth as reported and adjusted
for currency in Security, and growth in industry verticals such as
IoT. The Security performance included continued strong results
in threat management software and services offerings. Within
IoT, we had good revenue performance across the portfolio as
we continued to invest in new offerings and industry-specific
solutions.

Cloud & Data Platforms revenue of $9,499 million increased 10.4
percent as reported (12 percent adjusted for currency) compared
to the prior year. Performance was driven by the addition of RHEL
and OpenShift and the continued execution of the combined Red
Hat and IBM hybrid strategy.

Transaction Processing Platforms revenue of $7,936 million
decreased 0.5 percent as reported, but grew 1 percent adjusted
for currency in 2019, compared to the prior year. Revenue
performance reflects the ongoing investment in IBM platforms,
and the timing of larger transactions that are tied to client
business volumes and buying cycles.

Within Cloud & Cognitive Software, cloud revenue of $4.2
billion grew 40 percent as reported and 42 percent adjusted for
currency year to year, reflecting the acquisition of Red Hat and
client adoption of our hybrid cloud offerings.

($ in millions)

For the year ended December 31:

2019

2018*

Cloud & Cognitive Software

Yr.-to-Yr.
Percent/
Margin
Change**

External gross profit

$17,790

$17,224

3.3%

External gross profit

margin

Pre-tax income

Pre-tax margin

76.7%

77.6%

(0.9)pts.

$ 7,952

$ 8,882

(10.5)%

30.6%

35.0%

(4.4)pts.

* Recast to reflect segment changes.

** 2019 results were impacted by Red Hat purchase accounting and

acquisition-related activity.

The Cloud & Cognitive Software gross profit margin decreased
0.9 points to 76.7 percent in 2019 compared to the prior year.
The gross profit margin decline was driven by the purchase price
accounting impacts from the Red Hat acquisition.

Pre-tax income of $7,952 million decreased 10.5 percent
compared to the prior year with a pre-tax margin decline of 4.4
points to 30.6 percent which reflects the acquisition of Red Hat,
ongoing investments in key strategic areas and lower income
from IP partnership agreements.

Global Business Services

($ in millions)

For the year ended December 31:

Global Business Services external revenue

Consulting

Application Management

Global Process Services

* Recast to reflect segment changes.

2019

$16,634

$ 7,993

7,646

995

2018

$16,595 *

$ 7,705

7,852

1,037*

Yr.-to-Yr.
Percent
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

0.2%

3.7%

(2.6)

(4.1)

2.4%

5.6%

(0.3)

(1.3)

GBS revenue of $16,634 million increased 0.2 percent as reported
and 2 percent adjusted for currency in 2019 compared to the
prior year. The strong growth in Consulting reflected GBS’ ability
to bring together our industry specific expertise and innovative
technology portfolio to help clients with their digital reinventions.
Our performance reflects continued investment in offerings and
capabilities to help advise clients and move their applications to
hybrid multi-cloud environments. In the second half, we saw an
acceleration in new Red Hat engagements.

Consulting revenue of $7,993 million increased 3.7 percent
as reported and 6 percent adjusted for currency compared to
the prior year. This strong performance was driven primarily by
growth in offerings that enable each phase of our clients’ digital
journey. These offerings include cognitive technology and data
platform services, application modernization and next-generation
enterprise applications and offerings that use AI to help clients
unlock new opportunities and realize productivity improvements.

Application Management revenue of $7,646 million decreased
2.6 percent as reported, but was flat adjusted for currency. We
had growth in offerings that help clients develop and manage
cloud applications and modernize and automate their application
portfolio, offset by continued decline in the more traditional
application management engagements. With the acquisition
of Red Hat, we continued to integrate OpenShift as clients’
preferred cloud-native application development platform.

Global Process Services revenue of $995 million decreased
4.1 percent as reported (1 percent adjusted for currency) as
demand has been shifting away from traditional Business Process
Outsourcing (BPO) offerings to new business platforms around
intelligent workflows.

Within GBS, cloud revenue of $5.2 billion grew 10 percent as
reported and 13 percent adjusted for currency, reflecting the
growth in cloud consulting engagements and cloud application
development.

Management Discussion International Business Machines Corporation and Subsidiary Companies36

($ in millions)

For the year ended December 31:

2019

2018*

Global Business Services

Yr.-to-Yr.
Percent/
Margin
Change

External gross profit

$4,606

$4,448

3.5%

External gross profit

margin

Pre-tax income

Pre-tax margin

27.7%

26.8%

0.9 pts.

$1,666

$1,629

2.2%

9.9%

9.6%

0.2 pts.

* Recast to reflect segment changes.

Global Technology Services

($ in millions)

For the year ended December 31:

Global Technology Services external revenue

Infrastructure & Cloud Services

Technology Support Services

* Recast to reflect segment changes.

GTS revenue of $27,361 million decreased 6.1 percent as
reported (4 percent adjusted for currency) in 2019 compared to
the prior year. We had continued growth in cloud services that
help clients move and manage workloads. However, performance
reflected lower client business volumes in more traditional
labor-based managed services. We continue to take actions to
accelerate the shift to higher-value segments of the market and
are introducing new managed services offerings for public and
private cloud, in areas like cybersecurity, data management and
hybrid orchestration. We are investing in joint services offerings
integrating GTS and GBS, and deploying joint go-to-market
capabilities, as clients demand solutions that merge applications
and infrastructure. Although lower business volumes impacted
full-year revenue and profit in 2019, we ended the year with
growth in cloud signings and a solid pipeline of future deals that
will deliver productivity to our clients.

Infrastructure & Cloud Services revenue of $20,736 million
decreased 6.5 percent as reported (4 percent adjusted for
currency) compared to the prior year. Revenue was impacted by
our customers’ own business volumes which were lower year
to year in certain offerings. Clients are modernizing their core
infrastructures to hybrid multi-cloud infrastructures. GTS is
continuing to invest in cloud capabilities, introduce new managed
services offerings and build out its cloud data center footprint
to capture this opportunity. Growth in cloud signings reflects
our re-alignment of GTS offerings to help our clients on their
journey to cloud, infusing offerings with IP and leveraging Red
Hat’s capabilities.

The GBS profit margin increased 0.9 points to 27.7 percent and
pre-tax income of $1,666 million increased 2.2 percent year to
year. The pre-tax margin of 9.9 percent increased slightly year
to year. The year-to-year improvements in margins and pre-tax
income were driven by the continued mix shift to higher-value
offerings, the yield from delivery productivity improvements and
a currency benefit from leveraging the global delivery resource
model. We continued to invest in our services offerings and skills
necessary to assist our clients on their cloud journey.

2019

$27,361

$20,736

6,625

2018

$29,146 *

$22,185*

6,961

Yr.-to-Yr.
Percent
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

(6.1)%

(6.5)%

(4.8)

(3.7)%

(4.1)%

(2.2)

Technology Support Services (TSS) revenue of $6,625 million
decreased 4.8 percent as reported (2 percent adjusted for
currency) in 2019, partially driven by dynamics in the hardware
product cycles.

Within GTS, cloud revenue of $8.6 billion grew 8 percent as
reported and 10 percent adjusted for currency.

($ in millions)

For the year ended December 31:

2019

2018*

Global Technology Services

Yr.-to-Yr.
Percent/
Margin
Change

External total gross profit

$9,515

$10,035

(5.2)%

External total gross
profit margin

Pre-tax income

Pre-tax margin

34.8%

34.4%

0.3 pts.

$1,645

$ 1,781

(7.6)%

5.8%

5.9%

(0.2)pts.

* Recast to reflect segment changes.

The GTS gross profit margin increased 0.3 points year to year
to 34.8 percent, due to the benefits of workforce actions and
the continued scale out of our public cloud. We continued to
take structural actions to improve our cost competitiveness
and are accelerating the use of AI and automation in delivery
operations, including leveraging Red Hat’s Ansible platform.
Pre-tax income of $1,645 million decreased 7.6 percent, driven
primarily by the decline in revenue and gross profit, and a higher
level of workforce rebalancing charges in the current year.
Pre-tax margin of 5.8 percent was essentially flat year to year,
with the 2019 pre-tax margin reflecting benefits from structural
and workforce actions.

Management Discussion International Business Machines Corporation and Subsidiary Companies37

Services Backlog and Signings

($ in billions)

At December 31:

Total backlog

2019

$112.4

2018

$116.1

Yr.-to-Yr.
Percent
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

(3.1)%

(2.7)%

The estimated total services backlog at December 31, 2019 was
$112 billion, a decrease of 3.1 percent as reported (3 percent
adjusted for currency).

calculation of signings. The calculation used by management
involves estimates and judgments to gauge the extent of a client’s
commitment, including the type and duration of the agreement,
and the presence of termination charges or wind-down costs.

Total services backlog includes Infrastructure & Cloud Services,
Security Services, Consulting, Global Process Services,
Application Management and TSS. Total backlog is intended to
be a statement of overall work under contract which is either
noncancellable, or which historically has very low likelihood
of termination, given the criticality of certain services to the
company’s clients. Total backlog does not include as-a-Service
arrangements that allow for termination under contractual
commitment terms. Backlog estimates are subject to change and
are affected by several factors, including terminations, changes
in the scope of contracts, periodic revalidations, adjustments for
revenue not materialized and adjustments for currency.

Services signings are management’s initial estimate of the
value of a client’s commitment under a services contract. There
are no third-party standards or requirements governing the

Signings include Infrastructure & Cloud Services, Security
Services, Consulting, Global Process Services and Application
Management contracts. Contract extensions and increases in
scope are treated as signings only to the extent of the incremental
new value. TSS is generally not included in signings as the
maintenance contracts tend to be more steady state, where
revenues equal renewals. Certain longer-term TSS contracts
that have characteristics similar to outsourcing contracts are
included in signings.

Contract portfolios purchased in an acquisition are treated as
positive backlog adjustments provided those contracts meet the
company’s requirements for initial signings. A new signing will be
recognized if a new services agreement is signed incidental or
coincidental to an acquisition or divestiture.

($ in millions)

For the year ended December 31:

Total signings

Systems

($ in millions)

For the year ended December 31:

Systems external revenue

Systems Hardware

IBM Z

Power Systems

Storage Systems

2019

2018

Yr.-to-Yr.
Percent
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

$40,741

$44,700

(8.9)%

(6.9)%

2019

$7,604

$5,918

2018

$8,034

$6,363

Yr.-to-Yr.
Percent
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

(5.3)%

(7.0)%

(1.1)

(13.5)

(8.9)

0.9

(4.1)%

(5.9)%

(0.3)

(12.1)

(7.6)

2.6

Operating Systems Software

1,686

1,671

Systems revenue of $7,604 million decreased 5.3 percent year
to year as reported (4 percent adjusted for currency). Systems
Hardware revenue of $5,918 million declined 7.0 percent as
reported (6 percent adjusted for currency), driven primarily by
declines in Power Systems and Storage Systems. Operating
Systems Software revenue of $1,686 million grew 0.9 percent
as reported (3 percent adjusted for currency) compared to the
prior year.

Within Systems Hardware, IBM Z revenue decreased 1.1 percent
as reported but was essentially flat adjusted for currency,
reflecting the mainframe product cycles. Revenue declined
through the first three quarters due to the end of the z14 product
cycle, but there was strong growth in the fourth quarter driven
by z15 shipments. The z15’s strong performance demonstrates
client demand for technology that offers improved data privacy
and resiliency in the hybrid cloud environment. The z15

Management Discussion International Business Machines Corporation and Subsidiary Companies38

mainframe’s capabilities extend the platform’s differentiation
with encryption everywhere, cloud-native development and
instant recovery. In October, we announced OpenShift for IBM Z,
bringing together the industry’s most comprehensive enterprise
container and Kubernetes platform with the enterprise server
platforms of IBM Z and LinuxONE. IBM Z continues to deliver a
high-value, secure and scalable platform for our clients.

Power Systems revenue decreased 13.5 percent as reported
(12 percent adjusted for currency) year to year, due to the strong
performance during the second half of 2018 driven by Linux and the
introduction of the POWER9-based architecture in our mid-range
and high-end products.

Storage Systems revenue decreased 8.9 percent as reported
(8 percent adjusted for currency) year to year, with improvements
in year-to-year performance in the fourth quarter of 2019, driven
primarily by the launch of the next generation high-end storage
system DS8900 in November.

Within Systems, cloud revenue of $2.9 billion declined 4 percent
as reported and 3 percent adjusted for currency.

($ in millions)

For the year ended December 31:

2019

2018

Systems

External Systems

Yr.-to-Yr.
Percent/
Margin
Change

Pre-tax income of $701 million declined 22.4 percent and pre-tax
margin of 8.4 percent decreased 1.8 points year to year driven
by the declines in Power Systems and Storage Systems revenue
and the continued investment in innovation across the Systems
portfolio, mitigated by the benefit from the new hardware
launches in the second-half 2019.

Global Financing
Global Financing is a reportable segment that is measured as
a stand-alone entity. Global Financing facilitates IBM clients’
acquisition of information technology systems, software and
services by providing financing solutions in the areas where
the company has expertise, while generating strong returns on
equity. Global Financing also optimizes the recovery of residual
values by selling assets sourced from end of lease, leasing used
equipment to new clients, or extending lease arrangements
with current clients. Sales of equipment include equipment
returned at the end of a lease, surplus internal equipment
and used equipment purchased externally. Residual value is a
risk unique to the financing business and management of this
risk is dependent upon the ability to accurately project future
equipment values at lease inception. Global Financing has
insight into product plans and cycles for both the IBM and OEM
IT products under lease. Based upon this product information,
Global Financing continually monitors projections of future
equipment values and compares them with the residual values
reflected in the portfolio.

Results of Operations

Hardware gross profit

$2,622

$2,590

1.2%

($ in millions)

44.3%

40.7%

3.6 pts.

For the year ended December 31:

2019

2018

Yr.-to-Yr.
Percent
Change

External Systems

Hardware gross
profit margin

External Operating

Systems Software
gross profit

External Operating

Systems Software
gross profit margin

External total
gross profit

External total gross
profit margin

Pre-tax income

Pre-tax margin

$1,412

0.0%

83.8%

84.5%

(0.7)pts.

$4,034

$4,002

0.8%

53.1%

49.8%

3.2 pts.

$ 701

$ 904

(22.4)%

8.4%

10.2%

(1.8)pts.

The Systems gross profit margin increased 3.2 points to 53.1
percent in 2019 compared to the prior year. The increase was
driven by actions taken in 2018 to better position the cost
structure over the longer term, a mix to IBM Z hardware and
operating systems and margin improvement in Storage Systems.

External revenue

Internal revenue

Total revenue

Pre-tax income

$1,400

$1,590

(11.9 )%

1,232

$2,632

$1,055

1,610

(23.5)

$3,200

$1,361

(17.8 )%

(22.5)%

In 2019, Global Financing delivered external revenue of $1,400
million and total revenue of $2,632 million, with a decrease in
gross margin of 2.7 points to 58.8 percent. Total pre-tax income
of $1,055 million decreased 22.5 percent compared to 2018 and
return on equity decreased 5.0 points to 25.8 percent.

Global Financing total revenue decreased 17.8 percent compared
to the prior year. This was due to a decrease in internal revenue
of 23.5 percent, driven by decreases in internal used equipment
sales (down 27.4 percent to $862 million) and internal financing
(down 12.6 percent to $370 million). External revenue declined
11.9 percent due to decreases in external financing (down 8.5
percent to $1,120 million) and external used equipment sales
(down 23.4 percent to $281 million).

Management Discussion International Business Machines Corporation and Subsidiary Companies39

The decrease in internal financing revenue was due to lower
average asset balances, partially offset by higher asset yields.
The decrease in external financing revenue reflects the wind
down of the OEM IT commercial financing operations.

Sales of used equipment represented 43.4 percent and 48.5
percent of Global Financing’s revenue for the years ended
December 31, 2019 and 2018, respectively. The decrease in
2019 was due to a lower volume of internal used equipment
sales. The gross profit margin on used sales was 52.2 percent and
54.2 percent for the years ended December 31, 2019 and 2018,
respectively. The decrease in the gross profit margin was driven by
lower margins on internal used equipment sales.

Global Financing pre-tax income decreased 22.5 percent year to
year primarily driven by a decrease in gross profit ($422 million),
partially offset by a decrease in total expense ($115 million),
which was mainly driven by a decline in IBM shared expenses in
line with the segment’s performance, a lower provision for credit
losses and a gain from the sale of certain commercial financing
capabilities in the first quarter of 2019.

The decrease in return on equity from 2018 to 2019 was primarily
due to lower net income. Refer to page 45 for the details of the
after-tax income and return on equity calculations.

Geographic Revenue
In addition to the revenue presentation by reportable segment, we also measure revenue performance on a geographic basis.

($ in millions)

For the year ended December 31:

Total revenue

Americas

Europe/Middle East/Africa

Asia Pacific

2019

$77,147

$36,274

24,443

16,430

2018

$79,591

$36,994

25,491

17,106

Yr.-to-Yr.
Percent
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

Yr.-to-Yr.
Percent Change
Excluding Divested
Businesses And
Adjusted for
Currency

(3.1 )%

(1.9)%

(4.1)

(4.0)

(1.0)%

(1.1)%

0.4

(3.0)

0.2%

0.8%

1.3

(2.5)

Total revenue of $77,147 million in 2019 decreased 3.1 percent
year to year as reported (1 percent adjusted for currency),
but increased 0.2 percent excluding divested businesses and
adjusted for currency.

Total Expense and Other (Income)

($ in millions)

Americas revenue decreased 1.9 percent as reported (1 percent
adjusted for currency), but grew 1 percent excluding divested
businesses and adjusted for currency. Within North America, the
U.S. decreased 2.4 percent and Canada increased 4.0 percent
as reported (6 percent adjusted for currency). Latin America
declined as reported but grew adjusted for currency. Within Latin
America, Brazil declined 4.8 percent as reported, but was flat
adjusted for currency.

EMEA revenue decreased 4.1 percent as reported, but was
essentially flat adjusted for currency and increased 1 percent
excluding divested businesses and adjusted for currency. As
reported, the U.K., France and Italy decreased 2.9 percent,
4.1 percent and 1.3 percent, respectively, but grew 1 percent,
1 percent and 4 percent, respectively, adjusted for currency.
Germany decreased 7.9 percent as reported and 3 percent
adjusted for currency. The Middle East and Africa region decreased
3.5 percent as reported and 2 percent adjusted for currency.

Asia Pacific revenue decreased 4.0 percent as reported
(3 percent adjusted for currency) and 2 percent excluding
divested businesses and adjusted for currency. Japan increased
2.3 percent as reported and 1 percent adjusted for currency.
Australia decreased 17.3 percent as reported and 11 percent
adjusted for currency. China decreased 13.4 percent as reported
and 11 percent adjusted for currency and India decreased
8.1 percent as reported and 5 percent adjusted for currency.

Yr.-to-Yr.
Percent/
Margin
Change*

For the year ended December 31:

2019

2018

Total consolidated expense

and other (income)

$26,322

$25,594

2.8%

Non-operating adjustments

Amortization of acquired

intangible assets

Acquisition-related charges

Non-operating retirement-
related (costs)/income

Operating (non-GAAP)

expense and
other (income)

Total consolidated

(764)

(409)

(437)

(16)

74.8

(615)

(1,572)

(60.9)

$24,533

$23,569

4.1%

expense-to-revenue ratio

34.1%

32.2%

2.0 pts.

Operating (non-GAAP)

expense-to-revenue ratio

31.8%

29.6%

2.2 pts.

* 2019 results were impacted by Red Hat purchase accounting and

acquisition-related activity.

NM—Not meaningful

The following Red Hat-related expenses were included in
2019 total consolidated expense and other (income), with no
corresponding expense in the prior-year: Red Hat operational
spending, interest expense from debt issuances to fund the
acquisition and other acquisition-related activity, including:
amortization of acquired intangible assets, retention and legal
and advisory fees associated with the transaction.

Management Discussion International Business Machines Corporation and Subsidiary Companies40

Total expense and other (income) increased 2.8 percent in
2019 versus the prior year primarily driven by higher spending
including Red Hat operational spending and investments in
software and systems innovation, higher interest expense,
non-operating acquisition-related activity associated with the
Red Hat transaction and lower IP income, partially offset by
lower non-operating retirement-related costs, divesture-related
activity (gains on divestitures and lower spending) and the effects
of currency. Total operating (non-GAAP) expense and other
(income) increased 4.1 percent year to year, driven primarily by
the factors above excluding the higher non-operating acquisition
related activity and lower non-operating retirement-related costs
described above.

For additional information regarding total expense and other
(income) for both expense presentations, see the following
analyses by category.

Selling, General and Administrative Expense

($ in millions)

Bad debt expense increased $22 million in 2019 compared
to 2018. The receivables provision coverage was 1.7 percent
at December 31, 2019, an increase of 10 basis points from
December 31, 2018.

Research, Development and Engineering Expense

($ in millions)

For the year ended December 31:

2019

2018

Yr.-to-Yr.
Percent
Change

Total consolidated

research, development
and engineering

Non-operating adjustment

$5,989

$5,379

11.3%

Acquisition-related charges

(53)

—

Operating (non-GAAP)

research, development
and engineering

NM—Not meaningful

$5,936

$5,379

10.4%

For the year ended December 31:

2019

2018

Yr.-to-Yr.
Percent
Change

Research, development and engineering (RD&E) expense was
7.8 percent of revenue in 2019 and 6.8 percent of revenue in 2018.

Selling, general and

administrative expense

Selling, general and

RD&E expense increased 11.3 percent in 2019 versus 2018
primarily driven by:

administrative—other

$17,099

$16,438

4.0%

•

Advertising and promotional

expense

1,647

1,466

12.3

Higher spending (11 points) including investment in the z15
and Red Hat spending in the second half of 2019 (8 points);
and

Workforce rebalancing

charges

Amortization of acquired

intangible assets

Stock-based compensation

Bad debt expense

Total consolidated

selling, general and
administrative expense

Non-operating adjustments

Amortization of acquired

intangible assets

Acquisition-related charges

Operating (non-GAAP)
selling, general and
administrative expense

NM—Not meaningful

555

762

453

598

435

361

(7.2)

74.9

25.2

32.5

$20,604

$19,366

6.4%

•

Higher acquisition-related charges associated with the
Red Hat transaction (1 point); partially offset by

•

The effects of currency (1 point).

Operating (non-GAAP) expense increased 10.4 percent year
to year primarily driven by the same factors excluding the
acquisition-related charges associated with the Red Hat
transaction.

Intellectual Property and Custom Development Income

(762)

(282)

(435)

(15)

74.9

($ in millions)

For the year ended December 31:

2019

2018

Yr.-to-Yr.
Percent
Change

$19,560

$18,915

3.4%

Total selling, general and administrative (SG&A) expense
increased 6.4 percent in 2019 versus 2018, driven primarily by
the following factors:

•

Higher spending (5 points) driven by Red Hat spending
(5 points); and

Higher acquisition-related charges and amortization of
acquired intangible assets associated with the Red Hat
acquisition (3 points); partially offset by

•

The effects of currency (2 points).

Operating (non-GAAP) expense increased 3.4 percent year
to year primarily driven by the same factors excluding the
acquisition-related charges and amortization of acquired
intangible assets associated with the Red Hat transaction.

Licensing of intellectual
property including
royalty-based fees

Custom development income

Sales/other transfers of
intellectual property

Total

$367

246

$ 723

(49.2)%

275

(10.5)

22.6

$648

$1,026

(36.9)%

Licensing of intellectual property including royalty-based
fees decreased 49.2 percent in 2019 compared to 2018. This
was primarily due to a decline in new partnership agreements
compared to the prior year. The timing and amount of licensing,
sales or other transfers of IP may vary significantly from period
to period depending upon the timing of licensing agreements,
economic conditions, industry consolidation and the timing of
new patents and know-how development.

Management Discussion International Business Machines Corporation and Subsidiary Companies41

Other (Income) and Expense

($ in millions)

For the year ended December 31:

2019

2018

Other (income) and expense

Foreign currency transaction

Yr.-to-Yr.
Percent
Change

losses/(gains)

$ (279)

$ (427)

(34.6)%

Interest expense increased $621 million compared to 2018.
Interest expense is presented in cost of financing in the
Consolidated Income Statement only if the related external
borrowings are to support the Global Financing external business.
Overall interest expense (excluding capitalized interest) in 2019
was $1,952 million, an increase of $473 million year to year,
driven by a higher average debt balance and higher interest rates
as we issued debt to finance the Red Hat acquisition.

(Gains)/losses on derivative

instruments

Interest income

Net (gains)/losses from

securities and investment
assets

Retirement-related
costs/(income)

Other

Total consolidated other
(income) and expense

Non-operating adjustments

Amortization of acquired

(349)

434

(264)

(96.6)

32.2

Operating (non-GAAP) interest expense increased $393 million
compared to the prior-year period. It excludes the Red Hat
pre-closing debt financing costs.

(32)

(101)

(67.9)

615

(937)

1,572

(60.9)

(63)

$ (968)

$ 1,152

Stock-Based Compensation
Pre-tax stock-based compensation cost of $679 million increased
$169 million compared to 2018. This was primarily due to
increases related to the issuances and conversions of stock-based
compensation for Red Hat ($150 million) and issuance of restricted
stock units ($27 million). Stock-based compensation cost, and the
year-to-year change, was reflected in the following categories:
Cost: $100 million, up $18 million; SG&A expense: $453 million,
up $91 million; and RD&E expense: $126 million, up $60 million.

intangible assets

(2)

50.0%

Acquisition-related

charges

Non-operating retirement-
related costs/(income)

Operating (non-GAAP) other
(income) and expense

NM—Not meaningful

154

(615)

(1,572)

(60.9)%

$(1,431)

$ (422)

239.4%

Retirement-Related Plans
The following table provides the total pre-tax cost for all
retirement-related plans. Total operating costs/(income) are
included in the Consolidated Income Statement within the
caption (e.g., Cost, SG&A, RD&E) relating to the job function of
the plan participants.

Total consolidated other (income) and expense was income of
$968 million in 2019 compared to expense of $1,152 million in
2018. The year-to-year change was primarily driven by:

•

Lower non-operating retirement-related costs ($957 million).
Refer to “Retirement-Related Plans” for additional information.

Higher gains from divestitures ($833 million) reflected in
Other; and

Higher net exchange gains (including derivative instruments)
($272 million). The company’s hedging programs help
mitigate currency impacts in the Consolidated Income
Statement.

Operating (non-GAAP) other (income) and expense was $1,431
million of income in 2019 and increased $1,010 million compared
to the prior-year period. The year-to-year change was primarily
driven by the same factors excluding lower non-operating
retirement-related costs.

Interest Expense

($ in millions)

For the year ended December 31:

2019

Interest expense

$1,344

2018

$723

Non-operating adjustment

Yr.-to-Yr.
Percent
Change

85.9%

Acquisition-related charges

(228)

—

Operating (non-GAAP)
interest expense

NM—Not meaningful

$1,116

$723

54.4%

($ in millions)

For the year ended December 31:

2019

2018

Yr.-to-Yr.
Percent
Change

Retirement-related

plans—cost

Service cost

$ 385

$ 431

(10.7)%

Multi-employer plans

(16.9)

Cost of defined

contribution plans

1,040

1,024

1.5

Total operating costs/

(income)

Interest cost

Expected return on

plan assets

Recognized actuarial

losses

Amortization of prior

service costs/(credits)

Curtailments/settlements

Other costs

Total non-operating
costs/(income)

Total retirement-related

$ 1,457

$ 1,494

$ 2,929

$ 2,726

(2.5)%

7.4%

(4,192)

(4,049)

3.5

1,819

2,941

(38.2)

(9)

(73)

(87.6)

262.2

76.2

$ 615

$ 1,572

(60.9)%

plans—cost

$ 2,072

$ 3,066

(32.4)%

Total pre-tax retirement-related plan cost decreased by $994
million compared to 2018, primarily driven by a decrease in
recognized actuarial losses ($1,123 million), primarily due to the
change in the amortization period in the U.S. Qualified Personal
Pension Plan and higher expected return on plan assets ($143
million), partially offset by higher interest costs ($203 million).

Management Discussion International Business Machines Corporation and Subsidiary Companies42

As discussed in the “Operating (non-GAAP) Earnings” section,
we characterize certain retirement-related costs as operating
and others as non-operating. Utilizing this characterization,
operating retirement-related costs in 2019 were $1,457 million,
a decrease of $37 million compared to 2018. Non-operating costs
of $615 million in 2019 decreased $957 million year to year, driven
primarily by the same factors as above.

Income Taxes
The continuing operations effective tax rate for 2019 was 7.2
percent, a decrease of 15.9 points versus the prior year. The
decrease in the effective tax rate was primarily driven by the
following factors:

•

A lower charge year to year of 16.5 points from the impacts
of U.S. tax reform;

A charge in 2018 from intercompany payments of 3.4 points;
partially offset by

A lower benefit year to year from audit settlements of
4.4 points.

The operating (non-GAAP) tax rate was 8.5 percent in 2019, an
increase of 0.7 points versus 2018, principally driven by the same
factors described above, excluding the impacts of U.S. tax reform.

For more information, see note G, “Taxes.”

Earnings Per Share
Basic earnings per share is computed on the basis of the
weighted-average number of shares of common stock outstanding
during the period. Diluted earnings per share is computed on the
basis of the weighted-average number of shares of common stock
outstanding plus the effect of dilutive potential common shares
outstanding during the period using the treasury stock method.
Dilutive potential common shares include outstanding stock
options and stock awards.

For the year ended December 31:

2019

2018

Yr.-to-Yr.
Percent
Change

Earnings per share of

common stock from
continuing operations

Assuming dilution

Basic

Diluted operating
(non-GAAP)

Weighted-average shares
outstanding (in millions)

$10.57

$10.63

$ 9.51*

$ 9.56*

11.1%

11.2%

$12.81

$13.81

(7.2)%

Assuming dilution

Basic

892.8

887.2

916.3

912.0

(2.6)%

(2.7)%

* Includes a charge of $2.0 billion or $2.23 of basic and diluted earnings

per share in 2018 associated with U.S. tax reform.

Actual shares outstanding at December 31, 2019 and 2018
were 887.1 million and 892.5 million, respectively. The year-
to-year decrease was primarily the result of the common stock
repurchase program. The average number of common shares
outstanding assuming dilution was 23.5 million shares lower in
2019 versus 2018.

Financial Position
Dynamics
At December 31, 2019, we continued to have the financial
flexibility to support the business over the long term. Cash,
restricted cash and marketable securities at year end were
$9,009 million. We continued to manage the investment portfolio
to meet our capital preservation and liquidity objectives.

Total assets increased $28,805 million since December 31,
2018. This was primarily due to an increase in goodwill and
net intangible assets of $34,104 million, driven by the Red Hat
acquisition and an increase of $4,996 million in right-of-use
assets recorded as a result of the adoption of the new leasing
standard in 2019. This was partially offset by a decline in net
receivables of $7,312 million since year-end 2018 levels,
primarily due to the wind down of OEM IT commercial financing
operations which we announced in February 2019.

Total debt of $62,899 million increased $17,087 million from
prior year-end levels primarily to fund the Red Hat acquisition.
The commercial paper balance at December 31, 2019 was $304
million, a decrease of $2,691 million from the prior year end.
Within total debt, $24,727 million is in support of the Global
Financing business which is leveraged at a 9 to 1 ratio. During
2019, we completed bond issuances totaling $25,712 million, with
terms ranging from 2 to 30 years, and interest rates ranging from
0.375 to 4.25 percent depending on maturity. We have reduced
total debt $10,140 million since the end of the second quarter
of 2019. We have consistently generated strong cash flow from
operations and continue to have access to additional sources of
liquidity through the capital markets and our credit facilities.

Consistent with accounting standards, the company remeasured
the funded status of our retirement and postretirement plans at
December 31. At December 31, 2019, the overall net underfunded
position was $11,090 million, an improvement of $2,043 million
from December 31, 2018 driven by higher returns on assets
partially offset by lower discount rates and interest costs. At year
end, our qualified defined benefit plans were well funded and the
required contributions related to these plans and multi-employer
plans are expected to be approximately $300 million in both 2020
and 2021. In 2019, the return on the U.S. Personal Pension Plan
assets was 14.9 percent and the plan was 107 percent funded
at December 31, 2019. Overall, global asset returns were 13.6
percent and the qualified defined benefit plans worldwide were
102 percent funded at December 31, 2019.

During 2019, we generated $14,770 million in cash from
operations, a decrease of $477 million compared to 2018.
Our free cash flow for 2019 was $11,909 million, an increase
of $33 million versus the prior year. See pages 58 and 59 for
additional information on free cash flow. We returned $7,068
million to shareholders in 2019, with $5,707 million in dividends
and $1,361 million in gross share repurchases. In 2019, we

Management Discussion International Business Machines Corporation and Subsidiary Companies43

repurchased 10.0 million shares and had $2.0 billion remaining
in share repurchase authorization at year end. We suspended
our share repurchase program at the time of the Red Hat closing
to focus on debt repayment. Our cash generation permits us
to invest and deploy capital to areas with the most attractive
long-term opportunities.

Global Financing Financial Position Key Metrics

($ in millions)

At December 31:

2019

2018

Cash and cash equivalents

$ 1,697

$ 1,833

Net investment in sales-type

and direct financing leases (1)

Equipment under operating leases—

external clients (2)

Client loans

Total client financing assets

Commercial financing receivables

Intercompany financing receivables (3) (4)

Total assets

Debt

Total equity

6,224

6,924

238

12,884

19,346

3,820

3,870

444

12,802

20,170

11,838

4,873

$29,568

$41,320

24,727

31,227

$ 2,749

$ 3,470

(1) Includes deferred initial direct costs which are eliminated in

IBM’s consolidated results.

(2) Includes intercompany mark-up, priced on an arm’s-length basis, on
products purchased from the company’s product divisions which is
eliminated in IBM’s consolidated results.

(3) Entire amount eliminated for purposes of IBM’s consolidated results
and therefore does not appear in the Consolidated Balance Sheet.

(4) These assets, along with all other financing assets in this table, are
leveraged at the value in the table using Global Financing debt.

At December 31, 2019, substantially all financing assets were
IT-related assets, and approximately 62 percent of the total
external portfolio was with investment-grade clients with no
direct exposure to consumers, an increase of 7 points year to
year. This investment-grade percentage is based on the credit
ratings of the companies in the portfolio.

We have a long-standing practice of taking mitigation actions,
in certain circumstances, to transfer credit risk to third parties,
including credit insurance, financial guarantees, nonrecourse
borrowings, transfers of receivables recorded as true sales in
accordance with accounting guidance or sales of equipment
under operating lease. Adjusting for the mitigation actions,
the investment-grade content would increase to 67 percent, a
decrease of 3 points year to year.

IBM Working Capital

($ in millions)

At December 31:

Current assets

Current liabilities

Working capital

Current ratio

2019

2018

$38,420

$49,146

37,701

38,227

$ 718

$10,918

1.02:1

1.29:1

Working capital decreased $10,200 million from the year-end
2018 position. The key changes are described below:

Current assets decreased $10,726 million ($10,477 million
adjusted for currency) due to:

•

A decline in receivables of $6,769 million ($6,695 million
adjusted for currency) driven by a decline in financing
receivables of $8,197 million primarily due to the wind down
of OEM IT commercial financing operations; partially offset
by an increase in other receivables of $989 million primarily
related to divestitures; and

•

A decrease of $3,213 million ($3,052 million adjusted for
currency) in cash and cash equivalents, restricted cash, and
marketable securities primarily due to retirement of debt.

Current liabilities decreased $526 million ($449 million adjusted
for currency) as a result of:

•

A decrease in accounts payable of $1,662 million primarily
due to the wind down of OEM IT commercial financing
operations; and

A decrease in short-term debt of $1,410 million due to
maturities of $12,649 million and a decrease in commercial
paper of $2,691 million; partially offset by reclassifications
of $7,592 million from long-term debt to reflect upcoming
maturities and issuances of $6,334 million; offset by

•

An increase in operating lease liabilities of $1,380 million
as a result of the adoption of the new leasing standard on
January 1, 2019; and

•

An increase in deferred income of $861 million
($890 million adjusted for currency).

Receivables and Allowances
Roll Forward of Total IBM Receivables Allowance
for Credit Losses

($ in millions)

January 1,
2019

$639

Additions* Write-offs**

$89

$(178 )

Other+

December 31,
2019

$554

* Additions for Allowance for Credit Losses are charged to expense.

** Refer to note A, “Significant Accounting Policies,” for additional

information regarding Allowance for Credit Loss write-offs.

+ Primarily represents translation adjustments.

The total IBM receivables provision coverage was 1.7 percent
at December 31, 2019, an increase of 10 basis points compared
to December 31, 2018. The increase was primarily driven by the
overall decline in gross financing receivables. The majority of the
write-offs during the year related to receivables which had been
previously reserved.

Management Discussion International Business Machines Corporation and Subsidiary Companies44

Global Financing Receivables and Allowances
The following table presents external Global Financing receivables
excluding residual values, the allowance for credit losses and
immaterial miscellaneous receivables:

•

An increase in prepaid pension assets of $2,199 million
($2,152 million adjusted for currency) driven by
higher returns on plan assets and plan remeasurements;
partially offset by

($ in millions)

At December 31:

Recorded investment (1)

Specific allowance for credit losses

Unallocated allowance for credit losses

Total allowance for credit losses

2019

2018

$22,446

$31,182

177

221

220

292

•

A decrease in net property, plant and equipment of
$782 million ($785 million adjusted for currency).

Long-term debt increased $18,497 million ($18,550 million
adjusted for currency) primarily driven by:

•

Issuances of $26,081 million; partially offset by

Net financing receivables

$22,224

$30,890

Allowance for credit losses coverage

1.0%

0.9%

•

Reclassifications to short-term debt of $7,592 million to
reflect upcoming maturities.

(1) Includes deferred initial direct costs which are eliminated in

IBM’s consolidated results.

Noncurrent liabilities (excluding debt) increased $6,778 million
($6,911 million adjusted for currency) primarily driven by:

The percentage of Global Financing receivables reserved was
1.0 percent at December 31, 2019, compared to 0.9 percent
at December 31, 2018. The decline in the allowance for credit
losses was driven by write-offs of $64 million, primarily of
receivables previously reserved, and net releases of $7 million as
a result of lower average asset balances in client and commercial
financing. See note K, “Financing Receivables,” for additional
information.

•

An increase in long-term operating lease liabilities of
$3,879 million ($3,893 million adjusted for currency) as a
result of the adoption of the new leasing standard on
January 1, 2019; and

An increase in other liabilities of $2,352 million
($2,320 million adjusted for currency), primarily driven by
increases in deferred tax liabilities of $1,534 million and
income tax reserves of $923 million.

Roll Forward of Global Financing Receivables Allowance
for Credit Losses (included in Total IBM)

($ in millions)

January 1,
2019

Additions/
(Releases)* Write-offs**

$292

$(7 )

$(64 )

Other+

December 31,
2019

$221

* Additions for Allowance for Credit Losses are charged to expense.

** Refer to note A, “Significant Accounting Policies,” for additional

information regarding Allowance for Credit Loss write-offs.

+ Primarily represents translation adjustments.

Global Financing’s bad debt expense was a release of $7 million
in 2019, compared to an addition of $14 million in 2018, due to
lower specific reserves and a higher unallocated reserve release
in 2019.

Noncurrent Assets and Liabilities

($ in millions)

At December 31:

Noncurrent assets

Long-term debt

2019

2018

$113,767

$74,236

$ 54,102

$35,605

Noncurrent liabilities (excluding debt)

$ 39,398

$32,621

Debt
Our funding requirements are continually monitored and we
execute our strategies to manage the overall asset and liability
profile. Additionally, we maintain sufficient flexibility to access
global funding sources as needed.

($ in millions)

At December 31:

Total company debt

2019

2018

$62,899

$45,812

Total Global Financing segment debt

$24,727

$31,227

Debt to support external clients

21,487

27,536

Debt to support internal clients

3,239

3,690

Non-Global Financing debt

38,173

14,585

Total debt of $62,899 million increased $17,087 million from
December 31, 2018, driven by issuances of $32,415 million;
partially offset by debt maturities of $12,673 million and a
decrease in commercial paper of $2,691 million.

Non-Global Financing debt of $38,173 million increased $23,587
million from prior year-end levels primarily driven by issuances
to fund the Red Hat acquisition.

The increase in noncurrent assets of $39,531 million ($39,470
million adjusted for currency) was driven by:

•

A net increase in goodwill and net intangible assets of
$34,104 million ($34,058 million adjusted for currency) due
to the acquisition of Red Hat; and

An increase in operating right-of-use assets of $4,996
million ($5,010 million adjusted for currency) as a
result of the adoption of the new leasing standard on
January 1, 2019; and

Global Financing debt of $24,727 million decreased $6,500
million from December 31, 2018, primarily due to the wind down
of OEM IT commercial financing operations.

Global Financing provides financing predominantly for IBM’s
external client assets, as well as for assets under contract
by other IBM units. These assets, primarily for GTS, generate
long-term, stable revenue streams similar to the Global Financing
asset portfolio. Based on their attributes, these GTS assets are
leveraged with the balance of the Global Financing asset base.

Management Discussion International Business Machines Corporation and Subsidiary Companies45

The debt used to fund Global Financing assets is composed
of intercompany loans and external debt. Total debt changes
generally correspond with the level of client and commercial
financing receivables, the level of cash and cash equivalents,
the change in intercompany and external payables and the
change in intercompany investment from IBM. The terms of
the intercompany loans are set by the company to substantially
match the term, currency and interest rate variability underlying
the financing receivable and are based on arm’s-length pricing.
The Global Financing debt-to-equity ratio remained at 9 to 1 at
December 31, 2019.

Net cash provided by operating activities decreased $477 million
in 2019 driven by the following key factors:

•

An increase in cash income tax payments of $346 million;

•

An increase in interest payments on debt of approximately
$300 million, driven by incremental debt used to fund the
acquisition of Red Hat; and

Performance-related declines within net income,
including lower operating cash flows due to businesses
divested in 2019; partially offset by

As previously stated, we measure Global Financing as a
stand-alone entity, and accordingly, interest expense relating
to debt supporting Global Financing’s external client and
internal business is included in the “Global Financing Results
of Operations” and in note D, “Segments.” In the Consolidated
Income Statement, the external debt-related interest expense
supporting Global Financing’s internal financing to IBM is
reclassified from cost of financing to interest expense.

Equity
Total equity increased by $4,055 million from December 31,
2018 as a result of net income of $9,431 million, a decline in
accumulated other comprehensive losses of $893 million
primarily due to retirement-related benefits plans, and an
increase in common stock of $745 million; partially offset by
decreases from dividends of $5,707 million, and an increase in
treasury stock of $1,342 million mainly due to share repurchases.

Cash Flow
Our cash flows from operating, investing and financing activities,
as reflected in the Consolidated Statement of Cash Flows on page
71 are summarized in the table below. These amounts include
the cash flows associated with the Global Financing business.

($ in millions)

•

An increase of $836 million in cash provided by
financing receivables.

Net cash used in investing activities increased $22,023 million
driven by:

•

An increase in net cash used for acquisitions of $32,491
million, primarily driven by the acquisition of Red Hat;
offset by

An increase of $7,223 million in cash provided by net
non-operating finance receivables primarily driven by the
wind down of OEM IT commercial financing operations;

A decrease in cash used for net capital expenditures of
$1,346 million; and

An increase in cash provided by divestitures of
$1,076 million.

Financing activities were a net source of cash of $9,042 million in
2019 compared to a net use of cash of $10,469 million in 2018.
The year-to-year increase in cash flow of $19,512 million was
driven by:

•

An increase in net cash sourced from debt transactions of
$16,584 million primarily driven by net issuances to fund
the Red Hat acquisition; and

For the year ended December 31:

2019

2018

•

A decrease in cash used for gross common share
repurchases of $3,082 million.

Net cash provided by/(used in)

continuing operations

Operating activities

Investing activities

Financing activities

Effect of exchange rate changes
on cash, cash equivalents and
restricted cash

Net change in cash, cash equivalents

and restricted cash

$ (3,290) $ (630)

(167)

(495)

$ 14,770

$ 15,247

Global Financing Return on Equity Calculation

(26,936)

(4,913)

($ in millions)

9,042

(10,469)

At December 31:

Numerator

2019

2018

Global Financing after-tax income (1) *

$ 765

$1,065

Denominator

Average Global Financing equity (2) **

$2,968

$3,460

Global Financing return on equity (1)/ (2)

25.8%

30.8%

* Calculated based upon an estimated tax rate principally based on

Global Financing’s geographic mix of earnings as IBM’s provision for
income taxes is determined on a consolidated basis.

** Average of the ending equity for Global Financing for the last

five quarters.

Management Discussion International Business Machines Corporation and Subsidiary Companies46

GAAP Reconciliation
The tables below provide a reconciliation of the company’s income statement results as reported under GAAP to its operating
earnings presentation which is a non-GAAP measure. The company’s calculation of operating (non-GAAP) earnings, as presented,
may differ from similarly titled measures reported by other companies. Please refer to the “Operating (non-GAAP) Earnings” section
for management’s rationale for presenting operating earnings information.

($ in millions except per share amounts)

For the year ended December 31, 2019:

GAAP

Acquisition-
Related
Adjustments

Retirement-
Related
Adjustments

Gross profit

Gross profit margin

SG&A

RD&E

Other (income) and expense

Interest expense

Total expense and other (income)

Pre-tax income from continuing operations

U.S. Tax
Reform
Charges

$ —

Operating
(non-GAAP)

$37,035

$36,488

$ 547

$ —

47.3%

0.7 pts.

— pts.

48.0%

$20,604

$(1,044)

$ —

$19,560

5,989

(968)

1,344

26,322

10,166

(53)

152

(228)

(1,173)

1,721

—

(615)

—

(615)

615

—

5,936

(1,431)

1,116

24,533

12,503

Pre-tax margin from continuing operations

13.2%

2.2 pts.

0.8 pts.

— pts.

16.2%

Provision for income taxes*

Effective tax rate

$ 731

$ 378

$ 103

$(146)

$ 1,067

7.2%

2.0 pts.

0.5pts.

(1.2)pts.

8.5%

Income from continuing operations

$ 9,435

$ 1,343

$ 512

$ 146

$11,436

Income margin from continuing operations

12.2%

1.7 pts.

0.7 pts.

0.2 pts.

14.8%

Diluted earnings per share from continuing operations

$ 10.57

$ 1.50

$0.58

$0.16

$ 12.81

* The tax impact on operating (non-GAAP) pre-tax income is calculated under the same accounting principles applied to the GAAP pre-tax income

which employs an annual effective tax rate method to the results.

($ in millions except per share amounts)

For the year ended December 31, 2018 :

Gross profit

Gross profit margin

SG&A

RD&E

Other (income) and expense

Interest expense

Total expense and other (income)

Pre-tax income from continuing operations

GAAP

$36,936

Acquisition-
Related
Adjustments

Retirement-
Related
Adjustments

U.S. Tax
Reform
Charges

Operating
(non-GAAP)

$ 372

$ —

$37,307

46.4%

0.5 pts.

— pts.

46.9%

$19,366

$(451)

$ —

$18,915

5,379

1,152

723

25,594

11,342

—

(2)

—

(453)

824

—

(1,572)

—

(1,572)

1,572

—

5,379

(422)

723

23,569

13,739

Pre-tax margin from continuing operations

14.3%

1.0 pts.

2.0 pts.

— pts.

17.3%

Provision for income taxes*

Effective tax rate

$ 2,619

$ 176

$ 324

$(2,037)

$ 1,082

23.1%

(0.1) pts.

(0.3) pts.

(14.8) pts.

7.9%

Income from continuing operations

$ 8,723

$ 649

$ 1,248

$ 2,037

$12,657

Income margin from continuing operations

11.0%

0.8 pts.

1.6 pts.

2.6 pts.

15.9%

Diluted earnings per share from continuing operations

$ 9.51

$0.71

$ 1.36

$ 2.23

$ 13.81

* The tax impact on operating (non-GAAP) pre-tax income is calculated under the same accounting principles applied to the GAAP pre-tax income

which employs an annual effective tax rate method to the results.

Management Discussion International Business Machines Corporation and Subsidiary CompaniesConsolidated Fourth-Quarter Results

($ and shares in millions except per share amounts)

For the fourth quarter:

Revenue

Gross profit margin

Total expense and other (income)

Income from continuing operations before income taxes

Provision for income taxes from continuing operations

Income from continuing operations

Income from continuing operations margin

Net income

Earnings per share from continuing operations—assuming dilution

Weighted-average shares outstanding—assuming dilution

2019

2018

$21,777

$21,760

51.0%

49.1%

$ 7,107

$ 3,993

$ 324

$ 3,669

16.8%

$ 3,670

$ 4.11

893.7

$ 6,253

$ 4,434
$ 2,481+
$ 1,954+

9.0%
$ 1,951+
$ 2.15+

905.2

Yr.-to-Yr.
Percent/
Margin
Change*

0.1%**

1.9 pts.

