0000051143srt:AsiaPacificMemberibm:ClientFinancingReceivablesPortfolioSegmentMemberus-gaap:FinancingReceivablesEqualToGreaterThan90DaysPastDueMember2021-06-30

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM ~~10 - Q~~10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTER ENDED ~~SEPTEMBER~~JUNE 30, ~~2017~~2021

1-2360

(Commission file number)

INTERNATIONAL BUSINESS MACHINES CORPORATION

(Exact name of registrant as specified in its charter)

New York		13-0871985
(State of incorporation)		(IRS employer identification number)

~~Armonk,~~One New Orchard Road

Armonk, New York

10504

(Address of principal executive offices)

(Zip Code)

~~914-499-1900~~914-499-1900

(Registrant’s telephone number)

Securities registered pursuant to Section 12(b) of the Act:

Title of each class	Trading symbol	Name of each exchange on which registered
Capital stock, par value $.20 per share	IBM	New York Stock Exchange
		NYSE Chicago
0.500% Notes due 2021	IBM 21B	New York Stock Exchange
2.625% Notes due 2022	IBM 22A	New York Stock Exchange
1.250% Notes due 2023	IBM 23A	New York Stock Exchange
0.375% Notes due 2023	IBM 23B	New York Stock Exchange
1.125% Notes due 2024	IBM 24A	New York Stock Exchange
2.875% Notes due 2025	IBM 25A	New York Stock Exchange
0.950% Notes due 2025	IBM 25B	New York Stock Exchange
0.875% Notes due 2025	IBM 25C	New York Stock Exchange
0.300% Notes due 2026	IBM 26B	New York Stock Exchange
1.250% Notes due 2027	IBM 27B	New York Stock Exchange
0.300% Notes due 2028	IBM 28B	New York Stock Exchange
1.750% Notes due 2028	IBM 28A	New York Stock Exchange
1.500% Notes due 2029	IBM 29	New York Stock Exchange
1.750% Notes due 2031	IBM 31	New York Stock Exchange
0.650% Notes due 2032	IBM 32A	New York Stock Exchange
1.200% Notes due 2040	IBM 40	New York Stock Exchange
7.00% Debentures due 2025	IBM 25	New York Stock Exchange
6.22% Debentures due 2027	IBM 27	New York Stock Exchange
6.50% Debentures due 2028	IBM 28	New York Stock Exchange
7.00% Debentures due 2045	IBM 45	New York Stock Exchange
7.125% Debentures due 2096	IBM 96	New York Stock Exchange

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section l3 or l5(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x☒ No o☐

Indicate by check mark whether the registrant has submitted electronically ~~and posted on its corporate Web site, if any,~~ every Interactive Data File required to be submitted ~~and posted~~ pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit ~~and post~~ such files). Yes x☒ No o☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer x☒		Accelerated filer o☐
Non-accelerated filer ☐		Smaller reporting company ☐
~~Non-accelerated filer~~ o		~~Smaller reporting company~~ o
~~(Do not check if a smaller reporting company)~~
		Emerging growth company o☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act). o☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o☐ No x☒

The registrant had ~~925,791,378~~896,320,073 shares of common stock outstanding at ~~September~~June 30, ~~2017.~~2021.

Table of Contents

Index

~~Index~~


	Page
Part I - Financial ~~Information:~~Information:

Item 1. Consolidated Financial Statements (Unaudited):

Consolidated Income Statement ~~of Earnings~~ for the three and ~~nine~~six months ended ~~September~~June 30, ~~2017~~2021 and ~~2016~~2020	3

Consolidated Statement of Comprehensive Income for the three and ~~nine~~six months ended ~~September~~June 30, ~~2017~~2021 and ~~2016~~2020	4

Consolidated ~~Statement of Financial Position~~Balance Sheet at ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016~~2020	5

Consolidated Statement of Cash Flows for the ~~nine~~six months ended ~~September~~June 30, ~~2017~~2021 and ~~2016~~2020	7

Consolidated Statement of ~~Changes in~~ Equity for the ~~nine~~three and six months ended ~~September~~June 30, ~~2017~~2021 and ~~2016~~2020	8

Notes to Consolidated Financial Statements	910

Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition	5048

Item 4. Controls and Procedures	8791

Part II - Other ~~Information:~~Information:

Item 1. Legal Proceedings	8792

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds and Issuer Repurchases of Equity Securities	8792

Item 5. Other Information	92

Item 6. Exhibits	8893

Table of Contents

Part I - Financial Information

Item 1. Consolidated Financial Statements:

INTERNATIONAL BUSINESS MACHINES CORPORATION

AND SUBSIDIARY COMPANIES

CONSOLIDATED INCOME STATEMENT

~~CONSOLIDATED STATEMENT OF EARNINGS~~(UNAUDITED)

~~(UNAUDITED)~~


	Three Months Ended June 30,				Six Months Ended June 30,
(Dollars in millions except per share amounts)	2021		2020		2021		2020
Revenue:
Services	$	11,485	$	10,937	$	22,889	$	22,311
Sales		7,018		6,918		13,101		12,813
Financing		242		268		485		570
Total revenue		18,745		18,123		36,474		35,694
Cost:
Services		7,871		7,520		15,646		15,363
Sales		1,694		1,739		3,279		3,363
Financing		176		165		341		345
Total cost		9,741		9,423		19,266		19,071
Gross profit		9,004		8,700		17,208		16,622
Expense and other (income):
Selling, general and administrative		5,334		5,248		10,508		11,203
Research, development and engineering		1,657		1,582		3,286		3,207
Intellectual property and custom development income		(135)		(203)		(282)		(319)
Other (income) and expense		315		179		676		361
Interest expense		281		323		562		649
Total expense and other (income)		7,451		7,129		14,751		15,101
Income from continuing operations before income taxes		1,552		1,571		2,457		1,522
Provision for/(benefit from) income taxes		227		209		177		(1,017)
Income from continuing operations	$	1,325	$	1,362	$	2,281	$	2,538
Income/(loss) from discontinued operations, net of tax		—		(1)		(1)		(2)
Net income	$	1,325	$	1,361	$	2,280	$	2,536

Earnings/(loss) per share of common stock:
Assuming dilution:
Continuing operations	$	1.47	$	1.52	$	2.52	$	2.83
Discontinued operations		—		0.00		0.00		0.00
Total	$	1.47	$	1.52	$	2.52	$	2.83
Basic:
Continuing operations	$	1.48	$	1.53	$	2.55	$	2.85
Discontinued operations		—		0.00		0.00		0.00
Total	$	1.48	$	1.53	$	2.55	$	2.85

Weighted-average number of common shares outstanding: (millions)
Assuming dilution		904.2		894.9		903.0		895.0
Basic		895.0		889.4		894.3		888.7

Three Months Ended September 30,

Nine Months Ended September 30,

(Dollars in millions except per share amounts)

2017

2016

2017

2016

Revenue:

Services

$
12,703

$
12,938

$
37,592

$
38,347

Sales

6,017

5,872

17,744

18,542

Financing

433

417

1,260

1,260

Total revenue

19,153

19,226

56,597

58,149

Cost:

Services

8,426

8,418

25,502

25,492

Sales

1,605

1,536

4,839

4,496

Financing

322

259

890

760

Total cost

10,353

10,213

31,232

30,748

Gross profit

8,800

9,013

25,365

27,401

Expense and other (income):

Selling, general and administrative

4,648

4,732

14,959

16,093

Research, development and engineering

1,342

1,397

4,360

4,320

Intellectual property and custom development income

(308
)
(528
)
(1,118
)
(1,110
)
Other (income) and expense

(114
)
(8
)
(218
)
281

Interest expense

168

158

451

473

Total expense and other (income)

5,735

5,751

18,434

20,056

Income from continuing operations before income taxes

3,065

3,263

6,931

7,345

Provision for/(benefit from) income taxes

339

409

120

(31
)
Income from continuing operations

$
2,726

$
2,854

$
6,811

$
7,375

Loss from discontinued operations, net of tax

0

(1
)
(3
)
(4
)
Net income

$
2,726

$
2,853

$
6,807

$
7,371

Earnings/(loss) per share of common stock:

Assuming dilution:

Continuing operations

$
2.92

$
2.98

$
7.24

$
7.67

Discontinued operations

0.00

0.00

0.00

0.00

Total

$
2.92

$
2.98

$
7.24

$
7.67

Basic:

Continuing operations

$
2.93

$
2.99

$
7.28

$
7.70

Discontinued operations

0.00

0.00

0.00

0.00

Total

$
2.93

$
2.99

$
7.28

$
7.70

Weighted-average number of common shares outstanding: (millions)

Assuming dilution

933.2

957.3

940.2

960.7

Basic

929.4

954.0

935.6

957.7

Cash dividend per common share

$
1.50

$
1.40

$
4.40

$
4.10

(Amounts may not add due to rounding.)

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

Table of Contents

INTERNATIONAL BUSINESS MACHINES CORPORATION

AND SUBSIDIARY COMPANIES

CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME

(UNAUDITED)

Three Months Ended September 30,

Nine Months Ended September 30,

(Dollars in millions)

2017

2016

2017

2016

Net income

$
2,726

$
2,853

$
6,807

$
7,371

Other comprehensive income/(loss), before tax:

Foreign currency translation adjustments

89

(99
)
213

(109
)
Net changes related to available-for-sale securities:

Unrealized gains/(losses) arising during the period

(1
)
(1
)
2

(36
)
Reclassification of (gains)/losses to net income

0

(1
)
1

36

Total net changes related to available-for-sale securities

(2
)
(2
)
2

0

Unrealized gains/(losses) on cash flow hedges:

Unrealized gains/(losses) arising during the period

(70
)
35

(198
)
(221
)
Reclassification of (gains)/losses to net income

(73
)
15

(347
)
26

Total unrealized gains/(losses) on cash flow hedges

(143
)
50

(545
)
(195
)
Retirement-related benefit plans:

Prior service costs/(credits)

0

—

0

—

Net (losses)/gains arising during the period

1

11

106

(57
)
Curtailments and settlements

2

4

3

19

Amortization of prior service (credits)/costs

(22
)
(28
)
(66
)
(81
)
Amortization of net (gains)/losses

733

696

2,156

2,079

Total retirement-related benefit plans

713

683

2,200

1,960

Other comprehensive income/(loss), before tax

658

632

1,869

1,656

Income tax (expense)/benefit related to items of other comprehensive income

11

(192
)
7

(213
)
Other comprehensive income/(loss)

669

440

1,877

1,442

Total comprehensive income/(loss)

$
3,394

$
3,293

$
8,684

$
8,813


	Three Months Ended June 30,				Six Months Ended June 30,
(Dollars in millions)	2021		2020		2021		2020
Net income	$	1,325	$	1,361	$	2,280	$	2,536
Other comprehensive income/(loss), before tax:
Foreign currency translation adjustments		28		4		577		(915)
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period		0		1		0		1
Reclassification of (gains)/losses to net income		—		—		—		—
Total net changes related to available-for-sale securities		0		1		0		1
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period		(34)		(36)		153		(216)
Reclassification of (gains)/losses to net income		90		(59)		251		32
Total unrealized gains/(losses) on cash flow hedges		56		(94)		404		(184)
Retirement-related benefit plans:
Prior service costs/(credits)		0		—		0		(4)
Net (losses)/gains arising during the period		2		57		22		65
Curtailments and settlements		16		13		34		21
Amortization of prior service (credits)/costs		1		0		4		1
Amortization of net (gains)/losses		643		566		1,291		1,136
Total retirement-related benefit plans		661		637		1,350		1,219
Other comprehensive income/(loss), before tax		745		548		2,330		121
Income tax (expense)/benefit related to items of other comprehensive income		(140)		(21)		(645)		(281)
Other comprehensive income/(loss), net of tax		605		527		1,685		(160)
Total comprehensive income	$	1,930	$	1,888	$	3,965	$	2,377

(Amounts may not add due to rounding.)

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

Table of Contents

INTERNATIONAL BUSINESS MACHINES CORPORATION

AND SUBSIDIARY COMPANIES

CONSOLIDATED BALANCE SHEET

~~CONSOLIDATED STATEMENT OF FINANCIAL POSITION~~(UNAUDITED)

ASSETS


	At June 30,		At December 31,
(Dollars in millions)	2021		2020
Assets:
Current assets:
Cash and cash equivalents	$	7,350	$	13,212
Restricted cash		215		463
Marketable securities		600		600
Notes and accounts receivable — trade (net of allowances of $300 in 2021 and $351 in 2020)		6,827		7,132
Short-term financing receivables (net of allowances of $195 in 2021 and $218 in 2020)		8,194		10,892
Other accounts receivable (net of allowances of $23 in 2021 and $28 in 2020)		802		714
Inventory, at lower of average cost or net realizable value:
Finished goods		213		190
Work in process and raw materials		1,594		1,649
Total inventory		1,807		1,839
Deferred costs		2,211		2,107
Prepaid expenses and other current assets		2,768		2,206
Total current assets		30,774		39,165
Property, plant and equipment		32,575		33,176
Less: Accumulated depreciation		23,152		23,136
Property, plant and equipment — net		9,423		10,040
Operating right-of-use assets — net		4,387		4,686
Long-term financing receivables (net of allowances of $33 in 2021 and $45 in 2020)		5,674		7,086
Prepaid pension assets		8,046		7,610
Deferred costs		2,362		2,449
Deferred taxes		8,954		9,241
Goodwill		61,645		59,617
Intangible assets — net		13,539		13,796
Investments and sundry assets		2,010		2,282
Total assets	$	146,814	$	155,971

(Amounts may not add due to rounding.)

(The accompanying notes are an integral part of the financialstatements.)

Table of Contents

INTERNATIONAL BUSINESS MACHINES CORPORATION

~~(UNAUDITED)~~AND SUBSIDIARY COMPANIES

CONSOLIDATED BALANCE SHEET – (CONTINUED)

~~ASSETS~~(UNAUDITED)

At September 30,

At December 31,

(Dollars in millions)

2017

2016

Assets:

Current assets:

Cash and cash equivalents

$
10,915

$
7,826

Marketable securities

600

701

Notes and accounts receivable - trade (net of allowances of $296 in 2017 and $290 in 2016)

8,150

9,182

Short-term financing receivables (net of allowances of $270 in 2017 and $337 in 2016)

18,050

19,006

Other accounts receivable (net of allowances of $39 in 2017 and $48 in 2016)

926

1,057

Inventories, at lower of average cost or market:

Finished goods

430

358

Work in process and raw materials

1,281

1,195

Total inventories

1,711

1,553

Prepaid expenses and other current assets

4,389

4,564

Total current assets

44,742

43,888

Property, plant and equipment

31,937

30,133

Less: Accumulated depreciation

20,880

19,303

Property, plant and equipment — net

11,057

10,830

Long-term financing receivables (net of allowances of $84 in 2017 and $101 in 2016)

8,459

9,021

Prepaid pension assets

4,521

3,034

Deferred taxes

7,289

5,224

Goodwill

36,782

36,199

Intangible assets — net

3,981

4,688

Investments and sundry assets

4,806

4,585

Total assets

$
121,636

$
117,470

LIABILITIES AND EQUITY


	At June 30,		At December 31,
(Dollars in millions except per share amounts)	2021		2020
Liabilities:
Current liabilities:
Taxes	$	2,260	$	3,301
Short-term debt		6,442		7,183
Accounts payable		4,214		4,908
Compensation and benefits		3,846		3,440
Deferred income		13,272		12,833
Operating lease liabilities		1,334		1,357
Other accrued expenses and liabilities		5,249		6,847
Total current liabilities		36,616		39,869
Long-term debt		48,735		54,355
Retirement and nonpension postretirement benefit obligations		17,265		18,248
Deferred income		4,113		4,301
Operating lease liabilities		3,278		3,574
Other liabilities		14,741		14,897
Total liabilities		124,747		135,244
Equity:
IBM stockholders’ equity:
Common stock, par value $0.20 per share, and additional paid-in capital		56,912		56,556
Shares authorized: 4,687,500,000
Shares issued: 2021 - 2,246,982,842
2020 - 2,242,969,004
Retained earnings		162,086		162,717
Treasury stock - at cost		(169,404)		(169,339)
Shares: 2021 - 1,350,662,770
2020 - 1,350,315,580
Accumulated other comprehensive income/(loss)		(27,652)		(29,337)
Total IBM stockholders’ equity		21,942		20,597
Noncontrolling interests		125		129
Total equity		22,067		20,727
Total liabilities and equity	$	146,814	$	155,971

(Amounts may not add due to rounding.)

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

Table of Contents

INTERNATIONAL BUSINESS MACHINES CORPORATION

AND SUBSIDIARY COMPANIES

CONSOLIDATED STATEMENT OF ~~FINANCIAL POSITION — (CONTINUED)~~
~~(UNAUDITED)~~CASH FLOWS

(UNAUDITED)


	Six Months Ended June 30,
(Dollars in millions)	2021		2020
Cash flows from operating activities:
Net income	$	2,280	$	2,536
Adjustments to reconcile net income to cash provided by operating activities
Depreciation		2,102		2,068
Amortization of intangibles		1,250		1,245
Stock-based compensation		457		436
Net (gain)/loss on asset sales and other		(144)		161
Changes in operating assets and liabilities, net of acquisitions/divestitures		1,594		1,606
Net cash provided by operating activities		7,539		8,052

Cash flows from investing activities:
Payments for property, plant and equipment		(1,054)		(1,215)
Proceeds from disposition of property, plant and equipment		215		82
Investment in software		(379)		(301)
Acquisition of businesses, net of cash acquired		(2,866)		(19)
Divestitures of businesses, net of cash transferred		(25)		757
Non-operating finance receivables — net		16		95
Purchases of marketable securities and other investments		(1,890)		(3,478)
Proceeds from disposition of marketable securities and other investments		1,312		1,942
Net cash provided by/(used in) investing activities		(4,671)		(2,138)

Cash flows from financing activities:
Proceeds from new debt		243		10,190
Payments to settle debt		(5,974)		(8,423)
Short-term borrowings/(repayments) less than 90 days — net		(68)		(449)
Common stock repurchases for tax withholdings		(234)		(211)
Financing — other		44		43
Cash dividends paid		(2,924)		(2,890)
Net cash provided by/(used in) financing activities		(8,914)		(1,739)

Effect of exchange rate changes on cash, cash equivalents and restricted cash		(65)		(301)
Net change in cash, cash equivalents and restricted cash		(6,110)		3,874

Cash, cash equivalents and restricted cash at January 1		13,675		8,314
Cash, cash equivalents and restricted cash at June 30	$	7,565	$	12,188

(Amounts may not add due to rounding.)

(The accompanying notes are an integral part of the financialstatements.)

Table of Contents

INTERNATIONAL BUSINESS MACHINES CORPORATION

~~LIABILITIES~~ AND SUBSIDIARY COMPANIES

CONSOLIDATED STATEMENT OF EQUITY

(UNAUDITED)

At September 30,

At December 31,

(Dollars in millions)

2017

2016

Liabilities:

Current liabilities:

Taxes

$
3,038

$
3,235

Short-term debt

4,299

7,513

Accounts payable

5,442

6,209

Compensation and benefits

3,918

3,577

Deferred income

10,649

11,035

Other accrued expenses and liabilities

4,352

4,705

Total current liabilities

31,697

36,275

Long-term debt

41,327

34,655

Retirement and nonpension postretirement benefit obligations

17,554

17,070

Deferred income

3,579

3,600

Other liabilities

7,723

7,477

Total liabilities

101,879

99,078

Equity:

IBM stockholders’ equity:

Common stock, par value $0.20 per share, and additional paid-in capital

54,395

53,935

Shares authorized: 4,687,500,000

Shares issued: 2017 - 2,228,489,401

2016 - 2,225,116,815

Retained earnings

155,565

152,759

Treasury stock - at cost

(162,812
)
(159,050
)
Shares: 2017 - 1,302,698,023

2016 - 1,279,249,412

Accumulated other comprehensive income/(loss)

(27,521
)
(29,398
)
Total IBM stockholders’ equity

19,627

18,246

Noncontrolling interests

130

146

Total equity

19,757

18,392

Total liabilities and equity

$
121,636

$
117,470


	Common
	Stock and						Accumulated
	Additional						Other		Total IBM		Non-
	Paid-in		Retained		Treasury		Comprehensive		Stockholders’		Controlling		Total
(Dollars in millions except per share amounts)	Capital		Earnings		Stock		Income/(Loss)		Equity		Interests		Equity
Equity - April 1, 2021	$	56,788	$	162,218	$	(169,360)	$	(28,257)	$	21,389	$	124	$	21,513
Net income plus other comprehensive income/(loss):
Net income				1,325						1,325				1,325
Other comprehensive income/(loss)								605		605				605
Total comprehensive income/(loss)									$	1,930			$	1,930
Cash dividends paid — common stock ($1.64 per share)				(1,467)						(1,467)				(1,467)
Common stock issued under employee plans (2,967,655 shares)		124								124				124
Purchases (1,334,081 shares) and sales (1,163,671 shares) of treasury stock under employee plans — net				11		(44)				(33)				(33)
Changes in noncontrolling interests												1		1
Equity – June 30, 2021	$	56,912	$	162,086	$	(169,404)	$	(27,652)	$	21,942	$	125	$	22,067


	Common
	Stock and						Accumulated
	Additional						Other		Total IBM		Non-
	Paid-in		Retained		Treasury		Comprehensive		Stockholders’		Controlling		Total
(Dollars in millions except per share amounts)	Capital		Earnings		Stock		Income/(Loss)		Equity		Interests		Equity
Equity - April 1, 2020	$	56,092	$	162,626	$	(169,437)	$	(29,283)	$	19,999	$	129	$	20,128
Net income plus other comprehensive income/(loss):
Net income				1,361						1,361				1,361
Other comprehensive income/(loss)								527		527				527
Total comprehensive income/(loss)									$	1,888			$	1,888
Cash dividends paid — common stock ($1.63 per share)				(1,450)						(1,450)				(1,450)
Common stock issued under employee plans (2,296,269 shares)		42								42				42
Purchases (1,311,046 shares) and sales (1,701,568 shares) of treasury stock under employee plans — net				22		50				72				72
Changes in noncontrolling interests												8		8
Equity - June 30, 2020	$	56,135	$	162,559	$	(169,386)	$	(28,757)	$	20,551	$	137	$	20,688

(Amounts may not add due to rounding.)

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

Table of Contents

INTERNATIONAL BUSINESS MACHINES CORPORATION

AND SUBSIDIARY COMPANIES

CONSOLIDATED STATEMENT OF ~~CASH FLOWS~~EQUITY – (CONTINUED)

(UNAUDITED)

Nine Months Ended September 30,

(Dollars in millions)

2017

2016

Cash flows from operating activities:

Net income

$
6,807

$
7,371

Adjustments to reconcile net income to cash provided by operating activities

Depreciation

2,231

2,106

Amortization of intangibles

1,161

1,148

Stock-based compensation

388

403

Net (gain)/loss on asset sales and other

92

100

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

312

1,978
* **
Net cash provided by operating activities

10,991

13,105
* **

Cash flows from investing activities:

Payments for property, plant and equipment

(2,273
)
(2,594
)
Proceeds from disposition of property, plant and equipment

337

234

Investment in software

(411
)
(441
)
Acquisition of businesses, net of cash acquired

(442
)
(5,445
)
Divestitures of businesses, net of cash transferred

35

35

Non-operating finance receivables — net

469

1,441
*
Purchases of marketable securities and other investments

(3,770
)
(4,021
)
Proceeds from disposition of marketable securities and other investments

2,778

3,501

Net cash used in investing activities

(3,278
)
(7,289
)*

Cash flows from financing activities:

Proceeds from new debt

9,355

8,368

Payments to settle debt

(6,252
)
(5,616
)
Short-term borrowings/(repayments) less than 90 days — net

(794
)
(864
)
Common stock repurchases

(3,674
)
(2,632
)
Common stock repurchases for tax withholdings

(153
)
(115
)**
Common stock transactions — other

137

166

Cash dividends paid

(4,119
)
(3,927
)
Net cash used in financing activities

(5,499
)
(4,619
)**

Effect of exchange rate changes on cash and cash equivalents

875

155

Net change in cash and cash equivalents

3,089

1,352

Cash and cash equivalents at January 1

7,826

7,686

Cash and cash equivalents at September 30

$
10,915

$
9,039


	Common
	Stock and						Accumulated
	Additional						Other		Total IBM		Non-
	Paid-in		Retained		Treasury		Comprehensive		Stockholders’		Controlling		Total
(Dollars in millions except per share amounts)	Capital		Earnings		Stock		Income/(Loss)		Equity		Interests		Equity
Equity - January 1, 2021	$	56,556	$	162,717	$	(169,339)	$	(29,337)	$	20,597	$	129	$	20,727
Net income plus other comprehensive income/(loss):
Net income				2,280						2,280				2,280
Other comprehensive income/(loss)								1,685		1,685				1,685
Total comprehensive income/(loss)									$	3,965			$	3,965
Cash dividends paid — common stock ($3.27 per share)				(2,924)						(2,924)				(2,924)
Common stock issued under employee plans (4,013,839 shares)		355								355				355
Purchases (1,673,587 shares) and sales (1,326,397 shares) of treasury stock under employee plans — net				13		(65)				(51)				(51)
Changes in noncontrolling interests												(4)		(4)
Equity - June 30, 2021	$	56,912	$	162,086	$	(169,404)	$	(27,652)	$	21,942	$	125	$	22,067


	Common
	Stock and						Accumulated
	Additional						Other		Total IBM		Non-
	Paid-in		Retained		Treasury		Comprehensive		Stockholders’		Controlling		Total
(Dollars in millions except per share amounts)	Capital		Earnings		Stock		Income/(Loss)		Equity		Interests		Equity
Equity - January 1, 2020	$	55,895	$	162,954	$	(169,413)	$	(28,597)	$	20,841	$	144	$	20,985
Cumulative effect of change in accounting principle*				(66)						(66)				(66)
Net income plus other comprehensive income/(loss):
Net income				2,536						2,536				2,536
Other comprehensive income/(loss)								(160)		(160)				(160)
Total comprehensive income/(loss)									$	2,377			$	2,377
Cash dividends paid — common stock ($3.25 per share)				(2,890)						(2,890)				(2,890)
Common stock issued under employee plans (3,231,755 shares)		239								239				239
Purchases (1,621,500 shares) and sales (1,858,039 shares) of treasury stock under employee plans — net				24		26				50				50
Changes in noncontrolling interests												(7)		(7)
Equity - June 30, 2020	$	56,135	$	162,559	$	(169,386)	$	(28,757)	$	20,551	$	137	$	20,688

* ~~Revised classification of certain financing receivables.~~

** Reclassified to reflectReflects the adoption of the FASB guidance on ~~share-based compensation.~~current expected credit losses. Refer to note 2, “Accounting Changes.”

(Amounts may not add due to rounding.)

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

Table of Contents

~~INTERNATIONAL BUSINESS MACHINES CORPORATION~~
~~AND SUBSIDIARY COMPANIES~~
~~CONSOLIDATED STATEMENT OF CHANGES IN EQUITY~~
~~(UNAUDITED)~~

Common

Stock and

Accumulated

Additional

Other

Total IBM

Non-

Paid-in

Retained

Treasury

Comprehensive

Stockholders’

Controlling

Total

(Dollars in millions)

Capital

Earnings

Stock

Income/(Loss)

Equity

Interests

Equity

Equity - January 1, 2017

$
53,935

$
152,759

$
(159,050
)
$
(29,398
)
$
18,246

$
146

$
18,392

Cumulative effect of change in accounting principle *

102

102

102

Net income

6,807

6,807

6,807

Other comprehensive income/(loss)

1,877

1,877

1,877

Total comprehensive income/(loss)

$
8,684

$
8,684

Cash dividends paid — common stock

(4,119
)

(4,119
)

(4,119
)
Common stock issued under employee plans (3,372,586 shares)

460

460

460

Purchases (960,186 shares) and sales (363,335 shares) of treasury stock under employee plans — net

15

(106
)

(91
)

(91
)
Other treasury shares purchased, not retired (22,851,760 shares)

(3,655
)

(3,655
)

(3,655
)
Changes in noncontrolling interests

(16
)
(16
)
Equity - September 30, 2017

$
54,395

$
155,565

$
(162,812
)
$
(27,521
)
$
19,627

$
130

$
19,757

Common

Stock and

Accumulated

Additional

Other

Total IBM

Non-

Paid-in

Retained

Treasury

Comprehensive

Stockholders’

Controlling

Total

(Dollars in millions)

Capital

Earnings

Stock

Income/(Loss)

Equity

Interests

Equity

Equity - January 1, 2016

$
53,262

$
146,124

$
(155,518
)
$
(29,607
)
$
14,262

$
162

$
14,424

Net income

7,371

7,371

7,371

Other comprehensive income/(loss)

1,442

1,442

1,442

Total comprehensive income/(loss)

$
8,813

$
8,813

Cash dividends paid — common stock

(3,927
)

(3,927
)

(3,927
)
Common stock issued under employee plans (3,370,992 shares)

513

513

513

Purchases (787,805 shares) and sales (336,480 shares) of treasury stock under employee plans — net

16

(72
)

(56
)

(56
)
Other treasury shares purchased, not retired (17,793,841 shares)

(2,579
)

(2,579
)

(2,579
)
Changes in other equity

(16
)
0

(17
)

(17
)
Changes in noncontrolling interests

(12
)
(12
)
Equity - September 30, 2016

$
53,759

$
149,585

$
(158,170
)
$
(28,164
)
$
17,010

$
149

$
17,159

* Reflects the adoption of the FASB guidance on intra-entity transfers of assets in the first-quarter 2017.

~~(Amounts may not add due to rounding.)~~

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

Notes to Consolidated Financial ~~Statements:~~Statements

1. Basis of Presentation:

1. ~~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). The financial statements and footnotes are unaudited. In the opinion of the company’s management, these statements include all adjustments, which are only of a normal recurring nature, necessary to present a fair statement of the company’s results of operations, financial position and cash flows.

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amount of assets, liabilities, revenue, costs, expenses and other comprehensive income/(loss) that are reported in the Consolidated Financial Statements and accompanying disclosures. 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.~~circumstances, including the macroeconomic impacts of the COVID-19 pandemic. As a result, actual results may be different from these estimates. ~~Refer~~

On October 8, 2020, the company announced that it will separate the managed infrastructure services unit of its Global Technology Services (GTS) segment into a new public company. The managed infrastructure services unit is comprised of outsourcing and other infrastructure modernization and management services. The new company will be named Kyndryl. The separation is expected to be achieved through a U.S. federal tax-free spin-off to IBM shareholders and completed by the end of 2021. It will be subject to customary market, regulatory and other closing conditions, including final IBM Board of Directors’ approval. The announcement did not have any classification impact to the company’s ~~2016 Annual Report on pages 71 to 74, for a discussion of the company’s critical accounting estimates.~~Consolidated Financial Statements or segment reporting. IBM will report Kyndryl as discontinued operations after separation.

~~The company revised the classification of certain financing receivables for~~For the three and ~~nine~~six months ended ~~September~~June 30, 2016, decreasing net cash provided by operating activities and net cash used in investing activities in the amount of $99 million and $311 million, respectively, which the company concluded to be immaterial to the periods presented. The twelve-month revision for the period ended December 31, 2016 was provided in the company’s 2016 Annual Report on page 26. There was no impact to total GAAP cash flows or free cash flow.

In the first quarter of 2017, the company reported a benefit from income taxes of $329 million, and its effective tax rate was (23.1) percent. This was primarily driven by a discrete tax benefit of $582 million from a first-quarter 2017 transaction accounted for under the new Financial Accounting Standards Board (FASB) guidance related to intra-entity transfers of assets. This benefit was partially offset by a discrete tax charge related to foreign audit activity of $99 million. The company had additional discrete tax benefits of $170 million in second-quarter 2017. For the nine months ended September 30, 2017,2021, the company reported a provision for income taxes of ~~$120~~$227 million and ~~its effective~~$177 million, respectively. The company reported a tax ~~rate was 1.7 percent, primarily as a result of~~benefit in the first ~~and second~~ quarter ~~discrete items.~~of 2021 which was primarily driven by the resolution of certain tax audit matters. For the ~~nine~~three and six months ended ~~September~~June 30, ~~2016,~~2020, the company reported a provision for income taxes of $209 million and a benefit from income taxes of ~~$31~~$1,017 million, ~~and its effective~~respectively. The tax ~~rate~~benefit was ~~(0.4) percent. The negative effective~~primarily related to the tax ~~rate~~impacts of an intra-entity sale of certain of the company’s intellectual property in the ~~comparable period~~first quarter of 2016 was due to the resolution of a long-standing Japan tax matter in February 2016. Refer to note 2, “Accounting Changes,” and the Taxes section of the Management Discussion for additional information.

2020.

Noncontrolling interest amounts of ~~$4.4~~$6.5 million and ~~$3.1~~$6.8 million, net of tax, for the three months ended ~~September~~June 30, ~~2017~~2021 and ~~2016,~~2020, respectively, and ~~$11.5~~$14.1 million and ~~$7.5~~$11.3 million, net of tax, for the ~~nine~~six months ended ~~September~~June 30, ~~2017~~2021 and ~~2016,~~2020, respectively, are included as a reduction within other (income) and expense in the Consolidated ~~Statement of Earnings.~~

Income Statement.

Interim results are not necessarily indicative of financial results for a full year. The information included in this
Form 10-Q should be read in conjunction with the company’s ~~2016~~2020 Annual Report.

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~~prior-period amounts have been reclassified to conform to the ~~current year~~current-period presentation. This is annotated where applicable.

2. Accounting Changes:

2. ~~Accounting Changes:~~Standards 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.

Table of Contents

~~New Standards~~Notes to Consolidated Financial Statements — (continued)

Effective Date and Adoption Considerations–The guidance was effective January 1, 2021 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 did not have a material impact in the consolidated financial results.

Reference Rate Reform

Standard/Description–Issuance date: March 2020, with amendments in 2021. This guidance provides optional expedients and exceptions for applying GAAP to contract modifications, hedging relationships, and other transactions that reference London Interbank Offered Rate (LIBOR) or another reference rate expected to be ~~Implemented~~discontinued, subject to meeting certain criteria.

In August 2017, the FASB issued guidance to simplify the application of current hedge accounting in certain areas, better portray the economic results of an entity’s risk management activities in its financial statementsEffective Date and ~~make targeted improvements to presentation and disclosure requirements.~~ Adoption Considerations–The guidance is effective ~~January 1, 2019 with early adoption permitted.~~ as of March 12, 2020 through December 31, 2022.

Effect on Financial Statements or Other Significant Matters–The company ~~plans~~made a policy election in the first quarter of 2020 to adopt the ~~guidance as~~practical expedient which allows for the continuation of ~~January 1, 2018.~~fair value hedge accounting for interest rate derivative contracts upon the transition from LIBOR to Secured Overnight Financing Rate (SOFR) or another reference rate alternative, without any impact to the Consolidated Income Statement. The ~~guidance is~~company has evaluated the replacement of the LIBOR benchmark on its interest rate risk management activities and does not ~~expected~~expect it to have a material impact in the consolidated financial results.

Simplifying the Test for Goodwill Impairment

~~In March 2017,~~Standard/Description–Issuance date: January 2017. This guidance simplifies the ~~FASB issued guidance~~goodwill impairment test by removing Step 2. It also requires disclosure of any reporting units that ~~impacts the presentation of net periodic pension~~have zero or negative carrying amounts if they have goodwill allocated to them.

Effective Date and postretirement benefit costs. Under the guidance, the service cost component of net benefit cost will continue to be presented in the same line items as other employee compensation costs, unless eligible for capitalization in the Consolidated Statement of Financial Position. The other components of net benefit costs will be presented separately from service cost as non-operating costs in the Consolidated Statement of Earnings or Notes to the Consolidated Financial Statements. Adoption Considerations–The guidance iswas effective

~~Notes to Consolidated Financial Statements — (continued)~~

January 1, ~~2018 with~~2020 and early adoption was permitted. The company ~~will adopt~~adopted the guidance on a prospective basis as of the effective date.

Effect on Financial Statements or Other Significant Matters–The guidance ~~is primarily a change in financial statement presentation and is~~did not ~~expected to~~ have a material impact in the consolidated financial results.

Financial Instruments–Credit Losses

InStandard/Description–Issuance date: June 2016, with amendments in 2018, 2019 and 2020. This changes the ~~FASB issued~~ guidance for credit ~~impairment~~losses based on an expected loss model rather than an incurred loss model. ~~The guidance~~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 iswas effective January 1, 2020 with ~~a one year~~one-year early adoption permitted. The company ~~is evaluating the impact of the new guidance.~~

In February 2016, the FASB issued guidance which changes the accounting for leases. The guidance requires lessees to recognize right-of-use assets and lease liabilities for most leases in the Consolidated Statement of Financial Position. The guidance makes some changes to lessor accounting, including the elimination of the use of third-party residual value guarantee insurance in the capital lease test, and overall aligns with the new revenue recognition guidance. The guidance also requires qualitative and quantitative disclosures to assess the amount, timing and uncertainty of cash flows arising from leases. The guidance is effective January 1, 2019 and early adoption is permitted. The company will adoptadopted the guidance as of the effective ~~date. A cross-functional implementation team has been established which is evaluating~~date, using the lease portfolio, system, process and policy change requirements. The company is currently evaluating the impact of the new guidance on its consolidated financial results and expects it will have a material impact on the Consolidated Statement of Financial Position. The company’s operating lease commitmentstransition methodology whereby prior comparative periods were ~~$6.9 billion at December 31, 2016. In 2016, the use of third-party residual value guarantee insurance resulted~~not retrospectively presented in ~~the company recognizing $220 million of sales-type lease revenue that would otherwise have been recognized over the lease period as operating lease revenue.~~

In January 2016, the FASB issued guidance which addresses aspects of recognition, measurement, presentation and disclosure of financial instruments. Certain equity investments will 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. The guidance is effective January 1, 2018 and early adoption is not permitted except for limited provisions. The guidance is not expected to have a material impact in the consolidated financial results.

The FASB issued guidance on the recognition of revenue from contracts with customers in May 2014 with amendments in 2015 and 2016. Revenue recognition will depict 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 disclosures regarding the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. The guidance permits two methods of adoption: retrospectively to each prior reporting period presented, or retrospectively with the cumulative effect of initially applying the guidance recognized at the date of initial application (the cumulative catch-up transition method). The company will adopt the guidance on January 1, 2018 and apply the cumulative catch-up transition method. The transition adjustment to be recorded to stockholders’ equity upon adoption of the new standard is not expected to be material.

Given the scope of work required to implement the recognition and disclosure requirements under the new standard, the company began its assessment process in 2014 and has identified changes to policy, processes, systems and controls. This also includes the assessment of data availability and presentation necessary to meet the additional disclosure requirements of the guidance in the Notes to the Consolidated Financial Statements.

The company expects revenue recognition for its broad portfolio of hardware, software and services offerings to remain largely unchanged. However, the guidance is expected to change the timing of revenue recognition in certain areas, including accounting for certain software licenses. These impacts are not expected to be material. The company expects to continue to recognize revenue for term license (recurring license charge) software arrangementsEffect on ~~a monthly basis over the period that the client is entitled to use the license due to the contractual terms in these arrangements.~~

~~Since the company currently expenses sales commissions as incurred, the requirement~~Financial Statements or Other Significant Matters–At January 1, 2020, an increase in the ~~new standard~~allowance for credit losses of $81 million was recorded for accounts receivable–trade and financing receivables (inclusive of its related off-balance sheet commitments). Additionally, net deferred taxes were reduced by $14 million in the Consolidated Balance Sheet, resulting in a cumulative-effect net decrease to ~~capitalize certain in-scope sales commissions will result in an accounting change~~retained earnings of $66 million. Refer to note 8, “Financing Receivables,” and note 12, “Commitments,” for ~~the company. However, the impact to the consolidated financial statements is not expected to be material, with no impact to cash flows.~~additional information.

~~The company continues to assess all potential impacts~~

Table of ~~the guidance and given normal ongoing business dynamics, preliminary conclusions are subject to change.~~Contents

Notes to Consolidated Financial Statements — (continued)

3. Revenue Recognition:

Disaggregation of Revenue

The following tables provide details of revenue by major products/service offerings and by geography.

~~Standards Implemented~~Revenue by Major Products/Service Offerings



	Three Months Ended June 30,				Six Months Ended June 30,
(Dollars in millions)	2021		2020		2021		2020
Cloud & Data Platforms	$	3,120	$	2,797	$	5,986	$	5,333
Cognitive Applications		1,391		1,246		2,624		2,428
Transaction Processing Platforms		1,587		1,706		2,925		3,226
Total Cloud & Cognitive Software	$	6,098	$	5,748	$	11,534	$	10,987
Consulting		2,236		1,936		4,425		4,007
Application Management		1,821		1,734		3,591		3,573
Global Process Services		284		221		559		447
Total Global Business Services	$	4,341	$	3,890	$	8,575	$	8,027
Infrastructure & Cloud Services		4,836		4,813		9,689		9,729
Technology Support Services		1,506		1,503		3,023		3,054
Total Global Technology Services	$	6,342	$	6,316	$	12,712	$	12,783
Systems Hardware		1,384		1,488		2,498		2,484
Operating Systems Software		333		365		646		736
Total Systems	$	1,717	$	1,852	$	3,144	$	3,220
Global Financing*		242		265		482		564
Other		5		50		28		113
Total revenue	$	18,745	$	18,123	$	36,474	$	35,694

* Contains lease and loan/working capital financing arrangements which are not subject to the guidance on revenue from contracts with customers.

~~In January 2017,~~

Revenue by Geography


	Three Months Ended June 30,				Six Months Ended June 30,
(Dollars in millions)	2021		2020		2021		2020
Americas	$	8,820	$	8,450	$	16,999	$	16,617
Europe/Middle East/Africa		6,038		5,695		11,679		11,212
Asia Pacific		3,887		3,977		7,797		7,865
Total	$	18,745	$	18,123	$	36,474	$	35,694

Remaining Performance Obligations

The remaining performance obligation (RPO) disclosure provides the ~~FASB issued guidance~~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 ~~clarifies~~ the ~~definition~~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 ~~business.~~substantive penalty. The ~~guidance provides a more robust framework to use in determining~~disclosure includes estimates of variable consideration, except when ~~a set of assets and activities acquired or sold~~the variable consideration is a ~~business. The guidance is effective January 1, 2018~~sales-based or usage-based royalty promised in exchange for a license of intellectual property. Additionally, as a practical expedient, the company does not include contracts that have an original duration of one year or less. RPO estimates are subject to change and ~~early adoption is permitted. The company adopted the guidance effective January 1, 2017, and it did not have a material impact~~are affected by several factors, including terminations, changes in ~~the consolidated financial results.~~

In October 2016, the FASB issued guidance which requires an entity to recognize the income tax consequences of intra-entity transfers of assets, other than inventory, at the time of transfer. Assets within the scope of contracts, periodic revalidations, adjustment for revenue that has not materialized and adjustments for currency.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

At June 30, 2021, the ~~guidance include intellectual property~~aggregate amount of the transaction price allocated to RPO related to customer contracts that are unsatisfied or partially unsatisfied was $115 billion. Approximately 60 percent of the amount is expected to be recognized as revenue in the subsequent two years, approximately 30 percent in the subsequent three to five years and ~~property, plant~~the balance (mostly Infrastructure & Cloud Services) thereafter.

Revenue Recognized for Performance Obligations Satisfied (or Partially Satisfied) in Prior Periods

For the three and equipment. The guidance is effective January 1, 2018 and early adoption is permitted. The company adopted the guidance on January 1, 2017 using the required modified retrospective method. At adoption, $95six months ended June 30, 2021, revenue was reduced by $34 million and $47 million, ~~were reclassified from investments~~respectively, 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.

Reconciliation of Contract Balances

The following table provides information about notes and ~~sundry~~accounts receivable–trade, contract assets and deferred income balances:


	At June 30,		At December 31,
(Dollars in millions)	2021		2020
Notes and accounts receivable–trade (net of allowances of $300 in 2021 and $351 in 2020)	$	6,827	$	7,132
Contract assets*		547		497
Deferred income (current)		13,272		12,833
Deferred income (noncurrent)		4,113		4,301

* Included within prepaid expenses and other current assets in the Consolidated Balance Sheet.

The amount of revenue recognized during the three and six months ended June 30, 2021 that was included within the deferred income balance at March 31, 2021 and December 31, 2020 was $4.9 billion and $7.2 billion, respectively, ~~into retained earnings. Additionally, net deferred taxes~~and was primarily related to services and software.

The following table provides roll forwards of ~~$244 million~~the notes and accounts receivable–trade allowance for expected credit losses for the six months ended June 30, 2021 and the year ended December 31, 2020:


(Dollars in millions)
January 1, 2021		Additions / (Releases)		Write-offs		Other*		June 30, 2021
$	351	$	(37)	$	(15)	$	1	$	300


January 1, 2020		Additions / (Releases)		Write-offs		Other*		December 31, 2020
$	316	$	76	$	(46)	$	5	$	351

*Primarily represents translation adjustments.

The contract assets allowance for expected credit losses was not material in any of the periods presented.

4.Segments:

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. 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.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

SEGMENT INFORMATION


	Cloud &			Global			Global
	Cognitive			Business			Technology						Global			Total
(Dollars in millions)	Software			Services			Services			Systems			Financing			Segments
For the three months ended June 30, 2021:
External revenue	$	6,098		$	4,341		$	6,342		$	1,717		$	242		$	18,740
Internal revenue		726			58			326			241			260			1,611
Total revenue	$	6,824		$	4,399		$	6,668		$	1,958		$	502		$	20,351
Pre-tax income from continuing operations	$	1,720		$	371		$	381		$	176		$	246		$	2,894
Revenue year-to-year change		5.1	%		11.5	%		0.7	%		(6.4)	%		(0.7)	%		3.5	%
Pre-tax income year-to-year change		0.7	%		2.5	%		52.3	%		(28.8)	%		39.3	%		5.5	%
Pre-tax income margin		25.2	%		8.4	%		5.7	%		9.0	%		48.9	%		14.2	%

For the three months ended June 30, 2020:
External revenue	$	5,748		$	3,890		$	6,316		$	1,852		$	265		$	18,072
Internal revenue		743			55			304			240			241			1,582
Total revenue	$	6,491		$	3,945		$	6,621		$	2,092		$	506		$	19,655
Pre-tax income from continuing operations	$	1,708		$	362		$	250		$	248		$	176		$	2,744
Pre-tax income margin		26.3	%		9.2	%		3.8	%		11.8	%		34.9	%		14.0	%

Reconciliations to IBM as Reported:


(Dollars in millions)
For the three months ended June 30:	2021		2020
Revenue:
Total reportable segments	$	20,351	$	19,655
Other — divested businesses		0		13
Other revenue		5		37
Eliminations of internal transactions		(1,611)		(1,582)
Total consolidated revenue	$	18,745	$	18,123

Pre-tax income from continuing operations:
Total reportable segments	$	2,894	$	2,744
Amortization of acquired intangible assets		(462)		(472)
Acquisition-related (charges)/income		(18)		(1)
Non-operating retirement-related (costs)/income		(328)		(273)
Separation-related charges		(175)		—
Elimination of internal transactions		(139)		(121)
Other — divested businesses		(15)		(22)
Unallocated corporate amounts		(205)		(283)
Total pre-tax income from continuing operations	$	1,552	$	1,571

Table of Contents

Notes to Consolidated Financial Statements — (continued)

SEGMENT INFORMATION


	Cloud &			Global			Global
	Cognitive			Business			Technology						Global			Total
(Dollars in millions)	Software			Services			Services			Systems			Financing			Segments
For the six months ended June 30, 2021:
External revenue	$	11,534		$	8,575		$	12,712		$	3,144		$	482		$	36,447
Internal revenue		1,558			113			639			430			428			3,168
Total revenue	$	13,093		$	8,688		$	13,351		$	3,574		$	910		$	39,615
Pre-tax income from continuing operations	$	3,147		$	761		$	520		$	174		$	412		$	5,015
Revenue year-to-year change		4.4	%		6.9	%		(0.2)	%		(1.0)	%		(10.5)	%		2.4	%
Pre-tax income year-to-year change		19.2	%		20.3	%		624.6	%		466.3	%		11.3	%		33.9	%
Pre-tax income margin		24.0	%		8.8	%		3.9	%		4.9	%		45.3	%		12.7	%

For the six months ended June 30, 2020:
External revenue	$	10,987		$	8,027		$	12,783		$	3,220		$	564		$	35,581
Internal revenue		1,556			101			599			388			453			3,096
Total revenue	$	12,543		$	8,128		$	13,382		$	3,608		$	1,017		$	38,677
Pre-tax income from continuing operations	$	2,641		$	633		$	72		$	31		$	370		$	3,747
Pre-tax income margin		21.1	%		7.8	%		0.5	%		0.9	%		36.4	%		9.7	%

Reconciliations to IBM as Reported:


(Dollars in millions)
For the six months ended June 30:	2021		2020
Revenue:
Total reportable segments	$	39,615	$	38,677
Other — divested businesses		1		32
Other revenue		27		81
Eliminations of internal transactions		(3,168)		(3,096)
Total consolidated revenue	$	36,474	$	35,694

Pre-tax income from continuing operations:
Total reportable segments	$	5,015	$	3,747
Amortization of acquired intangible assets		(914)		(945)
Acquisition-related (charges)/income		(34)		(2)
Non-operating retirement-related (costs)/income		(670)		(538)
Separation-related charges		(236)		—
Eliminations of internal transactions		(212)		(176)
Other — divested businesses		(24)		3
Unallocated corporate amounts		(468)		(568)
Total pre-tax income from continuing operations	$	2,457	$	1,522

Table of Contents

Notes to Consolidated Financial Statements — (continued)

5. Acquisitions & Divestitures:

Acquisitions

Purchase price consideration for all acquisitions was paid primarily in cash. All acquisitions, except as otherwise stated, were ~~established in deferred taxes~~for 100 percent of the acquired business and are reported in the Consolidated Statement of ~~Financial Position, resulting in a cumulative-effect~~Cash Flows, net ~~credit to retained earnings~~ of ~~$102 million. In January 2017,~~acquired cash and cash equivalents.

During the six months ended June 30, 2021, the company ~~had~~completed 7 acquisitions at an aggregate cost of $2,940 million. Each acquisition is expected to enhance the company’s portfolio of products and services capabilities and further advance IBM’s hybrid cloud and AI strategy.

Acquisition	Segment	Description of Acquired Business
First Quarter

Nordcloud	Global Business Services	Consulting company providing services in cloud implementation, application transformation and managed services

Taos Mountain, LLC (Taos)	Global Business Services	Leading cloud professional and managed services provider

StackRox	Cloud & Cognitive Software	Innovator in container and Kubernetes-native security
Second Quarter

Turbonomic, Inc. (Turbonomic)	Cloud & Cognitive Software	Application Resource Management and Network Performance Management software provider

ECX Copy Data Management business	Cloud & Cognitive Software	Smart data protection solution
from Catalogic Software, Inc.

Waeg	Global Business Services	Leading Salesforce Consulting Partner

myInvenio	Cloud & Cognitive Software	Process mining software company

On June 16, 2021, the company completed the acquisition of Turbonomic, a privately held company, for cash consideration of $1,834 million of which $120 million was unremitted as of June 30, 2021. Of the amount outstanding, $70 million was recorded as restricted cash in the Consolidated Balance Sheet and is expected to be paid in the third quarter of 2021, with the remaining $50 million expected to be paid by December 31, 2022.

The purchase consideration for the acquisition of Nordcloud includes a fair value estimate of contingent consideration to be paid annually through the first quarter of 2024 upon achieving certain revenue milestones. The annual payments are not expected to be material.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

The following table reflects the purchase price related to these acquisitions and the resulting purchase price allocations as of June 30, 2021.


	Amortization			Other
(Dollars in millions)	Life (in years)	Turbonomic		Acquisitions
Current assets		$	126	$	85
Property, plant and equipment/noncurrent assets			—		5
Intangible assets:
Goodwill	N/A		1,444		833
Client relationships	7		290		144
Completed technology	4-7		117		131
Trademarks	1-7		18		27
Total assets acquired		$	1,996	$	1,225
Current liabilities			49		52
Noncurrent liabilities			113		67
Total liabilities assumed		$	161	$	119
Total purchase price		$	1,834	$	1,105

N/A – not applicable

The goodwill generated is primarily attributable to the assembled workforce of the acquired businesses and the increased synergies expected to be achieved from the integration of the acquired businesses into the company’s various integrated solutions and services neither of which qualifies as an amortizable intangible asset.

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 the acquisition date; however, material changes are not expected.

Turbonomic—The overall weighted-average useful life of the identified amortizable intangible assets acquired was 6.9 years. Goodwill of $1,377 million and $67 million was assigned to the Cloud & Cognitive Software and Global Business Services segments, respectively. It is expected that NaN of the goodwill will be deductible for tax purposes.

Other acquisitions—The overall weighted-average useful life of the identified amortizable intangible assets acquired was 6.4 years. Goodwill of $549 million, $283 million and $2 million was assigned to the Global Business Services, Cloud & Cognitive Software and Global Technology Services segments, respectively. It is expected that approximately 10 percent of the goodwill will be deductible for tax purposes.

The 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.

On July 15, 2021, the company announced its intent to acquire Bluetab Solutions Group, S.L. (Bluetab), a privately held IT Services provider serving large corporations in the highly specialized Data Solutions space. The acquisition is expected to close in the third quarter of 2021, subject to customary closing conditions, including regulatory clearance. Upon closing, Bluetab will be integrated into the Global Business Services segment.

Divestitures

In the second quarter of 2021, the Cloud & Cognitive Software segment completed 1 divestiture. The financial terms related to this transaction ~~that generated~~were not material.

In the fourth quarter of 2020, the company entered into a ~~$582 million benefit~~definitive agreement to ~~income tax expense, income from continuing operations and net income and a benefit~~sell certain remaining OEM commercial financing capabilities reported within the Global Financing segment. The financial terms related to ~~both~~this transaction are not material. The transaction is expected to be completed in the second half of 2021.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

6. Earnings Per Share of Common Stock:

The following tables provide the computation of basic and diluted earnings per share of ~~$0.62 per share for the nine months ended September 30, 2017. There was no impact in the consolidated financial results~~common stock for the three and six months ended ~~September~~June 30, ~~2017. The ongoing impact~~2021 and 2020.


(Dollars in millions except per share amounts)
For the three months ended June 30:	2021		2020
Number of shares on which basic earnings per share is calculated:
Weighted-average shares outstanding during period		895,043,024		889,435,166
Add — Incremental shares under stock-based compensation plans		7,431,661		4,290,365
Add — Incremental shares associated with contingently issuable shares		1,758,754		1,213,549
Number of shares on which diluted earnings per share is calculated		904,233,439		894,939,080

Income from continuing operations	$	1,325	$	1,362
Income/(loss) from discontinued operations, net of tax		—		(1)
Net income on which basic earnings per share is calculated	$	1,325	$	1,361

Income from continuing operations	$	1,325	$	1,362
Net income applicable to contingently issuable shares		—		—
Income from continuing operations on which diluted earnings per share is calculated	$	1,325	$	1,362
Income/(loss) from discontinued operations, net of tax, on which basic and diluted earnings per share is calculated		—		(1)
Net income on which diluted earnings per share is calculated	$	1,325	$	1,361

Earnings/(loss) per share of common stock:
Assuming dilution
Continuing operations	$	1.47	$	1.52
Discontinued operations		—		0.00
Total	$	1.47	$	1.52
Basic
Continuing operations	$	1.48	$	1.53
Discontinued operations		—		0.00
Total	$	1.48	$	1.53

Stock options to purchase 375,990 shares and 1,511,989 shares were outstanding as of ~~this guidance will be dependent on any transaction that is within its scope.~~

In March 2016, the FASB issued guidance which changes the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilitiesJune 30, 2021 and ~~classification~~2020, respectively, but were not included in the ~~Consolidated Statement~~computation of Cash Flows. The guidance was effective and adopted by the company on January 1, 2017, and it did not have a material impact in the Consolidated Statement of Financial Position. The ongoing impact of the guidance could result in increased volatility in the provision for income taxes anddiluted earnings per share inbecause the ~~Consolidated Statement~~exercise price of ~~Earnings, depending on~~ the company’s share price at exercise or vesting of share-based awards compared to grant date, however these impacts are not expected to be material. These impacts are recorded on a prospective basis. See note 5, “Stock-Based Compensation,” for additional information. 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. Prior to adoption, the company reported this activity as an operating cash outflow and as a result, prior periods have been reclassified as required. The FASB also issued guidance in May 2017, which relates to the accounting for modifications of share-based payment awards. The company adopted the guidance in the second quarter of 2017. The guidance had no impact in the consolidated financial results.

In September 2015, the FASB issued guidance eliminating the requirement that an acquirer in a business combination account for a measurement-period adjustment retrospectively. Instead, an acquirer will recognize a measurement-period adjustmentoptions during the respective period ~~in which~~was greater than the ~~amount~~average market price of the ~~adjustment is determined. In addition,~~common shares, and, therefore, the ~~portion of the amount recorded in current-period earnings by line item that~~effect would have been ~~recorded in previous reporting periods if the adjustment to the provisional amounts had been recognized as~~antidilutive.

Table of the acquisition date should be presented separately on the face of the income statement or disclosed in the notes. The guidance was effective January 1, 2016 on a prospective basis. The guidance did not have a material impact in the consolidated financial results.Contents

In May 2015, the FASB issued guidance which removed the requirement to categorize within the fair value hierarchy all investments for which fair value is measured using the net asset value per share practical expedient. The amendments also removed the requirement to make certain disclosures for all investments that are eligible to be measured at fair value using the net asset value per share practical expedient. Rather, those disclosures are limited to investments for which the entity has elected to measure the fair value using that practical expedient. The guidance was effective January 1, 2016. The guidance was a change in disclosure only and did not have an impact in the consolidated financial results.

In April 2015, the FASB issued guidance about whether a cloud computing arrangement includes a software license. If a cloud computing arrangement includes a software license, then the customer should account for the software license element of the arrangement consistent with the acquisition of other software licenses. If a cloud computing arrangement does not include a software license, the customer should account for the arrangement as a services contract. All software licenses recognized under this guidance will be accounted for consistent with other licenses of intangible assets. The guidance was effective January 1, 2016 and the company adopted it on a prospective basis. The guidance did not have a material impact in the consolidated financial results.

Notes to Consolidated Financial Statements — (continued)


(Dollars in millions except per share amounts)
For the six months ended June 30:	2021		2020
Number of shares on which basic earnings per share is calculated:
Weighted-average shares outstanding during period		894,336,970		888,702,256
Add — Incremental shares under stock-based compensation plans		7,027,051		5,015,390
Add — Incremental shares associated with contingently issuable shares		1,625,732		1,271,513
Number of shares on which diluted earnings per share is calculated		902,989,752		894,989,159

Income from continuing operations	$	2,281	$	2,538
Income/(loss) from discontinued operations, net of tax		(1)		(2)
Net income on which basic earnings per share is calculated	$	2,280	$	2,536

Income from continuing operations	$	2,281	$	2,538
Net income applicable to contingently issuable shares		—		(2)
Income from continuing operations on which diluted earnings per share is calculated	$	2,281	$	2,536
Income/(loss) from discontinued operations, net of tax, on which basic and diluted earnings per share is calculated		(1)		(2)
Net income on which diluted earnings per share is calculated	$	2,280	$	2,534

Earnings/(loss) per share of common stock:
Assuming dilution
Continuing operations	$	2.52	$	2.83
Discontinued operations		0.00		0.00
Total	$	2.52	$	2.83
Basic
Continuing operations	$	2.55	$	2.85
Discontinued operations		0.00		0.00
Total	$	2.55	$	2.85

Stock options to purchase 943,438 shares and 1,324,444 shares (average of first and second quarter share amounts) were outstanding as of June 30, 2021 and 2020, respectively, but were not included in the computation of diluted earnings per share because the exercise price of the options during the respective period was greater than the average market price of the common shares, and, therefore, the effect would have been antidilutive.

7. Financial Assets & Liabilities:

3. ~~Financial Instruments:~~

Fair Value Measurements

~~Accounting guidance defines fair~~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. ~~Under this guidance, the~~The company ~~is required to classify~~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.

Table of Contents

· ~~Level 1—Quoted prices (unadjusted) in active markets for identical assets or liabilities that can be accessed at the measurement date;~~Notes to Consolidated Financial Statements — (continued)

· ~~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.~~

~~The guidance requires the use of observable market data if such data is available without undue cost and effort.~~

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.

·
● 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.

The company holds investments primarily in time deposits, certificates of deposit, and U.S. government debt that are designated as available-for-sale. The primary objective of the company’s ~~own~~cash and debt investment portfolio is to maintain principal by investing in very liquid and highly rated investment grade securities.

The company’s standard practice is to hold all of its debt security investments classified as available-for-sale until maturity. NaN impairments for 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.

~~As an example, the fair value of derivatives is derived utilizing a discounted cash flow model that uses observable market inputs such as known notional value amounts, yield curves, spot~~losses and ~~forward exchange rates as well as discount rates. These inputs relate to liquid, heavily traded currencies with active markets which are available~~no material non-credit impairments were recorded for the ~~full term of the derivative.~~

three and six months ended June 30, 2021 and 2020, respectively.

Certain financial assets are measured at fair value on a nonrecurring basis. These assets include equity method investments that are recognized at fair value at the measurement date to the extent that they are deemed to be other-than-temporarily impaired. 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 equity investments that are deemed to be other-than-temporarily impaired. In the event of an other-than-temporary impairment of a financial investment, fair value is measured using a model described above.

~~Non-financial~~non-financial assets such as property, plant and equipment, operating right-of-use assets, 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~~non-financial assets depend on the type of asset. ~~During the nine months ended September 30, 2016, a pre-tax impairment charge related to certain property, plant and equipment of $218 million was recorded.~~ There were no material impairments of non-financial assets for the ~~nine~~three and six months ended ~~September~~June 30, ~~2017.~~2021 and 2020, respectively.

Table of Contents

Accounting guidance permits the measurement of eligible financial assets, financial liabilities and firm commitments at fair value, on an instrument-by-instrument basis, that are otherwise not permittedNotes to ~~be accounted for at fair value under other accounting standards. This election is irrevocable. The company has not applied the fair value option to any eligible assets or liabilities.~~Consolidated Financial Statements — (continued)

The following ~~tables present~~table presents the company’s financial assets and financial liabilities that are measured at fair value on a recurring basis at ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016.~~

~~Notes to Consolidated Financial Statements — (continued)~~2020.

(Dollars in millions)

At September 30, 2017

Level 1

Level 2

Level 3

Total

Assets:

Cash equivalents (1)

Time deposits and certificates of deposit

$
—

$
5,553

$
—

$
5,553

Money market funds

1,375

—

—

1,375

U.S. government securities

—

200

—

200

Canadian government securities

—

460

—

460

Total

1,375

6,214

—

7,589
(6)
Debt securities - current (2)

—

599

—

599
(6)
Debt securities - noncurrent (3)

4

7

—

11

Available-for-sale equity investments (3)

5

—

—

5

Derivative assets (4)

Interest rate contracts

—

517

—

517

Foreign exchange contracts

—

416

—

416

Equity contracts

—

23

—

23

Total

—

957

—

957
(7)
Total assets

$
1,384

$
7,775

$
—

$
9,159
(7)
Liabilities:

Derivative liabilities (5)

Foreign exchange contracts

$
—

$
333

$
—

$
333

Equity contracts

—

4

—

4

Interest rate contracts

—

15

—

15

Total liabilities

$
—

$
352

$
—

$
352
(7)


	Fair Value
	Hierarchy	At June 30, 2021				At December 31, 2020
(Dollars in millions)	Level	Assets (7)		Liabilities (8)		Assets (7)		Liabilities (8)
Cash equivalents: (1)
Time deposits and certificates of deposit (2)	2	$	3,453	$	N/A	$	7,668	$	N/A
Money market funds	1		141		N/A		148		N/A
U.S. government securities (2)	2		—		N/A		500		N/A
Total cash equivalents		$	3,593	$	N/A	$	8,316	$	N/A
Equity investments (3)	1		—		N/A		2		N/A
Debt securities-current (2)(4)	2		600		N/A		600		N/A
Debt securities-noncurrent (2)(5)	2		6		N/A		7		N/A
Derivatives designated as hedging instruments:
Interest rate contracts	2		18		—		100		—
Foreign exchange contracts	2		372		126		111		580
Derivatives not designated as hedging instruments:
Foreign exchange contracts	2		12		13		13		47
Equity contracts (6)	1,2		4		3		12		—
Total		$	4,606	$	142	$	9,161	$	627

(1)	Included within cash and cash equivalents in the Consolidated Balance Sheet.

(2)	Available-for-sale debt securities with carrying values that approximate fair value.

(3)	Included within investments and sundry assets in the Consolidated Balance Sheet.

(4)	U.S. treasury bills that are reported within marketable securities in the Consolidated Balance Sheet.

(5)	Primarily includes government debt securities that are reported within investments and sundry assets in the Consolidated Balance Sheet.

(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 June 30, 2021 were $352 million and $55 million, respectively, and at December 31, 2020 were $85 million and $151 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 June 30, 2021 were $79 million and $62 million, respectively, and at December 31, 2020 were $587 million and $40 million, respectively.

~~(1) Included within cash and cash equivalents in the Consolidated Statement of Financial Position.~~

~~(2) U.S. government securities reported as marketable securities in the Consolidated Statement of Financial Position.~~N/A – not applicable

~~(3) Included within investments and sundry assets in the Consolidated Statement of Financial Position.~~

~~(4) The gross balances of derivative assets contained within prepaid expenses and other current assets, and investments~~ ~~and sundry assets in the Consolidated Statement of Financial Position at September 30, 2017 were $269 million and $687 million, respectively.~~

~~(5) The gross balances of derivative liabilities contained within other accrued expenses and liabilities, and other~~ ~~liabilities in the Consolidated Statement of Financial Position at September 30, 2017 were $332 million and $20 million, respectively.~~

~~(6) Available-for-sale securities with carrying values that approximate fair value.~~

~~(7) If derivative exposures covered by a qualifying master netting agreement had been netted in the Consolidated~~ ~~Statement of Financial Position, the total derivative asset and liability positions each would have been reduced by $274 million.~~

~~Notes to Consolidated Financial Statements — (continued)~~

(Dollars in millions)

At December 31, 2016

Level 1

Level 2

Level 3

Total

Assets:

Cash equivalents (1)

Time deposits and certificates of deposit

$
—

$
3,629

$
—

$
3,629

Money market funds

1,204

—

—

1,204

Total

1,204

3,629

—

4,832
(6)
Debt securities - current (2)

—

699

—

699
(6)
Debt securities - noncurrent (3)

1

6

—

8

Available-for-sale equity investments (3)

7

—

—

7

Derivative assets (4)

Interest rate contracts

—

555

—

555

Foreign exchange contracts

—

560

—

560

Equity contracts

—

11

—

11

Total

—

1,126

—

1,126
(7)
Total assets

$
1,212

$
5,460

$
—

$
6,672
(7)
Liabilities:

Derivative liabilities (5)

Foreign exchange contracts

$
—

$
188

$
—

$
188

Equity contracts

—

10

—

10

Interest rate contracts

—

8

—

8

Total liabilities

$
—

$
206

$
—

$
206
(7)

~~(1) Included within cash and cash equivalents in the Consolidated Statement of Financial Position.~~

~~(2) U.S government securities reported as marketable securities in the Consolidated Statement of Financial Position.~~

~~(3) Included within investments and sundry assets in the Consolidated Statement of Financial Position.~~

~~(4) The gross balances of derivative assets contained within prepaid expenses and other current assets, and investments~~ ~~and sundry assets in the Consolidated Statement of Financial Position at December 31, 2016 were $532 million and $594 million, respectively.~~

~~(5) The gross balances of derivative liabilities contained within other accrued expenses and liabilities, and other~~ ~~liabilities in the Consolidated Statement of Financial Position at December 31, 2016 were $145 million and $61 million, respectively.~~

~~(6) Available-for-sale securities with carrying values that approximate fair value.~~

~~There were no transfers between Levels 1 and 2 for the nine months ended September 30, 2017 and the year ended December 31, 2016.~~

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)~~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~~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 ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016,~~2020, 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.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Long-Term Debt

Fair value of ~~publicly-traded~~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 ~~$41,327~~$48,735 million and ~~$34,655~~$54,355 million, and the estimated fair value was ~~$43,623~~$54,231 million and ~~$36,838~~$61,598 million at ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016,~~2020, 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.

~~Debt and Marketable Equity Securities~~8. Financing Receivables:

~~The company’s cash equivalents~~Financing receivables primarily consist of client loan and ~~current debt securities~~installment payment receivables (loans) and investment in sales-type and direct financing leases (collectively referred to as client financing receivables) and commercial financing receivables. Loans are ~~considered available-for-sale~~provided primarily to clients to finance the purchase of hardware, software and ~~recorded at fair value, which is not materially different from carrying value,~~services. Payment terms on these financing arrangements are generally for terms up to seven years. Investment in ~~the Consolidated Statement of Financial Position.~~

~~The following tables summarize~~sales-type and direct financing leases relate principally to the company’s ~~noncurrent debt~~Systems products and ~~marketable equity securities which~~ are ~~considered available-for-sale~~for terms ranging generally from two to six years. Commercial financing receivables relate primarily to working capital financing for dealers and ~~recorded at fair value in~~remarketers of IBM products. Payment terms for working capital financing generally range from 30 to 90 days.

A summary of the ~~Consolidated Statement~~components of ~~Financial Position.~~

Gross

Gross

(Dollars in millions)

Adjusted

Unrealized

Unrealized

Fair

At September 30, 2017:

Cost

Gains

Losses

Value

Debt securities — noncurrent(1)

$
7

$
3

$
—

$
11

Available-for-sale equity investments(1)

$
1

$
4

$
0

$
5

~~(1) Included within investments and sundry assets in~~ the ~~Consolidated Statement of Financial Position.~~

Gross

Gross

(Dollars in millions)

Adjusted

Unrealized

Unrealized

Fair

At December 31, 2016:

Cost

Gains

Losses

Value

Debt securities — noncurrent(1)

$
5

$
3

$
—

$
8

Available-for-sale equity investments(1)

$
3

$
5

$
0

$
7

~~(1) Included within investments and sundry assets in the Consolidated Statement of Financial Position.~~

~~Sales of debt and available-for-sale equity investments during the period were~~company’s financing receivables is presented as follows:

(Dollars in millions)

For the three months ended September 30:

2017

2016

Proceeds

$
0

$
1

Gross realized gains (before taxes)

0

1

Gross realized losses (before taxes)

—

—


	Client Financing Receivables
	Client Loan and		Investment in
	Installment Payment		Sales-Type and		Commercial
(Dollars in millions)	Receivables		Direct Financing		Financing
At June 30, 2021:	(Loans)		Leases		Receivables		Total
Financing receivables, gross	$	9,776	$	3,576	$	1,019	$	14,370
Unearned income		(400)		(267)		0		(667)
Residual value*		—		392		—		392
Amortized cost	$	9,376	$	3,701	$	1,019	$	14,096
Allowance for credit losses		(151)		(70)		(6)		(228)
Total financing receivables, net	$	9,225	$	3,631	$	1,012	$	13,868
Current portion	$	5,614	$	1,567	$	1,012	$	8,194
Noncurrent portion	$	3,610	$	2,064	$	—	$	5,674

(Dollars in millions)

For the nine months ended September 30:

2017

2016

Proceeds

$
5

$
150

Gross realized gains (before taxes)

1

1

Gross realized losses (before taxes)

2

37


	Client Financing Receivables
	Client Loan and		Investment in
	Installment Payment		Sales-Type and		Commercial
(Dollars in millions)	Receivables		Direct Financing		Financing
At December 31, 2020:	(Loans)		Leases		Receivables		Total
Financing receivables, gross	$	12,159	$	4,001	$	2,419	$	18,580
Unearned income		(488)		(335)		0		(823)
Residual value*		—		485		—		485
Amortized cost	$	11,671	$	4,151	$	2,419	$	18,242
Allowance for credit losses		(173)		(82)		(8)		(263)
Total financing receivables, net	$	11,498	$	4,069	$	2,411	$	17,979
Current portion	$	6,955	$	1,525	$	2,411	$	10,892
Noncurrent portion	$	4,542	$	2,544	$	—	$	7,086

* Includes guaranteed and unguaranteed residual value.

The after-tax net unrealized holding gains/(losses) on available-for-sale debt and equity securities that have been included in other comprehensive income/(loss) for the period and after-tax net (gains)/losses reclassified from accumulated other comprehensive income/(loss) to net income were as follows:

Table of Contents

Notes to Consolidated Financial Statements — (continued)

The company has a long-standing practice of taking mitigation actions, in certain circumstances, to transfer credit risk to third parties, with enhanced focus due to the current macroeconomic uncertainty. These actions may include 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. Sale of receivables arrangements are also utilized in the normal course of business as part of the company’s cash and liquidity management.

Financing receivables pledged as collateral for nonrecourse borrowings were $366 million and $482 million at June 30, 2021 and December 31, 2020, respectively. These borrowings are included in note 11, “Borrowings.”

Transfer of Financial Assets

For the six months ended June 30, 2021, the company sold $2,091 million of client financing receivables to third parties, consisting of loan and lease receivables of $1,359 million and $732 million, respectively. More than half of the receivables sold were classified as current assets at the time of sale. For the six months ended June 30, 2020, the company sold $711 million of client financing receivables to third parties, consisting of loan and lease receivables of $294 million and $417 million, respectively.

(Dollars in millions)

For the three months ended September 30:

2017

2016

Net unrealized gains/(losses) arising during the period

$
1

$
(1
)
Net unrealized (gains)/losses reclassified to net income*

0

(1
)

On December 24, 2020, the company entered into an agreement with a third-party investor to sell up to $3,000 million of IBM short-term commercial financing receivables, at any one time, on a revolving basis. The company sold $2,621 million of commercial financing receivables under the agreement for the six months ended June 30, 2021. In addition, the company included $467 million and $383 million of commercial financing receivables classified as held for sale at June 30, 2021 and December 31, 2020, respectively, in short-term financing receivables in the Consolidated Balance Sheet. The carrying value of the receivables classified as held for sale approximates fair value. The company did 0t have any sales of commercial financing receivables for the six months ended June 30, 2020.

The transfers of these receivables qualified as true sales and therefore reduced financing receivables. The cash proceeds from the sales are included in cash flows from operating activities and the impacts to the Consolidated Income Statement, including fees and net gain or loss associated with the transfers of these receivables for the six months ended June 30, 2021 and June 30, 2020, were not material.

Financing Receivables by Portfolio Segment

The following tables present the amortized cost basis of client financing receivables at June 30, 2021 and December 31, 2020, further segmented by 3 classes: Americas, Europe/Middle East/Africa (EMEA) and Asia Pacific. The commercial financing receivables portfolio segment is excluded from the tables in the sections below as the receivables are short term in nature and the current estimated risk of loss and resulting impact to the company’s financial results are not material.

Table of Contents

Notes to Consolidated Financial Statements — (continued)


(Dollars in millions)
At June 30, 2021:	Americas		EMEA		Asia Pacific		Total
Amortized cost	$	6,538	$	4,039	$	2,500	$	13,077
Allowance for credit losses:
Beginning balance at January 1, 2021	$	141	$	77	$	37	$	255
Write-offs	$	(4)	$	(1)	$	(7)	$	(12)
Recoveries		0		0		1		1
Additions/(releases)		(16)		(2)		(4)		(22)
Other*		1		(2)		0		(1)
Ending balance at June 30, 2021	$	122	$	73	$	26	$	221


(Dollars in millions)
At December 31, 2020:	Americas		EMEA		Asia Pacific		Total
Amortized cost	$	7,758	$	5,023	$	3,042	$	15,822
Allowance for credit losses:
Beginning balance at January 1, 2020	$	142	$	69	$	41	$	252
Write-offs	$	(28)	$	(3)	$	(3)	$	(34)
Recoveries		0		0		2		3
Additions/(releases)		33		5		(4)		34
Other*		(6)		6		1		1
Ending balance at December 31, 2020	$	141	$	77	$	37	$	255

* Primarily represents translation adjustments.

IBM continues to monitor the global impacts from the COVID-19 pandemic as well as its impact on external economic models. The company’s allowance for credit losses at June 30, 2021 and December 31, 2020 reflects the qualitative process which is described further in note A, “Significant Accounting Policies” in the company’s 2020 Annual Report. Any changes to economic models that occurred after the balance sheet date will be reflected in future periods.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Past Due Financing Receivables

The company summarizes information about the amortized cost basis of client financing receivables, including amortized cost aged over 90 days and still accruing, billed invoices aged over 90 days and still accruing, and amortized cost not accruing.


					Amortized		Billed		Amortized
	Total		Amortized		Cost		Invoices		Cost
(Dollars in millions)	Amortized		Cost		> 90 Days and		> 90 Days and		Not
At June 30, 2021:	Cost		> 90 Days (1)		Accruing (1)		Accruing		Accruing (2)
Americas	$	6,538	$	343	$	251	$	9	$	95
EMEA		4,039		103		15		4		92
Asia Pacific		2,500		33		10		3		23
Total client financing receivables	$	13,077	$	479	$	276	$	16	$	210


					Amortized		Billed		Amortized
	Total		Amortized		Cost		Invoices		Cost
(Dollars in millions)	Amortized		Cost		> 90 Days and		> 90 Days and		Not
At December 31, 2020:	Cost		> 90 Days (1)		Accruing (1)		Accruing		Accruing (2)
Americas	$	7,758	$	295	$	200	$	12	$	96
EMEA		5,023		119		28		5		95
Asia Pacific		3,042		42		12		4		32
Total client financing receivables	$	15,822	$	456	$	241	$	20	$	223

(1)	At a contract level, which includes total billed and unbilled amounts of financing receivables aged greater than 90 days.

(2)	Of the amortized cost not accruing, there was a related allowance of $167 million and $178 million at June 30, 2021 and December 31, 2020, respectively. Financing income recognized on these receivables was immaterial for the three and six months ended June 30, 2021, respectively.

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 credit quality of the customer is evaluated based on these indicators and is assigned the same risk rating whether the receivable is a lease or a loan.

The following tables present the amortized cost basis of client financing receivables by credit quality indicator at June 30, 2021 and December 31, 2020, respectively. 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 reflect mitigating credit enhancement actions taken by customers which reduces the risk to IBM.


(Dollars in millions)	Americas				EMEA				Asia Pacific
At June 30, 2021:	Aaa – Baa3		Ba1 – D		Aaa – Baa3		Ba1 – D		Aaa – Baa3		Ba1 – D
Vintage year:
2021	$	1,339	$	757	$	664	$	607	$	428	$	167
2020		1,514		668		796		614		549		158
2019		751		360		391		389		421		90
2018		528		227		250		144		317		99
2017		176		91		33		80		131		33
2016 and prior		46		80		24		46		78		29
Total	$	4,355	$	2,183	$	2,159	$	1,880	$	1,924	$	576

Table of Contents

Notes to Consolidated Financial Statements — (continued)


(Dollars in millions)	Americas				EMEA				Asia Pacific
At December 31, 2020:	Aaa – Baa3		Ba1 – D		Aaa – Baa3		Ba1 – D		Aaa – Baa3		Ba1 – D
Vintage year:
2020	$	2,818	$	1,449	$	1,513	$	1,427	$	958	$	351
2019		988		623		668		519		564		123
2018		829		360		329		245		419		167
2017		285		154		70		128		205		52
2016		90		52		33		46		114		33
2015 and prior		28		81		22		22		38		18
Total	$	5,038	$	2,720	$	2,635	$	2,387	$	2,298	$	743

Troubled Debt Restructurings

The company did not have any significant troubled debt restructurings during the six months ended June 30, 2021 or for the year ended December 31, 2020.

9. Leases:

Accounting for Leases as a Lessor

The following table presents amounts included in the Consolidated Income Statement related to lessor activity:


	Three Months Ended June 30,				Six Months Ended June 30,
(Dollars in millions)	2021		2020		2021		2020
Lease income – sales-type and direct financing leases:
Sales-type lease selling price	$	394	$	368	$	757	$	579
Less: Carrying value of underlying assets*		103		117		162		194
Gross profit	$	291	$	251	$	595	$	385
Interest income on lease receivables		47		65		98		139
Total sales-type and direct financing lease income	$	338	$	316	$	693	$	524
Lease income – operating leases		47		68		99		139
Variable lease income		22		27		79		58
Total lease income	$	408	$	411	$	871	$	721

* Excludes unguaranteed residual value.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

10. Intangible Assets Including Goodwill:

Intangible Assets

The following tables present the company's intangible asset balances by major asset class.


	At June 30, 2021
	Gross Carrying		Accumulated		Net Carrying
(Dollars in millions)	Amount		Amortization		Amount*
Intangible asset class:
Capitalized software	$	1,866	$	(863)	$	1,002
Client relationships		9,183		(2,517)		6,666
Completed technology		6,090		(1,939)		4,151
Patents/trademarks		2,228		(520)		1,708
Other**		56		(43)		12
Total	$	19,421	$	(5,882)	$	13,539


	At December 31, 2020
	Gross Carrying		Accumulated		Net Carrying
(Dollars in millions)	Amount		Amortization		Amount*
Intangible asset class:
Capitalized software	$	1,777	$	(814)	$	963
Client relationships		8,838		(2,056)		6,783
Completed technology		5,957		(1,671)		4,286
Patents/trademarks		2,246		(499)		1,747
Other**		56		(39)		16
Total	$	18,874	$	(5,079)	$	13,796

* Amounts as of June 30, 2021 and December 31, 2020 included a decrease in net intangible asset balances of $109 million and an increase of $279 million, respectively, due to foreign currency translation.

**	Other intangibles are primarily acquired proprietary and non-proprietary business processes, methodologies and systems.

The net carrying amount of intangible assets decreased $257 million during the first six months of 2021, primarily due to intangible asset amortization, partially offset by additions of acquired intangibles and capitalized software. The aggregate intangible asset amortization expense was $630 million and $1,251 million for the second quarter and first six months of 2021, respectively, compared to $623 million and $1,245 million for the second quarter and first six months of 2020, respectively. In the first six months of 2021, the company retired $420 million of fully amortized intangible assets, impacting both the gross carrying amount and accumulated amortization by this amount.

The future amortization expense relating to intangible assets currently recorded in the Consolidated Balance Sheet was estimated to be the following at June 30, 2021:


	Capitalized		Acquired
(Dollars in millions)	Software		Intangibles		Total
Remainder of 2021	$	330	$	956	$	1,287
2022		418		1,843		2,261
2023		217		1,530		1,748
2024		37		1,481		1,518
2025		—		1,460		1,460
Thereafter		—		5,267		5,267

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Goodwill

The changes in the goodwill balances by segment for the six months ended June 30, 2021 and for the year ended December 31, 2020 were as follows:


									Foreign
									Currency
					Purchase				Translation
(Dollars in millions)	Balance		Goodwill		Price				and Other		Balance
Segment	1/1/2021		Additions		Adjustments			Divestitures	Adjustments*		6/30/2021
Cloud & Cognitive Software	$	43,934	$	1,660	$	6	$	(2)	$	(136)	$	45,461
Global Business Services		6,145		616		(11)		—		(43)		6,706
Global Technology Services		7,245		2		—		—		(62)		7,184
Systems		2,293		—		0		—		0		2,293
Total	$	59,617	$	2,278	$	(6)	$	(2)	$	(242)	$	61,645


									Foreign
									Currency
					Purchase				Translation
(Dollars in millions)	Balance		Goodwill		Price				and Other		Balance
Segment	1/1/2020		Additions		Adjustments			Divestitures	Adjustments*		12/31/2020
Cloud & Cognitive Software	$	43,037	$	362	$	(139)	$	—	$	675	$	43,934
Global Business Services		5,775		205		—		—		165		6,145
Global Technology Services		7,141		—		—		—		104		7,245
Systems		2,270		8		—		—		15		2,293
Total	$	58,222	$	575	$	(139)	$	—	$	960	$	59,617

* Primarily driven by foreign currency translation.

There were ~~no writedowns~~0 goodwill impairment losses recorded during the first six months of 2021 or full-year 2020 and the company has 0 accumulated impairment losses. Purchase price adjustments recorded in the first six months of 2021 and full-year 2020 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 the first six months of 2021 were not material. In full-year 2020, net purchase price adjustments recorded to noncurrent tax assets and liabilities were related to the Red Hat acquisition.

11. Borrowings:

Short-Term Debt


	At June 30,		At December 31,
(Dollars in millions)	2021		2020
Short-term loans	$	36	$	130
Long-term debt–current maturities		6,406		7,053
Total	$	6,442	$	7,183

The weighted-average interest rate for short-term loans was 5.1 percent and 5.7 percent at June 30, 2021 and December 31, 2020, respectively.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Long-Term Debt

Pre-Swap Borrowing


		Balance		Balance
(Dollars in millions)	Maturities	6/30/2021		12/31/2020
U.S. dollar debt (weighted-average interest rate at June 30, 2021):*
0.8%	2021	$	1,117	$	5,499
2.6%	2022		5,696		6,233
3.4%	2023		1,600		2,395
3.3%	2024		5,021		5,029
6.8%	2025		621		631
3.3%	2026		4,505		4,370
3.0%	2027		2,222		2,219
6.5%	2028		313		313
3.5%	2029		3,250		3,250
2.0%	2030		1,350		1,350
5.9%	2032		600		600
8.0%	2038		83		83
4.5%	2039		2,745		2,745
2.9%	2040		650		650
4.0%	2042		1,107		1,107
7.0%	2045		27		27
4.7%	2046		650		650
4.3%	2049		3,000		3,000
3.0%	2050		750		750
7.1%	2096		316		316
		$	35,624	$	41,218
Other currencies (weighted-average interest rate at June 30, 2021, in parentheses):*
Euro (1.1%)	2021–2040	$	17,797	$	18,355
Pound sterling (2.6%)	2022		414		411
Japanese yen (0.3%)	2022–2026		1,311		1,409
Other (5.9%)	2021–2025		306		324
		$	55,452	$	61,718
Finance lease obligations (1.4%)	2021–2030		349		296
		$	55,800	$	62,013
Less: net unamortized discount			860		875
Less: net unamortized debt issuance costs			142		156
Add: fair value adjustment**			342		426
		$	55,140	$	61,408
Less: current maturities			6,406		7,053
Total		$	48,735	$	54,355

* 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

Table of Contents

Notes to Consolidated Financial Statements — (continued)

a covenant on the company’s 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 its 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.

In the first quarter of 2020, the company issued an aggregate of $4.1 billion of Euro fixed-rate notes and the proceeds were primarily used to early redeem outstanding fixed-rate debt which was due in 2021 in the aggregate amount of $2.9 billion. The notes were redeemed at a price equal to 100 percent of the aggregate principal plus a make-whole premium and accrued interest. The company incurred a loss of $49 million upon redemption that was recorded in other (income) and expense in the Consolidated Income Statement.

In the first quarter of 2021, IBM Credit LLC early redeemed all of its outstanding fixed-rate debt in the aggregate amount of $1.75 billion with maturity dates ranging from 2021 to 2023 and deregistered with the U.S. Securities and Exchange Commission. The notes were redeemed at a price equal to 100 percent of the aggregate principal plus a make-whole premium and accrued interest. The company incurred a loss of approximately $22 million upon redemption that was recorded in other (income) and expense in the Consolidated Income Statement.

Pre-swap annual contractual obligations of long-term debt outstanding at June 30, 2021, were as follows:


(Dollars in millions)
At June 30, 2021:	Total
Remainder of 2021	$	2,470
2022		6,862
2023		5,016
2024		6,498
2025		4,219
Thereafter		30,734
Total	$	55,800

Interest on Debt


(Dollars in millions)
For the six months ended June 30:	2021		2020
Cost of financing	$	210	$	237
Interest expense		562		649
Interest capitalized		3		5
Total interest paid and accrued	$	775	$	891

Lines of Credit

On June 22, 2021, the company entered into a new $2.5 billion Three-Year Credit Agreement and $7.5 billion Five-Year Credit Agreement to replace the existing $2.5 billion Three-Year and $10.25 billion Five-Year Credit Agreements. The maturity dates for the ~~three months~~new Three-Year and Five-Year Credit Agreements (the Credit Agreements) are June 21, 2024, and June 22, 2026, respectively. The Credit Agreements permit the company and its subsidiary borrowers to borrow up to $10 billion on a revolving basis. In connection with entering into the Credit Agreements, the company also terminated its $2.5 billion 364-Day Credit Agreement scheduled to expire on July 1, 2021. Subject to certain conditions stated in the Credit Agreements, the company 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 company.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

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.

At June 30, 2021, there were 0 borrowings by the company, or its subsidiaries, under these credit facilities.

12. Commitments:

The company’s extended lines of credit to third-party entities include unused amounts of $1.5 billion and $2.1 billion at June 30, 2021 and December 31, 2020, respectively. A portion of these amounts was available to the company’s business partners to support their working capital needs. In addition, the company has committed to provide future financing to its clients in connection with client purchase agreements for $4.8 billion and $5.2 billion at June 30, 2021 and December 31, 2020, respectively. The company collectively evaluates the allowance for these arrangements using a provision methodology consistent with the portfolio of the commitments. Refer to note A, “Significant Accounting Policies” in the company’s 2020 Annual Report for additional information. The allowance for these commitments is recorded in other liabilities in the Consolidated Balance Sheet and was not material at June 30, 2021.

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 party harmless against losses arising from a breach of representations and covenants related to such matters as title to the assets sold, certain intellectual property 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 indemnification provisions typically 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 and the fair value of these guarantees recognized in the Consolidated Balance Sheet at June 30, 2021 and December 31, 2020 was not material.

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 for extended warranty contracts, which are included in deferred income in the Consolidated Balance Sheet, are presented in the following tables.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Standard Warranty Liability


(Dollars in millions)	2021		2020
Balance at January 1	$	83	$	113
Current period accruals		36		43
Accrual adjustments to reflect actual experience		(2)		(14)
Charges incurred		(45)		(49)
Balance at June 30	$	73	$	93

Extended Warranty Liability


(Dollars in millions)	2021		2020
Balance at January 1	$	425	$	477
Revenue deferred for new extended warranty contracts		50		93
Amortization of deferred revenue		(104)		(115)
Other*		(5)		(9)
Balance at June 30	$	367	$	445
Current portion	$	184	$	216
Noncurrent portion	$	183	$	228

* Other primarily consists of foreign currency translation adjustments.

13.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. Further, given the rapidly evolving external landscape of cybersecurity, privacy and data protection laws, regulations and threat actors, the company or its clients could become subject to actions or proceedings in various jurisdictions. Also, as is typical 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 quarter ended June 30, 2021 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.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

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 1 of SCO’s remaining claims, which was remanded to the Federal Court in Utah.

On March 9, 2017, the Commonwealth of Pennsylvania’s Department of Labor and ~~2016, respectively.~~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. In February 2021, the Technology & Construction Court in London rejected the majority of CISGIL’s claims and ruled in IBM’s favor on its counterclaim. The court’s decision required IBM to pay approximately $20 million in damages, plus interest and litigation costs. CISGIL was granted permission to appeal and the matter is now pending at the Court of Appeal in London.

(Dollars in millions)

For the nine months ended September 30:

2017

2016

Net unrealized gains/(losses) arising during the period

$
1

$
(22
)
Net unrealized (gains)/losses reclassified to net income*

0

22

Table of Contents

Notes to Consolidated Financial Statements — (continued)

On June 8, 2021, IBM sued GlobalFoundries U.S. Inc. (GF) in New York State Supreme Court for claims including fraud and breach of contract relating to a long-term strategic relationship between IBM and GF for researching, developing, and manufacturing advanced semiconductor chips for IBM. GF walked away from its obligations and IBM is now suing to recover amounts paid to GF, and other compensatory and punitive damages, totaling more than $1.5 billion.