13.7%

(10.0)%

(87.0)%

87.8%

7.9 pts.

88.1%

91.2%

(1.3)%

* 2019 results were impacted by Red Hat purchase accounting and acquisition-related activity.

** 0.7 percent adjusted for currency; 2.8 percent excluding divested businesses and adjusted for currency.
+ Includes a charge of $1.9 billion or $2.15 of diluted earnings per share in 2018 associated with U.S. tax reform.

The following table provides operating (non-GAAP) earnings for the fourth quarter of 2019 and 2018. See page 52 for additional information.

($ in millions except per share amounts)

For the fourth quarter:

Net income/(loss) as reported

Loss from discontinued operations, net of tax

Income/(loss) from continuing operations

Non-operating adjustments (net of tax)

Acquisition-related charges

Non-operating retirement-related costs/(income)

U.S. tax reform charge

Operating (non-GAAP) earnings

Diluted operating (non-GAAP) earnings per share

* 2019 results were impacted by Red Hat purchase accounting and acquisition-related activity.

** Includes a charge of $1.9 billion in 2018 associated with U.S. tax reform.

NM—Not meaningful

2019

$3,670

2018

$1,951 **

(2)

$3,669

$1,954**

376

175

(14)

$4,206

$ 4.71

171

348

1,944

$4,417

$ 4.87

Yr.-to-Yr.
Percent
Change*

88.1%

87.8%

119.7

(49.8)

(4.8)%

(3.3)%

Management Discussion International Business Machines Corporation and Subsidiary Companies48

Snapshot
In the fourth quarter of 2019, we reported $21.8 billion in
revenue, $3.7 billion in income from continuing operations
and operating (non-GAAP) earnings of $4.2 billion, resulting in
diluted earnings per share from continuing operations of $4.11
as reported and $4.71 on an operating (non-GAAP) basis. We
also generated $3.5 billion in cash from operations, $6.0 billion
in free cash flow and delivered shareholder returns of $1.4 billion
in dividends. We had solid transactional performance across our
high-value software and systems. In addition, benefits from the
synergies of IBM and Red Hat drove growth in our services to
migrate, build and manage hybrid cloud environments. Overall,
performance resulted in revenue growth, margin expansion and
strong free cash flow generation in the quarter.

Total consolidated revenue increased 0.1 percent as reported
and 1 percent adjusted for currency compared to the prior year.
Excluding divested businesses, revenue was up 2.2 percent
as reported and 3 percent adjusted for currency. Cloud &
Cognitive Software increased 8.7 percent as reported and 9
percent adjusted for currency with growth across all three
lines of business. Cloud & Data Platforms, which includes Red
Hat, grew 19.0 percent (20 percent adjusted for currency),
Cognitive Applications grew 0.6 percent (1 percent adjusted for
currency) and Transaction Processing Platforms increased 2.9
percent (4 percent adjusted for currency). GBS decreased 0.6
percent as reported and was flat adjusted for currency. There
was continued growth in Consulting which grew 3.5 percent (4
percent adjusted for currency) driven by services that enable each
phase of our clients’ digital journeys. GTS decreased 4.8 percent
as reported and 4 percent adjusted for currency, with declines
in Infrastructure & Cloud Services and Technology Support
Services. While there was continued year-to-year growth in our
cloud offerings within GTS, there were declines in client-based
volumes, in some of the more traditional labor-based managed
services. Systems increased 16.0 percent as reported and 16
percent adjusted for currency with growth in IBM Z and Storage
Systems, partially offset by a decline in Power Systems. IBM Z had
strong growth of 62.3 percent (63 percent adjusted for currency)
in the first full quarter of z15 shipments. Storage Systems
increased 2.8 percent (3 percent adjusted for currency) year to
year led by growth in the high end, while Power Systems declined
23.7 percent (23 percent adjusted for currency) compared with
strong performance in the prior year. Across the segments, total
IBM cloud revenue of $6.8 billion in the fourth quarter of 2019
grew 21 percent as reported and adjusted for currency.

From a geographic perspective, Americas revenue increased 2.3
percent year to year as reported (3 percent adjusted for currency)
and 6 percent excluding divested businesses and adjusted for
currency. EMEA increased 0.1 percent (2 percent adjusted for
currency) and 4 percent excluding divested businesses and
adjusted for currency. Asia Pacific declined 5.2 percent year to
year as reported (7 percent adjusted for currency) and 6 percent
excluding divested businesses and adjusted for currency.

The consolidated gross margin of 51.0 percent increased 1.9
points year to year reflecting contribution from our high-value
software and systems, partially offset by impacts related to
Red Hat (deferred revenue adjustment and amortization of
intangibles). The operating (non-GAAP) gross margin of 51.8
percent increased 2.3 points versus the prior year, primarily
driven by the same factors, excluding the amortization of
intangibles.

Total expense and other (income) increased 13.7 percent in the
fourth quarter of 2019 versus the prior year primarily driven by
higher spending including Red Hat operational spending, higher
interest expense from debt issuances to fund the acquisition,
continued investment in innovation and go-to-market capabilities,
higher acquisition-related charges and higher amortization of
acquired intangibles. These increases were partially offset by
divestiture-related gains and lower non-operating retirement-
related costs. Total operating (non-GAAP) expense and other
(income) increased 14.7 percent year to year, driven primarily
by the higher spending and investment, partially offset by the
divestiture-related gains described above.

Pre-tax income from continuing operations of $4.0 billion,
decreased 10.0 percent and the pre-tax margin was 18.3
percent, a decrease of 2.0 points versus the prior-year period
reflecting the purchase accounting deferred revenue adjustment
for Red Hat (lower revenue without an equivalent adjustment to
cost and expense) and acquisition-related activity. The continuing
operations effective tax rate for the fourth quarter of 2019 was
8.1 percent and net income from continuing operations was
$3.7 billion. This is compared with net income from continuing
operations of $2.0 billion in the fourth quarter of 2018, which
included a $1.9 billion charge for tax reform. Our net income
margin from continuing operations was 16.8 percent, an increase
of 7.9 points year to year.

Operating (non-GA AP) pre-tax income from continuing
operations of $4.7 billion decreased 6.6 percent year to year
and the operating (non-GAAP) pre-tax margin from continuing
operations decreased 1.5 points to 21.6 percent. The operating
(non-GAAP) effective tax rate from continuing operations in the
fourth quarter of 2019 was 10.5 percent versus 12.2 percent
in the prior year. Operating (non-GAAP) income from continuing
operations of $4.2 billion decreased 4.8 percent with an
operating (non-GAAP) income margin from continuing operations
of 19.3 percent, down 1.0 points year to year.

Diluted earnings per share from continuing operations of $4.11
in the fourth quarter of 2019 increased 91.2 percent, primarily
due to the prior-year tax reform charge. Operating (non-GAAP)
diluted earnings per share of $4.71 decreased 3.3 percent versus
the fourth quarter of 2018.

Management Discussion International Business Machines Corporation and Subsidiary CompaniesSegment Details
The following is an analysis of the fourth quarter of 2019 versus the fourth quarter of 2018 reportable segment external revenue and
gross margin results. Segment pre-tax income includes transactions between the segments that are intended to reflect an arm’s-length
transfer price and excludes certain unallocated corporate items.

($ in millions)

For the fourth quarter:

Revenue

Cloud & Cognitive Software

Gross margin

Global Business Services

Gross margin

Global Technology Services

Gross margin

Systems

Gross margin

Global Financing

Gross margin

Other

Gross margin

Total consolidated revenue

Total consolidated gross profit

Total consolidated gross margin

Non-operating adjustments

2019

2018

Yr.-to-Yr.
Percent/
Margin
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

$ 7,238

$ 6,661*

8.7%

9.4%

79.2%

4,243

27.5%

6,949

35.2%

3,042

56.0%

301

35.6%

79.4%*

4,269*

27.8%*

7,299*

34.9%*

2,621

50.8%

402

29.1%

507*

42.0%*

$21,777

$11,100

$21,760

$10,687

51.0%

49.1%

(0.2)pts.**

(0.6)%

(0.3) pts.

(4.8)%

0.2 pts.

16.0%

5.2 pts.

(0.3)%

(4.0)%

16.5%

(25.3)%

(24.9)%

6.5 pts.

(99.2)%

(99.1)%

0.1%+

3.9%**

1.9 pts.

0.7%

Amortization of acquired intangible assets

189

112.2%

Operating (non-GAAP) gross profit

Operating (non-GAAP) gross margin

* Recast to reflect segment changes.

$11,289

$10,776

51.8%

49.5%

4.8%**

2.3 pts.

** 2019 results were impacted by Red Hat purchase accounting and acquisition-related activity.
+ 2.8 percent excluding divested businesses and adjusted for currency.

NM—Not meaningful

Cloud & Cognitive Software
Cloud & Cognitive Software revenue of $7,238 million grew
8.7 percent as reported and 9 percent adjusted for currency in
the fourth quarter of 2019 compared to the prior year. We had
growth as reported and adjusted for currency in all three lines
of business: Cognitive Applications, Cloud & Data Platforms
and Transaction Processing Platforms. Growth in Cloud & Data
Platforms and total cloud revenue in the segment reflected the
acquisition of Red Hat and clients’ continued adoption of our
hybrid cloud solutions.

In the fourth quarter, Cognitive Applications revenue of $1,619
million increased 0.6 percent as reported and 1 percent adjusted
for currency, reflecting the strength of our AI-led software
solutions including Security and IoT. We continue to drive new
innovations in these areas, and in November 2019, we launched
Cloud Pak for Security which allows clients to leverage their
investments in cybersecurity by integrating their security tools
with existing data sources to more quickly resolve security
incidents. In IoT, we extended our Maximo suite of offerings
with the announcement of Maximo Asset Monitor, an AI-powered
monitoring solution designed to help clients better maintain and
improve performance of their high-value physical assets.

Cloud & Data Platforms revenue of $3,101 million increased
19.0 percent as reported and 20 percent adjusted for currency
compared to the prior year reflecting the acquisition of Red Hat
in 2019. Demand for our cloud capabilities continued to ramp
and we began to realize synergies across IBM and Red Hat. We
had strong performance in the quarter in Red Hat’s RHEL and
OpenShift, and broad-based traction across the suite of Cloud
Paks that addresses workloads across automation, data and
integration. Clients are realizing the benefits of hybrid cloud
with our containerized middleware and data platform software
portfolio, including faster deployment and improved automation.

Transaction Processing Platforms revenue of $2,517 million
increased 2.9 percent as reported (4 percent adjusted for
currency) reflecting the value we provided clients by managing
their critical workloads, and providing for predictability in IT spend.

Within Cloud & Cognitive Software, total cloud revenue of $1.6
billion grew 78 percent as reported and adjusted for currency,
which reflects the acquisition of Red Hat.

Management Discussion International Business Machines Corporation and Subsidiary Companies50

Cloud & Cognitive Software gross profit margin of 79.2 percent
decreased 0.2 points during the fourth quarter of 2019 compared
to the prior year. Pre-tax income of $2,901 million decreased 7.1
percent compared to the prior year and pre-tax margin decreased
6.0 points to 36.6 percent, driven primarily by the purchase
accounting impacts from the Red Hat acquisition.

Global Business Services
GBS revenue of $4,243 million decreased 0.6 percent as
reported, but was flat adjusted for currency in the fourth quarter
of 2019 compared to the prior year. We had growth in Consulting,
offset by declines in Application Management and Global Process
Services. We have been investing in offerings and capabilities to
help advise our clients and move their applications to a hybrid
multi-cloud environment.

Consulting revenue of $2,078 million increased 3.5 percent
as reported (4 percent adjusted for currency). The growth in
Consulting was driven by services that enable each phase of our
clients’ digital journey. We had continued growth in application
modernization and development, next-generation enterprise
applications such as S/4 Hana and Salesforce, and in offerings
that use AI to help clients unlock opportunities and realize
productivity improvements.

Application Management revenue of $1,922 million decreased
3.3 percent as reported (3 percent adjusted for currency). We
had continued growth across our offerings that build and manage
cloud applications, offset by declines in traditional enterprise
application management. This was primarily driven by strong
performance in the fourth-quarter 2018 as a result of significant
milestone achievements across a few accounts.

Global Process Services revenue of $243 million decreased
10.8 percent as reported (10 percent adjusted for currency), as
demand shifted from traditional Business Process Optimization
offerings to our new business platforms around intelligent
workflows.

Within GBS, cloud revenue of $1.5 billion grew 3 percent as
reported (4 percent adjusted for currency) year to year.

GBS fourth-quarter gross profit margin of 27.5 percent decreased
0.3 points year to year. Pre-tax income of $478 million decreased
15.6 percent year to year. The pre-tax margin decreased 1.9
points to 11.1 percent. In the quarter, we had margin contribution
from the yield on our contract delivery improvements, a mix shift
to higher-value content and a currency benefit from leveraging
our global delivery resource footprint. These benefits were offset
by investments we made in capacity and offerings to capture
market opportunity.

Global Technology Services
GTS revenue of $6,949 million decreased 4.8 percent as reported
(4 percent adjusted for currency), primarily due to lower client
business volumes which impacted some of the more traditional
labor-based managed services. We continued to have solid
growth in our cloud offerings as clients turn to IBM to enable
their transition to cloud. GTS’ knowledge of our clients’ industries,
business and regulatory requirements is a differentiator as clients
accelerate their shift of mission-critical workloads to the cloud.

Infrastructure & Cloud Services revenue of $5,282 million
declined 5.3 percent as reported (5 percent adjusted for currency).
Revenue was impacted by lower client business volumes. We are
taking actions to accelerate the shift to higher-value segments
of the market opportunity, such as introducing new managed
services offerings for public and private cloud in the areas of
cybersecurity, data management and hybrid orchestration. We
are also expanding our cloud data center footprint and deploying
a more asset-based delivery model.

Technology Support Services revenue of $1,667 million decreased
3.2 percent as reported (2 percent adjusted for currency)
primarily due to hardware product cycle dynamics.

Within GTS, cloud revenue of $2.4 billion grew 12 percent year to
year as reported (13 percent adjusted for currency).

GTS gross profit margin of 35.2 percent expanded 0.2 points in
the fourth-quarter 2019 compared to the prior-year period. This
improvement was driven by our continued scale-out of our public
cloud, a mix within the portfolio and productivity actions. Pre-tax
income of $645 million decreased 1.7 percent and the pre-tax
margin increased 0.3 points to 8.9 percent year to year, reflecting
a significant sequential improvement in pre-tax margin.

Systems
Systems revenue of $3,042 million grew 16.0 percent year
to year as reported (16 percent adjusted for currency) in the
fourth quarter of 2019. Systems Hardware revenue of $2,560
million increased 17.7 percent as reported (18 percent adjusted
for currency). This growth was driven primarily by IBM Z and
Storage Systems, partially offset by a decline in Power Systems.
The strong performance in IBM Z reflects our first full quarter
of shipments of the new z15 mainframe. Storage Systems
growth was led by the high-end systems, which includes the
next generation high-end storage system DS8900 that is tightly
integrated with the z15 mainframe.

Within Systems Hardware, IBM Z revenue grew 62.3 percent
as reported (63 percent adjusted for currency) year to year,
reflecting the broad adoption of the new z15 mainframe across
many industries and countries, and demonstrates our clients’
demand for technology that addresses data privacy and
resiliency, across hybrid cloud. We shipped the highest volume of
MIPs in the program’s history in the fourth-quarter 2019, driven
by growth in new workloads, and in October 2019, we announced
Red Hat OpenShift for IBM Z, integrating the industry’s most
comprehensive enterprise container and Kubernetes platform
with the enterprise server platforms of IBM Z and LinuxONE.

Management Discussion International Business Machines Corporation and Subsidiary Companies51

Power Systems revenue declined 23.7 percent as reported (23
percent adjusted for currency) year to year, as a result of strong
performance in the fourth-quarter 2018 with the introduction
of our next generation high-end POWER9 processors and
the completion of the roll-out of supercomputers to the U.S.
Department of Energy.

Storage Systems revenue increased 2.8 percent as reported
(3 percent adjusted for currency), reflecting growth in the
high-end systems with the launch in November 2019 of the
new DS8900 which offers industry-leading response times,
availability and pervasive end-to-end encryption.

Latin America, Brazil increased 7.3 percent as reported and 11
percent adjusted for currency, reflecting the strong acceptance
of the new z15 in the financial sector.

In EMEA, France increased 9.5 percent as reported and 13
percent adjusted for currency and Italy increased 2.5 percent
as reported and 5 percent adjusted for currency. Germany
declined 3.7 percent as reported and 1 percent adjusted for
currency and the U.K. decreased 2.4 percent as reported and
3 percent adjusted for currency. The Middle East and Africa
region increased 1 percent as reported and 2 percent adjusted
for currency.

In the fourth quarter, Operating Systems Software revenue
of $482 million increased 7.9 percent as reported (8 percent
adjusted for currency) driven primarily by growth in IBM Z
operating systems.

Within Systems, cloud revenue of $1.4 billion increased 21
percent year to year as reported and adjusted for currency.

The Systems gross profit margin increased 5.2 points to 56.0
percent in the fourth quarter of 2019 compared to the prior
year. Pre-tax income of $802 million increased 45.6 percent and
pre-tax margin increased 5.5 points year to year to 24.8 percent.
The Systems profit and margin expansion reflects the benefits
from the new z15 mainframe and DS8900 high-end storage
system launched in 2019.

Global Financing
Global Financing revenue of $301 million decreased 25.3 percent
year to year, which reflects the company’s wind down of the OEM IT
commercial financing operations. Global Financing fourth-quarter
pre-tax income decreased 20.9 percent to $252 million and the
pre-tax margin of 38.9 percent decreased 2.4 points year to year.
The decrease in pre-tax income was driven by a decrease in gross
profit, partially offset by a decrease in SG&A expense.

Geographic Revenue
Total revenue of $21,777 million increased 0.1 percent as
reported (1 percent adjusted for currency) and 3 percent
excluding divested businesses and adjusted for currency in the
fourth quarter compared to the prior year. Americas revenue of
$10,461 million increased 2.3 percent as reported (3 percent
adjusted for currency) and 6 percent excluding divested
businesses and adjusted for currency. EMEA revenue of $7,090
million increased 0.1 percent as reported (2 percent adjusted
for currency) and 4 percent excluding divested businesses
and adjusted for currency. Asia Pacific revenue of $4,226
million declined 5.2 percent as reported (7 percent adjusted
for currency) and 6 percent excluding divested businesses and
adjusted for currency.

Within Americas, revenue in the U.S. increased 2.9 percent year
to year, driven primarily by the strong performance of the new
z15. Canada increased 4.1 percent as reported and 4 percent
adjusted for currency. Latin America decreased 1.4 percent as
reported, but increased 3 percent adjusted for currency. Within

Within Asia Pacific, Japan decreased 0.9 percent as reported
and 4 percent adjusted for currency. China declined 11.4 percent
as reported and 10 percent adjusted for currency. Australia
decreased 22.0 percent as reported and 18 percent adjusted for
currency. India decreased 5.2 percent as reported and 6 percent
adjusted for currency.

Total Expense and Other (Income)

($ in millions)

For the fourth quarter:

2019

2018

Yr.-to-Yr.
Percent/
Margin
Change*

Total consolidated expense

and other (income)

$7,107

$6,253

13.7%

Non-operating adjustments

Amortization of acquired

intangible assets

(294)

(106)

176.0

Acquisition-related

charges

Non-operating retirement-
related (costs)/income

Operating (non-GAAP)
expense and other
(income)

Total consolidated

(27)

(13)

104.7

(196)

(387)

(49.4)

$6,591

$5,746

14.7%

expense-to-revenue ratio

32.6%

28.7%

3.9 pts.

Operating (non-GAAP)

expense-to-revenue ratio

30.3%

26.4%

3.9 pts.

* 2019 results were impacted by Red Hat purchase accounting and

acquisition-related activity.

Total expense and other (income) increased 13.7 percent in
the fourth quarter with an expense-to-revenue ratio of 32.6
percent compared to 28.7 percent in the fourth quarter of 2018.
The year-to-year increase was a result of higher spending
(15 points) driven by Red Hat (15 points) and higher acquisition-
related charges and amortization of acquired intangible assets
associated with the Red Hat transaction (4 points), partially offset
by higher divestiture gains (3 points) and lower non-operating
retirement-related costs (3 points).

Total operating (non-GAAP) expense and other income increased
14.7 percent year to year primarily driven by the higher spending,
partially offset by the divestiture gains, as described above.

Management Discussion International Business Machines Corporation and Subsidiary Companies52

Cash Flow
We generated $3.5 billion in cash flow from operating activities
in the fourth quarter of 2019, a decrease of $0.7 billion compared
to the fourth quarter of 2018, primarily due to higher interest and
income tax payments. Net cash sourced from investing activities
of $0.1 billion was $0.3 billion lower than the prior year, primarily
driven by a decrease in cash from net proceeds from disposition
of marketable securities and other investments ($2.2 billion),
partially offset by an increase in cash provided by net non-
operating finance receivables ($1.5 billion) and lower net capital
expenditures ($0.2 billion). Net cash used in financing activities
of $5.7 billion increased $1.1 billion compared to the prior year,
primarily due to lower debt issuances ($3.0 billion), partially
offset by lower gross common stock repurchases ($2.0 billion).

GAAP Reconciliation
The tables below provide a reconciliation of our income statement
results as reported under GAAP to our operating earnings
presentation which is a non-GAAP measure. Management’s
calculation of operating (non-GAAP) earnings, as presented,
may differ from similarly titled measures reported by other
companies. Refer to the “Operating (non-GAAP) Earnings”
section for management’s rationale for presenting operating
earnings information.

($ in millions except per share amounts)

For the fourth quarter 2019:

Gross profit

Gross profit margin

SG&A

RD&E

Other (income) and expense

Interest expense

Total expense and other (income)

Pre-tax income from continuing operations

GAAP

$11,100

Acquisition-
Related
Adjustments

Retirement-
Related
Adjustments

$ 189

$ —

U.S. Tax
Reform
Charges

$ —

Operating
(non-GAAP)

$11,289

51.0%

0.9 pts.

— pts.

51.8%

$ 5,433

1,596

(117)

354

7,107

3,993

$(320)

$ —

$ 5,113

(1)

—

(320)

509

—

(196)

—

(196)

196

—

1,596

(314)

354

6,591

4,698

Pre-tax margin from continuing operations

18.3%

2.3 pts.

0.9 pts.

— pts.

21.6%

Provision for income taxes*

Effective tax rate

$ 324

$ 133

$ 21

$ 14

$ 492

8.1%

2.0 pts.

0.1 pts.

0.3 pts.

10.5%

Income from continuing operations

$ 3,669

$ 376

$ 175

$ (14)

$ 4,206

Income margin from continuing operations

16.8%

1.7 pts.

0.8 pts.

(0.1)pts.

19.3%

Diluted earnings per share from continuing operations

$ 4.11

$0.42

$0.20

$(0.02)

$ 4.71

* The tax impact on operating (non-GAAP) pre-tax income from continuing operations is calculated under the same accounting principles

applied to the GAAP pre-tax income which employs an annual effective tax rate method to the results.

($ in millions except per share amounts)

For the fourth quarter 2018:

Gross profit

Gross profit margin

SG&A

RD&E

Other (income) and expense

Interest expense

Total expense and other (income)

Pre-tax income from continuing operations

GAAP

$10,687

Acquisition-
Related
Adjustments

Retirement-
Related
Adjustments

U.S. Tax
Reform
Charges

Operating
(non-GAAP)

$ 89

$ —

$10,776

49.1%

0.4 pts.

— pts.

49.5%

$ 4,701

1,358

185

193

6,253

4,434

$(119)

$ —

$ 4,582

—

(1)

—

(119)

208

—

(387)

—

(387)

387

—

1,358

(203)

193

5,746

5,030

Pre-tax margin from continuing operations

20.4%

1.0 pts.

1.8 pts.

— pts.

23.1%

Provision for income taxes*

Effective tax rate

$ 2,481

$ 37

$ 39

$(1,944)

$ 613

55.9%

(1.6) pts.

(3.5) pts.

(38.7) pts.

12.2%

Income from continuing operations

$ 1,954

$ 171

$ 348

$ 1,944

$ 4,417

Income margin from continuing operations

9.0%

0.8 pts.

1.6 pts.

8.9 pts.

20.3%

Diluted earnings per share from

continuing operations

$ 2.15

$0.19

$0.38

$ 2.15

$ 4.87

* The tax impact on operating (non-GAAP) pre-tax income from continuing operations is calculated under the same accounting principles

applied to the GAAP pre-tax income which employs an annual effective tax rate method to the results.

Management Discussion International Business Machines Corporation and Subsidiary Companies53

PRIOR YEAR IN REVIEW
This section provides a summary of our segment results and year-to-year comparisons between 2018 and 2017. These Segment
results have been recast to conform to our segment changes effective first-quarter 2019. There was no change to consolidated
results. Refer to “Management Discussion,” pages 27 to 41 of the “Year in Review” section of our 2018 Annual Report for all other
details of our financial performance in 2018 compared to 2017.

Segment Details
The table below presents each reportable segment’s external revenue and gross margin results. Segment pre-tax income includes
transactions between segments that are intended to reflect an arm’s-length transfer price and excludes certain unallocated corporate items.

($ in millions)

For the year ended December 31:

Revenue

Cloud & Cognitive Software

Gross margin

Global Business Services

Gross margin

Global Technology Services

Gross margin

Systems

Gross margin

Global Financing

Gross margin

Other

Gross margin

Total consolidated revenue

Total consolidated gross profit

Total consolidated gross margin

Non-operating adjustment

Amortization of acquired intangible assets

Operating (non-GAAP) gross profit

Operating (non-GAAP) gross margin

* Recast to reflect segment changes.

Cloud & Cognitive Software

($ in millions)

For the year ended December 31:

Cloud & Cognitive Software external revenue

Cognitive Applications

Cloud & Data Platforms

Transaction Processing Platforms

* Recast to reflect segment changes.

2018

2017

$22,209*

$21,751 *

77.6%*

78.1%*

16,595*

16,073*

26.8%*

25.1%*

29,146*

29,213*

34.4%*

34.3%*

8,034

49.8%

1,590

29.1%

2,018*

8,194

53.2%

1,696

29.3%

2,212*

37.8%*

47.1%*

$79,591

$79,139

$36,936

$36,943

46.4%

46.7%

Yr.-to-Yr.
Percent/
Margin
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

1.6%

2.3%

(0.8)%

(2.3)%

(6.5)%

(9.4)%

0.0%

2.1%

(0.5) pts.

3.2%

1.7 pts.

(0.2)%

0.1 pts.

(2.0)%

(3.4) pts.

(6.3)%

(0.2) pts.

(8.8)%

(9.3 ) pts.

0.6%

0.0%

(0.3) pts.

372

449

$37,307

$37,392

(17.2)%

(0.2)%

46.9%

47.2%

(0.4) pts.

2018*

2017*

$22,209

$ 5,633

8,603

7,974

$21,751

$ 5,533

8,381

7,838

Yr.-to-Yr.
Percent
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

2.1%

1.8%

2.6

1.7

1.6%

1.4%

2.0

1.2

Management Discussion International Business Machines Corporation and Subsidiary Companies54

Cloud & Cognitive Software revenue increased in 2018 compared
to the prior year with growth in all three lines of business, as
reported and adjusted for currency. Within Cognitive Applications,
the increase was driven by strong double-digit growth in security
services, while growth in Cloud & Data Platforms was led by
analytics platforms and integration offerings. Transaction
Processing Platforms grew with improved revenue performance
sequentially in the fourth-quarter 2018 versus the third-quarter
2018 reflecting clients’ commitment to the company’s platform for
the long term and the value it provides in managing mission-critical
workloads. Within Cloud & Cognitive Software, cloud revenue of
$3.0 billion grew 10 percent as reported and adjusted for currency
compared to the prior year.

Global Business Services

($ in millions)

For the year ended December 31:

Global Business Services external revenue

Consulting

Application Management

Global Process Services

* Recast to reflect segment changes.

Global Business Services revenue increased compared to 2017
driven by strong growth in Consulting, led by key offerings in digital
and cloud application, where the business has brought together
technology and industry expertise to help clients on their digital
journey. GPS grew year to year, while Application Management
revenue was flat as reported and declined adjusted for currency
compared to 2017. While we continued to help clients move to the
cloud with offerings such as Cloud Migration Factory and cloud
application development, there were continued declines in the
more traditional application management engagements. Within
GBS, cloud revenue of $4.7 billion grew 20 percent as reported
and 19 percent adjusted for currency compared to the prior year.

($ in millions)

For the year ended December 31:

2018*

2017*

Cloud & Cognitive Software

Yr.-to-Yr.
Percent/
Margin
Change

External gross profit

$17,224

$16,986

1.4%

External gross profit

margin

Pre-tax income

Pre-tax margin

77.6%

78.1%

(0.5) pts.

$ 8,882

$ 8,068

10.1%

35.0%

32.4%

2.6 pts.

* Recast to reflect segment changes.

Gross margin in Cloud & Cognitive Software was impacted by an
increased mix toward SaaS, a mix toward security services and
increased royalty costs associated with IP licensing agreements
compared to the prior year. Pre-tax income improvement year to
year was primarily driven by operational efficiencies and mix.

2018

2017

$16,595 *

$ 7,705

7,852

1,037*

$16,073 *

$ 7,262

7,821

990*

Yr.-to-Yr.
Percent
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

3.2%

6.1%

0.4

4.8

2.3%

5.1%

(0.5)

4.7

($ in millions)

For the year ended December 31:

2018*

2017*

Global Business Services

Yr.-to-Yr.
Percent/
Margin
Change

External gross profit

$4,448

$4,033

10.3%

External gross profit

margin

Pre-tax income

Pre-tax margin

26.8%

25.1%

1.7 pts.

$1,629

$1,303

25.0%

9.6%

7.9%

1.7 pts.

* Recast to reflect segment changes.

The year-to-year improvements in margins and pre-tax income
in GBS were the result of the shift to higher-value offerings,
realignment of resources to key skill areas, increased productivity
and utilization as well as a benefit from currency, due to the
company’s global delivery model.

Management Discussion International Business Machines Corporation and Subsidiary Companies55

Global Technology Services

($ in millions)

For the year ended December 31:

Global Technology Services external revenue

Infrastructure & Cloud Services

Technology Support Services

* Recast to reflect segment changes.

Global Technology Services revenue decreased 0.2 percent as
reported (1 percent adjusted for currency) in 2018 compared
to the prior year, with Infrastructure & Cloud Services up 0.8
percent as reported (flat adjusted for currency) offset by a
decline in Technology Support Services. In Infrastructure &
Cloud Services, the business focused on prioritizing the portfolio
to deliver high-value solutions to bring productivity to clients and
allow for expanding workloads, while it exited some lower-value
offerings. Technology Support Services was impacted by the
hardware product cycle dynamics in 2018 but grew its multi-
vendor services offerings. Within GTS, cloud revenue of $8.0
billion grew 22 percent as reported and 21 percent adjusted for
currency compared to the prior year.

2018

2017

$29,146 *

$22,185*

6,961

$29,213 *

$22,016*

7,196

Yr.-to-Yr.
Percent
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

(0.2)%

0.8%

(3.3)

(0.8)%

0.0%

(3.5)

($ in millions)

For the year ended December 31:

2018*

2017*

Global Technology Services

Yr.-to-Yr.
Percent/
Margin
Change

External total gross profit

$10,035

$10,022

0.1%

External total gross profit

margin

Pre-tax income

Pre-tax margin

34.4%

34.3%

0.1 pts.

$ 1,781

$ 2,618

(32.0)%

5.9%

8.8%

(2.8) pts.

* Recast to reflect segment changes.

The 2018 GTS gross profit margin was essentially flat year to
year and reflected benefits from productivity initiatives, including
automation of delivery processes infused with AI and global
workforce optimization. Pre-tax income performance reflected
continued investment to expand go-to-market capabilities and
develop new offerings for the hybrid market.

Systems

($ in millions)

For the year ended December 31:

Systems external revenue

Systems Hardware

IBM Z

Power Systems

Storage Systems

2018

$8,034

$6,363

2017

$8,194

$6,494

Operating Systems Software

1,671

1,701

Yr.-to-Yr.
Percent
Change

Yr.-to-Yr.
Percent Change
Adjusted for
Currency

(2.0)%

(5.4)

8.8

(5.5)

(1.7)

(2.3)%

(5.6)

8.7

(5.9)

(2.4)

Management Discussion International Business Machines Corporation and Subsidiary Companies56

Systems revenue of $8,034 million decreased 2.0 percent year
to year as reported (2 percent adjusted for currency) driven by
strong IBM Z performance in 2017 and continued price pressures
impacting Storage Systems in a competitive environment. Both
hardware platforms were down year to year for the full year,
as reported and adjusted for currency. This performance was
partially offset by strong growth in Power Systems (which grew
as reported and adjusted for currency in 2018) with strong
performance in POWER9-based systems and Linux throughout
the year. Within Systems, cloud revenue of $3.1 billion decreased
10 percent as reported and adjusted for currency compared to
the prior year reflecting IBM Z product cycle dynamics.

($ in millions)

For the year ended December 31:

2018

2017

Systems

External Systems Hardware

Yr.-to-Yr.
Percent/
Margin
Change

gross profit

$2,590

$2,893

(10.5)%

The increase in Global Financing total revenue was driven by
an increase in internal revenue, partially offset by a decrease in
external revenue. Internal revenue grew 9.5 percent driven by
increases in internal financing (up 17.6 percent) and internal used
equipment sales (up 6.8 percent). External revenue declined 6.3
percent due to a decrease in external used equipment sales (down
30.8 percent), partially offset by an increase in external financing
(up 4.9 percent). The increase in Global Financing pre-tax income
was primarily driven by an increase in gross profit and a decrease
in total expense.

GAAP Reconciliation
The table below provides a reconciliation of our consolidated
gross profit and gross margin as reported under GAAP to our
operating earnings presentation which is a non-GAAP measure.
Management’s calculation of operating (non-GAAP) earnings, as
presented, may differ from similarly titled measures reported by
other companies. Refer to the “Operating (non-GAAP) Earnings”
section for management’s rationale for presenting operating
earnings information.

External Systems Hardware

gross profit margin

40.7%

44.6%

(3.8)pts.

($ in millions)

External Operating Systems
Software gross profit

External Operating Systems
Software gross profit
margin

$1,412

$1,469

(3.9)%

For the year ended December 31:

GAAP

84.5%

86.4%

(1.9)pts.

Gross profit margin

46.4%

0.5 pts.

46.9%

2018

Gross profit

$36,936

$372

$37,307

Acquisition-
Related
Adjustments

Operating
(non-GAAP)

External total gross profit

$4,002

$4,362

(8.2)%

External total gross
profit margin

Pre-tax income

Pre-tax margin

49.8%

53.2%

(3.4)pts.

$ 904

$1,128

(19.9)%

10.2%

12.6%

(2.4)pts.

The Systems gross profit margin decrease year to year was
driven by the mix away from IBM Z and margin declines in Power
Systems and Storage Systems. The pre-tax income decline was
driven by the strong performance in IBM Z in the prior year and the
continued investment in innovation across the Systems portfolio.

Global Financing

($ in millions)

For the year ended December 31:

2018

2017

Yr.-to-Yr.
Percent
Change

Results of Operations

External revenue

Internal revenue

Total revenue

Pre-tax income

$1,590

$1,696

(6.3)%

1,610

$3,200

$1,361

1,471

$3,168

$1,278

9.5

1.0%

6.5%

2017

Gross profit

$36,943

$449

$37,392

Gross profit margin

46.7%

0.6 pts.

47.2%

OTHER INFORMATION
Looking Forward
IBM is focused on chapter 2 of clients’ digital reinventions, which
includes scaling AI and shifting mission-critical workloads to
the cloud. To address the cloud opportunity, enterprises need
to be able to move and manage data, services and workflows
across multiple clouds and on-premises. They also need to be
able to address security concerns, data protection and protocols,
availability and cloud management. This is best addressed with
a hybrid, multi-cloud, open approach, based on a foundation of
Linux, with containers and Kubernetes. On July 9, 2019, we closed
the acquisition of Red Hat, which significantly changed the cloud
landscape and will accelerate our high value business model.
Together, IBM and Red Hat offer the leading hybrid, multi-cloud
platform built on open source technologies.

The combination of IBM and Red Hat is already off to a strong
start. In August, we introduced Cloud Paks, cloud-native
software that brings together IBM middleware, AI, management
and security and Red Hat’s OpenShift platform. As we look
forward, the largest hybrid cloud opportunity is in services:
advising clients on architectural choices, moving workloads,
building new applications and managing those applications.
With GBS and GTS expertise in digital reinventions and managing
mission-critical workloads, we are well positioned to help our

Management Discussion International Business Machines Corporation and Subsidiary Companies57

clients on this journey. We brought additional new innovations to
the market in 2019 including: the financial services public cloud,
z15 and high-end storage and we have a leadership position in
quantum computing. With these innovations, we built momentum
for growth in 2020.

At the time of our fourth-quarter earnings report, analysts’
estimates of our revenue growth were approximately 3 percent
for 2020, which we stated was reasonable. This includes about
a 1 point impact from businesses divested in 2019, and January
17, 2020 expectations for currency translation. This also includes
an expectation of an improving trend in GTS, predominantly in the
second half of 2020. We also expect to expand GAAP and operating
(non-GAAP) gross margins and pre-tax income will include impacts
from significant structural actions in 2020, primarily in our GTS
business as we shift toward a more asset-based model to create
a more competitive, flexible structure.

At constant currency, we expect accelerated growth of about
0.5 points from the fourth-quarter 2019 revenue growth rates
to first-quarter 2020. At January 17, 2020 spot rates, we expect
currency to be a headwind to first-quarter revenue growth of
about 1.0 to 1.5 points, as compared to a headwind of 0.6 points
in the fourth quarter of 2019.

Consistent with the acquisition of a highly profitable software
business, non-cash purchase accounting adjustments resulted in
the Red Hat acquisition being dilutive to full-year 2019 earnings
per share. In an acquisition, U.S. GAAP requires a company
to record all assets acquired and liabilities assumed at the
acquisition date fair value. This includes the acquired deferred
revenue balance. This resulted in a non-cash adjustment of
$2.2 billion to the acquired deferred revenue balance and
resulted in a reduction to reported revenue post-closing. The
level of adjustment reflects the high margin profile of Red Hat’s
subscription-based business. While there will be continued
impact in 2020 from the deferred revenue adjustment from the
Red Hat purchase accounting, it will largely be in the first half and
lessen throughout the year.

Overall, we expect GAAP earnings per share from continuing
operations for 2020 to be at least $10.57. Excluding
acquisition-related charges of $1.70 per share, non-operating
retirement-related items of $1.02 per share and tax reform
enactment impacts of $0.06 per share, operating (non-GAAP)
earnings per share is expected to be at least $13.35. For the
first quarter of 2020, we expect GAAP earnings per share from
continuing operations to be 12 to 13 percent of the full-year
expectation and operating (non-GAAP) earnings per share to
be approximately 14 to 15 percent of the respective full-year
expectation. This reflects typical seasonality of IBM’s operations,
and the impact of the Red Hat deferred revenue purchase
accounting adjustment.

We expect free cash flow to be approximately $12.5 billion in
2020. This includes contribution from Red Hat combined with
incremental software and services synergy profits and net
of incremental interest to finance the transaction and other
acquisition-related charges. Free cash flow expectations reflect
expected operational profit performance, partially offset by
headwinds in capital expenditures and cash tax.

For full-year 2020, we expect the GAAP effective tax rate to
be approximately 3 to 6 percent, including an estimate for
potential discrete tax events (discretes). We expect the operating
(non-GAAP) tax rate for 2020 to be approximately 7 to 9 percent,
including an estimate of potential discretes. We expect a
discrete tax benefit in the first quarter of 2020. Together with
the expected structural actions described above, we anticipate
that these two items will be approximately neutral to the first-
quarter and full-year 2020 earnings per share. Discretes by their
nature are difficult to estimate and the actual impacts will be
recorded as the discrete events occur. The rates will change year
to year based on discrete tax events, such as the settlement of
income tax audits and changes in tax laws, as well as recurring
factors including the geographic mix of income before taxes,
state and local taxes and the effects of various global income
tax strategies. The GAAP effective tax rate could also be affected
by adjustments to the previously recorded charges for U.S. tax
reform attributable to any changes in law, new regulations and
guidance, audit adjustments, among others.

The Red Hat acquisition was funded through a combination of
cash and debt, with the incremental debt issued in the first half of
2019. We will continue with a disciplined financial policy and are
committed to maintaining strong investment-grade credit ratings.
Since the end of the second quarter of 2019, we reduced our debt
balance by $10.1 billion. We are continuing to target a leverage
profile consistent with a mid to high single A credit rating within
a couple years, while maintaining our solid and growing dividend.
We suspended our share repurchase program at the close of the
acquisition to direct our free cash flow towards reducing debt
levels. The combination of these actions provides us with the
flexibility to invest in the business going forward.

Beginning in the second quarter of 2019 and continuing
throughout the year, IBM’s Global Financing business wound
down the portion of its commercial financing operations
which provides short-term working capital solutions for OEM
information technology suppliers, distributors and resellers.
This was consistent with our capital allocation strategy and
high-value focus. IBM Global Financing will continue to provide
differentiated end-to-end financing solutions, including
commercial financing in support of IBM partner relationships.

We expect 2020 pre-tax retirement-related plan cost to be
approximately $2.7 billion, an increase of approximately $600
million compared to 2019. This estimate reflects current
pension plan assumptions at December 31, 2019. Within total
retirement-related plan cost, operating retirement-related plan
cost is expected to be approximately $1.5 billion, approximately
flat versus 2019. Non-operating retirement-related plan cost
is expected to be approximately $1.2 billion, an increase of
approximately $600 million compared to 2019, primarily driven
by lower income from expected return on assets. Contributions
for all retirement-related plans are expected to be approximately
$2.3 billion in 2020, an increase of approximately $100 million
compared to 2019.

Liquidity and Capital Resources
The company has consistently generated strong cash flow
from operations, providing a source of funds ranging between
$14.8 billion and $16.7 billion per year over the past three years.
The company provides for additional liquidity through several
sources: maintaining an adequate cash balance, access to

Management Discussion International Business Machines Corporation and Subsidiary Companies58

global funding sources, committed global credit facilities and
other committed and uncommitted lines of credit worldwide.
The following table provides a summary of the major sources of
liquidity for the years ended December 31, 2017 through 2019.

Cash Flow and Liquidity Trends

($ in billions)

Net cash from

2019

2018

2017

operating activities

$14.8

$15.2

$16.7

Cash, restricted cash and
short-term marketable
securities

Committed global
credit facilities

$ 9.0

$12.2

$12.8

$15.3

On July 9, 2019, we closed the acquisition of Red Hat for cash
consideration of $34.8 billion. The transaction was funded
through a combination of cash on hand and proceeds from debt
issuances. In order to reduce this debt and return to target
leverage ratios within a couple of years, we suspended our
share repurchase program at the time of the Red Hat acquisition
closing. In the second half of 2019, we reduced debt levels by
$10.1 billion. Refer to note P, “Borrowings,” for additional details
of financing this transaction.

The indenture governing our debt securities and our various
credit facilities each contain significant covenants which
obligate the company to promptly pay principal and interest,
limit the aggregate amount of secured indebtedness and sale and
leaseback transactions to 10 percent of IBM’s consolidated net
tangible assets, and restrict our ability to merge or consolidate
unless certain conditions are met. The credit facilities also
include a covenant on our consolidated net interest expense
ratio, which cannot be less than 2.20 to 1.0, as well as a cross
default provision with respect to other defaulted indebtedness
of at least $500 million.

We are in compliance with all of our significant debt covenants
and provide periodic certification to our lenders. The failure to
comply with debt covenants could constitute an event of default
with respect to our debt to which such provisions apply. If certain
events of default were to occur, the principal and interest on
the debt to which such event of default applied would become
immediately due and payable.

We do not have “ratings trigger” provisions in our debt covenants
or documentation, which would allow the holders to declare an
event of default and seek to accelerate payments thereunder in
the event of a change in credit rating. Our contractual agreements
governing derivative instruments contain standard market clauses
which can trigger the termination of the agreement if IBM’s credit
rating were to fall below investment grade. At December 31,
2019, the fair value of those instruments that were in a liability
position was $673 million, before any applicable netting, and this
position is subject to fluctuations in fair value period to period
based on the level of the company’s outstanding instruments and
market conditions. We have no other contractual arrangements
that, in the event of a change in credit rating, would result in a
material adverse effect on our financial position or liquidity.

The major ratings agencies ratings on our debt securities at
December 31, 2019 were as follows:

IBM and IBM Credit Ratings

Senior long-term debt

Commercial paper

Standard
and Poor’s

Moody’s
Investors
Service

A-1

Prime-1

After closing the Red Hat transaction, Moody’s, as expected,
downgraded IBM and IBM Credit LLC’s long-term debt rating from
A1 to A2 and improved its outlook to stable. We deleveraged
during the second half of 2019 and remain committed to a target
leverage profile consistent with a mid to high single A credit rating
within a couple of years.

In July 2017, the UK’s Financial Conduct Authority, which
regulates the London Interbank Offered Rate (LIBOR), announced
that it intends to phase out LIBOR by the end of 2021. Various
central bank committees and working groups continue to discuss
replacement of benchmark rates, the process for amending
existing LIBOR-based contracts, and the potential economic
impacts of different alternatives. The Alternative Reference Rates
Committee has identified the Secured Overnight Financing Rate
(SOFR) as its preferred alternative rate for USD LIBOR. SOFR is
a measure of the cost of borrowing cash overnight, collateralized
by U.S. Treasury securities, and is based on directly observable
U.S. Treasury-backed repurchase transactions. We are evaluating
the potential impact of the replacement of the LIBOR benchmark
interest rate, including risk management, internal operational
readiness and monitoring the FASB standard-setting process to
address financial reporting issues that might arise in connection
with transition from LIBOR to a new benchmark rate.

We prepare our Consolidated Statement of Cash Flows in
accordance with applicable accounting standards for cash
flow presentation on page 71 and highlight causes and events
underlying sources and uses of cash in that format on page 45.
For the purpose of running its business, IBM manages, monitors
and analyzes cash flows in a different format.

Management uses free cash flow as a measure to evaluate
its operating results, plan share repurchase levels, strategic
investments and assess its ability and need to incur and service
debt. The entire free cash flow amount is not necessarily available
for discretionary expenditures. We define free cash flow as net
cash from operating activities less the change in Global Financing
receivables and net capital expenditures, including the investment
in software. A key objective of the Global Financing business is to
generate strong returns on equity, and increasing receivables is
the basis for growth. Accordingly, management considers Global
Financing receivables as a profit-generating investment, not as
working capital that should be minimized for efficiency. Therefore,
management includes presentations of both free cash flow and
net cash from operating activities that exclude the effect of Global
Financing receivables. Free cash flow guidance is derived using
an estimate of profit, working capital and operational cash flows.
Since we view Global Financing receivables as a profit-generating
investment which we seek to maximize, it is not considered when
formulating guidance for free cash flow. As a result, we do not
estimate a GAAP Net Cash from Operations expectation metric.

Management Discussion International Business Machines Corporation and Subsidiary Companies59

From the perspective of how management views cash flow, in
2019, after investing $2.4 billion in capital investments primarily
in support of the services and cloud-based businesses, we
generated free cash flow of $11.9 billion which was essentially
flat compared to 2018. Year to year, there were lower capital
expenditures, offset by higher cash income tax and interest
payments and lower operating cash flows from businesses
divested in 2019. In 2019, we continued to return value to
shareholders including $5.7 billion in dividends and $1.4 billion
in gross common stock repurchases.

shareholders through dividends and gross share repurchases.
The amount of prospective returns to shareholders in the
form of dividends and share repurchases will vary based
upon several factors including each year’s operating results,
capital expenditure requirements, research and development
investments and acquisitions, as well as the factors discussed
below. In order to continue to deleverage, we suspended our
share repurchase program at the time of closing the Red Hat
acquisition.

Over the past three years, we generated over $36 billion in
free cash flow. During that period, we invested over $33 billion
in strategic acquisitions and returned over $27 billion to

IBM’s Board of Directors considers the dividend payment on
a quarterly basis. In the second quarter of 2019, the Board of
Directors increased the company’s quarterly common stock
dividend from $1.57 to $1.62 per share.

The table below represents the way in which management reviews cash flow as described above.