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 $700 million. The company believes it will prevail on these matters and that this amount is not a meaningful indicator of liability.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

14. Equity Activity:

Reclassifications and Taxes Related to Items of Other Comprehensive Income


(Dollars in millions)	Before Tax		Tax (Expense)/			Net of Tax
For the three months ended June 30, 2021:	Amount		Benefit			Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	28	$	44		$	72
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	0	$	0		$	0
Reclassification of (gains)/losses to other (income) and expense		—		—			—
Total net changes related to available-for-sale securities	$	0	$	0		$	0
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	(34)	$	9		$	(26)
Reclassification of (gains)/losses to:					��
Cost of services		(7)		2			(5)
Cost of sales		10		(3)			8
Cost of financing		6		(1)			4
SG&A expense		16		(4)			12
Other (income) and expense		49		(12)			37
Interest expense		16		(4)			12
Total unrealized gains/(losses) on cash flow hedges	$	56	$	(14)		$	42
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	0	$	0		$	0
Net (losses)/gains arising during the period		2		10			11
Curtailments and settlements		16		(5)			11
Amortization of prior service (credits)/costs		1		1			1
Amortization of net (gains)/losses		643		(175)			467
Total retirement-related benefit plans	$	661	$	(170)		$	491
Other comprehensive income/(loss)	$	745	$	(140)		$	605

(1)	These accumulated other comprehensive income (AOCI) components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Reclassifications and Taxes Related to Items of Other Comprehensive Income


(Dollars in millions)	Before Tax		Tax (Expense)/		Net of Tax
For the three months ended June 30, 2020:	Amount		Benefit		Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	4	$	135	$	139
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	1	$	0	$	1
Reclassification of (gains)/losses to other (income) and expense		—		—		—
Total net changes related to available-for-sale securities	$	1	$	0	$	1
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	(36)	$	9	$	(26)
Reclassification of (gains)/losses to:
Cost of services		1		0		1
Cost of sales		(9)		3		(7)
Cost of financing		7		(2)		5
SG&A expense		(7)		2		(5)
Other (income) and expense		(70)		18		(52)
Interest expense		19		(5)		15
Total unrealized gains/(losses) on cash flow hedges	$	(94)	$	25	$	(70)
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	—	$	0	$	0
Net (losses)/gains arising during the period		57		(22)		35
Curtailments and settlements		13		(4)		9
Amortization of prior service (credits)/costs		0		1		1
Amortization of net (gains)/losses		566		(155)		411
Total retirement-related benefit plans	$	637	$	(180)	$	457
Other comprehensive income/(loss)	$	548	$	(21)	$	527

(1)	These AOCI components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Reclassifications and Taxes Related to Items of Other Comprehensive Income


(Dollars in millions)	Before Tax		Tax (Expense)/		Net of Tax
For the six months ended June 30, 2021:	Amount		Benefit		Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	577	$	(184)	$	393
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	0	$	0	$	0
Reclassification of (gains)/losses to other (income) and expense		—		—		—
Total net changes related to available-for-sale securities	$	0	$	0	$	0
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	153	$	(39)	$	114
Reclassification of (gains)/losses to:
Cost of services		(21)		5		(16)
Cost of sales		32		(8)		24
Cost of financing		12		(3)		9
SG&A expense		31		(8)		23
Other (income) and expense		165		(41)		123
Interest expense		31		(8)		24
Total unrealized gains/(losses) on cash flow hedges	$	404	$	(102)	$	301
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	0	$	0	$	0
Net (losses)/gains arising during the period		22		4		25
Curtailments and settlements		34		(10)		23
Amortization of prior service (credits)/costs		4		0		4
Amortization of net (gains)/losses		1,291		(352)		938
Total retirement-related benefit plans	$	1,350	$	(359)	$	991
Other comprehensive income/(loss)	$	2,330	$	(645)	$	1,685

(1)	These AOCI components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Reclassifications and Taxes Related to Items of Other Comprehensive Income


(Dollars in millions)	Before Tax		Tax (Expense)/		Net of Tax
For the six months ended June 30, 2020:	Amount		Benefit		Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	(915)	$	13	$	(902)
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	1	$	0	$	1
Reclassification of (gains)/losses to other (income) and expense		—		—		—
Total net changes related to available-for-sale securities	$	1	$	0	$	1
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	(216)	$	55	$	(162)
Reclassification of (gains)/losses to:
Cost of services		(9)		2		(6)
Cost of sales		(18)		5		(13)
Cost of financing		15		(4)		11
SG&A expense		(17)		4		(13)
Other (income) and expense		19		(5)		15
Interest expense		41		(10)		31
Total unrealized gains/(losses) on cash flow hedges	$	(184)	$	47	$	(137)
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	(4)	$	1	$	(3)
Net (losses)/gains arising during the period		65		(24)		41
Curtailments and settlements		21		(6)		15
Amortization of prior service (credits)/costs		1		1		2
Amortization of net (gains)/losses		1,136		(312)		824
Total retirement-related benefit plans	$	1,219	$	(341)	$	879
Other comprehensive income/(loss)	$	121	$	(281)	$	(160)

(1)	These AOCI components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Accumulated Other Comprehensive Income/(Loss) (net of tax)


					Net Change		Net Unrealized
	Net Unrealized		Foreign		Retirement-		Gains/(Losses)		Accumulated
	Gains/(Losses)		Currency		Related		on Available-		Other
	on Cash Flow		Translation		Benefit		For-Sale		Comprehensive
(Dollars in millions)	Hedges		Adjustments*		Plans		Securities		Income/(Loss)
January 1, 2021	$	(456)	$	(4,665)	$	(24,216)	$	0	$	(29,337)
Other comprehensive income before reclassifications		114		393		25		0		532
Amount reclassified from accumulated other comprehensive income		187		—		966		—		1,153
Total change for the period	$	301	$	393	$	991	$	0	$	1,685
June 30, 2021	$	(155)	$	(4,271)	$	(23,225)	$	(1)	$	(27,652)

* ~~There were no writedowns~~Foreign currency translation adjustments are presented gross except for ~~the nine months ended September 30, 2017 and 2016, respectively.~~

~~The contractual maturities~~any associated hedges which are presented net of ~~substantially all available-for-sale debt securities are less than one year at September 30, 2017.~~tax.

Table of Contents

Notes to Consolidated Financial Statements — (continued)


					Net Change		Net Unrealized
	Net Unrealized		Foreign		Retirement-		Gains/(Losses)		Accumulated
	Gains/(Losses)		Currency		Related		on Available-		Other
	on Cash Flow		Translation		Benefit		For-Sale		Comprehensive
(Dollars in millions)	Hedges		Adjustments*		Plans		Securities		Income/(Loss)
January 1, 2020	$	(179)	$	(3,700)	$	(24,718)	$	0	$	(28,597)
Other comprehensive income before reclassifications		(162)		(902)		38		1		(1,025)
Amount reclassified from accumulated other comprehensive income		25		—		841		—		866
Total change for the period	$	(137)	$	(902)	$	879	$	1	$	(160)
June 30, 2020	$	(316)	$	(4,602)	$	(23,839)	$	1	$	(28,757)

*Foreign currency translation adjustments are presented gross except for any associated hedges which are presented net of tax.

15. Derivative Financial ~~Instruments~~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.

As a result of the use of derivative instruments, the company is exposed to the risk that counterparties to derivative contracts will fail to meet their contractual obligations. To mitigate the counterparty credit risk, the company has a policy of only entering into contracts with carefully selected major financial institutions based upon their overall credit profile. The company’s established policies and procedures for mitigating credit risk on principal transactions include reviewing and establishing limits for credit exposure and continually assessing the creditworthiness of counterparties. The right of set-off that exists under certain of these arrangements enables the legal entities of the company subject to the arrangement to net amounts due to and from the counterparty reducing the maximum loss from credit risk in the event of counterparty default.

The company is also a party to collateral security arrangements with most of its major derivative counterparties. These arrangements require the company to hold or post collateral (cash or U.S. Treasury securities) when the derivative fair values exceed contractually established thresholds. Posting thresholds can be fixed or can vary based on credit default swap pricing or credit ratings received from the major credit agencies. The aggregate fair value of all derivative instruments under these collateralized arrangements that were in a liability position at September 30, 2017 and December 31, 2016 was $45 million and $11 million, respectively, for which no collateral was posted at either date. Full collateralization of these agreements would be required in the event that the company’s credit rating falls below investment grade or if its credit default swap spread exceeds 250 basis points, as applicable, pursuant to the terms of the collateral security arrangements. The aggregate fair value of derivative instruments in asset positions as of September 30, 2017 and December 31, 2016 was $957 million and $1,126 million, respectively. This amount represents the maximum exposure to loss at the reporting date if the counterparties failed to perform as contracted. This exposure was reduced by $274 million and $116 million at September 30, 2017 and December 31, 2016, respectively, of liabilities included in master netting arrangements with those counterparties. Additionally, at September 30, 2017 and December 31, 2016, this exposure was reduced by $123 million and $141 million of cash collateral, respectively, and $35 million of non-cash collateral in U.S. Treasury securities at December 31, 2016. There were no non-cash collateral balances in U.S. Treasury securities at September 30, 2017. At September 30, 2017 and December 31, 2016, the net exposure related to derivative assets recorded in the Consolidated Statement of Financial Position was $559 million and $834 million, respectively. At September 30, 2017 and December 31, 2016, the net position related to derivative liabilities recorded in the Consolidated Statement of Financial Position was $78 million and $90 million, respectively.

In the Consolidated ~~Statement of Financial Position,~~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

~~Notes to Consolidated Financial Statements — (continued)~~

against the fair values of the related derivative instruments. NoNaN amount was recognized ~~in other receivables at September 30, 2017 or December 31, 2016~~ for the right to reclaim cash ~~collateral. The amount~~collateral and $4 million was recognized ~~in accounts payable for~~as the obligation to return cash collateral ~~was $123 million and $141 million~~ at ~~September~~June 30, ~~2017 and~~2021. NaN amounts were recognized for the right to reclaim or the obligation to return cash collateral at December 31, ~~2016, respectively.~~2020. The company restricts the use of cash collateral received to rehypothecation, and therefore reports it in ~~prepaid expenses and other current assets~~restricted cash in the Consolidated ~~Statement of Financial Position. No~~Balance Sheet. NaN amount was rehypothecated at ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016.~~

~~The company may employ~~2020. Additionally, if derivative instruments to hedge the volatility in stockholders’ equity resulting from changes in currency exchange rates of significant foreign subsidiaries of the company with respect to the U.S. dollar. These instruments, designated as net investment hedges, expose the company to liquidity risk as the derivatives have an immediate cash flow impact upon maturity which is not offsetexposures covered by a cash flow from the translation of the underlying hedged equity. The company monitors this cash loss potential on an ongoing basis and may discontinue some of these hedging relationships by de-designating or terminating the derivative instrument in order to manage the liquidity risk. Although not designated as accounting hedges, the company may utilize derivatives to offset the changesqualifying master netting agreement had been netted in the ~~fair value of~~Consolidated Balance Sheet at June 30, 2021 and December 31, 2020, the ~~de-designated instruments from the date of de-designation until maturity.~~

total derivative asset and liability positions each would have been reduced by $105 million and $213 million, respectively.

In its hedging programs, the company ~~uses~~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 ~~uses~~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 ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016,~~2020, the total notional amount of the company’s ~~interest rate~~ interest-rate

Table of Contents

Notes to Consolidated Financial Statements — (continued)

swaps was ~~$9.1~~$0.4 billion and ~~$7.3~~$3.0 billion, respectively. In the first quarter of 2021, in addition to the scheduled swap maturities, the company terminated $1.25 billion of interest-rate swaps concurrent with the early redemption of the underlying hedged fixed-rate debt. The weighted-average remaining maturity of these instruments at ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016~~2020 was approximately ~~5.0~~1.7 years and ~~6.2~~1.2 years, respectively.

These interest-rate contracts were accounted for as fair value hedges. The company did 0t have any cash flow hedges relating to this program outstanding at June 30, 2021 and December 31, 2020.

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 ~~issuance. These swaps are accounted for as cash flow hedges. The company did not have any derivative~~issuances. There were 0 instruments ~~relating to this program~~ outstanding at ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016.~~2020.

~~At December 31, 2016, net gains of less than $1 million (before taxes) were recorded in accumulated other comprehensive income/(loss) in~~In connection with cash flow hedges of forecasted interest payments related to the ~~company’s borrowings. During 2017, all gains~~company's borrowings, the company recorded net losses of $166 million and $174 million (before taxes) at June 30, 2021 and December 31, 2020, respectively, in AOCI. The company estimates that $18 million (before taxes) of the deferred net losses ~~associated with this program that were recorded~~on derivatives in ~~other comprehensive income/(loss) were~~AOCI at June 30, 2021 will be reclassified to net income ~~and there are no gains and losses remaining in accumulated other comprehensive income/(loss) at September 30, 2017.~~

within the next 12 months, providing an offsetting economic impact against the underlying interest payments.

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. At June 30, 2021 and December 31, 2020, the carrying value of debt designated as hedging instruments was $15.8 billion and $16.4 billion, respectively. The company also uses cross-currency swaps and foreign exchange forward contracts for this risk management purpose. At ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016,~~2020, the total notional amount of derivative instruments designated as net investment hedges was ~~$8.8~~$7.9 billion and ~~$6.7~~$7.2 billion, respectively. At ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016,~~2020, the weighted-average remaining maturity of these instruments was approximately 0.1 years and ~~0.2~~0.3 years, respectively.

~~Notes to Consolidated Financial Statements — (continued)~~

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 remaining length of time over which the company ~~has~~ hedged its exposure ~~to the variability in future cash flows~~ is ~~four~~approximately three years. At ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016,~~2020, the total notional amount of forward contracts designated as cash flow hedges of forecasted royalty and cost transactions was ~~$7.9~~$7.0 billion and ~~$8.3~~$8.0 billion, respectively. ~~The~~At June 30, 2021 and December 31, 2020, the weighted-average remaining maturity of these instruments ~~at September 30, 2017 and December 31, 2016~~ was approximately 0.7 years at both periods.

At ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016,~~2020, in connection with cash flow hedges of anticipated royalties and cost transactions, the company recorded net ~~losses~~gains of ~~$70~~$170 million and net ~~gains~~losses of ~~$462~~$192 million (before taxes), respectively, in ~~accumulated other comprehensive income/(loss). Within these amounts, $161~~AOCI. The company estimates that $94 million (before taxes) of ~~losses and $397 million of~~deferred net gains ~~respectively, are expected to~~on derivatives in AOCI at June 30, 2021 will be reclassified to net income within the next 12 months, providing an offsetting economic impact against the underlying anticipated transactions.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

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~~At June 30, 2021, the maximum length of time remaining over which the company ~~has~~ hedged its exposure ~~to the variability in future cash flows~~ is approximately ~~nine~~ seven years. At ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016,~~2020, the total notional amount of cross-currency swaps designated as cash flow hedges of foreign currency denominated debt was ~~$1.4~~$1.5 billion at both periods.

~~At September 30, 2017 and December 31, 2016, in~~In connection with cash flow hedges of foreign currency denominated borrowings, the company recorded net ~~gains~~losses of ~~$16~~$203 million and ~~net gains of $29~~$236 million (before taxes), at June 30, 2021 and December 31, 2020, respectively, in ~~accumulated other comprehensive income/(loss). Within these amounts, $34~~AOCI. The company estimates that $25 million (before taxes) of ~~gains and $27 million of gains, respectively, are expected to~~deferred net losses on derivatives in AOCI at June 30, 2021 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 ~~Statement of Earnings.~~Income Statement. At ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016,~~2020, the total notional amount of derivative instruments in economic hedges of foreign currency exposure was ~~$10.8~~$4.9 billion and ~~$12.7~~$6.8 billion, respectively.

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 ~~selling, general and administrative (SG&A)~~SG&A expense in the Consolidated ~~Statement of Earnings.~~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 ~~Statement of Earnings.~~Income Statement. At ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016,~~2020, the total notional amount of derivative instruments in economic hedges of these compensation obligations was ~~$1.2~~$1.4 billion ~~at both periods.~~and $1.3 billion, respectively.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Cumulative Basis Adjustments for Fair Value Hedges

~~Other Risks~~

The company may hold warrants to purchase shares of common stock in connection with various investments that are deemed derivatives because they contain net share or net cash settlement provisions. The company recordsAt June 30, 2021 and December 31, 2020, the ~~changes in the fair value of these warrants in other (income) and expense~~following amounts were recorded in the Consolidated ~~Statement~~Balance Sheet related to cumulative basis adjustments for fair value hedges:


	June 30,		December 31,
(Dollars in millions)	2021		2020
Short-term debt:
Carrying amount of the hedged item	$	—	$	(1,302)
Cumulative hedging adjustments included in the carrying amount — assets/(liabilities)		—		(2)
Long-term debt:
Carrying amount of the hedged item	$	(767)	$	(2,097)
Cumulative hedging adjustments included in the carrying amount — assets/(liabilities)*		(342)		(424)

* Includes ($327) million and ($353) million of ~~Earnings. The company did not have any warrants qualifying as derivatives outstanding~~hedging adjustments on discontinued hedging relationships at ~~September~~June 30, ~~2017~~2021 and December 31, ~~2016.~~

The company is exposed to a potential loss if a client fails to pay amounts due under contractual terms. The company may utilize credit default swaps to economically hedge its credit exposures. The swaps are recorded at fair value with gains and losses reported in other (income) and expense in the Consolidated Statement of Earnings. The company did not have any derivative instruments relating to this program outstanding at September 30, 2017 and December 31, 2016.

The company is exposed to market volatility on certain investment securities. The company may utilize options or forwards to economically hedge its market exposure. The derivatives are recorded at fair value with gains and losses reported in other (income) and expense in the Consolidated Statement of Earnings. At September 30, 2017 and December 31, 2016, the company did not have any derivative instruments relating to this program outstanding.

The following tables provide a quantitative summary of the derivative and non-derivative instrument-related risk management activity as of September 30, 2017 and December 31, 2016, as well as for the three and nine months ended September 30, 2017 and 2016,2020, respectively.

~~Notes to Consolidated Financial Statements — (continued)~~

~~Fair Values of Derivative Instruments in the Consolidated Statement of Financial Position~~

~~As of September 30, 2017 and December 31, 2016~~

Fair Value of Derivative Assets

Fair Value of Derivative Liabilities

Balance Sheet

Balance Sheet

(Dollars in millions)

Classification

9/30/2017

12/31/2016

Classification

9/30/2017

12/31/2016

Designated as hedging instruments:

Interest rate contracts:

Prepaid expenses and other current assets

$
—

$
—

Other accrued expenses and liabilities

$
1

$
—

Investments and sundry assets

517

555

Other liabilities

15

8

Foreign exchange contracts:

Prepaid expenses and other current assets

208

421

Other accrued expenses and liabilities

272

46

Investments and sundry assets

170

17

Other liabilities

5

35

Fair value of derivative assets

$
896

$
993

Fair value of derivative liabilities

$
292

$
89

Not designated as hedging instruments:

Foreign exchange contracts:

Prepaid expenses and other current assets

$
38

$
100

Other accrued expenses and liabilities

$
56

$
89

Investments and sundry assets

—

22

Other liabilities

—

18

Equity contracts:

Prepaid expenses and other current assets

23

11

Other accrued expenses and liabilities

4

10

Investments and sundry assets

—

—

Other liabilities

—

—

Fair value of derivative assets

$
61

$
133

Fair value of derivative liabilities

$
60

$
117

Total Derivatives

$
957

$
1,126

$
352

$
206

Total debt designated as hedging instruments(1):

Short-term debt

N/A

N/A

$
377

$
1,125

Long-term debt

N/A

N/A

11,469

7,844

N/A

N/A

$
11,846

$
8,969

Total

$
957

$
1,126

$
12,198

$
9,175

~~N/A - not applicable~~

~~(1)~~ ~~Debt designated as hedging instruments are reported at carrying value.~~

~~Notes to Consolidated Financial Statements — (continued)~~

The Effect of Derivative Instruments in the Consolidated Income Statement

The total amounts of ~~Earnings~~

~~For the three months ended September 30, 2017~~income and ~~2016~~

Gain (Loss) Recognized in Earnings

Consolidated

Recognized on

Attributable to Risk

(Dollars in millions)

Statement of

Derivatives

Being Hedged(2)

For the three months ended September 30:

Earnings Line Item

2017

2016

2017

2016

Derivative instruments in fair value hedges(1)(5):

Interest rate contracts

Cost of financing

$
(3
)
$
(20
)
$
20

$
40

Interest expense

(3
)
(21
)
20

43

Derivative instruments not designated as hedging instruments:

Foreign exchange contracts

Other (income) and expense

(35
)
30

N/A

N/A

Interest rate contracts

Other (income) and expense

—

0

N/A

N/A

Equity contracts

SG&A expense

31

45

N/A

N/A

Other (income) and expense

—

0

N/A

N/A

Total

$
(10
)
$
34

$
41

$
83

Gain (Loss) Recognized in Earnings and Other Comprehensive Income

Ineffectiveness and

(Dollars in millions)

Effective Portion

Consolidated

Effective Portion Reclassified

Amounts Excluded from

For the three months

Recognized in OCI

Statement of

from AOCI

Effectiveness Testing(3)

ended September 30:

2017

2016

Earnings Line Item

2017

2016

2017

2016

Derivative instruments in cash flow hedges:

Interest rate contracts

$
—

$
—

Interest expense

$
(7
)
$
(7
)
$
—

$
—

Foreign exchange contracts

(70
)
35

Other (income) and expense

64

(6
)
(1
)
(1
)

Cost of sales*

1

(7
)
—

—

Cost of services*

20

3

—

—

SG&A expense

(6
)
2

—

—

Instruments in net investment hedges(4):

Foreign exchange contracts

(507
)
(131
)
Cost of financing

—

—

0

—

Interest expense

—

—

8

25

Total

$
(577
)
$
(96
)

$
73

$
(15
)
$
7

$
24

* Reclassified to conform to 2017 presentation

~~N/A - not applicable~~

~~Note: OCI represents other comprehensive income/(loss)~~expense line items presented in the Consolidated Income Statement ~~of Comprehensive Income and AOCI represents accumulated other comprehensive income/(loss)~~ in which the ~~Consolidated Statement~~effects of ~~Changes in Equity.~~

~~(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 amount of gain/(loss) recognized in income represents ineffectiveness on hedge relationships.~~

~~(4)~~ ~~Instruments in~~hedges, cash flow hedges, net investment hedges ~~include derivative~~ and ~~non-derivative instruments.~~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:

~~(5)~~ ~~For the three month periods ended September 30, 2017 and 2016, fair value hedges resulted in a loss~~


					Gains/(Losses) of
(Dollars in millions)	Total				Total Hedge Activity
For the three months ended June 30:	2021		2020		2021		2020
Cost of services	$	7,871	$	7,520	$	7	$	(1)
Cost of sales		1,694		1,739		(10)		9
Cost of financing		176		165		0		2
SG&A expense		5,334		5,248		67		157
Other (income) and expense		315		179		(79)		92
Interest expense		281		323		(1)		7

Table of ~~less than $1 million and a loss of $3 million in ineffectiveness, respectively.~~Contents

Notes to Consolidated Financial Statements — (continued)


	Gain (Loss) Recognized in Consolidated Income Statement
	Consolidated	Recognized on				Attributable to Risk
(Dollars in millions)	Income Statement	Derivatives				Being Hedged (2)
For the three months ended June 30:	Line Item	2021		2020		2021		2020
Derivative instruments in fair value hedges (1):
Interest rate contracts	Cost of financing	$	0	$	3	$	4	$	3
	Interest expense		0		8		11		8
Derivative instruments not designated as hedging instruments:
Foreign exchange contracts	Other (income) and expense		(30)		22		N/A		N/A
Equity contracts	SG&A expense		83		150		N/A		N/A
Total		$	54	$	183	$	15	$	11


	Gain (Loss) Recognized in Consolidated Income Statement and Other Comprehensive Income
(Dollars in millions)					Consolidated	Reclassified				Amounts Excluded from
For the three months	Recognized in OCI				Income Statement	from AOCI				Effectiveness Testing (3)
ended June 30:	2021		2020		Line Item	2021		2020		2021		2020
Derivative instruments in cash flow hedges:
Interest rate contracts	$	—	$	—	Cost of financing	$	(1)	$	(1)	$	—	$	—
					Interest expense		(3)		(3)		—		—
Foreign exchange contracts		(34)		(36)	Cost of services		7		(1)		—		—
					Cost of sales		(10)		9		—		—
					Cost of financing		(5)		(6)		—		—
					SG&A expense		(16)		7		—		—
					Other (income) and expense		(49)		70		—		—
					Interest expense		(12)		(16)		—		—
Instruments in net investment hedges (4):
Foreign exchange contracts		(177)		(535)	Cost of financing		—		—		1		4
					Interest expense		—		—		4		10
Total	$	(211)	$	(571)		$	(90)	$	59	$	5	$	14

(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 with the amounts recognized in OCI providing an offset to the translation of foreign subsidiaries.

N/A - not applicable


					Gains/(Losses) of
(Dollars in millions)	Total				Total Hedge Activity
For the six months ended June 30:	2021		2020		2021		2020
Cost of services	$	15,646	$	15,363	$	21	$	9
Cost of sales		3,279		3,363		(32)		18
Cost of financing		341		345		2		6
SG&A expense		10,508		11,203		101		(34)
Other (income) and expense		676		361		(239)		(9)
Interest expense		562		649		4		16

Table of Contents

~~The Effect of Derivative Instruments in the~~Notes to Consolidated ~~Statement of Earnings~~Financial Statements — (continued)


	Gain (Loss) Recognized in Consolidated Income Statement
	Consolidated	Recognized on				Attributable to Risk
(Dollars in millions)	Income Statement	Derivatives				Being Hedged (2)
For the six months ended June 30:	Line Item	2021		2020		2021		2020
Derivative instruments in fair value hedges (1):
Interest rate contracts	Cost of financing	$	0	$	21	$	11	$	(11)
	Interest expense		(1)		56		29		(29)
Derivative instruments not designated as hedging instruments:
Foreign exchange contracts	Other (income) and expense		(74)		10		N/A		N/A
Equity contracts	SG&A expense		133		(51)		N/A		N/A
Total		$	57	$	37	$	40	$	(39)

~~For the nine months ended September 30, 2017 and 2016~~

Gain (Loss) Recognized in Earnings

Consolidated

Recognized on

Attributable to Risk

(Dollars in millions)

Statement of

Derivatives

Being Hedged(2)

For the nine months ended September 30:

Earnings Line Item

2017

2016

2017

2016

Derivative instruments in fair value hedges(1)(5):

Interest rate contracts

Cost of financing

$
37

$
195

$
22

$
(127
)

Interest expense

34

214

20

(140
)
Derivative instruments not designated as hedging instruments:

Foreign exchange contracts

Other (income) and expense

74

335

N/A

N/A

Interest rate contracts

Other (income) and expense

—

0

N/A

N/A

Equity contracts

SG&A expense

88

87

N/A

N/A

Other (income) and expense

—

(1
)
N/A

N/A

Total

$
233

$
830

$
42

$
(267
)

Gain (Loss) Recognized in Earnings and Other Comprehensive Income

Ineffectiveness and

(Dollars in millions)

Effective Portion

Consolidated

Effective Portion Reclassified

Amounts Excluded from

For the nine months

Recognized in OCI

Statement of

from AOCI

Effectiveness Testing(3)

ended September 30:

2017

2016

Earnings Line Item

2017

2016

2017

2016

Derivative instruments in cash flow hedges:

Interest rate contracts

$
—

$
—

Interest expense

$
(21
)
$
(17
)
$
—

$
—

Foreign exchange contracts

(198
)
(221
)
Other (income) and expense

275

6

2

(1
)

Cost of sales*

23

(5
)
—

—

Cost of services*

47

(9
)
—

—

SG&A expense

23

(1
)
—

—

Instruments in net investment hedges(4):

Foreign exchange contracts

(1,513
)
(1,071
)
Cost of financing

—

—

0

—

Interest expense

—

—

34

51

Total

$
(1,712
)
$
(1,292
)

$
347

$
(26
)
$
37

$
49


	Gain (Loss) Recognized in Consolidated Income Statement and Other Comprehensive Income
(Dollars in millions)					Consolidated	Reclassified				Amounts Excluded from
For the six months	Recognized in OCI				Income Statement	from AOCI				Effectiveness Testing (3)
ended June 30:	2021		2020		Line Item	2021		2020		2021		2020
Derivative instruments in cash flow hedges:
Interest rate contracts	$	—	$	—	Cost of financing	$	(2)	$	(2)	$	—	$	—
					Interest expense		(6)		(6)		—		—
Foreign exchange contracts		153		(216)	Cost of services		21		9		—		—
					Cost of sales		(32)		18		—		—
					Cost of financing		(9)		(13)		—		—
					SG&A expense		(31)		17		—		—
					Other (income) and expense		(165)		(19)		—		—
					Interest expense		(25)		(35)		—		—
Instruments in net investment hedges (4):
Foreign exchange contracts		730		(50)	Cost of financing		—		—		3		11
					Interest expense		—		—		8		30
Total	$	883	$	(266)		$	(251)	$	(32)	$	11	$	41

(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 with the amounts recognized in OCI providing an offset to the translation of foreign subsidiaries.

* Reclassified to conform to 2017 presentation.

N/~~A-not~~A - not applicable

Note: OCI represents other comprehensive income/(loss) in the Consolidated Statement of Comprehensive Income and AOCI represents accumulated other comprehensive income/(loss) in the Consolidated Statement of Changes in Equity.

~~(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.

~~(3)~~ ~~The amount of gain/(loss) recognized in income represents ineffectiveness on hedge relationships.~~

~~(4)~~ ~~Instruments in net investment hedges include derivative and non-derivative instruments.~~

~~(5)~~ ~~For the nine month periods ended September 30, 2017 and 2016, fair value hedges resulted in a loss of less than $1 million and a gain of less than $1 million in ineffectiveness, respectively.~~

For the three and ~~nine~~six months ~~ending September~~ended June 30, ~~2017~~2021 and ~~2016,~~2020, there were no ~~significant~~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.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

4. ~~Financing Receivables:~~ ~~The following table presents financing receivables, net of allowances for credit losses, including residual values.~~

At September 30,

At December 31,

(Dollars in millions)

2017

2016

Current:

Net investment in sales-type and direct financing leases

$
3,092

$
2,909

Commercial financing receivables

8,563

9,706

Client loan and installment payment receivables (loans)

6,395

6,390

Total

$
18,050

$
19,006

Noncurrent:

Net investment in sales-type and direct financing leases

$
3,579

$
3,950

Client loan and installment payment receivables (loans)

4,879

5,071

Total

$
8,459

$
9,021

Net 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. Net investment in sales-type and direct financing leases includes unguaranteed residual values of $567 million and $585 million at September 30, 2017 and December 31, 2016, respectively, and is reflected net of unearned income of $459 million and $513 million, and net of allowance for credit losses of $118 million and $133 million at those dates, respectively.

Commercial financing receivables, net of allowance for credit losses of $21 million and $28 million at September 30, 2017 and December 31, 2016, respectively, 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.

Client loan and installment payment receivables (loans), net of allowance for credit losses of $215 million and $276 million at September 30, 2017 and December 31, 2016, respectively, are loans that 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 loan and installment payment financing contracts are priced independently at competitive market rates. The company has a history of enforcing the terms of these financing agreements.~~

The company utilizes certain of its financing receivables as collateral for nonrecourse borrowings. Financing receivables pledged as collateral for borrowings were $640 million and $689 million at September 30, 2017 and December 31, 2016, respectively.

~~The company did not have any financing receivables held for sale as of September 30, 2017 and December 31, 2016.~~

~~Financing Receivables by Portfolio Segment~~

The following tables present financing receivables on a gross basis, excluding the allowance for credit losses and residual value, by portfolio segment and by class, excluding commercial financing receivables and other miscellaneous financing receivables at September 30, 2017 and December 31, 2016. The company determines its allowance for credit losses based on two portfolio segments: lease receivables and loan receivables, and further segments the portfolio into three classes: Americas, Europe/Middle East/Africa (EMEA), and Asia Pacific. This portfolio segmentation was changed from growth markets and major markets in 2017 as the company no longer manages the business under those market delineations. There was no impact to segment reporting or the company’s Consolidated Financial Statements.

~~Notes to Consolidated Financial Statements — (continued)~~16. Stock-Based Compensation:

(Dollars in millions)

At September 30, 2017

Americas

EMEA

Asia Pacific

Total

Financing receivables

Lease receivables

$
3,541

$
1,297

$
1,304

$
6,142

Loan receivables

6,180

3,120

2,189

11,489

Ending balance

$
9,721

$
4,417

$
3,493

$
17,631

Collectively evaluated for impairment

$
9,581

$
4,386

$
3,391

$
17,358

Individually evaluated for impairment

$
140

$
31

$
102

$
273

Allowance for credit losses

Beginning balance at January 1, 2017

Lease receivables

$
54

$
4

$
76

$
133

Loan receivables

169

18

89

276

Total

$
223

$
22

$
165

$
410

Write-offs

$
(49
)
$
0

$
(63
)
$
(112
)
Recoveries

0

0

0

0

Provision

11

9

(4
)
16

Other

12

5

2

19

Ending balance at September 30, 2017

$
197

$
36

$
100

$
333

Lease receivables

$
77

$
6

$
35

$
118

Loan receivables

$
120

$
29

$
65

$
215

Collectively evaluated for impairment

$
66

$
12

$
6

$
85

Individually evaluated for impairment

$
131

$
23

$
94

$
248

(Dollars in millions)

At December 31, 2016:*

Americas

EMEA

Asia Pacific

Total

Financing receivables:

Lease receivables

$
3,830

$
1,171

$
1,335

$
6,336

Loan receivables

6,185

3,309

2,243

11,737

Ending balance

$
10,015

$
4,480

$
3,578

$
18,073

Collectively evaluated for impairment

$
9,847

$
4,460

$
3,419

$
17,726

Individually evaluated for impairment

$
168

$
20

$
159

$
347

Allowance for credit losses

Beginning balance at January 1, 2016

Lease receivables

$
52

$
17

$
143

$
213

Loan receivables

122

55

200

377

Total

$
175

$
72

$
343

$
590

Write-offs

$
(36
)
$
(48
)
$
(154
)
$
(237
)
Recoveries

2

0

0

2

Provision

65

(1
)
(6
)
58

Other

17

(1
)
(18
)
(3
)
Ending balance at December 31, 2016

$
223

$
22

$
165

$
410

Lease receivables

$
54

$
4

$
76

$
133

Loan receivables

$
169

$
18

$
89

$
276

Collectively evaluated for impairment

$
62

$
13

$
15

$
90

Individually evaluated for impairment

$
161

$
9

$
150

$
320

* Reclassified to conform to 2017 presentation.

When determining the allowances, financing receivables are evaluated either on an individual or a collective basis. For individually evaluated receivables, 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. In addition, the company records an unallocated reserve that is determined by applying a reserve rate to its different portfolios, excluding accounts that have been specifically reserved. This reserve rate is based upon credit rating, probability of default, term, characteristics (lease/loan) and loss history.

~~Notes to Consolidated Financial Statements — (continued)~~

~~Financing Receivables on Non-Accrual Status~~

~~The following table presents the recorded investment in financing receivables which were on non-accrual status at September 30, 2017 and December 31, 2016.~~

At September 30,

At December 31,

(Dollars in millions)

2017

2016*

Americas

$
25

$
23

EMEA

0

2

Asia Pacific

4

14

Total lease receivables

$
30

$
40

Americas

$
79

$
128

EMEA

53

5

Asia Pacific

10

12

Total loan receivables

$
142

$
145

Total receivables

$
172

$
185

* Reclassified to conform to 2017 presentation.

~~Impaired Receivables~~

~~The company considers any receivable with an individually evaluated reserve as an impaired receivable. Depending on the level of impairment, receivables will also be placed on non-accrual status.~~

~~The following tables present impaired receivables. This presentation includes both loan and lease receivables.~~

At September 30, 2017

At December 31, 2016*

Recorded

Related

Recorded

Related

(Dollars in millions)

Investment

Allowance

Investment

Allowance

Americas

$
140

$
131

$
168

$
161

EMEA

31

23

20

9

Asia Pacific

102

94

159

150

Total

$
273

$
248

$
347

$
320

* Reclassified to conform to 2017 presentation.

Interest

Average

Interest

Income

(Dollars in millions)

Recorded

Income

Recognized on

For the three months ended September 30, 2017:

Investment

Recognized

Cash Basis

Americas

$
156

$
0

$
—

EMEA

31

0

—

Asia Pacific

101

0

—

Total

$
288

$
0

$
—

Interest

Average

Interest

Income

(Dollars in millions)

Recorded

Income

Recognized on

For the three months ended September 30, 2016:*

Investment

Recognized

Cash Basis

Americas

$
182

$
0

$
—

EMEA

61

0

—

Asia Pacific

302

0

—

Total

$
545

$
0

$
—

* Reclassified to conform to 2017 presentation.

~~Notes to Consolidated Financial Statements — (continued)~~

Interest

Average

Interest

Income

(Dollars in millions)

Recorded

Income

Recognized on

For the nine months ended September 30, 2017:

Investment

Recognized

Cash Basis

Americas

$
165

$
0

$
—

EMEA

27

0

—

Asia Pacific

131

0

—

Total

$
323

$
0

$
—

Interest

Average

Interest

Income

(Dollars in millions)

Recorded

Income

Recognized on

For the nine months ended September 30, 2016:*

Investment

Recognized

Cash Basis

Americas

$
158

$
0

$
—

EMEA

65

0

—

Asia Pacific

322

0

—

Total

$
545

$
0

$
—

* Reclassified to conform to 2017 presentation.

~~Credit Quality Indicators~~

~~The following tables present the net recorded investment for each class of receivables, by credit quality indicator, at~~ September 30, 2017 and December 31, 2016. 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.

Lease Receivables

Loan Receivables

(Dollars in millions)

Asia

Asia

At September 30, 2017:

Americas

EMEA

Pacific

Americas

EMEA

Pacific

Credit Ratings:

Aaa – Aa3

$
358

$
52

$
56

$
626

$
124

$
94

A1 – A3

715

126

543

1,251

302

908

Baa1 – Baa3

807

404

329

1,412

968

550

Ba1 – Ba2

762

415

172

1,333

993

289

Ba3 – B1

421

197

86

736

473

143

B2 – B3

345

83

69

604

200

116

Caa – D

56

13

15

98

31

25

Total

$
3,465

$
1,290

$
1,269

$
6,059

$
3,091

$
2,124

At September 30, 2017, the industries which made up Global Financing’s receivables portfolio consisted of: Financial (33 percent), Government (14 percent), Manufacturing (14 percent), Services (13 percent), Retail (8 percent), Communications (7 percent), Healthcare (6 percent) and Other (5 percent).

~~Notes to Consolidated Financial Statements — (continued)~~

Lease Receivables

Loan Receivables

(Dollars in millions)

Asia

Asia

At December 31, 2016:*

Americas

EMEA

Pacific

Americas

EMEA

Pacific

Credit Ratings:

Aaa – Aa3

$
447

$
51

$
53

$
712

$
143

$
90

A1 – A3

782

113

486

1,246

318

832

Baa1 – Baa3

772

366

330

1,230

1,032

565

Ba1 – Ba2

822

350

185

1,309

987

316

Ba3 – B1

574

208

106

914

585

182

B2 – B3

297

71

84

472

201

143

Caa – D

83

9

15

133

25

25

Total

$
3,776

$
1,167

$
1,259

$
6,016

$
3,291

$
2,154

* Reclassified to conform to 2017 presentation.

At December 31, 2016, the industries which made up Global Financing’s receivables portfolio consisted of: Financial (34 percent), Government (14 percent), Manufacturing (13 percent), Services (12 percent), Retail (8 percent), Communications (7 percent), Healthcare (6 percent) and Other (6 percent).

~~Past Due Financing Receivables~~

Fully

<90 Days

Recorded

Total

Reserved

or Unbilled

Total

Investment

(Dollars in millions)

Past Due

Financing

Financing

Financing

> 90 Days and

At September 30, 2017:

> 90 days (1)

Receivables

Receivables

Receivables

Accruing (2)

Americas

$
28

$
51

$
3,463

$
3,541

$
255

EMEA

9

4

1,283

1,297

15

Asia Pacific

5

32

1,266

1,304

19

Total lease receivables

$
42

$
87

$
6,012

$
6,142

$
290

Americas

$
43

$
80

$
6,057

$
6,180

$
401

EMEA

26

19

3,076

3,120

46

Asia Pacific

6

61

2,122

2,189

9

Total loan receivables

$
75

$
160

$
11,255

$
11,489

$
456

Total

$
117

$
247

$
17,267

$
17,631

$
746

~~(1) Only the portion of a financing receivable which is greater than 90 days past due, excluding amounts that are fully reserved.~~

~~(2) At a contract level, which includes total billed and unbilled amounts for aged financing receivables greater than 90 days.~~

Fully

<90 Days

Recorded

Total

Reserved

or Unbilled

Total

Investment

(Dollars in millions)

Past Due

Financing

Financing

Financing

> 90 Days and

At December 31, 2016:*

> 90 days (1)

Receivables

Receivables

Receivables

Accruing (2)

Americas

$
17

$
20

$
3,793

$
3,830

$
66

EMEA

2

10

1,159

1,171

6

Asia Pacific

12

59

1,264

1,335

40

Total lease receivables

$
31

$
89

$
6,216

$
6,336

$
111

Americas

$
19

$
90

$
6,075

$
6,185

$
80

EMEA

5

5

3,299

3,309

15

Asia Pacific

6

87

2,150

2,243

46

Total loan receivables

$
31

$
182

$
11,524

$
11,737

$
141

Total

$
62

$
271

$
17,740

$
18,073

$
253

~~(1) Only the portion of a financing receivable which is greater than 90 days past due, excluding amounts that are fully reserved.~~

~~(2) At a contract level, which includes total billed and unbilled amounts for aged financing receivables greater than 90 days.~~

* Reclassified to conform to 2017 presentation.

~~Notes to Consolidated Financial Statements — (continued)~~

~~Troubled Debt Restructurings~~

~~The company did not have any significant troubled debt restructurings during the nine months ended~~ ~~September 30, 2017 or for the year ended December 31, 2016.~~

5. ~~Stock-Based Compensation:~~Stock-based compensation cost is measured at grant date, based on the fair value of the award, and is recognized over the employee requisite service period. The following table presents total stock-based compensation cost included in income from continuing operations.

	Three Months Ended September 30,						Nine Months Ended September 30,

													Three Months Ended June 30,				Six Months Ended June 30,
(Dollars in millions)	2017			2016			2017			2016			2021		2020		2021		2020
Cost	$	22		$	23		$	68		$	67		$	41	$	40	$	82	$	67
Selling, general and administrative	88			105			277			295				152		155		275		272
Research, development and engineering	13			14			43			41				50		52		99		97
Pre-tax stock-based compensation cost	123			142			388			403			$	243	$	247	$	457	$	436
Income tax benefits	(41		)	(47		)	(128		)	(131		)		(69)		(52)		(121)		(96)
Total net stock-based compensation cost	$	82		$	95		$	260		$	272		$	175	$	196	$	336	$	340

Pre-tax stock-based compensation cost for the three months ended ~~September~~June 30, ~~2017~~2021 decreased ~~$19~~$4 million compared to the corresponding period in the prior year. This was primarily due to decreases ~~related to~~from performance share units ($118 million), ~~the conversion of stock-based awards previously issued~~partially offset by ~~acquired entities ($7 million) and~~increases from restricted stock units ($23 million).

Pre-tax stock-based compensation cost for the ~~nine~~six months ended ~~September~~June 30, ~~2017 decreased $15~~2021 increased $21 million compared to the corresponding period in the prior year. This was primarily due to ~~decreases~~increases related to ~~the conversion of stock-based awards previously issued by acquired entities~~restricted stock units ($2010 million) and performance share units ($~~17 million), partially offset by an increase in restricted stock units ($22~~9 million).

The implementation of the new FASB guidance for share-based payment transactions resulted in an immaterial impact to income tax benefits as of the three months and nine months ended September 30, 2017. Refer to note 2, “Accounting Changes,” for additional information.

~~As of September 30, 2017, the total~~Total unrecognized compensation cost ~~of $905 million~~ related to non-vested awards at June 30, 2021 was $1.5 billion and is expected to be recognized over a weighted-average period of approximately ~~2.6~~2.3 years.

~~There was no significant capitalized~~Capitalized stock-based compensation cost was not material at ~~September~~June 30, ~~2017~~2021 and ~~2016.~~2020.

6. ~~Segments:~~ The tables on pages 29 and 30 reflect the results of continuing operations of the company’s segments consistent with the management and measurement system utilized within the company. Performance measurement is based on operating pre-tax income from continuing operations. 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.

~~Notes to Consolidated Financial Statements — (continued)~~17. Retirement-Related Benefits:

~~SEGMENT INFORMATION~~

Cognitive Solutions &
Industry Services

Technology

Global

Services &

Cognitive

Business

Cloud

Global

Total

(Dollars in millions)

Solutions

Services

Platforms

Systems

Financing

Segments

For the three months ended September 30, 2017:

External revenue

$
4,400

$
4,093

$
8,457

$
1,721

$
427

$
19,098

Internal revenue

629

92

164

227

272

1,384

Total revenue

$
5,030

$
4,185

$
8,621

$
1,948

$
698

$
20,482

Pre-tax income from continuing operations

$
1,649

$
453

$
1,192

$
339

$
244

$
3,876

Revenue year-to-year change

2.6
%
(2.3
)%
(3.4
)%
12.3
%
(8.5
)%
(0.6
)%
Pre-tax income year-to-year change

4.8
%
(16.8
)%
(7.5
)%
149.7
%
(31.4
)%
(0.5
)%
Pre-tax income margin

32.8
%
10.8
%
13.8
%
17.4
%
34.9
%
18.9
%

For the three months ended September 30, 2016:

External revenue

$
4,235

$
4,191

$
8,748

$
1,558

$
412

$
19,145

Internal revenue

667

93

180

176

352

1,468

Total revenue

$
4,902

$
4,284

$
8,929

$
1,734

$
763

$
20,613

Pre-tax income from continuing operations

$
1,574

$
544

$
1,288

$
136

$
355

$
3,897

Pre-tax income margin

32.1
%
12.7
%
14.4
%
7.8
%
46.5
%
18.9
%

~~Reconciliations to IBM as Reported:~~

(Dollars in millions)

For the three months ended September 30:

2017

2016

Revenue:

Total reportable segments

$
20,482

$
20,613

Eliminations of internal transactions

(1,384
)
(1,468
)
Other revenue

56

81

Total consolidated revenue

$
19,153

$
19,226

Pre-tax income from continuing operations:

Total reportable segments

$
3,876

$
3,897

Amortization of acquired intangible assets

(238
)
(265
)
Acquisition-related (charges)/income

0

(4
)
Non-operating retirement-related (costs)/income

(306
)
(139
)
Eliminations of internal transactions

(126
)
(185
)
Unallocated corporate amounts

(141
)
(42
)
Total pre-tax income from continuing operations

$
3,065

$
3,263

~~Notes to Consolidated Financial Statements — (continued)~~

~~SEGMENT INFORMATION~~

Cognitive Solutions &
Industry Services

Technology

Global

Services &

Cognitive

Business

Cloud

Global

Total

(Dollars in millions)

Solutions

Services

Platforms

Systems

Financing

Segments

For the nine months ended September 30, 2017:

External revenue

$
13,021

$
12,196

$
25,079

$
4,863

$
1,246

$
56,405

Internal revenue

2,001

271

497

571

925

4,265

Total revenue

$
15,022

$
12,467

$
25,576

$
5,434

$
2,171

$
60,670

Pre-tax income from continuing operations

$
4,539

$
1,065

$
2,888

$
227

$
836

$
9,555

Revenue year-to-year change

1.4
%
(3.3
)%
(3.6
)%
(6.0
)%
(16.0
)%
(3.1
)%
Pre-tax income year-to-year change

12.4
%
(12.0
)%
2.2
%
(35.9
)%
(30.7
)%
(0.8
)%
Pre-tax income margin

30.2
%
8.5
%
11.3
%
4.2
%
38.5
%
15.7
%

For the nine months ended September 30, 2016:

External revenue

$
12,889

$
12,578

$
26,029

$
5,184

$
1,245

$
57,926

Internal revenue

1,929

310

501

594

1,340

4,673

Total revenue

$
14,818

$
12,888

$
26,530

$
5,778

$
2,585

$
62,599

Pre-tax income from continuing operations

$
4,039

$
1,210

$
2,825

$
354

$
1,208

$
9,636

Pre-tax income margin

27.3
%
9.4
%
10.6
%
6.1
%
46.7
%
15.4
%

~~Reconciliations to IBM as Reported:~~

(Dollars in millions)

For the nine months ended September 30:

2017

2016

Revenue:

Total reportable segments

$
60,670

$
62,599

Eliminations of internal transactions

(4,265
)
(4,673
)
Other revenue

192

223

Total consolidated revenue

$
56,597

$
58,149

Pre-tax income from continuing operations:

Total reportable segments

$
9,555

$
9,636

Amortization of acquired intangible assets

(731
)
(742
)
Acquisition-related (charges)/income

(19
)
(1
)
Non-operating retirement-related (costs)/income

(1,065
)
(444
)
Eliminations of internal transactions

(515
)
(873
)
Unallocated corporate amounts

(294
)
(230
)
Total pre-tax income from continuing operations

$
6,931

$
7,345

~~Notes to Consolidated Financial Statements — (continued)~~

7. ~~Equity Activity:~~

~~Reclassifications and Taxes Related to Items of Other Comprehensive Income~~

(Dollars in millions)

Before Tax

Tax (Expense)/

Net of Tax

For the three months ended September 30, 2017:

Amount

Benefit

Amount

Other comprehensive income/(loss):

Foreign currency translation adjustments

$
89

$
195

$
284

Net changes related to available-for-sale securities:

Unrealized gains/(losses) arising during the period

$
(1
)
$
1

$
0

Reclassification of (gains)/losses to other (income) and expense

0

0

0

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

$
(70
)
$
20

$
(50
)
Reclassification of (gains)/losses to:

Cost of sales

(1
)
1

(1
)
Cost of services

(20
)
8

(12
)
SG&A expense

6

(1
)
4

Other (income) and expense

(64
)
25

(39
)
Interest expense

7

(3
)
4

Total unrealized gains/(losses) on cash flow hedges

$
(143
)
$
49

$
(94
)
Retirement-related benefit plans(1):

Prior service costs/(credits)

$
0

$
0

$
0

Net (losses)/gains arising during the period

1

0

1

Curtailments and settlements

2

(1
)
1

Amortization of prior service (credits)/costs

(22
)
7

(15
)
Amortization of net (gains)/losses

733

(242
)
491

Total retirement-related benefit plans

$
713

$
(235
)
$
479

Other comprehensive income/(loss)

$
658

$
11

$
669

~~(1)~~ ~~These AOCI components are included in the computation of net periodic pension cost. (See note 8, “Retirement-Related Benefits,” for additional information.)~~

~~Notes to Consolidated Financial Statements — (continued)~~

~~Reclassifications and Taxes Related to Items of Other Comprehensive Income~~

(Dollars in millions)

Before Tax

Tax (Expense)/

Net of Tax

For the three months ended September 30, 2016:

Amount

Benefit

Amount

Other comprehensive income/(loss):

Foreign currency translation adjustments

$
(99
)
$
50

$
(49
)
Net changes related to available-for-sale securities:

Unrealized gains/(losses) arising during the period

$
(1
)
$
0

$
(1
)
Reclassification of (gains)/losses to other (income) and expense

(1
)
0

(1
)
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

$
35

$
(14
)
$
21

Reclassification of (gains)/losses to:

Cost of sales*

7

(3
)
4

Cost of services*

(3
)
1

(2
)
SG&A expense

(2
)
(1
)
(3
)
Other (income) and expense

6

(2
)
4

Interest expense

7

(3
)
4

Total unrealized gains/(losses) on cash flow hedges

$
50

$
(22
)
$
29

Retirement-related benefit plans(1):

Net (losses)/gains arising during the period

$
11

$
(5
)
$
6

Curtailments and settlements

4

(1
)
3

Amortization of prior service (credits)/costs

(28
)
9

(19
)
Amortization of net (gains)/losses

696

(225
)
471

Total retirement-related benefit plans

$
683

$
(222
)
$
461

Other comprehensive income/(loss)

$
632

$
(192
)
$
440

* Reclassified to conform to 2017 presentation.

~~(1)~~ ~~These AOCI components are included in the computation of net periodic pension cost. (See note 8, “Retirement-Related Benefits,” for additional information.)~~

~~Notes to Consolidated Financial Statements — (continued)~~

~~Reclassifications and Taxes Related to Items of Other Comprehensive Income~~

(Dollars in millions)

Before Tax

Tax (Expense)/

Net of Tax

For the nine months ended September 30, 2017:

Amount

Benefit

Amount

Other comprehensive income/(loss):

Foreign currency translation adjustments

$
213

$
581

$
794

Net changes related to available-for-sale securities:

Unrealized gains/(losses) arising during the period

$
2

$
0

$
1

Reclassification of (gains)/losses to other (income) and expense

1

0

0

Total net changes related to available-for-sale securities

$
2

$
0

$
2

Unrealized gains/(losses) on cash flow hedges:

Unrealized gains/(losses) arising during the period

$
(198
)
$
53

$
(146
)
Reclassification of (gains)/losses to:

Cost of sales

(23
)
6

(17
)
Cost of services

(47
)
18

(29
)
SG&A expense

(23
)
6

(17
)
Other (income) and expense

(275
)
106

(169
)
Interest expense

21

(8
)
13

Total unrealized gains/(losses) on cash flow hedges

$
(545
)
$
180

$
(365
)
Retirement-related benefit plans(1):

Prior service costs/(credits)

$
0

$
0

$
0

Net (losses)/gains arising during the period

106

(36
)
70

Curtailments and settlements

3

(1
)
2

Amortization of prior service (credits)/costs

(66
)
23

(43
)
Amortization of net (gains)/losses

2,156

(739
)
1,417

Total retirement-related benefit plans

$
2,200

$
(754
)
$
1,446

Other comprehensive income/(loss)

$
1,869

$
7

$
1,877

~~(1)~~ ~~These AOCI components are included in the computation of net periodic pension cost. (See note 8, “Retirement-Related Benefits,” for additional information.)~~

~~Notes to Consolidated Financial Statements — (continued)~~

~~Reclassifications and Taxes Related to Items of Other Comprehensive Income~~

(Dollars in millions)

Before Tax

Tax (Expense)/

Net of Tax

For the nine months ended September 30, 2016:

Amount

Benefit

Amount

Other comprehensive income/(loss):

Foreign currency translation adjustments

$
(109
)
$
411

$
303

Net changes related to available-for-sale securities:

Unrealized gains/(losses) arising during the period

$
(36
)
$
14

$
(22
)
Reclassification of (gains)/losses to other (income) and expense

36

(14
)
22

Total net changes related to available-for-sale securities

$
0

$
0

$
0

Unrealized gains/(losses) on cash flow hedges:

Unrealized gains/(losses) arising during the period

$
(221
)
$
82

$
(139
)
Reclassification of (gains)/losses to:

Cost of sales*

5

(4
)
2

Cost of services*

9

(3
)
5

SG&A expense

1

(3
)
(1
)
Other (income) and expense

(6
)
2

(4
)
Interest expense

17

(6
)
10

Total unrealized gains/(losses) on cash flow hedges

$
(195
)
$
68

$
(127
)
Retirement-related benefit plans(1):

Net (losses)/gains arising during the period

$
(57
)
$
20

$
(37
)
Curtailments and settlements

19

(7
)
12

Amortization of prior service (credits)/costs

(81
)
29

(52
)
Amortization of net (gains)/losses

2,079

(735
)
1,344

Total retirement-related benefit plans

$
1,960

$
(693
)
$
1,267

Other comprehensive income/(loss)

$
1,656

$
(213
)
$
1,442

* Reclassified to conform to 2017 presentation.

~~(1)~~ ~~These AOCI components are included in the computation of net periodic pension cost. (See note 8, “Retirement-Related Benefits,” for additional information.)~~

~~Notes to Consolidated Financial Statements — (continued)~~

~~Accumulated Other Comprehensive Income/(Loss) (net of tax)~~

Net Change

Net Unrealized

Net Unrealized

Foreign

Retirement-

Gains/(Losses)

Accumulated

Gains/(Losses)

Currency

Related

on Available-

Other

on Cash Flow

Translation

Benefit

For-Sale

Comprehensive

(Dollars in millions)

Hedges

Adjustments*

Plans

Securities

Income/(Loss)

January 1, 2017

$
319

$
(3,603
)
$
(26,116
)
$
2

$
(29,398
)
Other comprehensive income before reclassifications

(146
)
794

72

1

721

Amount reclassified from accumulated other comprehensive income

(219
)
0

1,374

0

1,155

Total change for the period

(365
)
794

1,446

2

1,877

September 30, 2017

$
(46
)
$
(2,809
)
$
(24,670
)
$
4

$
(27,521
)

* Foreign currency translation adjustments are presented gross except for any associated hedges which are presented net of tax.

Net Change

Net Unrealized

Net Unrealized

Foreign

Retirement-

Gains/(Losses)

Accumulated

Gains/(Losses)

Currency

Related

on Available-

Other

on Cash Flow

Translation

Benefit

For-Sale

Comprehensive

(Dollars in millions)

Hedges

Adjustments*

Plans

Securities

Income/(Loss)

January 1, 2016

$
100

$
(3,463
)
$
(26,248
)
$
5

$
(29,607
)
Other comprehensive income before reclassifications

(139
)
303

(25
)
(22
)
117

Amount reclassified from accumulated other comprehensive income

12

0

1,292

22

1,326

Total change for the period

(127
)
303

1,267

0

1,442

September 30, 2016

$
(28
)
$
(3,161
)
$
(24,981
)
$
4

$
(28,164
)

* Foreign currency translation adjustments are presented gross except for any associated hedges which are presented net of tax.

8. ~~Retirement-Related Benefits:~~The company offers defined benefit pension plans, defined contribution pension plans, as well as nonpension postretirement plans primarily consisting of retiree medical benefits. The following tables provide the pre-tax cost for all retirement-related plans.

					Yr. to Yr.

											Yr. to Yr.
(Dollars in millions)					Percent						Percent
For the three months ended September 30:	2017		2016		Change
Retirement-related plans — cost
For the three months ended June 30:							2021		2020		Change
Retirement-related plans — cost:
Defined benefit and contribution pension plans — cost	$	592	$	421	40.6	%	$	653	$	596	9.6	%
Nonpension postretirement plans — cost	61		64		(5.9	)		45		50	(10.4)
Total	$	653	$	486	34.4	%	$	698	$	645	8.1	%

					Yr. to Yr.

											Yr. to Yr.
(Dollars in millions)					Percent						Percent
For the nine months ended September 30:	2017		2016		Change
Retirement-related plans — cost
For the six months ended June 30:							2021		2020		Change
Retirement-related plans — cost:
Defined benefit and contribution pension plans — cost	$	1,915	$	1,315	45.6	%	$	1,325	$	1,179	12.4	%
Nonpension postretirement plans — cost	182		185		(1.6	)		89		102	(12.5)
Total	$	2,097	$	1,500	39.8	%	$	1,414	$	1,281	10.4	%

Table of Contents

Notes to Consolidated Financial Statements — (continued)

The following tables provide the components of the cost/(income) for the company’s pension plans.

Cost/(Income) of Pension Plans

(Dollars in millions)

U.S. Plans

Non-U.S. Plans

For the three months ended September 30:

2017

2016

2017

2016

Service cost

$
—

$
—

$
106

$
108

Interest cost

478

512

215

257

Expected return on plan assets

(753
)
(922
)
(340
)
(468
)
Amortization of prior service costs/(credits)

4

3

(25
)
(28
)
Recognized actuarial losses

334

328

387

357

Curtailments and settlements

—

—

2

4

Multi-employer plans/other

—

—

(74
)
8

Total net periodic pension (income)/cost of defined benefit plans

63

(79
)
271

239

Cost of defined contribution plans

156

159

102

103

Total defined benefit and contribution plans cost recognized in the Consolidated Statement of Earnings

$
219

$
79

$
373

$
342


(Dollars in millions)	U.S. Plans				Non-U.S. Plans
For the three months ended June 30:	2021		2020		2021		2020
Service cost	$	—	$	—	$	95	$	95
Interest cost (1)		277		375		112		137
Expected return on plan assets (1)		(451)		(542)		(291)		(311)
Amortization of prior service costs/(credits) (1)		4		4		(4)		(5)
Recognized actuarial losses (1)		249		207		370		340
Curtailments and settlements (1)		—		—		16		13
Multi-employer plans		—		—		7		7
Other costs/(credits) (1)		—		—		3		9
Total net periodic pension (income)/cost of defined benefit plans	$	80	$	44	$	308	$	284
Cost of defined contribution plans		151		154		114		113
Total defined benefit and contribution pension plans cost recognized in the Consolidated Income Statement	$	231	$	198	$	422	$	397

(Dollars in millions)

U.S. Plans

Non-U.S. Plans

For the nine months ended September 30:

2017

2016

2017

2016

Service cost

$
—

$
—

$
308

$
318

Interest cost

1,435

1,536

622

787

Expected return on plan assets

(2,260
)
(2,767
)
(985
)
(1,419
)
Amortization of prior service costs/(credits)

12

8

(73
)
(79
)
Recognized actuarial losses

1,003

985

1,120

1,062

Curtailments and settlements

—

—

3

19

Multi-employer plan/other

—

—

(46
)
64

Total net periodic pension (income)/cost of defined benefit plans

190

(238
)
950

751

Cost of defined contribution plans

475

484

301

318

Total defined benefit and contribution plans cost recognized in the Consolidated Statement of Earnings

$
665

$
246

$
1,250

$
1,069

~~On October 12, 2012, the High Court~~


(Dollars in millions)	U.S. Plans				Non-U.S. Plans
For the six months ended June 30:	2021		2020		2021		2020
Service cost	$	—	$	—	$	187	$	190
Interest cost (1)		555		750		223		266
Expected return on plan assets (1)		(901)		(1,084)		(581)		(620)
Amortization of prior service costs/(credits) (1)		8		8		(6)		(9)
Recognized actuarial losses (1)		498		415		745		682
Curtailments and settlements (1)		—		—		34		21
Multi-employer plans		—		—		15		14
Other costs/(credits) (1)		—		—		15		14
Total net periodic pension (income)/cost of defined benefit plans	$	160	$	89	$	630	$	559
Cost of defined contribution plans		302		309		234		223
Total defined benefit and contribution pension plans cost recognized in the Consolidated Income Statement	$	462	$	398	$	864	$	782

(1) These components of net periodic pension cost are included in ~~London issued a ruling against IBM United Kingdom Limited~~other (income) and IBM United Kingdom Holdings Limited, both wholly-owned subsidiaries of the company, in litigation involving one of IBM UK’s defined benefit plans. As a result of the ruling, the company recorded a pre-tax retirement-related obligation of $162 million in the fourth quarter of 2012 in selling, general and administrative expense in the Consolidated ~~Statement~~Income Statement.

Table of Earnings. As a result of the final Court of Appeal ruling received in August 2017, the company adjusted its obligation under the plan. This adjustment resulted in a gain of $91 million recorded in selling, general and administrative expense in the Consolidated Statement of Earnings for the three and nine months ended September 30, 2017. This gain is reflected in “Non-U.S. Plans - Multi-employer plans/other” in the tables above. See note 12, “Contingencies” for additional information.Contents

In March 2017, the company initiated a change to the investment strategy of its U.S. defined benefit plan. The 2017 target asset allocation was modified by reducing equity securities from 20 percent to 12 percent, increasing debt securities from 70 percent to 79 percent and other investments largely remained unchanged at 10 percent of total plan assets. This change was designed to reduce the risk associated with the potential negative impact that equity markets might have on the funded status of the U.S. defined benefit plan. The change is expected to reduce the 2018 expected long-term rate of return on assets from 5.75 percent to approximately 5.25 percent. See note S, “Retirement-Related Benefits,” on page 144 in the company’s 2016 Annual Report for additional information regarding the company’s investment strategy.

Notes to Consolidated Financial Statements — (continued)

In 2017, the company expects to contribute approximately $400 million to its non-U.S. defined benefit and multi-employer plans, the largest of which will be contributed to the defined benefit pension plans in Japan, Spain and the UK. This amount generally represents the legally mandated minimum contribution. Total contributions to the non-U.S. plans in the first nine months of 2017 were $301 million, of which $124 million was in cash and $176 million in U.S. Treasury securities. Total net contributions to the non-U.S. plans in the first nine months of 2016 were $261 million, of which $97 million was in cash and $164 million in U.S. Treasury securities. The contribution of U.S. Treasury securities is considered a non-cash transaction in the Consolidated Statement of Cash Flows.

The following tables provide the components of the ~~cost/(income)~~cost for the company’s nonpension postretirement plans.

~~Cost of Nonpension Postretirement Plans~~Pre-Swap Borrowing

(Dollars in millions)

U.S. Plan

Non-U.S. Plans

For the three months ended September 30:

2017

2016

2017

2016

Service cost

$
4

$
4

$
1

$
1

Interest cost

38

41

14

15

Expected return on plan assets

—

—

(2
)
(2
)
Amortization of prior service costs/(credits)

(2
)
(2
)
0

(1
)
Recognized actuarial losses

5

5

2

2

Curtailments and settlements

—

—

0

0

Total nonpension postretirement plan cost recognized in Consolidated Statement of Earnings

$
45

$
49

$
16

$
16

(Dollars in millions)

U.S. Plan

Non-U.S. Plans

For the nine months ended September 30:

2017

2016

2017

2016

Service cost

$
11

$
13

$
4

$
4

Interest cost

115

124

43

37

Expected return on plan assets

—

—

(6
)
(5
)
Amortization of prior service costs/(credits)

(6
)
(6
)
0

(4
)
Recognized actuarial losses

15

15

5

7

Curtailments and settlements

—

—

0

0

Total nonpension postretirement plan cost recognized in Consolidated Statement of Earnings

$
135

$
146

$
47

$
39


		Balance		Balance
(Dollars in millions)	Maturities	6/30/2021		12/31/2020
U.S. dollar debt (weighted-average interest rate at June 30, 2021):*
0.8%	2021	$	1,117	$	5,499
2.6%	2022		5,696		6,233
3.4%	2023		1,600		2,395
3.3%	2024		5,021		5,029
6.8%	2025		621		631
3.3%	2026		4,505		4,370
3.0%	2027		2,222		2,219
6.5%	2028		313		313
3.5%	2029		3,250		3,250
2.0%	2030		1,350		1,350
5.9%	2032		600		600
8.0%	2038		83		83
4.5%	2039		2,745		2,745
2.9%	2040		650		650
4.0%	2042		1,107		1,107
7.0%	2045		27		27
4.7%	2046		650		650
4.3%	2049		3,000		3,000
3.0%	2050		750		750
7.1%	2096		316		316
		$	35,624	$	41,218
Other currencies (weighted-average interest rate at June 30, 2021, in parentheses):*
Euro (1.1%)	2021–2040	$	17,797	$	18,355
Pound sterling (2.6%)	2022		414		411
Japanese yen (0.3%)	2022–2026		1,311		1,409
Other (5.9%)	2021–2025		306		324
		$	55,452	$	61,718
Finance lease obligations (1.4%)	2021–2030		349		296
		$	55,800	$	62,013
Less: net unamortized discount			860		875
Less: net unamortized debt issuance costs			142		156
Add: fair value adjustment**			342		426
		$	55,140	$	61,408
Less: current maturities			6,406		7,053
Total		$	48,735	$	54,355

* Includes notes, debentures, bank loans and secured borrowings.

The ~~company contributed $259 million in U.S. Treasury securities to the U.S. nonpension postretirement benefit plan during the nine months ended September 30, 2017, and $200 million in U.S. Treasury~~company’s indenture governing its debt securities and ~~$40 million in cash during the nine months ended September 30, 2016. The contribution of U.S. Treasury securities is considered a non-cash transaction in the Consolidated Statement of Cash Flows.~~

9. ~~Acquisitions/Divestitures:~~

~~Acquisitions:~~ ~~During the nine months ended September 30, 2017,~~its various credit facilities each contain significant covenants which obligate the company ~~completed four acquisitions at an~~to promptly pay principal and interest, limit the aggregate ~~cost~~amount of ~~$128 million.~~

~~The Technology Services & Cloud Platforms segment completed acquisitions~~secured indebtedness and sale and leaseback transactions to 10 percent of three businesses: in the first quarter, Agile 3 Solutions, LLC (Agile 3 Solutions), 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. (Cloudigo), a privately held business. The Cognitive Solutions segment completed the acquisition of one privately held business: in the second quarter, XCC Web Content & Custom Apps Extension (XCC) from TIMETOACT Software & Consulting GmbH.

~~Each acquisition is expected to enhance~~ the company’s ~~portfolio of product~~consolidated net tangible assets, and services capabilities. Agile 3 Solutions is a developer of software used by C-Suite and senior executives to better visualize, understand and manage risks associated with the protection of sensitive data and adds capabilities torestrict the company’s ~~security portfolio.~~ability to merge or consolidate unless certain conditions are met. The ~~acquisition~~credit facilities also include

Table of the cloud and managed hosting services business strengthens the company’s services portfolio and aligns with its cloud strategy. Cloudigo brings talent and technology that aligns closely with the company’s cloud platform investments in advancedContents

Notes to Consolidated Financial Statements — (continued)

~~network processing. XCC’s technology enhances IBM’s Connections Cloud platform by providing a single, accessible engagement center for sharing content.~~The company is in compliance with its 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.

~~Purchase price consideration for all acquisitions as reflected~~In the first quarter of 2020, the company issued an aggregate of $4.1 billion of Euro fixed-rate notes and the proceeds were primarily used to early redeem outstanding fixed-rate debt which was due in 2021 in the ~~following table, was paid in cash. All acquisitions are reported in the Consolidated Statement~~aggregate amount of ~~Cash Flows net of acquired cash and cash equivalents.~~

$2.9 billion. The ~~following table reflects the purchase~~notes were redeemed at a price ~~related~~equal to ~~these acquisitions and the resulting purchase price allocations as of September 30, 2017.~~

Amortization

Total

(Dollars in millions)

Life (in yrs.)

Acquisitions

Current assets

$
18

Fixed assets/noncurrent assets

69

Intangible assets:

Goodwill

N/A

16

Completed technology

5

9

Client relationships

7

62

Patents/trademarks

1-5

1

Total assets acquired

175

Current liabilities

(47
)
Total liabilities assumed

(47
)
Total purchase price

$
128

~~N/A - not applicable~~

The acquisitions were accounted for as business combinations using the acquisition method, and accordingly, the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the acquired entity were recorded at their estimated fair values at the date of acquisition. The primary items that generated the goodwill are the value of the synergies between the acquired businesses and IBM and the acquired assembled workforce, neither of which qualify as an amortizable intangible asset.

The overall weighted-average life of the identified amortizable intangible assets acquired is 6.6 years. These identified intangible assets will be amortized on a straight-line basis over their useful lives. Goodwill of $13 million has been assigned to the Technology Services & Cloud Platforms segment and goodwill of $3 million has been assigned to the Cognitive Solutions segment. It is expected that approximately 50 percent of the goodwill will be deductible for tax purposes. Each of the acquisitions was for 100 percent of the ~~acquired businesses.~~aggregate principal plus a make-whole premium and accrued interest. The company incurred a loss of $49 million upon redemption that was recorded in other (income) and expense in the Consolidated Income Statement.

Pre-swap annual contractual obligations of long-term debt outstanding at June 30, 2021, were as follows:


(Dollars in millions)
At June 30, 2021:	Total
Remainder of 2021	$	2,470
2022		6,862
2023		5,016
2024		6,498
2025		4,219
Thereafter		30,734
Total	$	55,800

Interest on Debt


(Dollars in millions)
For the six months ended June 30:	2021		2020
Cost of financing	$	210	$	237
Interest expense		562		649
Interest capitalized		3		5
Total interest paid and accrued	$	775	$	891

Lines of Credit

On ~~October 4, 2017,~~June 22, 2021, the company ~~announced~~entered into a new $2.5 billion Three-Year Credit Agreement and $7.5 billion Five-Year Credit Agreement to replace the existing $2.5 billion Three-Year and $10.25 billion Five-Year Credit Agreements. The maturity dates for the new Three-Year and Five-Year Credit Agreements (the Credit Agreements) are June 21, 2024, and June 22, 2026, respectively. The Credit Agreements permit the company and its ~~intent~~subsidiary borrowers to ~~acquire Vivant Digital (Vivant),~~borrow up to $10 billion on a ~~boutique digital and innovation agency. The acquisition extends~~revolving basis. In connection with entering into the ~~strategy and design expertise of IBM Interactive Experience (IBM iX) and will help accelerate clients’ digital transformations. The transaction is expected~~Credit Agreements, the company also terminated its $2.5 billion 364-Day Credit Agreement scheduled to ~~close in the fourth quarter of 2017 and the business will be integrated within the GBS segment.~~

~~Divestitures:~~

~~Microelectronics —~~ On October 20, 2014, IBM and GLOBALFOUNDRIES announced a definitive agreement in which GLOBALFOUNDRIES would acquire the company’s Microelectronics business, including existing semiconductor manufacturing assets and operations in East Fishkill, NY and Essex Junction, VT. The commercial OEM business acquired by GLOBALFOUNDRIES includes custom logic and specialty foundry, manufacturing and related operations. The transaction closedexpire on July 1, ~~2015.~~

~~At September 30, 2014,~~2021. Subject to certain conditions stated in the Credit Agreements, the company ~~concluded that~~may borrow, prepay and re-borrow amounts under the ~~Microelectronics business met~~Credit Agreements at any time during the ~~criteria~~term of such agreements. Funds borrowed may be used for ~~discontinued operations reporting. The disposal group constituted a component under accounting guidance. The continuing cash inflows and outflows with~~ the ~~discontinued component are related to~~general corporate purposes of the manufacturing sourcing arrangement and the transition, packaging and test services. These cash flows are not direct cash flows as they are not significant and the company has no significant continuing involvement.company.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

At June 30, 2021, there were 0 borrowings by the company, or its subsidiaries, under these credit facilities.

12. Commitments:

~~All assets~~The company’s extended lines of credit to third-party entities include unused amounts of $1.5 billion and ~~liabilities of the business, classified as held for sale~~$2.1 billion at June 30, ~~2015, were transferred~~2021 and December 31, 2020, respectively. A portion of these amounts was available to the company’s business partners to support their working capital needs. In addition, the company has committed to provide future financing to its clients in connection with client purchase agreements for $4.8 billion and $5.2 billion at ~~closing.~~June 30, 2021 and December 31, 2020, respectively. The company ~~transferred $515 million~~collectively evaluates the allowance for these arrangements using a provision methodology consistent with the portfolio of ~~net cash~~the commitments. Refer to ~~GLOBALFOUNDRIES~~note A, “Significant Accounting Policies” in the ~~third quarter~~company’s 2020 Annual Report for additional information. The allowance for these commitments is recorded in other liabilities in the Consolidated Balance Sheet and was not material at June 30, 2021.

The company has applied the guidance requiring a guarantor to disclose certain types of ~~2015. This amount included $750 million~~guarantees, even if the likelihood of ~~cash consideration, adjusted~~requiring the guarantor’s performance is remote. The following is a description of arrangements in which the company is the guarantor.

It is not possible to predict the maximum potential amount of ~~working capital~~future payments under these or similar agreements due ~~from GLOBALFOUNDRIES~~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.

Changes in the company’s warranty liability for standard warranties, which are included in other accrued expenses and liabilities and other ~~miscellaneous items. A second cash payment~~liabilities in the ~~amount of $500 million was transferred~~Consolidated Balance Sheet, and for extended warranty contracts, which are included in ~~December 2016. The remaining cash consideration of $250 million is expected to be transferred in December 2017.~~

~~Summarized financial information for discontinued operations is immaterial.~~

~~Industry Standard Server —~~ On January 23, 2014, IBM and Lenovo Group Limited (Lenovo) announced a definitive agreement in which Lenovo would acquire the company’s industry standard server portfolio (System x) for an adjusted purchase price of $2.1 billion, consisting of approximately $1.8 billion in cash, with the balance in Lenovo common stock. The stock represented less than 5 percent equity ownership in Lenovo. The company sold to Lenovo its System x, BladeCenter and Flex System blade servers and switches, x86-based Flex integrated systems, NeXtScale and iDataPlex servers and associated software, blade networking and maintenance operations. As of March 31, 2016, all Lenovo common stock was sold.

~~The initial closing was completed on October 1, 2014. A subsequent closing occurred in most other countries in which there was a large business footprint on December 31, 2014. The remaining countries closed on March 31, 2015. An assessment of the ongoing contractual terms of the transaction resulted~~deferred income in the ~~recognition of pre-tax gains of $63 million, $57 million and $13 million in 2015, 2016 and the first nine months of 2017, respectively.~~

~~Overall, the company expects to recognize a total pre-tax gain on the sale of approximately $1.6 billion~~, which does not include associated costs related to transition and performance-based costs. Net of these charges, the pre-tax gain was approximately $1.3 billion, of which the cumulative gain recorded as of September 30, 2017 is $1.2 billion. The balance of the gain is expected to be recognized in 2019 upon conclusion of the maintenance agreement.

~~Others –~~ ~~In the first quarter of 2017, the company completed one research-related divestiture. The company completed two Cognitive Solutions divestitures~~Consolidated Balance Sheet, are presented in the ~~second quarter~~following tables.

Table of 2017 and one Cognitive Solutions divestiture in the third quarter of 2017. The financial terms related to these transactions were not material. Overall, the company recognized a pre-tax gain of $25 million related to these transactions in 2017.Contents

Notes to Consolidated Financial Statements — (continued)

Standard Warranty Liability


(Dollars in millions)	2021		2020
Balance at January 1	$	83	$	113
Current period accruals		36		43
Accrual adjustments to reflect actual experience		(2)		(14)
Charges incurred		(45)		(49)
Balance at June 30	$	73	$	93

~~10.~~ ~~Intangible Assets Including Goodwill:~~Extended Warranty Liability ~~The following table details the company’s intangible asset balances by major asset class:~~

At September 30, 2017

(Dollars in millions)

Gross Carrying

Accumulated

Net Carrying

Intangible asset class

Amount

Amortization

Amount

Capitalized software

$
1,586

$
(750
)
$
835

Client relationships

2,416

(1,054
)
1,363

Completed technology

2,872

(1,562
)
1,310

Patents/trademarks

707

(267
)
440

Other*

52

(19
)
32

Total

$
7,633

$
(3,652
)
$
3,981


(Dollars in millions)	2021		2020
Balance at January 1	$	425	$	477
Revenue deferred for new extended warranty contracts		50		93
Amortization of deferred revenue		(104)		(115)
Other*		(5)		(9)
Balance at June 30	$	367	$	445
Current portion	$	184	$	216
Noncurrent portion	$	183	$	228

* Other ~~intangibles are~~ primarily ~~acquired proprietary~~consists of foreign currency translation adjustments.

13.Contingencies:

As a company with a substantial employee population and ~~non-proprietary business processes, methodologies~~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 ~~systems.~~

At December 31, 2016

(Dollars in millions)

Gross Carrying

Accumulated

Net Carrying

Intangible asset class

Amount

Amortization

Amount

Capitalized software

$
1,537

$
(661
)
$
876

Client relationships

2,831

(1,228
)
1,602

Completed technology

3,322

(1,668
)
1,654

Patents/trademarks

730

(205
)
525

Other*

46

(15
)
31

Total

$
8,466

$
(3,778
)
$
4,688

* Other intangibles are primarily acquired proprietaryproceedings that arise from time to time in the ordinary course of its business. The company is a leader in the information technology industry and, ~~non-proprietary business processes, methodologies~~as such, has been and ~~systems.~~

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. Further, given the rapidly evolving external landscape of cybersecurity, privacy and data protection laws, regulations and threat actors, the company or its clients could become subject to actions or proceedings in various jurisdictions. Also, as is typical 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 ~~net carrying~~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 ~~intangible assets decreased $707 million during~~ the ~~first nine months of 2017, primarily due~~loss can be reasonably estimated. Any recorded liabilities, including any changes to ~~intangible asset amortization, partially offset by additions resulting from capitalized software. The aggregate intangible amortization expense was $383 million and $1,161 million~~such liabilities for the ~~third~~ quarter ~~and first nine months~~ended June 30, 2021 were not material to the Consolidated Financial Statements.

In accordance with the relevant accounting guidance, the company provides disclosures of ~~2017, respectively, versus $403 million and $1,148 million~~matters for which the ~~third quarter and first nine months~~likelihood of ~~2016, respectively.~~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 ~~first nine months~~industry, and investor, customer and employee relations considerations.

Table of ~~2017, the company retired $1,255 million of fully amortized intangible assets, impacting both the gross carrying amount and accumulated amortization by this amount.~~Contents

The amortization expense for each of the five succeeding years relating to intangible assets currently recorded in the Consolidated Statement of Financial Position is estimated to be the following at September 30, 2017:

Capitalized

Acquired

(Dollars in millions)

Software

Intangibles

Total

2017 (for Q4)

$
144

$
216

$
359

2018

441

811

1,252

2019

202

671

873

2020

48

559

607

2021

—

446

446

~~The change in the goodwill balances by reportable segment, for the nine months ended September 30, 2017 and for the year ended December 31, 2016 are as follows:~~

Notes to Consolidated Financial Statements — (continued)

Foreign

Currency

Purchase

Translation

(Dollars in millions)

Balance

Goodwill

Price

And Other

Balance

Segment

01/01/17

Additions

Adjustments

Divestitures

Adjustments*

9/30/17

Cognitive Solutions

$
19,484

$
3

$
(36
)
$
(15
)
$
243

$
19,679

Global Business Services

4,607

—

4

—

186

4,797

Technology Services & Cloud Platforms

10,258

13

(3
)
—

175

10,444

Systems

1,850

—

—

—

13

1,863

Total

$
36,199

$
16

$
(36
)
$
(15
)
$
618

$
36,782

* Primarily driven by foreign currency translation.

Foreign

Currency

Purchase

Translation

(Dollars in millions)

Balance

Goodwill

Price

And Other

Balance

Segment

01/01/16

Additions

Adjustments

Divestitures

Adjustments*

12/31/16

Cognitive Solutions

$
15,621

$
3,821

$
5

$
(12
)
$
48

$
19,484

Global Business Services

4,396

303

4

(1
)
(95
)
4,607

Technology Services & Cloud Platforms

10,156

119

(12
)
(5
)
(1
)
10,258

Systems

1,848

—

(4
)
—

5

1,850

Total

$
32,021

$
4,244

$
(7
)
$
(18
)
$
(42
)
$
36,199

* Primarily driven by foreign currency translation.

~~There were no goodwill impairment losses recorded during~~With respect to certain of the ~~first nine months~~claims, suits, investigations and proceedings discussed herein, the company believes at this time that the likelihood of ~~2017~~ any material loss is remote, given, for example, the procedural status, court rulings, and/or the ~~full year~~strength of ~~2016~~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.

The following is a summary of the more significant legal matters involving the company.

~~Purchase price adjustments recorded~~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 ~~first nine months~~SCO Group, Inc. v. Novell, Inc., held a trial in March 2010. The jury found that Novell is the owner of ~~2017~~UNIX and ~~full year~~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, ~~were related to acquisitions completed~~the Federal Court ruled in favor of IBM on ~~or prior to June~~all of SCO’s remaining claims, and SCO appealed. On October 30, 2017, ~~or September 30, 2016, respectively, and were still subject~~the Tenth Circuit Court of Appeals affirmed the dismissal of all but 1 of SCO’s remaining claims, which was remanded to the ~~measurement period that ends~~Federal Court in Utah.

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.

Table of $36 million were recorded during the first nine months of 2017, with the primary drivers being deferred tax assets, other taxes payable and other current liabilities associated with the Truven Health Analytics, Inc. and The Weather Company acquisitions. Net purchase price adjustments of $7 million were recorded during 2016, with the primary drivers being deferred tax assets, accounts receivable, deferred income, inventory and other current liabilities.

Contents

~~11.~~ ~~Borrowings:~~

~~Short-Term Debt~~

At September 30,

At December 31,

(Dollars in millions)

2017

2016

Commercial paper

$
—

$
899

Short-term loans

407

375

Long-term debt — current maturities

3,892

6,239

Total

$
4,299

$
7,513

The weighted-average interest rate for commercial paper at December 31, 2016 was 0.7 percent. The weighted-average interest rate for short-term loans was 5.4 percent and 9.5 percent at September 30, 2017 and December 31, 2016, respectively.

Notes to Consolidated Financial Statements — (continued)

Table of Contents

Notes to Consolidated Financial Statements — (continued)

14. Equity Activity:

Reclassifications and Taxes Related to Items of Other Comprehensive Income


(Dollars in millions)	Before Tax		Tax (Expense)/			Net of Tax
For the three months ended June 30, 2021:	Amount		Benefit			Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	28	$	44		$	72
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	0	$	0		$	0
Reclassification of (gains)/losses to other (income) and expense		—		—			—
Total net changes related to available-for-sale securities	$	0	$	0		$	0
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	(34)	$	9		$	(26)
Reclassification of (gains)/losses to:					��
Cost of services		(7)		2			(5)
Cost of sales		10		(3)			8
Cost of financing		6		(1)			4
SG&A expense		16		(4)			12
Other (income) and expense		49		(12)			37
Interest expense		16		(4)			12
Total unrealized gains/(losses) on cash flow hedges	$	56	$	(14)		$	42
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	0	$	0		$	0
Net (losses)/gains arising during the period		2		10			11
Curtailments and settlements		16		(5)			11
Amortization of prior service (credits)/costs		1		1			1
Amortization of net (gains)/losses		643		(175)			467
Total retirement-related benefit plans	$	661	$	(170)		$	491
Other comprehensive income/(loss)	$	745	$	(140)		$	605

(1)	These accumulated other comprehensive income (AOCI) components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Table of Contents

~~Long-Term Debt~~Notes to Consolidated Financial Statements — (continued)

Reclassifications and Taxes Related to Items of Other Comprehensive Income


(Dollars in millions)	Before Tax		Tax (Expense)/		Net of Tax
For the three months ended June 30, 2020:	Amount		Benefit		Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	4	$	135	$	139
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	1	$	0	$	1
Reclassification of (gains)/losses to other (income) and expense		—		—		—
Total net changes related to available-for-sale securities	$	1	$	0	$	1
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	(36)	$	9	$	(26)
Reclassification of (gains)/losses to:
Cost of services		1		0		1
Cost of sales		(9)		3		(7)
Cost of financing		7		(2)		5
SG&A expense		(7)		2		(5)
Other (income) and expense		(70)		18		(52)
Interest expense		19		(5)		15
Total unrealized gains/(losses) on cash flow hedges	$	(94)	$	25	$	(70)
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	—	$	0	$	0
Net (losses)/gains arising during the period		57		(22)		35
Curtailments and settlements		13		(4)		9
Amortization of prior service (credits)/costs		0		1		1
Amortization of net (gains)/losses		566		(155)		411
Total retirement-related benefit plans	$	637	$	(180)	$	457
Other comprehensive income/(loss)	$	548	$	(21)	$	527

(1)	These AOCI components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Reclassifications and Taxes Related to Items of Other Comprehensive Income


(Dollars in millions)	Before Tax		Tax (Expense)/		Net of Tax
For the six months ended June 30, 2021:	Amount		Benefit		Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	577	$	(184)	$	393
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	0	$	0	$	0
Reclassification of (gains)/losses to other (income) and expense		—		—		—
Total net changes related to available-for-sale securities	$	0	$	0	$	0
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	153	$	(39)	$	114
Reclassification of (gains)/losses to:
Cost of services		(21)		5		(16)
Cost of sales		32		(8)		24
Cost of financing		12		(3)		9
SG&A expense		31		(8)		23
Other (income) and expense		165		(41)		123
Interest expense		31		(8)		24
Total unrealized gains/(losses) on cash flow hedges	$	404	$	(102)	$	301
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	0	$	0	$	0
Net (losses)/gains arising during the period		22		4		25
Curtailments and settlements		34		(10)		23
Amortization of prior service (credits)/costs		4		0		4
Amortization of net (gains)/losses		1,291		(352)		938
Total retirement-related benefit plans	$	1,350	$	(359)	$	991
Other comprehensive income/(loss)	$	2,330	$	(645)	$	1,685

(1)	These AOCI components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Reclassifications and Taxes Related to Items of Other Comprehensive Income


(Dollars in millions)	Before Tax		Tax (Expense)/		Net of Tax
For the six months ended June 30, 2020:	Amount		Benefit		Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	(915)	$	13	$	(902)
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	1	$	0	$	1
Reclassification of (gains)/losses to other (income) and expense		—		—		—
Total net changes related to available-for-sale securities	$	1	$	0	$	1
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	(216)	$	55	$	(162)
Reclassification of (gains)/losses to:
Cost of services		(9)		2		(6)
Cost of sales		(18)		5		(13)
Cost of financing		15		(4)		11
SG&A expense		(17)		4		(13)
Other (income) and expense		19		(5)		15
Interest expense		41		(10)		31
Total unrealized gains/(losses) on cash flow hedges	$	(184)	$	47	$	(137)
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	(4)	$	1	$	(3)
Net (losses)/gains arising during the period		65		(24)		41
Curtailments and settlements		21		(6)		15
Amortization of prior service (credits)/costs		1		1		2
Amortization of net (gains)/losses		1,136		(312)		824
Total retirement-related benefit plans	$	1,219	$	(341)	$	879
Other comprehensive income/(loss)	$	121	$	(281)	$	(160)

(1)	These AOCI components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Accumulated Other Comprehensive Income/(Loss) (net of tax)


					Net Change		Net Unrealized
	Net Unrealized		Foreign		Retirement-		Gains/(Losses)		Accumulated
	Gains/(Losses)		Currency		Related		on Available-		Other
	on Cash Flow		Translation		Benefit		For-Sale		Comprehensive
(Dollars in millions)	Hedges		Adjustments*		Plans		Securities		Income/(Loss)
January 1, 2021	$	(456)	$	(4,665)	$	(24,216)	$	0	$	(29,337)
Other comprehensive income before reclassifications		114		393		25		0		532
Amount reclassified from accumulated other comprehensive income		187		—		966		—		1,153
Total change for the period	$	301	$	393	$	991	$	0	$	1,685
June 30, 2021	$	(155)	$	(4,271)	$	(23,225)	$	(1)	$	(27,652)

* Foreign currency translation adjustments are presented gross except for any associated hedges which are presented net of tax.

Table of Contents

Notes to Consolidated Financial Statements — (continued)


					Net Change		Net Unrealized
	Net Unrealized		Foreign		Retirement-		Gains/(Losses)		Accumulated
	Gains/(Losses)		Currency		Related		on Available-		Other
	on Cash Flow		Translation		Benefit		For-Sale		Comprehensive
(Dollars in millions)	Hedges		Adjustments*		Plans		Securities		Income/(Loss)
January 1, 2020	$	(179)	$	(3,700)	$	(24,718)	$	0	$	(28,597)
Other comprehensive income before reclassifications		(162)		(902)		38		1		(1,025)
Amount reclassified from accumulated other comprehensive income		25		—		841		—		866
Total change for the period	$	(137)	$	(902)	$	879	$	1	$	(160)
June 30, 2020	$	(316)	$	(4,602)	$	(23,839)	$	1	$	(28,757)

*Foreign currency translation adjustments are presented gross except for any associated hedges which are presented net of tax.