($ in billions)

For the year ended December 31:

Net cash from operating activities per GAAP

Less: the change in Global Financing receivables

Net cash from operating activities,

excluding Global Financing receivables

Capital expenditures, net

Free cash flow (FCF)

Acquisitions

Divestitures

Share repurchase

Common stock repurchases for tax withholdings

Dividends

Non-Global Financing debt

Other (includes Global Financing receivables

and Global Financing debt)

Change in cash, cash equivalents, restricted cash and

short-term marketable securities

FCF as percent of Income from Continuing Operations

2019

$ 14.8

0.5

14.3

(2.4)

11.9

(32.6)

1.1

(1.4)

(0.3)

(5.7)

22.8

1.0

2018

$15.2

(0.3)

15.6

(3.7)

11.9

(0.1)

—

(4.4)

(0.2)

(5.7)

(0.5)

(1.6)

2017

$16.7

0.4

16.3

(3.3)

13.0

(0.5)

(0.2)

(4.3)

(0.2)

(5.5)

1.1

0.8

$ (3.2)

126%

$ (0.6)

$ 4.1

136%*

226%*

* 111% in 2018 excluding charges of $2.0 billion and 116% in 2017 excluding the charge of $5.5 billion associated with the

enactment of U.S. tax reform.

Events that could temporarily change the historical cash flow
dynamics discussed previously include significant changes in
operating results, material changes in geographic sources of
cash, unexpected adverse impacts from litigation, future pension
funding requirements during periods of severe downturn in the
capital markets or the timing of tax payments. Whether any
litigation has such an adverse impact will depend on a number
of variables, which are more completely described in note R,
“Commitments & Contingencies.” With respect to pension
funding, in 2019, we contributed $274 million to our non-U.S.
defined benefit plans compared to $363 million in 2018. As
highlighted in the Contractual Obligations table, we expect to
make legally mandated pension plan contributions to certain
non-U.S. plans of approximately $1.5 billion in the next five years.
The 2020 contributions are currently expected to be approximately
$300 million. Contributions related to all retirement-related plans
are expected to be approximately $2.3 billion in 2020, an increase

of approximately $100 million compared to 2019. Financial
market performance could increase the legally mandated
minimum contributions in certain non-U.S. countries that require
more frequent remeasurement of the funded status. We are not
quantifying any further impact from pension funding because it is
not possible to predict future movements in the capital markets
or pension plan funding regulations.

In 2020, we are not legally required to make any contributions
to the U.S. defined benefit pension plans.

Our cash flows are sufficient to fund our current operations and
obligations, including investing and financing activities such
as dividends and debt service. When additional requirements
arise, we have several liquidity options available. These options
may include the ability to borrow additional funds at reasonable
interest rates and utilizing our committed global credit facilities.

Management Discussion International Business Machines Corporation and Subsidiary Companies
60

Contractual Obligations

($ in millions)

Long-term debt obligations

Interest on long-term debt obligations

Finance lease obligations*

Operating lease obligations*

Purchase obligations

Other long-term liabilities:

Minimum defined benefit plan pension funding

(mandated)**

Excess 401(k) Plus Plan

Long-term termination benefits
Tax reserves+

Other

Total

Total Contractual
Payment Stream

$62,003

16,299

204

5,605

4,952

1,500

1,734

972

4,582

951

Payments Due In

2020

$ 7,474

2021–22

$16,910

2023–24

After 2024

$11,648

$25,971

1,703

1,486

1,379

300

213

214

236

385

2,753

2,126

1,832

600

471

138

218

2,121

1,187

1,530

600

531

108

9,722

806

211

519

512

276

$98,801

$13,442

$25,139

$17,829

$38,046

* Finance lease obligations are presented on a discounted cash flow basis, whereas operating lease obligations are presented on an

undiscounted cash flow basis.

** As funded status on plans will vary, obligations for mandated minimum pension payments after 2024 could not be reasonably estimated.
+ These amounts represent the liability for unrecognized tax benefits. We estimate that approximately $236 million of the liability is expected to be
settled within the next 12 months. The settlement period for the noncurrent portion of the income tax liability cannot be reasonably estimated as
the timing of the payments will depend on the progress of tax examinations with the various tax authorities; however, it is not expected to be due
within the next 12 months.

Certain contractual obligations reported in the previous table
exclude the effects of time value and therefore, may not equal
the amounts reported in the Consolidated Balance Sheet. Certain
noncurrent liabilities are excluded from the previous table as their
future cash outflows are uncertain. This includes deferred taxes,
derivatives, deferred income, disability benefits and other sundry
items. Certain obligations related to our divestitures are included.

Purchase obligations include all commitments to purchase goods
or services of either a fixed or minimum quantity that meet any
of the following criteria: (1) they are noncancelable, (2) we
would incur a penalty if the agreement was canceled, or (3) we
must make specified minimum payments even if we do not take
delivery of the contracted products or services (take-or-pay). If
the obligation to purchase goods or services is noncancelable,
the entire value of the contract is included in the previous table.
If the obligation is cancelable, but we would incur a penalty
if canceled, the dollar amount of the penalty is included as a
purchase obligation. Contracted minimum amounts specified
in take-or-pay contracts are also included in the table as they
represent the portion of each contract that is a firm commitment.

In the ordinary course of business, we enter into contracts that
specify that we will purchase all or a portion of our requirements
of a specific product, commodity or service from a supplier or
vendor. These contracts are generally entered into in order to
secure pricing or other negotiated terms. They do not specify
fixed or minimum quantities to be purchased and, therefore, we
do not consider them to be purchase obligations.

Interest on floating-rate debt obligations is calculated using the
effective interest rate at December 31, 2019, plus the interest
rate spread associated with that debt, if any.

Off-Balance Sheet Arrangements
From time to time, we may enter into off-balance sheet
arrangements as defined by SEC Financial Reporting Release
67 (FRR-67), “Disclosure in Management’s Discussion and
Analysis about Off-Balance Sheet Arrangements and Aggregate
Contractual Obligations.”

At December 31, 2019, we had no such off-balance sheet
arrangements that have, or are reasonably likely to have, a material
current or future effect on our financial condition, changes in
financial condition, revenues or expenses, results of operations,
liquidity, capital expenditures or capital resources. See the table
above for our contractual obligations, and note R, “Commitments
& Contingencies,” for detailed information about our guarantees,
financial commitments and indemnification arrangements. We do
not have retained interests in assets transferred to unconsolidated
entities or other material off-balance sheet interests or instruments.

Critical Accounting Estimates
The application of GAAP requires IBM to make estimates and
assumptions about certain items and future events that directly
affect its reported financial condition. The accounting estimates and
assumptions discussed in this section are those that we consider
to be the most critical to our financial statements. An accounting
estimate is considered critical if both (a) the nature of the estimate or
assumption is material due to the levels of subjectivity and judgment
involved, and (b) the impact within a reasonable range of outcomes of
the estimate and assumption is material to IBM’s financial condition.
Senior management has discussed the development, selection and
disclosure of these estimates with the Audit Committee of IBM’s
Board of Directors. Our significant accounting policies are described
in note A, “Significant Accounting Policies.”

A quantitative sensitivity analysis is provided where that
information is reasonably available, can be reliably estimated and
provides material information to investors. The amounts used to

Management Discussion International Business Machines Corporation and Subsidiary Companies61

assess sensitivity (e.g., 1 percent, 10 percent, etc.) are included to
allow users of the Annual Report to understand a general direction
cause and effect of changes in the estimates and do not represent
management’s predictions of variability. For all of these estimates,
it should be noted that future events rarely develop exactly as
forecasted, and estimates require regular review and adjustment.

In addition to the above, we evaluate other pension assumptions
involving demographic factors, such as retirement age and
mortality, and update these assumptions to reflect experience
and expectations for the future. Actual results in any given year
can differ from actuarial assumptions because of economic and
other factors.

Pension Assumptions
For our defined benefit pension plans, the measurement of the
benefit obligation to plan participants and net periodic pension
(income)/cost requires the use of certain assumptions, including,
among others, estimates of discount rates and expected return
on plan assets.

Changes in the discount rate assumptions would impact the
(gain)/loss amortization and interest cost components of the
net periodic pension (income)/cost calculation and the projected
benefit obligation (PBO). The discount rate assumption for
the IBM Personal Pension Plan (PPP), a U.S.-based defined
benefit plan, decreased by 100 basis points to 3.10 percent on
December 31, 2019. This change will increase pre-tax income
recognized in 2020 by an estimated $31 million. If the discount
rate assumption for the PPP had increased by 100 basis points
on December 31, 2019, pre-tax income recognized in 2020 would
decrease by an estimated $16 million. Further changes in the
discount rate assumptions would impact the PBO which, in turn,
may impact our funding decisions if the PBO exceeds plan assets.
A 25 basis point increase or decrease in the discount rate would
cause a corresponding decrease or increase, respectively, in the
PPP’s PBO of an estimated $1.2 billion based upon December 31,
2019 data.

The expected long-term return on plan assets assumption is used
in calculating the net periodic pension (income)/cost. Expected
returns on plan assets are calculated based on the market-related
value of plan assets, which recognizes changes in the fair value of
plan assets systematically over a five-year period in the expected
return on plan assets line in net periodic pension (income)/cost.
The differences between the actual return on plan assets and the
expected long-term return on plan assets are recognized over five
years in the expected return on plan assets line in net periodic
pension (income)/cost and also as a component of actuarial (gains)/
losses, which are recognized over the service lives or life expectancy
of the participants, depending on the plan, provided such amounts
exceed thresholds which are based upon the benefit obligation or
the value of plan assets, as provided by accounting standards.

To the extent the outlook for long-term returns changes such
that management changes its expected long-term return on plan
assets assumption, each 50 basis point increase or decrease in
the expected long-term return on PPP plan assets assumption
would have an estimated decrease or increase, respectively, of
$241 million on the following year’s pre-tax net periodic pension
(income)/cost (based upon the PPP’s plan assets at December 31,
2019 and assuming no contributions are made in 2020).

We may voluntarily make contributions or be required, by law,
to make contributions to our pension plans. Actual results that
differ from the estimates may result in more or less future IBM
funding into the pension plans than is planned by management.
Impacts of these types of changes on our pension plans in other
countries worldwide would vary depending upon the status of
each respective plan.

For additional information on our pension plans and the
development of these assumptions, see note V, “Retirement-
Related Benefits.”

Revenue Recognition
Application of GAAP related to the measurement and recognition
of revenue requires us to make judgments and estimates.
Specifically, complex arrangements with nonstandard terms
and conditions may require significant contract interpretation
to determine the appropriate accounting, including whether
promised goods and services specified in an arrangement are
distinct performance obligations. Other significant judgments
include determining whether IBM or a reseller is acting as the
principal in a transaction and whether separate contracts should
be combined and considered part of one arrangement.

Revenue recognition is also impacted by our ability to determine
when a contract is probable of collection and to estimate variable
consideration, including, for example, rebates, volume discounts,
service-level penalties, and performance bonuses. We consider
various factors when making these judgments, including a review
of specific transactions, historical experience and market and
economic conditions. Evaluations are conducted each quarter
to assess the adequacy of the estimates. If the estimates were
changed by 10 percent in 2019, the impact on net income would
have been immaterial.

Costs to Complete Service Contracts
We enter into numerous service contracts through our services
businesses. During the contractual period, revenue, cost and
profits may be impacted by estimates of the ultimate profitability
of each contract, especially contracts for which we use cost-to-
cost measures of progress. If at any time these estimates indicate
the contract will be unprofitable, the entire estimated loss for the
remainder of the contract is recorded immediately in cost. We
perform ongoing profitability analyses of these services contracts
in order to determine whether the latest estimates require
updating. Key factors reviewed to estimate the future costs
to complete each contract are future labor costs and product
costs and expected productivity efficiencies. Contract loss
provisions recorded as a component of other accrued expenses
and liabilities were immaterial at December 31, 2019 and 2018.

Income Taxes
We are subject to income taxes in the U.S. and numerous foreign
jurisdictions. Significant judgments are required in determining
the consolidated provision for income taxes.

During the ordinary course of business, there are many
transactions and calculations for which the ultimate tax
determination is uncertain. As a result, we recognize tax liabilities
based on estimates of whether additional taxes and interest will
be due. These tax liabilities are recognized when, despite our
belief that our tax return positions are supportable, we believe
that certain positions may not be fully sustained upon review by
tax authorities. We believe that our accruals for tax liabilities are

Management Discussion International Business Machines Corporation and Subsidiary Companies62

adequate for all open audit years based on our assessment of
many factors, including past experience and interpretations of tax
law. This assessment relies on estimates and assumptions and
may involve a series of complex judgments about future events. To
the extent that new information becomes available which causes
us to change our judgment regarding the adequacy of existing tax
liabilities, such changes to tax liabilities will impact income tax
expense in the period in which such determination is made.

Significant judgment is also required in determining any valuation
allowance recorded against deferred tax assets. In assessing
the need for a valuation allowance, management considers all
available evidence for each jurisdiction including past operating
results, estimates of future taxable income and the feasibility
of ongoing tax planning strategies/actions. In the event that we
change our determination as to the amount of deferred tax assets
that can be realized, we will adjust the valuation allowance with
a corresponding impact to income tax expense in the period in
which such determination is made.

The consolidated provision for income taxes will change period
to period based on nonrecurring events, such as the settlement
of income tax audits and changes in tax laws, as well as recurring
factors including the geographic mix of income before taxes,
state and local taxes and the effects of various global income
tax strategies.

To the extent that the provision for income taxes increases/
decreases by 1 percent of income from continuing operations
before income taxes, consolidated net income would have
decreased/improved by $102 million in 2019.

Valuation of Assets
The application of business combination and impairment
accounting requires the use of significant estimates and
assumptions. The acquisition method of accounting for
business combinations requires us to estimate the fair value
of assets acquired including separately identifiable intangible
assets, liabilities assumed, and any noncontrolling interest in
the acquiree to properly allocate purchase price consideration.
Impairment testing for assets, other than goodwill, requires the
allocation of cash flows to those assets or group of assets and
if required, an estimate of fair value for the assets or group of
assets. Our estimates are based upon assumptions believed
to be reasonable, but which are inherently uncertain and
unpredictable. These valuations require the use of management’s
assumptions, which would not reflect unanticipated events and
circumstances that may occur.

Valuation of Goodwill
We review goodwill for impairment annually and whenever events
or changes in circumstances indicate the carrying value of goodwill
may not be recoverable. In 2019, we assessed the qualitative risk
factors to determine whether it is more likely than not that the fair
value of a reporting unit is less than its carrying amount.

We assess qualitative factors in each of our reporting units that
carry goodwill including relevant events and circumstances that
affect the fair value of reporting units. Examples include, but are

not limited to, macroeconomic, industry and market conditions,
as well as other individual factors such as:

•

A loss of key personnel;

•

A significant adverse shift in the operating environment of
the reporting unit such as unanticipated competition;

•

A significant pending litigation;

•

A more likely than not expectation that a reporting unit or a
significant portion of a reporting unit will be sold or otherwise
disposed of; and

•

An adverse action or assessment by a regulator.

We assess these qualitative factors to determine whether it is
necessary to perform the two-step quantitative goodwill impairment
test. This quantitative test is required only if we conclude that it is
more likely than not that a reporting unit’s fair value is less than its
carrying amount. Given our segment changes and the significant
acquisition of Red Hat, we performed the quantitative Step 1 tests
of goodwill impairment for all affected reporting units in 2019. After
performing the annual goodwill impairment qualitative analysis
during the fourth quarter of 2019, only the Systems reporting unit
required quantitative review as a result of the qualitative analysis.
The qualitative assessment indicated a potential impairment
triggering event as a result of the financial performance of the
Systems reporting unit. The quantitative analysis resulted in no
impairment as the estimated fair value of the Systems reporting
unit, which had goodwill of $2.3 billion as of December 31, 2019,
exceeded its carrying amount by approximately 30 percent.

Our quantitative impairment testing did not indicate any goodwill
impairment, and all of the other reporting units with goodwill had
a fair value that was substantially in excess of its carrying value.

Loss Contingencies
We are currently involved in various claims and legal proceedings.
At least quarterly, we review the status of each significant matter
and assess our potential financial exposure. If the potential loss
from any claim or legal proceeding is considered probable and
the amount can be reasonably estimated, we accrue a liability for
the estimated loss. Significant judgment is required in both the
determination of probability and the determination as to whether an
exposure is reasonably estimable. Because of uncertainties related
to these matters, accruals are based only on the best information
available at the time. As additional information becomes available,
we reassess the potential liability related to our pending claims
and litigation, and may revise our estimates. These revisions in the
estimates of the potential liabilities could have a material impact
on our results of operations and financial position.

Global Financing Receivables Allowance for Credit Losses
The Global Financing business reviews its financing receivables
port folio on a regular basis in order to assess collectibility and
records adjustments to the allowance for credit losses at least
quarterly. A description of the methods used by management
to estimate the amount of uncollectible receivables is included
in note A, “Significant Accounting Policies.” Factors that could
result in actual receivable losses that are materially different
from the estim ated reserve include significant changes in
the economy, or a sudden change in the economic health of
a significant client that represents a concentration in Global
Financing’s receivables portfolio.

Management Discussion International Business Machines Corporation and Subsidiary Companies63

To the extent that actual collectibility differs from management’s
estimates currently provided for by 10 percent, Global Financing’s
segment pre-tax income and our income from continuing
operations before income taxes would be higher or lower by
an estimated $22 million depending upon whether the actual
collectibility was better or worse, respectively, than the estimates.

Residual Value
Residual value represents the estimated fair value of equipment
under lease as of the end of the lease. Residual value estimates
can impact the determination of whether a lease is classified as
operating, sales-type or direct financing. Global Financing estimates
the future fair value of leased equipment by using historical models,
analyzing the current market for new and used equipment, and
obtaining forward-looking product information such as marketing
plans and technological innovations. Residual value estimates
are periodically reviewed and “other than temporary” declines in
estimated future residual values are recognized upon identification.
Anticipated increases in future residual values are not recognized
until the equipment is remarketed.

Factors that could cause actual results to materially differ from
the estimates include significant changes in the used-equipment
market brought on by unforeseen changes in technology innovations
and any resulting changes in the useful lives of used equipment.

To the extent that actual residual value recovery is lower than
management’s estimates by 10 percent, Global Financing’s
segment pre-tax income and our income from continuing
operations before income taxes for 2019 would have been lower
by an estimated $73 million. If the actual residual value recovery
is higher than management’s estimates, the increase in income will
be realized at the end of lease when the equipment is remarketed.

Currency Rate Fluctuations
Changes in the relative values of non-U.S. currencies to the
U.S. dollar affect our financial results and financial position. At
December 31, 2019, currency changes resulted in assets and
liabilities denominated in local currencies being translated into
fewer dollars than at year-end 2018. We use financial hedging
instruments to limit specific currency risks related to financing
transactions and other foreign currency-based transactions.

During periods of sustained movements in currency, the
marketplace and competition adjust to the changing rates. For
example, when pricing offerings in the marketplace, we may use
some of the advantage from a weakening U.S. dollar to improve
our position competitively, and price more aggressively to win the
business, essentially passing on a portion of the currency advantage
to our customers. Competition will frequently take the same action.
Consequently, we believe that some of the currency-based changes
in cost impact the prices charged to clients. We also maintain
currency hedging programs for cash management purposes which
may temporarily mitigate, but not eliminate, the volatility of currency
impacts on our financial results.

We translate revenue, cost and expense in our non-U.S. operations
at current exchange rates in the reported period. References to
“adjusted for currency” or “constant currency” reflect adjustments
based upon a simple mathematical formula. However, this
constant currency methodology that we utilize to disclose this
information does not incorporate any operational actions that
management could take to mitigate fluctuating currency rates.
Currency movements impacted our year-to-year revenue and

earnings per share growth in 2019. Based on the currency rate
movements in 2019, total revenue decreased 3.1 percent as
reported and 1.0 percent at constant currency versus 2018. On
an income from continuing operations before income taxes basis,
these translation impacts offset by the net impact of hedging
activities resulted in a theoretical maximum (assuming no pricing
or sourcing actions) increase of approximately $300 million in 2019
on an as-reported basis and an increase of approximately $260
million on an operating (non-GAAP) basis. The same mathematical
exercise resulted in an increase of approximately $300 million in
2018, on both an as-reported basis and operating (non-GAAP)
basis. We view these amounts as a theoretical maximum impact
to our as-reported financial results. Considering the operational
responses mentioned above, movements of exchange rates, and
the nature and timing of hedging instruments, it is difficult to
predict future currency impacts on any particular period, but we
believe it could be substantially less than the theoretical maximum
given the competitive pressure in the marketplace.

For non-U.S. subsidiaries and branches that operate in U.S.
dollars or whose economic environment is highly inflationary,
translation adjustments are reflected in results of operations.
Generally, we manage currency risk in these entities by linking
prices and contracts to U.S. dollars.

During 2018, the three-year cumulative inflation rates in
Argentina, using a combination of monthly indices, exceeded the
100 percent threshold for hyperinflation. As a result, effective
July 1, 2018, the company changed the functional currency
from local currency to U.S. dollar functional for Argentina with
no material impact. In 2019, the Argentinean economy continued
to experience high inflation. The ongoing impact is not material
given the size of the company’s operations in the country (less
than 1 percent of total 2019 and 2018 revenue, respectively).

Market Risk
In the normal course of business, our financial position is
routinely subject to a variety of risks. In addition to the market
risk associated with interest rate and currency movements on
outstanding debt and non-U.S. dollar denominated assets and
liabilities, other examples of risk include collectibility of accounts
receivable and recoverability of residual values on leased assets.

We regularly assess these risks and have established policies and
business practices to protect against the adverse effects of these
and other potential exposures. As a result, we do not anticipate
any material losses from these risks.

Our debt, in support of the Global Financing business and the
geographic breadth of our operations, contains an element of
market risk from changes in interest and currency rates. We
manage this risk, in part, through the use of a variety of financial
instruments including derivatives, as described in note T,
“Derivative Financial Instruments.”

To meet disclosure requirements, we perform a sensitivity analysis
to determine the effects that market risk exposures may have on
the fair values of our debt and other financial instruments.

The financial instruments that are included in the sensitivity
analysis are comprised of our cash and cash equivalents,
marketable securities, short-term and long-term loans, commercial
financing and installment payment receivables, investments, long-
term and short-term debt and derivative financial instruments. Our

Management Discussion International Business Machines Corporation and Subsidiary Companies64

derivative financial instruments generally include interest rate
swaps, foreign currency swaps and forward contracts.

To perform the sensitivity analysis, we assess the risk of loss in fair
values from the effect of hypothetical changes in interest rates and
foreign currency exchange rates on market-sensitive instruments.
The market values for interest and foreign currency exchange risk
are computed based on the present value of future cash flows as
affected by the changes in rates that are attributable to the market
risk being measured. The discount rates used for the present value
computations were selected based on market interest and foreign
currency exchange rates in effect at December 31, 2019 and 2018.
The differences in this comparison are the hypothetical gains or
losses associated with each type of risk.

Information provided by the sensitivity analysis does not
necessarily represent the actual changes in fair value that we
would incur under normal market conditions because, due to
practical limitations, all variables other than the specific market
risk factor are held constant. In addition, the results of the model
are constrained by the fact that certain items are specifically
excluded from the analysis, while the financial instruments
relating to the financing or hedging of those items are included
by definition. Excluded items include short-term and long-
term receivables from sales-type and direct financing leases,
forecasted foreign currency cash flows and the company’s net
investment in foreign operations. As a consequence, reported
changes in the values of some of the financial instruments
impacting the results of the sensitivity analysis are not matched
with the offsetting changes in the values of the items that those
instruments are designed to finance or hedge.

The results of the sensitivity analysis at December 31, 2019 and
2018, are as follows:

Interest Rate Risk
A 10 percent decrease in the levels of interest rates with all other
variables held constant would result in a decrease in the fair value
of our financial instruments of $563 million and $422 million
at December 31, 2019 and 2018, respectively. A 10 percent
increase in the levels of interest rates with all other variables
held constant would result in an increase in the fair value of
our financial instruments of $546 million and $408 million at
December 31, 2019 and 2018, respectively. Changes in the
relative sensitivity of the fair value of our financial instrument
portfolio for these theoretical changes in the level of interest
rates are primarily driven by changes in debt maturities, interest
rate profile and amount.

Foreign Currency Exchange Rate Risk
At December 31, 2019, a 10 percent weaker U.S. dollar against
foreign currencies, with all other variables held constant, would
result in a decrease in the fair value of our financial instruments
of $616 million as compared to an increase of $697 million
at December 31, 2018. At December 31, 2019, a 10 percent
stronger U.S. dollar against foreign currencies, with all other
variables held constant, would result in an increase in the fair
value of our financial instruments of $616 million as compared
to a decrease of $697 million at December 31, 2018.

Financing Risks
See the “Description of Business” on page 33 for a discussion of
the financing risks associated with the Global Financing business
and management’s actions to mitigate such risks.

Cybersecurity
While cybersecurity risk can never be completely eliminated,
our approach draws on the depth and breadth of our global
capabilities, both in terms of our offerings to clients and our
internal approaches to risk management. We offer commercial
security solutions that deliver capabilities in areas such as
identity and access management, data security, application
security, network security and endpoint security. These
solutions include pervasive encryption, threat intelligence,
analytics, cognitive and artificial intelligence, and forensic
capabilities that analyze client security events, yielding insights
about attacks, threats, and vulnerabilities facing the client.
We also offer professional consulting and technical services
solutions for security from assessment and incident response
to deployment and resource augmentation. In addition, we
offer managed and outsourced security solutions from multiple
security operations centers around the world. Finally, security is
embedded in a multitude of our products and offerings through
secure engineering and operations, and by critical functions
(e.g., encryption, access control) in servers, storage, software,
services, and other solutions.

From an enterprise perspective, we implement a multi-faceted
risk-management approach based on the National Institute of
Standards and Technology Cybersecurity Framework to identify
and address cybersecurity risks. In addition, we have established
policies and procedures that provide the foundation upon which
IBM’s infrastructure and data are managed. We regularly assess
and adjust our technical controls and methods to identify and
mitigate emerging cybersecurity risks. We use a layered approach
with overlapping controls to defend against cybersecurity attacks
and threats on networks, end-user devices, servers, applications,
data and cloud solutions. We draw heavily on our own commercial
security solutions and services to mitigate cybersecurity risks.
We also have threat intelligence and security monitoring
programs, as well as a global incident response process to
respond to cybersecurity threats and attacks. In addition, we
utilize a combination of online training, educational tools, videos
and other awareness initiatives to foster a culture of security
awareness and responsibility among our workforce.

Employees and Related Workforce

(In thousands)

For the year ended December 31:

IBM/wholly owned subsidiaries

Less-than-wholly owned subsidiaries

Complementary

2019

352.6

9.6

21.6

As a globally integrated enterprise, IBM operates in more than
175 countries and is continuing to shift our business to the
higher value segments of enterprise IT. We continue to remix
our skills and people needs to match the best opportunities in
the marketplace.

The complementary workforce is an approximation of equivalent
full-time employees hired under temporary, part-time and
limited-term employment arrangements to meet specific
business needs in a flexible and cost-effective manner.

Management Discussion International Business Machines Corporation and Subsidiary CompaniesReport of Management
International Business Machines Corporation and Subsidiary Companies

Management Responsibility
for Financial Information
Responsibility for the integrity and objectivity of the financial
information presented in this Annual Report rests with IBM
management. The accompanying financial statements have been
prepared in accordance with accounting principles generally
accepted in the United States of America, applying certain
estimates and judgments as required.

IBM maintains an effective internal control structure. It consists,
in part, of organizational arrangements with clearly defined lines
of responsibility and delegation of authority, and comprehensive
systems and control procedures. An important element of the
control environment is an ongoing internal audit program. Our
system also contains self-monitoring mechanisms, and actions
are taken to correct deficiencies as they are identified.

To assure the effective administration of internal controls,
we carefully select and train our employees, develop and
disseminate written policies and procedures, provide appropriate
communication channels and foster an environment conducive to
the effective functioning of controls. We believe that it is essential
for the company to conduct its business affairs in accordance
with the highest ethical standards, as set forth in the IBM
Business Conduct Guidelines. These guidelines, translated into
numerous languages, are distributed to employees throughout
the world, and reemphasized through internal programs to assure
that they are understood and followed.

The Audit Committee of the Board of Directors is composed
solely of independent, non-management directors, and is
responsible for recommending to the Board the independent
registered public accounting firm to be retained for the coming
year, subject to stockholder ratification. The Audit Committee
meets regularly and privately with the independent registered
public accounting firm, with the company’s internal auditors, as
well as with IBM management, to review accounting, auditing,
internal control structure and financial reporting matters.

Management’s Report on Internal Control
Over Financial Reporting
Management is responsible for establishing and maintaining
adequate internal control over financial reporting of the company.
Internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external
purposes in accordance with accounting principles generally
accepted in the United States of America.

The company’s internal control over financial reporting includes
those policies and procedures that (i) pertain to the maintenance
of records that, in reasonable detail, accurately and fairly reflect
the transactions and dispositions of the assets of the company;
(ii) provide reasonable assurance that transactions are recorded
as necessary to permit preparation of financial statements in
accordance with accounting principles generally accepted in the
United States of America, and that receipts and expenditures
of the company are being made only in accordance with
authorizations of management and directors of the company;
and (iii) provide reasonable assurance regarding prevention or
timely detection of unauthorized acquisition, use, or disposition
of the company’s assets that could have a material effect on the
financial statements.

Because of its inherent limitations, internal control over
financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future
periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree
of compliance with the policies or procedures may deteriorate.

Management conducted an evaluation of the effectiveness of
internal control over financial reporting based on the criteria
established in Internal Control—Integrated Framework (2013)
issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO). Based on this evaluation,
management concluded that the company’s internal control
over financial reporting was effective as of December 31, 2019.

PricewaterhouseCoopers LLP, an independent registered public
accounting firm, is retained to audit IBM’s Consolidated Financial
Statements and the effectiveness of the internal control over
financial reporting. Its accompanying report is based on audits
conducted in accordance with the standards of the Public
Company Accounting Oversight Board (United States).

Virginia M. Rometty
Chairman, President and Chief Executive Officer
February 25, 2020

James J. Kavanaugh
Senior Vice President and Chief Financial Officer
February 25, 2020

Report of Independent Registered Public Accounting Firm
International Business Machines Corporation and Subsidiary Companies

To the Board of Directors and Stockholders of
International Business Machines Corporation

Opinions on the Financial Statements and Internal Control
over Financial Reporting

We have audited the accompanying consolidated balance
sheets of International Business Machines Corporation and its
subsidiaries (the “Company”) as of December 31, 2019 and
2018, and the related consolidated statements of income, of
comprehensive income, of equity and of cash flows for each of
the three years in the period ended December 31, 2019, including
the related notes (collectively referred to as the “consolidated
financial statements”). We also have audited the Company’s
internal control over financial reporting as of December 31, 2019,
based on criteria established in Internal Control—Integrated
Framework (2013) issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO).

In our opinion, the consolidated financial statements referred to
above present fairly, in all material respects, the financial position
of the Company as of December 31, 2019 and 2018, and the
results of its operations and its cash flows for each of the three
years in the period ended December 31, 2019 in conformity with
accounting principles generally accepted in the United States
of America. Also in our opinion, the Company maintained, in all
material respects, effective internal control over financial reporting
as of December 31, 2019, based on criteria established in Internal
Control—Integrated Framework (2013) issued by the COSO.

Change in Accounting Principle
As discussed in Note B to the consolidated financial statements,
the Company changed the manner in which it accounts for leases
in 2019.

Basis for Opinions
The Company ’s management is responsible for these
consolidated financial statements, for maintaining effective
internal control over financial reporting, and for its assessment
of the effectiveness of internal control over financial reporting,
included in the accompanying Management’s Report on Internal
Control Over Financial Reporting. Our responsibility is to express
opinions on the Company’s consolidated financial statements
and on the Company’s internal control over financial reporting
based on our audits. We are a public accounting firm registered
with the Public Company Accounting Oversight Board (United
States) (PCAOB) and are required to be independent with respect
to the Company in accordance with the U.S. federal securities
laws and the applicable rules and regulations of the Securities
and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of
the PCAOB. Those standards require that we plan and perform
the audits to obtain reasonable assurance about whether
the consolidated financial statements are free of material
misstatement, whether due to error or fraud, and whether
effective internal control over financial reporting was maintained
in all material respects.

Our audits of the consolidated financial statements included
performing procedures to assess the risks of material
misstatement of the consolidated financial statements, whether
due to error or fraud, and performing procedures that respond
to those risks. Such procedures included examining, on a test
basis, evidence regarding the amounts and disclosures in the
consolidated financial statements. Our audits also included
evaluating the accounting principles used and significant
estimates made by management, as well as evaluating the
overall presentation of the consolidated financial statements.
Our audit of internal control over financial reporting included
obtaining an understanding of internal control over financial
reporting, assessing the risk that a material weakness exists, and
testing and evaluating the design and operating effectiveness
of internal control based on the assessed risk. Our audits also
included performing such other procedures as we considered
necessary in the circumstances. We believe that our audits
provide a reasonable basis for our opinions.

Definition and Limitations of Internal Control over
Financial Reporting
A company’s internal control over financial reporting is a process
designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally
accepted accounting principles. A company’s internal control
over financial reporting includes those policies and procedures
that (i) pertain to the maintenance of records that, in reasonable
detail, accurately and fairly reflect the transactions and
dispositions of the assets of the company; (ii) provide reasonable
assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with
generally accepted accounting principles, and that receipts and
expenditures of the company are being made only in accordance
with authorizations of management and directors of the company;
and (iii) provide reasonable assurance regarding prevention or
timely detection of unauthorized acquisition, use, or disposition
of the company’s assets that could have a material effect on the
financial statements.

Critical Audit Matters
The critical audit matters communicated below are matters
arising from the current period audit of the consolidated
financial statements that were communicated or required to
be communicated to the audit committee and that (i) relate to
accounts or disclosures that are material to the consolidated
financial statements and (ii) involved our especially challenging,
subjective, or complex judgments. The communication of critical
audit matters does not alter in any way our opinion on the
consolidated financial statements, taken as a whole, and we are
not, by communicating the critical audit matters below, providing
separate opinions on the critical audit matters or on the accounts
or disclosures to which they relate.

Report of Independent Registered Public Accounting Firm
International Business Machines Corporation and Subsidiary Companies

Acquisition of Red Hat, Inc.—Valuation of Intangible
Assets Acquired
As described in Note E to the consolidated financial statements,
the Company completed its acquisition of Red Hat, Inc. for
total consideration of $35.1 billion during 2019, resulting in
approximately $13.5 billion in intangible assets and $23.1 billion
in goodwill being recorded. The intangible assets were comprised
of client relationships of $7.2 billion, completed technology of
$4.6 billion, and trademarks of $1.7 billion. Management applied
judgment in estimating the fair value of the intangible assets using
a discounted cash flow model, which involved the use of significant
estimates and assumptions with respect to revenue growth rates,
the customer attrition rate, and discount rates.

The principal considerations for our determination that
performing procedures relating to the valuation of intangible
assets acquired in connection with the acquisition of Red Hat,
Inc. is a critical audit matter are (i) there was a high degree of
auditor judgment and subjectivity in applying procedures relating
to the fair value measurement of intangible assets acquired
due to the significant amount of judgment by management
when developing the estimate; (ii) significant audit effort was
required in evaluating the significant assumptions relating to the
estimate, such as revenue growth rates, the customer attrition
rate, and discount rates; and (iii) the audit effort involved the use
of professionals with specialized skill and knowledge to assist in
performing these procedures and evaluating the audit evidence
obtained from these procedures.

Addressing the matter involved performing procedures and
evaluating audit evidence in connection with forming our
overall opinion on the consolidated financial statements. These
procedures included testing the effectiveness of controls relating
to the valuation of intangible assets acquired and controls over the
development of the assumptions, including the revenue growth
rates, the customer attrition rate, and discount rates. These
procedures also included, among others, reading the purchase
agreements, and testing management’s process for estimating the
fair value of intangible assets, using professionals with specialized
skill and knowledge to assist in doing so. Testing management’s
process included evaluating the appropriateness of the discounted
cash flow models, testing the completeness and accuracy of data
provided by management, and evaluating the reasonableness
of significant assumptions, including revenue growth rates, the
customer attrition rate, and discount rates. When assessing the
assumptions related to revenue growth rates and the customer
attrition rate, we evaluated whether the assumptions used were
reasonable considering the past performance of the acquiree
as well as industry data. The discount rates were evaluated by
considering the cost of capital of comparable businesses and
other industry factors. Professionals with specialized skill and
knowledge were used to assist in evaluating the appropriateness
of the Company’s discounted cash flow models.

Income Taxes—Uncertain Tax Positions
As described in Notes A and G to the consolidated financial
statements, the Company is subject to income taxes in the
United States and numerous foreign jurisdictions. As disclosed
by management, during the ordinary course of business there
are many transactions and calculations for which the ultimate tax
determination is uncertain. As a result, the Company recognizes
tax liabilities based on estimates of whether additional taxes
and interest will be due. As further described by management,

these tax liabilities are recognized when, despite management’s
belief that the tax return positions are supportable, management
believes that certain positions may not be fully sustained upon
review by tax authorities. Management bases its assessment of
the accruals for tax liabilities on many factors, including past
experience and interpretations of tax law. This assessment
relies on estimates and assumptions, and may involve a series
of complex judgments about future events. As of December 31,
2019, unrecognized tax benefits were $7.1 billion.

The principal considerations for our determination that
performing procedures relating to uncertain tax positions is
a critical audit matter are there was significant judgment by
management when estimating the tax liabilities for uncertain tax
positions, including applying complex tax laws, and a high degree
of estimation uncertainty based on potential for significant
adjustments as a result of audits by tax authorities or other forms
of tax settlement. This in turn led to a high degree of auditor
judgment, effort, and subjectivity in performing procedures to
evaluate the timely identification and measurement of uncertain
tax positions. Also, the evaluation of audit evidence available to
support the tax liabilities for uncertain tax positions is complex
and required significant auditor judgment as the nature of the
evidence is often inherently subjective, and the audit effort
involved the use of professionals with specialized skill and
knowledge to assist in evaluating the audit evidence obtained.

Addressing the matter involved performing procedures and
evaluating audit evidence in connection with forming our
overall opinion on the consolidated financial statements. These
procedures included testing the effectiveness of controls relating
to the identification and recognition of the liability for uncertain
tax positions, and controls addressing completeness of the
uncertain tax positions, as well as controls over measurement
of the liability. These procedures also included, among others,
(i) testing the information used in the calculation of the liability
for uncertain tax positions, including intercompany agreements,
international, federal, and state filing positions, and the related
final tax returns; (ii) testing the calculation of the liability for
uncertain tax positions by jurisdiction, including management’s
assessment of the technical merits of tax positions and estimates
of the amount of tax benefit expected to be sustained; (iii) testing
the completeness of management’s assessment of both the
identification of uncertain tax positions and possible outcomes
of each uncertain tax position; and (iv) evaluating the status and
results of income tax audits pending in various tax jurisdictions.
Professionals with specialized skill and knowledge were used to
assist in the evaluation of the completeness and measurement
of the Company’s uncertain tax positions, including evaluating
the reasonableness of management’s assessment of whether
tax positions are more-likely-than-not of being sustained and
the amount of potential benefit to be realized.

PricewaterhouseCoopers LLP
New York, New York
February 25, 2020

We, or firms that we have ultimately acquired, have served as
the Company’s auditor since 1923. For the period from 1923 to
1958, the Company was audited by firms that a predecessor firm
to PricewaterhouseCoopers LLP ultimately acquired.

Consolidated Income Statement
International Business Machines Corporation and Subsidiary Companies

($ in millions except per share amounts)

For the year ended December 31:

Revenue

Services

Sales

Financing

Total revenue

Cost

Services

Sales

Financing

Total cost

Gross profit

Expense and other (income)

Selling, general and administrative

Research, development and engineering

Intellectual property and custom development income

Other (income) and expense

Interest expense

Total expense and other (income)

Income from continuing operations before income taxes

Provision for income taxes

Income from continuing operations

Income/(loss) from discontinued operations, net of tax

Net income

Earnings/(loss) per share of common stock

Assuming dilution

Continuing operations

Discontinued operations

Total

Basic

Continuing operations

Discontinued operations

Total

Weighted-average number of common shares outstanding

Assuming dilution

Basic

Notes

2019

2018

2017

$47,493

$49,257 *

$48,652 *

P&T

28,252

1,402

77,147

32,491

7,263

904

40,659

36,488

20,604

5,989

(648)

(968)

1,344

26,322

10,166

731

9,435

(4)

28,735*

1,599

79,591

28,772*

1,715

79,139

33,687*

33,399*

7,835*

1,132

42,655

36,936

19,366

5,379

(1,026)

1,152

723

25,594

11,342

2,619

8,723

7,587*

1,210

42,196

36,943

19,680

5,590

(1,466)

1,125

615

25,543

11,400

5,642

5,758

(5)

$ 9,431

$ 8,728

$ 5,753

$ 10.57

$ 9.51

$ 6.14

(0.01)

0.01

0.00

$ 10.56

$ 9.52

$ 6.14

$ 10.63

$ 9.56

$ 6.17

0.00

0.01

0.00

$ 10.63

$ 9.57

$ 6.17

892,813,376

916,315,714

937,385,625

887,235,105

912,048,072

932,828,295

* Reclassified to conform to 2019 presentation. Refer to “Basis of Presentation” in note A, “Significant Accounting Policies.”

Amounts may not add due to rounding.

The accompanying notes are an integral part of the financial statements.

Consolidated Statement of Comprehensive Income
International Business Machines Corporation and Subsidiary Companies

($ in millions)

For the year ended December 31:

Net income

Other comprehensive income/(loss), before tax

Foreign currency translation adjustments

Net changes related to available-for-sale securities

Unrealized gains/(losses) arising during the period

Reclassification of (gains)/losses to net income

Total net changes related to available-for-sale securities

Unrealized gains/(losses) on cash flow hedges

Unrealized gains/(losses) arising during the period

Reclassification of (gains)/losses to net income

Total unrealized gains/(losses) on cash flow hedges

Retirement-related benefit plans

Prior service costs/(credits)

Net (losses)/gains arising during the period

Curtailments and settlements

Amortization of prior service (credits)/costs

Amortization of net (gains)/losses

Total retirement-related benefit plans

Other comprehensive income/(loss), before tax

Income tax (expense)/benefit related to items

of other comprehensive income

Other comprehensive income/(loss)

Total comprehensive income

Amounts may not add due to rounding.

The accompanying notes are an integral part of the financial statements.

Notes

2019

$ 9,431

2018

$8,728

2017

$5,753

(39)

(730)

152

—

(689)

(614)

(73)

(120)

(9)

1,843

1,681

1,029

(136)

893

(2)

—

(2)

(136)

449

313

(182)

(2,517)

(73)

2,966

204

(215)

(262)

(476)

$10,324

$8,252

(58)

(363)

(421)

682

(88)

2,889

3,502

3,235

(429)

2,806

$8,559

Consolidated Balance Sheet
International Business Machines Corporation and Subsidiary Companies

($ in millions except per share amounts)

At December 31:

Assets

Current assets

Cash and cash equivalents
Restricted cash
Marketable securities
Notes and accounts receivable—trade (net of allowances of

$299 in 2019 and $309 in 2018)

Short-term financing receivables (net of allowances of $188 in 2019 and $244 in 2018)
Other accounts receivable (net of allowances of $33 in 2019 and $38 in 2018)
Inventory
Deferred costs
Prepaid expenses and other current assets

Total current assets
Property, plant and equipment

Less: Accumulated depreciation
Property, plant and equipment—net
Operating right-of-use assets—net*
Long-term financing receivables (net of allowances of $33 in 2019 and $48 in 2018)
Prepaid pension assets
Deferred costs
Deferred taxes
Goodwill
Intangible assets—net
Investments and sundry assets

Total assets

Liabilities and equity

Current liabilities

Taxes
Short-term debt
Accounts payable
Compensation and benefits
Deferred income
Operating lease liabilities*
Other accrued expenses and liabilities

Total current liabilities
Long-term debt
Retirement and nonpension postretirement benefit obligations
Deferred income
Operating lease liabilities*
Other liabilities

Total liabilities

Commitments and Contingencies
Equity
IBM stockholders’ equity

Notes

2019

2018

$ 8,172
141
696

$ 11,379
225
618

7,870
14,192
1,733
1,619
1,896
2,101
38,420
32,028
22,018
10,010
4,996
8,712
6,865
2,472
5,182
58,222
15,235
2,074

7,432
22,388
743
1,682
2,300
2,378
49,146
32,460
21,668
10,792
—
9,148
4,666
2,676
5,216
36,265
3,087
2,386

$ 152,186

$ 123,382

$ 2,839
8,797
4,896
3,406
12,026
1,380
4,357
37,701
54,102
17,142
3,851
3,879
14,526

$ 3,046
10,207
6,558
3,310
11,165
—
3,941
38,227
35,605
17,002
3,445
—
12,174

131,202

106,452

J
C

L
L
L
M
K
V
C
G
N
N
O

G
I&P

I&P
V

M
Q

R
S

Common stock, par value $.20 per share, and additional paid-in capital

55,895

55,151

Shares authorized: 4,687,500,000
Shares issued (2019—2,237,996,975; 2018—2,233,427,058)

Retained earnings
Treasury stock, at cost (shares: 2019—1,350,886,521; 2018—1,340,947,648)
Accumulated other comprehensive income/(loss)
Total IBM stockholders’ equity

Noncontrolling interests

Total equity

Total liabilities and equity

* Reflects the adoption of the FASB guidance on leases.

Amounts may not add due to rounding.

The accompanying notes are an integral part of the financial statements.

162,954
(169,413)
(28,597)
20,841
144

20,985

159,206
(168,071)
(29,490)
16,796
134

16,929

$ 152,186

$ 123,382

Consolidated Statement of Cash Flows
International Business Machines Corporation and Subsidiary Companies

($ in millions)

For the year ended December 31:

Cash flows from operating activities

Net income

Adjustments to reconcile net income to cash provided by operating activities

Depreciation

Amortization of intangibles

Stock-based compensation

Deferred taxes

Net (gain)/loss on asset sales and other

Change in operating assets and liabilities, net of acquisitions/divestitures

Receivables (including financing receivables)

Retirement related

Inventory

Other assets/other liabilities

Accounts payable

Net cash provided by operating activities

Cash flows from investing activities

Payments for property, plant and equipment

Proceeds from disposition of property, plant and equipment

Investment in software

Purchases of marketable securities and other investments

Proceeds from disposition of marketable securities and other investments

Non-operating finance receivables—net

Acquisition of businesses, net of cash acquired

Divestiture of businesses, net of cash transferred

Net cash provided by/(used in) investing activities

Cash flows from financing activities

Proceeds from new debt

Payments to settle debt

Short-term borrowings/(repayments) less than 90 days—net

Common stock repurchases

Common stock repurchases for tax withholdings

Financing—other

Cash dividends paid

Net cash provided by/(used in) financing activities

Effect of exchange rate changes on cash, cash equivalents and restricted cash

Net change in cash, cash equivalents and restricted cash

Cash, cash equivalents and restricted cash at January 1

2019

2018

2017

$ 9,431

$ 8,728

$ 5,753

4,209

1,850

679

(1,527)

(1,096)

502

301

858

(503)

14,770

3,127

1,353

510

853

123

1,006

1,368

(127)

(1,819)

126

15,247

3,021

1,520

534

(931)

1,297

1,014

4,437

16,724

(2,286)

(3,395)

(3,229)

537

(621)

(3,693)

3,961

6,720

(32,630)

1,076

248

(569)

(7,041)

6,487

(503)

(139)

—

460

(544)

(4,949)

3,910

(2,028)

(496)

(205)

(26,936)

(4,913)

(7,081)

31,825

(12,944)

(2,597)

(1,361)

(272)

(5,707)

9,042

(167)

(3,290)

11,604

6,891

(8,533)

1,341

(4,443)

(171)

111

(5,666)

(10,469)

(495)

(630)

12,234

9,643

(6,816)

620

(4,340)

(193)

175

(5,506)

(6,418)

937

4,161

8,073

Cash, cash equivalents and restricted cash at December 31

$ 8,314

$ 11,604

$12,234

Supplemental data

Income taxes paid—net of refunds received

Interest paid on debt

Amounts may not add due to rounding.

The accompanying notes are an integral part of the financial statements.