15. Derivative Financial Instruments:

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. NaN amount was recognized for the right to reclaim cash collateral and $4 million was recognized as the obligation to return cash collateral at June 30, 2021. NaN amounts were recognized for the right to reclaim or the obligation to return cash collateral at December 31, 2020. The company restricts the use of cash collateral received to rehypothecation, and therefore reports it in restricted cash in the Consolidated Balance Sheet. NaN amount was rehypothecated at June 30, 2021 and December 31, 2020. Additionally, if derivative exposures covered by a qualifying master netting agreement had been netted in the Consolidated Balance Sheet at June 30, 2021 and December 31, 2020, the total derivative asset and liability positions each would have been reduced by $105 million and $213 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 June 30, 2021 and December 31, 2020, the total notional amount of the company’s interest-rate

Table of Contents

Notes to Consolidated Financial Statements — (continued)

swaps was $0.4 billion and $3.0 billion, respectively. In the first quarter of 2021, in addition to the scheduled swap maturities, the company terminated $1.25 billion of interest-rate swaps concurrent with the early redemption of the underlying hedged fixed-rate debt. The weighted-average remaining maturity of these instruments at June 30, 2021 and December 31, 2020 was approximately 1.7 years and 1.2 years, respectively. These interest-rate contracts were accounted for as fair value hedges. The company did 0t have any cash flow hedges relating to this program outstanding at June 30, 2021 and December 31, 2020.

Forecasted Debt Issuance

In connection with cash flow hedges of forecasted interest payments related to the company's borrowings, the company recorded net losses of $166 million and $174 million (before taxes) at June 30, 2021 and December 31, 2020, respectively, in AOCI. The company estimates that $18 million (before taxes) of the deferred net losses on derivatives in AOCI at June 30, 2021 will be reclassified to net income within the next 12 months, providing an offsetting economic impact against the underlying interest payments.

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. At June 30, 2021 and December 31, 2020, the carrying value of debt designated as hedging instruments was $15.8 billion and $16.4 billion, respectively. The company also uses cross-currency swaps and foreign exchange forward contracts for this risk management purpose. At June 30, 2021 and December 31, 2020, the total notional amount of derivative instruments designated as net investment hedges was $7.9 billion and $7.2 billion, respectively. At June 30, 2021 and December 31, 2020, the weighted-average remaining maturity of these instruments was approximately 0.1 years and 0.3 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 remaining length of time over which the company hedged its exposure is approximately three years. At June 30, 2021 and December 31, 2020, the total notional amount of forward contracts designated as cash flow hedges of forecasted royalty and cost transactions was $7.0 billion and $8.0 billion, respectively. At June 30, 2021 and December 31, 2020, the weighted-average remaining maturity of these instruments was approximately 0.7 years at both periods.

At June 30, 2021 and December 31, 2020, in connection with cash flow hedges of anticipated royalties and cost transactions, the company recorded net gains of $170 million and net losses of $192 million (before taxes), respectively, in AOCI. The company estimates that $94 million (before taxes) of deferred net gains on derivatives in AOCI at June 30, 2021 will be reclassified to net income within the next 12 months, providing an offsetting economic impact against the underlying anticipated transactions.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

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. At June 30, 2021, the maximum length of time remaining over which the company hedged its exposure is approximately seven years. At June 30, 2021 and December 31, 2020, the total notional amount of cross-currency swaps designated as cash flow hedges of foreign currency denominated debt was $1.5 billion at both periods.

In connection with cash flow hedges of foreign currency denominated borrowings, the company recorded net losses of $203 million and $236 million (before taxes) at June 30, 2021 and December 31, 2020, respectively, in AOCI. The company estimates that $25 million (before taxes) of deferred net losses on derivatives in AOCI at June 30, 2021 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 June 30, 2021 and December 31, 2020, the total notional amount of derivative instruments in economic hedges of foreign currency exposure was $4.9 billion and $6.8 billion, respectively.

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 June 30, 2021 and December 31, 2020, the total notional amount of derivative instruments in economic hedges of these compensation obligations was $1.4 billion and $1.3 billion, respectively.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Cumulative Basis Adjustments for Fair Value Hedges

At June 30, 2021 and December 31, 2020, the following amounts were recorded in the Consolidated Balance Sheet related to cumulative basis adjustments for fair value hedges:


	June 30,		December 31,
(Dollars in millions)	2021		2020
Short-term debt:
Carrying amount of the hedged item	$	—	$	(1,302)
Cumulative hedging adjustments included in the carrying amount — assets/(liabilities)		—		(2)
Long-term debt:
Carrying amount of the hedged item	$	(767)	$	(2,097)
Cumulative hedging adjustments included in the carrying amount — assets/(liabilities)*		(342)		(424)

* Includes ($327) million and ($353) million of hedging adjustments on discontinued hedging relationships at June 30, 2021 and December 31, 2020, 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:


					Gains/(Losses) of
(Dollars in millions)	Total				Total Hedge Activity
For the three months ended June 30:	2021		2020		2021		2020
Cost of services	$	7,871	$	7,520	$	7	$	(1)
Cost of sales		1,694		1,739		(10)		9
Cost of financing		176		165		0		2
SG&A expense		5,334		5,248		67		157
Other (income) and expense		315		179		(79)		92
Interest expense		281		323		(1)		7

Table of Contents

Notes to Consolidated Financial Statements — (continued)


	Gain (Loss) Recognized in Consolidated Income Statement
	Consolidated	Recognized on				Attributable to Risk
(Dollars in millions)	Income Statement	Derivatives				Being Hedged (2)
For the three months ended June 30:	Line Item	2021		2020		2021		2020
Derivative instruments in fair value hedges (1):
Interest rate contracts	Cost of financing	$	0	$	3	$	4	$	3
	Interest expense		0		8		11		8
Derivative instruments not designated as hedging instruments:
Foreign exchange contracts	Other (income) and expense		(30)		22		N/A		N/A
Equity contracts	SG&A expense		83		150		N/A		N/A
Total		$	54	$	183	$	15	$	11


	Gain (Loss) Recognized in Consolidated Income Statement and Other Comprehensive Income
(Dollars in millions)					Consolidated	Reclassified				Amounts Excluded from
For the three months	Recognized in OCI				Income Statement	from AOCI				Effectiveness Testing (3)
ended June 30:	2021		2020		Line Item	2021		2020		2021		2020
Derivative instruments in cash flow hedges:
Interest rate contracts	$	—	$	—	Cost of financing	$	(1)	$	(1)	$	—	$	—
					Interest expense		(3)		(3)		—		—
Foreign exchange contracts		(34)		(36)	Cost of services		7		(1)		—		—
					Cost of sales		(10)		9		—		—
					Cost of financing		(5)		(6)		—		—
					SG&A expense		(16)		7		—		—
					Other (income) and expense		(49)		70		—		—
					Interest expense		(12)		(16)		—		—
Instruments in net investment hedges (4):
Foreign exchange contracts		(177)		(535)	Cost of financing		—		—		1		4
					Interest expense		—		—		4		10
Total	$	(211)	$	(571)		$	(90)	$	59	$	5	$	14

(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 with the amounts recognized in OCI providing an offset to the translation of foreign subsidiaries.

N/A - not applicable


					Gains/(Losses) of
(Dollars in millions)	Total				Total Hedge Activity
For the six months ended June 30:	2021		2020		2021		2020
Cost of services	$	15,646	$	15,363	$	21	$	9
Cost of sales		3,279		3,363		(32)		18
Cost of financing		341		345		2		6
SG&A expense		10,508		11,203		101		(34)
Other (income) and expense		676		361		(239)		(9)
Interest expense		562		649		4		16

Table of Contents

Notes to Consolidated Financial Statements — (continued)


	Gain (Loss) Recognized in Consolidated Income Statement
	Consolidated	Recognized on				Attributable to Risk
(Dollars in millions)	Income Statement	Derivatives				Being Hedged (2)
For the six months ended June 30:	Line Item	2021		2020		2021		2020
Derivative instruments in fair value hedges (1):
Interest rate contracts	Cost of financing	$	0	$	21	$	11	$	(11)
	Interest expense		(1)		56		29		(29)
Derivative instruments not designated as hedging instruments:
Foreign exchange contracts	Other (income) and expense		(74)		10		N/A		N/A
Equity contracts	SG&A expense		133		(51)		N/A		N/A
Total		$	57	$	37	$	40	$	(39)


	Gain (Loss) Recognized in Consolidated Income Statement and Other Comprehensive Income
(Dollars in millions)					Consolidated	Reclassified				Amounts Excluded from
For the six months	Recognized in OCI				Income Statement	from AOCI				Effectiveness Testing (3)
ended June 30:	2021		2020		Line Item	2021		2020		2021		2020
Derivative instruments in cash flow hedges:
Interest rate contracts	$	—	$	—	Cost of financing	$	(2)	$	(2)	$	—	$	—
					Interest expense		(6)		(6)		—		—
Foreign exchange contracts		153		(216)	Cost of services		21		9		—		—
					Cost of sales		(32)		18		—		—
					Cost of financing		(9)		(13)		—		—
					SG&A expense		(31)		17		—		—
					Other (income) and expense		(165)		(19)		—		—
					Interest expense		(25)		(35)		—		—
Instruments in net investment hedges (4):
Foreign exchange contracts		730		(50)	Cost of financing		—		—		3		11
					Interest expense		—		—		8		30
Total	$	883	$	(266)		$	(251)	$	(32)	$	11	$	41

(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 with the amounts recognized in OCI providing an offset to the translation of foreign subsidiaries.

N/A - not applicable

For the three and six months ended June 30, 2021 and 2020, 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.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

16. Stock-Based Compensation:

Stock-based compensation cost is measured at grant date, based on the fair value of the award, and is recognized over the employee requisite service period. The following table presents total stock-based compensation cost included in income from continuing operations.


	Three Months Ended June 30,				Six Months Ended June 30,
(Dollars in millions)	2021		2020		2021		2020
Cost	$	41	$	40	$	82	$	67
Selling, general and administrative		152		155		275		272
Research, development and engineering		50		52		99		97
Pre-tax stock-based compensation cost	$	243	$	247	$	457	$	436
Income tax benefits		(69)		(52)		(121)		(96)
Total net stock-based compensation cost	$	175	$	196	$	336	$	340

Pre-tax stock-based compensation cost for the three months ended June 30, 2021 decreased $4 million compared to the corresponding period in the prior year. This was primarily due to decreases from performance share units ($8 million), partially offset by increases from restricted stock units ($3 million).

Pre-tax stock-based compensation cost for the six months ended June 30, 2021 increased $21 million compared to the corresponding period in the prior year. This was primarily due to increases related to restricted stock units ($10 million) and performance share units ($9 million).

Total unrecognized compensation cost related to non-vested awards at June 30, 2021 was $1.5 billion and is expected to be recognized over a weighted-average period of approximately 2.3 years.

Capitalized stock-based compensation cost was not material at June 30, 2021 and 2020.

17. Retirement-Related Benefits:

The company offers defined benefit pension plans, defined contribution pension plans, as well as nonpension postretirement plans primarily consisting of retiree medical benefits. The following tables provide the pre-tax cost for all retirement-related plans.


					Yr. to Yr.
(Dollars in millions)					Percent
For the three months ended June 30:	2021		2020		Change
Retirement-related plans — cost:
Defined benefit and contribution pension plans — cost	$	653	$	596	9.6	%
Nonpension postretirement plans — cost		45		50	(10.4)
Total	$	698	$	645	8.1	%


					Yr. to Yr.
(Dollars in millions)					Percent
For the six months ended June 30:	2021		2020		Change
Retirement-related plans — cost:
Defined benefit and contribution pension plans — cost	$	1,325	$	1,179	12.4	%
Nonpension postretirement plans — cost		89		102	(12.5)
Total	$	1,414	$	1,281	10.4	%

Table of Contents

Notes to Consolidated Financial Statements — (continued)

The following tables provide the components of the cost/(income) for the company’s pension plans.

Cost/(Income) of Pension Plans


(Dollars in millions)	U.S. Plans				Non-U.S. Plans
For the three months ended June 30:	2021		2020		2021		2020
Service cost	$	—	$	—	$	95	$	95
Interest cost (1)		277		375		112		137
Expected return on plan assets (1)		(451)		(542)		(291)		(311)
Amortization of prior service costs/(credits) (1)		4		4		(4)		(5)
Recognized actuarial losses (1)		249		207		370		340
Curtailments and settlements (1)		—		—		16		13
Multi-employer plans		—		—		7		7
Other costs/(credits) (1)		—		—		3		9
Total net periodic pension (income)/cost of defined benefit plans	$	80	$	44	$	308	$	284
Cost of defined contribution plans		151		154		114		113
Total defined benefit and contribution pension plans cost recognized in the Consolidated Income Statement	$	231	$	198	$	422	$	397


(Dollars in millions)	U.S. Plans				Non-U.S. Plans
For the six months ended June 30:	2021		2020		2021		2020
Service cost	$	—	$	—	$	187	$	190
Interest cost (1)		555		750		223		266
Expected return on plan assets (1)		(901)		(1,084)		(581)		(620)
Amortization of prior service costs/(credits) (1)		8		8		(6)		(9)
Recognized actuarial losses (1)		498		415		745		682
Curtailments and settlements (1)		—		—		34		21
Multi-employer plans		—		—		15		14
Other costs/(credits) (1)		—		—		15		14
Total net periodic pension (income)/cost of defined benefit plans	$	160	$	89	$	630	$	559
Cost of defined contribution plans		302		309		234		223
Total defined benefit and contribution pension plans cost recognized in the Consolidated Income Statement	$	462	$	398	$	864	$	782

(1) These components of net periodic pension cost are included in other (income) and expense in the Consolidated Income Statement.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

The following tables provide the components of the cost for the company’s nonpension postretirement plans.

Pre-Swap Borrowing

Balance

Balance

(Dollars in millions)

Maturities

9/30/2017

12/31/2016

U.S. dollar debt (average interest rate at September 30, 2017):*

2.7%

2017

$
2

$
5,104

3.0%

2018–2019

10,208

8,856

2.0%

2020–2021

7,416

4,941

2.4%

2022

3,492

1,901

3.4%

2023

1,529

1,500

3.6%

2024

2,000

2,000

7.0%

2025

600

600

3.5%

2026

1,350

1,350

4.7%

2027

969

469

6.5%

2028

313

313

5.9%

2032

600

600

8.0%

2038

83

83

5.6%

2039

745

745

4.0%

2042

1,107

1,107

7.0%

2045

27

27

4.7%

2046

650

650

7.1%

2096

316

316

$
31,408

$
30,563

Other currencies (average interest rate at September 30, 2017, in parentheses):*

Euros (1.5%)

2019–2029

$
10,342

$
7,122

Pound sterling (2.7%)

2020–2022

1,409

1,296

Japanese yen (0.9%)

2017–2026

1,669

1,576

Canadian (2.2%)

2017

—

373

Other (7.4%)

2018–2020

694

215

$
45,522

$
41,145

Less: net unamortized discount

833

839

Less: net unamortized debt issuance costs

99

82

Add: fair value adjustment**

627

669

$
45,218

$
40,893

Less: current maturities

3,892

6,239

Total

$
41,327

$
34,655


		Balance		Balance
(Dollars in millions)	Maturities	6/30/2021		12/31/2020
U.S. dollar debt (weighted-average interest rate at June 30, 2021):*
0.8%	2021	$	1,117	$	5,499
2.6%	2022		5,696		6,233
3.4%	2023		1,600		2,395
3.3%	2024		5,021		5,029
6.8%	2025		621		631
3.3%	2026		4,505		4,370
3.0%	2027		2,222		2,219
6.5%	2028		313		313
3.5%	2029		3,250		3,250
2.0%	2030		1,350		1,350
5.9%	2032		600		600
8.0%	2038		83		83
4.5%	2039		2,745		2,745
2.9%	2040		650		650
4.0%	2042		1,107		1,107
7.0%	2045		27		27
4.7%	2046		650		650
4.3%	2049		3,000		3,000
3.0%	2050		750		750
7.1%	2096		316		316
		$	35,624	$	41,218
Other currencies (weighted-average interest rate at June 30, 2021, in parentheses):*
Euro (1.1%)	2021–2040	$	17,797	$	18,355
Pound sterling (2.6%)	2022		414		411
Japanese yen (0.3%)	2022–2026		1,311		1,409
Other (5.9%)	2021–2025		306		324
		$	55,452	$	61,718
Finance lease obligations (1.4%)	2021–2030		349		296
		$	55,800	$	62,013
Less: net unamortized discount			860		875
Less: net unamortized debt issuance costs			142		156
Add: fair value adjustment**			342		426
		$	55,140	$	61,408
Less: current maturities			6,406		7,053
Total		$	48,735	$	54,355

*Includes notes, debentures, bank loans and secured ~~borrowings and capital lease obligations.~~borrowings.

**The portion of the company’s fixed-rate debt obligations that is hedged is reflected in the Consolidated Statement of Financial Position 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.

There are no debt securities issued and outstanding by IBM International Group Capital LLC, which is an indirect, 100 percent owned finance subsidiary of International Business Machines Corporation, the parent. Any debt securities issued by IBM International Group Capital LLC, would be fully and unconditionally guaranteed by the parent.

During the third quarter of 2017, IBM Credit LLC, a wholly owned subsidiary of the company, filed a shelf registration statement with the Securities and Exchange Commission (SEC) allowing it to offer for sale public debt securities. IBM Credit LLC issued fixed and floating rate debt securities in the aggregate amount of $3.0 billion with maturity dates ranging from 2019 to 2022. This debt is included in the long-term debt table above.

**
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.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

~~Notes to Consolidated Financial Statements — (continued)~~

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.

Pre-swap annual contractual ~~maturities~~obligations of long-term debt outstanding at ~~September~~June 30, ~~2017, are~~2021, were as follows:

(Dollars in millions)

Total

2017 (for Q4)

$
468

2018

5,140

2019

7,034

2020

6,155

2021

5,155

2022 and beyond

21,569

Total

$
45,522


(Dollars in millions)
At June 30, 2021:	Total
Remainder of 2021	$	2,470
2022		6,862
2023		5,016
2024		6,498
2025		4,219
Thereafter		30,734
Total	$	55,800

Interest on Debt


(Dollars in millions)
For the nine months ended September 30:	2017			2016
For the six months ended June 30:							2021		2020
Cost of financing	$	496		$	432		$	210	$	237
Interest expense	485			523				562		649
Net investment derivative activity	(34		)	(51		)
Interest capitalized	(1		)	3				3		5
Total interest paid and accrued	$	947		$	907		$	775	$	891

Lines of Credit

~~In 2016,~~On June 22, 2021, the company ~~increased the size of its five-year~~entered into a new $2.5 billion Three-Year Credit Agreement ~~(the “Credit Agreement”) from $10~~and $7.5 billion Five-Year Credit Agreement to replace the existing $2.5 billion Three-Year and $10.25 billion Five-Year Credit Agreements. The maturity dates for the new Three-Year and ~~extended the term by one year to November 10, 2021.~~Five-Year Credit Agreements (the Credit Agreements) are June 21, 2024, and June 22, 2026, respectively. The Credit ~~Agreement permits~~Agreements permit the company and its ~~Subsidiary Borrowers~~subsidiary borrowers to borrow up to ~~$10.25~~$10 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 the additional banks not currently party toIn connection with entering into the Credit ~~Agreement, increase the commitments under the Credit Agreement up to an additional $1.75 billion. Subject to certain terms of the Credit Agreement,~~Agreements, the company and Subsidiary Borrowers may borrow, prepay and reborrow amounts under the Credit Agreement at any time during the Credit Agreement term. Interest rates on borrowings under the Credit Agreement will be based on prevailing market interest rates, as further described in the Credit Agreement. The Credit Agreement contains 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 Agreement, are remote. As of September 30, 2017, there were no borrowings by the company, oralso terminated its ~~subsidiaries, under the Credit Agreement.~~

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.

~~On July 20, 2017, the company and IBM Credit LLC, (the Borrowers), entered into a~~ $2.5 billion 364-Day Credit Agreement ~~and a $2.5 billion Three-Year Credit Agreement (the New Credit Agreements, and together with the Credit Agreement, the Credit Facilities). IBM also entered into the Third Amendment~~scheduled to ~~its Credit Agreement. The New Credit Agreements permit the Borrowers to borrow up to an aggregate of $5 billion~~expire on ~~a revolving basis. Neither Borrower is a guarantor or co-obligor of the other Borrower under the New Credit Agreements.~~July 1, 2021. Subject to certain conditions stated in the ~~New~~ Credit Agreements, the ~~Borrowers~~company may borrow, prepay and re-borrow amounts under the ~~New~~ Credit Agreements at any time during the term of ~~the New Credit Agreements.~~such agreements. Funds borrowed may be used for the general corporate purposes of the ~~Borrowers.~~ company.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Interest rates on borrowings under the ~~New~~ Credit Agreements will be based on prevailing market interest rates, as further described in the ~~New~~ Credit Agreements. The ~~New~~ Credit Agreements contain customary representations and warranties, covenants, events of default, and indemnification provisions.

At June 30, 2021, there were 0 borrowings by the company, or its subsidiaries, under these credit facilities.

12. Commitments:

The ~~Amendment~~company’s extended lines of credit to third-party entities include unused amounts of $1.5 billion and $2.1 billion at June 30, 2021 and December 31, 2020, respectively. A portion of these amounts was available to the ~~Credit Agreement adds and restates various provisions in order~~company’s business partners to support their working capital needs. In addition, the company has committed to provide future financing to its clients in connection with client purchase agreements for $4.8 billion and $5.2 billion at June 30, 2021 and December 31, 2020, respectively. The company collectively evaluates the allowance for these arrangements using a provision methodology consistent with the portfolio of the commitments. Refer to note A, “Significant Accounting Policies” in the company’s 2020 Annual Report for additional information. The allowance for these commitments is recorded in other liabilities in the Consolidated Balance Sheet and was not material at June 30, 2021.

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 ~~opportunity~~context of contracts entered into by the company, under which the company customarily agrees to hold the party harmless against losses arising from a breach of representations and covenants related to such matters as title to the assets sold, certain intellectual property 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 ~~2018~~the particular contract, the procedures of which typically allow the company to ~~request that~~challenge the ~~lenders extend~~other party’s claims. While indemnification provisions typically do not include a contractual maximum on the ~~termination date~~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 ~~Credit Agreement to July 20, 2023.~~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.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Standard Warranty Liability


(Dollars in millions)	2021		2020
Balance at January 1	$	83	$	113
Current period accruals		36		43
Accrual adjustments to reflect actual experience		(2)		(14)
Charges incurred		(45)		(49)
Balance at June 30	$	73	$	93

Extended Warranty Liability


(Dollars in millions)	2021		2020
Balance at January 1	$	425	$	477
Revenue deferred for new extended warranty contracts		50		93
Amortization of deferred revenue		(104)		(115)
Other*		(5)		(9)
Balance at June 30	$	367	$	445
Current portion	$	184	$	216
Noncurrent portion	$	183	$	228

* Other primarily consists of foreign currency translation adjustments.

13.Contingencies:

~~12.~~ ~~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. Further, given the rapidly evolving external landscape of cybersecurity, privacy and data protection laws, regulations and threat actors, the company or its clients could become subject to actions or proceedings in various jurisdictions. Also, as is typical 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 quarter ended ~~September~~June 30, ~~2017~~2021 were not material to the Consolidated Financial Statements.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

The following is a summary of the more significant legal matters involving the company.

~~Notes to Consolidated Financial Statements — (continued)~~

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~~1 of SCO’s remaining claims, which was remanded to the Federal Court in Utah.

On May 13, 2010, IBM and the State of Indiana (acting on behalf of the Indiana Family and Social Services Administration) sued one another in a dispute over a 2006 contract regarding the modernization of social service program processing in Indiana. After six weeks of trial, on July 18, 2012, the Indiana Superior Court in Marion County rejected the State’s claims in their entirety and awarded IBM $52 million plus interest and costs. On February 13, 2014, the Indiana Court of Appeals reversed portions of the trial judge’s findings, found IBM in material breach, and ordered the case remanded to the trial judge to determine the State’s damages, if any. The Indiana Court of Appeals also affirmed approximately $50 million of the trial court’s award of damages to IBM. On March 22, 2016, the Indiana Supreme Court affirmed the outcome of the Indiana Court of Appeals and remanded the case to the Indiana Superior Court. On August 7, 2017, the Indiana Superior Court awarded the State $128 million, which it then offset against IBM’s previously affirmed award of $50 million, resulting in a $78 million award to the State, plus interest. IBM appealed to the Indiana Court of Appeals and the matter remains pending.

~~On October 29, 2013, Bridgestone Americas, Inc. (Bridgestone)~~In December 2017, CIS General Insurance Limited (CISGIL) sued IBM UK regarding a ~~2009~~ contract for the implementation of an SAP-based, enterprise-wide order management system. IBM counterclaimed against Bridgestone and its parent, Bridgestone Corp. The case is pending in the Middle District of Tennessee.

~~On April 16, 2014, Iusacell SA de C.V. (Iusacell) sued IBM, claiming that IBM made fraudulent misrepresentations that induced Iusacell to enter~~entered into an agreement with IBM Mexico. Iusacell claimed damages for lost profits. Iusacell’s complaint related to a contractual dispute in Mexico, which was the subject of a pending arbitration proceeding in Mexico initiated by IBM ~~Mexico against Iusacell~~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. In February 2021, the ~~underlying agreement. On August 31, 2017, the parties entered into an agreement releasing all claims against each other, resolving both the lawsuit and the arbitration proceeding.~~

~~IBM United Kingdom Limited (IBM UK) initiated legal proceedings in May 2010 before the High~~Technology & Construction Court in London ~~against~~rejected the ~~IBM UK Pensions Trust (the UK Trust)~~majority of CISGIL’s claims and ~~two representative beneficiaries of the UK Trust membership. IBM UK sought a declaration that it acted lawfully both~~ruled in ~~notifying the Trustee of the UK Trust that it was closing~~IBM’s favor on its UK defined benefit plans to future accruals for most participants and in implementing the company’s new retirement policy. In April 2014, the High Court acknowledged that the changes made to its UK defined benefit plans were within IBM’s discretion, but ruled that IBM breached its implied duty of good faith both in implementing these changes and in the manner in which it consulted with employees. Proceedings to determine remedies were held in July 2014, and in February 2015 the High Court held that forcounterclaim. The court’s decision required IBM to make changes to accruals under the plan would require a new consultation of the participants, but other changes (including to early retirement policy) would not require such consultation. IBM UK appealed both the breachpay approximately $20 million in damages, plus interest and ~~remedies judgments. In August 2017, the Appeal Court reversed the High Court, holding that IBM UK~~litigation costs. CISGIL was ~~not in breach of its implied duties of good faith and that the changes made to the plans were lawful. The time~~granted permission to appeal ~~has expired~~ and the matter is now pending at the Court of Appeal ~~Court judgment is final. In addition, IBM UK is a defendant~~ in ~~approximately 290 individual actions brought since early 2010 by participants~~London.

Table of ~~the defined benefits plans who left IBM UK. These actions, which allege constructive dismissal and age discrimination, are pending before the Employment Tribunal in Southampton UK.~~Contents

In early 2012, IBM notified the SEC of an investigation by the Polish Central Anti-Corruption Bureau involving allegations of illegal activity by a former IBM Poland employee in connection with sales to the Polish government. IBM cooperated with the SEC and Polish authorities in this matter. In April 2013, IBM learned that the U.S. Department of Justice (DOJ) was also investigating allegations related to the Poland matter, as well as allegations relating to transactions in Argentina, Bangladesh and Ukraine. The DOJ was seeking information regarding the company’s global FCPA compliance program and its public sector business. The company cooperated with the DOJ in this matter. In June 2017, the DOJ and the SEC each informed IBM that based on the information to date, they closed their respective investigations into these matters without pursuing any enforcement action against the company.

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”). The company,

Notes to Consolidated Financial Statements — (continued)

~~management’s Retirement Plans Committee,~~On June 8, 2021, IBM sued GlobalFoundries U.S. Inc. (GF) in New York State Supreme Court for claims including fraud and three current or former IBM executives were named as defendants. On September 7, 2016, the Court granted the company’s motion to dismiss the plaintiffs’ claims. On October 21, 2016, the plaintiffs filed an amended complaint, dropping the company as a defendant. On September 29, 2017, the Court granted the defendants’ motion to dismiss. Plaintiffs have filed a noticebreach of ~~appeal to the Second Circuit Court of Appeals and the matter remains pending.~~

~~In August 2015, IBM learned that the SEC is conducting an investigation~~contract relating to ~~revenue recognition with respect~~a long-term strategic relationship between IBM and GF for researching, developing, and manufacturing advanced semiconductor chips for IBM. GF walked away from its obligations and IBM is now suing to ~~the accounting treatment of certain transactions in the U.S., UK~~recover amounts paid to GF, and ~~Ireland. The company is cooperating with the SEC in this matter.~~other compensatory and punitive damages, totaling more than $1.5 billion.

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 ~~$1.1 billion.~~$700 million. The company believes it will prevail on these matters and that this amount is not a meaningful indicator of liability.

Table of Contents

~~13.~~ ~~Commitments:~~ The company’s extended lines of credit to third-party entities include unused amounts of $8,016 million and $6,542 million at September 30, 2017 and December 31, 2016, respectively. A portion of these amounts was available to the company’s business partners to support their working capital needs. In addition, the company has committed to provide future financing to its clients in connection with client purchase agreements for approximately $3,063 million and $2,463 million at September 30, 2017 and December 31, 2016, respectively.

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 party harmless against losses arising from a breach of representations and covenants related to such matters as title to the assets sold, certain intellectual property (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.

In addition, the company guarantees certain loans and financial commitments. The maximum potential future payment under these financial guarantees was $21 million and $34 million at September 30, 2017 and December 31, 2016, respectively. The fair value of the guarantees recognized in the Consolidated Statement of Financial Position is not material.

Notes to Consolidated Financial Statements — (continued)

~~Changes in the company’s warranty liability for standard warranties and deferred income for extended warranty are presented in the following tables.~~

~~Standard Warranty Liability~~

(Dollars in millions)

2017

2016

Balance at January 1

$
156

$
181

Current period accruals

107

107

Accrual adjustments to reflect actual experience

(3
)
4

Charges incurred

(126
)
(132
)
Balance at September 30

$
134

$
160

~~Extended Warranty Liability~~

(Dollars in millions)

2017

2016

Aggregate deferred revenue at January 1

$
531

$
538

Revenue deferred for new extended warranty contracts

175

176

Amortization of deferred revenue

(198
)
(198
)
Other*

24

12

Aggregate deferred revenue at September 30

$
533

$
528

Current portion

$
258

$
287

Noncurrent portion

$
275

$
241

* Other primarily consists of foreign currency translation adjustments.

14. Equity Activity:

Reclassifications and Taxes Related to Items of Other Comprehensive Income


(Dollars in millions)	Before Tax		Tax (Expense)/			Net of Tax
For the three months ended June 30, 2021:	Amount		Benefit			Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	28	$	44		$	72
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	0	$	0		$	0
Reclassification of (gains)/losses to other (income) and expense		—		—			—
Total net changes related to available-for-sale securities	$	0	$	0		$	0
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	(34)	$	9		$	(26)
Reclassification of (gains)/losses to:					��
Cost of services		(7)		2			(5)
Cost of sales		10		(3)			8
Cost of financing		6		(1)			4
SG&A expense		16		(4)			12
Other (income) and expense		49		(12)			37
Interest expense		16		(4)			12
Total unrealized gains/(losses) on cash flow hedges	$	56	$	(14)		$	42
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	0	$	0		$	0
Net (losses)/gains arising during the period		2		10			11
Curtailments and settlements		16		(5)			11
Amortization of prior service (credits)/costs		1		1			1
Amortization of net (gains)/losses		643		(175)			467
Total retirement-related benefit plans	$	661	$	(170)		$	491
Other comprehensive income/(loss)	$	745	$	(140)		$	605

(1)	These accumulated other comprehensive income (AOCI) components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

~~14.~~

~~Earnings Per Share of Common Stock:~~ ~~The following tables provide the computation of basic and diluted earnings per share of common stock for the three and nine months ended September 30, 2017 and 2016.~~

For the Three Months Ended

September 30, 2017

September 30, 2016

Number of shares on which basic earnings per share is calculated:

Weighted-average shares outstanding during period

929,437,441

953,995,828

Add — Incremental shares under stock-based compensation plans

2,236,234

2,357,365

Add — Incremental shares associated with contingently issuable shares

1,553,754

964,091

Number of shares on which diluted earnings per share is calculated

933,227,429

957,317,284

Income from continuing operations (millions)

$
2,726

$
2,854

Loss from discontinued operations, net of tax (millions)

0

(1
)
Net income on which basic earnings per share is calculated (millions)

$
2,726

$
2,853

Income from continuing operations (millions)

$
2,726

$
2,854

Net income applicable to contingently issuable shares (millions)

0

—

Income from continuing operations on which diluted earnings per share is calculated (millions)

$
2,726

$
2,854

Loss from discontinued operations, net of tax, on which basic and diluted earnings per share is calculated (millions)

0

(1
)
Net income on which diluted earnings per share is calculated (millions)

$
2,726

$
2,853

Earnings/(loss) per share of common stock:

Assuming dilution

Continuing operations

$
2.92

$
2.98

Discontinued operations

0.00

0.00

Total

$
2.92

$
2.98

Basic

Continuing operations

$
2.93

$
2.99

Discontinued operations

0.00

0.00

Total

$
2.93

$
2.99

Stock options to purchase 399,844 shares and 29,033 shares were outstanding as of September 30, 2017 and 2016, respectively, but were not included in the computation of diluted earnings per share because the options’ exercise price during the respective period was greater than the average market price of the common shares, and, therefore, the effect would have been antidilutive.

Reclassifications and Taxes Related to Items of Other Comprehensive Income


(Dollars in millions)	Before Tax		Tax (Expense)/		Net of Tax
For the three months ended June 30, 2020:	Amount		Benefit		Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	4	$	135	$	139
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	1	$	0	$	1
Reclassification of (gains)/losses to other (income) and expense		—		—		—
Total net changes related to available-for-sale securities	$	1	$	0	$	1
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	(36)	$	9	$	(26)
Reclassification of (gains)/losses to:
Cost of services		1		0		1
Cost of sales		(9)		3		(7)
Cost of financing		7		(2)		5
SG&A expense		(7)		2		(5)
Other (income) and expense		(70)		18		(52)
Interest expense		19		(5)		15
Total unrealized gains/(losses) on cash flow hedges	$	(94)	$	25	$	(70)
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	—	$	0	$	0
Net (losses)/gains arising during the period		57		(22)		35
Curtailments and settlements		13		(4)		9
Amortization of prior service (credits)/costs		0		1		1
Amortization of net (gains)/losses		566		(155)		411
Total retirement-related benefit plans	$	637	$	(180)	$	457
Other comprehensive income/(loss)	$	548	$	(21)	$	527

(1)	These AOCI components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Reclassifications and Taxes Related to Items of Other Comprehensive Income

For the Nine Months Ended

September 30, 2017

September 30, 2016

Number of shares on which basic earnings per share is calculated:

Weighted-average shares outstanding during period

935,600,777

957,693,385

Add — Incremental shares under stock compensation plans

3,213,758

2,258,854

Add — Incremental shares associated with contingently issuable shares

1,394,930

771,943

Number of shares on which diluted earnings per share is calculated

940,209,466

960,724,182

Income from continuing operations (millions)

$
6,811

$
7,375

Loss from discontinued operations, net of tax (millions)

(3
)
(4
)
Net income on which basic earnings per share is calculated (millions)

$
6,807

$
7,371

Income from continuing operations (millions)

$
6,811

$
7,375

Net income applicable to contingently issuable shares (millions)

(2
)
—

Income from continuing operations on which diluted earnings per share is calculated (millions)

$
6,809

$
7,375

Loss from discontinued operations, net of tax, on which basic and diluted earnings per share is calculated (millions)

(3
)
(4
)
Net income on which diluted earnings per share is calculated (millions)

$
6,806

$
7,371

Earnings/(loss) per share of common stock:

Assuming dilution

Continuing operations

$
7.24

$
7.67

Discontinued operations

0.00

0.00

Total

$
7.24

$
7.67

Basic

Continuing operations

$
7.28

$
7.70

Discontinued operations

0.00

0.00

Total

$
7.28

$
7.70


(Dollars in millions)	Before Tax		Tax (Expense)/		Net of Tax
For the six months ended June 30, 2021:	Amount		Benefit		Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	577	$	(184)	$	393
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	0	$	0	$	0
Reclassification of (gains)/losses to other (income) and expense		—		—		—
Total net changes related to available-for-sale securities	$	0	$	0	$	0
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	153	$	(39)	$	114
Reclassification of (gains)/losses to:
Cost of services		(21)		5		(16)
Cost of sales		32		(8)		24
Cost of financing		12		(3)		9
SG&A expense		31		(8)		23
Other (income) and expense		165		(41)		123
Interest expense		31		(8)		24
Total unrealized gains/(losses) on cash flow hedges	$	404	$	(102)	$	301
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	0	$	0	$	0
Net (losses)/gains arising during the period		22		4		25
Curtailments and settlements		34		(10)		23
Amortization of prior service (credits)/costs		4		0		4
Amortization of net (gains)/losses		1,291		(352)		938
Total retirement-related benefit plans	$	1,350	$	(359)	$	991
Other comprehensive income/(loss)	$	2,330	$	(645)	$	1,685

(1)	These AOCI components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Table of Contents

~~Stock options~~Notes to ~~purchase 146,795 shares~~Consolidated Financial Statements — (continued)

Reclassifications and ~~533,089 shares (average~~Taxes Related to Items of ~~first, second~~Other Comprehensive Income


(Dollars in millions)	Before Tax		Tax (Expense)/		Net of Tax
For the six months ended June 30, 2020:	Amount		Benefit		Amount
Other comprehensive income/(loss):
Foreign currency translation adjustments	$	(915)	$	13	$	(902)
Net changes related to available-for-sale securities:
Unrealized gains/(losses) arising during the period	$	1	$	0	$	1
Reclassification of (gains)/losses to other (income) and expense		—		—		—
Total net changes related to available-for-sale securities	$	1	$	0	$	1
Unrealized gains/(losses) on cash flow hedges:
Unrealized gains/(losses) arising during the period	$	(216)	$	55	$	(162)
Reclassification of (gains)/losses to:
Cost of services		(9)		2		(6)
Cost of sales		(18)		5		(13)
Cost of financing		15		(4)		11
SG&A expense		(17)		4		(13)
Other (income) and expense		19		(5)		15
Interest expense		41		(10)		31
Total unrealized gains/(losses) on cash flow hedges	$	(184)	$	47	$	(137)
Retirement-related benefit plans (1):
Prior service costs/(credits)	$	(4)	$	1	$	(3)
Net (losses)/gains arising during the period		65		(24)		41
Curtailments and settlements		21		(6)		15
Amortization of prior service (credits)/costs		1		1		2
Amortization of net (gains)/losses		1,136		(312)		824
Total retirement-related benefit plans	$	1,219	$	(341)	$	879
Other comprehensive income/(loss)	$	121	$	(281)	$	(160)

(1)	These AOCI components are included in the computation of net periodic pension cost. Refer to note 17, “Retirement-Related Benefits,” for additional information.

Accumulated Other Comprehensive Income/(Loss) (net of tax)


					Net Change		Net Unrealized
	Net Unrealized		Foreign		Retirement-		Gains/(Losses)		Accumulated
	Gains/(Losses)		Currency		Related		on Available-		Other
	on Cash Flow		Translation		Benefit		For-Sale		Comprehensive
(Dollars in millions)	Hedges		Adjustments*		Plans		Securities		Income/(Loss)
January 1, 2021	$	(456)	$	(4,665)	$	(24,216)	$	0	$	(29,337)
Other comprehensive income before reclassifications		114		393		25		0		532
Amount reclassified from accumulated other comprehensive income		187		—		966		—		1,153
Total change for the period	$	301	$	393	$	991	$	0	$	1,685
June 30, 2021	$	(155)	$	(4,271)	$	(23,225)	$	(1)	$	(27,652)

* Foreign currency translation adjustments are presented gross except for any associated hedges which are presented net of tax.

Table of Contents

Notes to Consolidated Financial Statements — (continued)


					Net Change		Net Unrealized
	Net Unrealized		Foreign		Retirement-		Gains/(Losses)		Accumulated
	Gains/(Losses)		Currency		Related		on Available-		Other
	on Cash Flow		Translation		Benefit		For-Sale		Comprehensive
(Dollars in millions)	Hedges		Adjustments*		Plans		Securities		Income/(Loss)
January 1, 2020	$	(179)	$	(3,700)	$	(24,718)	$	0	$	(28,597)
Other comprehensive income before reclassifications		(162)		(902)		38		1		(1,025)
Amount reclassified from accumulated other comprehensive income		25		—		841		—		866
Total change for the period	$	(137)	$	(902)	$	879	$	1	$	(160)
June 30, 2020	$	(316)	$	(4,602)	$	(23,839)	$	1	$	(28,757)

*Foreign currency translation adjustments are presented gross except for any associated hedges which are presented net of tax.

15. Derivative Financial Instruments:

The company operates in multiple functional currencies and ~~third quarter share amounts) were outstanding as of September 30, 2017~~is a significant lender and ~~2016, respectively, but were not included~~borrower in the ~~computation~~global markets. In the normal course of ~~diluted earnings per share because~~business, the ~~options’ exercise~~company is exposed to the impact of interest rate changes and foreign currency fluctuations, and to a lesser extent equity and commodity price ~~during~~changes and client credit risk. The company limits these risks by following established risk management policies and procedures, including the ~~respective periods was greater than~~use of derivatives, and, where cost effective, financing with debt in the ~~average market price~~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 ~~common shares,~~related derivative instruments. NaN amount was recognized for the right to reclaim cash collateral and $4 million was recognized as the obligation to return cash collateral at June 30, 2021. NaN amounts were recognized for the right to reclaim or the obligation to return cash collateral at December 31, 2020. The company restricts the use of cash collateral received to rehypothecation, and therefore reports it in restricted cash in the ~~effect~~Consolidated Balance Sheet. NaN amount was rehypothecated at June 30, 2021 and December 31, 2020. Additionally, if derivative exposures covered by a qualifying master netting agreement had been netted in the Consolidated Balance Sheet at June 30, 2021 and December 31, 2020, the total derivative asset and liability positions each would have been ~~antidilutive.~~reduced by $105 million and $213 million, respectively.

A brief description of the major hedging programs, categorized by underlying risk, follows.

~~15.~~ 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 June 30, 2021 and December 31, 2020, the total notional amount of the company’s interest-rate

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Forecasted Debt Issuance

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. At June 30, 2021 and December 31, 2020, the carrying value of debt designated as hedging instruments was $15.8 billion and $16.4 billion, respectively. The company also uses cross-currency swaps and foreign exchange forward contracts for this risk management purpose. At June 30, 2021 and December 31, 2020, the total notional amount of derivative instruments designated as net investment hedges was $7.9 billion and $7.2 billion, respectively. At June 30, 2021 and December 31, 2020, the weighted-average remaining maturity of these instruments was approximately 0.1 years and 0.3 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 remaining length of time over which the company hedged its exposure is approximately three years. At June 30, 2021 and December 31, 2020, the total notional amount of forward contracts designated as cash flow hedges of forecasted royalty and cost transactions was $7.0 billion and $8.0 billion, respectively. At June 30, 2021 and December 31, 2020, the weighted-average remaining maturity of these instruments was approximately 0.7 years at both periods.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

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. At June 30, 2021, the maximum length of time remaining over which the company hedged its exposure is approximately seven years. At June 30, 2021 and December 31, 2020, the total notional amount of cross-currency swaps designated as cash flow hedges of foreign currency denominated debt was $1.5 billion at both periods.

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 June 30, 2021 and December 31, 2020, the total notional amount of derivative instruments in economic hedges of foreign currency exposure was $4.9 billion and $6.8 billion, respectively.

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 June 30, 2021 and December 31, 2020, the total notional amount of derivative instruments in economic hedges of these compensation obligations was $1.4 billion and $1.3 billion, respectively.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

Cumulative Basis Adjustments for Fair Value Hedges

At June 30, 2021 and December 31, 2020, the following amounts were recorded in the Consolidated Balance Sheet related to cumulative basis adjustments for fair value hedges:


	June 30,		December 31,
(Dollars in millions)	2021		2020
Short-term debt:
Carrying amount of the hedged item	$	—	$	(1,302)
Cumulative hedging adjustments included in the carrying amount — assets/(liabilities)		—		(2)
Long-term debt:
Carrying amount of the hedged item	$	(767)	$	(2,097)
Cumulative hedging adjustments included in the carrying amount — assets/(liabilities)*		(342)		(424)

* Includes ($327) million and ($353) million of hedging adjustments on discontinued hedging relationships at June 30, 2021 and December 31, 2020, respectively.

The Effect of Derivative Instruments in the Consolidated Income Statement


					Gains/(Losses) of
(Dollars in millions)	Total				Total Hedge Activity
For the three months ended June 30:	2021		2020		2021		2020
Cost of services	$	7,871	$	7,520	$	7	$	(1)
Cost of sales		1,694		1,739		(10)		9
Cost of financing		176		165		0		2
SG&A expense		5,334		5,248		67		157
Other (income) and expense		315		179		(79)		92
Interest expense		281		323		(1)		7

Table of Contents

Notes to Consolidated Financial Statements — (continued)


	Gain (Loss) Recognized in Consolidated Income Statement
	Consolidated	Recognized on				Attributable to Risk
(Dollars in millions)	Income Statement	Derivatives				Being Hedged (2)
For the three months ended June 30:	Line Item	2021		2020		2021		2020
Derivative instruments in fair value hedges (1):
Interest rate contracts	Cost of financing	$	0	$	3	$	4	$	3
	Interest expense		0		8		11		8
Derivative instruments not designated as hedging instruments:
Foreign exchange contracts	Other (income) and expense		(30)		22		N/A		N/A
Equity contracts	SG&A expense		83		150		N/A		N/A
Total		$	54	$	183	$	15	$	11


	Gain (Loss) Recognized in Consolidated Income Statement and Other Comprehensive Income
(Dollars in millions)					Consolidated	Reclassified				Amounts Excluded from
For the three months	Recognized in OCI				Income Statement	from AOCI				Effectiveness Testing (3)
ended June 30:	2021		2020		Line Item	2021		2020		2021		2020
Derivative instruments in cash flow hedges:
Interest rate contracts	$	—	$	—	Cost of financing	$	(1)	$	(1)	$	—	$	—
					Interest expense		(3)		(3)		—		—
Foreign exchange contracts		(34)		(36)	Cost of services		7		(1)		—		—
					Cost of sales		(10)		9		—		—
					Cost of financing		(5)		(6)		—		—
					SG&A expense		(16)		7		—		—
					Other (income) and expense		(49)		70		—		—
					Interest expense		(12)		(16)		—		—
Instruments in net investment hedges (4):
Foreign exchange contracts		(177)		(535)	Cost of financing		—		—		1		4
					Interest expense		—		—		4		10
Total	$	(211)	$	(571)		$	(90)	$	59	$	5	$	14

(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 with the amounts recognized in OCI providing an offset to the translation of foreign subsidiaries.

N/A - not applicable


					Gains/(Losses) of
(Dollars in millions)	Total				Total Hedge Activity
For the six months ended June 30:	2021		2020		2021		2020
Cost of services	$	15,646	$	15,363	$	21	$	9
Cost of sales		3,279		3,363		(32)		18
Cost of financing		341		345		2		6
SG&A expense		10,508		11,203		101		(34)
Other (income) and expense		676		361		(239)		(9)
Interest expense		562		649		4		16

Table of Contents

Notes to Consolidated Financial Statements — (continued)


	Gain (Loss) Recognized in Consolidated Income Statement
	Consolidated	Recognized on				Attributable to Risk
(Dollars in millions)	Income Statement	Derivatives				Being Hedged (2)
For the six months ended June 30:	Line Item	2021		2020		2021		2020
Derivative instruments in fair value hedges (1):
Interest rate contracts	Cost of financing	$	0	$	21	$	11	$	(11)
	Interest expense		(1)		56		29		(29)
Derivative instruments not designated as hedging instruments:
Foreign exchange contracts	Other (income) and expense		(74)		10		N/A		N/A
Equity contracts	SG&A expense		133		(51)		N/A		N/A
Total		$	57	$	37	$	40	$	(39)


	Gain (Loss) Recognized in Consolidated Income Statement and Other Comprehensive Income
(Dollars in millions)					Consolidated	Reclassified				Amounts Excluded from
For the six months	Recognized in OCI				Income Statement	from AOCI				Effectiveness Testing (3)
ended June 30:	2021		2020		Line Item	2021		2020		2021		2020
Derivative instruments in cash flow hedges:
Interest rate contracts	$	—	$	—	Cost of financing	$	(2)	$	(2)	$	—	$	—
					Interest expense		(6)		(6)		—		—
Foreign exchange contracts		153		(216)	Cost of services		21		9		—		—
					Cost of sales		(32)		18		—		—
					Cost of financing		(9)		(13)		—		—
					SG&A expense		(31)		17		—		—
					Other (income) and expense		(165)		(19)		—		—
					Interest expense		(25)		(35)		—		—
Instruments in net investment hedges (4):
Foreign exchange contracts		730		(50)	Cost of financing		—		—		3		11
					Interest expense		—		—		8		30
Total	$	883	$	(266)		$	(251)	$	(32)	$	11	$	41

(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 with the amounts recognized in OCI providing an offset to the translation of foreign subsidiaries.

N/A - not applicable

Table of Contents

Notes to Consolidated Financial Statements — (continued)

16. Stock-Based Compensation:


	Three Months Ended June 30,				Six Months Ended June 30,
(Dollars in millions)	2021		2020		2021		2020
Cost	$	41	$	40	$	82	$	67
Selling, general and administrative		152		155		275		272
Research, development and engineering		50		52		99		97
Pre-tax stock-based compensation cost	$	243	$	247	$	457	$	436
Income tax benefits		(69)		(52)		(121)		(96)
Total net stock-based compensation cost	$	175	$	196	$	336	$	340

Total unrecognized compensation cost related to non-vested awards at June 30, 2021 was $1.5 billion and is expected to be recognized over a weighted-average period of approximately 2.3 years.

Capitalized stock-based compensation cost was not material at June 30, 2021 and 2020.

17. Retirement-Related Benefits:


					Yr. to Yr.
(Dollars in millions)					Percent
For the three months ended June 30:	2021		2020		Change
Retirement-related plans — cost:
Defined benefit and contribution pension plans — cost	$	653	$	596	9.6	%
Nonpension postretirement plans — cost		45		50	(10.4)
Total	$	698	$	645	8.1	%


					Yr. to Yr.
(Dollars in millions)					Percent
For the six months ended June 30:	2021		2020		Change
Retirement-related plans — cost:
Defined benefit and contribution pension plans — cost	$	1,325	$	1,179	12.4	%
Nonpension postretirement plans — cost		89		102	(12.5)
Total	$	1,414	$	1,281	10.4	%

Table of Contents

Notes to Consolidated Financial Statements — (continued)

The following tables provide the components of the cost/(income) for the company’s pension plans.

Cost/(Income) of Pension Plans


(Dollars in millions)	U.S. Plans				Non-U.S. Plans
For the three months ended June 30:	2021		2020		2021		2020
Service cost	$	—	$	—	$	95	$	95
Interest cost (1)		277		375		112		137
Expected return on plan assets (1)		(451)		(542)		(291)		(311)
Amortization of prior service costs/(credits) (1)		4		4		(4)		(5)
Recognized actuarial losses (1)		249		207		370		340
Curtailments and settlements (1)		—		—		16		13
Multi-employer plans		—		—		7		7
Other costs/(credits) (1)		—		—		3		9
Total net periodic pension (income)/cost of defined benefit plans	$	80	$	44	$	308	$	284
Cost of defined contribution plans		151		154		114		113
Total defined benefit and contribution pension plans cost recognized in the Consolidated Income Statement	$	231	$	198	$	422	$	397


(Dollars in millions)	U.S. Plans				Non-U.S. Plans
For the six months ended June 30:	2021		2020		2021		2020
Service cost	$	—	$	—	$	187	$	190
Interest cost (1)		555		750		223		266
Expected return on plan assets (1)		(901)		(1,084)		(581)		(620)
Amortization of prior service costs/(credits) (1)		8		8		(6)		(9)
Recognized actuarial losses (1)		498		415		745		682
Curtailments and settlements (1)		—		—		34		21
Multi-employer plans		—		—		15		14
Other costs/(credits) (1)		—		—		15		14
Total net periodic pension (income)/cost of defined benefit plans	$	160	$	89	$	630	$	559
Cost of defined contribution plans		302		309		234		223
Total defined benefit and contribution pension plans cost recognized in the Consolidated Income Statement	$	462	$	398	$	864	$	782

(1) These components of net periodic pension cost are included in other (income) and expense in the Consolidated Income Statement.

Table of Contents

Notes to Consolidated Financial Statements — (continued)

The following tables provide the components of the cost for the company’s nonpension postretirement plans.

Cost of Nonpension Postretirement Plans


(Dollars in millions)	U.S. Plan				Non-U.S. Plans
For the three months ended June 30:	2021		2020		2021		2020
Service cost	$	2	$	2	$	1	$	1
Interest cost (1)		16		26		8		8
Expected return on plan assets (1)		—		—		(1)		(1)
Amortization of prior service costs/(credits) (1)		1		1		0		0
Recognized actuarial losses (1)		13		7		4		5
Curtailments and settlements (1)		—		—		0		—
Total nonpension postretirement plans cost recognized in the Consolidated Income Statement	$	32	$	36	$	13	$	14


(Dollars in millions)	U.S. Plan				Non-U.S. Plans
For the six months ended June 30:	2021		2020		2021		2020
Service cost	$	4	$	4	$	2	$	3
Interest cost (1)		32		51		16		18
Expected return on plan assets (1)		—		—		(2)		(2)
Amortization of prior service costs/(credits) (1)		2		2		0		0
Recognized actuarial losses (1)		26		15		8		11
Curtailments and settlements (1)		—		—		0		0
Total nonpension postretirement plans cost recognized in Consolidated Income Statement	$	64	$	72	$	25	$	29

(1) These components of net periodic pension cost are included in other (income) and expense in the Consolidated Income Statement.

The company does not anticipate any significant changes to the expected plan contributions in 2021 from the amounts disclosed in the 2020 Annual Report.

The table below includes contributions to the following plans:



(Dollars in millions)	Plan Contributions
For the six months ended June 30:		2021	2020
U.S. nonpension postretirement benefit plan	$	191	$	200
Non-U.S. DB and multi-employer plans *		46		111
Total plan contributions	$	237	$	311

* Amounts reported net of refunds.

During the six months ended June 30, 2021 and 2020, the company contributed $235 million and $250 million of U.S. Treasury Securities, respectively, to the non-U.S. DB plans and U.S. nonpension postretirement benefit plans. Additionally, during the six months ended June 30, 2021 and 2020, the company contributed $249 million and $160 million in U.S. Treasury securities, respectively, to the Active Medical Trust. Contributions made with U.S. Treasury securities are considered a non-cash transaction.

18. Subsequent Events:

On ~~October 31, 2017,~~July 27, 2021, the company announced that the Board of Directors approved a quarterly dividend of ~~$1.50~~$1.64 per common share. The dividend is payable ~~December 9, 2017~~September 10, 2021 to shareholders of record on ~~November~~August 10, ~~2017.~~2021.

~~On October 31, 2017, the company announced that the Board~~47

Table of ~~Directors authorized $3.0 billion in additional funds for use in the company’s stock repurchase program.~~Contents

Item 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS

OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION

FOR THE THREE AND ~~NINE~~SIX MONTHS ENDED ~~SEPTEMBER~~JUNE 30, ~~2017~~2021

Snapshot

~~Snapshot~~

Financial Results Summary — Three Months Ended ~~September~~June 30:

Yr. to Yr.

Percent/

(Dollars and shares in millions except per share amounts)

Margin

For the three months ended September 30:

2017

2016

Change

Revenue

$
19,153

$
19,226

(0.4
)%*
Gross profit margin

45.9
%
46.9
%
(0.9
)pts.
Total expense and other (income)

$
5,735

$
5,751

(0.3
)%
Total expense and other (income)-to-revenue ratio

29.9
%
29.9
%
0.0
pts.
Income from continuing operations, before income taxes

$
3,065

$
3,263

(6.1
)%
Provision for income taxes from continuing operations

$
339

$
409

(17.1
)%
Income from continuing operations

$
2,726

$
2,854

(4.5
)%
Income from continuing operations margin

14.2
%
14.8
%
(0.6
)pts.
Loss from discontinued operations, net of tax

$
0

$
(1
)
(79.3
)%
Net income

$
2,726

$
2,853

(4.5
)%
Earnings per share from continuing operations:

Assuming dilution

$
2.92

$
2.98

(2.0
)%
Basic

$
2.93

$
2.99

(2.0
)%
Consolidated earnings per share - assuming dilution

$
2.92

$
2.98

(2.0
)%
Weighted-average shares outstanding:

Assuming dilution

933.2

957.3

(2.5
)%
Basic

929.4

954.0

(2.6
)%


							Yr. to Yr.
							Percent/
(Dollars and shares in millions except per share amounts)							Margin
For the three months ended June 30:	2021			2020			Change
Revenue	$	18,745		$	18,123		3.4	%*
Gross profit margin		48.0	%		48.0	%	0.0	pts.
Total expense and other (income)	$	7,451		$	7,129		4.5	%
Income from continuing operations before income taxes	$	1,552		$	1,571		(1.2)	%
Provision for income taxes from continuing operations	$	227		$	209		8.8	%
Income from continuing operations	$	1,325		$	1,362		(2.7)	%
Income from continuing operations margin		7.1	%		7.5	%	(0.4)	pts.
Net income	$	1,325		$	1,361		(2.7)	%
Earnings per share from continuing operations - assuming dilution	$	1.47		$	1.52		(3.3)	%
Weighted-average shares outstanding - assuming dilution		904.2			894.9		1.0	%

* ~~(1.0)~~(0.6) percent adjusted for currency; (0.5) percent excluding divested businesses and adjusted for currency.

Organization of Information:

InOn October ~~2014,~~8, 2020, we announced our plan to separate our managed infrastructure services unit of our Global Technology Services (GTS) segment into a new public company. The managed infrastructure services unit is comprised of outsourcing and other infrastructure modernization and management services, and the ~~company announced a definitive agreement to divest its Microelectronics business and manufacturing operations. The operating results~~name of the ~~Microelectronics business are reported~~new company will be Kyndryl. The separation is expected to be achieved through a U.S. federal tax-free spin-off to IBM shareholders and completed by the end of 2021. It will be subject to customary market, regulatory and other closing conditions, including final IBM Board of Directors’ approval. The announcement did not have any classification impact to our Consolidated Financial Statements or segment reporting. We will report Kyndryl as discontinued ~~operations. The transaction closed on July 1, 2015.~~operations after separation.

Currency:

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 ~~the company refers~~we refer to growth rates at constant currency or ~~adjusts~~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 ~~its~~ business performance. Financial results adjusted for currency are calculated by translating current period activity in local currency using the comparable ~~prior year~~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~~Refer to “Currency Rate Fluctuations” ~~on page 81~~ for additional information.

Revenue Adjusted for Divested Businesses and Constant Currency:

To provide better transparency on the recurring performance of the ongoing business, the company provides total revenue, geographic revenue and cloud revenue growth rates excluding divested businesses and at constant currency. These divested businesses are included in the category “Other–divested businesses.”

Table of Contents

Management Discussion —– (continued)

Operating (non-GAAP) Earnings:

In an effort to provide better transparency into the operational results of the business, ~~the company~~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, discontinued operations and certain Kyndryl separation-related charges 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 include true-ups, accounting elections and any changes to regulations, laws, audit adjustments, etc. that affect the recorded one-time charge. Management also characterizes direct and incremental charges incurred to accomplish the Kyndryl separation as non-operating given their unique and non-recurring nature. These charges primarily relate to transaction and third-party support costs, business separation and applicable employee retention fees, pension settlement charges and related tax charges. All other spending for Kyndryl is included in both earnings from continuing operations and in operating (non-GAAP) earnings. 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, ~~and~~ tax charges related to acquisition ~~integration.~~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 ~~dependent on~~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, ~~& Analysis,~~ the impact of acquisitions over the prior 12-month period may be a driver of higher ~~expenses~~expense year to year. For retirement-related costs, ~~the company~~management characterizes certain items as operating and others as ~~non-operating. The company includes~~non-operating, consistent with GAAP. We include defined benefit plan and nonpension postretirement benefit plan service ~~cost, amortization of prior service cost~~costs, multi-employer plan costs and the cost of defined contribution plans in operating earnings. Non-operating retirement-related ~~cost includes~~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 plan curtailments/settlements and ~~multi-employer plan costs,~~ 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, ~~the company~~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 ~~comparisons~~comparison to peer companies; and allows the company to provide a long-term strategic view of the business going forward. ~~The company’s~~Our reportable segment financial results reflect pre-tax operating earnings from continuing operations, consistent with ~~the company’s~~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.

Table of Contents

Management Discussion – (continued)

The following table provides the company’s operating (non-GAAP) ~~operating~~ earnings for the ~~third~~second quarter of ~~2017~~2021 and ~~2016.~~2020.

Yr. to Yr.

(Dollars in millions except per share amounts)

Percent

For the three months ended September 30:

2017

2016

Change

Net income as reported

$
2,726

$
2,853

(4.5
)%
Loss from discontinued operations, net of tax

0

(1
)
(79.3
)
Income from continuing operations

$
2,726

$
2,854

(4.5
)%
Non-operating adjustments (net of tax):

Acquisition-related charges

159

197

(19.1
)
Non-operating retirement-related costs/(income)

193

99

96.1

Operating (non-GAAP) earnings*

$
3,079

$
3,149

(2.2
)%
Diluted operating (non-GAAP) earnings per share

$
3.30

$
3.29

0.3
%


					Yr. to Yr.
(Dollars in millions except per share amounts)					Percent
For the three months ended June 30:	2021		2020		Change
Net income as reported	$	1,325	$	1,361	(2.7)	%
Income/(loss) from discontinued operations, net of tax		—		(1)	(100.0)
Income from continuing operations	$	1,325	$	1,362	(2.7)	%
Non-operating adjustments (net of tax):
Acquisition-related charges	$	373	$	365	2.0	%
Non-operating retirement-related costs/(income)		261		222	17.4
U.S. tax reform impacts		14		—	nm
Separation-related charges		131		—	nm
Operating (non-GAAP) earnings*	$	2,103	$	1,949	7.9	%
Diluted operating (non-GAAP) earnings per share*	$	2.33	$	2.18	6.9	%

* ~~See~~Refer to page 8589 for a more detailed reconciliation of net income to operating ~~earnings.~~earnings and operating earnings per share.

nm - not meaningful

Separation of Kyndryl:

IBM is redefining its future as a hybrid cloud platform and AI company. The October 8, 2020 announcement of our plan to separate the managed infrastructure services unit of our GTS segment into a new public company will create two industry-leading companies, each with strategic focus and flexibility to capitalize on their respective missions and drive client and shareholder value. IBM will focus on its open hybrid cloud platform and AI capabilities to accelerate clients’ digital transformations. Upon separation, Kyndryl will immediately be the world's leading managed infrastructure services provider and will have greater agility to design, run and modernize the infrastructure of the world’s most important organizations. Both IBM and Kyndryl will have greater ability to focus on their operating and financial models, have more freedom to partner with others and both will align their investments and capital structure to their strategic focus areas. We continue to make good progress on executing the necessary financial, legal and regulatory milestones to enable the separation and remain on track to complete the separation by the end of 2021.

Environmental Dynamics:

On March 11, 2020, the World Health Organization (WHO) declared the novel coronavirus (COVID-19) a global pandemic which resulted in significant governmental measures being initiated around the globe to slow down and control the spread of the virus. The health of IBM employees, our clients, business partners and community continue to be our primary focus. We are actively engaged to ensure our plans continue to be aligned with recommendations of the WHO, the U.S. Centers for Disease Control and Prevention and governmental regulations.

This environment has only reinforced the need for clients to modernize their businesses to succeed in this new normal, with hybrid cloud and AI at the core of their digital transformations. The reliance on technology, particularly hybrid cloud and AI technologies that give clients the scalability and flexibility needed to adjust to the rapid market changes, has become more acute. We are helping to advise, build, move and manage our clients’ journey to the cloud, working with our clients to apply AI, automation and other technologies to make their workflows more intelligent and responsive and partnering with clients to help them enhance employee engagement and productivity, reskill the workforce faster and reimagine ways of working.

We expect the rate and pace of recovery from the pandemic to differ by geography and industry. However, the spending environment continues to improve and the economy is reopening in many parts of the world, such as the U.S., Canada and several countries in Western Europe. From an industry standpoint, we have seen meaningful improvement in areas most affected by the pandemic such as travel, transportation, automotive and industrial products.

Table of Contents

Management Discussion – (continued)

The underlying fundamentals of our business continue to remain sound and provide some level of stability in our revenue, profit and cash as we continue to manage through this macroeconomic uncertainty. As the world recovers from the effects of the pandemic, IBM continues to be well positioned to support our clients to emerge even stronger.

Financial Performance Summary — Three Months Ended ~~September~~June 30:

In the ~~third~~second quarter of ~~2017, the company~~2021, we reported ~~$19.2~~$18.7 billion in revenue, ~~$2.7~~$1.3 billion in income from continuing operations and ~~$3.1 billion in~~ operating (non-GAAP) earnings of $2.1 billion, resulting in diluted earnings per share from continuing operations of ~~$2.92~~$1.47 as reported and ~~$3.30~~$2.33 on an operating (non-GAAP) basis. ~~The company~~We also generated ~~$3.6~~$2.6 billion in cash from operations, ~~and $2.5~~$1.0 billion in free cash flow, which includes $0.6 billion of cash impacts from the structural actions initiated in the ~~third~~fourth quarter of ~~2017~~2020 and Kyndryl separation-related charges, and delivered shareholder returns of ~~$2.3~~$1.5 billion through dividends. These results reflect continued progress in our revenue performance, gross ~~common stock repurchases~~profit dollar expansion and ~~dividends.~~our balance sheet and liquidity position remains strong.

Total consolidated revenue decreased 0.4 percent year to year as reported and 1.0 percent adjusted for currency in the third quarter of 2017, with sequential improvement of 4.3 points as reported and 2.3 points adjusted for currency from the second-quarter year-to-year rates. The Cognitive Solutions segment and the Systems segment both had revenue growth year to year in the third quarter as reported and adjusted for currency. The year-to-year effect of currency in the third quarter (0.6 points help) improved from the second quarter impact (1.4 points hurt).

~~Management Discussion — (continued)~~

The company is embedding cloud and cognitive capabilities across the business and the strategic imperatives are a signpost of the progress being made in helping enterprise clients extract value from data and become digital businesses. In the third quarter of 2017, the company continued to deliver solid revenue growth in its strategic imperatives - cloud, analytics, mobile, security and social, which together generated $8.8 billion of revenue and grew 11increased 3.4 percent as reported and 10 percent adjusted for currency, with double-digit growth in cloud and security. Strategic imperatives growth in the third quarter largely represented organic growth as the acquisitive content has leveled on a year-to-year basis. Total Cloud revenue of $4.1 billion increased 20 percent as reportedbut was flat excluding divested businesses and adjusted for currency with as-a-Service revenue up 25 percent (24 percent adjusted for currency). The annual exit run rate for as-a-Service revenue increased to $9.4 billion in the third quarter of 2017 compared to $7.5 billion in the third quarter of 2016. Analytics revenue of $5.0 billion increased 5 percent both as reported and adjusted for currency. Mobile revenue increased 7 percent as reported and adjusted for currency and Security revenue increased 51 percent (49 percent adjusted for currency), driven by security software solutions and strong demand for the pervasive encryption capabilities in the new z14 mainframe.

From a segment perspective, in the third quarter, Cognitive Solutions revenue increased 3.9 percent as reported and 3 percent adjusted for currency with growth in Solutions Software and Transaction Processing Software as reported and adjusted for currency. Performance in the third quarter included growth in annuity revenue, including as-a-Service solutions, as well as growth in software transactional performance. Global Business Services (GBS) revenue decreased 2.3 percent as reported and 2 percent adjusted for currency, primarily driven by declines in both Application Management and Global Process Services, partially offset by growth in Consulting. The GBS business continued to shift resources and move into the high-value strategic areas of digital, cloud and analytics. GBS strategic imperatives revenue increased 10 percent (11 percent adjusted for currency) year to year. Technology Services & Cloud Platforms revenue decreased 3.3 percent as reported and 4 percent adjusted for currency, primarily driven by a decline in Infrastructure Services. However, within Technology Services & Cloud Platforms, strategic imperatives revenue was up 12 percent as reported and adjusted for currency year to year, driven by hybrid cloud services, security and mobile. Systems revenue increased 10.4 percent as reported and 10 percent adjusted for currency driven by strong contribution from the new z14 mainframe and continued growth in Storage Systems.

From a geographic perspective, Americas revenue decreased 2.0 percent (2 percent adjusted for currency) year to year, with the U.S. down 2.6 percent and Latin America down 1.5 percent (2 percent adjusted for currency). Canada was up 2.1 percent as reported, but down 2 percent adjusted for currency. Europe/Middle East/Africa (EMEA) revenue increased 2.4 percent as reported, but decreased 1 percent adjusted for currency, with growth in France, Germany and Spain and a decline in the UK. Asia Pacific revenue decreased 1.2 percent as reported, but increased 2 percent adjusted for currency. Within Asia Pacific, Japan decreased 4.0 percent as reported, but increased 4 percent adjusted for currency, and China increased 3.9 percent (4 percent adjusted for currency).

The consolidated gross profit margin of 45.9 percent decreased 0.9 points year to year driven by continued investments, mix and higher retirement-related costs, partially offset by benefits from productivity. The operating (non-GAAP) gross margin of 47.6 percent decreased 0.4 points compared to the ~~prior year driven primarily~~prior-year period. With the economy reopening in many parts of the world, the overall spend environment continues to improve, including in some industries that had been most impacted by the same factors, excluding the impact of higher non-operating retirement-related costs. The consolidated gross margin and the operating (non-GAAP) gross margin both improved 0.4 points compared to the second-quarter 2017 gross margins.

Total expense and other (income) decreased 0.3 percent in the third quarter of 2017 compared to the prior year. The year-to-year decrease was primarily the result of lower operational spending (4 points), largely offset by lower intellectual property income (4 points) and spending related to acquisitions completed in the prior 12 months. The expense dynamics reflect continued efficiency in the underlying spending offset by continued investment to build and reinvent new solutions and platforms. Total operating (non-GAAP) expense and other (income) decreased 0.8 percent year to year driven primarily by the same factors.

Pre-tax income from continuing operations of $3.1 billion in the third quarter of 2017 decreased 6.1 percent year to year and the pre-tax margin was 16.0 percent, a decrease of 1.0 points compared to the third quarter of 2016. The continuing operations effective tax rate for the third quarter of 2017 was 11.0 percent, a decrease of 1.5 points compared to the third quarter of 2016, driven by an increase in foreign tax credits, partially offset by a benefit related to tax audit activity in the prior year period. Income from continuing operations of $2.7 billion decreased 4.5 percent and the net income margin was 14.2 percent, a decrease of 0.6 points. Losses from discontinued operations, net of tax, were $0.2 million in the third quarter of 2017 and $1.0 million in the third quarter of 2016. Net income of $2.7 billion decreased 4.5 percent year to year. Operating (non-GAAP) pre-tax income from continuing operations of $3.6 billion decreased 1.7 percent year to year. Operating (non-GAAP) pre-tax margin from continuing operations decreased 0.2 points to 18.8 percent. Operating (non-GAAP) income from continuing operations of $3.1 billion decreased 2.2 percent and the operating (non-GAAP) income

~~Management Discussion — (continued)~~

margin from continuing operations of 16.1 percent decreased 0.3 points. The operating (non-GAAP) effective tax rate from continuing operations in the third quarter of 2017 was 14.7 percent versus 14.2 percent in the prior year.

Diluted earnings per share from continuing operations of $2.92 in the third quarter of 2017 decreased 2.0 percent year to year. In the third quarter of 2017, the company repurchased 6.6 million shares of its common stock at a cost of $0.9 billion and had $1.5 billion remaining in the share repurchase authorization at September 30, 2017. Operating (non-GAAP) diluted earnings per share of $3.30 increased 0.3 percent versus the third quarter of 2016.

The company generated $3.6 billion in cash flow from operating activities in the third quarter of 2017, a decrease of $0.5 billion compared to the third quarter of 2016. Net cash used in investing activities of $1.9 billion was $1.0 billion higher than the prior year, primarily driven by a reduction in cash sourced from non-operating finance receivables ($0.4 billion) and an increase in cash used from net purchases of marketable securities and other investments ($0.4 billion). Net cash used in financing activities of $2.8 billion decreased $1.4 billion compared to the prior year, primarily driven by higher net debt issuances ($1.6 billion).

In January 2017, the company disclosed that it expected GAAP earnings per share from continuing operations of at least $11.95 and operating (non-GAAP) earnings of at least $13.80 per diluted share for 2017. The company also disclosed that it expected 2017 free cash flow to be consistent with 2016. Refer to page 82 in the Liquidity and Capital Resources section for additional information on this non-GAAP measure. In October 2017, the company disclosed that it continues to maintain these expectations. Refer to the Looking Forward section on pages 80 and 81 for additional information on the company’s expectations.

~~Financial Results Summary - Nine Months Ended September 30:~~

Yr. to Yr.

Percent/

(Dollars and shares in millions except per share amounts)

Margin

For the nine months ended September 30:

2017

2016

Change

Revenue

$
56,597

$
58,149

(2.7
)%*
Gross profit margin

44.8
%
47.1
%
(2.3
)pts.
Total expense and other (income)

$
18,434

$
20,056

(8.1
)%
Total expense and other (income)-to-revenue ratio

32.6
%
34.5
%
(1.9
)pts.
Income from continuing operations, before income taxes

$
6,931

$
7,345

(5.6
)%
Provision for/(benefit from) income taxes from continuing operations

$
120

$
(31
)
nm
%
Income from continuing operations

$
6,811

$
7,375

(7.7
)%
Income from continuing operations margin

12.0
%
12.7
%
(0.6
)pts.
Loss from discontinued operations, net of tax

$
(3
)
$
(4
)
(17.5
)%
Net income

$
6,807

$
7,371

(7.6
)%
Earnings per share from continuing operations:

Assuming dilution

$
7.24

$
7.67

(5.6
)%
Basic

$
7.28

$
7.70

(5.5
)%
Consolidated earnings per share - assuming dilution

$
7.24

$
7.67

(5.6
)%
Weighted-average shares outstanding:

Assuming dilution

940.2

960.7

(2.1
)%
Basic

935.6

957.7

(2.3
)%

9/30/17

12/31/16

Assets

$
121,636

$
117,470

3.5
%
Liabilities

$
101,879

$
99,078

2.8
%
Equity

$
19,757

$
18,392

7.4
%

* (2.2) percent adjusted for currency

~~nm - not meaningful~~

~~The following table provides the company’s (non-GAAP) operating earnings for the first nine months of 2017 and 2016.~~

~~Management Discussion — (continued)~~

Yr. to Yr.

(Dollars in millions except per share amounts)

Percent

For the nine months ended September 30:

2017

2016

Change

Net income as reported

$
6,807

$
7,371

(7.6
)%
Loss from discontinued operations, net of tax

(3
)
(4
)
(17.5
)
Income from continuing operations

$
6,811

$
7,375

(7.7
)%
Non-operating adjustments (net of tax):

Acquisition-related charges

537

542

(0.7
)
Non-operating retirement-related costs/(income)

777

338

129.9

Operating (non-GAAP) earnings*

$
8,125

$
8,255

(1.6
)%
Diluted operating (non-GAAP) earnings per share

$
8.64

$
8.59

0.6
%

* See page 86 for a more detailed reconciliation of net income to operating earnings.

~~Financial Performance Summary — Nine Months Ended September 30:~~

In the first nine months of 2017, the company reported $56.6 billion in revenue, and delivered $6.8 billion in income from continuing operations, resulting in diluted earnings per share from continuing operations of $7.24 as reported and $8.64 on an operating (non-GAAP) basis. The company generated $11.0 billion in cash from operations and $6.2 billion in free cash flow in the first nine months of 2017 and shareholder returns of $7.8 billion in gross common stock repurchases and dividends.

~~Total consolidated revenue decreased 2.7 percent year to year as reported and 2.2 percent adjusted for currency in the first nine months of 2017.~~

In the first nine months of 2017, the company’s strategic imperatives revenue grew 9 percent year to year as reported and 10 percent adjusted for currency. Total Cloud revenue of $11.6 billion was up 22 percent year to year as reported and 23 percent adjusted for currency, with as-a-Service revenue up 36 percent (37 percent adjusted for currency). Analytics revenue of $14.5 billion increased 5 percent as reported and 6 percent adjusted for currency. Mobile revenue was up 17 percent year to year (19 percent adjusted for currency) and Security revenue increased 21 percent as reported and adjusted for currency.

~~From~~pandemic. On a segment ~~perspective, for the first nine months,~~basis, Cloud & Cognitive ~~Solutions revenue increased 1.0 percent as reported and 1 percent adjusted for currency. On an as reported and adjusted for currency basis, Solutions~~ Software increased ~~year to year, while Transaction Processing Software declined. GBS revenue decreased 3.0~~6.1 percent as reported and 2 percent adjusted for currency with ~~declines~~improvement in ~~Application Management , Consulting~~year-to-year growth compared to the last quarter. This performance was led by growth across both Cloud & Data Platforms and ~~Global Process Services. GBS strategic imperatives revenue increased 10~~Cognitive Applications, partially offset by a decline in Transaction Processing Platforms. Cloud & Data Platforms grew 11.5 percent ~~(11~~as reported (8 percent adjusted for currency) ~~year to year. Technology~~led by hybrid cloud platform and Cloud Pak growth. Cognitive Applications increased 11.6 percent (8 percent adjusted for currency) led by growth in Security and AI applications. Global Business Services ~~& Cloud Platforms revenue decreased 3.7~~(GBS) increased 11.6 percent as reported (7 percent adjusted for currency) as clients accelerate the rate and 3pace of their digital transformations. GBS revenue returned to pre-pandemic levels this quarter with growth across all lines of business. GTS increased 0.4 percent as reported but decreased 4 percent adjusted for currency ~~primarily~~with a modest improvement in year-to-year performance compared to the first quarter of 2021, driven by ~~Infrastructure Services which declined 4.4~~improving trends in client-based business volumes and project activity. Systems decreased 7.3 percent (4as reported (10 percent adjusted for currency) reflecting product cycle dynamics across IBM Z, Power and Storage.

Total cloud revenue of $7.0 billion in the second quarter of 2021 grew 13 percent as reported (9 percent adjusted for currency and excluding divested businesses and adjusted for currency). ~~Technology Services & Cloud Platforms strategic imperatives~~Over the trailing 12 months, total cloud revenue was $27.0 billion, up 2015 percent ~~(21~~as reported (12 percent adjusted for currency) ~~year to year, led by hybrid cloud services. Systems revenue decreased 6.2~~and 13 percent ~~as reported (6 percent~~excluding divested businesses and adjusted for ~~currency) with declines in z Systems and Power Systems, both due to product refresh cycle dynamics, partially offset by growth in Storage Systems.~~currency.

From a geographic perspective, Americas revenue ~~decreased 1.8~~grew 4.4 percent ~~(2 percent adjusted for currency)~~ year to year ~~with the U.S. down 3.0 percent, partially offset by growth in Latin America (4.5 percent~~ as reported 1(3 percent adjusted for currency). EMEA revenue decreased 4.7 percent (3 percent adjusted for currency) driven primarily by declines in the UK and Germany. Asia Pacific revenue decreased 1.9 percent (1 percent adjusted for currency), with Japan down 1.8Europe/Middle East/Africa (EMEA) increased 6.0 percent as reported but ~~up 2~~decreased 3 percent adjusted for currency. Asia Pacific declined 2.3 percent year to year as reported (5 percent adjusted for currency).

~~The~~Total consolidated gross margin of ~~44.8~~48.0 percent ~~decreased 2.3 points~~was flat year to year, ~~and reflects investments, mix and higher retirement-related costs, partially offset by benefits from productivity.~~while gross profit dollars increased 3.5 percent compared to the prior-year period. The operating (non-GAAP) gross margin of ~~46.5~~49.3 percent ~~decreased 1.7~~increased 0.3 points versus the ~~prior year primarily driven by the same factors, excluding the impact of higher non-operational retirement-related costs.~~prior-year period reflecting actions taken to streamline and simplify our operating model.

Total expense and other (income) ~~decreased $1.6~~of $7.5 billion ~~or 8.1~~increased 4.5 percent in the ~~first nine months~~second quarter of ~~2017 compared to~~2021 versus the ~~prior year.~~prior-year period. Our expense dynamics reflect a higher level of investment in innovation, skills and our ecosystem as we execute our hybrid cloud and AI strategy. We are aggressively hiring, scaling our garage footprint, increasing our research spend in areas including quantum, hybrid cloud and AI, and expanding our ecosystem. The year-to-year ~~decrease~~increase in expense was primarily the result of continued focus on efficiency in spending and reduced expenses for workforce transformation. This included a lower level of workforce rebalancing charges (4 points), a prior-year charge for real estate actions (2 points) and lower operational spending (2 points). In addition,also driven by the effects of currency, ~~(1 point) contributed to~~separation-related charges in the ~~year-to-year decline. The year-to-year decrease in expense~~current-year period, lower IP income and ~~other (income) was~~higher non-operating retirement-related costs, partially offset by

~~Management Discussion — (continued)~~

~~spending related to acquisitions (2 points) completed~~ a benefit from expected credit loss expense, lower workforce rebalancing charges and lower interest expense in the ~~prior 12 months.~~current-year period. Total operating (non-GAAP) expense and other (income) ~~decreased 9.9~~increased 2.1 percent year to year, driven primarily by the ~~same factors.~~factors above excluding separation-related charges and higher non-operating retirement-related costs.

Table of Contents

Management Discussion – (continued)

~~Pre-tax~~The pre-tax income from continuing operations of ~~$6.9~~$1.6 billion decreased ~~5.6~~1.2 percent year to year, and the pre-tax margin from continuing operations was ~~12.2~~8.3 percent, a decrease of 0.4 points. The continuing operations provision for income taxes was $0.2 billion in both the second quarter of 2021 and 2020. Net income from continuing operations of $1.3 billion decreased 2.7 percent, and the net income margin from continuing operations was 7.1 percent, a decrease of 0.4 points versus the first nine months of 2016. The continuing operations effective tax rate for the first nine months of 2017 was 1.7 percent compared to (0.4) percent in the prior year. The tax rate in the first nine months of 2017 benefitted from discrete tax items, including the first-quarter intra-entity transfer of assets ($0.6 billion) and certain second-quarter discrete items. The prior year negative tax rate was primarily the result of a refund ($1.2 billion) of previously paid non-U.S. taxes plus interest in the first quarter of 2016. Income from continuing operations of $6.8 billion decreased 7.7 percent and the net income margin was 12.0 percent, a decrease of 0.6 points compared to the first nine months of 2016. Losses from discontinued operations, net of tax, were $3.5 million in the first nine months of 2017 and $4.2 million in the prior-year period. Net income of $6.8 billion decreased 7.6 percent year to year.

Operating (non-GAAP) pre-tax income from continuing operations of ~~$8.7~~$2.5 billion increased ~~2.5~~9.3 percent year to year and the operating (non-GAAP) pre-tax margin from continuing operations increased ~~0.8~~0.7 points to ~~15.5~~13.5 percent. The operating (non-GAAP) provision for income taxes was $0.4 billion in both the second quarter of 2021 and 2020. Operating (non-GAAP) income from continuing operations of ~~$8.1~~$2.1 billion ~~decreased 1.6~~increased 7.9 percent ~~and the~~with an operating (non-GAAP) income margin from continuing operations of ~~14.4~~11.2 percent, ~~increased 0.2 points. The operating (non-GAAP) effective tax rate from continuing operations in the first nine months of 2017 was 7.1 percent versus 3.2 percent in the first nine months of 2016.~~up 0.5 points year to year.

Diluted earnings per share from continuing operations of ~~$7.24 decreased 5.6 percent year to year. In the first nine months of 2017, the company repurchased 22.9 million shares of its common stock and had $1.5 billion remaining~~$1.47 in the ~~current share repurchase authorization at September 30, 2017. Operating~~second quarter of 2021 decreased 3.3 percent and operating (non-GAAP) diluted earnings per share of ~~$8.64~~$2.33 increased ~~0.6~~6.9 percent versus the second quarter of 2020. Diluted earnings per share from continuing operations includes impacts related to the amortization of purchased intangibles assets and other acquisition-related charges, retirement-related charges, U.S. tax reform enactment impacts and Kyndryl separation-related charges. The impact of the Kyndryl separation-related charges for second-quarter 2021 was ($0.15) per share.

We generated $2.6 billion in cash flow provided by operating activities, a decrease of $1.0 billion compared to the second quarter of 2020, primarily driven by payroll tax and value-added tax payment deferrals and exemptions of $0.6 billion in the prior ~~year.~~year due to tax relief programs related to COVID-19 and a decline from accounts receivable of $0.3 billion. Net cash from operating activities includes approximately $0.5 billion of cash impacts from our structural actions initiated in the fourth quarter of 2020 and Kyndryl separation-related charges. In the second quarter of 2021, investing activities were a net use of cash of $2.7 billion, an increase of $1.4 billion compared to the prior-year period, primarily driven by an increase in cash used for acquisitions. Financing activities were a use of cash of $3.1 billion in the second quarter of 2021 compared to $1.6 billion in the second quarter of 2020. The $1.5 billion change was primarily driven by debt transactions, as we continued to deleverage in accordance with our debt maturity schedules.

Table of Contents

Management Discussion – (continued)

Financial Results Summary —Six Months Ended June 30:


							Yr. to Yr.
							Percent/
(Dollars and shares in millions except per share amounts)							Margin
For the six months ended June 30:	2021			2020			Change
Revenue	$	36,474		$	35,694		2.2	%*
Gross profit margin		47.2	%		46.6	%	0.6	pts.
Total expense and other (income)	$	14,751		$	15,101		(2.3)	%
Income from continuing operations before income taxes	$	2,457		$	1,522		61.5	%
Provision for/(benefit from) income taxes from continuing operations	$	177		$	(1,017)		nm
Income from continuing operations	$	2,281		$	2,538		(10.2)	%
Income from continuing operations margin		6.3	%		7.1	%	(0.9)	pts.
Net income	$	2,280		$	2,536		(10.1)	%
Earnings per share from continuing operations - assuming dilution	$	2.52		$	2.83		(11.0)	%
Weighted-average shares outstanding - assuming dilution		903.0			895.0		0.9	%

	At 6/30/2021			At 12/31/2020
Assets	$	146,814		$	155,971		(5.9)	%
Liabilities	$	124,747		$	135,244		(7.8)	%
Equity	$	22,067		$	20,727		6.5	%

* (1.5) percent adjusted for currency; (1.4) percent excluding divested businesses and adjusted for currency.

nm - not meaningful

The following table provides the company’s operating (non-GAAP) earnings for the first six months of 2021 and 2020.


					Yr. to Yr.
(Dollars in millions except per share amounts)					Percent
For the six months ended June 30:	2021		2020		Change
Net income as reported	$	2,280	$	2,536	(10.1)	%
Income/(loss) from discontinued operations, net of tax		(1)		(2)	(67.4)
Income from continuing operations	$	2,281	$	2,538	(10.2)	%
Non-operating adjustments (net of tax):
Acquisition-related charges	$	707	$	736	(3.9)	%
Non-operating retirement-related costs/(income)		542		472	14.8
U.S. tax reform impacts		(6)		(149)	(96.3)
Separation-related charges		177		—	nm
Operating (non-GAAP) earnings*	$	3,702	$	3,598	2.9	%
Diluted operating (non-GAAP) earnings per share*	$	4.10	$	4.02	2.0	%

* Refer to page 90 for a more detailed reconciliation of net income to operating earnings and operating earnings per share.

nm - not meaningful

Financial Performance Summary —Six Months Ended June 30:

In the first six months of 2021, we reported $36.5 billion in revenue, $2.3 billion in income from continuing operations and operating (non-GAAP) earnings of $3.7 billion, resulting in diluted earnings per share from continuing operations of $2.52 as reported and $4.10 on an operating (non-GAAP) basis. We generated $7.5 billion in cash from operations, $2.6 billion in free cash flow and delivered shareholder returns of $2.9 billion through dividends.

Total consolidated revenue increased 2.2 percent as reported but declined 1 percent excluding divested businesses and adjusted for currency. Cloud & Cognitive Software increased 5.0 percent as reported (2 percent adjusted for

Table of Contents

Management Discussion – (continued)

currency). Within this segment, Cloud & Data Platforms grew 12.2 percent as reported (9 percent adjusted for currency) with continued solid Red Hat performance led by Red Hat Enterprise Linux (RHEL) and our OpenShift hybrid cloud platform. Cognitive Applications grew 8.1 percent as reported (5 percent adjusted for currency), while Transaction Processing Platforms declined 9.3 percent as reported (13 percent adjusted for currency). GBS increased 6.8 percent as reported (3 percent adjusted for currency) with growth in Consulting and Global Process Services. Application Management increased 0.5 percent as reported, but declined 4 percent adjusted for currency. GTS decreased 0.6 percent as reported (5 percent adjusted for currency) with declines in Infrastructure & Cloud Services and Technology Support Services. Systems decreased 2.4 percent as reported (5 percent adjusted for currency) and was impacted by product cycle dynamics in the current-year period.

Total cloud revenue of $13.5 billion in the first six months of 2021 grew 17 percent as reported (13 percent adjusted for currency and excluding divested businesses and adjusted for currency).

From a geographic perspective, Americas revenue grew 2.3 percent year to year as reported (2 percent adjusted for currency). EMEA increased 4.2 percent as reported but decreased 4 percent adjusted for currency. Asia Pacific declined 0.9 percent year to year as reported (4 percent adjusted for currency).

Total consolidated gross margin of 47.2 percent increased 0.6 points year to year with margin expansion in Cloud & Cognitive Software, GTS, GBS and Systems. Operating (non-GAAP) gross margin of 48.3 percent increased 0.7 points compared to the prior-year period.

Total expense and other (income) decreased 2.3 percent in the first six months of 2021 versus the prior-year period. Our expense reflects the higher level of investment we are making in innovation, skills and our ecosystem, more than offset by lower workforce rebalancing charges, a benefit from expected credit loss expense, lower travel expense and lower interest expense in the current-year period. Expense also reflects an increase from the effects of currency, separation-related charges in the current-year period and higher non-operating retirement-related costs. Total operating (non-GAAP) expense and other (income) decreased 4.9 percent year to year, driven primarily by the factors above excluding the separation-related charges and non-operating retirement-related costs.

Pre-tax income from continuing operations of $2.5 billion increased 61.5 percent compared to the first six months of 2020. The pre-tax margin from continuing operations was 6.7 percent, an increase of 2.5 points versus the prior-year period. In the prior-year period, workforce rebalancing charges were $865 million, compared to $241 million in the current year. The continuing operations provision for income taxes in the first six months of 2021 was $0.2 billion compared to a benefit from income taxes of $1.0 billion in the first six months of 2020. The company reported a tax benefit in the first quarter of 2021, which was primarily driven by the resolution of certain tax audit matters. The prior-year benefit was primarily related to the tax impacts of an intra-entity sale of certain of the company’s intellectual property. Net income from continuing operations of $2.3 billion decreased 10.2 percent, and the net income margin from continuing operations was 6.3 percent, a decrease of 0.9 points year to year.