$ 2,091

$ 1,685

$ 1,745

$ 1,423

$ 1,597

$ 1,208

Consolidated Statement of Equity
International Business Machines Corporation and Subsidiary Companies

($ in millions except per share amounts)

Common
Stock and
Additional
Paid-In Capital

Retained
Earnings

Treasury
Stock

Accumulated
Other
Comprehensive
Income/(Loss)

Total IBM
’
Stockholders
Equity

Non-
Controlling
Interests

Total
Equity

2017
Equity, January 1, 2017
Cumulative effect of change in

accounting principle*

Net income plus other

comprehensive income/(loss)

Net income
Other comprehensive

income/(loss)

Total comprehensive income/(loss)
Cash dividends paid—

common stock ($5.90 per share)

Common stock issued under

employee plans
(4,311,998 shares)

Purchases (1,226,080 shares)
and sales (463,083 shares)
of treasury stock under
employee plans—net

Other treasury shares purchased,
not retired (27,237,179 shares)

Changes in other equity
Changes in noncontrolling interests

$53,935

$152,759

$(159,050)

$(29,398)

$18,246

$146

$18,392

102

5,753

102

2,806

5,753

2,806
$ 8,559

5,753

2,806
$ 8,559

(5,506)

631

(134)

(4,323)

(116)

(4,323)
0

(116)

(4,323)
0
(15)

(15)

Equity, December 31, 2017

$54,566

$153,126

$(163,507)

$(26,592)

$17,594

$131

$17,725

* Reflects the adoption of the FASB guidance on intra-entity transfers of assets.
Amounts may not add due to rounding.
The accompanying notes are an integral part of the financial statements.

($ in millions except per share amounts)

Common
Stock and
Additional
Paid-In Capital

Retained
Earnings

Treasury
Stock

Accumulated
Other
Comprehensive
Income/(Loss)

Total IBM
’
Stockholders
Equity

Non-
Controlling
Interests

Total
Equity

2018
Equity, January 1, 2018
Cumulative effect of change in

accounting principle

Revenue*
Stranded tax effects/other*

Net income plus other

comprehensive income/(loss)

Net income
Other comprehensive

income/(loss)

Total comprehensive income/(loss)
Cash dividends paid—

common stock ($6.21 per share)

Common stock issued under

employee plans
(3,998,245 shares)

Purchases (1,173,416 shares)
and sales (424,589 shares)
of treasury stock under
employee plans—net

Other treasury shares purchased,
not retired (32,949,233 shares)

Changes in other equity
Changes in noncontrolling interests

$54,566

$153,126

$(163,507)

$(26,592)

$17,594

$131

$17,725

580
2,422

8,728

(5,666)

580

(2,422)

(476)

8,728

(476)
$ 8,252

(5,666)

8,728

(476)
$ 8,252

(5,666)

585

(117)

(4,447)

(103)

(4,447)
0

(103)

(4,447)
0
3

Equity, December 31, 2018

$55,151

$159,206

$(168,071)

$(29,490)

$16,796

$134

$16,929

* Reflects the adoption of FASB guidance. Refer to note B, “Accounting Changes.”
Amounts may not add due to rounding.
The accompanying notes are an integral part of the financial statements.

Consolidated Statement of Equity
International Business Machines Corporation and Subsidiary Companies

($ in millions except per share amounts)

2019

Common
Stock and
Additional
Paid-In Capital

Retained
Earnings

Treasury
Stock

Accumulated
Other
Comprehensive
Income/(Loss)

Total IBM
’
Stockholders
Equity

Non-
Controlling
Interests

Total
Equity

Equity, January 1, 2019

$55,151

$159,206

$(168,071)

$(29,490)

$16,796

$134

$16,929

Net income plus other

comprehensive income/(loss)

Net income

Other comprehensive

income/(loss)

Total comprehensive income/(loss)

Cash dividends paid—

9,431

893

$10,324

9,431

893

$10,324

common stock ($6.43 per share)

(5,707)

Common stock issued under

employee plans
(4,569,917 shares)

Purchases (2,000,704 shares)

and sales (2,041,347 shares)
of treasury stock under
employee plans—net

Other treasury shares purchased,
not retired (9,979,516 shares)

Changes in other equity

Changes in noncontrolling interests

745

(11)

(1,331)

(5)

(1,331)

(5)

(1,331)

(5)

Equity, December 31, 2019

$55,895

$162,954

$(169,413)

$(28,597)

$20,841

$144

$20,985

Amounts may not add due to rounding.

The accompanying notes are an integral part of the financial statements.

NOTE A. SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying Consolidated Financial Statements and
footnotes of the International Business Machines Corporation
(IBM or the company) have been prepared in accordance with
accounting principles generally accepted in the United States of
America (GAAP).

Within the financial statements and tables presented, certain
columns and rows may not add due to the use of rounded
numbers for disclosure purposes. Percentages presented are
calculated from the underlying whole-dollar amounts. Certain
prior-year amounts have been reclassified to conform to the
current year presentation. Specifically, revenues and related
costs for post-contract support (PCS) provided for perpetual
(one-time charge) software licenses were reclassified from
Services Revenue to Sales Revenue and Services Cost to Sales
Cost within the Consolidated Income Statement. The company
reclassified $2.1 billion within revenue and $0.4 billion within
cost for each of the years ended December 31, 2018 and
2017. This reclassification had no impact on total revenue,
total cost, net income, financial position or cash flows for any
periods presented. Other immaterial reclassifications have been
annotated where applicable.

On July 9, 2019, the company completed the acquisition of all
the outstanding shares of Red Hat, Inc. (Red Hat). Refer to note
E, “Acquisitions & Divestitures,” and note N, “Intangible Assets
Including Goodwill,” for additional information on the impacts
to the consolidated financial results at and for the year ended
December 31, 2019.

In the first quarter of 2019, the company made a number of
changes to its organizational structure and management system.
These changes impacted the company’s reportable segments, but
did not impact the company’s Consolidated Financial Statements.
Refer to note D, “Segments,” for additional information on the
company’s reportable segments. The periods presented in this
Annual Report are reported on a comparable basis.

The impact of the Tax Cuts and Jobs Act (U.S. tax reform) resulted
in a charge to tax expense of $0.1 billion, $2.0 billion and $5.5
billion, for the years ended December 31, 2019, 2018 and 2017,
respectively. Refer to note G, “Taxes,” for additional information.

Noncontrolling interest amounts of $25 million, $17 million and $17
million, net of tax, for the years ended December 31, 2019, 2018
and 2017, respectively, are included as a reduction within other
(income) and expense in the Consolidated Income Statement.

Principles of Consolidation
The Consolidated Financial Statements include the accounts of IBM
and its controlled subsidiaries, which are primarily majority owned.
Any noncontrolling interest in the equity of a subsidiary is reported
as a component of total equity in the Consolidated Balance Sheet.
Net income and losses attributable to the noncontrolling interest

is reported as described above in the Consolidated Income
Statement. The accounts of variable interest entities (VIEs) are
included in the Consolidated Financial Statements, if required.
Investments in business entities in which the company does not
have control but has the ability to exercise significant influence
over operating and financial policies, are accounted for using the
equity method and the company’s proportionate share of income
or loss is recorded in other (income) and expense. The accounting
policy for other investments in equity securities is described
within the “Marketable Securities” section of this note. Equity
investments in non-publicly traded entities lacking controlling
financial interest or significant influence are primarily measured
at cost, net of impairment, if any. All intercompany transactions
and accounts have been eliminated in consolidation.

Use of Estimates
The preparation of financial statements in conformity with GAAP
requires management to make estimates and assumptions that
affect amounts that are reported in the Consolidated Financial
Statements and accompanying disclosures. Estimates are made
for the following, among others: revenue, costs to complete
service contracts, income taxes, pension assumptions,
valuation of assets including goodwill and intangible assets,
loss contingencies, allowance for credit losses and other matters.
These estimates are based on management’s best knowledge of
current events, historical experience, actions that the company
may undertake in the future and on various other assumptions
that are believed to be reasonable under the circumstances.
Actual results may be different from these estimates.

Revenue
Effective January 1, 2018, the company adopted the new
accounting standard related to the recognition of revenue in
contracts with customers under the modified retrospective
transition method. This method was applied to contracts that
were not complete as of the date of initial application. The impact
related to adopting the new standard was not material. Certain
changes resulting from adopting the new standard, such as
terminology differences, impacted the company’s description of
its significant accounting policies compared to 2017. For further
information regarding the adoption of the new standard, see note
B, “Accounting Changes,” and note C, “Revenue Recognition.”

The company accounts for a contract with a client when it has
written approval, the contract is committed, the rights of the
parties, including payment terms, are identified, the contract has
commercial substance and consideration is probable of collection.

Revenue is recognized when, or as, control of a promised product
or service transfers to a client, in an amount that reflects the
consideration to which the company expects to be entitled
in exchange for transferring those products or services. If
the consideration promised in a contract includes a variable
amount, the company estimates the amount to which it expects
to be entitled using either the expected value or most likely
amount method. The company’s contracts may include terms

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies75

that could cause variability in the transaction price, including,
for example, rebates, volume discounts, service-level penalties,
and performance bonuses or other forms of contingent revenue.

The company reports revenue net of any revenue-based taxes
assessed by governmental authorities that are imposed on and
concurrent with specific revenue-producing transactions.

The company only includes estimated amounts in the transaction
price to the extent it is probable that a significant reversal
of cumulative revenue recognized will not occur when the
uncertainty associated with the variable consideration is resolved.
The company may not be able to reliably estimate contingent
revenue in certain long-term arrangements due to uncertainties
that are not expected to be resolved for a long period of time
or when the company’s experience with similar types of
contracts is limited. The company’s arrangements infrequently
include contingent revenue. Changes in estimates of variable
consideration are included in note C, “Revenue Recognition.”

The company’s standard billing terms are that payment is due upon
receipt of invoice, payable within 30 days. Invoices are generally
issued as control transfers and/or as services are rendered.
Additionally, in determining the transaction price, the company
adjusts the promised amount of consideration for the effects of
the time value of money if the billing terms are not standard and
the timing of payments agreed to by the parties to the contract
provide the client or the company with a significant benefit
of financing, in which case the contract contains a significant
financing component. As a practical expedient, the company
does not account for significant financing components if the period
between when the company transfers the promised product or
service to the client and when the client pays for that product or
service will be one year or less. Most arrangements that contain a
financing component are financed through the company’s Global
Financing business and include explicit financing terms.

The company may include subcontractor services or third-party
vendor equipment or software in certain integrated services
arrangements. In these types of arrangements, revenue from
sales of third-party vendor products or services is recorded
net of costs when the company is acting as an agent between
the client and the vendor, and gross when the company is the
principal for the transaction. To determine whether the company
is an agent or principal, the company considers whether it obtains
control of the products or services before they are transferred
to the customer. In making this evaluation, several factors are
considered, most notably whether the company has primary
responsibility for fulfillment to the client, as well as inventory
risk and pricing discretion.

The company recognizes revenue on sales to solution providers,
resellers and distributors (herein referred to as resellers) when
the reseller has economic substance apart from the company
and the reseller is considered the principal for the transaction
with the end-user client.

In addition to the aforementioned general policies, the following
are the specific revenue recognition policies for arrangements
with multiple performance obligations and for each major
category of revenue.

Arrangements with Multiple Performance Obligations
The company’s global capabilities as a cognitive solutions and
cloud platform company include services, software, hardware
and related financing. The company enters into revenue
arrangements that may consist of any combination of these
products and services based on the needs of its clients.

The company continues to develop new products and offerings
and continuously reinvent its platforms and delivery methods,
including through the use of cloud and as-a-Service models.
These are not separate businesses; they are offerings across
the segments that address market opportunities in analytics,
data, cloud and security. Revenue from these offerings follows
the specific revenue recognition policies for arrangements with
multiple performance obligations and for each major category of
revenue, depending on the type of offering, which are comprised
of services, hardware and/or software.

To the extent that a product or service in multiple performance
obligation arrangements is subject to other specific accounting
guidance, such as leasing guidance, that product or service is
accounted for in accordance with such specific guidance. For all
other products or services in these arrangements, the company
determines if the products or services are distinct and allocates
the consideration to each distinct performance obligation on a
relative standalone selling price basis.

When products and services are not distinct, the company
determines an appropriate measure of progress based on the
nature of its overall promise for the single performance obligation.
The revenue policies in the Services, Hardware and/or Software
sections below are then applied to each performance obligation,
as applicable.

Services
The company’s primary services offerings include infrastructure
and cloud services, including outsourcing, and other managed
services; application management services; global process
services (GPS); maintenance and support; and consulting,
including the design and development of complex IT systems to
a client’s specifications (e.g., design and build). Many of these
services can be delivered entirely or partially through cloud
or as-a-Service delivery models. The company’s services are
provided on a time-and-material basis, as a fixed-price contract
or as a fixed-price per measure of output contract and the
contract terms range from less than one year to over 10 years.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies76

In services arrangements, the company typically satisfies the
performance obligation and recognizes revenue over time. In
design and build arrangements, the performance obligation is
satisfied over time either because the client controls the asset
as it is created (e.g., when the asset is built at the customer site)
or because the company’s performance does not create an asset
with an alternative use and the company has an enforceable right
to payment plus a reasonable profit for performance completed
to date. In most other services arrangements, the performance
obligation is satisfied over time because the client simultaneously
receives and consumes the benefits provided as the company
performs the services.

In outsourcing, other managed services, application management,
GPS and other cloud-based services arrangements, the company
determines whether the services performed during the initial
phases of the arrangement, such as setup activities, are distinct.
In most cases, the arrangement is a single performance obligation
comprised of a series of distinct services that are substantially the
same and that have the same pattern of transfer (i.e., distinct days
of service). The company applies a measure of progress (typically
time-based) to any fixed consideration and allocates variable
consideration to the distinct periods of service based on usage. As a
result, revenue is generally recognized over the period the services
are provided on a usage basis. This results in revenue recognition
that corresponds with the value to the client of the services
transferred to date relative to the remaining services promised.

Revenue from time-and-material contracts is recognized on an
output basis as labor hours are delivered and/or direct expenses
are incurred. Revenue from as-a-Service type contracts,
such as Infrastructure-as-a-Service, is recognized either on a
straight-line basis or on a usage basis, depending on the terms of
the arrangement (such as whether the company is standing ready
to perform or whether the contract has usage-based metrics). If
an as-a-Service contract includes setup activities, those promises
in the arrangement are evaluated to determine if they are distinct.

Revenue related to maintenance and support services and
extended warranty is recognized on a straight-line basis over the
period of performance because the company is standing ready
to provide services.

In design and build contracts, revenue is recognized based on
progress toward completion of the performance obligation using
a cost-to-cost measure of progress. Revenue is recognized based
on the labor costs incurred to date as a percentage of the total
estimated labor costs to fulfill the contract. Due to the nature of
the work performed in these arrangements, the estimation of cost
at completion is complex, subject to many variables and requires
significant judgment. Key factors reviewed by the company to
estimate costs to complete each contract are future labor and
product costs and expected productivity efficiencies. Changes
in original estimates are reflected in revenue on a cumulative
catch-up basis in the period in which the circumstances that gave

rise to the revision become known by the company. Refer to note
C, “Revenue Recognition,” for the amount of revenue recognized
in the reporting period on a cumulative catch-up basis (i.e.,
from performance obligations satisfied, or partially satisfied, in
previous periods).

The company performs ongoing profitability analyses of its design
and build services contracts accounted for using a cost-to-cost
measure of progress in order to determine whether the latest
estimates of revenues, costs and profits require updating. If at any
time these estimates indicate that the contract will be unprofitable,
the entire estimated loss for the remainder of the contract is
recorded immediately. For other types of services contracts, any
losses are recorded as incurred.

In some services contracts, the company bills the client prior
to recognizing revenue from performing the services. Deferred
income of $5,106 million and $5,424 million at December 31,
2019 and 2018, respectively, is included in the Consolidated
Balance Sheet. In other services contracts, the company
performs the services prior to billing the client. When the
company performs services prior to billing the client in design
and build contracts, the right to consideration is typically subject
to milestone completion or client acceptance and the unbilled
accounts receivable is classified as a contract asset. At December
31, 2019 and 2018, contract assets for services contracts of $424
million and $421 million, respectively, are included in prepaid
expenses and other current assets in the Consolidated Balance
Sheet. The remaining amount of unbilled accounts receivable of
$1,071 million and $1,075 million at December 31, 2019 and
2018, respectively, is included in notes and accounts receivable—
trade in the Consolidated Balance Sheet.

Billings usually occur in the month after the company performs
the services or in accordance with specific contractual provisions.

Hardware
The company’s hardware offerings include the sale or lease of
system servers and storage solutions. The capabilities of these
products can also be delivered through as-a-Service or cloud
delivery models, such as Storage-as-a-Service. The company
also offers installation services for its more complex hardware
products. Hardware offerings are often sold with distinct
maintenance services, described in the Services section above.

Revenue from hardware sales is recognized when control has
transferred to the customer which typically occurs when the
hardware has been shipped to the client, risk of loss has transferred
to the client and the company has a present right to payment for
the hardware. In limited circumstances when a hardware sale
includes client acceptance provisions, revenue is recognized either
when client acceptance has been obtained, client acceptance
provisions have lapsed, or the company has objective evidence
that the criteria specified in the client acceptance provisions
have been satisfied. Revenue from hardware sales-type leases
is recognized at the beginning of the lease term. Revenue from
rentals and operating leases is recognized on a straight-line basis
over the term of the rental or lease.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies77

Revenue from as-a-Service arrangements is recognized either
on a straight-line basis or on a usage basis as described in the
Services section above. Installation services are accounted for
as distinct performance obligations with revenue recognized
as the services are performed. Shipping and handling activities
that occur after the client has obtained control of a product are
accounted for as an activity to fulfill the promise to transfer
the product rather than as an additional promised service
and, therefore, no revenue is deferred and recognized over the
shipping period.

Software
The company’s software offerings include cognitive applications,
which contains many of the company’s strategic areas including
analytics, data and security; cloud and data platforms, which
contains the company’s distributed middleware and data
platform software, including Red Hat; transaction processing
platforms, which primarily supports mission-critical systems
for clients; and, operating systems software, which provides
operating systems for IBM Z and Power Systems hardware. These
offerings primarily include proprietary software and, in some
cases, open source software, and many can be delivered entirely
or partially through as-a-Service or cloud delivery models, while
others are delivered as on-premise software licenses.

Revenue from proprietary perpetual (one-time charge) license
software is recognized at a point in time at the inception of the
arrangement when control transfers to the client, if the software
license is distinct from the PCS offered by the company. In limited
circumstances, when the software requires continuous updates
to provide the intended functionality, the software license and
PCS are not distinct and revenue for the single performance
obligation is recognized over time as the PCS is provided. This is
only applicable to certain security software perpetual licenses
offered by the company.

Revenue from proprietary term license software is recognized
at a point in time for the committed term of the contract (which
is typically one month due to client termination rights), unless
consideration depends on client usage, in which case revenue
is recognized when the usage occurs. Clients may contract
to convert their existing IBM term license software into
perpetual license software plus PCS. When proprietary term
license software is converted to perpetual license software,
the consideration becomes fixed with no cancellability and,
therefore, revenue for the perpetual license is recognized upon
conversion, consistent with the accounting for other perpetual
licenses, as described above. PCS revenue is recognized as
described below.

The company also has open source software offerings. Since
open source software is offered under an open source licensing
model and therefore, the license is available for free, the
standalone selling price is zero. As such, when the license is
sold with PCS or other products and services, no consideration
is allocated to the license when it is a distinct performance
obligation and therefore no revenue is recognized when control of
the license transfers to the client. Revenue is recognized over the
PCS period. In certain cases, open source software is bundled
with proprietary software and, if the open source software is
not considered distinct, the software bundle (e.g., Cloud Pak) is
accounted for under a proprietary software model.

Revenue from PCS is recognized over the contract term on a
straight-line basis because the company is providing a service
of standing ready to provide support, when-and-if needed, and
is providing unspecified software upgrades on a when-and-if
available basis over the contract term.

Revenue from software hosting or Software-as-a-Service
arrangements is recognized either on a straight-line basis or
on a usage basis as described in the Services section above. In
software hosting arrangements, the rights provided to the client
(e.g., ownership of a license, contract termination provisions and
the feasibility of the client to operate the software) are considered
in determining whether the arrangement includes a license. In
arrangements that include a software license, the associated
revenue is recognized in accordance with the software license
recognition policy above rather than over time as a service.

Financing
Financing income attributable to sales-type leases, direct
financing leases and loans is recognized on the accrual basis
using the effective interest method. Operating lease income is
recognized on a straight-line basis over the term of the lease.

Standalone Selling Price
The company allocates the transaction price to each performance
obligation on a relative standalone selling price basis. The
standalone selling price (SSP) is the price at which the company
would sell a promised product or service separately to a client.
In most cases, the company is able to establish SSP based on
the observable prices of products or services sold separately
in comparable circumstances to similar clients. The company
typically establishes SSP ranges for its products and services
which are reassessed on a periodic basis or when facts and
circumstances change.

In certain instances, the company may not be able to establish a
SSP range based on observable prices and the company estimates
SSP. The company estimates SSP by considering multiple factors
including, but not limited to, overall market conditions, including
geographic or regional specific factors, competitive positioning,
competitor actions, internal costs, profit objectives and pricing
practices. Additionally, in certain circumstances, the company
may estimate SSP for a product or service by applying the residual
approach. This approach is most commonly used when certain
perpetual software licenses are only sold bundled with one year
of PCS and a price has not been established for the software.
Estimating SSP is a formal process that includes review and
approval by the company’s management.

Services Costs
Recurring operating costs for services contracts are recognized
as incurred. For fixed-price design and build contracts, the costs
of external hardware and software accounted for under the
cost-to-cost measure of progress are deferred and recognized
based on the labor costs incurred to date (i.e., the measure of
progress), as a percentage of the total estimated labor costs
to fulfill the contract as control transfers over time for these
performance obligations. Certain eligible, nonrecurring costs
(i.e., setup costs) incurred in the initial phases of outsourcing
contracts and other cloud-based services contracts, including
Software-as-a-Service arrangements, are capitalized when
the costs relate directly to the contract, the costs generate or

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies78

enhance resources of the company that will be used in satisfying
the performance obligation in the future, and the costs are
expected to be recovered. These costs consist of transition and
setup costs related to the installation of systems and processes
and other deferred fulfillment costs, including, for example,
prepaid assets used in services contracts (i.e., prepaid software
or prepaid maintenance). Capitalized costs are amortized on a
straight-line basis over the expected period of benefit, which
includes anticipated contract renewals or extensions, consistent
with the transfer to the client of the services to which the asset
relates. Additionally, fixed assets associated with these contracts
are capitalized and depreciated on a straight-line basis over the
expected useful life of the asset. If an asset is contract specific,
then the depreciation period is the shorter of the useful life
of the asset or the contract term. Amounts paid to clients in
excess of the fair value of acquired assets used in outsourcing
arrangements are deferred and amortized on a straight-line
basis as a reduction of revenue over the expected period of
benefit. The company performs periodic reviews to assess the
recoverability of deferred contract transition and setup costs. If
the carrying amount is deemed not recoverable, an impairment
loss is recognized. Refer to note C, “Revenue Recognition,” for
the amount of deferred costs to fulfill a contract at December 31,
2019 and 2018.

In situations in which an outsourcing contract is terminated,
the terms of the contract may require the client to reimburse
the company for the recovery of unbilled accounts receivable,
unamortized deferred costs incurred to purchase specific assets
utilized in the delivery of services and to pay any additional costs
incurred by the company to transition the services.

Software Costs
Costs that are related to the conceptual formulation and design
of licensed software programs are expensed as incurred to
research, development and engineering expense; costs that
are incurred to produce the finished product after technological
feasibility has been established are capitalized as an intangible
asset. Capitalized amounts are amortized on a straight-line
basis over periods ranging up to three years and are recorded
in software cost within cost of sales. The company performs
periodic reviews to ensure that unamortized program costs
remain recoverable from future revenue. Costs to support or
service licensed programs are charged to software cost within
cost of sales as incurred.

The company capitalizes certain costs that are incurred to
purchase or develop internal-use software. Internal-use software
programs also include software used by the company to deliver
Software-as-a-Service when the client does not receive a license
to the software and the company has no substantive plans to
market the software externally. Capitalized costs are amortized
on a straight-line basis over periods ranging up to three years
and are recorded in selling, general and administrative expense
or cost of sales, depending on whether the software is used by
the company in revenue generating transactions. Additionally, the
company may capitalize certain types of implementation costs
and amortize them over the term of the arrangement when the
company is a customer in a cloud-computing arrangement.

Incremental Costs of Obtaining a Contract
Incremental costs of obtaining a contract (e.g., sales commissions)
are capitalized and amortized on a straight-line basis over the
expected customer relationship period if the company expects
to recover those costs. Prior to January 1, 2018, the company
expensed these costs as incurred. The expected customer
relationship period is determined based on the average customer
relationship period, including expected renewals, for each offering
type and ranges from three to six years. Expected renewal periods
are only included in the expected customer relationship period if
commission amounts paid upon renewal are not commensurate
with amounts paid on the initial contract. Incremental costs of
obtaining a contract include only those costs the company incurs
to obtain a contract that it would not have incurred if the contract
had not been obtained. The company has determined that certain
commissions programs meet the requirements to be capitalized.
Some commission programs are not subject to capitalization as
the commission expense is paid and recognized as the related
revenue is recognized. Additionally, as a practical expedient, the
company expenses costs to obtain a contract as incurred if the
amortization period would have been a year or less. These costs
are included in selling, general and administrative expenses.

Product Warranties
The company offers warranties for its hardware products
that generally range up to three years, with the majority being
either one or three years. Any cost of standard warranties is
accrued when the corresponding revenue is recognized. The
company estimates its standard warranty costs to the product
based on historical warranty claim experience and estimates
of future spending, and applies this estimate to the revenue
stream for products under warranty. Estimated future costs
for warranties applicable to revenue recognized in the current
period are charged to cost of sales. The warranty liability is
reviewed quarterly to verify that it properly reflects the remaining
obligation based on the anticipated expenditures over the
balance of the obligation period. Adjustments are made when
actual warranty claim experience differs from estimates. Costs
from fixed-price support or maintenance contracts, including
extended warranty contracts, are recognized as incurred.

Revenue from extended warranty contracts is initially recorded as
deferred income and subsequently recognized on a straight-line
basis over the delivery period because the company is providing
a service of standing ready to provide services over such term.

Refer to note R, “Commitments & Contingencies,” for additional
information.

Shipping and Handling
Costs related to shipping and handling are recognized as incurred
and included in cost in the Consolidated Income Statement.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies79

Expense and Other Income
Selling, General and Administrative
Selling, general and administrative (SG&A) expense is charged
to income as incurred, except for certain sales commissions,
which are capitalized and amortized as of January 1, 2018. For
further information regarding capitalizing sales commissions, see
“Incremental Costs of Obtaining a Contract” above. Expenses
of promoting and selling products and services are classified as
selling expense and, in addition to sales commissions, include
such items as compensation, advertising and travel. General and
administrative expense includes such items as compensation,
legal costs, office supplies, non-income taxes, insurance and
office rental. In addition, general and administrative expense
includes other operating items such as an allowance for credit
losses, workforce rebalancing charges for contractually obligated
payments to employees terminated in the ongoing course of
business, acquisition costs related to business combinations,
amortization of certain intangible assets and environmental
remediation costs.

Advertising and Promotional Expense
The company expenses advertising and promotional costs as
incurred. Cooperative advertising reimbursements from vendors
are recorded net of advertising and promotional expense in
the period in which the related advertising and promotional
expense is incurred. Advertising and promotional expense, which
includes media, agency and promotional expense, was $1,647
million, $1,466 million and $1,445 million in 2019, 2018 and
2017, respectively, and is recorded in SG&A expense in the
Consolidated Income Statement.

Research, Development and Engineering
Research, development and engineering (RD&E) costs are
expensed as incurred. Software costs that are incurred to
produce the finished product after technological feasibility has
been established are capitalized as an intangible asset.

Intellectual Property and Custom Development Income
The company licenses and sells the rights to certain of its
intellectual property (IP) including internally developed
patents, trade secrets and technological know-how. Certain IP
transactions to third parties are licensing/royalty-based and
others are transaction-based sales/other transfers. Income
from licensing arrangements is recognized at the inception of the
license term if the nature of the company’s promise is to provide
a right to use the company’s intellectual property as it exists
at that point in time (i.e., the license is functional intellectual
property) and control has transferred to the client. Income is
recognized over time if the nature of the company’s promise is
to provide a right to access the company’s intellectual property
throughout the license period (i.e., the license is symbolic
intellectual property), such as a trademark license. Licensing
arrangements include IP partnerships whereby a business
partner licenses source code from the company and becomes
responsible for developing, maintaining and enhancing the
product. The company retains its customers and go-to-market
capability and any royalty cost due to the partner is recognized
in cost of sales. The IP partner has the rights to market the

product and its derivative works under its own brand and remits
royalty to the company on those sales, which are recorded as
royalty-based fees. Depending on the nature of the transaction,
an IP partnership would be accounted for as a divestiture if
the company concludes the transaction meets the definition
of a business. Income from royalty-based fee arrangements is
recognized at the later of when the subsequent sale or usage
occurs or the performance obligation to which some or all of
the royalty has been allocated has been satisfied (or partially
satisfied). The company also enters into cross-licensing
arrangements of patents, and income from these arrangements
is recognized when control transfers to the customer. In addition,
the company earns income from certain custom development
projects with strategic technology partners and specific clients.
The company records the income from these projects over time
as the company satisfies the performance obligation if the fee is
nonrefundable and is not dependent upon the ultimate success
of the project.

Other (Income) and Expense
Other (income) and expense includes interest income (other
than from Global Financing external transactions), gains and
losses on certain derivative instruments, gains and losses from
securities and other investments, gains and losses from certain
real estate transactions, foreign currency transaction gains and
losses, gains and losses from the sale of businesses, other than
reported as discontinued operations, and amounts related to
accretion of asset retirement obligations. Other (income) and
expense also includes certain components of retirement-related
costs, including interest costs, expected return on plan assets,
amortization of prior service costs/(credits), curtailments and
settlements and other net periodic pension/post-retirement
benefit costs.

Business Combinations and
Intangible Assets Including Goodwill
The company accounts for business combinations using the
acquisition method and accordingly, the identifiable assets
acquired, the liabilities assumed, and any noncontrolling interest
in the acquiree are recorded at their acquisition date fair values.
Goodwill represents the excess of the purchase price over the fair
value of net assets, including the amount assigned to identifiable
intangible assets. The primary drivers that generate goodwill
are the value of synergies between the acquired entities and
the company and the acquired assembled workforce, neither
of which qualifies as a separately identifiable intangible asset.
Goodwill recorded in an acquisition is assigned to applicable
reporting units based on expected revenues or expected cash
flows. Identifiable intangible assets with finite lives are amortized
over their useful lives. Amortization of completed technology
is recorded in cost, and amortization of all other intangible
assets is recorded in SG&A expense. Acquisition-related costs,
including advisory, legal, accounting, valuation and pre-close
and other costs, are typically expensed in the periods in which
the costs are incurred and are recorded in SG&A expense. The
results of operations of acquired businesses are included in the
Consolidated Financial Statements from the acquisition date.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies80

Impairment
Long-lived assets, other than goodwill, are tested for impairment
whenever events or changes in circumstances indicate that the
carrying amount may not be recoverable. The impairment test
is based on undiscounted cash flows and, if impaired, the asset
is written down to fair value based on either discounted cash
flows or appraised values. Goodwill is tested for impairment at
least annually, in the fourth quarter and whenever changes in
circumstances indicate an impairment may exist. The goodwill
impairment test is performed at the reporting unit level, which is
generally at the level of or one level below an operating segment.

Depreciation and Amortization
Property, plant and equipment are carried at cost and depreciated
over their estimated useful lives using the straight-line method.
The estimated useful lives of certain depreciable assets are as
follows: buildings, 30 to 50 years; building equipment, 10 to 20
years; land improvements, 20 years; production, engineering,
office and other equipment, 2 to 20 years; and information
technology equipment, 1.5 to 5 years. Leasehold improvements
are amortized over the shorter of their estimated useful lives or
the related lease term, rarely exceeding 25 years.

As noted within the “Software Costs” section of this note,
capitalized software costs are amortized on a straight-line basis
over periods ranging up to 3 years. Other intangible assets are
amortized over periods between 1 and 20 years.

Environmental
The cost of internal environmental protection programs that are
preventative in nature are expensed as incurred. When a cleanup
program becomes likely, and it is probable that the company will
incur cleanup costs and those costs can be reasonably estimated,
the company accrues remediation costs for known environmental
liabilities.

Asset Retirement Obligations
Asset retirement obligations (ARO) are legal obligations
associated with the retirement of long-lived assets and the
liability is initially recorded at fair value. The related asset
retirement costs are capitalized by increasing the carrying
amount of the related assets by the same amount as the
liability. Asset retirement costs are subsequently depreciated
over the useful lives of the related assets. Subsequent to initial
recognition, the company records period-to-period changes in
the ARO liability resulting from the passage of time in interest
expense and revisions to either the timing or the amount of the
original expected cash flows to the related assets.

Defined Benefit Pension and
Nonpension Postretirement Benefit Plans
The funded status of the company’s defined benefit pension plans
and nonpension postretirement benefit plans (retirement-related
benefit plans) is recognized in the Consolidated Balance Sheet.
The funded status is measured as the difference between the
fair value of plan assets and the benefit obligation at December
31, the measurement date. For defined benefit pension plans,
the benefit obligation is the projected benefit obligation (PBO),
which represents the actuarial present value of benefits expected
to be paid upon retirement based on employee services already
rendered and estimated future compensation levels. For the
nonpension postretirement benefit plans, the benefit obligation
is the accumulated postretirement benefit obligation (APBO),
which represents the actuarial present value of postretirement
benefits attributed to employee services already rendered. The
fair value of plan assets represents the current market value of
assets held in an irrevocable trust fund, held for the sole benefit
of participants, which are invested by the trust fund. Overfunded
plans, with the fair value of plan assets exceeding the benefit
obligation, are aggregated and recorded as a prepaid pension
asset equal to this excess. Underfunded plans, with the benefit
obligation exceeding the fair value of plan assets, are aggregated
and recorded as a retirement and nonpension postretirement
benefit obligation equal to this excess.

The current portion of the retirement and nonpension post-
retirement benefit obligations represents the actuarial present
value of benefits payable in the next 12 months exceeding the
fair value of plan assets, measured on a plan-by-plan basis.
This obligation is recorded in compensation and benefits in the
Consolidated Balance Sheet.

Net periodic pension and nonpension postretirement benefit
cost/(income) is recorded in the Consolidated Income Statement
and includes service cost, interest cost, expected return on
plan assets, amortization of prior service costs/(credits) and
(gains)/losses previously recognized as a component of other
comprehensive income/(loss) (OCI) and amortization of the net
transition asset remaining in accumulated other comprehensive
income/(loss) (AOCI). The service cost component of net benefit
cost is recorded in Cost, SG&A and RD&E in the Consolidated
Income Statement (unless eligible for capitalization) based on
the employees’ respective functions. The other components
of net benefit cost are presented separately from service cost
within other (income) and expense in the Consolidated Income
Statement. Refer to note B, “Accounting Changes,” for additional
information on the presentation change relating to pension costs
beginning on January 1, 2018.

(Gains)/losses and prior service costs/(credits) are recognized
as a component of OCI in the Consolidated Statement of
Comprehensive Income as they arise. Those (gains)/losses
and prior service costs/(credits) are subsequently recognized
as a component of net periodic cost/(income) pursuant to the
recognition and amortization provisions of applicable accounting
guidance. (Gains)/losses arise as a result of differences between
actual experience and assumptions or as a result of changes in
actuarial assumptions. Prior service costs/(credits) represent
the cost of benefit changes attributable to prior service granted
in plan amendments.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies81

The measurement of benefit obligations and net periodic cost/
(income) is based on estimates and assumptions approved
by the company’s management. These valuations reflect the
terms of the plans and use participant-specific information such
as compensation, age and years of service, as well as certain
assumptions, including estimates of discount rates, expected
return on plan assets, rate of compensation increases, interest
crediting rates and mortality rates.

Defined Contribution Plans
The company’s contribution for defined contribution plans is
recorded when the employee renders service to the company. The
charge is recorded in Cost, SG&A and RD&E in the Consolidated
Income Statement based on the employees’ respective functions.

Stock-Based Compensation
Stock-based compensation represents the cost related to stock-
based awards granted to employees. The company measures
stock-based compensation cost at the grant date, based on the
estimated fair value of the award and recognizes the cost on a
straight-line basis (net of estimated forfeitures) over the employee
requisite service period. The company grants its employees
Restricted Stock Units (RSUs), including Retention Restricted
Stock Units (RRSUs); Performance Share Units (PSUs); and
periodically grants stock options. RSUs are stock awards granted
to employees that entitle the holder to shares of common stock
as the award vests, typically over a one- to five-year period. PSUs
are stock awards where the number of shares ultimately received
by the employee depends on the company’s performance against
specified targets and typically vest over a three-year period.
Over the performance period, the number of shares that will be
issued is adjusted based upon the probability of achievement of
performance targets. The ultimate number of shares issued and
the related compensation cost recognized as expense will be
based on a comparison of the final performance metrics to the
specified targets. Dividend equivalents are not paid on the stock
awards described above. The fair value of the awards is determined
and fixed on the grant date based on the company’s stock price,
adjusted for the exclusion of dividend equivalents where applicable
and for PSUs assumes that performance targets will be achieved.
The company estimates the fair value of stock options using a
Black-Scholes valuation model. Stock-based compensation cost
is recorded in Cost, SG&A, and RD&E in the Consolidated Income
Statement based on the employees’ respective functions.

The company records deferred tax assets for awards that result
in deductions on the company’s income tax returns, based on
the amount of compensation cost recognized and the relevant
statutory tax rates. The differences between the deferred tax
assets recognized for financial reporting purposes and the actual
tax deduction reported on the income tax return are recorded
as a benefit or expense to the provision for income taxes in the
Consolidated Income Statement.

Income Taxes
Income tax expense is based on reported income before income
taxes. Deferred income taxes reflect the tax effect of temporary
differences between asset and liability amounts that are
recognized for financial reporting purposes and the amounts that
are recognized for income tax purposes. These deferred taxes
are measured by applying currently enacted tax laws. Valuation
allowances are recognized to reduce deferred tax assets to the
amount that will more likely than not be realized. In assessing
the need for a valuation allowance, management considers all
available evidence for each jurisdiction including past operating
results, estimates of future taxable income and the feasibility
of ongoing tax planning strategies/actions. When the company
changes its determination as to the amount of deferred tax assets
that can be realized, the valuation allowance is adjusted with
a corresponding impact to income tax expense in the period in
which such determination is made.

The company recognizes additional tax liabilities when the
company believes that certain positions may not be fully
sustained upon review by tax authorities. Benefits from tax
positions are measured at the largest amount of benefit that is
greater than 50 percent likely of being realized upon settlement.
The noncurrent portion of tax liabilities is included in other
liabilities in the Consolidated Balance Sheet. To the extent that
new information becomes available which causes the company
to change its judgment regarding the adequacy of existing tax
liabilities, such changes to tax liabilities will impact income tax
expense in the period in which such determination is made.
Interest and penalties, if any, related to accrued liabilities for
potential tax assessments are included in income tax expense.

U.S. tax reform introduced Global Intangible Low-Taxed Income
(GILTI), which subjects a U.S. shareholder to current tax on
income earned by certain foreign subsidiaries. Beginning in 2018,
the company elected to include GILTI in measuring deferred taxes.

Translation of Non-U.S. Currency Amounts
Assets and liabilities of non-U.S. subsidiaries that have a local
functional currency are translated to U.S. dollars at year-end
exchange rates. Translation adjustments are recorded in OCI.
Income and expense items are translated at weighted-average
rates of exchange prevailing during the year.

Inventory, property, plant and equipment—net and other
non-monetary assets and liabilities of non-U.S. subsidiaries
and branches that operate in U.S. dollars are translated at the
approximate exchange rates prevailing when the company acquired
the assets or liabilities. All other assets and liabilities denominated
in a currency other than U.S. dollars are translated at year-end
exchange rates with the transaction gain or loss recognized in other
(income) and expense. Income and expense items are translated at
the weighted-average rates of exchange prevailing during the year.
These translation gains and losses are included in net income for
the period in which exchange rates change.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies82

Derivative Financial Instruments
The company uses derivative financial instruments primarily
to manage foreign currency and interest rate risk, and to a
lesser extent, equity and credit risk. The company does not
use derivative financial instruments for trading or speculative
purposes. Derivatives that qualify for hedge accounting can be
designated as either cash flow hedges, net investment hedges,
or fair value hedges. The company may enter into derivative
contracts that economically hedge certain of its risks, even when
hedge accounting does not apply, or the company elects not to
apply hedge accounting.

Derivatives are recognized in the Consolidated Balance Sheet
at fair value on a gross basis as either assets or liabilities and
classified as current or noncurrent based upon whether the
maturity of the instrument is less than or greater than 12 months.

Changes in the fair value of derivatives designated as a cash
flow hedge are recorded, net of applicable taxes, in OCI and
subsequently reclassified into the same income statement line
as the hedged exposure when the underlying hedged item is
recognized in earnings. Effectiveness for net investment hedging
derivatives is measured on a spot-to-spot basis. Changes in the
fair value of highly effective net investment hedging derivatives
and other non-derivative financial instruments designated as net
investment hedges are recorded as foreign currency translation
adjustments in AOCI. Changes in the fair value of the portion of a
net investment hedging derivative excluded from the assessment
of effectiveness are recorded in interest expense and cost of
financing. Changes in the fair value of interest rate derivatives
designated as a fair value hedge and the offsetting changes in
the fair value of the underlying hedged exposure are recorded in
interest expense and cost of financing. Changes in the fair value
of derivatives not designated as hedges are reported in earnings
primarily in other (income) and expense. See note T, “Derivative
Financial Instruments,” for further information.

The cash flows associated with derivatives designated as fair
value and cash flow hedges are reported in cash flows from
operating activities in the Consolidated Statement of Cash Flows.
Cash flows from derivatives designated as net investment hedges
and derivatives not designated as hedges are reported in cash
flows from investing activities in the Consolidated Statement of
Cash Flows. Cash flows from derivatives designated as hedges
of foreign currency denominated debt directly associated with
the settlement of the principal are reported in payments to settle
debt in cash flows from financing activities in the Consolidated
Statement of Cash Flows.

Financial Instruments
In determining the fair value of its financial instruments, the
company uses a variety of methods and assumptions that are based
on market conditions and risks existing at each balance sheet date.
See note I, “Financial Assets & Liabilities,” for further information.
All methods of assessing fair value result in a general approximation
of value, and such value may never actually be realized.

Fair Value Measurement
Fair value is defined as the price that would be received to sell
an asset or paid to transfer a liability in an orderly transaction
between market participants at the measurement date. The
company classifies certain assets and liabilities based on the
following fair value hierarchy:

•

Level 1—Quoted prices (unadjusted) in active markets for
identical assets or liabilities that can be accessed at the
measurement date;

Level 2—Inputs other than quoted prices included within
Level 1 that are observable for the asset or liability, either
directly or indirectly; and

• Level 3—Unobservable inputs for the asset or liability.

When available, the company uses unadjusted quoted market
prices in active markets to measure the fair value and classifies
such items as Level 1. If quoted market prices are not available, fair
value is based upon internally developed models that use current
market-based or independently sourced market parameters such
as interest rates and currency rates. Items valued using internally
generated models are classified according to the lowest level input
or value driver that is significant to the valuation.

The determination of fair value considers various factors
including interest rate yield curves and time value underlying
the financial instruments. For derivatives and debt securities,
the company uses a discounted cash flow analysis using discount
rates commensurate with the duration of the instrument.

In determining the fair value of financial instruments, the
company considers certain market valuation adjustments to the
“base valuations” calculated using the methodologies described
below for several parameters that market participants would
consider in determining fair value:

•

Counterparty credit risk adjustments are applied to financial
instruments, taking into account the actual credit risk of a
counterparty as observed in the credit default swap market
to determine the true fair value of such an instrument.

Credit risk adjustments are applied to reflect the company’s
own credit risk when valuing all liabilities measured at fair
value. The methodology is consistent with that applied in
developing counterparty credit risk adjustments, but
incorporates the company’s own credit risk as observed in
the credit default swap market.

Certain assets that are measured at fair value on a recurring
basis can be subject to nonrecurring fair value measurements.
These assets include available-for-sale debt securities that are
deemed to be other-than-temporarily impaired. In the event of
an other-than-temporary impairment of a debt security, fair value
is measured using a model described above.

Certain nonfinancial assets such as property, plant and
equipment, land, goodwill and intangible assets are also subject
to nonrecurring fair value measurements if they are deemed to be
impaired. The impairment models used for nonfinancial assets
depend on the type of asset. There were no material impairments
of nonfinancial assets for the years ended December 31, 2019,
2018 and 2017.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies83

Cash Equivalents
All highly liquid investments with maturities of three months or
less at the date of purchase are considered to be cash equivalents.

Marketable Securities
Effective January 1, 2018, with the adoption of the new FASB
guidance on recognition, measurement, presentation and
disclosure of financial instruments, the company measures equity
investments at fair value with changes recognized in net income.

Debt securities included in current assets represent securities
that are expected to be realized in cash within one year of the
balance sheet date. Long-term debt securities and alliance equity
securities are included in investments and sundry assets. Debt
securities are considered available for sale and are reported at
fair value with unrealized gains and losses, net of applicable
taxes, in OCI. The realized gains and losses on available-for-sale
debt securities are included in other (income) and expense in the
Consolidated Income Statement. Realized gains and losses are
calculated based on the specific identification method.

In determining whether an other-than-temporary decline in
market value has occurred, the company considers the duration
that, and extent to which, the fair value of the investment is below
its cost, the financial condition and near-term prospects of the
issuer or underlying collateral of a security; and the company’s
intent and ability to retain the security in order to allow for an
anticipated recovery in fair value. Other-than-temporary declines
in fair value from amortized cost for available-for-sale debt
securities that the company intends to sell or would more likely
than not be required to sell before the expected recovery of the
amortized cost basis are charged to other (income) and expense
in the period in which the loss occurs. For debt securities that the
company has no intent to sell and believes that it more likely than
not will not be required to sell prior to recovery, only the credit
loss component of the impairment is recognized in other (income)
and expense, while the remaining loss is recognized in OCI.

Inventory
Raw materials, work in process and finished goods are stated at
the lower of average cost or net realizable value.

Notes and Accounts Receivable—Trade and Contract Assets
The company classifies the right to consideration in exchange for
products or services transferred to a client as either a receivable
or a contract asset. A receivable is a right to consideration that
is unconditional as compared to a contract asset which is a right
to consideration that is conditional upon factors other than the
passage of time. The majority of the company’s contract assets
represent unbilled amounts related to design and build services
contracts when the cost-to-cost method of revenue recognition
is utilized, revenue recognized exceeds the amount billed to
the client, and the right to consideration is subject to milestone
completion or client acceptance. Contract assets are generally
classified as current and are recorded on a net basis with
deferred income (i.e., contract liabilities) at the contract level.

Factored Receivables
The company enters into various factoring agreements with
third-party financial institutions to sell certain of its receivables
(includes notes and accounts receivable—trade, financing
receivables and other accounts receivables) under nonrecourse

agreements. Accounts receivable sales arrangements are utilized
in the normal course of business as part of the company’s cash
and liquidity management. Facilities primarily in the U.S., Canada
and several countries in Europe enable the company to sell certain
accounts receivable, without recourse, to third parties in order to
manage credit, collection, concentration and currency risk.

These transactions are accounted for as a reduction in receivables
and are considered sold when accounting criteria for a sale is
met. The proceeds from these arrangements are reflected as cash
provided by operating activities in the Consolidated Statement
of Cash Flows.

The gross amounts factored (the gross proceeds) under these
programs (primarily relating to notes and accounts receivable—
trade) for the year ended December 31, 2019 were $2.1 billion
compared to $2.2 billion for the year ended December 31, 2018.
Within the accounts receivables sold and derecognized from
the Consolidated Balance Sheet, $0.5 billion and $0.9 billion
remained uncollected from customers at December 31, 2019
and 2018, respectively. The fees and the net gains and losses
associated with the transfer of receivables were not material for
any of the periods presented.

Financing Receivables
Financing receivables include sales-type leases, direct
financing leases, commercial financing receivables and client
loan and installment payment receivables (loans). Leases are
accounted for in accordance with lease accounting standards.
Loan receivables, which are generally unsecured, are primarily
for software and services. Loans are financial assets which are
recorded at amortized cost, which approximates fair value.
Commercial financing receivables are carried at amortized cost,
which approximates fair value. These receivables are for working
capital financing to suppliers, distributors and resellers of IBM
and OEM IT products and services.

Allowance for Credit Losses
Receivables are recorded concurrent with billing and shipment of
a product and/or delivery of a service to customers. A reasonable
estimate of probable credit losses on the value of customer
receivables is recognized by establishing an allowance for credit
losses. An allowance for contract assets, if needed, and uncollectible
trade receivables is estimated based on a combination of write-off
history, aging analysis and any specific, known troubled accounts.

The company determines its allowances for credit losses on
financing receivables based on two portfolio segments: lease
receivables and loan receivables. The company further segments
the portfolio into three classes: Americas, Europe/Middle East/
Africa (EMEA) and Asia Pacific.