Operating (non-GAAP) pre-tax income from continuing operations of $4.3 billion increased 43.4 percent year to year and the operating (non-GAAP) pre-tax margin from continuing operations increased 3.4 points to 11.8 percent. These results reflect higher workforce rebalancing charges in 2020 as described above. The operating (non-GAAP) provision for income taxes was $0.6 billion in the first six months of 2021, compared to a benefit from income taxes of $0.6 billion in the first six months of 2020. The prior year operating (non-GAAP) benefit from income taxes was primarily driven by the same factor described above. Operating (non-GAAP) income from continuing operations of $3.7 billion increased 2.9 percent with an operating (non-GAAP) income margin from continuing operations of 10.1 percent.

Diluted earnings per share from continuing operations of $2.52 in the first six months of 2021 decreased 11.0 percent and operating (non-GAAP) diluted earnings per share of $4.10 increased 2.0 percent versus the first six months of 2020. Diluted earnings per share from continuing operations includes impacts related to the amortization of purchased intangibles assets and other acquisition-related charges, retirement-related charges, U.S. tax reform enactment impacts

Table of Contents

Management Discussion – (continued)

and Kyndryl separation-related charges. The impact of the Kyndryl separation-related charges for the first six months of 2021 was ($0.20) per share.

In the second quarter, we continued to take actions to further enhance our balance sheet and liquidity position. At ~~September~~June 30, ~~2017,~~2021, the balance sheet ~~remains~~remained strong ~~and~~ with the ~~newly reorganized financing entity, IBM Credit LLC, the company is better positioned~~flexibility to support and invest in the ~~business over the long term.~~business. Cash and cash equivalents, restricted cash and marketable securities at ~~quarter end~~June 30, 2021 were ~~$11.5~~$8.2 billion, ~~an increase~~a decrease of ~~$3.0~~$6.1 billion from December 31, ~~2016.~~ 2020, primarily due to debt reduction payments and acquisitions. In line with our overall debt pay down strategy, we have reduced total debt by $6.4 billion from December 31, 2020 and $17.9 billion since the second quarter of 2019 (immediately preceding the Red Hat transaction).

Key drivers in the balance sheet and total cash flows were:

Total assets ~~increased $4.2~~decreased $9.2 billion ~~(decreased $0.4~~($7.9 billion adjusted for currency) from December 31, ~~2016~~2020 driven by:

· ~~Increases~~A decrease in cash and cash equivalents, restricted cash and marketable securities of $6.1 billion ($~~3.0 billion), deferred taxes~~6.0 billion adjusted for currency); and

A decrease in financing receivables of $4.1 billion ($~~2.1 billion), retirement plan assets ($1.5 billion)~~3.9 billion adjusted for currency) primarily as a result of collections of seasonally higher year-end balances and ~~goodwill ($0.6 billion);~~sales of receivables; partially offset by

· ~~Decreases~~•An increase in ~~total receivables~~goodwill of $2.0 billion ($~~2.7 billion) and intangible assets ($0.7 billion)~~2.3 billion adjusted for currency).

Total liabilities ~~increased $2.8~~decreased $10.5 billion ~~(decreased $1.5~~($8.7 billion adjusted for currency) from December 31, ~~2016~~2020 driven by:

· ~~Increases~~A decrease in total debt of $6.4 billion ($~~3.5 billion)~~5.8 billion adjusted for currency) primarily driven by debt maturities and early retirements of $6.0 billion;

A decrease in other accrued expenses and liabilities of $1.6 billion ($1.3 billion adjusted for currency) primarily due to payments of $1.1 billion for workforce rebalancing actions;

A decrease in taxes payable of $0.8 billion ($0.7 billion adjusted for currency) primarily driven by tax payments and decline in reserves as a result of the resolution of certain tax audit matters;

A decrease in retirement and nonpension postretirement benefit obligations of $1.0 billion ($0.6 billion adjusted for currency); ~~partially offset by~~and

· ~~Decreases~~A decrease in accounts payable of $0.7 billion ($~~0.8 billion).~~0.6 billion adjusted for currency) reflecting declines from seasonally higher year-end balances.

Total equity of ~~$19.8~~$22.1 billion increased ~~$1.4~~$1.3 billion from December 31, ~~2016~~2020 as a result of:

· ~~Increases from net~~•Net income ~~($6.8 billion),~~of $2.3 billion; and

An increase in accumulated other comprehensive income of $1.7 billion primarily due to retirement-related ~~($1.4 billion)~~benefit plans and ~~equity~~an increase in foreign currency translation ~~adjustments ($0.8 billion);~~gains; partially offset by

•Dividends paid of $2.9 billion.

· ~~Decreases from dividends ($4.1 billion) and share repurchases ($3.7 billion).~~

Table of Contents

~~The company~~Management Discussion – (continued)

We generated ~~$11.0~~$7.5 billion in cash flow provided by operating activities, a decrease of ~~$2.1~~$0.5 billion compared to the first ~~nine~~six months of ~~2016,~~2020. Cash flows from operating activities includes approximately $1.2 billion of cash impacts from our structural actions initiated in the fourth quarter of 2020 and Kyndryl separation-related charges. In the first six months of 2021, investing activities were a net use of cash of $4.7 billion compared to $2.1 billion in the prior-year period. The $2.5 billion increase year to year was driven primarily by ~~the prior-year tax refund~~an increase in net cash used for acquisitions ($2.8 billion) and a decrease in cash provided by ~~financing receivables. Net cash used in investing activities of $3.3 billion was $4.0 billion lower than the prior year, primarily driven~~divestitures ($0.8 billion), partially offset by a decrease in cash used for ~~acquisitions ($5.0 billion). Net cash used in financing activities~~net purchases of ~~$5.5 billion increased $0.9 billion compared to the first nine months of 2016, driven primarily by increased gross common share repurchases~~marketable securities and other investments ($1.0 billion). Financing activities were a net use of cash of $8.9 billion in the first six months of 2021 compared to $1.7 billion in the prior-year period. The $7.2 billion increase year to year was primarily driven by a decrease in net cash provided by debt transactions with a higher level of net issuances in the prior year.

Table of Contents

Management Discussion – (continued)

~~Management Discussion — (continued)~~Second

~~Third~~ Quarter and First ~~Nine~~Six Months in Review

Results of Continuing Operations

Segment Details

The following is an analysis of the ~~third~~second quarter and first ~~nine~~six months of ~~2017~~2021 versus the ~~third~~second quarter and first ~~nine~~six months of ~~2016~~2020 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.


									Yr. to Yr.
									Percent
							Yr. to Yr.		Change
(Dollars in millions)							Percent/Margin		Adjusted For
For the three months ended June 30:	2021			2020			Change		Currency
Revenue:
Cloud & Cognitive Software	$	6,098		$	5,748		6.1	%	2.5	%
Gross margin		78.1	%		77.1	%	1.0	pts.
Global Business Services		4,341			3,890		11.6	%	7.3	%
Gross margin		27.9	%		28.4	%	(0.6)	pts.
Global Technology Services		6,342			6,316		0.4	%	(4.1)	%
Gross margin		35.3	%		34.2	%	1.1	pts.
Systems		1,717			1,852		(7.3)	%	(10.2)	%
Gross margin		55.1	%		57.8	%	(2.7)	pts.
Global Financing		242			265		(8.6)	%	(11.6)	%
Gross margin		27.4	%		38.6	%	(11.2)	pts.
Other		5			50		(89.6)	%	(89.3)	%
Gross margin		nm			(338.2)	%	nm
Total consolidated revenue	$	18,745		$	18,123		3.4	%*	(0.6)	%
Total consolidated gross profit	$	9,004		$	8,700		3.5	%
Total consolidated gross margin		48.0	%		48.0	%	0.0	pts.
Non-operating adjustments:
Amortization of acquired intangible assets		180			187		(3.8)	%
Separation-related charges		58			—		nm
Operating (non-GAAP) gross profit	$	9,242		$	8,887		4.0	%
Operating (non-GAAP) gross margin		49.3	%		49.0	%	0.3	pts.

Yr. to Yr.

Percent

Yr. to Yr.

Change

(Dollars in millions)

Percent/Margin

Adjusted For

For the three months ended September 30:

2017

2016

Change

Currency

Revenue:

Cognitive Solutions

$
4,400

$
4,235

3.9
%
3.0
%
Gross margin

78.7
%
80.4
%
(1.7
)pts.

Global Business Services

4,093

4,191

(2.3
)%
(2.2
)%
Gross margin

27.3
%
28.8
%
(1.5
)pts.

Technology Services & Cloud Platforms

8,457

8,748

(3.3
)%
(4.1
)%
Gross margin

41.1
%
42.0
%
(1.0
)pts.

Systems

1,721

1,558

10.4
%
9.6
%
Gross margin

53.6
%
51.1
%
2.6
pts.

Global Financing

427

412

3.7
%
2.8
%
Gross margin

25.2
%
37.8
%
(12.6
)pts.

Other

56

81

(31.8
)%
(32.8
)%
Gross margin

(511.4
)%
(279.2
)%
(232.2
)pts.

Total consolidated revenue

$
19,153

$
19,226

(0.4
)%
(1.0
)%
Total consolidated gross profit

$
8,800

$
9,013

(2.4
)%

Total consolidated gross margin

45.9
%
46.9
%
(0.9
)pts.

Non-operating adjustments:

Amortization of acquired intangible assets

114

129

(12.2
)%

Retirement-related costs/(income)

203

79

158.7
%

Operating (non-GAAP) gross profit

$
9,116

$
9,221

(1.1
)%

Operating (non-GAAP) gross margin

47.6
%
48.0
%
(0.4
)pts.

~~Management Discussion — (continued)~~

Yr. to Yr.

Percent

Yr. to Yr.

Change

(Dollars in millions)

Percent/Margin

Adjusted For

For the nine months ended September 30:

2017

2016

Change

Currency

Revenue:

Cognitive Solutions

$
13,021

$
12,889

1.0
%
1.3
%
Gross margin

78.4
%
81.5
%
(3.1
)pts.

Global Business Services

12,196

12,578

(3.0
)%
(1.9
)%
Gross margin

25.3
%
27.0
%
(1.7
)pts.

Technology Services & Cloud Platforms

25,079

26,029

(3.7
)%
(3.3
)%
Gross margin

40.2
%
41.5
%
(1.3
)pts.

Systems

4,863

5,184

(6.2
)%
(5.9
)%
Gross margin

51.5
%
55.1
%
(3.6
)pts.

Global Financing

1,246

1,245

0.1
%
(0.4
)%
Gross margin

29.2
%
39.6
%
(10.4
)pts.

Other

192

223

(14.2
)%
(14.3
)%
Gross margin

(456.0
)%
(295.2
)%
(160.8
)pts.

Total consolidated revenue

$
56,597

$
58,149

(2.7
)%
(2.2
)%
Total consolidated gross profit

$
25,365

$
27,401

(7.4
)%

Total consolidated gross margin

44.8
%
47.1
%
(2.3
)pts.

Non-operating adjustments:

Amortization of acquired intangible assets

349

371

(5.7
)%

Retirement-related costs/(income)

591

238

148.2
%

Operating (non-GAAP) gross profit

$
26,305

$
28,010

(6.1
)%

Operating (non-GAAP) gross margin

46.5
%
48.2
%
(1.7
)pts.

~~Cognitive Solutions~~

Yr. to Yr.

Percent

Yr. to Yr.

Change

(Dollars in millions)

Percent

Adjusted For

For the three months ended September 30:

2017

2016

Change

Currency

Cognitive Solutions external revenue:

$
4,400

$
4,235

3.9
%
3.0
%
Solutions Software

$
3,029

$
2,919

3.8
%
2.9
%
Transaction Processing Software

1,371

1,316

4.2

3.2

Yr. to Yr.

Percent

Yr. to Yr.

Change

(Dollars in millions)

Percent

Adjusted For

For the nine months ended September 30:

2017

2016

Change

Currency

Cognitive Solutions external revenue:

$
13,021

$
12,889

1.0
%
1.3
%
Solutions Software

$
9,015

$
8,842

2.0
%
2.3
%
Transaction Processing Software

4,006

4,048

(1.0
)
(0.8
)

~~Cognitive Solutions revenue of $4,400 million grew 3.9~~* (0.5) percent as reported and 3 percent adjusted for currency in the third quarter of 2017 compared to the prior year with growth in both Solutions Software and Transaction Processing Software. For the first nine months of the year, Cognitive Solutions revenue of $13,021 million grew 1.0 percent as reported and 1 percent adjusted for currency with growth in Solutions Software, partially offset by declines in Transaction Processing Software both as reportedexcluding divested businesses and adjusted for currency.

nm - not meaningful

Cognitive Solutions third-quarter annuity revenue grew as reported and adjusted for currency including strong Software-as-a-Service (SaaS) performance with continued double-digit revenue growth as reported and adjusted for currency. There was growth, as reported and adjusted for currency, in software services which support solutions offerings through industry and product expertise. Transactional revenue also grew this quarter as reported and adjusted for currency compared to the57

Table of Contents

Management Discussion —– (continued)


									Yr. to Yr.
									Percent
							Yr. to Yr.		Change
(Dollars in millions)							Percent/Margin		Adjusted For
For the six months ended June 30:	2021			2020			Change		Currency
Revenue:
Cloud & Cognitive Software	$	11,534		$	10,987		5.0	%	1.6	%
Gross margin		77.1	%		76.3	%	0.8	pts.
Global Business Services		8,575			8,027		6.8	%	2.8	%
Gross margin		28.0	%		27.8	%	0.2	pts.
Global Technology Services		12,712			12,783		(0.6)	%	(4.7)	%
Gross margin		34.9	%		34.1	%	0.8	pts.
Systems		3,144			3,220		(2.4)	%	(5.0)	%
Gross margin		54.8	%		54.6	%	0.2	pts.
Global Financing		482			564		(14.7)	%	(17.1)	%
Gross margin		29.7	%		39.7	%	(10.0)	pts.
Other		28			113		(75.3)	%	(75.6)	%
Gross margin		nm			(291.7)	%	nm
Total consolidated revenue	$	36,474		$	35,694		2.2	%*	(1.5)	%
Total consolidated gross profit	$	17,208		$	16,622		3.5	%
Total consolidated gross margin		47.2	%		46.6	%	0.6	pts.
Non-operating adjustments:
Amortization of acquired intangible assets		355			375		(5.4)	%
Separation-related charges		61			—		nm
Operating (non-GAAP) gross profit	$	17,624		$	16,998		3.7	%
Operating (non-GAAP) gross margin		48.3	%		47.6	%	0.7	pts.

~~prior year as clients commit to the platform long term. Within the segment, third-quarter revenue growth was driven by organic performance as acquisitive content has leveled on a year-to-year basis.~~

~~In the third quarter, Solutions Software revenue of $3,029 million grew 3.8~~* (1.4) percent as reported (3 percent adjusted for currency) compared to the prior year. Transaction Processing Software revenue of $1,371 million grew 4.2 percent as reported (3 percent adjusted for currency) compared to the third quarter of 2016. Within Solutions Software, third quarter year-to-year growth was led by offerings in security and analytics. Security software grew double digits as reported and adjusted for currency year to year in the third quarter with strong performance across the portfolio as cognitive capabilities continue to be embedded into these offerings. Analytics revenue growth was broad-based as the company continues to reinvent these offerings. With new offerings and new clients added to the platform this quarter, Internet of Things (IoT) revenue grew double digits in the third quarter both as reported and adjusted for currency. Within Transaction Processing Software, the year-to-year growth reflects clients’ ongoing long-term commitment and the value the company’s platform provides to them. This portfolio predominately runs on-premise mission critical workloads running on z Systems in industries such as banking, airlines and retail.

Cognitive Solutions total third-quarter strategic imperatives revenue of $2.9 billion grew 5 percent year to year as reported and adjusted for currency. Cloud revenue of $0.6 billion grew 10 percent as reported and adjusted for currency, with an as-a-Service exit run rate of $2.0 billion. For the first nine months of the year, total strategic imperatives revenue of $8.5 billion grew 4 percent as reported and adjusted for currency year to year. Cloud revenue of $1.8 billion grew 24 percent as reportedexcluding divested businesses and adjusted for currency.

Yr. to Yr.

Percent/

(Dollars in millions)

Margin

For the three months ended September 30:

2017

2016

Change

Cognitive Solutions:

External gross profit

$
3,465

$
3,407

1.7
%
External gross profit margin

78.7
%
80.4
%
(1.7
)pts.
Pre-tax income

$
1,649

$
1,574

4.8
%
Pre-tax margin

32.8
%
32.1
%
0.7
pts.

Yr. to Yr.

Percent/

(Dollars in millions)

Margin

For the nine months ended September 30:

2017

2016

Change

Cognitive Solutions:

External gross profit

$
10,207

$
10,509

(2.9
)%
External gross profit margin

78.4
%
81.5
%
(3.1
)pts.
Pre-tax income

$
4,539

$
4,039

12.4
%
Pre-tax margin

30.2
%
27.3
%
3.0
pts.

nm - not meaningful

Cloud & Cognitive ~~Solutions gross profit margin decreased 1.7 points to 78.7 percent in the third quarter~~Software


							Yr. to Yr.
							Percent
					Yr. to Yr.		Change
(Dollars in millions)					Percent		Adjusted For
For the three months ended June 30:	2021		2020		Change		Currency
Cloud & Cognitive Software external revenue:	$	6,098	$	5,748	6.1	%	2.5	%
Cloud & Data Platforms	$	3,120	$	2,797	11.5	%	7.9	%
Cognitive Applications		1,391		1,246	11.6		8.0
Transaction Processing Platforms		1,587		1,706	(7.0)		(10.5)


							Yr. to Yr.
							Percent
					Yr. to Yr.		Change
(Dollars in millions)					Percent		Adjusted For
For the six months ended June 30:	2021		2020		Change		Currency
Cloud & Cognitive Software external revenue:	$	11,534	$	10,987	5.0	%	1.6	%
Cloud & Data Platforms	$	5,986	$	5,333	12.2	%	8.8	%
Cognitive Applications		2,624		2,428	8.1		4.9
Transaction Processing Platforms		2,925		3,226	(9.3)		(12.5)

Cloud & Cognitive Software revenue of 2017 compared to the prior year. For the first nine months of the year, gross profit margin decreased 3.1 points to 78.4 percent. The gross profit margin decline year to year is driven by continued investment and an increasing mix toward SaaS.

~~In the third quarter, pre-tax income of $1,649~~$6,098 million increased 4.8 percent compared to the prior year with a pre-tax margin improvement of 0.7 points to 32.8 percent. For the first nine months of the year, pre-tax income of $4,539 million increased 12.4 percent compared to the prior year with a pre-tax margin improvement of 3.0 points to 30.2 percent. The company continues to embed cognitive into offerings, scale platforms and build high value vertical solutions. The year-to-year benefit in the nine-month period also reflects a lower level of charges related to workforce rebalancing and real estate actions year to year.

~~Management Discussion — (continued)~~

~~Global Business Services~~

Yr. to Yr.

Percent

Yr. to Yr.

Change

(Dollars in millions)

Percent

Adjusted For

For the three months ended September 30:

2017

2016

Change

Currency

Global Business Services external revenue:

$
4,093

$
4,191

(2.3
)%
(2.2
)%
Consulting

$
1,803

$
1,799

0.2
%
0.9
%
Global Process Services

314

354

(11.3
)
(11.9
)
Application Management

1,976

2,038

(3.0
)
(3.2
)

Yr. to Yr.

Percent

Yr. to Yr.

Change

(Dollars in millions)

Percent

Adjusted For

For the nine months ended September 30:

2017

2016

Change

Currency

Global Business Services external revenue:

$
12,196

$
12,578

(3.0
)%
(1.9
)%
Consulting

$
5,394

$
5,520

(2.3
)%
(0.9
)%
Global Process Services

948

1,048

(9.6
)
(9.2
)
Application Management

5,855

6,011

(2.6
)
(1.6
)

~~Global Business Services revenue of $4,093 million decreased 2.3~~6.1 percent as reported and 2 percent adjusted for currency in the ~~third~~second quarter of ~~2017~~2021 compared to the ~~prior year. The company continues to transform this business~~prior-year period, led by growth in both Cloud & Data Platforms and ~~shift its practices to where there is opportunity, which is around digital, cognitive, cloud and automation.~~ GBS signings grew for the third consecutive quarter as reported and adjusted for currency, and strategic imperatives revenue grew double digits year to year as reported and adjusted for currency. However, this growth continues to be more thanCognitive Applications, partially offset by declines in ~~the~~Transaction Processing Platforms. We continued to have strong subscription and support renewal rates this quarter and our software deferred income increased more ~~traditional areas that the company is shifting away from. For the first nine months~~than a billion

Table of ~~the year, Global Business Services revenue of $12,196 million decreased 3.0 percent as reported and 2 percent adjusted for currency.~~Contents

In the third quarter, Consulting revenue of $1,803 million increased 0.2 percent as reported (1 percent adjusted for currency) with continued improvement on a sequential basis led by the company’s digital strategy and iX platform. The Consulting backlog returned to growth as reported and adjusted for currency in the third quarter versus the prior year. Global Process Services (GPS) revenue of $314 million decreased 11.3 percent as reported (12 percent adjusted for currency) compared to the prior year. Application Management revenue of $1,976 million decreased 3.0 percent as reported (3 percent adjusted for currency). The company continues to help clients implement new cloud-centric architectures in their critical applications. Overall performance was impacted by areas of this business that are not as differentiated and are experiencing pricing pressure.

Third-quarter 2017 GBS strategic imperatives revenue of $2.5 billion grew 10 percent as reported (11 percent adjusted for currency) year to year. Cloud revenue of $1.0 billion grew 35 percent as reported and adjusted for currency, with an as-a-Service exit run rate of $1.2 billion. For the first nine months of the year, total strategic imperatives revenue of $7.2 billion grew 10 percent as reported (11 percent adjusted for currency) year to year. Cloud revenue of $2.9 billion grew 41 percent as reported (43 percent adjusted for currency).

Management Discussion —– (continued)

Yr. to Yr.

Percent/

(Dollars in millions)

Margin

For the three months ended September 30:

2017

2016

Change

Global Business Services:

External gross profit

$
1,117

$
1,206

(7.4
)%
External gross profit margin

27.3
%
28.8
%
(1.5
)pts.
Pre-tax income

$
453

$
544

(16.8
)%
Pre-tax margin

10.8
%
12.7
%
(1.9
)pts.

Yr. to Yr.

Percent/

(Dollars in millions)

Margin

For the nine months ended September 30:

2017

2016

Change

Global Business Services:

External gross profit

$
3,083

$
3,393

(9.2
)%
External gross profit margin

25.3
%
27.0
%
(1.7
)pts.
Pre-tax income

$
1,065

$
1,210

(12.0
)%
Pre-tax margin

8.5
%
9.4
%
(0.8
)pts.

GBS third quarter gross profit margin decreased 1.5 points to 27.3 percent year to year with a decline similar to the second quarter 2017. In the third quarter of 2017, pre-tax income of $453 million decreased 16.8 percent year to year. The pre-tax margin declined 1.9 points to 10.8 percent, however it improved more than 3 points sequentially compared to the second quarter 2017. For the first nine months of the year, pre-tax income of $1,065 million decreased 12.0 percent and the pre-tax margin declined 0.8 points to 8.5 percent. Pre-tax income performance for the first nine months of 2017 includes a lower level of charges related to workforce rebalancing and real estate actions as compared to the prior year.

~~The GBS margin has been impacted by investments to drive transformation and reflects pricing and profit pressure in the more traditional IT services.~~ The company will continue to focus on improving productivity with a streamlined practice model and new project management approaches. As it grows its practices around cloud, analytics and mobility services, the company will continue to invest in skills necessary to drive this transformation.

~~Technology Services & Cloud Platforms~~

Yr. to Yr.

Percent

Yr. to Yr.

Change

(Dollars in millions)

Percent

Adjusted For

For the three months ended September 30:

2017

2016

Change

Currency

Technology Services & Cloud Platforms external revenue:

$
8,457

$
8,748

(3.3
)%
(4.1
)%
Infrastructure Services

$
5,665

$
5,901

(4.0
)%
(4.8
)%
Technical Support Services

1,801

1,831

(1.6
)
(2.1
)
Integration Software

990

1,016

(2.6
)
(3.4
)

Yr. to Yr.

Percent

Yr. to Yr.

Change

(Dollars in millions)

Percent

Adjusted For

For the nine months ended September 30:

2017

2016

Change

Currency

Technology Services & Cloud Platforms external revenue:

$
25,079

$
26,029

(3.7
)%
(3.3
)%
Infrastructure Services

$
16,695

$
17,458

(4.4
)%
(3.9
)%
Technical Support Services

5,357

5,446

(1.6
)
(1.5
)
Integration Software

3,027

3,126

(3.2
)
(2.7
)

Technology Services & Cloud Platforms revenue of $8,457 million decreased 3.3 percent as reported and 4 percent adjusted for currency in the third quarter of 2017 compared to the prior year. In the third quarter, there were declines across

~~Management Discussion — (continued)~~

all lines of business, however there was double-digit growth as reported and adjusted for currency in strategic imperatives revenue. Global Technology Services (GTS) signings also grew more than 25 percentdollars year to year. For the first ~~nine~~six months of ~~the year, Technology Services and~~2021, Cloud ~~Platforms~~& Cognitive Software revenue of ~~$25,079 million decreased 3.7 percent as reported and 3 percent adjusted for currency.~~

In the third quarter, Infrastructure Services revenue of $5,665 million declined 4.0 percent as reported (5 percent adjusted for currency) compared to the prior year. This decline reflects the continued impact associated with contract conclusions at the end of 2016 and the shift away from certain lower value work within this business. The full year-to-year benefit from certain larger contracts signed in second-quarter 2017 are not yet providing offsetting growth. However, in the third quarter, there was strong signings performance both as reported and adjusted for currency as clients contract to implement hybrid cloud environments.

Technical Support Services third-quarter revenue of $1,801 million decreased 1.6 percent as reported (2 percent adjusted for currency) year to year. Within this line of business, the company is focused on growing its multi-vendor support services which provide clients with a single source of expertise and visibility across different vendor solutions. Integration Software third quarter revenue of $990 million decreased 2.6 percent as reported (3 percent adjusted for currency) compared to the prior year. There was continued growth in SaaS across the portfolio as the company helps clients implement hybrid cloud environments. This growth was offset by declines in areas such as on premise DevOps and IT service management.

Technology Services & Cloud Platforms third-quarter 2017 strategic imperatives revenue of $2.6 billion grew 12 percent year to year as reported and adjusted for currency. Cloud revenue of $1.8 billion grew 16 percent as reported and adjusted for currency, with an as-a-Service exit run rate of $6.2 billion. For the first nine months of the year, total strategic imperatives revenue of $7.4 billion grew 20 percent as reported (21 percent adjusted for currency) year to year. Cloud revenue of $5.1 billion grew 24 percent as reported (25 percent adjusted for currency).

Yr. to Yr.

Percent/

(Dollars in millions)

Margin

For the three months ended September 30:

2017

2016

Change

Technology Services & Cloud Platforms:

External Technology Services gross profit

$
2,667

$
2,825

(5.6
)%
External Technology Services gross profit margin

35.7
%
36.5
%
(0.8
)pts.
External Integration Software gross profit

$
805

$
851

(5.4
)%
External Integration Software gross profit margin

81.3
%
83.8
%
(2.4
)pts.
External total gross profit

$
3,473

$
3,676

(5.5
)%
External total gross profit margin

41.1
%
42.0
%
(1.0
)pts.
Pre-tax income

$
1,192

$
1,288

(7.5
)%
Pre-tax margin

13.8
%
14.4
%
(0.6
)pts.

Yr. to Yr.

Percent/

(Dollars in millions)

Margin

For the nine months ended September 30:

2017

2016

Change

Technology Services & Cloud Platforms:

External Technology Services gross profit

$
7,630

$
8,176

(6.7
)%
External Technology Services gross profit margin

34.6
%
35.7
%
(1.1
)pts.
External Integration Software gross profit

$
2,450

$
2,630

(6.9
)%
External Integration Software gross profit margin

80.9
%
84.2
%
(3.2
)pts.
External total gross profit

$
10,080

$
10,806

(6.7
)%
External total gross profit margin

40.2
%
41.5
%
(1.3
)pts.
Pre-tax income

$
2,888

$
2,825

2.2
%
Pre-tax margin

11.3
%
10.6
%
0.6
pts.

Technology Services & Cloud Platforms gross profit margin decreased 1.0 points year to year in the third quarter to 41.1 percent and pre-tax income of $1,192 million decreased 7.5 percent. The pre-tax margin declined 0.6 points year to year to 13.8 percent, but improved sequentially by 2 points compared to the second quarter of 2017. For the first nine months of the year, pre-tax income of $2,888$11,534 million increased ~~2.2 percent and the pre-tax margin improved 0.6 points to 11.3 percent. The~~

~~Management Discussion — (continued)~~

~~year-to-year performance in the nine months of 2017 compared to the prior year includes a lower level of charges related to workforce and real estate actions.~~

The company continues to yield savings from prior-year workforce transformation, is focused on delivering productivity to clients, and continues to invest to expand its cloud infrastructure which is currently impacting margin. With over sixty cloud centers across nineteen countries, the IBM Cloud provides clients with flexibility in how and where they store their data.

~~Services Backlog and Signings~~

Yr. to Yr.

Percent

Yr. to Yr.

Change

At September 30,

At September 30,

Percent

Adjusted For

(Dollars in billions)

2017

2016

Change

Currency

Total backlog

$
119.3

$
121.3

(1.6
)%
(2.1
)%

~~The estimated total services backlog at September 30, 2017 was $119 billion, a decrease of 1.6~~5.0 percent as reported and 2 percent adjusted for currency ~~with modest growth in GTS~~driven by the same factors.

In the second quarter, Cloud & Data Platforms revenue of $3,120 million increased 11.5 percent as reported ~~(essentially flat~~and 8 percent adjusted for currency compared to the prior-year period, led by strength in our hybrid cloud platform and Cloud Paks. In the quarter, both RHEL and OpenShift continued to deliver strong growth and gained share in their respective markets. We now have more than 3,200 clients using our hybrid cloud platform, which is approximately four times the number of clients since we announced the Red Hat acquisition. Cloud Paks continued to resonate with our clients. In the second quarter, we had strength in Cloud Pak for Integration, which delivers rapid and cost-saving solutions for integration development as well as Cloud Pak for Business Automation as clients leveraged AI-powered automation to solve operational challenges. The acquisition of Turbonomic in the second quarter further extends our automation offerings.

Cognitive Applications second-quarter revenue of $1,391 million increased 11.6 percent as reported and 8 percent adjusted for currency compared to the prior-year period. This growth was driven by Security software and services, Maximo asset management, our Weather offerings and Sterling supply chain. With the acceleration of cybersecurity attacks, clients are increasingly looking for modernized security platforms to detect and protect against ransomware and other attacks. This quarter, we had strength in our integrated software and services offerings including Cloud Pak for Security, Data Security and X-Force Security Services. In the area of supply chain, the demand for omnichannel solutions accelerated requirements for Sterling Order Management in industries such as retail.

Transaction Processing Platforms revenue of $1,587 million decreased 7.0 percent as reported and 11 percent adjusted for currency in the second quarter compared to the prior-year period. We provide flexibility to our clients in how they purchase this mission-critical software and since early last year, we are seeing a continued preference for operating expenses over capital expenditures, which has continued to put pressure on perpetual licenses, in favor of more consumption-like models. Our continued strong software renewals this quarter reflect that clients remain committed to our products.

Within Cloud & Cognitive Software, cloud revenue of $2.1 billion grew 29 percent as reported (25 percent adjusted for currency) in the second quarter of 2021 compared to the prior-year period. For the first six months of 2021, cloud revenue of $4.0 billion grew 33 percent as reported (29 percent adjusted for currency) compared to the first six months of the prior year.


							Yr. to Yr.
							Percent/
(Dollars in millions)							Margin
For the three months ended June 30:	2021			2020			Change
Cloud & Cognitive Software:
External gross profit	$	4,761		$	4,432		7.4	%
External gross profit margin		78.1	%		77.1	%	1.0	pts.
Pre-tax income	$	1,720		$	1,708		0.7	%
Pre-tax margin		25.2	%		26.3	%	(1.1)	pts.


							Yr. to Yr.
							Percent/
(Dollars in millions)							Margin
For the six months ended June 30:	2021			2020			Change
Cloud & Cognitive Software:
External gross profit	$	8,893		$	8,384		6.1	%
External gross profit margin		77.1	%		76.3	%	0.8	pts.
Pre-tax income	$	3,147		$	2,641		19.2	%
Pre-tax margin		24.0	%		21.1	%	3.0	pts.

Table of Contents

Management Discussion – (continued)

Cloud & Cognitive Software gross profit margin increased 1.0 points to 78.1 percent in the second quarter of 2021 compared to the prior-year period driven primarily by revenue growth and ~~a decrease~~improvement in services margins, partially offset by the investments we are making in new innovations and our ecosystem. For the first six months of 2021, gross profit margin increased 0.8 points to 77.1 percent, driven primarily by the same factors.

In the second quarter, pre-tax income of $1,720 million increased 0.7 percent and pre-tax margin decreased 1.1 points to 25.2 percent compared to the prior year. The pre-tax income improvement reflects the revenue growth and gross profit margin expansion in the current year. The pre-tax margin decline reflects the investments we are making in new innovations and our ecosystem and higher workforce rebalancing charges year to year, partially offset by the gross margin expansion. For the first six months of 2021, pre-tax income of $3,147 million increased 19.2 percent and pre-tax margin of 24.0 percent increased 3.0 points compared to the prior year, primarily driven by the gross margin expansion and lower workforce rebalancing charges in the current year.

Global Business Services


							Yr. to Yr.
							Percent
					Yr. to Yr.		Change
(Dollars in millions)					Percent		Adjusted For
For the three months ended June 30:	2021		2020		Change		Currency
Global Business Services external revenue:	$	4,341	$	3,890	11.6	%	7.3	%
Consulting	$	2,236	$	1,936	15.5	%	11.2	%
Application Management		1,821		1,734	5.1		0.7
Global Process Services		284		221	28.4		24.7


							Yr. to Yr.
							Percent
					Yr. to Yr.		Change
(Dollars in millions)					Percent		Adjusted For
For the six months ended June 30:	2021		2020		Change		Currency
Global Business Services external revenue:	$	8,575	$	8,027	6.8	%	2.8	%
Consulting	$	4,425	$	4,007	10.4	%	6.4	%
Application Management		3,591		3,573	0.5		(3.5)
Global Process Services		559		447	25.0		21.7

Global Business Services revenue of $4,341 million grew 11.6 percent as reported and 7 percent adjusted for currency in the second quarter of 2021 compared to the prior-year period, with growth across all three business units. Our revenue performance reflects the trend that clients are accelerating their rate and pace of digital transformations. Our Red Hat practice had continued strong results with more than 170 Red Hat client engagements added this quarter. We continue to invest in GBS by expanding our skills and investing to integrate and scale our recent acquisitions. For the first six months of 2021, GBS revenue of $8,575 million increased 6.8 percent as reported and 3 percent adjusted for currency reflecting strong year-to-year growth in Consulting and Global Process Services.

In the second-quarter 2021, Consulting revenue of $2,236 million grew 15.5 percent as reported and 11 percent adjusted for currency which reflects the investments we are making in building skills in third-party cloud providers and in expanding our practices with ecosystem partners. Clients are finding value in our differentiated garage methodology to co-create solutions for the majority of our value propositions across Enterprise Resource Planning implementation, Business Process Outsourcing and Application Modernization.

Application Management revenue of $1,821 million increased 5.1 percent as reported and 1 percent adjusted for currency in the second quarter of 2021 compared to the second-quarter 2020 as we continue to transition from managing applications on-premise to those that run in hybrid multicloud environments.

Table of Contents

Management Discussion – (continued)

Global Process Services second-quarter revenue of $284 million grew 28.4 percent as reported and 25 percent adjusted for currency compared to the prior-year period, reflecting strong growth in our intelligent workflow offerings. These end-to-end offerings, which leverage hybrid cloud and AI to transform client processes, connect Consulting with Business Process Outsourcing in areas such as finance, supply chain, customer service and talent transformation.

Within GBS, cloud revenue of $1.9 billion grew 35 percent as reported (30 percent adjusted for currency) in the second quarter of 2021 compared to the same prior-year period. For the first six months of 2021, cloud revenue of $3.6 billion grew 34 percent as reported (29 percent adjusted for currency) compared to the same period in 2020.


							Yr. to Yr.
							Percent/
(Dollars in millions)							Margin
For the three months ended June 30:	2021			2020			Change
Global Business Services:
External gross profit	$	1,210		$	1,107		9.3	%
External gross profit margin		27.9	%		28.4	%	(0.6)	pts.
Pre-tax income	$	371		$	362		2.5	%
Pre-tax margin		8.4	%		9.2	%	(0.7)	pts.


							Yr. to Yr.
							Percent/
(Dollars in millions)							Margin
For the six months ended June 30:	2021			2020			Change
Global Business Services:
External gross profit	$	2,404		$	2,231		7.7	%
External gross profit margin		28.0	%		27.8	%	0.2	pts.
Pre-tax income	$	761		$	633		20.3	%
Pre-tax margin		8.8	%		7.8	%	1.0	pts.

GBS second-quarter gross profit margin of 27.9 percent decreased 0.6 points on a year-to-year basis, primarily driven by a decline in our Consulting margin, partially offset by increased margins in Application Management and Global Process Services. Our gross margin performance reflects the higher level of investments we are making to expand our skills and practices to continue to capture the market opportunity. We are expanding our delivery resources and adding skilled practitioners in high demand areas. In addition, we are investing to integrate and scale our recently announced acquisitions.

Pre-tax income of $371 million increased 2.5 percent and pre-tax margin of 8.4 percent decreased 0.7 points in the second quarter of 2021 compared to the prior-year period. The pre-tax income and margin performance reflects the higher level of investments described above, and in our go-to-market resources. For the first six months of 2021, pre-tax income of $761 million increased 20.3 percent and pre-tax margin of 8.8 percent increased 1.0 points compared to the prior-year period, driven primarily by gross profit margin expansion due to lower costs in the current year as a result of prior workforce rebalancing actions and lower workforce rebalancing charges year to year.

Global Technology Services


							Yr. to Yr.
							Percent
					Yr. to Yr.		Change
(Dollars in millions)					Percent		Adjusted For
For the three months ended June 30:	2021		2020		Change		Currency
Global Technology Services external revenue:	$	6,342	$	6,316	0.4	%	(4.1)	%
Infrastructure & Cloud Services	$	4,836	$	4,813	0.5	%	(4.2)	%
Technology Support Services		1,506		1,503	0.2		(4.1)

Table of Contents

Management Discussion – (continued)


							Yr. to Yr.
							Percent
					Yr. to Yr.		Change
(Dollars in millions)					Percent		Adjusted For
For the six months ended June 30:	2021		2020		Change		Currency
Global Technology Services external revenue:	$	12,712	$	12,783	(0.6)	%	(4.7)	%
Infrastructure & Cloud Services	$	9,689	$	9,729	(0.4)	%	(4.8)	%
Technology Support Services		3,023		3,054	(1.0)		(4.4)

Global Technology Services revenue of $6,342 million increased 0.4 percent as reported, but declined 4 percent adjusted for currency in the second quarter of 2021 compared to the same prior-year period. This reflects a modest improvement in year-to-year performance compared to the first-quarter 2021, driven by improving trends in client-based business volumes and project activity. For the first six months of 2021, GTS revenue of $12,712 million decreased 0.6 percent as reported and 5 percent adjusted for currency as compared to the prior-year period, driven by declines in both Infrastructure & Cloud Services and Technology Support Services.

In the second-quarter 2021, Infrastructure & Cloud Services revenue of $4,836 million increased 0.5 percent as reported, but declined 4 percent adjusted for currency compared to the prior-year period. Our current clients continue to value partnering with Kyndryl to modernize and manage their mission-critical workloads and services, as reflected in our strong renewal rate. The renewals this quarter included six deals with a contract value greater than $100 million. While our performance with existing clients remains strong, the sales cycle for new logo clients is elongating, as they await additional information related to Kyndryl.

Technology Support Services (TSS) second-quarter revenue of $1,506 million was flat year to year as reported and declined 4 percent adjusted for ~~currency.~~currency compared to the prior-year period, reflecting the Systems hardware product cycles.

Within GTS, cloud revenue of $2.4 billion decreased 1 percent as reported and 5 percent adjusted for currency in the second quarter of 2021 compared to the same period in the prior year. For the first six months of 2021, cloud revenue of $4.8 billion grew 2 percent as reported, but declined 2 percent adjusted for currency compared to the first six months of 2020.


							Yr. to Yr.
							Percent/
(Dollars in millions)							Margin
For the three months ended June 30:	2021			2020			Change
Global Technology Services:
External gross profit	$	2,237		$	2,158		3.7	%
External gross profit margin		35.3	%		34.2	%	1.1	pts.
Pre-tax income	$	381		$	250		52.3	%
Pre-tax margin		5.7	%		3.8	%	1.9	pts.


							Yr. to Yr.
							Percent/
(Dollars in millions)							Margin
For the six months ended June 30:	2021			2020			Change
Global Technology Services:
External gross profit	$	4,437		$	4,354		1.9	%
External gross profit margin		34.9	%		34.1	%	0.8	pts.
Pre-tax income	$	520		$	72		624.6	%
Pre-tax margin		3.9	%		0.5	%	3.4	pts.

Global Technology Services gross profit margin increased 1.1 points to 35.3 percent in the second quarter of 2021 as compared to the prior-year period, driven primarily by margin expansion in Infrastructure & Cloud Services which

Table of Contents

Management Discussion – (continued)

reflects the benefits from the productivity actions taken in 2020 to improve the profit and margin profile of the business in advance of the Kyndryl separation.

Pre-tax income of $381 million increased 52.3 percent and pre-tax margin of 5.7 percent increased 1.9 points in the second quarter of 2021 compared to the same period in 2020, driven primarily by the gross profit margin expansion due to lower costs in the current year as a result of workforce rebalancing actions taken in the prior year. For the first six months of 2021, pre-tax income increased $448 million to $520 million and pre-tax margin of 3.9 percent increased 3.4 points compared to the prior-year period, driven primarily by gross profit margin expansion and lower workforce rebalancing charges in the current year.

Services Backlog and Signings


							Yr. to Yr.
							Percent
					Yr. to Yr.		Change
	At June 30,		At June 30,		Percent		Adjusted For
(Dollars in billions)	2021		2020		Change		Currency
Total backlog	$	103.7	$	107.1	(3.2)	%	(6.4)	%

The estimated total services backlog at June 30, 2021 was $103.7 billion, a decrease of 3.2 percent as reported (6 percent adjusted for currency) on a year-to-year basis.

Total services backlog includes Infrastructure & Cloud Services, Security Services, Consulting, Global Process Services, Application Management and ~~Technical Support Services.~~TSS. Total backlog is intended to be a statement of overall work under contract ~~for these businesses and therefore includes Technical Support Services. It~~which is either non-cancellable, 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 ~~offerings~~arrangements that ~~have flexibility in~~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.


							Yr. to Yr.
							Percent
					Yr. to Yr.		Change
(Dollars in millions)					Percent		Adjusted For
For the three months ended June 30:	2021		2020		Change		Currency
Total signings	$	9,178	$	8,204	11.9	%	8.1	%


							Yr. to Yr.
							Percent
					Yr. to Yr.		Change
(Dollars in millions)					Percent		Adjusted For
For the six months ended June 30:	2021		2020		Change		Currency
Total signings	$	15,911	$	17,132	(7.1)	%	(10.3)	%

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 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.

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. ~~Technical Support~~Total services signings can vary over time due to a variety of factors including, but not limited to, the timing of signing a small number of larger contracts, such as in Infrastructure & Cloud Services or Global Process Services. TSS is generally not included in signings as the maintenance contracts tend to be more steady state,

Table of Contents

Management Discussion – (continued)

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.

Management ~~Discussion — (continued)~~believes that the estimated values of services backlog and signings disclosed herein provide insight into our potential future revenue, which is used by management as a tool to monitor the performance of the business and viewed as useful decision-making information for investors. The conversion of signings and backlog into revenue may vary based on the types of services and solutions, customer decisions, and as well as other factors, which may include, but are not limited to, macroeconomic environment or external events.

Systems


							Yr. to Yr.
							Percent
					Yr. to Yr.		Change
(Dollars in millions)					Percent		Adjusted For
For the three months ended June 30:	2021		2020		Change		Currency
Systems external revenue:	$	1,717	$	1,852	(7.3)	%	(10.2)	%
Systems Hardware	$	1,384	$	1,488	(7.0)	%	(9.9)	%
IBM Z					(10.6)		(13.3)
Power Systems					(1.6)		(4.6)
Storage Systems					(6.7)		(9.7)
Operating Systems Software		333		365	(8.7)		(11.7)

~~Systems~~


							Yr. to Yr.
							Percent
					Yr. to Yr.		Change
(Dollars in millions)					Percent		Adjusted For
For the six months ended June 30:	2021		2020		Change		Currency
Systems external revenue:	$	3,144	$	3,220	(2.4)	%	(5.0)	%
Systems Hardware	$	2,498	$	2,484	0.5	%	(2.0)	%
IBM Z					10.2		7.8
Power Systems					(5.2)		(7.9)
Storage Systems					(8.9)		(11.7)
Operating Systems Software		646		736	(12.2)		(14.8)

Yr. to Yr.

Percent

Yr. to Yr.