When calculating the allowances, the company considers its ability
to mitigate a potential loss by repossessing leased equipment
and by considering the current fair market value of any other
collateral. The value of the equipment is the net realizable value.
The allowance for credit losses for sales-type and direct financing
leases, installment payment plan receivables and customer
loans includes an assessment of the entire balance of the lease
or loan, including amounts not yet due. The methodologies that
the company uses to calculate its receivables reserves, which are
applied consistently to its different portfolios, are as follows:

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies84

Individually Evaluated—The company reviews all financing
receivables considered at risk quarterly, and performs an
analysis based upon current information available about the
client, such as financial statements, news reports, published
credit ratings, current market-implied credit analysis, as
well as the current economic environment, collateral net of
repossession cost and prior collection history. For loans that
are collateral dependent, impairment is measured using the fair
value of the collateral when foreclosure is probable. Using this
information, the company determines the expected cash flow for
the receivable and calculates an estimate of the potential loss
and the probability of loss. For those accounts in which the loss
is probable, the company records a specific reserve.

Collectively Evaluated—The company records an unallocated
reserve that is calculated by applying a reserve rate to its different
portfolios, excluding accounts that have been individually
evaluated and specifically reserved. This reserve rate is based
upon credit rating, probability of default, term, characteristics
(lease/loan) and loss history. Factors that could result in actual
receivable losses that are materially different from the estimated
reserve include significant changes in the economy, or a sudden
change in the economic health of a significant client in the
company’s receivables portfolio.

Other Credit-Related Policies
Past Due—The company views receivables as past due when
payment has not been received after 90 days, measured from
the original billing date.

Non-Accrual—Non-accrual assets include those receivables
(impaired loans or nonperforming leases) with specific reserves
and other accounts for which it is likely that the company will
be unable to collect all amounts due according to original terms
of the lease or loan agreement. Interest income recognition
is discontinued on these receivables. Cash collections are
first applied as a reduction to principal outstanding. Any
cash received in excess of principal payments outstanding is
recognized as interest income. Receivables may be removed
from non-accrual status, if appropriate, based upon changes in
client circumstances, such as a sustained history of payments.

Impaired Loans—The company evaluates all financing receivables
considered at-risk, including loans, for impairment on a quarterly
basis. The company considers any receivable with an individually
evaluated reserve as an impaired loan. Depending on the level of
impairment, loans will also be placed on non-accrual status as
appropriate. Client loans are primarily for software and services
and are unsecured. These receivables are subjected to credit
analysis to evaluate the associated risk and, when appropriate,
actions are taken to mitigate risks in these agreements which
include covenants to protect against credit deterioration during
the life of the obligation.

Write-Off—Receivable losses are charged against the allowance
in the period in which the receivable is deemed uncollectible.
Subsequent recoveries, if any, are credited to the allowance.
Write-offs of receivables and associated reserves occur to
the extent that the customer is no longer in operation and/or,
there is no reasonable expectation of additional collections
or repossession.

Leases
The company conducts business as both a lessee and a lessor. In
its ordinary course of business, the company enters into leases
as a lessee for property, plant and equipment. The company is
also the lessor of certain equipment, mainly through its Global
Financing segment.

When procuring goods or services, or upon entering into a
contract with its clients, the company determines whether an
arrangement contains a lease at its inception. As part of that
evaluation, the company considers whether there is an implicitly
or explicitly identified asset in the arrangement and whether the
company, as the lessee, or the client, if the company is the lessor,
has the right to control the use of that asset.

Accounting for Leases as a Lessee
Effective January 1, 2019, when the company is the lessee, all
leases with a term of more than 12 months are recognized as
right-of-use (ROU) assets and associated lease liabilities in the
Consolidated Balance Sheet. The lease liabilities are measured at
the lease commencement date and determined using the present
value of the lease payments not yet paid and the company’s
incremental borrowing rate, which approximates the rate at which
the company would borrow on a secured basis in the country
where the lease was executed. The interest rate implicit in the
lease is generally not determinable in transactions where the
company is the lessee. The ROU asset equals the lease liability
adjusted for any initial direct costs (IDCs), prepaid rent and lease
incentives. The company’s variable lease payments generally
relate to payments tied to various indexes, non-lease components
and payments above a contractual minimum fixed amount.

Operating leases are included in operating right-of-use assets—
net, current operating lease liabilities and operating lease
liabilities in the Consolidated Balance Sheet. Finance leases are
included in property, plant and equipment, short-term debt and
long-term debt in the Consolidated Balance Sheet. The lease
term includes options to extend or terminate the lease when it
is reasonably certain that the company will exercise that option.

The company made a policy election to not recognize leases with a
lease term of 12 months or less in the Consolidated Balance Sheet.

For all asset classes, the company has elected the lessee
practical expedient to combine lease and non-lease components
(e.g., maintenance services) and account for the combined unit as
a single lease component. A significant portion of the company’s
lease portfolio is real estate, which are mainly accounted for as
operating leases, and are primarily used for corporate offices
and data centers. The average term of the real estate leases
is approximately five years. The company also has equipment
leases, such as IT equipment and vehicles, which have lease
terms that range from two to five years. For certain of these
operating and finance leases, the company applies a portfolio
approach to account for the lease assets and lease liabilities.

Accounting for Leases as a Lessor
The company typically enters into leases as an alternative means
of realizing value from equipment that it would otherwise sell.
Assets under lease include new and used IBM equipment and
certain OEM products. IBM equipment generally consists of IBM
Z, Power Systems and Storage Systems products.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies85

Lease payments due to IBM are typically fixed and paid in equal
installments over the lease term. The majority of the company’s
leases do not contain variable payments that are dependent
on an index or a rate. Variable lease payments that do not
depend on an index or a rate (e.g., property taxes), that are paid
directly by the company and are reimbursed by the client, are
recorded as revenue, along with the related cost, in the period
in which collection of these payments is probable. Payments
that are made directly by the client to a third party, including
certain property taxes and insurance, are not considered part
of variable payments and therefore are not recorded by the
company. The company has made a policy election to exclude
from consideration in contracts all collections from sales and
other similar taxes.

The company’s payment terms for leases are typically
unconditional. Therefore, in an instance when the client requests
to terminate the lease prior to the end of the lease term, the client
would typically be required to pay the remaining lease payments
in full. At the end of the lease term, the company allows the client
to either return the equipment, purchase the equipment at the
then-current fair market value or at a pre-stated purchase price
or renew the lease based on mutually agreed upon terms.

When lease arrangements include multiple performance
obligations, the company allocates the consideration in the
contract between the lease components and the non-lease
components on a relative standalone selling price basis.

Sales-Type and Direct Financing Leases
For sales-type or direct financing lease, the carrying amount of
the asset is derecognized from inventory and a net investment in
the lease is recorded. For a sales-type lease, the net investment
in the lease is measured at commencement date as the sum
of the lease receivable and the estimated residual value of
the equipment less unearned income and allowance for credit
losses. Any selling profit or loss arising from a sales-type lease
is recorded at lease commencement. Selling profit or loss is
presented on a gross basis when the company enters into a lease
to realize value from a product that it would otherwise sell in
its ordinary course of business, whereas in transactions where
the company enters into a lease for the purpose of generating
revenue by providing financing, the selling profit or loss is
presented on a net basis. Under a sales-type lease, initial direct
costs are expensed at lease commencement. Over the term of
the lease, the company recognizes finance income on the net
investment in the lease and any variable lease payments, which
are not included in the net investment in the lease.

For a direct financing lease, the net investment in the lease
is measured similarly to a sales-type lease, however, the net
investment in the lease is reduced by any selling profit. In a
direct financing lease, the selling profit and initial direct costs
are deferred at commencement and recognized over the lease
term. The company rarely enters into direct financing leases.

The estimated residual value represents the estimated fair
value of the equipment under lease at the end of the lease.
Estimating residual value is a risk unique to financing activities,
and management of this risk is dependent upon the ability to
accurately project future equipment values. The company has
insight into product plans and cycles for both the IBM and OEM
IT products under lease. The company estimates the future fair

value of leased equipment by using historical models, analyzing
the current market for new and used equipment and obtaining
forward-looking product information such as marketing plans
and technology innovations.

The company optimizes the recovery of residual values by
extending lease arrangements with, or selling leased equipment
to existing clients. The company has historically managed
residual value risk both through insight into its own product
cycles and monitoring of OEM IT product announcements. The
company periodically reassesses the realizable value of its
lease residual values. Anticipated decreases in specific future
residual values that are considered to be other-than-temporary
are recognized immediately upon identification and are recorded
as an adjustment to the residual value estimate. For sales-type
and direct financing leases, this reduction lowers the recorded
net investment and is recognized as a loss charged to finance
income in the period in which the estimate is changed, as well
as an adjustment to unearned income to reduce future-period
financing income.

Operating Leases
Equipment provided to clients under an operating lease is carried
at cost within property, plant and equipment in the Consolidated
Balance Sheet and depreciated over the lease term using the
straight-line method, generally ranging from one to four years.
The depreciable basis is the original cost of the equipment less
the estimated residual value of the equipment at the end of the
lease term.

At commencement of an operating lease, IDCs are deferred. As
lease payments are made, the company records sales revenue
over the lease term. IDCs are amortized over the lease term on
the same basis as lease income is recorded.

Assets under operating leases are tested for impairment
whenever events or changes in circumstances indicate that the
carrying amount may not be recoverable. The impairment test is
based on undiscounted cash flows, and, if impaired, the asset is
written down to fair value based on either discounted cash flows
or appraised values.

Common Stock
Common stock refers to the $.20 par value per share capital stock
as designated in the company’s Certificate of Incorporation.
Treasury stock is accounted for using the cost method. When
treasury stock is reissued, the value is computed and recorded
using a weighted-average basis.

Earnings Per Share of Common Stock
Earnings per share (EPS) is computed using the two-class
method, which determines EPS for each class of common
stock and participating securities according to dividends and
dividend equivalents and their respective participation rights in
undistributed earnings. Basic EPS of common stock is computed
by dividing net income by the weighted-average number of
common shares outstanding for the period. Diluted EPS of
common stock is computed on the basis of the weighted-average
number of shares of common stock plus the effect of dilutive
potential common shares outstanding during the period using the
treasury stock method. Dilutive potential common shares include
outstanding stock awards, convertible notes and stock options.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies86

NOTE B. ACCOUNTING CHANGES
New Standards to be Implemented
Simplifying the Accounting for Income Taxes
Standard/Description—Issuance date: December 2019. This
guidance simplifies various aspects of income tax accounting
by removing certain exceptions to the general principle of the
guidance and also clarifies and amends existing guidance to
improve consistency in application.

Effective Date and Adoption Considerations—The guidance is
effective January 1, 2021 and early adoption is permitted.

Effect on Financial Statements or Other Significant Matters—
The company is evaluating the impact of the guidance and
adoption date.

Simplifying the Test for Goodwill Impairment
Standard/Description—Issuance date: January 2017. This
guidance simplifies the goodwill impairment test by removing Step
2. It also requires disclosure of any reporting units that have zero or
negative carrying amounts if they have goodwill allocated to them.

Effective Date and Adoption Considerations—The guidance was
effective January 1, 2020 and early adoption was permitted. The
company adopted the guidance on a prospective basis as of the
effective date.

Effect on Financial Statements or Other Significant Matters—
The guidance is not expected to have a material impact in the
consolidated financial results.

Financial Instruments—Credit Losses
Standard/Description—Issuance date: June 2016, with
amendments in 2018 and 2019. This changes guidance for credit
impairment based on an expected loss model rather than an
incurred loss model. It requires the consideration of all available
relevant information when estimating expected credit losses,
including past events, current conditions and forecasts and
their implications for expected credit losses. It also expands the
scope of financial instruments subject to impairment, including
off-balance sheet commitments and residual value.

Effective Date and Adoption Considerations—The guidance
was effective January 1, 2020 with one-year early adoption
permitted. The company adopted the guidance as of the effective
date, using the transition option whereby prior comparative
periods will not be retrospectively presented in the Consolidated
Financial Statements.

Effect on Financial Statements or Other Significant Matters—
The company has completed its changes to policy, processes,
systems and controls. This included the assessment of data
availability and presentation necessary to meet the disclosure
requirements of the guidance beginning in the first quarter of
2020. At January 1, 2020, an increase in the allowance for credit
losses of approximately $15 million and $35 million was recorded
for accounts receivable—trade and financing receivables,
respectively. The company also recorded an allowance for
credit losses of approximately $30 million in other liabilities for
its off-balance sheet commitments. Additionally, net deferred
taxes were reduced by $15 million in the Consolidated Balance
Sheet, resulting in a cumulative-effect net decrease to retained
earnings of $65 million.

Standards Implemented
Disclosure Requirements Changes for Fair Value
Measurements and Defined Benefit Plans
Standard/Description—Issuance date: August 2018. This
guidance changes the disclosure requirements for fair value
measurements and defined benefit plans.

Effective Date and Adoption Considerations—The guidance is
effective for each of the topics on January 1, 2020 and December
31, 2020, respectively, with early adoption of certain provisions
permitted. The company adopted the provision in the fair value
guidance that removed the Level 1/Level 2 transfer disclosures
in the third quarter of 2018 and the remaining provisions of the
guidance are not applicable. The company adopted changes
to the disclosure requirements for defined benefit plans in the
fourth quarter of 2019.

Effect on Financial Statements or Other Significant Matters—
As the guidance is a change to disclosures only, it did not have a
material impact in the consolidated financial results.

Leases
Standard/Description—Issuance date: February 2016, with
amendments in 2018 and 2019. This guidance requires lessees
to recognize ROU assets and lease liabilities for most leases in
the Consolidated Balance Sheet. For lessors, it also eliminates
the use of third-party residual value guarantee (RVG) insurance
in the lease classification test, and overall aligns with revenue
recognition guidance. Due to changes in lease termination
guidance, when equipment is returned to the company prior to the
end of the lease term, the carrying amounts of lease receivables
will be reclassified to loan receivables. The guidance also
requires qualitative and quantitative disclosures to assess the
amount, timing and uncertainty of cash flows arising from leases.

Effective Date and Adoption Considerations—The company
adopted the guidance on its effective date of January 1, 2019,
using the transition option whereby prior comparative periods
were not retrospectively presented in the Consolidated Financial
Statements. The company elected the package of practical
expedients not to reassess prior conclusions related to contracts
containing leases, lease classification and initial direct costs and
the lessee practical expedient to combine lease and non-lease
components for all asset classes. The company made a policy
election to not recognize ROU assets and lease liabilities for
short-term leases for all asset classes.

Effect on Financial Statements or Other Significant Matters—
The guidance had a material impact on the Consolidated Balance
Sheet as of the effective date. As a lessee, at adoption, the
company recognized operating and financing ROU assets of $4.8
billion and $0.2 billion, respectively, and operating and financing
lease liabilities of $5.1 billion and $0.2 billion, respectively.
The transition adjustment recognized in retained earnings on
January 1, 2019 was not material. The removal of third-party RVG
insurance in the lease classification test did not have a material
impact in the consolidated financial results. At December 31,
2019, lease receivables of $386 million were reclassified to loan
receivables. Refer to note M, “Leases,” for additional information,
including further discussion on the impact of adoption.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies87

Cloud Computing Implementation Costs
Standard/Description—Issuance date: August 2018. This
guidance relates to a customer’s accounting for implementation
costs incurred in cloud-computing arrangements that are
hosted by a vendor. Certain types of implementation costs
should be capitalized and amortized over the term of the hosting
arrangement.

Effective Date and Adoption Considerations—The guidance
is effective January 1, 2020 and early adoption is permitted.
The company adopted the guidance on January 1, 2019 on a
prospective basis.

Effect on Financial Statements or Other Significant Matters—
The guidance did not have a material impact in the consolidated
financial results.

Reclassification of Certain Tax Effects from AOCI
Standard/Description—Issuance date: February 2018. In
accordance with its accounting policy, the company releases
income tax effects from AOCI once the reason the tax effects
were established cease to exist (e.g., when available-for-sale
debt securities are sold or if a pension plan is liquidated). This
guidance allows for the reclassification of stranded tax effects
as a result of the change in tax rates from U.S. tax reform to be
recorded upon adoption of the guidance rather than at the actual
cessation date.

Effective Date and Adoption Considerations—The guidance
was effective January 1, 2019 with early adoption permitted.
The company adopted the guidance effective January 1, 2018
and elected not to reclassify prior periods.

Effect on Financial Statements or Other Significant Matters—
At adoption on January 1, 2018, $2.4 billion was reclassified
from AOCI to retained earnings, primarily comprised of amounts
relating to retirement-related benefit plans.

Hedge Accounting
Standard/Description—Issuance date: August 2017. This
guidance simplifies the application of hedge accounting in
certain areas, better portrays the economic results of an entity’s
risk management activities in its financial statements and
makes targeted improvements to presentation and disclosure
requirements.

Effective Date and Adoption Considerations—The guidance
was effective January 1, 2019 with early adoption permitted.
The company adopted the guidance as of January 1, 2018.

Effect on Financial Statements or Other Significant Matters—
The guidance did not have a material impact in the consolidated
financial results.

Presentation of Net Periodic Pension Cost and Net Periodic
Postretirement Benefit Cost
Standard/Description—Issuance date: March 2017. This
guidance impacts the presentation of net periodic pension and
postretirement benefit costs (net benefit cost). The service cost
component of net benefit cost continues to be presented within

Cost, SG&A expense and RD&E expense in the Consolidated
Income Statement, unless eligible for capitalization. The other
components of net benefit cost are presented separately
from service cost within other (income) and expense in the
Consolidated Income Statement.

Effective Date and Adoption Considerations—The guidance
was effective January 1, 2018 with early adoption permitted.
The company adopted the guidance as of the effective date. This
presentation change was applied retrospectively upon adoption.

Effect on Financial Statements or Other Significant Matters—
The guidance is primarily a change in financial statement
presentation and did not have a material impact in the
consolidated financial results.

Financial Instruments—Recognition and Measurement
Standard/Description—Issuance date: January 2016. This
guidance addresses aspects of recognition, measurement,
presentation and disclosure of financial instruments. It requires
certain equity investments to be measured at fair value with
changes recognized in net income. The amendment also
simplifies the impairment test of equity investments that lack
readily determinable fair value.

Effective Date and Adoption Considerations—The guidance was
effective January 1, 2018 and early adoption was not permitted
except for limited provisions. The company adopted the guidance
on the effective date.

Effect on Financial Statements or Other Significant Matters—
The guidance did not have a material impact in the consolidated
financial results.

Revenue Recognition—Contracts with Customers
Standard/Description—Issuance date: May 2014 with
amendments in 2015 and 2016. Revenue recognition depicts the
transfer of promised goods or services to customers in an amount
that reflects the consideration to which the entity expects to be
entitled in exchange for those goods or services. The guidance
also requires specific disclosures relating to revenue recognition.

Effective Date and Adoption Considerations—The company
adopted the guidance on its effective date of January 1, 2018
using the modified retrospective transition method.

Effect on Financial Statements or Other Significant Matters—
At adoption, $557 million was reclassified from notes and
accounts receivable—trade and deferred income-current
to prepaid expenses and other current assets to establish
the opening balance for net contract assets. In-scope sales
commission costs previously recorded in the Consolidated
Income Statement were capitalized in deferred costs in the
amount of $737 million. Deferred income of $29 million was
recorded for certain software licenses that will be recognized
over time versus at point in time under previous guidance.
Additionally, net deferred taxes were reduced by $184 million
in the Consolidated Balance Sheet, resulting in a cumulative-
effect net increase to retained earnings of $524 million. In the
fourth quarter of 2018, the company recognized an additional

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies88

impact to net deferred taxes and retained earnings of $56
million, resulting in a total net increase to retained earnings of
$580 million. The decrease to net deferred taxes was the result
of the company’s election to include GILTI in measuring deferred
taxes. The revenue guidance did not have a material impact in
the company’s consolidated financial results. Refer to note C,
“Revenue Recognition,” for additional information.

Share-Based Payments
Standard/Description—Issuance date: March 2016. This
guidance changed the accounting for share-based payment
transactions, including the income tax consequences,
classification of awards as either equity or liabilities and
classification in the Consolidated Statement of Cash Flows.
Additional guidance was issued in May 2017 and June 2018,
which relates to the accounting for modifications of share-based
payment awards and accounting for share-based payments
issued to non-employees, respectively.

Effective Date and Adoption Considerations—The initial
guidance was effective and adopted by the company on January
1, 2017. The company adopted the guidance for modifications in
the second quarter of 2017, and guidance for non-employees’
payments in the second quarter of 2018.

Ef fect on Financial Statements or Other Significant
Matters—The initial guidance did not have a material impact
on the Consolidated Balance Sheet. The company continues to
estimate forfeitures in conjunction with measuring stock-based
compensation cost. The guidance also requires cash payments
on behalf of employees for shares directly withheld for taxes to be
presented as financing outflows in the Consolidated Statement of
Cash Flows. The guidance for modifications and non-employees’
payments had no impact in the consolidated financial results.

NOTE C. REVENUE RECOGNITION
Disaggregation of Revenue
The following tables provide details of revenue by major
products/services offerings and by geography.

Revenue by Major Products/Service Offerings

($ in millions)

For the year ended December 31:

2019

2018

Cognitive Applications

Cloud & Data Platforms

Transaction Processing Platforms

$ 5,765

$ 5,633*

9,499

7,936

8,603*

7,974*

Total Cloud & Cognitive Software

$23,200

$22,209*

Consulting

Application Management

Global Process Services

$ 7,993

$ 7,705

7,646

995

7,852

1,037*

Total Global Business Services

$16,634

$16,595*

Infrastructure & Cloud Services

$20,736

$22,185*

Technology Support Services

6,625

6,961

Total Global Technology Services

$27,361

$29,146*

Systems Hardware

Operating Systems Software

Total Systems

Global Financing**

Other

Total Revenue

$ 5,918

$ 6,363

1,686

1,671

$ 7,604

$ 8,034

$ 1,400

$ 1,590

$ 948

$ 2,018*

$77,147

$79,591

* Recast to conform to 2019 presentation.

** Contains lease and loan/working capital financing arrangements which

are not subject to the guidance on revenue from contracts with
customers.

Revenue by Geography

($ in millions)

For the year ended December 31:

2019

2018

Americas

Europe/Middle East/Africa

Asia Pacific

Total

$36,274

$36,994

24,443

16,430

25,491

17,106

$77,147

$79,591

Remaining Performance Obligations
The remaining performance obligation (RPO) disclosure
provides the aggregate amount of the transaction price yet
to be recognized as of the end of the reporting period and an
explanation as to when the company expects to recognize these
amounts in revenue. It is intended to be a statement of overall
work under contract that has not yet been performed and does
not include contracts in which the customer is not committed,
such as certain as-a-Service, governmental, term software
license and services offerings. The customer is not considered
committed when they are able to terminate for convenience
without payment of a substantive penalty. The disclosure
includes estimates of variable consideration, except when the
variable consideration is a sales-based or usage-based royalty
promised in exchange for a license of intellectual property.
Additionally, as a practical expedient, the company does not

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies89

include contracts that have an original duration of one year or
less. RPO estimates are subject to change and are affected by
several factors, including terminations, changes in the scope of
contracts, periodic revalidations, adjustments for revenue that
has not materialized and adjustments for currency.

The amount of revenue recognized during the year ended
December 31, 2019 that was included within the deferred income
balance at December 31, 2018 was $9.5 billion and primarily
related to services and software.

At December 31, 2019, the aggregate amount of the transaction
price allocated to RPO related to customer contracts that
are unsatisfied or partially unsatisfied was $126 billion.
Approximately 60 percent of the amount was expected to be
recognized as revenue in the subsequent two years, approximately
35 percent in the subsequent three to five years and the balance
(mostly Infrastructure & Cloud Services) thereafter.

Revenue Recognized for Performance Obligations
Satisfied (or Partially Satisfied) in Prior Periods
For the year ended December 31, 2019, revenue was reduced
by $50 million for performance obligations satisfied (or partially
satisfied) in previous periods mainly due to changes in estimates
on contracts with cost-to-cost measures of progress. Refer to note
A, “Significant Accounting Policies,” for additional information on
these contracts and estimates of costs to complete.

Reconciliation of Contract Balances
The following table provides information about notes and
accounts receivable—trade, contract assets and deferred
income balances.

($ in millions)

At December 31:

Notes and accounts receivable—trade
(net of allowances of $299 in 2019
and $309 in 2018)

Contract assets(1)

Deferred income (current)

Deferred income (noncurrent)

2019

2018

$ 7,870

$ 7,432

492

470

12,026

11,165

3,851

3,445

(1) Included within prepaid expenses and other current assets in the

Consolidated Balance Sheet.

Deferred Costs

($ in millions)

At December 31:

2019

2018

Capitalized costs to obtain a contract

$ 609

$ 717

Deferred costs to fulfill a contract

Deferred setup costs

Other deferred fulfillment costs

Total deferred costs (1)

1,939

1,820

2,085

2,173

$4,368

$4,975

(1) Of the total deferred costs, $1,896 million was current and $2,472

million was noncurrent at December 31, 2019 and $2,300 million was
current and $2,676 million was noncurrent at December 31, 2018.

The amount of total deferred costs amortized during the year
ended December 31, 2019 was $3,836 million and there were no
material impairment losses incurred. Refer to note A, “Significant
Accounting Policies,” for additional information on deferred costs
to fulfill a contract and capitalized costs of obtaining a contract.

NOTE D. SEGMENTS
In the first quarter of 2019, the company made a number
of changes to its organizational structure and management
system that brought cloud and cognitive software under one
organization to more effectively address evolving client needs
and to prepare for the acquisition of Red Hat. With these changes,
the company revised its reportable segments, but did not impact
its Consolidated Financial Statements.

The segments represent components of the company for which
separate financial information is available that is utilized on a
regular basis by the chief operating decision maker (the chief
executive officer) in determining how to allocate resources
and evaluate performance. The segments are determined
based on several factors, including client base, homogeneity of
products, technology, delivery channels and similar economic
characteristics.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies90

The company’s segments are as follows:

2018 Segments

Cognitive Solutions

Changes (+/-)

2019 Segments

+ Integration Software
+ Security Services
- Divested Select Software*
+ Red Hat (post closing)

Cloud & Cognitive Software

Global Business Services

- Divested Mortgage Servicing*

Global Business Services

Technology Services & Cloud Platforms

- Security Services
- Integration Software

Global Technology Services

Systems

Global Financing

Other

+ Divested Mortgage Servicing*
+ Divested Select Software*

Systems

Global Financing

Other**

* IBM completed the sale of its mortgage servicing business on February 28, 2019, and completed the sales of select software products (for all
countries) and marketing and platform commerce offerings (in the U.S.) on June 30, 2019. Refer to note E, “Acquisitions & Divestitures,” for
additional information.

**These divested businesses are reported in Other, as it allows for a better representation of the ongoing performance of the reportable segments.

Segment revenue and pre-tax income include transactions
between the segments that are intended to reflect an arm’s-length,
market-based transfer price. Systems that are used by Global
Technology Services in outsourcing arrangements are primarily
sourced internally from the Systems segment, and software
is primarily sourced internally through the Cloud & Cognitive
Software and Systems segments. For providing IT services that are
used internally, Global Technology Services and Global Business
Services recover cost, as well as a reasonable fee, that is intended
to reflect the arm’s-length value of providing the services. They
enter into arm’s-length loans at prices equivalent to market rates
with Global Financing to facilitate the acquisition of equipment and
software used in services engagements. All internal transaction
prices are reviewed annually, and reset if appropriate.

The company utilizes globally integrated support organizations
to realize economies of scale and efficient use of resources. As a
result, a considerable amount of expense is shared by all of the
segments. This shared expense includes sales coverage, certain
marketing functions and support functions such as Accounting,

Treasury, Procurement, Legal, Human Re sources and Billing and
Collections. Where practical, shared expenses are allocated based
on measurable drivers of expense, e.g., headcount. When a clear
and measurable driver cannot be identified, shared expenses are
allocated on a financial basis that is consistent with the company’s
management system, e.g., advertising expense is allocated based
on the gross profits of the segments. A portion of the shared
expenses, which are recorded in net income, are not allocated to
the segments. These expenses are associated with the elimination
of internal transactions and other miscellaneous items.

The following tables reflect the results of continuing operations
of the company’s segments consistent with the management and
measurement system utilized within the company and have been
recast for the prior-year periods due to the company’s January
2019 segment changes. Performance measurement is based
on pre-tax income from continuing operations. These results
are used, in part, by the chief operating decision maker, both in
evaluating the performance of, and in allocating resources to,
each of the segments.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies91

Cloud &
Cognitive
Software

Global
Business
Services

Global
Technology
Services

Systems

Global
Financing

Total
Segments

Management System Segment View

($ in millions)

For the year ended December 31:

2019

External revenue

Internal revenue

Total revenue

2018

External revenue

Internal revenue

Total revenue

2017

External revenue

Internal revenue

Total revenue

Revenue year-to-year change

Pre-tax income year-to-year change

Pre-tax income margin

* Recast to conform to 2019 presentation.

Reconciliations of IBM as Reported

($ in millions)

$23,200

$16,634

$27,361

2,827

278

1,157

$26,027

$16,911

$28,518

Pre-tax income from continuing operations

$ 7,952

$ 1,666

$ 1,645

Revenue year-to-year change

Pre-tax income year-to-year change

Pre-tax income margin

2.5%

(10.5)%

30.6%

(0.1)%

2.2%

9.9%

(5.0)%

(7.6)%

5.8%

$7,604

726

$8,330

$ 701

(5.9)%

(22.4)%

8.4%

$1,400

$76,199

1,232

$2,632

$1,055

(17.8)%

(22.5)%

40.1%

6,220

$82,419

$13,019

(2.3)%

(10.6)%

15.8%

Pre-tax income from continuing operations

$ 8,882*

$ 1,629*

$ 1,781*

Revenue year-to-year change

Pre-tax income year-to-year change

Pre-tax income margin

2.0%*

10.1%*

35.0%*

2.9%*

25.0%*

9.6%*

0.5%*

(32.0)%*

5.9%*

$22,209 *

$16,595 *

$29,146 *

$8,034

$1,590

$77,573 *

3,190*

326

872*

$25,399 *

$16,921 *

$30,018 *

815

$8,848

$ 904

(1.1)%

(19.9)%

10.2%

1,610

$3,200

$1,361

1.0%

6.5%

42.5%

6,813*

$84,386 *

$14,557*

1.3%*

1.1%*

17.3%*

Pre-tax income from continuing operations

$ 8,068*

$ 1,303*

$ 2,618*

$21,751 *

$16,073 *

$29,213 *

$8,194

$1,696

$76,927 *

3,159*

363

657

$24,910 *

$16,436 *

$29,870 *

2.0%*

7.3%*

32.4%*

(1.9)%*

(3.6)%*

(18.4)%*

(13.2)%*

7.9%*

8.8%*

750

$8,945

$1,128

5.7%

21.9%

12.6%

1,471

$3,168

$1,278

(9.3)%

(22.8)%

40.3%

6,401*

$83,329 *

$14,396*

(0.9)%*

(2.2)%*

17.3%*

($ in millions)

For the year ended December 31:

2019

2018

2017

For the year ended December 31:

2019

2018

2017

Revenue

Pre-tax income from

continuing operations

Total reportable segments

$82,419

$84,386 * $83,329 *

Total reportable segments

$13,019

$14,557 * $14,396 *

Other—divested businesses

Other revenue

Elimination of internal

transactions

Total IBM consolidated

revenue

786

162

1,810*

2,041*

Amortization of acquired

207

171

intangible assets

(6,220)

(6,813)*

(6,401)*

Acquisition-related charges

Non-operating retirement-
related (costs)/income

$77,147

$79,591

$79,139

Elimination of internal

* Recast to conform to 2019 presentation.

transactions

Other—divested businesses

Unallocated corporate

amounts

Total pre-tax income from
continuing operations

(1,298)

(423)

(809)

(16)

(945)

(52)

(615)

(1,572)

(1,341)

(290)

390

(725)*

(742)*

292*

468*

(617)

(385)

$10,166

$11,342

$11,400

* Recast to conform to 2019 presentation.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies92

Immaterial Items
Investment in Equity Alliances and
Equity Alliances Gains/(Losses)
The investments in equity alliances and the resulting gains and
(losses) from these investments that are attributable to the
segments did not have a material effect on the financial position
or the financial results of the segments.

Segment Assets and Other Items
Cloud & Cognitive Software assets are mainly goodwill, acquired
intangible assets and accounts receivable. Global Business
Services assets are primarily goodwill and accounts receivable.
Global Technology Services assets are primarily goodwill, plant,
property and equipment, including the assets associated with the
outsourcing business, accounts receivable and acquired intangible
assets. Systems assets are primarily goodwill, manufacturing
inventory, and plant, property and equipment. Global Financing
assets are primarily financing receivables, cash and marketable
securities, and fixed assets under operating leases.

To ensure the efficient use of the company’s space and equipment,
several segments may share leased or owned plant, property and
equipment assets. Where assets are shared, landlord ownership
of the assets is assigned to one segment and is not allocated
to each user segment. This is consistent with the company’s
management system and is reflected accordingly in the table
below. In those cases, there will not be a precise correlation
between segment pre-tax income and segment assets.

Depreciation expense and capital expenditures that are reported
by each segment also are consistent with the landlord ownership
basis of asset assignment.

Global Financing amounts for interest income and interest
expense reflect the interest income and interest expense
associated with the Global Financing business, including the
intercompany financing activities discussed on page 33, as well
as the income from investment in cash and marketable securities.

Management System Segment View

($ in millions)

For the year ended December 31:

2019

Assets

Cloud &
Cognitive
Software

Global
Business
Services

Global
Technology
Services

Systems

Global
Financing

Total
Segments

$58,453

$10,039

$22,436

$4,590

$29,568

$125,087

Depreciation/amortization of intangibles**

1,107

149

2,601

Capital expenditures/investments

515

—

1,575

—

350

305

—

186

4,392

1,490

512

2,501

1,490

512

in intangibles

Interest income

Interest expense

2018

Assets

in intangibles

Interest income

Interest expense

2017

Assets

Depreciation/amortization of intangibles**

1,058*

100*

2,359*

Capital expenditures/investments

$28,713*

$ 8,360*

$17,624*

$4,030

$41,320

$100,047*

469*

—

57*

—

2,569*

—

315

241

—

229

4,063*

274

1,647

515

3,610*

1,647

515

$29,650*

$ 8,647*

$17,577*

$3,898

$41,096

$100,868*

Depreciation/amortization of intangibles**

1,185*

Capital expenditures/investments

in intangibles

Interest income

Interest expense

467*

—

99*

46*

—

2,209*

2,193*

—

341

189

—

267

4,101*

364

1,527

381

3,259*

1,527

381

* Recast to conform to 2019 presentation.

** Segment pre-tax income from continuing operations does not include the amortization of intangible assets.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies
Reconciliations of IBM as Reported

($ in millions)

At December 31:

Assets

2019

2018

2017

Total reportable segments $125,087

$100,047* $100,868*

Elimination of internal

transactions

(4,317)

(7,143)

(6,272)

Other—divested businesses

1,894

2,575*

2,285*

Unallocated amounts

Cash and marketable

securities

7,308

10,393

10,162

Revenue by Classes of Similar Products or Services
The following table presents external revenue for similar
classes of products or services within the company’s reportable
segments. Client solutions often include IBM software and
systems and other suppliers’ products if the client solution
requires it. For each of the segments that include services,
Software-as-a-Service, consulting, education, training and other
product-related services are included as services. For each of
these segments, software includes product license charges and
ongoing subscriptions.

($ in millions)

For the year ended December 31:

2019

2018

2017

Cloud & Cognitive Software*

Notes and accounts

receivable

Deferred tax assets

Plant, other property
and equipment

Operating right-of-use

assets**

Pension assets

Other

Total IBM consolidated

3,298

4,995

1,597

5,089

2,554

4,746

2,334

2,463

2,659

Software

Services

Systems

Global Business Services*

3,530

6,865

1,194

—

4,666

3,695

—

4,643

3,712

Services

Software

Systems

assets

$152,186

$123,382 $125,356

* Recast to conform to 2019 presentation.

** Reflects the adoption of the FASB guidance on leases in 2019.

Major Clients
No single client represented 10 percent or more of the company’s
total revenue in 2019, 2018 or 2017.

Geographic Information
The following provides information for those countries that are
10 percent or more of the specific category.

Revenue*

($ in millions)

Global Technology Services*

Services

Maintenance

Systems

Software

Systems

Servers

Storage

Software

Services

Global Financing

Financing

$18,712

$17,970 ** $17,681 **

4,321

166

4,082**

3,920**

156

150

$16,363

$16,238 ** $15,728 **

156

115

151**

179**

206

165

$20,768

$22,222 ** $21,913 **

5,183

1,072

338

5,484

1,069

5,783

1,207

371**

310**

$ 3,746

$ 3,996

$ 3,993

1,920

1,528

410

2,114

2,243

1,499**

1,520**

425**

438**

$ 1,120

$ 1,223

$ 1,167

Used equipment sales

281

366

530

For the year ended December 31:

2019

2018

2017

* Recast to conform to 2019 presentation.

United States

Japan

Other countries

Total IBM consolidated

$28,395

$29,078

$29,759

8,681

40,071

8,489

42,024

8,239

41,141

** Reclassified to conform to 2019 presentation. Refer to “Basis of
Presentation” in note A, “Significant Accounting Policies,” for
additional information.

revenue

$77,147

$79,591

$79,139

* Revenues are attributed to countries based on the location of the client.

Plant and Other Property—Net

($ in millions)

At December 31:

United States

Other countries

Total

2019

2018

2017

$4,485

$ 4,585

$ 4,670

5,294

5,774

5,985

$9,778

$10,359

$10,655

Operating Right-of-Use Assets—Net*

($ in millions)

At December 31:

United States

Japan

Other countries

Total

2019

$1,386

659

2,951

$4,996

2018

$—

—

$—

2017

$—

—

$—

* Reflects the adoption of the FASB guidance on leases in 2019.

NOTE E. ACQUISITIONS & DIVESTITURES
Acquisitions
The company accounts for business combinations using the
acquisition method, and accordingly, the identifiable assets
acquired, the liabilities assumed and any noncontrolling
interest in the acquiree are recorded at their acquisition date fair
values. Significant judgments and use of estimates are required
when performing valuations. For example, the company uses
judgments when estimating the fair value of intangible assets
using a discounted cash flow model, which involves the use of
significant estimates and assumptions with respect to revenue
growth rates, the customer attrition rate and discount rates.

Purchase price consideration for all acquisitions was paid
primarily in cash. All acquisitions, except otherwise stated were
for 100 percent of the acquired business and are reported in the
Consolidated Statement of Cash Flows, net of acquired cash and
cash equivalents.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies94

2019
In 2019, the company completed one acquisition at an aggregate
cost of $35 billion.

Red Hat—On July 9, 2019, the company completed the acquisition
of all of the outstanding shares of Red Hat. Red Hat’s portfolio
of open-source and cloud technologies combined with IBM’s
innovative hybrid cloud technology and industry expertise are
delivering the hybrid multi-cloud capabilities required to address
the next chapter of cloud implementations.

On the acquisition date, Red Hat shareholders received $190 per
share in cash, representing a total equity value of approximately
$34 billion. The company funded the transaction through a
combination of cash on hand and proceeds from debt issuances.
Refer to note P, “Borrowings,” for additional details on the
financing of the transaction.

The goodwill generated is primarily attributable to the assembled
workforce of Red Hat and the increased synergies expected to
be achieved from the integration of Red Hat products into the
company’s various integrated solutions neither of which qualify
as an amortizable intangible asset.

The overall weighted-average useful life of the identified
amortizable intangible assets acquired was 10.9 years. These
identified intangible assets will be amortized on a straight-line
basis over their useful lives, which approximates the pattern that
the assets’ economic benefits are expected to be consumed over
time. The following table presents the goodwill allocated to the
segments as of December 31, 2019.

The following table reflects the breakdown of total consideration:

Global Technology Services

($ in billions)

Segment

Cloud & Cognitive Software

Global Business Services

Total Consideration

Systems

Total

Goodwill
Allocated*

$18.5

3.1

1.1

0.4

$23.1

($ in millions)

Cash paid for outstanding Red Hat

common stock

Cash paid for Red Hat equity awards

Cash paid to settle warrants

Cash consideration

Fair value of stock-based

compensation awards attributable
to pre-combination services

Stock issued to holders of vested

performance share units

Settlement of pre-existing relationships

Total consideration

$33,769

1,008

$34,801

174

$35,080

The following table reflects the purchase price and the resulting
purchase price allocation as of December 31, 2019. The net
purchase price adjustments recorded in the fourth-quarter 2019
were related to deferred tax assets and liabilities.

($ in millions)

Current assets*

Property, plant and equipment/

noncurrent assets

Intangible assets

Goodwill

Client relationships

Completed technology

Trademarks

Total assets acquired

Current liabilities**

Noncurrent liabilities

Total liabilities assumed

Total purchase price

Amortization
Life (in Years)

N/A

Allocated
Amount

$ 3,186

939

23,125

7,215

4,571

1,686

$40,722

1,378

4,265

$ 5,642

$35,080

* Includes $2.2 billion of cash and cash equivalents.

** Includes $485 million of short-term debt related to the convertible

notes acquired from Red Hat that were recognized at their fair value on
the acquisition date, which was fully settled as of October 1, 2019.

N/A—Not applicable

* It is expected that approximately seven percent of the goodwill will be

deductible for tax purposes.

The valuation of the assets acquired and liabilities assumed is
subject to revision. If additional information becomes available,
the company may further revise the purchase price allocation
as soon as practical, but no later than one year from Red Hat’s
acquisition date. Any such revisions or changes may be material.
The primary area of the purchase price allocation that is subject
to revision relates to certain tax matters.

The company recognized acquisition-related costs, such as
legal and advisory fees, of $189 million within SG&A in the
Consolidated Income Statement for the year ended December
31, 2019. This included $55 million of amortized costs related
to bridge term loan facility fees.

In addition, the company recognized compensation expense
related to employee retention plans for the period beginning
on the acquisition date through December 31, 2019 in the
Consolidated Income Statement as follows:

($ in millions)

Line Item

Cost

Selling, general and administrative expense

Research, development and
engineering expense

Total

Compensation
Expense*

$ 20

124

$230

* The remaining compensation expense of approximately $185 million

associated with the retention plans will be recognized over the
remaining requisite service periods, which range from six months to
three years from the acquisition date.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies
95

The acquisition of Red Hat settled a pre-existing vendor/
customer relationship in which the company had historically
paid in advance for purchases of Red Hat products. Because
the terms of the agreements were determined to approximate
fair value at the acquisition date, the company did not recognize
any gain or loss separately from the acquisition, and $60 million
was transferred on the acquisition date as a part of the fair value
consideration.

The Consolidated Income Statement includes revenue and a
pre-tax loss attributable to Red Hat since the date of acquisition
for the year ended December 31, 2019 of $945 million and $1,658
million, respectively. The pre-tax loss was primarily driven by
the deferred revenue fair value adjustment, retention expenses,
intangible asset amortization and deal fees. The pre-tax loss
excludes interest expense.

The table below presents the supplemental consolidated financial
results of the company on an unaudited pro forma basis, as if the
acquisition had been consummated on January 1, 2018 through
the periods shown below. The primary adjustments reflected
in the pro forma results relate to: (1) the debt used to fund the
acquisition, (2) changes driven by acquisition accounting, including
amortization of intangible assets and the deferred revenue fair
value adjustment, (3) employee retention plans, (4) elimination
of intercompany transactions between IBM and Red Hat, and (5)
the presentation of acquisition-related costs. Acquisition-related
costs are non-recurring in nature and the pro forma net income
amounts shown below include $374 million of these costs.

The unaudited pro forma financial information presented below
does not purport to represent the actual results of operations
that IBM and Red Hat would have achieved had the companies
been combined during the periods presented and is not intended
to project the future results of operations that the combined
company may achieve after the acquisition. Historical fiscal
periods are not aligned under this presentation. The unaudited
pro forma financial information does not reflect any potential
cost savings, operating efficiencies, long-term debt pay down
estimates, suspension of IBM’s share repurchase program,
financial synergies or other strategic benefits that may be
realized as a result of the acquisition and also does not reflect
any restructuring costs to achieve those benefits.

(Unaudited)

($ in millions)

For the year ended December 31:

2019

2018

Revenue

Net income

$79,628

$81,360

$ 9,723 $ 5,702

2018
In 2018, the company completed two acquisitions at an aggregate
cost of $49 million. One acquisition was completed by the Cloud
& Cognitive Software segment and one acquisition by the Global
Business Services segment. These acquisitions did not have a
material impact on the Consolidated Financial Statements.

2017
In 2017, the company completed five acquisitions for an
aggregate cost of $134 million.

The Global Technology Services segment completed acquisitions
of three businesses: in the first quarter, Agile 3 Solutions,
LLC, a privately held business; in the third quarter, the cloud
and managed hosting services business from a large U.S.
telecommunications company, and Cloudigo Ltd., a privately held
business. The Cloud & Cognitive Software segment completed
the acquisition of one privately held business: in the second
quarter, XCC Web Content & Custom Apps Extension from
TIMETOACT Software & Consulting GmbH. Global Business
Services completed the acquisition of one privately held
business: in the fourth quarter, Vivant Digital.

The following table reflects the purchase price related to these
acquisitions and the resulting purchase price allocations as of
December 31, 2017.

($ in millions)

Current assets

Fixed assets/noncurrent assets

Intangible assets

Goodwill

Completed technology

Client relationships

Patents/trademarks

Total assets acquired

Current liabilities

Noncurrent liabilities

Total liabilities assumed

Total purchase price

N/A—Not applicable

Amortization
Life (in Years)

Total
Acquisitions

N/A

5–7

1–5

$ 18

$177

(9)

(34)

$ (43 )

$134

The overall weighted-average life of the identified amortizable
intangible assets acquired was 6.6 years. These identified
intangible assets are amortized on a straight-line basis over their
useful lives. Goodwill of $13 million and $3 million was assigned
to the Global Technology Services segment and the Cloud &
Cognitive Software segment, respectively. It was expected that
approximately 50 percent of the goodwill will be deductible for
tax purposes.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies
96

Divestitures
2019
Select IBM Software Products—On December 6, 2018, IBM
and HCL Technologies Limited (HCL) announced a definitive
agreement, in which HCL would acquire select standalone Cloud
& Cognitive Software products for $1,775 million, inclusive of
$150 million of contingent consideration. The transaction
included commercial software, intellectual property and services
offerings. In addition, the transaction includes transition services
for IT and other services.

The transaction closed on June 30, 2019. The company received
cash of $812 million at closing and $40 million of the contingent
consideration in the third quarter of 2019. The company expects
to receive an additional $813 million (net of any additional
contingent consideration) within 12 months of closing. The
outstanding contingent consideration is expected to be earned
within 24 months of the closing. IBM will remit payment to HCL
predominantly for servicing certain customer contracts until such
contracts are terminated or entitlements are assumed by HCL.
Cash of $174 million was remitted in the fourth quarter of 2019
related to deferred revenue that existed prior to closing. IBM
expects to remit an additional $325 million of cash to HCL by the
end of 2021. The company recognized pre-tax gains on the sale
of $556 million at closing and $72 million in the third quarter of
2019. The total pre-tax gain on the transaction for the year ended
December 31, 2019 was $626 million. The total gain on sale may
change in the future due to contingent consideration or changes
in other transaction estimates, however, material changes are
not expected.

Select IBM Marketing Platform and Commerce Offerings—On
April 4, 2019, IBM and Centerbridge Partners, L.P. (Centerbridge)
announced a definitive agreement, in which Centerbridge would
acquire select marketing platform and commerce offerings from
IBM. The transaction included commercial software and services
offerings. In addition, the company is providing Centerbridge with
transition services including IT, supply chain management, and
other services. Upon closing, Centerbridge announced that this
business would be re-branded under the name Acoustic. The
closing completed for the U.S. on June 30, 2019. The company
expects a subsequent closing for the remaining countries to
occur within 12 months of the U.S. closing. The timing of the
subsequent closing is subject to change as more information
becomes available. The company received a net cash payment
of $240 million at the U.S. closing and expects to receive an
additional $150 million within 36 months of the U.S. closing.

The company recognized an immaterial pre-tax gain on the
sale on June 30, 2019. The amount of the pre-tax gain for the
remaining countries will not be determinable until the valuation
of the final balance sheet transferred is completed, however, it
is not expected to be material.

IBM Risk Analytics and Regulatory Offerings—On September 24,
2019, IBM and SS&C Technologies Holdings, Inc. (SS&C) entered
into a definitive agreement in which SS&C would acquire
certain Algorithmics and related assets from IBM. The content
is reported in the Cloud & Cognitive Software segment. The
transaction closed in the fourth quarter of 2019. The company
recognized an immaterial pre-tax gain on the sale for the year
ended December 31, 2019.

IBM Sales Performance Management Offerings—On November 20,
2019, IBM and Varicent Parent Holdings Corporation (Varicent)
entered into a definitive agreement in which Varicent would
acquire certain sales performance management assets from
IBM. The content is reported in the Cloud & Cognitive Software
segment. The initial closing of certain countries was completed on
December 31, 2019. The company expects a subsequent closing
for the remaining countries to occur within the first half of 2020.
The company received a net cash payment of $230 million and
recognized a pre-tax gain on the sale of $136 million for the year
ended December 31, 2019. The amount of the pre-tax gain for the
remaining countries will not be determinable until the valuation
of the final balance sheet transferred is completed, however, it is
not expected to be material.

In addition to the above, the company completed three
divestitures reported in the Global Financing segment, the Global
Business Services segment and the Other—divested businesses.
The financial terms related to each of these transactions were
not material.

The pre-tax gain recognized on the divestitures above was
recorded in other (income) and expense in the Consolidated
Income Statement.

2018 and 2017
The company had no divestitures in 2018. The company
completed five divestitures in 2017, four of which were reported
in the Cloud & Cognitive Software segment and one was a
research-related divestiture. The financial terms related to these
transactions were not material. Overall, the company recognized
a pre-tax gain of $31 million related to these transactions in 2017.

NOTE F. RESEARCH, DEVELOPMENT & ENGINEERING
RD&E expense was $5,989 million in 2019, $5,379 million in
2018 and $5,590 million in 2017.

The company incurred total expense of $5,657 million, $5,027
million and $5,170 million in 2019, 2018 and 2017, respectively,
for scientific research and the application of scientific advances
to the development of new and improved products and their uses,
as well as services and their application. Within these amounts,
software-related expense was $3,541 million, $3,050 million and
$3,145 million in 2019, 2018 and 2017, respectively.

The above two divested businesses are reported in Other—
divested businesses. Refer to note D, “Segments” for additional
information.

Expense for product-related engineering was $334 million,
$352 million and $420 million in 2019, 2018 and 2017,
respectively.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies97

A reconciliation of the statutory U.S. federal tax rate to the
company’s effective tax rate from continuing operations was
as follows:

For the year ended December 31:

2019

2018

2017

Statutory rate

NOTE G. TAXES

($ in millions)

For the year ended December 31:

2019

2018

2017

Income from continuing
operations before
income taxes

U.S. operations

$ (315)

$ 627

$ 560

Enactment of U.S. tax reform

Non-U.S. operations

10,481

10,715

10,840

Total income from

continuing operations
before income taxes

$10,166

$11,342

$11,400

The income from continuing operations provision for income
taxes by geographic operations was as follows:

Tax differential on
foreign income

Intra-entity transfers

Domestic incentives

State and local

Other

Effective rate

21%

(11)

(2)

(1)

21%

(9)*

(3)*

(1)

(3)

35%

(26)

(5)

(2)

23%

49%

($ in millions)

* Reclassified to conform to 2019 presentation.

For the year ended December 31:

2019

2018

2017

Percentages rounded for disclosure purposes.

U.S. operations

$ (408)

$1,199

$2,923

Non-U.S. operations

1,139

1,420

2,719

Total continuing operations

provision for income taxes

$ 731

$2,619

$5,642

The components of the income from continuing operations
provision for income taxes by taxing jurisdiction were as follows:

($ in millions)

For the year ended December 31:

2019

2018

2017

U.S. federal

Current

Deferred

U.S. state and local

Current

Deferred

Non-U.S.

Current

Deferred

Total continuing operations
provision for income taxes

Discontinued operations
provision for/(benefit from)
income taxes

Provision for social security,
real estate, personal property
and other taxes

Total taxes included
in net income

$ 331

$ (342)

$2,388

(839)

1,377

$ (508)

$1,035

$2,465

$ (85)

$ 127

$ 55

(82)

(292)

$ (167)

$ (165)

$ 83

$1,829

$2,135

$3,891

(423)

(386)

(797)

$1,406

$1,749

$3,094

$ 731

$2,619

$5,642

(1)

(3)

3,304

3,322

3,434

$4,034

$5,943

$9,073

The significant components reflected within the tax rate
reconciliation labeled “Tax differential on foreign income”
include the effects of foreign subsidiaries’ earnings taxed at rates
other than the U.S. statutory rate, foreign export incentives, U.S.
taxes on foreign income and any net impacts of intercompany
transactions. These items also reflect audit settlements or
changes in the amount of unrecognized tax benefits associated
with each of these items.

On December 22, 2017, the U.S. Tax Cuts and Jobs Act was
enacted. U.S. tax reform introduced many changes, including
lowering the U.S. corporate tax rate to 21 percent, changes in
incentives, provisions to prevent U.S. base erosion and significant
changes in the taxation of international income, including
provisions which allow for the repatriation of foreign earnings
without U.S. tax. The enactment of U.S. tax reform resulted in
charges to tax expense of $0.1 billion, $2.0 billion and $5.5
billion for the years ended December 31, 2019, 2018 and 2017,
respectively. The charge in 2017 was the result of the one-time
U.S. transition tax and any foreign tax costs on undistributed
foreign earnings, as well as the remeasurement of deferred tax
balances to the new U.S. federal tax rate. In 2018, the charge was
primarily attributable to the company’s election to include GILTI
in measuring deferred taxes, plus refinements to the one-time
U.S. transition tax and foreign tax costs on undistributed foreign
earnings. The charge in 2019 was related to additional tax reform
guidance issued by the U.S. Treasury in January 2019.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies98

The 2019 continuing operations effective tax rate decreased 15.9
points from 2018 driven by: a decrease in charges related to U.S.
tax reform (16.5 points) and a charge in 2018 from intercompany
payments (3.4 points). These benefits were partially offset by a
lower benefit year to year from audit activity (4.4 points).

For financial reporting purposes, the company had foreign and
domestic loss carryforwards, the tax effect of which was $504
million, including a tax only capital loss in a subsidiary, as well
as foreign and domestic credit carryforwards of $1,591 million.
Substantially all of these carryforwards are available for at least
two years and the majority are available for 10 years or more.

The effect of tax law changes on deferred tax assets and
liabilities did not have a material impact on the company’s 2019
effective tax rate.

Deferred Tax Assets

($ in millions)

At December 31:

Retirement benefits

Leases*

Share-based and other compensation

Domestic tax loss/credit carryforwards

Deferred income

Foreign tax loss/credit carryforwards

Bad debt, inventory and warranty reserves

Depreciation

Accruals

Intangible assets

Capitalized research and development

Other

Gross deferred tax assets

Less: valuation allowance

Net deferred tax assets

Deferred Tax Liabilities

($ in millions)

At December 31:
Goodwill and intangible assets+

GILTI deferred taxes

Leases and right-of-use assets*

Depreciation

Retirement benefits
Software development costs+

Deferred transition costs

Undistributed foreign earnings

Other

2019

2018

$ 3,766

$3,620

1,729

637

1,259

600

836

298

253

368

592

722

1,438

12,498

608

103**

636

964

674

903

348

231

336

620

—

1,398

9,833

915

$11,890

$8,918

$ 3,111

$1,200

1,908

2,216

728

1,002

1,075

233

725

940

1,927

580

719

455

292

233

981

1,011

Gross deferred tax liabilities

$11,938

$7,398

* Reflects the adoption of the FASB guidance on leases.

** Previously included in Other.
+ The increase in the balance was primarily due to the

acquisition of Red Hat.

The valuation allowances as of December 31, 2019, 2018 and
2017 were $608 million, $915 million and $1,004 million,
respectively. The amounts principally apply to certain foreign
and domestic loss carryforwards and credits. In the opinion of
management, it is more likely than not that these assets will not
be realized. However, to the extent that tax benefits related to
these carryforwards are realized in the future, the reduction in
the valuation allowance will reduce income tax expense.

The amount of unrecognized tax benefits at December 31,
2019 increased by $387 million in 2019 to $7,146 million.
A reconciliation of the beginning and ending amount of
unrecognized tax benefits was as follows:

($ in millions)

Balance at January 1

$6,759

$ 7,031

$3,740

2019

2018

2017

Additions based on tax

positions related to the
current year

Additions for tax positions

816

394

3,029

of prior years

779

1,201

803

Reductions for tax positions
of prior years (including
impacts due to a lapse of
statute)

Settlements

(922)

(286)

(1,686)

(181)

(367)

(174)

The additions to unrecognized tax benefits related to the current
and prior years were primarily attributable to U.S. federal and
state tax matters, as well as non-U.S. tax matters, including
transfer pricing, credits and incentives. The settlements and
reductions to unrecognized tax benefits for tax positions of prior
years were primarily attributable to U.S. federal and state tax
matters, non-U.S. audits and impacts due to lapse of statute of
limitations.

The unrecognized tax benefits at December 31, 2019 of
$7,146 million can be reduced by $584 million associated with
timing adjustments, U.S. tax credits, potential transfer pricing
adjustments and state income taxes. The net amount of $6,562
million, if recognized, would favorably affect the company’s
effective tax rate. The net amounts at December 31, 2018 and
2017 were $6,041 million and $6,064 million, respectively.

Interest and penalties related to income tax liabilities are
included in income tax expense. During the year ended
December 31, 2019, the company recognized $13 million in
interest expense and penalties; in 2018, the company recognized
a net benefit of $14 million in interest expense and penalties;
and, in 2017, the company recognized $174 million in interest
expense and penalties. The company had $819 million for the
payment of interest and penalties accrued at December 31, 2019,
and had $680 million accrued at December 31, 2018.

2019

2018

Balance at December 31

$7,146

$ 6,759

$7,031

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies99

Within the next 12 months, the company believes it is reasonably
possible that the total amount of unrecognized tax benefits
associated with certain positions may be reduced. The potential
decrease in the amount of unrecognized tax benefits is associated
with the anticipated resolution of various U.S. state and non-U.S.
audits. The company estimates that the unrecognized tax benefits
at December 31, 2019 could be reduced by $236 million.

The company’s U.S. income tax returns for 2013 and 2014
continue to be examined by the IRS with specific focus on certain
cross-border transactions in 2013. Although the IRS could
propose additional adjustments related to these transactions,
the company believes it is adequately reserved on these matters.
In the third quarter of 2018, the U.S. Internal Revenue Service
commenced its audit of the company’s U.S. tax returns for
2015 and 2016. The company anticipates that this audit will be
completed in 2021. With respect to major U.S. state and foreign
taxing jurisdictions, the company is generally no longer subject
to tax examinations for years prior to 2014. The company is no
longer subject to income tax examination of its U.S. federal tax
return for years prior to 2013. The open years contain matters
that could be subject to differing interpretations of applicable tax
laws and regulations as it relates to the amount and/or timing of
income, deductions and tax credits. Although the outcome of tax
audits is always uncertain, the company believes that adequate

amounts of tax, interest and penalties have been provided for any
adjustments that are expected to result for these years.

The company is involved in a number of income tax-related
matters in India challenging tax assessments issued by the
India Tax Authorities. As of December 31, 2019, the company
had recorded $729 million as prepaid income taxes in India. A
significant portion of this balance represents cash tax deposits
paid over time to protect the company’s right to appeal various
income tax assessments made by the India Tax Authorities.
Although the outcome of tax audits is always uncertain, the
company believes that adequate amounts of tax, interest and
penalties have been provided for any adjustments that are
expected to result for these years.

Within consolidated retained earnings at December 31, 2019 were
undistributed after-tax earnings from certain non-U.S. subsidiaries
that were not indefinitely reinvested. At December 31, 2019,
the company had a deferred tax liability of $725 million for the
estimated taxes associated with the repatriation of these earnings.
Undistributed earnings of approximately $650 million and other
outside basis differences in foreign subsidiaries were indefinitely
reinvested in foreign operations. Quantification of the deferred tax
liability, if any, associated with indefinitely reinvested earnings and
outside basis differences was not practicable.

NOTE H. EARNINGS PER SHARE
The following table presents the computation of basic and diluted earnings per share of common stock.

($ in millions except per share amounts)

For the year ended December 31:

Weighted-average number of shares on which earnings per share

calculations are based

Basic

Add—incremental shares under stock-based compensation plans

Add—incremental shares associated with contingently issuable shares

Assuming dilution

Income from continuing operations

Income/(loss) from discontinued operations, net of tax

Net income on which basic earnings per share is calculated

Income from continuing operations

Net income applicable to contingently issuable shares

Income from continuing operations on which diluted earnings

per share is calculated

Income/(loss) from discontinued operations, net of tax, on which basic

and diluted earnings per share is calculated

Net income on which diluted earnings per share is calculated

Earnings/(loss) per share of common stock

Assuming dilution

Continuing operations

Discontinued operations

Total

Basic

Continuing operations

Discontinued operations

Total

2019

2018

2017

887,235,105

912,048,072

932,828,295

4,199,440

1,378,831

2,786,316

1,481,326

3,094,373

1,462,957

892,813,376

916,315,714

937,385,625

$9,435

(4)

$9,431

$9,435

$8,723

$8,728

$8,723

(6)

$5,758

(5)

$5,753

$5,758

(2)

$9,435

$8,718

$5,756

(4)

$9,431

$10.57

(0.01)

$10.56

$10.63

0.00

$10.63

$8,722

(5 )

$5,752

$ 9.51

0.01

$ 9.52

$ 9.56

0.01

$ 9.57

$ 6.14

0.00

$ 6.14

$ 6.17

0.00

$ 6.17

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies100

Weighted-average stock options to purchase 855,679 common
shares in 2019, 576,776 common shares in 2018 and 209,294
common shares in 2017 were outstanding, but were not included
in the computation of diluted earnings per share because the

exercise price of the options was greater than the average market
price of the common shares for the full year, and therefore, the
effect would have been antidilutive.

NOTE I. FINANCIAL ASSETS & LIABILITIES
Fair Value Measurements
Financial Assets and Liabilities Measured at Fair Value on a Recurring Basis
The following table presents the company’s financial assets and financial liabilities that are measured at fair value on a recurring
basis at December 31, 2019 and 2018.

($ in millions)

At December 31:

Cash equivalents (1)

Time deposits and certificates of deposit (4)

Money market funds

Total cash equivalents

Equity investments (2)

Debt securities—current (3) (4)

Debt securities—noncurrent (2) (4)

Derivatives designated as hedging instruments (5)

Interest rate contracts

Foreign exchange contracts

Derivatives not designated as hedging instruments

Foreign exchange contracts

Equity contracts (6)

Total

Fair Value
Hierarchy Level

2019

2018

Assets(7)

Liabilities(8)

Assets(7)

Liabilities(8)

1,2

$4,392

427

$4,819

696

175

$ —

—

$ —

—

635

$7,679

$7,704

618

—

220

483

$5,823

$673

$9,053

$ —

—

$ —

—

239

$383

(1) Included within cash and cash equivalents in the Consolidated Balance Sheet.

(2) Included within investments and sundry assets in the Consolidated Balance Sheet.

(3) Included within marketable securities in the Consolidated Balance Sheet.

(4) Available-for-sale debt securities with carrying values that approximate fair value. The contractual maturities are substantially one year or less.

(5) Excludes $7,324 million and $6,261 million at December 31, 2019 and 2018, respectively, of debt designated as hedging instruments that are

reported at carrying value.

(6) Level 1 includes immaterial amounts related to equity futures contracts.

(7) The gross balances of derivative assets contained within prepaid expenses and other current assets, and investments and sundry assets

in the Consolidated Balance Sheet at December 31, 2019 were $149 million and $94 million, respectively, and at December 31, 2018 were
$385 million and $347 million, respectively.

(8) The gross balances of derivative liabilities contained within other accrued expenses and liabilities, and other liabilities in the Consolidated
Balance Sheet at December 31, 2019 were $167 million and $506 million, respectively, and at December 31, 2018 were $177 million and
$206 million, respectively.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies

101

Financial Assets and Liabilities Not Measured at Fair Value
Short-Term Receivables and Payables
Notes and other accounts receivable and other investments are
financial assets with carrying values that approximate fair value.
Accounts payable, other accrued expenses and short-term debt
(excluding the current portion of long-term debt and including
short-term finance lease liabilities) are financial liabilities with
carrying values that approximate fair value. If measured at fair
value in the financial statements, these financial instruments
would be classified as Level 3 in the fair value hierarchy, except
for short-term debt which would be classified as Level 2.

Loans and Long-Term Receivables
Fair values are based on discounted future cash flows using current
interest rates offered for similar loans to clients with similar
credit ratings for the same remaining maturities. At December
31, 2019 and 2018, the difference between the carrying amount
and estimated fair value for loans and long-term receivables was
immaterial. If measured at fair value in the financial statements,
these financial instruments would be classified as Level 3 in the
fair value hierarchy.

Long-Term Debt
Fair value of publicly traded long-term debt is based on quoted
market prices for the identical liability when traded as an asset in
an active market. For other long-term debt (including long-term
finance lease liabilities) for which a quoted market price is not
available, an expected present value technique that uses rates
currently available to the company for debt with similar terms and
remaining maturities is used to estimate fair value. The carrying
amount of long-term debt was $54,102 million and $35,605
million, and the estimated fair value was $58,431 million and
$36,599 million at December 31, 2019 and 2018, respectively.
If measured at fair value in the financial statements, long-term
debt (including the current portion) would be classified as Level
2 in the fair value hierarchy.

NOTE J. INVENTORY

($ in millions)

At December 31:

Finished goods

2019

2018

$ 220

$ 266

Work in process and raw materials

1,399

1,415

Total

$1,619

$1,682

NOTE K. FINANCING RECEIVABLES
Financing receivables primarily consist of client loan and installment
payment receivables (loans), investment in sales-type and direct
financing leases, and commercial financing receivables. Client
loan and installment payment receivables (loans) are provided
primarily to clients to finance the purchase of hardware, software
and services. Payment terms on these financing arrangements
are generally for terms up to seven years. Client loans and
installment payment financing contracts are priced independently
at competitive market rates. Investment in sales-type and direct
financing leases relates principally to the company’s Systems
products and are for terms ranging generally from two to six years.
Commercial financing receivables relate primarily to inventory and
accounts receivable financing for dealers and remarketers of IBM
and OEM products. Payment terms for inventory and accounts
receivable financing generally range from 30 to 90 days.

Beginning in the second quarter of 2019 and continuing throughout
the year, the company wound down the portion of its commercial
financing operations which provides short-term working capital
solutions for OEM information technology suppliers, distributors
and resellers, which has resulted in a significant reduction of
commercial financing receivables. This wind down is consistent
with IBM’s capital allocation strategy and high-value focus. IBM
Global Financing will continue to provide differentiated end-to-end
financing solutions, including commercial financing in support of
IBM partner relationships.

A summary of the components of the company’s financing receivables is presented as follows:

($ in millions)

At December 31, 2019:

Financing receivables, gross

Unearned income

Recorded investment

Allowance for credit losses

Unguaranteed residual value

Guaranteed residual value

Total financing receivables, net

Current portion

Noncurrent portion

Investment in
Sales-Type and
Direct Financing
Leases

Commercial
Financing
Receivables

Client Loan and
Installment
Payment
Receivables/
(Loans)

$6,077

(509)

$5,567

(72)

652

$6,199

$2,334

$3,865

$3,836

(4)

$3,831

(11)

—

$3,820

$ —

$13,592

(570)

$13,022

(138)

—

$12,884

$ 8,037

$ 4,847

Total

$23,504

(1,083)

$22,421

(221)

652

$22,904

$14,192

$ 8,712

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies102

($ in millions)

At December 31, 2018:

Financing receivables, gross

Unearned income

Recorded investment

Allowance for credit losses

Unguaranteed residual value

Guaranteed residual value

Total financing receivables, net

Current portion

Noncurrent portion

Investment in
Sales-Type and
Direct Financing
Leases

$6,846

(526)

$6,320

(99)

589

$6,895

$2,834

$4,061

Commercial
Financing
Receivables

$11,889

(37)

$11,852

(13)

—

$11,838

$ —

Client Loan and
Installment
Payment
Receivables/
(Loans)

$13,614

(632)

$12,981

(179)

—

$12,802

$ 7,716

$ 5,086

Total

$32,348

(1,195)

$31,153

(292)

589

$31,536

$22,388

$ 9,148

The company utilizes certain of its financing receivables as
collateral for nonrecourse borrowings. Financing receivables
pledged as collateral for borrowings were $1,062 million and
$710 million at December 31, 2019 and 2018, respectively.
These borrowings are included in note P, “Borrowings.”

The company did not have any financing receivables held for sale
as of December 31, 2019 and 2018.

Financing Receivables by Portfolio Segment
The following tables present the recorded investment by
portfolio segment and by class, excluding commercial financing
receivables and other miscellaneous financing receivables at
December 31, 2019 and 2018. Commercial financing receivables
are excluded from the presentation of financing receivables
by portfolio segment, as they are short term in nature and
the current estimated risk of loss and resulting impact to the
company’s financing results are not material.

($ in millions)

At December 31, 2019:

Recorded investment:

Lease receivables

Loan receivables

Ending balance

Recorded investment, collectively evaluated for impairment

Recorded investment, individually evaluated for impairment

Allowance for credit losses

Beginning balance at January 1, 2019

Lease receivables

Loan receivables

Total

Write-offs

Recoveries

Provision

Other*

Ending balance at December 31, 2019

Lease receivables

Loan receivables

Related allowance, collectively evaluated for impairment

Related allowance, individually evaluated for impairment

* Primarily represents translation adjustments.

Americas

EMEA

Asia Pacific

Total

$ 3,419

6,726

$10,144

$10,032

$ 112

$1,186

3,901

$5,087

$5,040

$ 47

$ 963

2,395

$3,359

$3,326

$ 32

$ 5,567

13,022

$18,590

$18,399

$ 191

$ 53

$ 22

$ 24

$ 99

105

179

$ 158

$ 65

$ 56

$ 279

(42)

(1)

$ 120

$ 33

$ 88

$ 25

$ 96

(3)

(7)

$ 54

$ 23

$ 31

$ 11

$ 43

(18)

(3)

(1)

$ 36

$ 16

$ 20

$ 4

$ 32

(63)

(5)

(2)

$ 210

$ 72

$ 138

$ 39

$ 171

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies
103

Write-offs of lease receivables and loan receivables were
$16 million and $47 million, respectively, for the year ended
December 31, 2019. Provisions for credit losses recorded for
lease receivables and loan receivables were a release of $6
million and an addition of $2 million, respectively, for the year
ended December 31, 2019.

The average recorded investment of impaired leases and loans for
Americas, EMEA and Asia Pacific was $138 million, $49 million
and $45 million, respectively, for the year ended December 31,
2019. Both interest income recognized, and interest income
recognized on a cash basis on impaired leases and loans were
immaterial for the year ended December 31, 2019.

($ in millions)

At December 31, 2018:

Recorded investment:

Lease receivables

Loan receivables

Ending balance

Recorded investment, collectively evaluated for impairment

Recorded investment, individually evaluated for impairment

Allowance for credit losses

Beginning balance at January 1, 2018

Lease receivables

Loan receivables

Total

Write-offs

Recoveries

Provision

Other*

Ending balance at December 31, 2018

Lease receivables

Loan receivables

Related allowance, collectively evaluated for impairment

Related allowance, individually evaluated for impairment

* Primarily represents translation adjustments.

Americas

EMEA

Asia Pacific

Total

$ 3,827

6,817

$10,644

$10,498

$ 146

$ 63

108

$ 172

(10)

(11)

$ 158

$ 53

$ 105

$ 39

$ 119

$1,341

3,675

$5,016

$4,964

$ 52

$1,152

2,489

$3,641

$3,590

$ 51

$ 6,320

12,981

$19,301

$19,052

$ 249

$ 9

$ 31

$ 103

211

$ 61

$ 82

$ 314

(2)

(3)

$ 65

$ 22

$ 43

$ 16

$ 49

(23)

(4)

$ 56

$ 24

$ 32

$ 5

$ 51

(35)

(19)

$ 279

$ 99

$ 179

$ 59

$ 219

Write-offs of lease receivables and loan receivables were
$15 million and $20 million, respectively, for the year ended
December 31, 2018. Provisions for credit losses recorded for
lease receivables and loan receivables were $14 million and
$2 million, respectively, for the year ended December 31, 2018.

When determining the allowances, financing receivables are
evaluated either on an individual or a collective basis. For the
company’s policy on determining allowances for credit losses,
refer to note A, “Significant Accounting Policies.”

The average recorded investment of impaired leases and loans for
Americas, EMEA and Asia Pacific was $138 million, $55 million
and $73 million, respectively, for the year ended December 31,
2018. Both interest income recognized, and interest income
recognized on a cash basis on impaired leases and loans were
immaterial for the year ended December 31, 2018.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies104

Past Due Financing Receivables
The company considers a client’s financing receivable balance past due when any installment is aged over 90 days. The following tables
present summary information about the recorded investment in lease and loan financing receivables, including recorded investments
aged over 90 days and still accruing, billed invoices aged over 90 days and recorded investment not accruing.

($ in millions)

Total
Recorded
At December 31, 2019: Investment

Recorded
Investment

>90 Days (1)

Recorded
Investment
>90 Days and

Accruing (1)

Billed
Invoices >90
Days and
Accruing

Recorded
Investment Not

Accruing (2)

Americas

EMEA

Asia Pacific

Total lease receivables

Americas

EMEA

Asia Pacific

Total loan receivables

Total

($ in millions)

$ 3,419

1,186

963

$ 5,567

$ 6,726

3,901

2,395

$13,022

$18,590

$187

$234

$127

$231

$465

$147

$168

$ 71

$ 85

$253

$11

$14

$11

$15

$29

$ 41

$ 69

$ 72

$166

$235

Total
Recorded
At December 31, 2018: Investment

Recorded
Investment

>90 Days (1)

Recorded
Investment
>90 Days and

Accruing (1)

Billed
Invoices >90
Days and
Accruing

Recorded
Investment Not

Accruing (3)

Americas

EMEA

Asia Pacific

Total lease receivables

Americas

EMEA

Asia Pacific

Total loan receivables

Total

$ 3,827

1,341

1,152

$ 6,320

$ 6,817

3,675

2,489

$12,981

$19,301

$310

$385

$259

$397

$782

$256

$292

$166

$202

$494

$19

$24

$29

$52

$ 57

$ 97

$ 99

$203

$300

(1) At a contract level, which includes total billed and unbilled amounts for financing receivables aged greater than 90 days.

(2) Of the recorded investment not accruing, $191 million is individually evaluated for impairment with a related allowance of $171 million.

(3) Of the recorded investment not accruing, $249 million is individually evaluated for impairment with a related allowance of $219 million.

Credit Quality Indicators
The company’s credit quality indicators, which are based
on rating agency data, publicly available information and
information provided by customers, are reviewed periodically
based on the relative level of risk. The resulting indicators are a
numerical rating system that maps to Moody’s Investors Service
credit ratings as shown below. The company uses information
provided by Moody’s, where available, as one of many inputs in
its determination of customer credit ratings.

The following tables present the recorded investment net
of allowance for credit losses for each class of receivables,
by credit quality indicator, at December 31, 2019 and 2018.
Receivables with a credit quality indicator ranging from Aaa to
Baa3 are considered investment grade. All others are considered
non-investment grade. The credit quality indicators do not reflect
mitigation actions that the company takes to transfer credit risk
to third parties.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies

105

($ in millions)

At December 31, 2019:

Credit rating

Aaa—Aa3

A1—A3

Baa1—Baa3

Ba1—Ba2

Ba3—B1

B2—B3

Caa—D

Total

($ in millions)

At December 31, 2018:

Credit rating

Aaa—Aa3

A1—A3

Baa1—Baa3

Ba1—Ba2

Ba3—B1

B2—B3

Caa—D

Lease Receivables

Loan Receivables

Americas

EMEA

Asia Pacific

Americas

EMEA

Asia Pacific

$ 465

$ 54

$ 43

$1,028

$ 193

$ 189

750

955

746

215

242

181

409

326

140

454

147

154

101

1,186

1,882

1,513

471

522

395

1,527

921

564

253

892

619

388

205

$3,385

$1,162

$947

$6,638

$3,871

$2,376

Lease Receivables

Loan Receivables

Americas

EMEA

Asia Pacific

Americas

EMEA

Asia Pacific

$ 593

$ 45

$ 85

$1,055

$ 125

$ 185

678

892

852

433

299

158

417

426

171

413

297

191

1,206

1,587

1,516

770

531

436

1,148

1,175

472

249

901

648

417

184

109

Total

$3,774

$1,319

$1,128

$6,712

$3,633

$2,457

Troubled Debt Restructurings
The company did not have any significant troubled debt
restructurings for the years ended December 31, 2019 and 2018.

NOTE M. LEASES
Accounting for Leases as a Lessee
The following tables presents the various components of lease
costs:

NOTE L. PROPERTY, PLANT & EQUIPMENT

($ in millions)

At December 31:

($ in millions)

For the year ended December 31:

2019

2018

Finance lease cost

Operating lease cost

Short-term lease cost

Variable lease cost

Sublease income

Total lease cost

Land and land improvements

$ 365

$ 448

Buildings and building and
leasehold improvements

9,364

9,640

Information technology equipment

18,054

17,468

Production, engineering,

office and other equipment

Plant and other property—gross

Less: Accumulated depreciation

Plant and other property—net

Rental machines

Less: Accumulated depreciation

Rental machines—net

Total—net

3,721

31,504

21,726

9,778

523

292

232

4,081

31,636

21,276

10,359

824

392

433

$10,010

$10,792

The company recorded net gains on sale and leaseback transactions
of $41 million for the year ended December 31, 2019.

2019

$ 30

1,645

534

(24)

$2,223

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies106

The following table presents supplemental information relating
to the cash flows arising from lease transactions. Cash payments
related to variable lease costs and short-term leases are not
included in the measurement of operating and finance lease
liabilities, and, as such, are excluded from the amounts below.

($ in millions)

For the year ended December 31:

Cash paid for amounts included in the
measurement of lease liabilities

Operating cash outflows from finance leases

Financing cash outflows from finance leases

Operating cash outflows from operating leases

ROU assets obtained in exchange for new finance

lease liabilities

ROU assets obtained in exchange for new operating

lease liabilities

$ 8

1,541

209*

6,481*

* Includes opening balance additions as a result of the adoption of the
new lease guidance effective January 1, 2019. The post adoption
addition of leases for the year ended December 31, 2019 was $1,679
million for operating leases and immaterial for finance leases.

The following table presents the weighted-average lease term
and discount rate for finance and operating leases.

At December 31:

Finance leases

Weighted-average remaining lease term

2019

Weighted-average discount rate

Operating leases

Weighted-average remaining lease term

Weighted-average discount rate

2019

4.8 yrs.

1.62 %

5.4 yrs.

3.03 %

The following table presents a maturity analysis of expected undiscounted cash flows for operating and finance leases on an annual
basis for the next five years and thereafter.

($ in millions) 2020 2021 2022

Finance leases

Operating leases

$ 62

1,486

$ 59

1,198

$ 48

928

2023

$ 31

673

2024

Thereafter

Imputed
*
Interest

Total**

$ 12

514

$ 46

806

$ (54)

$ 204

(346)

5,259

* Imputed interest represents the difference between undiscounted cash flows and discounted cash flows.

** The company entered into lease agreements for certain facilities and equipment with payments totaling approximately $181 million that have not yet

commenced as of December 31, 2019, and therefore are not included in this table.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies

107

At December 31, 2019, the total amount of finance leases
recognized in the Consolidated Balance Sheet for ROU assets
in property, plant and equipment was $187 million and lease
liabilities in short-term debt and long-term debt was $52 million
and $151 million, respectively.

adoption. Rental expense, including amounts charged to inventory
and fixed assets, and excluding amounts previously reserved, were
$1,944 million and $1,821 million for the years ended December
31, 2018 and 2017, respectively.

Prior to the adoption of the new lease guidance on January 1,
2019, ROU assets and lease liabilities for operating leases were
not recognized in the Consolidated Balance Sheet. The company
elected the practical expedient to not provide comparable
presentation in the Consolidated Balance Sheet for periods prior to

The following table, which was included in the company’s 2018
Annual Report, depicts gross minimum rental commitments
under noncancelable leases, amounts related to vacant space
associated with workforce transformation, sublease income
commitments and capital lease commitments.

($ in millions) 2019 2020

2021

2022

2023

Beyond
2023

Operating lease commitments

Gross minimum rental commitments
(including vacant space below)

Vacant space

Sublease income commitments

Capital lease commitments

$1,581

$1,233

$914

$640

$445

$815

The difference between the company’s total lease commitments
as reported at December 31, 2018 compared to the January 1,
2019 ROU asset balance in the Consolidated Balance Sheet is
primarily due to the required use of a discount factor (imputed
interest) under the new lease guidance and certain amounts that
are not included in the ROU assets under the new lease guidance
(e.g. tenant incentives and vacant space).

Accounting for Leases as a Lessor
The following table presents amounts included in the Consolidated
Income Statement related to lessor activity:

($ in millions)

For the year ended December 31:

2019

Lease income—sales-type and direct

financing leases

Sales-type lease selling price

$1,509

Less: Carrying value of underlying assets
excluding unguaranteed residual value

Gross profit

Interest income on lease receivables

Total sales-type and direct financing

lease income

Lease income—operating leases

Variable lease income

Total lease income

591

918

303

$1,221

324

$1,601

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies
108

Sales-Type and Direct Financing Leases
At December 31, 2019, the unguaranteed residual value of
sales-type and direct financing leases was $652 million. For
further information on the company’s net investment in leases,
including guaranteed and unguaranteed residual values, refer to
note K, “Financing Receivables.”

For the years ended December 31, 2019 and 2018, impairment
of residual values was immaterial.

The following table presents a maturity analysis of the lease
payments due to IBM on sales-type and direct financing leases over
the next five years and thereafter, as well as a reconciliation of the
undiscounted cash flows to the financing receivables recognized in
the Consolidated Balance Sheet at December 31, 2019:

Operating Leases
The following table presents a maturity analysis of the undiscounted
lease payments due to IBM on operating leases over the next five
years and thereafter, at December 31, 2019:

($ in millions)

2020

2021

2022

2023

2024

Thereafter

Total undiscounted cash flows

Total

$145

—

$184

There were no material impairment losses incurred for equipment
provided to clients under an operating lease for the year ended
December 31, 2019.

At December 31, 2019, the unguaranteed residual value of
operating leases was $81 million.

($ in millions)

2020

2021

2022

2023

2024

Thereafter

Total undiscounted cash flows

Present value of lease payments

(recognized as financing receivables)

Difference between undiscounted cash flows

and discounted cash flows

Total

$2,632

1,921

1,053

382

$6,077

5,567*

$ (509 )

* The present value of the lease payments will not equal the financing
receivables balances in the Consolidated Balance Sheet, due to
certain items including IDCs, allowance for credit losses and residual
values, which are included in the financing receivables balances, but
are not included in the future lease payments.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies109

NOTE N. INTANGIBLE ASSETS INCLUDING GOODWILL
Intangible Assets
The following table presents the company’s intangible asset
balances by major asset class.

($ in millions)

At December 31, 2019:*

Intangible asset class

Gross
Carrying
Amount

Accumulated
Amortization

Net
Carrying
Amount

Capitalized software

$ 1,749

$ (743)

$ 1,006

Client relationships

Completed technology

Patents/trademarks

Other**

Total

($ in millions)

At December 31, 2018:

Intangible asset class

8,921

6,261

2,301

(1,433)

(1,400)

(445)

(31)

7,488

4,861

1,856

$19,287

$(4,052)

$15,235

Gross
Carrying
Amount

Accumulated
Amortization

Net
Carrying
Amount

Capitalized software

$1,568

$ (629)

$ 939

Client relationships

Completed technology

Patents/trademarks

Other**

Total

2,068

2,156

641

(1,123)

(1,296)

(330)

(23)

945

860

311

$6,489

$(3,402)

$3,087

* Amounts as of December 31, 2019 include a decrease of $42 million in

net intangible asset balances due to foreign currency translation.
There was no foreign currency impact on net intangible assets for the
year ended December 31, 2018.

** Other intangibles are primarily acquired proprietary and

nonproprietary business processes, methodologies and systems.

The net carrying amount of intangible assets increased $12,147
million during the year ended December 31, 2019, primarily
due to the acquisition of Red Hat and additions resulting
from capitalized software, partially offset by intangible asset
amortization. Intangible assets of $13,472 million generated
from the acquisition of Red Hat were allocated to the segments
as follows:

($ in millions)

Segment

Cloud & Cognitive Software

Global Technology Services

Global Business Services

Systems

Total

Intangible
Assets
Allocated*

$10,729

1,819

617

306

$13,472

* For additional information on the acquisition of Red Hat, refer to note E,

“Acquisitions & Divestitures.”

There was no impairment of intangible assets recorded in 2019
and 2018. The aggregate intangible amortization expense
was $1,850 million and $1,353 million for the years ended
December 31, 2019 and 2018, respectively. In addition, in 2019
and 2018, respectively, the company retired $946 million and
$1,469 million of fully amortized intangible assets, impacting
both the gross carrying amount and accumulated amortization
by this amount. In 2019, the company divested select intangible
assets with a gross carrying amount of $335 million and $260
million of accumulated amortization.

The future amortization expense relating to intangible assets
currently recorded in the Consolidated Balance Sheet is
estimated to be the following at December 31, 2019:

($ in millions)

2020

2021

2022

2023

2024

Thereafter

Capitalized
Software

Acquired
Intangibles

Total

$529

$1,855

$2,384

352

123

—

1,747

1,684

1,371

1,322

6,250

2,099

1,808

1,372

1,322

6,250

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies110

Goodwill
The changes in the goodwill balances by reportable segment, for the years ended December 31, 2019 and 2018, are as follows:

($ in millions)

Segment

Cloud & Cognitive Software

Global Business Services

Global Technology Services

Systems

Other—divested businesses

Total

($ in millions)

Segment

Cloud & Cognitive Software*

Global Business Services*

Global Technology Services*

Systems

Other—divested businesses*

Total

Balance
January 1,
2019

Goodwill
Additions

Purchase
Price
Adjustments

Divestitures

Foreign
Currency
Translation
and Other
Adjustments**

Balance
December 31,
2019

$24,594

$18,399

$ 133

$ (131)

$41

$43,037

4,711

3,988

1,847

1,126

1,059

3,119

525

—

$36,265

$23,102

—

(110)

—

$ 24

(1)

—

(1,126)

$(1,257)

—

5,775

7,141

2,270

—

$87

$58,222

Balance
January 1,
2018

$24,973

4,782

4,044

1,862

1,127

Goodwill
Additions

Purchase
Price
Adjustments

Divestitures

Foreign
Currency
Translation
and Other
Adjustments**

Balance
December 31,
2018

$ 9

—

$ 0

(3)

$(3)

$(1)

$(388)

$24,594

—

(92)

(56)

(15)

(2)

4,711

3,988

1,847

1,126

$(1)

$(553 )

$36,265

$36,788

$34

NOTE P. BORROWINGS
Short-Term Debt

($ in millions)

At December 31:

Commercial paper

Short-term loans

Long-term debt—current maturities

Total

2019

2018

$ 304

$ 2,995

971

7,522

161

7,051

$8,797

$10,207

The weighted-average interest rate for commercial paper at
December 31, 2019 and 2018 was 1.6 percent and 2.5 percent,
respectively. The weighted-average interest rates for short-term
loans were 6.1 percent and 4.3 percent at December 31, 2019
and 2018, respectively.

* Recast to conform to 2019 presentation.

** Primarily driven by foreign currency translation.

Goodwill additions recorded during 2019 were related to the
acquisition of Red Hat in the third quarter of 2019. For additional
information on this transaction and related purchase price
adjustments, refer to note E, “Acquisitions & Divestitures.”

There were no goodwill impairment losses recorded during 2019
or 2018 and the company has no accumulated impairment losses.

Purchase price adjustments recorded in 2019 and 2018 were
related to acquisitions that were still subject to the measurement
period that ends at the earlier of 12 months from the acquisition
date or when information becomes available. Net purchase price
adjustments recorded in 2019 and 2018 were not material.

NOTE O. INVESTMENTS & SUNDRY ASSETS

($ in millions)

At December 31:

Derivatives—noncurrent

Alliance investments

Equity method

Non-equity method

Long-term deposits

Other receivables

Employee benefit-related

Prepaid income taxes

Other assets

Total

2019

2018

$ 94

$ 347

184

242

276

253

664

321

192

268

359

263

626

296

$2,074

$2,386

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies

Long-Term Debt
Pre-Swap Borrowing

($ in millions)

At December 31:

U.S. dollar debt (weighted-average interest rate at December 31, 2019):**

3.0%

2.3%

2.5%

2.6%

3.3%

6.7%

3.3%

4.7%

6.5%

3.5%

5.9%

8.0%

4.5%

4.0%

7.0%

4.7%

4.3%

7.1%

Other currencies (weighted-average interest rate at December 31, 2019, in

parentheses):**

Euro (1.3%)

Pound sterling (2.7%)

Japanese yen (0.3%)

Other (6.1%)

Finance lease obligations (2.0%)

Less: net unamortized discount

Less: net unamortized debt issuance costs
Add: fair value adjustment+

Less: current maturities

Total

* Reclassified to conform to 2019 presentation.

111

Maturities

2019

2018*

2019

2020

2021

2022

2023

2024

2025

2026

2027

2028

2029

2032

2038

2039

2042

2045

2046

2049

2096

$ —

$ 5,465

4,326

8,498

6,289

2,388

5,045

636

4,350

969

313

3,250

600

2,745

1,107

650

3,000

316

4,344

5,529

3,529

2,428

2,037

600

1,350

969

313

—

600

745

1,107

650

—

316

$44,594

$30,091

2020–2031

$14,306

$10,011

2020–2022

2022–2026

2020–2022

1,390

1,339

375

1,338

1,325

390

$62,003

$43,155

2020–2030

204

$62,207

$43,196

881

142

440

802

337

$61,624

$42,656

7,522

7,051

$54,102

$35,605

** Includes notes, debentures, bank loans and secured borrowings.
+ The portion of the company’s fixed-rate debt obligations that is hedged is reflected in the Consolidated Balance Sheet as an amount equal to the
sum of the debt’s carrying value and a fair value adjustment representing changes in the fair value of the hedged debt obligations attributable to
movements in benchmark interest rates.

The company’s indenture governing its debt securities and its
various credit facilities each contain significant covenants which
obligate the company to promptly pay principal and interest,
limit the aggregate amount of secured indebtedness and sale

and leaseback transactions to 10 percent of the company’s
consolidated net tangible assets, and restrict the company’s
ability to merge or consolidate unless certain conditions are met.
The credit facilities also include a covenant on the company’s

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies112

consolidated net interest expense ratio, which cannot be less
than 2.20 to 1.0, as well as a cross default provision with respect
to other defaulted indebtedness of at least $500 million.

The company is in compliance with all of its significant debt
covenants and provides periodic certifications to its lenders.
The failure to comply with its debt covenants could constitute an
event of default with respect to the debt to which such provisions
apply. If certain events of default were to occur, the principal and
interest on the debt to which such event of default applied would
become immediately due and payable.

basis points, $1.5 billion of 2-year fixed rate notes with a 2.8
percent coupon, $2.75 billion of 3-year fixed rate notes with a
2.85 percent coupon, $3.0 billion of 5-year fixed rate notes with
a 3.0 percent coupon, $3.0 billion of 7-year fixed rate notes with
a 3.3 percent coupon, $3.25 billion of 10-year fixed rate notes
with a 3.5 percent coupon, $2.0 billion of 20-year fixed rate
notes with a 4.15 percent coupon and $3.0 billion of 30-year
fixed rate notes with a 4.25 percent coupon. The proceeds from
these debt issuances were primarily used for the acquisition of
Red Hat. For additional information on this transaction, see note
E, “Acquisitions & Divestitures.”

On May 15, 2019, the company issued an aggregate of $20 billion
of indebtedness in the following eight tranches: $1.5 billion of
2-year floating rate notes priced at 3 month LIBOR plus 40

Additionally, the long-term debt table above includes Euro bonds
that were issued in the first quarter of 2019 to partially finance
the acquisition of Red Hat upon closing.

Post-Swap Borrowing (Long-Term Debt, Including Current Portion)

($ in millions)

For the year ended December 31:

Fixed-rate debt

Floating-rate debt*

Total

2019

2018

Weighted-Average
Interest Rate

2.9%

2.2%

Amount

$52,169

9,455

$61,624

Weighted-Average
Interest Rate

2.7%

3.0%

Amount

$28,770

13,886

$42,656

* Includes $2,975 million in 2019 and $7,563 million in 2018 of notional interest rate swaps that effectively convert fixed-rate long-term debt into

floating-rate debt. Refer to note T, “Derivative Financial Instruments,” for additional information.

Pre-swap annual contractual obligations of long-term debt
outstanding at December 31, 2019, are as follows:

Interest on Debt

($ in millions)

2020

2021

2022

2023

2024

Thereafter

Total

$ 7,526

9,826

7,175

5,374

6,305

26,000

$62,207

For the year ended December 31:

2019

2018

2017

Cost of financing

Interest expense

Interest capitalized

Total interest paid
and accrued

$ 608

$ 757

$ 658

1,344

723

615

$1,957

$1,482

$1,278

Refer to the related discussion in note D, “Segments,” for total
interest expense of the Global Financing segment. Refer to note T,
“Derivative Financial Instruments,” for a discussion of the use
of foreign currency denominated debt designated as a hedge of
net investment, as well as a discussion of the use of currency
and interest rate swaps in the company’s debt risk management
program.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies113

Lines of Credit
On July 18, 2019, the company extended the maturity date of its
existing $10.25 billion Five-Year Credit Agreement by a period of
one year. In addition, the company and IBM Credit LLC extended
the maturity date of their existing $2.5 billion Three-Year Credit
Agreement by a period of one year. Finally, the company and
IBM Credit LLC entered into a new $2.5 billion, 364-Day Credit
Agreement to replace the maturing $2.5 billion, 364-Day Credit
Agreement. The new maturity dates for the Five-Year and
Three-Year Credit Agreements are July 20, 2024 and July
20, 2022, respectively. Each of the facility sizes remained
unchanged. The total expense recorded by the company
related to the Five-Year Credit Agreement was $7.4 million in
2019, $6.7 million in 2018 and $6.1 million in 2017. The total
expense recorded by the company related to the 364-Day and
Three-Year Credit Agreements was $2.3 million in 2019, $2.1
million in 2018 and $2.8 million in 2017. The Five-Year Credit
Agreement permits the company and its subsidiary borrowers
to borrow up to $10.25 billion on a revolving basis. Borrowings
of the subsidiary borrowers will be unconditionally backed by the
company. The company may also, upon the agreement of either
existing lenders, or of additional banks not currently party to the
Five-Year Credit Agreement, increase the commitments under the
Credit Agreement up to an additional $1.75 billion. The 364-Day
Credit Agreement and the Three-Year Credit Agreement allow
the company and IBM Credit (each a “Borrower”) to borrow up to
an aggregate of $5 billion on a revolving basis. Neither Borrower
is a guarantor or co-obligor of the other Borrower under the
364-Day and Three-Year Credit Agreements. Subject to certain
conditions stated in the Five-Year, 364-Day and Three-Year
Credit Agreements (the “Credit Agreements”), the Borrowers
may borrow, prepay and re-borrow amounts under the Credit
Agreements at any time during the term of such agreements.
Funds borrowed may be used for the general corporate purposes
of the Borrowers.

Interest rates on borrowings under the Credit Agreements
will be based on prevailing market interest rates, as further
described in the Credit Agreements. The Credit Agreements
contain customary representations and warranties, covenants,
events of default, and indemnification provisions. The company
believes that circumstances that might give rise to breach
of these covenants or an event of default, as specified in the
Credit Agreements, are remote. The company also has other
committed lines of credit in some of the geographies which are
not significant in the aggregate. Interest rates and other terms
of borrowing under these lines of credit vary from country to
country, depending on local market conditions.

As of December 31, 2019, there were no borrowings by the
company, or its subsidiaries, under these credit facilities.

NOTE Q. OTHER LIABILITIES

($ in millions)

At December 31:

Income tax reserves

Excess 401(k) Plus Plan

Disability benefits

Derivative liabilities

Workforce reductions

Deferred taxes*

Other taxes payable

Environmental accruals

Warranty accruals

Asset retirement obligations

Acquisition related

Divestiture related

Other

Total

2019

2018

$ 5,118

$ 4,195

1,521

1,380

478

506

725

507

206

736

5,230

3,696

254

439

244

111

173

796

$14,526

$12,174

* The increase in the balance at December 31, 2019 was primarily

related to the acquisition of Red Hat.

In response to changing business needs, the company
periodically takes workforce reduction actions to improve
productivity, cost competitiveness and to rebalance skills. The
noncurrent contractually obligated future payments associated
with these activities are reflected in the workforce reductions
caption in the previous table. The noncurrent liabilities are
workforce accruals related to terminated employees who are
no longer working for the company who were granted annual
payments to supplement their incomes in certain countries.
Depending on the individual country’s legal requirements, these
required payments will continue until the former employee begins
receiving pension benefits or passes away. The total amounts
accrued for workforce reductions, including amounts classified
as current in the Consolidated Balance Sheet were $950 million
and $941 million at December 31, 2019 and 2018, respectively.

The company employs extensive internal environmental
protection programs that primarily are preventive in nature. The
company also participates in environmental assessments and
cleanups at a number of locations, including operating facilities,
previously owned facilities and Superfund sites. The company’s
maximum exposure for all environmental liabilities cannot be
estimated and no amounts have been recorded for non-ARO
environmental liabilities that are not probable or estimable. The
total amounts accrued for non-ARO environmental liabilities,
including amounts classified as current in the Consolidated
Balance Sheet, that do not reflect actual or anticipated insurance
recoveries, were $270 million and $255 million at December 31,
2019 and 2018, respectively. Estimated environmental costs

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies114

are not expected to materially affect the consolidated financial
position or consolidated results of the company’s operations in
future periods. However, estimates of future costs are subject
to change due to protracted cleanup periods and changing
environmental remediation regulations.

As of December 31, 2019, the company was unable to estimate
the range of settlement dates and the related probabilities for
certain asbestos remediation AROs. These conditional AROs are
primarily related to the encapsulated structural fireproofing that
is not subject to abatement unless the buildings are demolished
and non-encapsulated asbestos that the company would
remediate only if it performed major renovations of certain
existing buildings. Because these conditional obligations have
indeterminate settlement dates, the company could not develop
a reasonable estimate of their fair values. The company will
continue to assess its ability to estimate fair values at each
future reporting date. The related liability will be recognized once
sufficient additional information becomes available. The total
amounts accrued for ARO liabilities, including amounts classified
as current in the Consolidated Balance Sheet were $150 million
and $146 million at December 31, 2019 and 2018, respectively.

NOTE R. COMMITMENTS & CONTINGENCIES
Commitments
The company’s extended lines of credit to third-party entities
include unused amounts of $1.8 billion and $7.4 billion at
December 31, 2019 and 2018, respectively. A portion of these
amounts was available to the company’s business partners
to support their working capital needs. The decrease reflects
the company’s wind-down of its OEM IT commercial financing
operations. In addition, the company has committed to provide
future financing to its clients in connection with client purchase
agreements for $6.3 billion and $4.4 billion at December 31,
2019 and 2018, respectively.

The company has applied the guidance requiring a guarantor
to disclose certain types of guarantees, even if the likelihood of
requiring the guarantor’s performance is remote. The following is a
description of arrangements in which the company is the guarantor.

The company is a party to a variety of agreements pursuant
to which it may be obligated to indemnify the other party with
respect to certain matters. Typically, these obligations arise in
the context of contracts entered into by the company, under
which the company customarily agrees to hold the other party
harmless against losses arising from a breach of representations
and covenants related to such matters as title to assets sold,
certain IP rights, specified environmental matters, third-party
performance of nonfinancial contractual obligations and certain
income taxes. In each of these circumstances, payment by
the company is conditioned on the other party making a claim
pursuant to the procedures specified in the particular contract,
the procedures of which typically allow the company to challenge
the other party’s claims. While typically indemnification
provisions do not include a contractual maximum on the
company’s payment, the company’s obligations under these
agreements may be limited in terms of time and/or nature of
claim, and in some instances, the company may have recourse
against third parties for certain payments made by the company.

It is not possible to predict the maximum potential amount of
future payments under these or similar agreements due to the
conditional nature of the company’s obligations and the unique
facts and circumstances involved in each particular agreement.
Historically, payments made by the company under these
agreements have not had a material effect on the company’s
business, financial condition or results of operations.

In addition, the company guarantees certain loans and financial
commitments. The maximum potential future payment under
these financial guarantees was $20 million and $26 million at
December 31, 2019 and 2018, respectively. The fair value of the
guarantees recognized in the Consolidated Balance Sheet was
immaterial.

Changes in the company’s warranty liability for standard
warranties, which are included in other accrued expenses and
liabilities and other liabilities in the Consolidated Balance Sheet
and in deferred income for extended warranty contracts, are
presented in the following tables:

Standard Warranty Liability

($ in millions)

Balance at January 1

Current period accruals

Accrual adjustments to reflect

experience

Charges incurred

2019

$ 118

111

(1)

(115)

2018

$ 152

121

(32)

(123)

Balance at December 31

$ 113

$ 118

Extended Warranty Liability (Deferred Income)

($ in millions)

Balance at January 1

Revenue deferred for new extended

warranty contracts

Amortization of deferred revenue

Other*

Balance at December 31

Current portion

Noncurrent portion

2019

$ 533

198

(253)

(2)

$ 477

$ 227

$ 250

2018

$ 566

220

(240)

(13)

$ 533

$ 271

$ 262

* Other consists primarily of foreign currency translation adjustments.

Contingencies
As a company with a substantial employee population and with
clients in more than 175 countries, IBM is involved, either as
plaintiff or defendant, in a variety of ongoing claims, demands,
suits, investigations, tax matters and proceedings that arise
from time to time in the ordinary course of its business. The
company is a leader in the information technology industry
and, as such, has been and will continue to be subject to claims
challenging its IP rights and associated products and offerings,
including claims of copyright and patent infringement and
violations of trade secrets and other IP rights. In addition, the
company enforces its own IP against infringement, through
license negotiations, lawsuits or otherwise. Also, as is typical

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies115

for companies of IBM’s scope and scale, the company is party to
actions and proceedings in various jurisdictions involving a wide
range of labor and employment issues (including matters related
to contested employment decisions, country-specific labor and
employment laws, and the company’s pension, retirement and
other benefit plans), as well as actions with respect to contracts,
product liability, securities, foreign operations, competition law
and environmental matters. These actions may be commenced
by a number of different parties, including competitors, clients,
current or former employees, government and regulatory
agencies, stockholders and representatives of the locations in
which the company does business. Some of the actions to which
the company is party may involve particularly complex technical
issues, and some actions may raise novel questions under the
laws of the various jurisdictions in which these matters arise.

The company records a provision with respect to a claim, suit,
investigation or proceeding when it is probable that a liability
has been incurred and the amount of the loss can be reasonably
estimated. Any recorded liabilities, including any changes to such
liabilities for the years ended December 31, 2019, 2018 and 2017
were not material to the Consolidated Financial Statements.

In accordance with the relevant accounting guidance, the
company provides disclosures of matters for which the likelihood
of material loss is at least reasonably possible. In addition, the
company also discloses matters based on its consideration of
other matters and qualitative factors, including the experience
of other companies in the industry, and investor, customer and
employee relations considerations.

With respect to certain of the claims, suits, investigations and
proceedings discussed herein, the company believes at this
time that the likelihood of any material loss is remote, given, for
example, the procedural status, court rulings, and/or the strength
of the company’s defenses in those matters. With respect to
the remaining claims, suits, investigations and proceedings
discussed in this note, except as specifically discussed herein,
the company is unable to provide estimates of reasonably
possible losses or range of losses, including losses in excess
of amounts accrued, if any, for the following reasons. Claims,
suits, investigations and proceedings are inherently uncertain,
and it is not possible to predict the ultimate outcome of these
matters. It is the company’s experience that damage amounts
claimed in litigation against it are unreliable and unrelated to
possible outcomes, and as such are not meaningful indicators
of the company’s potential liability. Further, the company is
unable to provide such an estimate due to a number of other
factors with respect to these claims, suits, investigations and
proceedings, including considerations of the procedural status
of the matter in question, the presence of complex or novel

legal theories, and/or the ongoing discovery and development
of information important to the matters. The company reviews
claims, suits, investigations and proceedings at least quarterly,
and decisions are made with respect to recording or adjusting
provisions and disclosing reasonably possible losses or range
of losses (individually or in the aggregate), to reflect the impact
and status of settlement discussions, discovery, procedural and
substantive rulings, reviews by counsel and other information
pertinent to a particular matter.

Whether any losses, damages or remedies finally determined
in any claim, suit, investigation or proceeding could reasonably
have a material effect on the company’s business, financial
condition, results of operations or cash flows will depend on a
number of variables, including: the timing and amount of such
losses or damages; the structure and type of any such remedies;
the significance of the impact any such losses, damages or
remedies may have in the Consolidated Financial Statements;
and the unique facts and circumstances of the particular matter
that may give rise to additional factors. While the company
will continue to defend itself vigorously, it is possible that the
company’s business, financial condition, results of operations
or cash flows could be affected in any particular period by the
resolution of one or more of these matters.

The following is a summary of the more significant legal matters
involving the company.

The company is a defendant in an action filed on March 6, 2003 in
state court in Salt Lake City, Utah by the SCO Group (SCO v. IBM).
The company removed the case to Federal Court in Utah. Plaintiff
is an alleged successor in interest to some of AT&T’s UNIX IP
rights, and alleges copyright infringement, unfair competition,
interference with contract and breach of contract with regard to
the company’s distribution of AIX and Dynix and contribution of
code to Linux and the company has asserted counterclaims. On
September 14, 2007, plaintiff filed for bankruptcy protection,
and all proceedings in this case were stayed. The court in another
suit, the SCO Group, Inc. v. Novell, Inc., held a trial in March 2010.
The jury found that Novell is the owner of UNIX and UnixWare
copyrights; the judge subsequently ruled that SCO is obligated
to recognize Novell’s waiver of SCO’s claims against IBM and
Sequent for breach of UNIX license agreements. On August 30,
2011, the Tenth Circuit Court of Appeals affirmed the district
court’s ruling and denied SCO’s appeal of this matter. In June
2013, the Federal Court in Utah granted SCO’s motion to reopen
the SCO v. IBM case. In February 2016, the Federal Court ruled in
favor of IBM on all of SCO’s remaining claims, and SCO appealed.
On October 30, 2017, the Tenth Circuit Court of Appeals affirmed
the dismissal of all but one of SCO’s remaining claims, which was
remanded to the Federal Court in Utah.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies116

On March 9, 2017, the Commonwealth of Pennsylvania’s
Department of Labor and Industry sued IBM in Pennsylvania
state court regarding a 2006 contract for the development of
a custom software system to manage the Commonwealth’s
unemployment insurance benefits programs. The matter is
pending in a Pennsylvania court.

In December 2017, CIS General Insurance Limited (CISGIL) sued
IBM UK regarding a contract entered into by IBM UK and CISGIL
in 2015 to implement and operate an IT insurance platform. The
contract was terminated by IBM UK in July 2017 for non-payment
by CISGIL. CISGIL alleges wrongful termination, breach of contract
and breach of warranty. The matter is pending in the London High
Court with trial beginning in January 2020.

In May 2015, a putative class action was commenced in the
United States District Court for the Southern District of New York
related to the company’s October 2014 announcement that it
was divesting its global commercial semiconductor technology
business, alleging violations of the Employee Retirement
Income Security Act (ERISA). Management’s Retirement
Plans Committee and three current or former IBM executives
are named as defendants. On September 29, 2017, the Court
granted the defendants’ motion to dismiss the first amended
complaint. On December 10, 2018, the Second Circuit Court of
Appeals reversed the District Court order. On January 14, 2020,
the Supreme Court of the United States vacated the decision and
remanded the case to the Second Circuit.

The company is party to, or otherwise involved in, proceedings
brought by U.S. federal or state environmental agencies under
the Comprehensive Environmental Response, Compensation
and Liability Act (CERCLA), known as “Superfund,” or laws
similar to CERCLA. Such statutes require potentially responsible
parties to participate in remediation activities regardless of
fault or ownership of sites. The company is also conducting
environmental investigations, assessments or remediations at or
in the vicinity of several current or former operating sites globally
pursuant to permits, administrative orders or agreements with
country, state or local environmental agencies, and is involved
in lawsuits and claims concerning certain current or former
operating sites.

The company is also subject to ongoing tax examinations and
governmental assessments in various jurisdictions. Along with
many other U.S. companies doing business in Brazil, the company
is involved in various challenges with Brazilian tax authorities
regarding non-income tax assessments and non-income tax

litigation matters. The total potential amount related to all these
matters for all applicable years is approximately $925 million.
The company believes it will prevail on these matters and that
this amount is not a meaningful indicator of liability.

NOTE S. EQUITY ACTIVITY
The authorized capital stock of IBM consists of 4,687,500,000
shares of common stock with a $.20 per share par value, of which
887,110,455 shares were outstanding at December 31, 2019,
and 150,000,000 shares of preferred stock with a $.01 per share
par value, none of which were outstanding at December 31, 2019.

Stock Repurchases
The Board of Directors authorizes the company to repurchase IBM
common stock. The company repurchased 9,979,516 common
shares at a cost of $1,331 million, 32,949,233 common shares at
a cost of $4,447 million, and 27,237,179 common shares at a cost
of $4,323 million in 2019, 2018 and 2017, respectively. These
amounts reflect transactions executed through December 31 of
each year. Actual cash disbursements for repurchased shares
may differ due to varying settlement dates for these transactions.
At December 31, 2019, $2,008 million of Board common stock
repurchase authorization was available. The company suspended
its share repurchase program effective with the close of the Red
Hat acquisition on July 9, 2019, in order to focus on reducing debt
related to the acquisition.

Other Stock Transactions
The company issued the following shares of common stock as
part of its stock-based compensation plans and employees stock
purchase plan: 4,569,917 shares in 2019, 3,998,245 shares
in 2018, and 4,311,998 shares in 2017. The company issued
2,041,347 treasury shares in 2019, 424,589 treasury shares in
2018 and 463,083 treasury shares in 2017, as a result of restricted
stock unit releases and exercises of stock options by employees of
certain acquired businesses and by non-U.S. employees. Also, as
part of the company’s stock-based compensation plans, 2,000,704
common shares at a cost of $272 million, 1,173,416 common
shares at a cost of $171 million, and 1,226,080 common shares
at a cost of $193 million in 2019, 2018 and 2017, respectively,
were remitted by employees to the company in order to satisfy
minimum statutory tax withholding requirements. These amounts
are included in the treasury stock balance in the Consolidated
Balance Sheet and the Consolidated Statement of Equity.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies117

Reclassifications and Taxes Related to Items of Other Comprehensive Income

($ in millions)

For the year ended December 31, 2019:

Other comprehensive income/(loss)

Foreign currency translation adjustments

Net changes related to available-for-sale securities

Unrealized gains/(losses) arising during the period

Reclassification of (gains)/losses to other (income) and expense

Total net changes related to available-for-sale securities

Unrealized gains/(losses) on cash flow hedges

Before Tax
Amount

Tax (Expense)/
Benefit

Net of Tax
Amount

$ (39)

$ 29

$ (10)

$ 1

—

$ 1

$ 0

—

$ 0

$ 1

—

$ 1

Unrealized gains/(losses) arising during the period

$ (689)

$ 167

$ (522)

Reclassification of (gains)/losses to:

Cost of services

Cost of sales

Cost of financing

SG&A expense

Other (income) and expense

Interest expense

(68)

(51)

(53)

(39)

197

(22)

(50)

(37)

(39)

(29)

148

Total unrealized gains/(losses) on cash flow hedges

$ (614)

$ 151

$ (463)

Retirement-related benefit plans (1)

Prior service costs/(credits)

Net (losses)/gains arising during the period

Curtailments and settlements

Amortization of prior service (credits)/costs

Amortization of net (gains)/losses

Total retirement-related benefit plans

Other comprehensive income/(loss)

$ (73)

(120)

(9)

1,843

$1,681

$1,029

$ 10

$ (63)

(12)

(371)

$(316)

$(136)

(68)

(4)

1,471

$1,365

$ 893

(1) These AOCI components are included in the computation of net periodic pension cost. Refer to note V, “Retirement-Related Benefits,” for

additional information.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies118

($ in millions)

For the year ended December 31, 2018:

Other comprehensive income/(loss)

Foreign currency translation adjustments

Net changes related to available-for-sale securities

Unrealized gains/(losses) arising during the period

Reclassification of (gains)/losses to other (income) and expense

Total net changes related to available-for-sale securities

Unrealized gains/(losses) on cash flow hedges

Before Tax
Amount

Tax (Expense)/
Benefit

Net of Tax
Amount

$ (730)

$(172)

$ (902)

$ (2)

—

$ (2)

$ 1

—

$ 1

$ (1)

—

$ (1)

Unrealized gains/(losses) arising during the period

$ (136 )

$ 43

$ (93)

Reclassification of (gains)/losses to:

Cost of services

Cost of sales

Cost of financing

SG&A expense

Other (income) and expense

Interest expense

(30)

(8)

341

(19)

(86)

(18)

(22)

(5)

255

Total unrealized gains/(losses) on cash flow hedges

$ 313

$ (69)

$ 244

Retirement-related benefit plans (1)

Prior service costs/(credits)

Net (losses)/gains arising during the period

Curtailments and settlements

Amortization of prior service (credits)/costs

Amortization of net (gains)/losses

Total retirement-related benefit plans

Other comprehensive income/(loss)

$ (182)

(2,517)

(73)

2,966

$ 204

$ (215)

$ 31

576

(2)

(632)

$ (21)

$(262)

$ (151)

(1,941)

(68)

2,334

$ 184

$ (476)

(1) These AOCI components are included in the computation of net periodic pension cost. Refer to note V, “Retirement-Related Benefits,” for

additional information.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies119

($ in millions)

For the year ended December 31, 2017:

Other comprehensive income/(loss)

Foreign currency translation adjustments

Net changes related to available-for-sale securities

Before Tax
Amount

Tax (Expense)/
Benefit

Net of Tax
Amount

$ 152

$ 617

$ 769

Unrealized gains/(losses) arising during the period

$ 1

$ (1)

$ 0

Reclassification of (gains)/losses to other (income) and expense

Total net changes related to available-for-sale securities

$ 2

$ (1)

$ 1

Unrealized gains/(losses) on cash flow hedges

Unrealized gains/(losses) arising during the period

$ (58 )

$ 0

$ (58)

Reclassification of (gains)/losses to:

Cost of services

Cost of sales

Cost of financing

SG&A expense

Other (income) and expense

Interest expense

(70)

(3)

(11)

(324)

(9)

124

(8)

(43)

(3)

(9)

(199)

Total unrealized gains/(losses) on cash flow hedges

$ (421)

$ 137

$ (284)

Retirement-related benefit plans (1)

Prior service costs/(credits)

Net (losses)/gains arising during the period

Curtailments and settlements

Amortization of prior service (credits)/costs

Amortization of net (gains)/losses

Total retirement-related benefit plans

Other comprehensive income/(loss)

$ 0

682

(88)

2,889

$3,502

$3,235

$ 0

(201)

(5)

(1,006)

$(1,182)

$ (429)

$ 0

481

(58)

1,883

$2,320

$2,806

(1) These AOCI components are included in the computation of net periodic pension cost. Refer to note V, “Retirement-Related Benefits,” for

additional information.

Accumulated Other Comprehensive Income/(Loss) (net of tax)

($ in millions)

Net Unrealized
Gains/(Losses
)
on Cash Flow
Hedges

Foreign
Currency
Translation
Adjustments*

Net Change
Retirement-
Related
Benefit Plans

Net Unrealized
Gains/(Losses
)
on Available-
For-Sale
Securities

Accumulated
Other
Comprehensive
Income/(Loss)

December 31, 2016

Other comprehensive income before reclassifications

Amount reclassified from accumulated other

comprehensive income

Total change for the period

December 31, 2017

Cumulative effect of a change in accounting principle**

Other comprehensive income before reclassifications

Amount reclassified from accumulated other

comprehensive income

Total change for the period

December 31, 2018

Other comprehensive income before reclassifications

Amount reclassified from accumulated other

comprehensive income

Total change for the period

December 31, 2019

$ 319

(58)

(226)

(284)

(93)

337

244

284

(522)

(463)

$(179)

$(3,603)

$(26,116)

$ 2

$(29,398)

769

495

1,825

2,320

(2,834)

(23,796)

(902)

—

(902)

(3,690)

(10)

—

(10)

(2,471)

(2,092)

2,276

184

(26,083)

(131)

1,496

1,365

(2)

(1)

—

(1)

—

1,206

1,599

2,806

(26,592)

(2,422)

(3,089)

2,612

(476)

(29,490)

(663)

1,556

893

$(3,700)

$(24,718)

$ 0

$(28,597)

* Foreign currency translation adjustments are presented gross except for any associated hedges which are presented net of tax.

** Reflects the adoption of the FASB guidance on stranded tax effects, hedging and financial instruments. Refer to note B, “Accounting Changes,” for

additional information.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies

120

NOTE T. DERIVATIVE FINANCIAL INSTRUMENTS
The company operates in multiple functional currencies and
is a significant lender and borrower in the global markets. In
the normal course of business, the company is exposed to the
impact of interest rate changes and foreign currency fluctuations,
and to a lesser extent equity and commodity price changes and
client credit risk. The company limits these risks by following
established risk management policies and procedures, including
the use of derivatives, and, where cost effective, financing with
debt in the currencies in which assets are denominated. For
interest rate exposures, derivatives are used to better align
rate movements between the interest rates associated with the
company’s lease and other financial assets and the interest rates
associated with its financing debt. Derivatives are also used to
manage the related cost of debt. For foreign currency exposures,
derivatives are used to better manage the cash flow volatility
arising from foreign exchange rate fluctuations.

In the Consolidated Balance Sheet, the company does not offset
derivative assets against liabilities in master netting arrangements
nor does it offset receivables or payables recognized upon
payment or receipt of cash collateral against the fair values of the
related derivative instruments. The amount recognized in other
receivables for the right to reclaim cash collateral was $26 million
at December 31, 2019 and no amount was recognized at December
31, 2018. No amount was recognized in accounts payable for the
obligation to return cash collateral at December 31, 2019 and
$70 million was recognized at December 31, 2018. The company
restricts the use of cash collateral received to rehypothecation,
and therefore reports it in restricted cash in the Consolidated
Balance Sheet. No amount was rehypothecated at December
31, 2019 and 2018. Additionally, if derivative exposures covered
by a qualifying master netting agreement had been netted in the
Consolidated Balance Sheet at December 31, 2019 and 2018, the
total derivative asset and liability positions each would have been
reduced by $194 million and $267 million, respectively.

In its hedging programs, the company may use forward contracts,
futures contracts, interest-rate swaps, cross-currency swaps,
equity swaps, and options depending upon the underlying exposure.
The company is not a party to leveraged derivative instruments.

A brief description of the major hedging programs, categorized
by underlying risk, follows.

Interest Rate Risk
Fixed and Variable Rate Borrowings
The company issues debt in the global capital markets to fund
its operations and financing business. Access to cost-effective
financing can result in interest rate mismatches with the
underlying assets. To manage these mismatches and to reduce
overall interest cost, the company may use interest-rate swaps
to convert specific fixed-rate debt issuances into variable-rate
debt (i.e., fair value hedges) and to convert specific variable-rate
debt issuances into fixed-rate debt (i.e., cash flow hedges). At
December 31, 2019 and 2018, the total notional amount of the
company’s interest-rate swaps was $3.0 billion and $7.6 billion,
respectively. The weighted-average remaining maturity of these
instruments at December 31, 2019 and 2018 was approximately
2.2 years and 3.5 years, respectively. These interest-rate
contracts were accounted for as fair value hedges. The company
did not have any cash flow hedges relating to this program
outstanding at December 31, 2019 and 2018.

Forecasted Debt Issuance
The company is exposed to interest rate volatility on future debt
issuances. To manage this risk, the company may use instruments
such as forward starting interest-rate swaps to lock in the rate on
the interest payments related to the forecasted debt issuances.
On May 15, 2019, the company issued an aggregate of $20
billion of indebtedness (see note P, “Borrowings,” for additional
information). Following the receipt of the net proceeds from this
debt offering, the company terminated $5.5 billion of forward
starting interest-rate swaps. These instruments were designated
and accounted for as cash flow hedges for a portion of this issuance
and hedged exposure to the variability in future cash flows over
a maximum of 30 years. These swaps were the only instruments
outstanding under this program at December 31, 2018, and there
were no instruments outstanding at December 31, 2019.

In connection with cash flow hedges of forecasted interest
payments related to the company’s borrowings, the company
recorded net losses of $192 million and net losses of $35 million
(before taxes) at December 31, 2019 and 2018, respectively, in
AOCI. The company estimates that $18 million (before taxes)
of the deferred net losses on derivatives in AOCI at December
31, 2019 will be reclassified to net income within the next 12
months, providing an offsetting economic impact against the
underlying anticipated transactions.

Foreign Exchange Risk
Long-Term Investments in Foreign Subsidiaries
(Net Investment)
A large portion of the company’s foreign currency denominated
debt portfolio is designated as a hedge of net investment in
foreign subsidiaries to reduce the volatility in stockholders’
equity caused by changes in foreign currency exchange rates in
the functional currency of major foreign subsidiaries with respect
to the U.S. dollar. The company also uses cross-currency swaps
and foreign exchange forward contracts for this risk management
purpose. At December 31, 2019 and 2018, the total notional
amount of derivative instruments designated as net investment
hedges was $7.9 billion and $6.4 billion, respectively. At
December 31, 2019 and 2018, the weighted-average remaining
maturity of these instruments was approximately 0.1 years and
0.2 years, respectively.

Anticipated Royalties and Cost Transactions
The company’s operations generate significant nonfunctional
currency, third-party vendor payments and intercompany
payments for royalties and goods and services among the
company’s non-U.S. subsidiaries and with the company. In
anticipation of these foreign currency cash flows and in view of
the volatility of the currency markets, the company selectively
employs foreign exchange forward contracts to manage its
currency risk. These forward contracts are accounted for as
cash flow hedges. The maximum length of time over which the
company has hedged its exposure to the variability in future
cash flows is four years. At December 31, 2019 and 2018, the
total notional amount of forward contracts designated as cash
flow hedges of forecasted royalty and cost transactions was
$9.7 billion and $9.8 billion, respectively. At December 31, 2019
and 2018, the weighted-average remaining maturity of these
instruments was approximately 0.8 years at both periods.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies121

At December 31, 2019 and 2018, in connection with cash
flow hedges of anticipated royalties and cost transactions, the
company recorded net gains of $145 million and net gains of
$342 million (before taxes), respectively, in AOCI. The company
estimates that $72 million (before taxes) of deferred net gains
on derivatives in AOCI at December 31, 2019 will be reclassified
to net income within the next 12 months, providing an offsetting
economic impact against the underlying anticipated transactions.

Foreign Currency Denominated Borrowings
The company is exposed to exchange rate volatility on foreign
currency denominated debt. To manage this risk, the company
employs cross-currency swaps to convert fixed-rate foreign
currency denominated debt to fixed-rate debt denominated in
the functional currency of the borrowing entity. These swaps are
accounted for as cash flow hedges. The maximum length of time
over which the company has hedged its exposure to the variability
in future cash flows is approximately 12 years. At December 31,
2019 and 2018, the total notional amount of cross-currency
swaps designated as cash flow hedges of foreign currency
denominated debt was $8.2 billion and $6.5 billion, respectively.

At December 31, 2019 and 2018, in connection with cash
flow hedges of foreign currency denominated borrowings, the
company recorded net losses of $185 million and net gains of
$75 million (before taxes), respectively, in AOCI. The company
estimates that $166 million (before taxes) of deferred net gains
on derivatives in AOCI at December 31, 2019 will be reclassified
to net income within the next 12 months, providing an offsetting
economic impact against the underlying exposure.

Subsidiary Cash and Foreign Currency
Asset/Liability Management
The company uses its Global Treasury Centers to manage the
cash of its subsidiaries. These centers principally use currency
swaps to convert cash flows in a cost-effective manner. In
addition, the company uses foreign exchange forward contracts
to economically hedge, on a net basis, the foreign currency
exposure of a portion of the company’s nonfunctional currency
assets and liabilities. The terms of these forward and swap
contracts are generally less than one year. The changes in the fair
values of these contracts and of the underlying hedged exposures
are generally offsetting and are recorded in other (income) and
expense in the Consolidated Income Statement. At December
31, 2019 and 2018, the total notional amount of derivative
instruments in economic hedges of foreign currency exposure
was $7.1 billion and $5.2 billion, respectively.

($ in millions)

For the year ended December 31:

Cost of services

Cost of sales

Cost of financing

SG&A expense

Other (income) and expense

Interest expense

* Reclassified to conform to 2019 presentation.

Equity Risk Management
The company is exposed to market price changes in certain broad
market indices and in the company’s own stock primarily related to
certain obligations to employees. Changes in the overall value of
these employee compensation obligations are recorded in SG&A
expense in the Consolidated Income Statement. Although not
designated as accounting hedges, the company utilizes derivatives,
including equity swaps and futures, to economically hedge the
exposures related to its employee compensation obligations. The
derivatives are linked to the total return on certain broad market
indices or the total return on the company’s common stock, and are
recorded at fair value with gains or losses also reported in SG&A
expense in the Consolidated Income Statement. At December 31,
2019 and 2018, the total notional amount of derivative instruments
in economic hedges of these compensation obligations was $1.3
billion and $1.2 billion, respectively.

Cumulative Basis Adjustments for Fair Value Hedges
At December 31, 2019 and 2018, the following amounts were
recorded in the Consolidated Balance Sheet related to cumulative
basis adjustments for fair value hedges:

($ in millions)

At December 31:

Short-term debt

2019

2018

Carrying amount of the hedged item

$ —

$(1,878)

Cumulative hedging adjustments

included in the carrying amount—
assets/(liabilities)

Long-term debt

—

(4)(1)

Carrying amount of the hedged item

(3,411)

(6,004)

Cumulative hedging adjustments

included in the carrying amount—
assets/(liabilities)

(440)(2)

(333)(2)

(1) Includes ($6) million of hedging adjustments on discontinued hedging

relationships at December 31, 2018.

(2) Includes ($404) million and ($213) million of hedging adjustments on
discontinued hedging relationships at December 31, 2019 and 2018,
respectively.

The Effect of Derivative Instruments in the
Consolidated Income Statement
The total amounts of income and expense line items presented
in the Consolidated Income Statement in which the effects of
fair value hedges, cash flow hedges, net investment hedges and
derivatives not designated as hedging instruments are recorded
and the total effect of hedge activity on these income and
expense line items are as follows:

Total

2019

2018

$32,491

$33,687 *

7,263

904

20,604

(968)

1,344

7,835*

1,132

19,366

1,152

723

Gains/(Losses) of

Total Hedge Activity

2019

$ 68

(42)

267

(15)

(93)

2018

$ 30

(6)

(116)

(434)

(6)

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies
122

($ in millions)

For the year ended December 31:

Derivative instruments in fair value hedges (1)

Gain/(Loss) Recognized in Consolidated Income Statement

Consolidated
Income Statement
Line Item

Recognized on Derivatives

Attributable to Risk
Being Hedged (2)

2019

2018

2017

2019

2018

2017

Interest rate contracts

Cost of financing

$ 44

$ (61)

$ 1

$ (32)

$ 97

$ 74

Interest expense

(58)

(71)

)
Other (income
and expense

SG&A expense

(53)

214

(93)

(116)

135

N/A

$302

$(327)

$153

$(103)

$189

$144

Derivative instruments not designated

as hedging instruments

Foreign exchange contracts

Equity contracts

Total

($ in millions)

For the year ended
December 31:

Derivative instruments
in cash flow hedges

Interest rate
contracts

Foreign exchange

Gain/(Loss) Recognized in Consolidated Income Statement and Other Comprehensive Income

Recognized in OCI

2019

2018

2017

Consolidated
Income Statement
Line Item

Reclassified from AOCI

Amounts Excluded from
Effectiveness Testing (3)

2019

2018

2017

2019

2018

2017

$(168)

$ (35) $ — Cost of financing

$ (3)

$ —

Interest expense

(8)

contracts

(521)

(101)

(58)

Cost of services

Cost of sales

Cost of financing

SG&A expense

Other (income)
and expense

(86)

Instruments in net

investment hedges (4)

Foreign exchange

Interest expense

(190)

—

(75)

(341)

(71)

—

(23)

324

(22)

—

contracts

(95)

686

(1,607)

Cost of financing

Interest expense

—

Total

$(784)

$ 549 $(1,665)

$ (75)

$(449)

$363

$112

$64

$45

Gain or loss amounts and presentation for 2017 are not conformed to the new hedge accounting guidance that the company adopted in 2018.
Refer to note B, “Accounting Changes,” for further information.

(1) The amount includes changes in clean fair values of the derivative instruments in fair value hedging relationships and the periodic accrual for

coupon payments required under these derivative contracts.

(2) The amount includes basis adjustments to the carrying value of the hedged item recorded during the period and amortization of basis adjustments

recorded on de-designated hedging relationships during the period.

(3) The company’s policy is to recognize all fair value changes in amounts excluded from effectiveness testing in net income each period.

(4) Instruments in net investment hedges include derivative and non-derivative instruments.

N/A—Not applicable

For the years ending December 31, 2019, 2018 and 2017, there
were no material gains or losses excluded from the assessment
of hedge effectiveness (for fair value or cash flow hedges), or

associated with an underlying exposure that did not or was not
expected to occur (for cash flow hedges); nor are there any
anticipated in the normal course of business.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies

123

NOTE U. STOCK-BASED COMPENSATION
The following table presents total stock-based compensation
cost included in income from continuing operations.

($ in millions)

For the year ended December 31:

Cost

Selling, general and
administrative

Research, development

and engineering

Pre-tax stock-based
compensation cost

Income tax benefits

Net stock-based

2019

$ 100

2018

$ 82

2017

$ 91

453

126

679

(155)

361

384

510

(116)

534

(131)

compensation cost

$ 524

$ 393

$ 403

Total unrecognized compensation cost related to non-vested
awards at December 31, 2019 was $1.2 billion and is expected to
be recognized over a weighted-average period of approximately
2.5 years.

Capitalized stock-based compensation cost was not material at
December 31, 2019, 2018 and 2017.

Incentive Awards
Stock-based incentive awards are provided to employees
under the terms of the company’s long-term performance
plans (the Plans). The Plans are administered by the Executive
Compensation and Management Resources Committee of the
Board of Directors. Awards available under the Plans principally
include restricted stock units, performance share units, stock
options or any combination thereof.

There were 273 million shares originally authorized to be
awarded under the company’s existing Plans and 66 million
shares granted under previous plans that, if and when those
awards were cancelled, could be reissued under the existing
Plans. At December 31, 2019, 94 million unused shares were
available to be granted.

Stock Awards
Stock awards are made in the form of Restricted Stock Units
(RSUs), including Retention Restricted Stock Units (RRSUs), or
Performance Share Units (PSUs).

The following table summarizes RSU and PSU activity under the
Plans during the years ended December 31, 2019, 2018 and 2017.

Balance at January 1, 2017

Awards granted

Awards released

Awards canceled/forfeited/performance adjusted

Balance at December 31, 2017

Awards granted

Awards released

Awards canceled/forfeited/performance adjusted

Balance at December 31, 2018

Awards granted

Awards released

Awards canceled/forfeited/performance adjusted

RSUs

PSUs

Weighted-Average
Grant Price

Number of Units

Weighted-Average
Grant Price

Number of Units

$147

137

153

147

$141

121

148

139

$130

119

136

128

8,899,092

3,540,949

(3,032,531)

(852,247)

8,555,263

4,806,790

(2,579,962)

(979,387)

9,802,704

5,650,861

(3,145,016)

(981,921)

$155

2,874,758

137

175

170

824,875

(293,236)

(757,084)*

$144

2,649,313**

130

152

147

909,140

(666,244)

(472,514)*

$136

2,419,695**

117

140

131

1,395,534

(846,672)

(112,107)*

Balance at December 31, 2019

$123

11,326,628

$126

2,856,450**

* Includes adjustments of (8,544), (328,120) and (623,245) PSUs for 2019, 2018 and 2017, respectively, because final performance metrics

were above or below specified targets.

** Represents the number of shares expected to be issued based on achievement of grant date performance targets. The actual number of shares

issued will depend on final performance against specified targets over the vesting period.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies
124

The total fair value of RSUs and PSUs granted and vested during
the years ended December 31, 2019, 2018 and 2017 were as
follows:

($ in millions)

For the year ended December 31:

2019

2018

2017

RSUs

Granted

Vested

PSUs

Granted

Vested

$674

428

$164

118

$583

381

$118

101

$484

463

$113

As of December 31, 2019, there was $1.1 billion of unrecognized
compensation cost related to non-vested RSUs, which will be
recognized on a straight-line basis over the remaining weighted-
average contractual term of approximately 2.5 years.

In connection with vesting and release of RSUs and PSUs, the tax
benefits realized by the company for the years ended December
31, 2019, 2018 and 2017 were $131 million, $117 million and
$180 million, respectively.

Stock Options
In 2016, the company made one grant of 1.5 million premium-
priced stock options. The option award was granted with a
three-year cliff vesting period and a 10-year contractual term.
The award’s cost of $12 million was recognized ratably over the
three-year vesting period. As of December 31, 2019, these options
were vested with a weighted-average exercise price of $140 per
share and had a remaining weighted-average contractual life of
approximately 6.1 years. The options were exercisable within a
range of $129 to $154. The total intrinsic value of these vested
options as of December 31, 2019 was $1.9 million.

The company has not granted options since 2016. No stock
options were exercised, forfeited or canceled during the years
ended December 31, 2019 and 2018. The total intrinsic value
of options exercised during the year ended December 31, 2017
was $7 million. In connection with this exercise, $11 million in
cash was received from employees and the company realized a
tax benefit of $2 million.

The company settles employee stock option exercises primarily
with newly issued common shares and, occasionally, with
treasury shares. Total treasury shares held at December 31, 2019
and 2018 were approximately 1,351 million and 1,341 million
shares, respectively.

Acquisitions
In connection with the acquisition of Red Hat, the company
issued and assumed 6.4 million stock awards with a fair value
of $845 million. A share conversion ratio of 1.35 was applied
to convert Red Hat’s outstanding equity awards for Red Hat’s
common stock into IBM stock awards. At December 31, 2019,
there were 4.6 million of these stock awards outstanding with a
weighted-average grant price of $140 per share.

In connection with various other acquisition transactions,
there was an additional 0.1 million stock options outstanding
at December 31, 2019, as a result of the company’s conversion
of stock-based awards previously granted by acquired entities.
The weighted-average exercise price of these awards was $43
per share.

IBM Employees Stock Purchase Plan
The company maintains a non-compensatory Employees Stock
Purchase Plan (ESPP). The ESPP enables eligible participants to
purchase shares of IBM common stock at a 5 percent discount
off the average market price on the day of purchase through
payroll deductions of up to 10 percent of eligible compensation.
Eligible compensation includes any compensation received by
the employee during the year. The ESPP provides for semi-annual
offering periods during which shares may be purchased and
continues as long as shares remain available under the ESPP,
unless terminated earlier at the discretion of the Board of Directors.
Individual ESPP participants are restricted from purchasing more
than $25,000 of common stock in one calendar year or 1,000
shares in an offering period.

Employees purchased approximately 1.0 million shares under
the ESPP during each year ended December 31, 2019, 2018
and 2017. Cash dividends declared and paid by the company on
its common stock also include cash dividends on the company
stock purchased through the ESPP. Dividends are paid on full
and fractional shares and can be reinvested. The company
stock purchased through the ESPP is considered outstanding
and is included in the weighted-average outstanding shares for
purposes of computing basic and diluted earnings per share.

Approximately 18.8 million shares were available for purchase
under the ESPP at December 31, 2019.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary CompaniesNOTE V. RETIREMENT-RELATED BENEFITS
Description of Plans
IBM sponsors the following retirement-related plans/benefits:

Plan

Eligibility

Funding

Benefit Calculation

Other

125

U.S. Defined
Benefit (DB)
Pension Plans

Qualified Personal
Pension Plan
(PPP)

U.S. regular, full-
time and part-time
employees hired
prior to January 1,
2005

Company contributes
to irrevocable trust fund,
held for sole benefit
of participants and
beneficiaries

Excess Personal
Pension Plan
(PPP)

Supplemental
Executive
Retention Plan
(Retention Plan)

401(k) Plus

Unfunded, provides
benefits in excess of
IRS limitations for
qualified plans

Eligible U.S.
executives

Unfunded

U.S. regular,
full-time and part-
time employees

All contributions are
made in cash and
invested in accordance
with participants’
investment elections

U.S. Defined
Contribution
(DC) Plans (1)

Excess 401(k)
Plus

U.S. employees
whose eligible
compensation is
expected to exceed
IRS compensation
limit for qualified
plans

U.S.
Nonpension
Postretirement
Benefit Plan

Nonpension
Postretirement
Plan

Non-U.S. Plans

DB or DC

Medical and dental
benefits for eligible
U.S. retirees and
eligible dependents,
as well as life
insurance for eligible
U.S. retirees

Eligible regular
employees in certain
non-U.S. subsidiaries
or branches

Unfunded, non-
qualified amounts
deferred are record-
keeping (notional)
accounts and are not
held in trust for the
participants, but may be
invested in accordance
with participants’
investment elections
(under the 401 (k)
Plus Plan options)

Company contributes
to irrevocable trust
fund, held for the sole
benefit of participants
and beneficiaries

Vary based on the
participant:

Five-year, final pay formula
based on salary, years of
service, mortality and other
participant-specific factors

Cash balance formula
based on percentage of
employees’ annual salary,
as well as an interest
crediting rate

Based on average earnings,
years of service and age at
termination of employment

Dollar-for-dollar match,
generally 5 or 6 percent of
eligible compensation and
automatic matching of 1,
2 or 4 percent of eligible
compensation, depending on
date of hire

Company match and
automatic contributions
(at the same rate under
401(k) Plus Plan) on eligible
compensation deferred and
on compensation earned
in excess of the IRC pay
limit. The percentage varies
depending on eligibility and
years of service

Benefit accruals
ceased December 31,
2007

Employees generally
receive contributions
after one year of
service

Employees generally
receive contributions
after one year of
service. Amounts
deferred into the Plan,
including company
contributions, are
recorded as liabilities

Varies based on plan design
formulas and eligibility
requirements

Since January 1,
2004, new hires
are not eligible for
these benefits

Company deposits
funds under various
fiduciary-type
arrangements,
purchases annuities
under group contracts
or provides reserves
for these plans

Based either on years of
service and the employee’s
compensation (generally
during a fixed number of
years immediately before
retirement) or on annual
credits

In certain countries,
benefit accruals
have ceased and/or
have been closed to
new hires as of
various dates

Nonpension
Postretirement
Plan

Medical and dental
benefits for eligible
non-U.S. retirees and
eligible dependents,
as well as life
insurance for certain
eligible non-U.S.
retirees

Primarily unfunded
except for a few select
countries where the
company contributes to
irrevocable trust funds,
held for the sole benefit
of participants and
beneficiaries

Varies based on plan design
formulas and eligibility
requirements by country

Most non-U.S.
retirees are covered
by local government
sponsored and
administered
programs

(1) Matching and automatic contributions are made once at the end of the year for employees that are employed as of December 15 of the plan year.

Contributions may be made for certain types of separations that occur prior to December 15.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies126

Plan Financial Information
Summary of Financial Information
The following table presents a summary of the total retirement-related benefits net periodic (income)/cost recorded in the
Consolidated Income Statement.

($ in millions)

U.S. Plans

Non-U.S. Plans

Total

For the year ended December 31:

2019

2018

2017

2019

2018

2017

2019

2018

2017

Defined benefit pension plans

$(153) $ 542

$ 237

$ 955

$1,284

$1,315

$ 803

$1,827

$1,552

Retention Plan

—

Total defined benefit pension

plans (income)/cost

$(142) $ 559

$ 253

$ 955

$1,284

$1,315

$ 813

$1,843

$1,568

IBM 401(k) Plus Plan and

non-U.S. plans

Excess 401(k)

Total defined contribution

plans cost

Nonpension postretirement

benefit plans cost

Total retirement-related

benefits net periodic cost

$ 588

$ 616

$ 427

$ 412

$ 404

$1,015 $1,000

$1,020

—

$ 613

$ 612

$ 643

$ 427

$ 412

$ 404

$1,040 $1,024

$1,046

$ 154

$ 147

$ 180

$ 65

$ 51

$ 62

$ 219

$ 198

$ 242

$ 624

$1,319

$1,076

$1,448

$1,747

$1,781

$2,072 $3,066

$2,857

The following table presents a summary of the total PBO for defined benefit pension plans, APBO for nonpension postretirement
benefit plans, fair value of plan assets and the associated funded status recorded in the Consolidated Balance Sheet.

($ in millions)

At December 31:

U.S. Plans

Overfunded plans

Qualified PPP

Underfunded plans

Excess PPP

Retention Plan

Nonpension postretirement benefit plan

Benefit Obligations

Fair Value of Plan Assets

Funded Status*

2019

2018

2019

2018

2019

2018

$48,471

$46,145

$51,784

$48,213

$ 3,313

$ 2,069

$ 1,473

$ 1,395

$ —

$ (1,473)

$ (1,395)

288

3,857

273

3,912

—

(288)

(273)

(3,854)

(3,882)

Total underfunded U.S. plans

$ 5,618

$ 5,579

$ 3

$ 29

$ (5,615)

$ (5,550)

Non-U.S. Plans

Overfunded plans

Qualified defined benefit pension plans**

$18,371

$17,379

$21,921

$19,975

$ 3,550

$ 2,597

Nonpension postretirement benefit plans

Total overfunded non-U.S. plans

$18,390

$17,379

$21,942

$19,975

$ 3,552

$ 2,597

Underfunded plans

Qualified defined benefit pension plans**

$23,222

$22,139

$18,398

$16,783

$ (4,824)

$ (5,356)

Nonqualified defined benefit pension plans

6,731

Nonpension postretirement benefit plans

828

6,252

704

—

(6,731)

(6,252)

(785)

(640)

Total underfunded non-U.S. plans

$30,782

$29,095

$18,442

$16,848

$(12,340)

$(12,248)

Total overfunded plans

Total underfunded plans

$66,861

$63,524

$73,726

$68,190

$ 6,865

$ 4,666

$36,399

$34,675

$18,445

$16,877

$(17,955)

$(17,798)

* Funded status is recognized in the Consolidated Balance Sheet as follows: Asset amounts as prepaid pension assets; (Liability) amounts as

compensation and benefits (current liability) and retirement and nonpension postretirement benefit obligations (noncurrent liability).

** Non-U.S. qualified plans represent plans funded outside of the U.S. Non-U.S. nonqualified plans are unfunded.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies127

At December 31, 2019, the company’s qualified defined benefit
pension plans worldwide were 102 percent funded compared to
the benefit obligations, with the U.S. Qualified PPP 107 percent
funded. Overall, including nonqualified plans, the company’s
defined benefit pension plans worldwide were 93 percent funded.

Defined Benefit Pension and Nonpension
Postretirement Benefit Plan Financial Information
The following tables through page 129 represent financial
information for the company’s retirement-related benefit plans,

excluding defined contribution plans. The defined benefit
pension plans under U.S. Plans consists of the Qualified PPP, the
Excess PPP and the Retention Plan. The defined benefit pension
plans and the nonpension postretirement benefit plans under
non-U.S. Plans consists of all plans sponsored by the company’s
subsidiaries. The nonpension postretirement benefit plan under
U.S. Plan consists of only the U.S. Nonpension Postretirement
Benefit Plan.

The following tables present the components of net periodic (income)/cost of the retirement-related benefit plans recognized in the
Consolidated Income Statement, excluding defined contribution plans.

($ in millions)

Defined Benefit Pension Plans

U.S. Plans

Non-U.S. Plans

For the year ended December 31:

2019

2018

2017

2019

2018

2017

Service cost

Interest cost (1)

Expected return on plan assets (1)

Amortization of transition assets (1)

Amortization of prior service costs/(credits) (1)

Recognized actuarial losses (1)

Curtailments and settlements (1)

Multi-employer plans

Other costs/(credits) (2)

$ —

$ 370

$ 413

$ 410

1,882

(2,599)

—

559

—

1,719

(2,701)

—

1,913

(3,014)

—

847

830

837

(1,588)

(1,342)

(1,325)

(23)

(83)

(97)

1,525

1,337

1,249

1,401

1,507

—

(76)

Total net periodic (income)/cost

$ (142)

$ 559

$ 253

$ 955

$ 1,284

$ 1,315

($ in millions)

For the year ended December 31:

Service cost

Interest cost (1)

Expected return on plan assets (1)

Amortization of transition assets (1)

Amortization of prior service costs/(credits) (1)

Recognized actuarial losses (1)

Curtailments and settlements (1)

Total net periodic cost

Nonpension Postretirement Benefit Plans

U.S. Plan

2018

$ 13

132

—

(7)

—

2019

$ 10

145

—

(2)

—

2017

$ 14

154

—

(7)

—

Non-U.S. Plans

2018

$ 5

(6)

2019

$ 5

(5)

—

2017

$ 6

(7)

$154

$147

$180

$65

$51

$62

(1) These components of net periodic pension costs are included in other (income) and expense in the Consolidated Income Statement.

(2) The non-U.S. defined benefit pension plans amount in 2017 includes a gain of $91 million related to IBM UK pension litigation.

For the U.S. Qualified PPP, beginning in 2019, substantially all participants are considered inactive. The amortization period of
unrecognized actuarial losses was changed to the average remaining life expectancy of inactive plan participants, which was 18 years
as of December 31, 2018. As a result, there was a reduction to 2019 amortization expense of approximately $900 million. There was
no impact to the funded status, retiree benefit payments or funding requirements.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies128

The following table presents the changes in benefit obligations and plan assets of the company’s retirement-related benefit plans,
excluding DC plans.

($ in millions)

Change in benefit obligation

Defined Benefit Pension Plans

Nonpension Postretirement Benefit Plans

U.S. Plans

Non-U.S. Plans

U.S. Plan

Non-U.S. Plans

2019

2018

2019

2018

2019

2018

2019

2018

Benefit obligation at January 1

$47,812

$52,444

$45,770

$49,111

$ 3,912

$ 4,184

$ 705

$ 732

Service cost

Interest cost

Plan participants’ contributions

Acquisitions/divestitures, net

Actuarial losses/(gains)

Benefits paid from trust

Direct benefit payments

Foreign exchange impact

Amendments/curtailments/

settlements/other

—

1,882

1,719

—

370

847

(32)

4,040

(2,743)

3,467

413

830

(27)

(240)

(3,378)

(3,484)

(1,902)

(1,976)

(124)

—

(403)

134

(390)

(2,012)

145

—

148

(389)

(6)

—

132

(71)

(383)

(22)

—

141

(6)

(27)

(1)

—

(7)

(31)

(86)

(23)

(21)

Benefit obligation at December 31

$50,232

$47,812

$48,324

$45,770

$ 3,857

$ 3,912

$ 848

$ 705

Change in plan assets

Fair value of plan assets at January 1 $48,213

$52,694

$36,758

$40,798

$ 29

$ 18

$ 65

$ 70

Actual return on plan assets

6,949

(997)

4,896

Employer contributions

Acquisitions/divestitures, net

Plan participants’ contributions

—

243

(25)

(610)

325

(22)

304

—

335

Benefits paid from trust

(3,378)

(3,484)

(1,902)

(1,976)

(389)

(383)

—

333

(1,754)

(7)

(28)

—

(6)

(1)

(7)

(10)

Foreign exchange impact

Amendments/curtailments/

settlements/other

Fair value of plan assets

at December 31

$51,784

$48,213

$40,319

$36,758

$ 3

$ 29

$ 65

Funded status at December 31

$ 1,551

$ 401

$ (8,005) $ (9,012)

$(3,854)

$(3,882)

$(783)

$(640)

Accumulated benefit obligation*

$50,232

$47,812

$47,645

$45,161

N/A

* Represents the benefit obligation assuming no future participant compensation increases.

N/A—Not applicable

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies129

The following table presents the net funded status recognized in the Consolidated Balance Sheet.

($ in millions)

Defined Benefit Pension Plans

Nonpension Postretirement Benefit Plans

U.S. Plans

Non-U.S. Plans

U.S. Plan

Non-U.S. Plans

At December 31:

2019

2018

2019

2018

2019

2018

Prepaid pension assets

$ 3,313

$ 2,069

$ 3,550

$ 2,597

$ 0

2019

$ 2

2018

$ 0

Current liabilities—

compensation and benefits

(120)

(313)

(302)

(346)

(340)

(33)

(36)

Noncurrent liabilities—retirement
and nonpension postretirement
benefit obligations

(1,641)

(1,548)

(11,242)

(11,306)

(3,507)

(3,542)

(752)

(605)

Funded status—net

$ 1,551

$ 401

$ (8,005) $ (9,012)

$(3,854)

$(3,882)

$(783)

$(640)

The following table presents the pre-tax net loss and prior service costs/(credits) and transition (assets)/liabilities recognized in
OCI and the changes in the pre-tax net loss, prior service costs/(credits) and transition (assets)/liabilities recognized in AOCI for the
retirement-related benefit plans.

($ in millions)

Defined Benefit Pension Plans

Nonpension Postretirement Benefit Plans

U.S. Plans

Non-U.S. Plans

U.S. Plan

Non-U.S. Plans

2019

2018

2019

2018

Net loss at January 1

$17,476

$18,045

$18,452

$18,275

Current period loss/(gain)

Curtailments and settlements

(309)

—

956

—

109

(41)

1,590

(11)

Amortization of net loss included in

net periodic (income)/cost

(559)

(1,525)

(1,249)

(1,401)

2019

$405

147

—

(1)

Net loss at December 31

$16,608

$17,476

$17,272

$18,452

$551

2018

$486

(72)

—

(10)

$405

2019

$172

125

2018

$145

(10)

(6)

$287

$172

Prior service costs/(credits)

at January 1

$ 57

$ 74

$ 172

$ (90)

$ 52

$ 45

$ 4

$ 3

Current period prior service

costs/(credits)

Curtailments, settlements

and other

Amortization of prior service
(costs)/credits included in
net periodic (income)/cost

Prior service costs/(credits)

—

102

181

(21)

—

(16)

—

(8)

—

at December 31

$ 41

$ 57

$ 297

$ 172

$ 34

$ 52

$ (4)

$ 4

Transition (assets)/liabilities

at January 1

$ — $ —

$ 0

$ —

$ 0

Amortization of transition

assets/(liabilities) included in
net periodic (income)/cost

Transition (assets)/liabilities

—

at December 31

$ — $ —

$ 0

$ —

$ 0

Total loss recognized in
accumulated other
comprehensive income/(loss)*

$16,648

$17,533

$17,569

$18,624

$585

$457

$283

$176

* Refer to note S, “Equity Activity,” for the total change in AOCI, and the Consolidated Statement of Comprehensive Income for the components of net

periodic (income)/cost, including the related tax effects, recognized in OCI for the retirement-related benefit plans.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies130

On October 26, 2018, the High Court in London in the case of
Lloyds Pension Group Trustees Limited v Lloyds Bank PLC,
confirmed that the UK defined benefit pension plans are required
to equalize pension benefits to take into account unequal
guaranteed minimum pension benefits accrued during the period
1990-1997. As a result of this court decision, IBM recorded an
increase of $125 million to the PBO for the IBM UK defined
benefit plan, which represents approximately 1 percent of the
UK PBO. This amount was recorded as prior service cost in OCI
for the year ended December 31, 2018.

Assumptions Used to Determine Plan Financial Information
Underlying both the measurement of benefit obligations and net
periodic (income)/cost are actuarial valuations. These valuations
use participant-specific information such as salary, age and years
of service, as well as certain assumptions, the most significant
of which include estimates of discount rates, expected return on
plan assets, rate of compensation increases, interest crediting
rates and mortality rates. The company evaluates these
assumptions, at a minimum, annually, and makes changes as
necessary.

The following tables present the assumptions used to measure the net periodic (income)/cost and the year-end benefit obligations
for retirement-related benefit plans.

Weighted-average assumptions used

to measure net periodic (income)/cost
for the year ended December 31

Discount rate

Expected long-term returns on plan assets

Rate of compensation increase

Interest crediting rate

Weighted-average assumptions used to measure

benefit obligations at December 31

Discount rate

Rate of compensation increase

Interest crediting rate

Weighted-average assumptions used

to measure net periodic cost for the
year ended December 31

Discount rate

Expected long-term returns on plan assets

Interest crediting rate

Weighted-average assumptions used to measure

benefit obligations at December 31

Discount rate

Interest crediting rate

N/A—Not applicable

Defined Benefit Pension Plans

U.S. Plans

Non-U.S. Plans

2019

2018

2017

2019

2018

2017

4.10%

5.25%

N/A

3.60%

3.10%

N/A

2.70%

3.40%

5.25%

N/A

2.30%

4.10%

N/A

3.60%

3.80%

5.75%

N/A

1.60%

3.40%

N/A

2.30%

1.85%

4.38%

2.18%

0.30%

1.19%

2.60%

0.28%

1.76%

3.62%

2.41%

0.30%

1.85%

2.18%

0.30%

1.80%

3.77%

2.45%

0.59%

1.76%

2.41%

0.30%

Nonpension Postretirement Benefit Plans

U.S. Plan

Non-U.S. Plans

2019

2018

2017

2019

2018

2017

3.90%

N/A

3.60%

3.30%

N/A

2.30%

3.60%

N/A

1.60%

7.48%

8.64%

N/A

7.28%

8.91%

N/A

8.26%

10.47%

N/A

2.80%

2.70%

3.90%

3.60%

3.30%

2.30%

4.98%

N/A

7.48%

7.28%

N/A

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies131

Item

Description of Assumptions

Discount Rate

Changes in discount rate assumptions impact net periodic (income)/cost and the PBO.

For the U.S. and certain non-U.S. countries, a portfolio of high-quality corporate bonds is used to
construct a yield curve. Cash flows from the company’s expected benefit obligation payments are
matched to the yield curve to derive the discount rates.

In other non-U.S. countries where the markets for high-quality long-term bonds are not as well
developed, a portfolio of long-term government bonds is used as a base, and a credit spread is added to
simulate corporate bond yields at these maturities in the jurisdiction of each plan. This is the
benchmark for developing the respective discount rates.

Expected
Long-Term
Returns on
Plan Assets

Represents the expected long-term returns on plan assets based on the calculated market-related value
of plan assets and considers long-term expectations for future returns and the investment policies and
strategies discussed on page 132. These rates of return are developed and tested for reasonableness
against historical returns by the company.

The use of expected returns may result in pension income that is greater or less than the actual return
of those plan assets in a given year. Over time, however, the expected long-term returns are designed to
approximate the actual long-term returns, and therefore result in a pattern of income or loss recognition
that more closely matches the pattern of the services provided by the employees.

The difference between actual and expected returns is recognized as a component of net loss or gain
in AOCI, which is amortized as a component of net periodic (income)/cost over the service lives or life
expectancy of the plan participants, depending on the plan, provided such amounts exceed certain
thresholds provided by accounting standards. The market-related value of plan assets recognizes
changes in the fair value of plan assets systematically over a five-year period in the expected return
on plan assets line in net periodic (income)/cost.

The projected long-term rate of return on plan assets for 2020 is 4.5% for U.S. and 3.4% for
non-U.S. DB Plans.

Rate of
Compensation
Increases
and Mortality
Assumptions

Interest
Crediting Rate

Compensation rate increases are determined based on the company’s long-term plans for such increases.
These rate increases are not applicable to the U.S. DB pension plans as benefit accruals ceased
December 31, 2007.

Mortality assumptions are based on life expectancy and death rates for different types of
participants and are periodically updated based on actual experience.

Benefits for certain participants in the PPP are calculated using a cash balance formula. An assumption
underlying this formula is an interest crediting rate, which impacts both net periodic (income)/cost and
the PBO. This provides the basis for projecting the expected interest rate that plan participants will earn
on the benefits that they are expected to receive in the following year and is based on the average from
August to October of the one-year U.S. Treasury Constant Maturity yield plus one percent.

Healthcare
Cost Trend
Rate

For nonpension postretirement benefit plans, the company reviews external data and its own historical
trends for healthcare costs to determine the healthcare cost trend rates. The healthcare cost trend rate
has an insignificant effect on plan costs or the benefit obligation due to the terms of the plan which
limit the company’s obligation to the participants.

The company’s U.S. healthcare cost trend rate assumption for 2020 is 6.50 percent. The company assumes
that trend rate will decrease to 5.0 percent over the next six years.

The following tables present the increase/(decrease) in net periodic income and benefit obligations as a result of changes in
plan assumptions.

($ in millions)

For the year ended December 31:

2019

2018

2017

At December 31:

Net Periodic Income

Benefit Obligations

2019

2018

Discount rate (U.S. DB

pension plans)

Expected long-term return on

plan assets (U.S. DB
pension plans)

Interest crediting rate (PPP)

$307

$(124)

$ (64)

PBO (U.S. DB pension plans)

$4,385

$(3,239)

Discount rate impact

—

(59)

(256)

(25)

(656)

(14)

APBO (U.S. nonpension plans)

Benefit obligations (all plans)

Mortality assumptions impact

252

(153)

8,932

(4,032)

PBO (U.S. DB and nonpension plans)

(186)

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies
132

Plan Assets
Retirement-related benefit plan assets are recognized and
measured at fair value. Because of the inherent uncertainty of
valuations, these fair value measurements may not necessarily
reflect the amounts the company could realize in current market
transactions.

Investment Policies and Strategies
The investment objectives of the Qualified PPP portfolio are
designed to generate returns that will enable the plan to meet
its future obligations. The precise amount for which these
obligations will be settled depends on future events, including the
retirement dates and life expectancy of the plans’ participants.
The obligations are estimated using actuarial assumptions, based
on the current economic environment and other pertinent factors
described previously on page 131. The Qualified PPP portfolio’s
investment strategy balances the requirement to generate
returns, using potentially higher yielding assets such as equity
securities, with the need to control risk in the portfolio with less
volatile assets, such as fixed-income securities. Risks include,
among others, inflation, volatility in equity values and changes in
interest rates that could cause the plan to become underfunded,
thereby increasing its dependence on contributions from the
company. To mitigate any potential concentration risk, careful
consideration is given to balancing the portfolio among industry
sectors, companies and geographies, taking into account interest
rate sensitivity, dependence on economic growth, currency and
other factors that affect investment returns. There were no
significant changes to investment strategy made in 2019 and
none are planned for 2020. The Qualified PPP portfolio’s target
allocation is 12 percent equity securities, 80 percent fixed-income
securities, 4 percent real estate and 4 percent other investments.

The assets are managed by professional investment firms and
investment professionals who are employees of the company.
They are bound by investment mandates determined by the
company’s management and are measured against specific
benchmarks. Among these managers, consideration is given,
but not limited to, balancing security concentration, issuer
concentration, investment style and reliance on particular active
and passive investment strategies.

Market liquidity risks are tightly controlled, with $4,043 million
of the Qualified PPP portfolio as of December 31, 2019 invested
in private market assets consisting of private equities and private
real estate investments, which are less liquid than publicly traded
securities. In addition, the Qualified PPP portfolio had $1,347
million in commitments for future investments in private markets
to be made over a number of years. These commitments are
expected to be funded from plan assets.

Derivatives are used as an effective means to achieve investment
objectives and/or as a component of the plan’s risk management
strategy. The primary reasons for the use of derivatives are
fixed income management, including duration, interest rate
management and credit exposure, cash equitization and to
manage currency strategies.

Outside the U.S., the investment objectives are similar to
those described previously, subject to local regulations. The
weighted-average target allocation for the non-U.S. plans is
20 percent equity securities, 71 percent fixed-income securities,
3 percent real estate and 6 percent other investments, which is
consistent with the allocation decisions made by the company’s
management. In some countries, a higher percentage allocation
to fixed income is required to manage solvency and funding
risks. In others, the responsibility for managing the investments
typically lies with a board that may include up to 50 percent of
members elected by employees and retirees. This can result
in slight differences compared with the strategies previously
described. Generally, these non-U.S. plans do not invest in illiquid
assets and their use of derivatives is consistent with the U.S. plan
and mainly for currency hedging, interest rate risk management,
credit exposure and alternative investment strategies.

The company’s nonpension postretirement benefit plans
are underfunded or unfunded. For some plans, the company
maintains a nominal, highly liquid trust fund balance to ensure
timely benefit payments.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary CompaniesDefined Benefit Pension Plan Assets
The following table presents the company’s defined benefit pension plans’ asset classes and their associated fair value at December 31,
2019. The U.S. Plan consists of the Qualified PPP and the non-U.S. Plans consist of all plans sponsored by the company’s subsidiaries.

133

($ in millions)

Equity

Equity securities (1)

Equity mutual funds (2)

Fixed income

Government and related (3)

Corporate bonds (4)

Mortgage and asset-backed

securities

Insurance contracts

Cash and short-term investments (6)

Real estate

Derivatives (7)

Other mutual funds (8)

Subtotal

Investments measured at net
asset value using the NAV
practical expedient (9)

Other (10)

U.S. Plan

Non-U.S. Plans

Level 1

Level 2

Level 3

Total

Level 1

Level 2

Level 3

Total

$1,943

$ —

$ — $ 1,943

$2,209

$ 0

$ — $ 2,209

—

21,134

16,666

630

—

848

—

21,134

518

17,185

—

630

386

—

903

—

204

—

10,288

2,124

—

1,862

644

—

969

—

328

—

10,290

2,124

—

1,862

849

328

987

2,469

39,284

518

42,271

2,456

15,907

330

18,693

—

9,519

(6)

—

21,653

(26)

Fixed income mutual funds (5)

386

Fair value of plan assets

$2,469

$39,284

$518

$51,784

$2,456

$15,907

$330

$40,319

(1) Represents U.S. and international securities. The U.S. Plan includes IBM common stock of $2 million, representing 0.004 percent of the

U.S. Plan assets. Non-U.S. Plans include IBM common stock of $10 million, representing 0.02 percent of the non-U.S. Plans assets.

(2) Invests in predominantly equity securities.

(3) Includes debt issued by national, state and local governments and agencies.

(4) The U.S. Plan includes IBM corporate bonds of $37 million, representing 0.07 percent of the U.S. Plan assets. Non-U.S. Plans include

IBM corporate bonds of $8 million, representing 0.02 percent of the non-U.S. Plans assets.

(5) Invests predominantly in fixed income securities.

(6) Includes cash, cash equivalents and short-term marketable securities.

(7) Includes interest rate derivatives, forwards, exchange traded and other over-the-counter derivatives.

(8) Invests in both equity and fixed-income securities.

(9) Investments measured at fair value using the net asset value (NAV) per share (or its equivalent) as a practical expedient, including

commingled funds, hedge funds, private equity and real estate partnerships.

(10) Represents net unsettled transactions, relating primarily to purchases and sales of plan assets.

The U.S. nonpension postretirement benefit plan assets of $3
million were invested primarily in cash equivalents, categorized
as Level 1 in the fair value hierarchy. The non-U.S. nonpension
postretirement benefit plan assets of $65 million, primarily in

Brazil, and, to a lesser extent, in Mexico and South Africa, were
invested primarily in government and related fixed-income
securities and corporate bonds, categorized as Level 2 in the
fair value hierarchy.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies134

The following table presents the company’s defined benefit pension plans’ asset classes and their associated fair value at December 31,
2018. The U.S. Plan consists of the Qualified PPP and the non-U.S. Plans consist of all plans sponsored by the company’s subsidiaries.

($ in millions)

Equity

Equity securities (1)

Equity mutual funds (2)

Fixed income

Government and related (3)

Corporate bonds (4)

Mortgage and asset-backed

securities

Insurance contracts

Cash and short-term investments (6)

Real estate

Derivatives (7)

Other mutual funds (8)

Subtotal

Investments measured at net
asset value using the NAV
practical expedient (9)

Other (10)

U.S. Plan

Non-U.S. Plans

Level 1

Level 2

Level 3

Total

Level 1

Level 2

Level 3

Total

$1,538

$ —

$ 1,538

$2,333 $ —

$ 0

$ 2,333

—

19,661

15,849

635

—

1,020

—

(1)

—

19,661

359

16,208

—

640

421

—

1,075

—

322

—

8,951

1,865

—

1,308

431

—

606

—

339

—

8,973

1,865

1,308

753

339

630

2,081

37,164

363

39,608

2,753

13,172

341

16,266

—

8,835

(230)

—

20,525

(32)

Fixed income mutual funds (5)

421

Fair value of plan assets

$2,081 $37,164

$363 $48,213

$2,753 $13,172

$341 $36,758

(1) Represents U.S. and international securities. The U.S. Plan includes IBM common stock of $2 million, representing 0.004 percent of the

U.S. Plan assets. Non-U.S. Plans include IBM common stock of $10 million, representing 0.03 percent of the non-U.S. Plans assets.

(2) Invests in predominantly equity securities.

(3) Includes debt issued by national, state and local governments and agencies.

(4) The U.S. Plan does not include any IBM corporate bonds. Non-U.S. Plans include IBM corporate bonds of $3 million, representing

0.007 percent of the non-U.S. Plans assets.

(5) Invests in predominantly fixed-income securities.

(6) Includes cash and cash equivalents and short-term marketable securities.

(7) Includes interest rate derivatives, forwards, exchange traded and other over-the-counter derivatives.

(8) Invests in both equity and fixed-income securities.

(9) Investments measured at fair value using the net asset value (NAV) per share (or its equivalent) as a practical expedient, including

commingled funds, hedge funds, private equity and real estate partnerships.

(10) Represents net unsettled transactions, relating primarily to purchases and sales of plan assets.

The U.S. nonpension postretirement benefit plan assets of
$29 million were invested in cash equivalents, categorized as
Level 1 in the fair value hierarchy. The non-U.S. nonpension
postretirement benefit plan assets of $65 million, primarily in

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary CompaniesThe following tables present the reconciliation of the beginning and ending balances of Level 3 assets for the years ended December 31,
2019 and 2018 for the U.S. Plan.

135

($ in millions)

Balance at January 1, 2019

Return on assets held at end of year

Return on assets sold during the year

Purchases, sales and settlements, net

Transfers, net

Balance at December 31, 2019

($ in millions)

Balance at January 1, 2018

Return on assets held at end of year

Return on assets sold during the year

Purchases, sales and settlements, net

Transfers, net

Balance at December 31, 2018

Corporate
Bonds

$359

105

$518

Mortgage and
Asset-Backed
Securities

$ 4

—

(4)

$ —

Corporate
Bonds

Mortgage and
Asset-Backed
Securities

$372

(23)

—

$359

Total

$363

105

$518

Total

$376

(23)

$363

The following tables present the reconciliation of the beginning and ending balances of Level 3 assets for the years ended December 31,
2019 and 2018 for the non-U.S. Plans.

($ in millions)

Balance at January 1, 2019

Return on assets held at end of year

Return on assets sold during the year

Purchases, sales and settlements, net

Transfers, net

Foreign exchange impact

Balance at December 31, 2019

($ in millions)

Balance at January 1, 2018

Return on assets held at end of year

Return on assets sold during the year

Purchases, sales and settlements, net

Transfers, net

Foreign exchange impact

Balance at December 31, 2018

Government and
Related

Private Real
Estate

$ 2

$339

(1)

—

(11)

(17)

—

Total

$341

(11)

(18)

—

$ 2

$328

$330

Government and
Related

Private Real
Estate

$ 8

$356

(1)

(3)

(2)

$ 2

(2)

(3)

—

(21)

$339

Total

$365

(2)

(6)

(2)

(21)

$341

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies

136

Valuation Techniques
The following is a description of the valuation techniques used
to measure plan assets at fair value. There were no changes in
valuation techniques during 2019 and 2018.

Equity securities are valued at the closing price reported on the
stock exchange on which the individual securities are traded. IBM
common stock is valued at the closing price reported on the New
York Stock Exchange. Mutual funds are typically valued based
on quoted market prices. These assets are generally classified
as Level 1.

The fair value of fixed-income securities is typically estimated
using pricing models, quoted prices of securities with similar
characteristics or discounted cash flows and are generally
classified as Level 2. If available, they are valued using the closing
price reported on the major market on which the individual
securities are traded.

Cash includes money market accounts that are valued at their
cost plus interest on a daily basis, which approximates fair
value. Short-term investments represent securities with original
maturities of one year or less. These assets are classified as
Level 1 or Level 2.

Real estate valuations require significant judgment due to the
absence of quoted market prices, the inherent lack of liquidity
and the long-term nature of such assets. These assets are initially
valued at cost and are reviewed periodically utilizing available
and relevant market data, including appraisals, to determine
if the carrying value of these assets should be adjusted. These
assets are classified as Level 3.

Exchange-traded derivatives are valued at the closing price
reported on the exchange on which the individual securities are
traded, while forward contracts are valued using a mid-close
price. Over-the-counter derivatives are typically valued using
pricing models. The models require a variety of inputs, including,
for example, yield curves, credit curves, measures of volatility
and foreign exchange rates. These assets are classified as Level 1
or Level 2 depending on availability of quoted market prices.

Certain investments are measured at fair value using the net
asset value (NAV) per share (or its equivalent) as a practical
expedient. These investments, which include commingled funds,
hedge funds, private equity and real estate partnerships, are
typically valued using the NAV provided by the administrator of
the fund and reviewed by the company. The NAV is based on the
value of the underlying assets owned by the fund, minus liabilities
and divided by the number of shares or units outstanding.

Contributions and Direct Benefit Payments
It is the company’s general practice to fund amounts for
pensions sufficient to meet the minimum requirements set forth
in applicable employee benefits laws and local tax laws. From
time to time, the company contributes additional amounts as it
deems appropriate.

The following table presents the contributions made to the
non-U.S. DB plans, nonpension postretirement benefit plans,
multi-employer plans, DC plans and direct payments for 2019
and 2018. The cash contributions to the multi-employer plans
represent the annual cost included in the net periodic (income)/
cost recognized in the Consolidated Income Statement. The
company’s participation in multi-employer plans has no material
impact on the company’s financial statements.

($ in millions)

For the year ended December 31:

Non-U.S. DB plans

2019

2018

$ 243

$ 325

Nonpension postretirement benefit plans

304

Multi-employer plans

DC plans

Direct benefit payments

Total

1,040

559

335

1,024

567

$2,177

$2,288

In 2019 and 2018, $635 million and $598 million, respectively,
was contributed in U.S. Treasury securities, which is considered
a non-cash transaction (includes the Active Medical Trust).

Defined Benefit Pension Plans
In 2020, the company is not legally required to make any
contributions to the U.S. defined benefit pension plans. However,
depending on market conditions, or other factors, the company
may elect to make discretionary contributions to the Qualified
PPP during the year.

In 2020, the company estimates contributions to its non-U.S.
defined benefit and multi-employer plans to be approximately
$300 million, the largest of which will be contributed to defined
benefit pension plans in Spain and Japan. This amount generally
represents legally mandated minimum contributions.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies137

Financial market performance in 2020 could increase the legally
mandated minimum contribution in certain countries which
require monthly or daily remeasurement of the funded status.
The company could also elect to contribute more than the legally
mandated amount based on market conditions or other factors.

Expected Benefit Payments
Defined Benefit Pension Plan Expected Payments
The following table presents the total expected benefit payments
to defined benefit pension plan participants. These payments
have been estimated based on the same assumptions used to
measure the plans’ PBO at December 31, 2019 and include
benefits attributable to estimated future compensation
increases, where applicable.

($ in millions)

2020

2021

2022

2023

2024

2025—2029

Qualified
U.S. Plan
Payments

$ 3,533

3,523

3,494

3,441

3,394

15,680

Nonqualified
U.S. Plans
Payments

Qualified
Non-U.S. Plans
Payments

Nonqualified
Non-U.S. Plans
Payments

Total Expected
Benefit
Payments

$122

$ 1,937

$ 320

$ 5,913

122

120

119

557

1,951

1,990

2,012

2,030

317

327

336

345

5,912

5,932

5,909

5,887

10,015

1,864

28,115

The 2020 expected benefit payments to defined benefit pension
plan participants not covered by the respective plan assets
(underfunded plans) represent a component of compensation
and benefits, within current liabilities, in the Consolidated
Balance Sheet.

Nonpension Postretirement Benefit Plan Expected Payments
The following table presents the total expected benefit payments
to nonpension postretirement benefit plan participants. These
payments have been estimated based on the same assumptions
used to measure the plans’ APBO at December 31, 2019.

($ in millions)

2020

2021

2022

2023

2024

2025—2029

U.S. Plan
Payments

$ 354

381

388

379

359

1,449

Qualified
Non-U.S. Plans
Payments

Nonqualified
Non-U.S. Plans
Payments

Total Expected
Benefit
Payments

$ 19

$ 23

$ 395

146

424

432

425

407

116

1,712

The 2020 expected benefit payments to nonpension
postretirement benefit plan participants not covered by the
respective plan assets represent a component of compensation

and benefits, within current liabilities, in the Consolidated
Balance Sheet.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary Companies
138

Other Plan Information
The following table presents information for defined benefit pension plans with accumulated benefit obligations (ABO) in excess of
plan assets. For a more detailed presentation of the funded status of the company’s defined benefit pension plans, see the table
on page 129.

($ in millions)

At December 31:

Plans with PBO in excess of plan assets

Plans with ABO in excess of plan assets

Plans with plan assets in excess of PBO

2019

2018

Benefit
Obligation

$31,714

30,882

66,842

Plan
Assets

$18,398

18,127

73,705

Benefit
Obligation

$30,059

29,312

63,524

Plan
Assets

$16,783

16,522

68,190

The following table presents information for the nonpension postretirement benefit plan with APBO in excess of plan assets. For a
more detailed presentation of the funded status of the company’s nonpension postretirement benefit plans, see the table on page 129.

($ in millions)

At December 31:

Plans with APBO in excess of plan assets

Plans with plan assets in excess of APBO

2019

2018

Benefit
Obligation

$4,685

Plan
Assets

$47

Benefit
Obligation

$4,616

—

Plan
Assets

$94

—

NOTE W. SUBSEQUENT EVENTS
On January 28, 2020, the company announced that the Board of
Directors approved a quarterly dividend of $1.62 per common
share. The dividend is payable March 10, 2020 to shareholders
of record on February 10, 2020.

On January 30, 2020, the company announced that Arvind
Krishna has been elected Chief Executive Officer and a member
of the IBM Board of Directors, effective April 6, 2020. Mr. Krishna
is presently IBM Senior Vice President for Cloud & Cognitive
Software. Jim Whitehurst, IBM Senior Vice President and CEO of
Red Hat, will become IBM President, also effective April 6, 2020.
Virginia M. Rometty will continue as IBM Executive Chairman
through year-end 2020.

On February 3, 2020, the company announced that it elected to
redeem on March 6, 2020 $2.9 billion of outstanding fixed-rate
debt due in 2021. The notes are expected to be redeemed at a
price equal to 100 percent of the $2.9 billion aggregate principal
plus a make-whole premium and accrued interest. The company
expects to incur a loss of approximately $41 million upon
redemption which will be recorded in other (income) and expense
in the Consolidated Income Statement.

On February 11, 2020, the company issued $4.1 billion of Euro
fixed-rate notes in multiple tranches with maturities ranging from
8 to 20 years and coupons ranging from 0.3 to 1.2 percent.

Notes to Consolidated Financial Statements International Business Machines Corporation and Subsidiary CompaniesFive-Year Comparison of Selected Financial Data
International Business Machines Corporation and Subsidiary Companies

139

($ in millions except per share amounts)

For the year ended December 31:

Revenue

2019* 2018

2017

2016

2015

$ 77,147

$ 79,591

$ 79,139

$ 79,919

$ 81,741

Income from continuing operations

$ 9,435

$ 8,723

$ 5,758

$ 11,881

$ 13,364

Income/(loss) from discontinued operations, net of tax

$ (4)

$ 5

$ (5)

$ (9)

$ (174)

Net income

$ 9,431

$ 8,728

$ 5,753

$ 11,872

$ 13,190

Operating (non-GAAP) earnings**

$ 11,436

$ 12,657

$ 12,807

$ 12,880

$ 14,519

Earnings/(loss) per share of common stock:

Assuming dilution:

Continuing operations

Discontinued operations

Total

Basic:

Continuing operations

Discontinued operations

Total

$ 10.57

$ 9.51

$ 6.14

$ 12.39

$ 13.60

$ (0.01)

$ 0.01

$ 0.00

$ (0.01)

$ (0.18)

$ 10.56

$ 9.52

$ 6.14

$ 12.38

$ 13.42

$ 10.63

$ 9.56

$ 6.17

$ 12.44

$ 13.66

$ 0.00

$ 0.01

$ 0.00

$ (0.01)

$ (0.18)

$ 10.63

$ 9.57

$ 6.17

$ 12.43

$ 13.48

Diluted operating (non-GAAP)**

$ 12.81

$ 13.81

$ 13.66

$ 13.44

$ 14.77

Cash dividends paid on common stock

$ 5,707

$ 5,666

$ 5,506

$ 5,256

$ 4,897

Investment in property, plant and equipment

$ 2,286

$ 3,395

$ 3,229

$ 3,567

$ 3,579

Return on IBM stockholders’ equity

52.6%

48.0%

31.1%

74.0%

101.1%

At December 31:

Total assets

Net investment in property, plant and equipment

Working capital

Total debt

Total equity

2019* 2018

2017

2016

2015

$152,186

$123,382

$125,356

$117,470

$110,495

$ 10,010
$ 718+

$ 10,792

$ 11,116

$ 10,830

$ 10,727

$ 10,918

$ 12,373

$ 7,613

$ 8,235

$ 62,899

$ 45,812

$ 46,824

$ 42,169

$ 39,890

$ 20,985

$ 16,929

$ 17,725

$ 18,392

$ 14,424

* The company acquired Red Hat on July 9, 2019, impacting 2019 results.

** Refer to the table below for the reconciliation of non-GAAP financial information for 2017, 2016 and 2015.

Also see “GAAP Reconciliation,” on page 46 for the reconciliation of non-GAAP financial information for 2019 and 2018.

+ Refer to “IBM Working Capital” on page 43 for additional information.

GAAP Reconciliations
The table below provides a reconciliation of the company’s income and diluted earnings per share from continuing operations as
reported under GAAP to its operating earnings presentation which is a non-GAAP measure. The company’s calculation of operating
(non-GAAP) earnings, as presented, may differ from similarly titled measures reported by other companies. Please refer to the
“Operating (non-GAAP) Earnings” section for management’s rationale for presenting operating earnings information.

($ in millions except per share amounts)

For the year ended December 31:

2017

Income from continuing operations

GAAP

$ 5,758

Diluted earnings per share from continuing operations

$ 6.14

2016

Income from continuing operations

$11,881

Diluted earnings per share from continuing operations

$ 12.39

2015

Income from continuing operations

$13,364

Diluted earnings per share from continuing operations

$ 13.60

Acquisition-
Related
Adjustments

Retirement-
Related
Adjustments

Tax Reform
Charge

Operating
(non-GAAP)

$ 718

$0.77

$ 735

$0.77

$ 562

$0.57

$ 856

$0.91

$ 265

$0.28

$ 593

$0.60

$5,475

$ 5.84

—

$12,807

$ 13.66

$12,880

$ 13.44

$14,519

$ 14.77

The following presents a reconciliation of annualized revenue, excluding divestitures and currency from 2012 to 2019:

($ in billions)

2011
Revenue

$106.9

Approximate Impact From:

Divestitures

-1.3 pts.

Currency

-2.2 pts.

Performance

-0.5 pts.

Total
Impact

-4.0 pts.

2019
Revenue

$77.1

140

Selected Quarterly Data
International Business Machines Corporation and Subsidiary Companies

($ in millions except per share amounts)

2019

Revenue

Gross profit

Income from continuing operations

First
Quarter

$18,182

$ 8,043

$ 1,593

Second
Quarter

$19,161

$ 9,010

$ 2,499

Third
Quarter*

$18,028

$ 8,336

$ 1,673

Income/(loss) from discontinued operations, net of tax

$ (2)

$ (1)

$ 1,591

$ 2,009

$ 2,498

$ 2,827

$ 1,672

$ 2,394

Fourth
Quarter*

$21,777

$11,100

$ 3,669

$ 0

$ 3,670

$ 4,206

Full Year

$77,147

$36,488

$ 9,435

$ (4)

$ 9,431

$11,436

Net income

Operating (non-GAAP) earnings**

Earnings per share of common stock—

continuing operations+

Assuming dilution

Basic

Earnings per share of common stock—total+

Assuming dilution

Basic

Diluted operating (non-GAAP)**

($ in millions except per share amounts)

2018

Revenue

Gross profit

Income from continuing operations

Income/(loss) from discontinued operations, net of tax

Net income

Operating (non-GAAP) earnings**

Earnings per share of common stock—

continuing operations+

Assuming dilution

Basic

Earnings per share of common stock—total+

Assuming dilution

Basic

Diluted operating (non-GAAP)**

$ 1.78

$ 1.79

$ 2.81

$ 2.82

$ 1.87

$ 1.89

$ 4.11

$ 4.14

$ 10.57

$ 10.63

$ 1.78

$ 1.79

$ 2.25

$ 2.81

$ 2.82

$ 3.17

$ 1.87

$ 1.89

$ 2.68

$ 4.11

$ 4.14

$ 4.71

$ 10.56

$ 10.63

$ 12.81

First
Quarter

$19,072

$ 8,247

$ 1,675

$ 4

$ 1,679

$ 2,272

Second
Quarter

$20,003

$ 9,199

$ 2,402

$ 1

$ 2,404

$ 2,834

Third
Quarter

$18,756

$ 8,803

$ 2,692

$ 2

$ 2,694

$ 3,134

Fourth
Quarter

$21,760

$10,687

$ 1,954

$ (2)

$ 1,951

$ 4,417

Full Year

$79,591

$36,936

$ 8,723

$ 5

$ 8,728

$12,657

$ 1.81

$ 1.82

$ 2.61

$ 2.63

$ 2.94

$ 2.95

$ 2.15

$ 2.17

$ 9.51

$ 9.56

$ 1.81

$ 1.82

$ 2.45

$ 2.61

$ 2.63

$ 3.08

$ 2.94

$ 2.95

$ 3.42

$ 2.15

$ 2.17

$ 4.87

$ 9.52

$ 9.57

$ 13.81

* The company acquired Red Hat on July 9, 2019, impacting third- and fourth-quarter results.

** Refer to page 74 of the company’s first-quarter 2019 Form 10-Q filed on April 30, 2019, page 98 of the company’s second-quarter 2019 Form 10-Q
filed on July 30, 2019, page 102 of the company’s third-quarter 2019 Form 10-Q filed on October 29, 2019, and page 52 under the heading “GAAP
Reconciliation” for the reconciliation of non-GAAP financial information for the quarterly periods of 2019 and 2018. Also see “GAAP Reconciliation,”
on page 46 for the reconciliation of non-GAAP financial information for full-year 2019 and 2018.

+ Earnings Per Share (EPS) in each quarter is computed using the weighted-average number of shares outstanding during that quarter while EPS for the
full year is computed using the weighted-average number of shares outstanding during the year. Thus, the sum of the four quarters’ EPS does not
equal the full-year EPS.

Performance Graphs
International Business Machines Corporation and Subsidiary Companies

141

COMPARISON OF ONE- AND FIVE-YEAR CUMULATIVE
TOTAL RETURN FOR IBM,
S&P 500 STOCK INDEX AND S&P INFORMATION
TECHNOLOGY INDEX
The following graphs compare the one- and five-year cumulative
total returns for IBM common stock with the comparable
cumulative returns of certain Standard & Poor’s (S&P) indices.
Due to the fact that IBM is a company included in the S&P 500
Stock Index, the SEC’s rules require the use of that index for the

required five-year graph. Under those rules, the second index used
for comparison may be a published industry or line-of-business
index. The S&P Information Technology Index is such an index.
IBM is also included in this index.

Each graph assumes $100 invested on December 31 (of the initial
year shown in the graph) in IBM common stock and $100 invested
on the same date in each of the S&P indices. The comparisons
assume that all dividends are reinvested.

One-Year

Five-Year

160

140

120

100

300

250

200

150

100

12/18

3/19

6/19

9/19

12/19

One-Year

(U.S. Dollar)

International Business Machines

S & P 500

S & P Information Technology

Five-Year

(U.S. Dollar)

12/2018

3/2019

6/2019

9/2019

12/2019

$100.00

$125.59

$124.22

$132.50

$123.57

100.00

113.65

118.54

120.55

131.49

100.00

119.86

127.13

131.37

150.29

2014

2015

2016

2017

2018

2019

International Business Machines

$100.00

$ 88.59 $110.90

$106.49

$ 82.49

$101.93

S & P 500

100.00

101.38

113.51

138.29

132.23

173.86

S & P Information Technology

100.00

105.92

120.59

167.42

166.94

250.89

142

Stockholder Information
International Business Machines Corporation and Subsidiary Companies

IBM Stockholder Services
Stockholders with questions about their accounts
should contact:

IBM Stock
IBM common stock is listed on the New York Stock Exchange
and the Chicago Stock Exchange under the symbol “IBM”.

Computershare Trust Company, N.A., P.O. Box 505005,
Louisville, Kentucky 40233-5005, (888) IBM-6700.

Investors residing outside the United States, Canada
and Puerto Rico should call (781) 575-2727.

Stockholders can also reach Computershare Trust Company,
N.A. via e-mail at: ibm@computershare.com

Hearing-impaired stockholders with access to a
telecommunications device (TDD) can communicate directly
with Computershare Trust Company, N.A., by calling (800)
490-1493. Stockholders residing outside the United States,
Canada and Puerto Rico should call (781) 575-2694.

IBM on the Internet
Topics featured in this Annual Report can be found online at
www.ibm.com. Financial results, news on IBM products,
services and other activities can also be found at that website.

IBM files reports with the Securities and Exchange Commission
(SEC), including the annual report on Form 10-K, quarterly
reports on Form 10-Q, current reports on Form 8-K and any
other filings required by the SEC.

IBM’s website (www.ibm.com/investor) contains a significant
amount of information about IBM, including the company’s
annual report on Form 10-K, quarterly reports on Form 10-Q,
current reports on Form 8-K, and all amendments to those
reports filed or furnished pursuant to Sections 13(a) and 15(d)
of the Securities Exchange Act of 1934 as soon as reasonably
practicable after such material is electronically filed with or
furnished to the SEC. These materials are available free of
charge on or through IBM’s website.

The SEC maintains a website (www.sec.gov) that contains
reports, proxy and information statements, and other information
regarding issuers that file electronically with the SEC.

Computershare Investment Plan (CIP)
(formerly IBM Investor Services Program)
The Computershare Investment Plan brochure outlines a
number of services provided for IBM stockholders and potential
IBM investors, including the reinvestment of dividends,
direct purchase and the deposit of IBM stock certificates for
safekeeping. Call (888) IBM-6700 for a copy of the brochure.
Investors residing outside the United States, Canada and
Puerto Rico should call (781) 575-2727.

Investors with other requests may write to: IBM Stockholder
Relations, New Orchard Road, M/D 325, Armonk,
New York 10504.

Stockholder Communications
Stockholders can get quarterly financial results, a summary of
the Annual Meeting remarks, and voting results from the
meeting by calling (914) 499-7777, by sending an e-mail to
infoibm@us.ibm.com, or by writing to IBM Stockholder Relations,
New Orchard Road, M/D 325, Armonk, New York 10504.

Annual Meeting
The IBM Annual Meeting of Stockholders will be held on
Tuesday, April 28, 2020, at 10 a.m. at the Louisville Marriott
Downtown Hotel, 280 W. Jefferson Street, Louisville, Kentucky.

Literature for IBM Stockholders
The literature mentioned below on IBM is available without
charge from:

Computershare Trust Company, N.A., P.O. Box 505005,
Louisville, Kentucky 40233-5005 (888) IBM-6700.

Investors residing outside the United States, Canada and
Puerto Rico should call (781) 575-2727.

The company’s annual report on Form 10-K and the quarterly
reports on Form 10-Q provide additional information on IBM’s
business. The 10-K report is released by the end of February;
10-Q reports are released by early May, August and November.

An audio recording of the 2019 Annual Report will be available
for sight-impaired stockholders in June 2020.

The IBM Corporate Responsibility Report highlights IBM’s
values and its integrated approach to corporate responsibility,
including its innovative strategies to transform communities
through global citizenship. Highlights from the Corporate
Responsibility Report are available online at www.ibm.org/
responsibility/2018. The full Corporate Responsibility Report is
available in printed form by downloading the report at
https:www.ibm.org/responsibility/reports.

General Information
Stockholders of record can receive account information and
answers to frequently asked questions regarding stockholder
accounts online at www.ibm.com/investor. Stockholders of
record can also consent to receive future IBM Annual Reports
and Proxy Statements online through this site.

For answers to general questions about IBM from within the
continental United States, call (800) IBM-4YOU. From outside
the United States, Canada and Puerto Rico, call (914) 499-1900.

Board of Directors and Senior Leadership
International Business Machines Corporation and Subsidiary Companies

143

BOARD OF DIRECTORS

Thomas Buberl*
Chief Executive Officer
AXA S.A.

Michael L. Eskew
Retired Chairman and
Chief Executive Officer
United Parcel Service, Inc.

David N. Farr
Chairman and Chief Executive Officer
Emerson Electric Co.

Alex Gorsky
Chairman and Chief Executive Officer
Johnson & Johnson

Michelle J. Howard
Retired Admiral
United States Navy

Shirley Ann Jackson**
President
Rensselaer Polytechnic Institute

* Term on the Board begins on April 28, 2020

** Term on the Board ends on April 28, 2020

*** Term on the Board begins on April 6, 2020

SENIOR LEADERSHIP

Simon J. Beaumont
Vice President
Tax and Treasurer

Michelle H. Browdy
Senior Vice President
Legal and Regulatory Affairs,
and General Counsel

Robert F. Del Bene
Vice President and Controller

Mark Foster
Senior Vice President
Global Business Services
and IBM Services

Diane J. Gherson
Senior Vice President and
Chief Human Resources Officer

John Granger
Senior Vice President
Cloud Application Innovation
and Chief Operating Officer
Global Business Services

Martin Jetter
Senior Vice President
Europe

Arvind Krishna ***
Senior Vice President
Cloud and Cognitive Software
IBM

Andrew N. Liveris
Retired Chairman and
Chief Executive Officer
The Dow Chemical Company

Frederick William McNabb, III
Retired Chairman and
Chief Executive Officer
The Vanguard Group, Inc.

Martha E. Pollack
President
Cornell University

Virginia M. Rometty
Chairman, President and
Chief Executive Officer
IBM

James J. Kavanaugh
Senior Vice President and
Chief Financial Officer
Finance and Operations

John E. Kelly III
Executive Vice President

Kenneth M. Keverian
Senior Vice President
Corporate Strategy

Arvind Krishna *
Senior Vice President
Cloud and Cognitive Software

Robert W. Lord
Senior Vice President
Cognitive Applications

Michelle Peluso
Senior Vice President and
Chief Marketing Officer
Digital Sales and Marketing

Robert J. Picciano
Senior Vice President and
Master Technical Client Advisor
Global Markets

* Dr. Krishna will become the Chief Executive Officer on April 6, 2020

** Mrs. Rometty will become the Executive Chairman on April 6, 2020

*** Mr. Whitehurst will become the President on April 6, 2020

Joseph R. Swedish
Senior Advisor and
Retired Chairman, President
and Chief Executive Officer
Anthem, Inc.

Sidney Taurel
Chairman Emeritus
Eli Lilly and Company

Chairman
Pearson plc

Peter R. Voser
Retired Chief Executive Officer
Royal Dutch Shell plc

Chairman
ABB Ltd.

Frederick H. Waddell
Retired Chairman and
Chief Executive Officer
Northern Trust Corporation

Virginia M. Rometty **
Chairman, President and
Chief Executive Officer

Thomas W. Rosamilia
Senior Vice President
Systems

Martin J. Schroeter
Senior Vice President
Global Markets, Global Financing,
Marketing & Communications

Frank Sedlarcik
Vice President
Assistant General Counsel
and Secretary

Bridget A. van Kralingen
Senior Vice President
Industry Platforms and
Global Industries

James M. Whitehurst ***
Senior Vice President, IBM,
and Chief Executive Officer,
Red Hat

Juan A. Zufiria Zatarain
Senior Vice President
Global Technology Services

International Business Machines Corporation
New Orchard Road, Armonk, New York 10504
(914) 499-1900

Aix, Cognitive Enterprise, DB2, Global Business Services, Global
Technology Services, IBM, IBM Cloud, IBM Garage, IBM Research,
IBM Security, IBM Services, IBM Watson, IBM Z, Maximo, POWER,
POWER9, Watson, WebSphere, z14, z15, z/OS and Z Systems are
trademarks or registered trademarks of International Business
Machines Corporation or its wholly owned subsidiaries. Linux is
a registered trademark of Linus Torvalds in the United States, other
countries, or both. Red Hat, OpenShift and Ansible are trademarks
or registered trademarks of Red Hat, Inc. or its subsidiaries in the
United States and other countries. UNIX is a registered trademark
of The Open Group in the United States and other countries. Other
company, product and service names may be trademarks or service
marks of others.

Images, p. 4 (Fortune), from Fortune © 2019 Fortune Media IP
Limited. All Rights Reserved. Used under license. Fortune and
Fortune Media IP Limited are not affiliated with, and do not
endorse, products or services of IBM; p. 12, courtesy Sund & Baelt;
p. 13 (left), courtesy Woodside Energy

The IBM Annual Report is printed on papers harvested
to sustainable standards.

Printed in the U.S.A.

COL03002-USEN-19

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