Change

(Dollars in millions)

Percent

Adjusted For

For the three months ended September 30:

2017

2016

Change

Currency

Systems external revenue:

$
1,721

$
1,558

10.4
%
9.6
%
Systems Hardware

$
1,301

$
1,128

15.3
%
14.4
%
z Systems

63.8

61.9

Power Systems

(7.2
)
(7.8
)
Storage Systems

4.9

4.3

Operating Systems Software

420

430

(2.3
)
(2.9
)

Yr. to Yr.

Percent

Yr. to Yr.

Change

(Dollars in millions)

Percent

Adjusted For

For the nine months ended September 30:

2017

2016

Change

Currency

Systems external revenue:

$
4,863

$
5,184

(6.2
)%
(5.9
)%
Systems Hardware

$
3,629

$
3,852

(5.8
)%
(5.5
)%
z Systems

(13.4
)
(13.3
)
Power Systems

(12.7
)
(12.6
)
Storage Systems

6.1

6.6

Operating Systems Software

1,234

1,332

(7.4
)
(7.1
)

Systems revenue of ~~$1,721~~$1,717 million ~~grew 10.4~~decreased 7.3 percent ~~year to year~~ as reported ~~(10~~and 10 percent adjusted for currency in the second quarter of 2021 compared to the prior-year period. Systems Hardware revenue of $1,384 million declined 7.0 percent as reported and 10 percent adjusted for currency reflecting product cycle dynamics across IBM Z, Power Systems and Storage Systems. Operating Systems Software revenue of $333 million decreased 8.7 percent as reported and 12 percent adjusted for currency, driven primarily by a decline in IBM Z operating systems software due to higher transactional revenue in the prior-year second quarter. For the first six months of 2021, Systems revenue of $3,144 million decreased 2.4 percent as reported and 5 percent adjusted for currency compared to the prior-year period. The decline was primarily driven by Storage Systems and Power Systems and a decline in Operating Systems Software, partially offset by growth in IBM Z.

IBM Z revenue decreased 10.6 percent as reported and 13 percent adjusted for currency in the second quarter compared to very strong performance in the prior-year period. Financial services continued to drive IBM Z performance due to capacity requirements to address robust market volatility. With focus on security, purchases were also driven by clients seeking capabilities such as pervasive encryption and Hyper Protect to secure mission-critical applications and data, both on premises and in the cloud. During the last eight quarters, the z15 client value proposition has been

Table of Contents

Management Discussion – (continued)

apparent. The z15 is secure, scalable and reliable, and the z15 program continues to outpace the strong z14 program providing further proof of IBM Z as an enduring platform.

Power Systems revenue decreased 1.6 percent as reported and 5 percent adjusted for currency in the second quarter of 2021 compared to the prior-year period, reflecting a sequential year-to-year improvement compared to the first-quarter 2021. The decline in revenue in the second quarter reflects the product cycle dynamics and was driven primarily by declines in low-end systems, partially offset by growth in high-end systems.

Storage Systems revenue declined 6.7 percent as reported and 10 percent adjusted for currency in the second-quarter 2021 compared to the prior-year period, driven primarily by a decline in high-end storage systems tied to the IBM Z product cycle.

Within Systems, cloud revenue of $0.7 billion decreased 16 percent as reported (19 percent adjusted for currency) in the ~~third~~second quarter of ~~2017 driven by a combination~~2021 compared to the same quarter in 2020. For the first six months of ~~strong z14 market acceptance and the third consecutive quarter of growth as reported and adjusted for currency in Storage Systems. Systems Hardware~~2021, cloud revenue of ~~$1,301 million grew 15.3~~$1.2 billion decreased 3 percent as reported (14 percent adjusted for currency) with the growth in z Systems and Storage partially offset by a decrease in Power Systems as reported and adjusted for currency. Operating Systems Software revenue of $420 million decreased 2.3 percent as reported (3(5 percent adjusted for currency) compared to the ~~prior year. For~~same prior-year period.


							Yr. to Yr.
							Percent/
(Dollars in millions)							Margin
For the three months ended June 30:	2021			2020			Change
Systems:
External Systems Hardware gross profit	$	679		$	772		(12.0)	%
External Systems Hardware gross profit margin		49.1	%		51.9	%	(2.8)	pts.
External Operating Systems Software gross profit	$	267		$	299		(10.7)	%
External Operating Systems Software gross profit margin		80.2	%		82.0	%	(1.8)	pts.
External total gross profit	$	946		$	1,071		(11.7)	%
External total gross profit margin		55.1	%		57.8	%	(2.7)	pts.
Pre-tax income	$	176		$	248		(28.8)	%
Pre-tax margin		9.0	%		11.8	%	(2.8)	pts.


							Yr. to Yr.
							Percent/
(Dollars in millions)							Margin
For the six months ended June 30:	2021			2020			Change
Systems:
External Systems Hardware gross profit	$	1,207		$	1,151		4.8	%
External Systems Hardware gross profit margin		48.3	%		46.3	%	2.0	pts.
External Operating Systems Software gross profit	$	517		$	607		(14.8)	%
External Operating Systems Software gross profit margin		80.0	%		82.5	%	(2.4)	pts.
External total gross profit	$	1,724		$	1,758		(1.9)	%
External total gross profit margin		54.8	%		54.6	%	0.2	pts.
Pre-tax income	$	174		$	31		466.3	%
Pre-tax margin		4.9	%		0.9	%	4.0	pts.

Systems gross profit margin decreased 2.7 points to 55.1 percent in the ~~first nine months of 2017,~~second-quarter 2021 compared to the prior-year period. Systems ~~revenue of $4,863 million decreased 6.2 percent as reported (6 percent adjusted for currency) with~~margin performance was driven by declines in ~~both~~Storage Systems ~~Hardware~~ and Operating Systems Software ~~both as reported~~margins and ~~adjusted for currency.~~

~~Within Systems Hardware, third quarter z Systems~~a revenue ~~grew 63.8 percent as reported (62 percent adjusted for currency) year~~mix to year driven by the successful launch of the z14 mainframe in mid-September 2017. This success is due to strong demand for technology that helps address the growing threat of global data breaches and the need for clients to operate within regulated environments. The z14 mainframe has unprecedented encryption capabilities that are widely appealing and the company has already experienced good traction across a broad mix of industries and geographies in the quarter.

Power Systems, third quarter revenue decreased 7.2 percent as reported (8 percent adjusted for currency) year to year. This reflects the company’s continued shift to a growing Linux market while continuing to serve a high value, but declining UNIX market. Linux had continued revenue growth as reportedpartially offset by margin expansion in Power Systems and ~~adjusted for currency in the third quarter. Although there was growth in UNIX high-end systems this quarter, overall UNIX declined as reported and adjusted for currency.~~

Storage Systems third quarter revenue increased by 4.9 percent as reported (4 percent adjusted for currency) year to year with growth as reported and adjusted for currency across the major hardware product areas. There was continued growth as reported and adjusted for currency in all-flash array offerings in line with this high-growth market.

Third-quarter Systems strategic imperatives revenue of $0.9 billion grew 26 percent year to year as reported (25 percent adjusted for currency). Cloud revenue of $0.7 billion grew 24 percent as reported (23 percent adjusted for currency).IBM Z. For the first ~~nine~~six months of the year, total strategic imperatives revenue of $2.2 billion decreased 3 percent as reported and adjusted for currency year to year, primarily a reflection of product cycle dynamics. Cloud revenue of $1.7 billion decreased 5 percent as reported and adjusted for currency.

~~Management Discussion — (continued)~~

Yr. to Yr.

Percent/

(Dollars in millions)

Margin

For the three months ended September 30:

2017

2016

Change

Systems:

External Systems Hardware gross profit

$
557

$
416

33.8
%
External Systems Hardware gross profit margin

42.9
%
36.9
%
5.9
pts.
External Operating Systems Software gross profit

$
366

$
380

(3.7
)%
External Operating Systems Software gross profit margin

87.0
%
88.3
%
(1.2
)pts.
External total gross profit

$
923

$
796

16.0
%
External total gross profit margin

53.6
%
51.1
%
2.6
pts.
Pre-tax income/(loss)

$
339

$
136

149.7
%
Pre-tax margin

17.4
%
7.8
%
9.6
pts.

Yr. to Yr.

Percent/

(Dollars in millions)

Margin

For the nine months ended September 30:

2017

2016

Change

Systems:

External Systems Hardware gross profit

$
1,432

$
1,676

(14.6
)%
External Systems Hardware gross profit margin

39.5
%
43.5
%
(4.0
)pts.
External Operating Systems Software gross profit

$
1,074

$
1,182

(9.2
)%
External Operating Systems Software gross profit margin

87.0
%
88.7
%
(1.7
)pts.
External total gross profit

$
2,506

$
2,858

(12.3
)%
External total gross profit margin

51.5
%
55.1
%
(3.6
)pts.
Pre-tax income/(loss)

$
227

$
354

(35.9
)%
Pre-tax margin

4.2
%
6.1
%
(1.9
)pts.

~~The~~2021, Systems gross profit margin increased ~~2.6~~0.2 points to ~~53.6~~54.8 percent in the third quarter of 2017 compared to the prior year, with sequential improvement compared to the second quarter of 2017. The overall increase year-to-year was driven by product mix primarily toward the high-margin z Systems. There was also margin improvement in z Systems and Storage Systems, with Power Systems essentially flat year to year. For the first nine months of the year, the Systems gross profit margin decreased 3.6 points to 51.5 percent compared to the prior year, with margin declines across all hardware brands and Operating Systems Software, as well as an impact from mix.

In the third quarter of 2017, pre-tax income of $339 million grew 149.7 percent and pre-tax margin increased 9.6 points year to year to 17.4 percent driven by the strong performance in z Systems. For the first nine months of the year, pre-tax income of $227 million decreased 35.9 percent compared to the prior year which also included a higher level of charges related to workforce rebalancing and real estate actions. The company remains focused on continually reinventing this portfolio to address new workloads.

~~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 the 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 the IBM 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.

~~Management Discussion — (continued)~~

~~Results of Operations~~

Three Months Ended

Nine Months Ended

September 30,

September 30,

(Dollars in millions)

2017

2016

2017

2016

External revenue

$
427

$
412

$
1,246

$
1,245

Internal revenue

272

352

925

1,340

Total revenue

$
698

$
763

$
2,171

$
2,585

Pre-tax income

$
244

$
355

$
836

$
1,208

In the third quarter of 2017, Global Financing total revenue of $698 million decreased 8.5 percent compared to the prior year. This was due to a decline in internal revenue of 22.8 percent, driven by a decrease in internal used equipment sales (down 31.2 percent to $184 million), partially offset by an increase in internal financing (up 4.4 percent to $88 million). External revenue increased 3.7 percent as reported (2.8 percent adjusted for currency), due to an increase in external used equipment sales (up 31.6 percent to $141 million), partially offset by a decrease in external financing (down 6.1 percent to $286 million).

~~The decrease in total revenue in the first nine months of 2017~~ compared to the same period in ~~2016 was due~~2020, primarily driven by a mix to IBM Z and margin expansion in IBM Z and Power Systems, partially offset by a decline in internal revenue of 30.9 percent, driven by a decrease in internal used equipment sales (down 39.9 percent to $662 million), partially offset by an increase in internal financing (up 10.1 percent to $263 million). External revenue was flat (down 0.4 percent adjusted for currency), with a decline in financing (down 6.3 percent to $877 million), partially offset by an increase in external used equipment sales (up 19.3 percent to $370 million).Storage Systems margin.

~~The year-to-year increase in internal financing revenue in~~In the ~~third~~second quarter of ~~2017 was due~~2021, Systems pre-tax income of $176 million decreased 28.8 percent and pre-tax margin of 9.0 percent decreased 2.8 points compared to ~~higher average asset balances,~~the prior-year period, driven primarily by the portfolio mix and the z15

Table of Contents

Management Discussion – (continued)

product cycle, partially offset by lower ~~asset yields. The year-to-year increase in internal financing revenue~~costs in the current year as a result of prior workforce rebalancing actions. For the first ~~nine~~six months of ~~2017 was due~~2021, pre-tax income increased $143 million to ~~higher average asset balances~~$174 million and ~~higher asset yields. The decrease in external financing revenue in the third quarter~~pre-tax margin of ~~2017,~~4.9 percent increased 4.0 points compared to the ~~same~~prior-year period, ~~in 2016, was due to~~driven primarily by lower ~~asset yields, partially offset by higher average asset balances. The decrease in external financing revenue~~costs in the ~~first nine months~~current year as a result of ~~2017, compared to~~prior workforce rebalancing actions and lower workforce rebalancing charges in the ~~same period in 2016 was due to lower asset yields.~~current year.

Global Financing

~~Total sales of used equipment represented 46.5 percent and 47.5 percent~~See pages 85 through 88 for a discussion of Global Financing’s revenue in the third quarter and first nine months of 2017, respectively, and 49.1 percent and 54.6 percent in the third quarter and first nine months of 2016, respectively. The decreases in both periods were due to a lower volume of used equipment sales for internal transactions. The gross profit margin on used sales was 33.2 percent and 54.6 percent in the third quarter of 2017 and 2016, respectively, and 45.4 percent and 60.8 percent in the first nine months of 2017 and 2016, respectively. The decrease in the gross profit margin was driven by a shift in mix away from higher margin internal equipment sales and declines in internal sales margins.

Global Financing pre-tax income decreased 31.4 percent to $244 million in the third quarter of 2017, compared to the same period in 2016, due to lower gross profit ($118 million), partially offset by a decrease in total expenses ($6 million). Pre-tax income decreased 30.8 percent to $836 million in the first nine months of 2017, compared to the same period in 2016, due to lower gross profit ($426 million), partially offset by a decrease in total expense ($55 million), including a decrease in financing receivables provisions ($61 million), primarily due to higher Brazil reserve requirements in the prior year.

Global Financing return on equity was 23.8 percent and 24.6 percent for the three and nine months ended September 30, 2017, respectively, compared to 27.2 percent and 30.3 percent for the three and nine months ended September 30, 2016, respectively. The decrease in return on equity in the third quarter and first nine months of 2017 compared to the same periods of 2016, was due to the decrease in net income, partially offset by a decrease in equity. See page 84 for the details of the after-tax income and return on equity calculation.

Total unguaranteed residual value of leases was $668 million as of September 30, 2017. In addition to the unguaranteed residual value, on a limited basis, Global Financing will obtain guarantees of the future value of the equipment to be returned at end of lease. Third-party residual value guarantees increase the minimum lease payments as provided for by accounting standards that are utilized in determining the classification of a lease as a sales-type lease, direct financing lease or operating lease and provide protection against risk of loss arising from declines in equipment values for these assets. The aggregate asset values associated with the guarantees of sales-type leases were $79 million and $43 million for the financingsegment results.

~~Management Discussion — (continued)~~

~~transactions originated during the quarters ended September 30, 2017 and 2016, respectively and $186 million and $201 million for the nine months ended September 30, 2017 and 2016, respectively.~~

Geographic Revenue

In addition to the revenue presentation by reportable segment, ~~the company~~we also ~~measures~~measure revenue performance on a geographic basis. ~~The following geographic, regional and country-specific revenue performance excludes OEM revenue.~~


									Yr. to Yr.
							Yr. to Yr.		Percent Change
							Percent		Excluding Divested
					Yr. to Yr.		Change		Businesses And
(Dollars in millions)					Percent		Adjusted For		Adjusted For
For the three months ended June 30:	2021		2020		Change		Currency		Currency
Total Revenue	$	18,745	$	18,123	3.4	%	(0.6)	%	(0.5)	%
Americas	$	8,820	$	8,450	4.4	%	2.9	%	3.0	%
Europe/Middle East/Africa (EMEA)		6,038		5,695	6.0		(3.0)		(2.9)
Asia Pacific		3,887		3,977	(2.3)		(4.5)		(4.5)

							Yr. to Yr.
							Percent
					Yr. to Yr.		Change

																	Yr. to Yr.
															Yr. to Yr.		Percent Change
															Percent		Excluding Divested
													Yr. to Yr.		Change		Businesses And
(Dollars in millions)					Percent		Adjusted For						Percent		Adjusted For		Adjusted For
For the three months ended September 30:	2017		2016		Change		Currency
For the six months ended June 30:									2021		2020		Change		Currency		Currency
Total Revenue	$	19,153	$	19,226	(0.4	)%	(1.0	)%	$	36,474	$	35,694	2.2	%	(1.5)	%	(1.4)	%
Geographies:	$	19,063	$	19,159	(0.5	)%	(1.1	)%
Americas	8,887		9,070		(2.0	)	(2.5	)	$	16,999	$	16,617	2.3	%	1.6	%	1.7	%
Europe/Middle East/Africa (EMEA)	5,989		5,851		2.4		(1.4	)		11,679		11,212	4.2		(4.3)		(4.2)
Asia Pacific	4,187		4,238		(1.2	)	2.2			7,797		7,865	(0.9)		(4.1)		(4.1)

Yr. to Yr.

Percent

Yr. to Yr.

Change

(Dollars in millions)

Percent

Adjusted For

For the nine months ended September 30:

2017

2016

Change

Currency

Total Revenue

$
56,597

$
58,149

(2.7
)%
(2.2
)%
Geographies:

$
56,343

$
57,932

(2.7
)%
(2.2
)%
Americas

26,727

27,229

(1.8
)
(2.3
)
Europe/Middle East/Africa (EMEA)

17,186

18,032

(4.7
)
(3.3
)
Asia Pacific

12,430

12,671

(1.9
)
(0.6
)

Total ~~geographic~~ revenue of ~~$19,063~~$18,745 million increased 3.4 percent as reported and was flat excluding divested businesses and adjusted for currency in the second quarter of 2021 compared to the prior-year period.

Americas revenue of $8,820 million increased 4.4 percent as reported and 3 percent adjusted for currency. Within Americas, the U.S. increased 1.5 percent compared to the prior year. Canada increased 34.7 percent as reported and 20 percent adjusted for currency. Latin America decreased 1.7 percent as reported and 2 percent adjusted for currency, with Brazil revenue flat as reported, but declining 1 percent adjusted for currency.

In EMEA, total revenue of $6,038 million increased 6.0 percent as reported, but decreased 3 percent adjusted for currency. Within EMEA, Germany increased 4.2 percent as reported, but declined 4 percent adjusted for currency. As reported, France, the UK and Italy increased 18.4 percent, 13.9 percent and 11.1 percent, respectively, and grew 9 percent, 2 percent and 2 percent, respectively, adjusted for currency.

Asia Pacific revenue of $3,887 million decreased ~~0.5~~2.3 percent as reported and 5 percent adjusted for currency. Within Asia Pacific, Japan decreased 2.8 percent as reported and 1 percent adjusted for ~~currency in~~currency. As reported, India, Australia and China decreased 5.1 percent, 4.7 percent and 3.3 percent, respectively, and declined 8 percent, 18 percent and 10 percent, respectively, adjusted for currency.

Table of Contents

Management Discussion – (continued)

For the ~~third quarter~~first six months of ~~2017 compared to the prior year. Americas~~2021, total revenue of ~~$8,887 million decreased 2.0 percent as reported and 2 percent adjusted for currency. EMEA revenue of $5,989~~$36,474 million increased ~~2.4~~2.2 percent as reported, but declined 1 percent ~~adjusted for currency. Asia Pacific revenue of $4,187 million declined 1.2 percent as reported, but grew 2 percent~~excluding divested businesses and adjusted for currency ~~in the third quarter versus the prior year. Each of the three geographies had year-to-year revenue performance improvement (as reported and at constant currency)~~ compared to the ~~second-quarter 2017 year-to-year performance.~~prior-year period.

~~Within~~ Americas ~~third-quarter~~ revenue ~~in the U.S. decreased 2.6 percent compared to the prior year. Canada~~of $16,999 million increased ~~2.1 percent as reported but declined 2 percent year to year adjusted for currency. Latin America decreased 1.5~~2.3 percent as reported and 2 percent adjusted for currency. Within ~~Latin America, Brazil decreased 11.3~~Americas, the U.S. increased 1.1 percent compared to the prior year. Canada increased 20.7 percent as reported and 1310 percent adjusted for ~~currency while Mexico increased 31.0 percent as reported and 27 percent adjusted for~~ currency.

In the third quarter, within EMEA, the UK declined 9.3 percent (9 percent adjusted for currency). France increased 14.2 percent (8 percent adjusted for currency), Germany increased 8.4 percent (3 percent adjusted for currency), Spain increased 10.9 percent (5 percent adjusted for currency), Norway increased 30.0 percent (24 percent adjusted for currency) and Italy increased 7.3 percent (2 percent adjusted for currency) compared to the same period in the prior year. The Middle East and Africa region increased 3.1 percent as reported and 2 percent adjusted for currency.

~~Within Asia Pacific, Japan revenue~~ Latin America decreased 4.0 percent as reported, but grew 4 percent adjusted for currency compared to the same period in the prior year. India grew 14.1 percent as reported (10 percent adjusted for currency) while Australia declined 7.8 percent (11 percent adjusted for currency). China revenue grew 3.9 percent as reported (4 percent adjusted for currency) and Taiwan grew 19.2 percent as reported (14 percent adjusted for currency).

~~Total geographic revenue of $56,343 million decreased 2.7~~5.6 percent as reported and 2 percent adjusted for currency, ~~in the first nine months of 2017 compared to the prior year. Americas~~with Brazil revenue declining 7.2 percent as reported and 1 percent adjusted for currency.

In EMEA, total revenue of ~~$26,727~~$11,679 million increased 4.2 percent as reported, but declined 4 percent adjusted for currency. Within EMEA, the UK increased 10.4 percent as reported and grew slightly adjusted for currency. As reported, France, Italy and Germany increased 6.9 percent, 6.8 percent and 3.8 percent, respectively, but declined 2 percent, 2 percent and 5 percent, respectively, adjusted for currency.

Asia Pacific revenue of $7,797 million decreased ~~1.8~~0.9 percent as reported and 4 percent adjusted for currency. Within Asia Pacific, Japan decreased 1.4 percent as reported and 2 percent adjusted for currency. ~~EMEA revenue of $17,186 million~~India decreased ~~4.7~~8.6 percent as reported and ~~3 percent adjusted for currency. Asia Pacific revenue of $12,430 million decreased 1.9 percent as reported and 1 percent adjusted for currency.~~

~~Management Discussion — (continued)~~

Within Americas, U.S. revenue decreased 3.0 percent compared to the first nine months of the prior year. Canada increased 0.9 percent as reported, which was essentially flat year to year on an adjusted for currency basis. Latin America increased 4.5 percent as reported and 1 percent adjusted for currency. Within Latin America, Brazil increased 5.7 percent as reported, but declined 210 percent adjusted for currency ~~while Mexico increased 11.3 percent as reported~~ and ~~13 percent adjusted for currency.~~

~~Within EMEA, the UK~~China decreased 15.6 percent as reported and 8 percent adjusted for currency compared to the first nine months of the prior year. Germany decreased 4.7 percent as reported and 5 percent adjusted for currency. Switzerland decreased 12.37.0 percent as reported and 12 percent adjusted for currency. ~~Spain increased~~Australia grew 4.4 percent ~~(5 percent adjusted for currency). The Central and Eastern European region declined 1.7 percent (2 percent adjusted for currency) and the Middle East and Africa region was essentially flat~~ as reported, but ~~down 2~~declined 11 percent adjusted for currency.

Expense

Within Asia Pacific, Japan declined 1.8 percent as reported, but grew 2 percent adjusted for currency compared to the first nine months of the prior year. Australia decreased 6.6 percent as reported and 9 percent adjusted for currency. China decreased 7.8 percent as reported and 6 percent adjusted for currency. India increased 8.9 percent as reported and 6 percent adjusted for currency. South Korea increased 5.4 percent as reported and 3 percent adjusted for currency.

~~Expense~~

Total Expense and Other (Income)

Yr. to Yr.

(Dollars in millions)

Percent

For the three months ended September 30:

2017

2016

Change

Total consolidated expense and other (income)

$
5,735

$
5,751

(0.3
)%
Non-operating adjustments:

Amortization of acquired intangible assets

$
(125
)
$
(136
)
(8.1
)%
Acquisition-related charges

0

(4
)
(101.8
)
Non-operating retirement-related (costs)/income

(103
)
(60
)
71.9

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

$
5,507

$
5,550

(0.8
)%
Total consolidated expense-to-revenue ratio

29.9
%
29.9
%
0.0
pts.
Operating (non-GAAP) expense-to-revenue ratio

28.8
%
28.9
%
(0.1
)pts.

Yr. to Yr.

(Dollars in millions)

Percent

For the nine months ended September 30:

2017

2016

Change

Total consolidated expense and other (income)

$
18,434

$
20,056

(8.1
)%
Non-operating adjustments:

Amortization of acquired intangible assets

$
(382
)
$
(371
)
2.8
%
Acquisition-related charges

(19
)
(1
)
nm

Non-operating retirement-related (costs)/income

(474
)
(206
)
130.0

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

$
17,559

$
19,478

(9.9
)%
Total consolidated expense-to-revenue ratio

32.6
%
34.5
%
(1.9
)pts.
Operating (non-GAAP) expense-to-revenue ratio

31.0
%
33.5
%
(2.5
)pts.


							Yr. to Yr.
(Dollars in millions)							Percent
For the three months ended June 30:	2021			2020			Change
Total consolidated expense and other (income)	$	7,451		$	7,129		4.5	%
Non-operating adjustments:
Amortization of acquired intangible assets	$	(281)		$	(284)		(1.2)	%
Acquisition-related charges		(18)			(1)		nm
Non-operating retirement-related (costs)/income		(328)			(273)		19.8
Separation-related charges		(117)			—		nm
Operating (non-GAAP) expense and other (income)	$	6,708		$	6,570		2.1	%
Total consolidated expense-to-revenue ratio		39.8	%		39.3	%	0.4	pts.
Operating (non-GAAP) expense-to-revenue ratio		35.8	%		36.3	%	(0.5)	pts.

nm - not meaningful


							Yr. to Yr.
(Dollars in millions)							Percent
For the six months ended June 30:	2021			2020			Change
Total consolidated expense and other (income)	$	14,751		$	15,101		(2.3)	%
Non-operating adjustments:
Amortization of acquired intangible assets	$	(559)		$	(569)		(1.9)	%
Acquisition-related charges		(34)			(2)		nm
Non-operating retirement-related (costs)/income		(670)			(538)		24.6
Separation-related charges		(175)			—		nm
Operating (non-GAAP) expense and other (income)	$	13,313		$	13,992		(4.9)	%
Total consolidated expense-to-revenue ratio		40.4	%		42.3	%	(1.9)	pts.
Operating (non-GAAP) expense-to-revenue ratio		36.5	%		39.2	%	(2.7)	pts.

nm - not meaningful

Table of Contents

Management Discussion – (continued)

Total expense and other (income) increased 4.5 percent in the second quarter of 2021 versus the prior year. Our expense dynamics reflect a higher level of investment in innovation, skills and our ecosystem as we execute our hybrid cloud and AI strategy. We are aggressively hiring, scaling our garage footprint, increasing our research spend in areas including quantum, hybrid cloud and AI, and expanding our ecosystem. The year-to-year increase in expense was also driven by the effects of currency, separation-related charges in the current-year period, lower IP income and higher non-operating retirement-related costs, partially offset by a benefit from expected credit loss expense, lower workforce rebalancing charges and lower interest expense in the current-year period. Total operating (non-GAAP) expense and other (income) increased 2.1 percent year to year, driven primarily by the factors described above excluding the separation-related charges and higher non-operating retirement-related costs.

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

~~Management Discussion — (continued)~~

Selling, General and Administrative Expense

Yr. to Yr.

(Dollars in millions)

Percent

For the three months ended September 30:

2017

2016

Change

Selling, general and administrative expense:

Selling, general and administrative — other

$
3,898

$
3,983

(2.1
)%
Advertising and promotional expense

337

341

(1.4
)
Workforce rebalancing charges

17

25

(31.1
)
Retirement-related costs

175

174

0.7

Amortization of acquired intangible assets

125

136

(8.1
)
Stock-based compensation

88

105

(16.5
)
Bad debt expense

7

(32
)
nm

Total consolidated selling, general and administrative expense

$
4,648

$
4,732

(1.8
)%
Non-operating adjustments:

Amortization of acquired intangible assets

$
(125
)
$
(136
)
(8.1
)%
Acquisition-related charges

0

(3
)
nm

Non-operating retirement-related (costs)/income

(53
)
(53
)
(0.5
)
Operating (non-GAAP) selling, general and administrative expense

$
4,470

$
4,541

(1.6
)%

nm ~~— not meaningful~~

Yr. to Yr.

(Dollars in millions)

Percent

For the nine months ended September 30:

2017

2016

Change

Selling, general and administrative expense:

Selling, general and administrative — other

$
12,293

$
12,697

(3.2
)%
Advertising and promotional expense

1,090

1,051

3.7

Workforce rebalancing charges

188

1,038

(81.9
)
Retirement-related costs

690

551

25.3

Amortization of acquired intangible assets

382

371

2.8

Stock-based compensation

277

295

(6.1
)
Bad debt expense

40

90

(56.0
)
Total consolidated selling, general and administrative expense

$
14,959

$
16,093

(7.0
)%
Non-operating adjustments:

Amortization of acquired intangible assets

$
(382
)
$
(371
)
2.8
%
Acquisition-related charges

(12
)
6

nm

Non-operating retirement-related (costs)/income

(326
)
(183
)
78.0

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

$
14,240

$
15,545

(8.4
)%


					Yr. to Yr.
(Dollars in millions)					Percent
For the three months ended June 30:	2021		2020		Change
Selling, general and administrative expense:
Selling, general and administrative — other	$	4,451	$	4,239	5.0	%
Advertising and promotional expense		399		363	9.9
Workforce rebalancing charges		95		137	(30.6)
Amortization of acquired intangible assets		281		284	(1.2)
Stock-based compensation		152		155	(2.1)
Provision for/(benefit from) expected credit loss expense		(43)		70	nm
Total consolidated selling, general and administrative expense	$	5,334	$	5,248	1.6	%
Non-operating adjustments:
Amortization of acquired intangible assets	$	(281)	$	(284)	(1.2)	%
Acquisition-related charges		(18)		(1)	nm
Separation-related charges		(116)		—	nm
Operating (non-GAAP) selling, general and administrative expense	$	4,919	$	4,962	(0.9)	%

nm - not meaningful


					Yr. to Yr.
(Dollars in millions)					Percent
For the six months ended June 30:	2021		2020		Change
Selling, general and administrative expense:
Selling, general and administrative — other	$	8,757	$	8,580	2.1	%
Advertising and promotional expense		750		791	(5.1)
Workforce rebalancing charges		241		865	(72.1)
Amortization of acquired intangible assets		558		568	(1.9)
Stock-based compensation		275		272	1.2
Provision for/(benefit from) expected credit loss expense		(73)		126	nm
Total consolidated selling, general and administrative expense	$	10,508	$	11,203	(6.2)	%
Non-operating adjustments:
Amortization of acquired intangible assets	$	(558)	$	(568)	(1.9)	%
Acquisition-related charges		(34)		(2)	nm
Separation-related charges		(175)		—	nm
Operating (non-GAAP) selling, general and administrative expense	$	9,742	$	10,633	(8.4)	%

nm - not meaningful

Table of Contents

Management Discussion – (continued)

Total selling, general and administrative (SG&A) expense ~~decreased 1.8~~increased 1.6 percent in the ~~third~~second quarter of ~~2017~~2021 versus the prior year driven by the higher level of investments we are making to execute our hybrid cloud and AI strategy, as well as the following factors:

●

The effects of currency (3 points); and

●

Separation-related charges in the current-year period (2 points); partially offset by

●

A benefit from expected credit loss expense compared to a provision in the prior-year period (2 points); and

●

Lower workforce rebalancing charges (1 point).

Operating (non-GAAP) expense decreased 0.9 percent year to year, primarily driven by the same factors excluding the separation-related charges.

SG&A expense decreased 6.2 percent in the first six months of 2021 versus the prior year driven primarily by the following factors:

· ~~Lower spending from increased focus on driving expense efficiency (3 points); partially offset by~~

· ~~The effects of currency (1 point); and~~

· ~~The impact of acquisitions completed in the prior 12-month period (1 point).~~

~~Operating (non-GAAP) expense decreased 1.6 percent year to year driven primarily by the same factors, excluding higher non-operating retirement-related costs net of the one-time non-operating UK gain.~~

~~SG&A expense decreased 7.0 percent in the first nine months of 2017 versus the first nine months of 2016 driven primarily by the following factors:~~

~~Management Discussion — (continued)~~

· ~~Lower workforce rebalancing charges (5 points);~~

· ~~Lower spending (2 points); and~~

· ~~The effects of currency (1 point); partially offset by~~

· ~~The impact of acquisitions completed in the prior 12-month period (1 point).~~

●

Lower workforce rebalancing charges (6 points);

●

A benefit from expected credit loss expense compared to a provision in the prior-year period (2 points); and

●

Lower spending (1 point) including reductions in travel; partially offset by

●

The effects of currency (2 points); and

●

Separation-related charges in the current-year period (2 points).

Operating (non-GAAP) expense decreased 8.4 percent year to year, primarily driven ~~primarily~~ by the same ~~factors.~~factors excluding the separation-related charges.

Third-quarter SG&A reflects a year-to-year impact of $105 million related to several commercial disputes and a benefit of $91 million resulting from the favorable resolution of pension-related litigation in the UK. Operating (non-GAAP) SG&A does not include the benefit from the pension litigation.

~~Bad debt~~Provisions for expected credit loss expense decreased ~~$51~~$199 million year to year in the first ~~nine~~six months of ~~2017,~~2021, primarily driven by ~~increased~~decreases in both specific and general reserves in ~~Brazil~~the current year compared with increases in the prior-year period. In the prior ~~year.~~year, the global pandemic resulted in some deterioration in customer credit quality and/or bankruptcies which had an impact to provisions in the first half of 2020. We have started to see improvement in credit quality and some emergence from bankruptcies in the current year as the economy begins to reopen in many parts of the world. The receivables provision coverage was ~~1.9~~2.5 percent at ~~September~~June 30, ~~2017, a decrease~~2021, an increase of 10 basis points ~~compared to~~from both December 31, ~~2016~~2020 and ~~a decrease of 100 basis points from September~~June 30, ~~2016. The decrease year to year in the receivables provision coverage was due primarily to write-offs of previously reserved receivables in December 2016.~~2020.

Research, Development and Engineering


					Yr. to Yr.
(Dollars in millions)					Percent
For the three months ended June 30:	2021		2020		Change
Research, development and engineering expense	$	1,657	$	1,582	4.7	%
Non-operating adjustment:
Separation-related charges	$	0	$	—	nm
Operating (non-GAAP) research, development and engineering expense	$	1,656	$	1,582	4.7	%

nm - not meaningful

Table of Contents

Management Discussion – (continued)

Yr. to Yr.

(Dollars in millions)

Percent

For the three months ended September 30:

2017

2016

Change

Total consolidated research, development and engineering expense

$
1,342

$
1,397

(3.9
)%
Non-operating adjustment:

Non-operating retirement-related (costs)/income

$
(51
)
$
(7
)
615.0
%
Operating (non-GAAP) research, development and engineering expense

$
1,291

$
1,390

(7.1
)%


					Yr. to Yr.
(Dollars in millions)					Percent
For the six months ended June 30:	2021		2020		Change
Research, development and engineering expense	$	3,286	$	3,207	2.5	%
Non-operating adjustment:
Separation-related charges	$	0	$	—	nm
Operating (non-GAAP) research, development and engineering expense	$	3,286	$	3,207	2.5	%

Yr. to Yr.

(Dollars in millions)

Percent

For the nine months ended September 30:

2017

2016

Change

Total consolidated research, development and engineering expense

$
4,360

$
4,320

0.9
%
Non-operating adjustment:

Non-operating retirement-related (costs)/income

$
(148
)
$
(23
)
547.8
%
Operating (non-GAAP) research, development and engineering expense

$
4,212

$
4,297

(2.0
)%

nm - not meaningful

Research, development and engineering (RD&E) expense was ~~7.0~~8.8 percent and ~~7.7~~9.0 percent of revenue in the ~~third~~second quarter and first ~~nine~~six months of ~~2017,~~2021, respectively, compared to ~~7.3~~8.7 percent and ~~7.4~~9.0 percent in ~~prior year~~the prior-year periods, ~~respectively. The company continues to invest~~respectively, reflecting our continuing investment in ~~research~~innovation as we increase spending in areas including quantum, hybrid cloud and ~~development as it builds new markets and maintains its leadership in enterprise IT.~~

AI.

RD&E expense in the ~~third~~second quarter of ~~2017 decreased 3.9~~2021 increased 4.7 percent year to year, primarily driven ~~by:~~

· ~~Lower~~by higher spending ~~net of higher retirement-related costs (5~~(3 points)~~; partially offset by~~

· ~~The~~ and the effects of currency ~~(1 point)~~(2 points).

Operating (non-GAAP) RD&E expense decreased 7.1 percent in the third quarter of 2017 compared to the prior year, driven primarily by the same factors, excluding higher non-operating retirement-related costs.

RD&E expense in the first ~~nine~~six months of ~~2017~~2021 increased ~~0.9~~2.5 percent year to year, primarily driven ~~by:~~

· ~~The impact~~by the effects of ~~acquisitions completed in the prior 12-month period~~currency (2 points)~~; partially offset by~~

~~Management Discussion — (continued)~~ and higher spending (1 point).

· ~~Lower spending, net of higher retirement-related costs.~~

Operating (non-GAAP) RD&E expense decreased 2.0 percent in the first nine months of 2017 compared to the prior year, driven primarily by the same factors, excluding higher non-operating retirement-related costs.

Intellectual Property and Custom Development Income


					Yr. to Yr.
(Dollars in millions)					Percent
For the three months ended June 30:	2021		2020		Change
Intellectual Property and Custom Development Income:
Licensing of intellectual property including royalty-based fees	$	64	$	128	(49.9)	%
Custom development income		67		74	(9.0)
Sales/other transfers of intellectual property		4		1	192.3
Total	$	135	$	203	(33.5)	%


					Yr. to Yr.
(Dollars in millions)					Percent
For the six months ended June 30:	2021		2020		Change
Intellectual Property and Custom Development Income:
Licensing of intellectual property including royalty-based fees	$	136	$	162	(16.0)	%
Custom development income		136		149	(9.1)
Sales/other transfers of intellectual property		10		8	28.2
Total	$	282	$	319	(11.7)	%

Yr. to Yr.

(Dollars in millions)

Percent

For the three months ended September 30:

2017

2016*

Change

Intellectual Property and Custom Development Income:

Licensing of intellectual property including royalty-based fees

$
236

$
474

(50.1
)%
Custom development income

62

53

16.4

Sales/other transfers of intellectual property

10

1

607.5

Total

$
308

$
528

(41.7
)%

* Reclassified to conform to 2017 presentation.

Yr. to Yr.

(Dollars in millions)

Percent

For the nine months ended September 30:

2017

2016*

Change

Intellectual Property and Custom Development Income:

Licensing of intellectual property including royalty-based fees

$
921

$
935

(1.5
)%
Custom development income

186

158

18.2

Sales/other transfers of intellectual property

11

17

(38.4
)
Total

$
1,118

$
1,110

0.7
%

* Reclassified to conform to 2017 presentation.

~~Licensing of~~ Total intellectual property ~~including royalty-based fees~~and custom development income decreased ~~50.1~~33.5 percent and 11.7 percent year to year in the ~~third~~second quarter ~~of 2017~~ and ~~decreased 1.5 percent in the~~ first ~~nine~~six months of ~~2017 compared to the prior-year period.~~ The company entered into new partnership agreements in the first nine months of 2017, which included two transactions with period income greater than $100 million. The company is licensing IP to partners who are allocating their skills to extend the value of assets that are high value, but may be in mature markets. The2021, respectively. These decreases were primarily driven by licensing of intellectual property ~~for the first nine months of 2016 included three transactions with period income greater than $100 million.~~including royalty-based fees. 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.

Table of Contents

Management Discussion —– (continued)

Other (Income) and Expense

Yr. to Yr.

(Dollars in millions)

Percent

For the three months ended September 30:

2017

2016

Change

Other (income) and expense:

Foreign currency transaction losses/(gains)

$
37

$
93

(60.3
)%
(Gains)/losses on derivative instruments

(29
)
(23
)
22.0

Interest income

(38
)
(22
)
72.7

Net (gains)/losses from securities and investment assets

(6
)
(5
)
20.9

Other

(79
)
(51
)
54.9

Total consolidated other (income) and expense

$
(114
)
$
(8
)
nm
%
Non-operating adjustment:

Acquisition-related charges

$
0

$
(2
)
(100.0
)%
Operating (non-GAAP) other (income) and expense

$
(114
)
$
(10
)
nm
%


					Yr. to Yr.
(Dollars in millions)					Percent
For the three months ended June 30:	2021		2020		Change
Other (income) and expense:
Foreign currency transaction losses/(gains)	$	(14)	$	62	nm
(Gains)/losses on derivative instruments		79		(92)	nm
Interest income		(11)		(23)	(50.6)	%
Net (gains)/losses from securities and investment assets		0		0	(29.3)
Retirement-related costs/(income)		328		273	19.8
Other		(67)		(43)	56.0
Total consolidated other (income) and expense	$	315	$	179	76.1	%
Non-operating adjustments:
Amortization of acquired intangible assets	$	(1)	$	(1)	—
Non-operating retirement-related (costs)/income		(328)		(273)	19.8	%
Operating (non-GAAP) other (income) and expense	$	(14)	$	(95)	(85.7)	%

nm - not meaningful

Yr. to Yr.

(Dollars in millions)

Percent

For the nine months ended September 30:

2017

2016

Change

Other (income) and expense:

Foreign currency transaction losses/(gains)

$
374

$
514

(27.2
)%
(Gains)/losses on derivative instruments

(351
)
(339
)
3.5

Interest income

(102
)
(76
)
35.5

Net (gains)/losses from securities and investment assets

(16
)
29

nm

Other

(123
)
153

nm

Total consolidated other (income) and expense

$
(218
)
$
281

nm
%
Non-operating adjustment:

Acquisition-related charges

$
(7
)
$
(7
)
(1.0
)%
Operating (non-GAAP) other (income) and expense

$
(225
)
$
274

nm
%


					Yr. to Yr.
(Dollars in millions)					Percent
For the six months ended June 30:	2021		2020		Change
Other (income) and expense:
Foreign currency transaction losses/(gains)	$	(123)	$	(64)	92.2	%
(Gains)/losses on derivative instruments		239		9	nm
Interest income		(25)		(74)	(66.4)
Net (gains)/losses from securities and investment assets		(6)		(5)	10.9
Retirement-related costs/(income)		670		538	24.6
Other		(79)		(42)	87.0
Total consolidated other (income) and expense	$	676	$	361	87.3	%
Non-operating adjustments:
Amortization of acquired intangible assets	$	(1)	$	(1)	—
Non-operating retirement-related (costs)/income		(670)		(538)	24.6	%
Operating (non-GAAP) other (income) and expense	$	5	$	(178)	nm

nm - not meaningful

Total consolidated other (income) and expense was ~~income~~$315 million of ~~$114~~expense in the second quarter of 2021 compared to $179 million in the ~~third quarter of 2017 compared to income of $8 million in the third quarter of 2016.~~prior-year period. The year-to-year increase ~~in income of $106 million year to year~~ was primarily driven by:

●

Net exchange losses (including derivative instruments) in the current year versus net exchange gains (including derivative instruments) in the prior year ($94 million); and

●

Higher non-operating retirement-related costs ($54 million). Refer to “Retirement-Related Plans” for additional information.

· ~~Lower foreign currency transaction losses ($56 million);~~

· ~~Higher gains on real estate transactions (reflected in Other~~Operating (non-GAAP) other (income) and expense was $14 million of income in the ~~table above) ($19 million);~~second quarter of 2021 and decreased $82 million compared to the prior-year period. The year-to-year change was driven primarily by the effects of currency described above.

Table of Contents

Management Discussion – (continued)

· ~~Higher interest income ($16 million).~~

~~The~~Total consolidated other (income) and expense was ~~income~~$676 million of ~~$218~~expense in the first six months of 2021 compared to $361 million in the ~~first nine months of 2017 compared to expense of $281 million in the first nine months of 2016.~~prior year. The year-to-year increase ~~in income of $499 million year over year~~ was primarily driven by:

●

Net exchange losses (including derivative instruments) in the current year versus net exchange gains (including derivative instruments) in the prior year ($171 million);

●

Higher non-operating retirement-related costs ($132 million). Refer to “Retirement-Related Plans” for additional information; and

●

Lower interest income ($49 million) primarily due to lower interest rates in the current-year period.

· ~~Real estate capacity charges (reflected in Other in the table above) in the prior year related to workforce transformation ($328 million);~~

· ~~Lower foreign currency transaction losses ($140 million);~~

· ~~Reduced losses from securities~~Operating (non-GAAP) other (income) and ~~investment assets ($45 million), primarily related to the sale~~expense was $5 million of ~~Lenovo shares~~expense in the first ~~quarter~~six months of ~~2016;~~2021 compared to income of $178 million in the prior-year period. The year-to-year change was driven primarily by the effects of currency and

· ~~Higher~~ lower interest income ~~($27 million); partially offset by~~described above.

· ~~Lower gains on divestitures ($42 million).~~

~~Management Discussion — (continued)~~

Interest Expense


					Yr. to Yr.
(Dollars in millions)					Percent
For the three months ended June 30:	2021		2020		Change
Interest expense	$	281	$	323	(12.9)	%

					Yr. to Yr.

											Yr. to Yr.
(Dollars in millions)					Percent						Percent
For the three months ended September 30:	2017		2016		Change
For the six months ended June 30:							2021		2020		Change
Interest expense	$	168	$	158	6.4	%	$	562	$	649	(13.4)	%

Yr. to Yr.

(Dollars in millions)

Percent

For the nine months ended September 30:

2017

2016

Change

Interest expense

$
451

$
473

(4.6
)%

Interest expense ~~increased $10~~decreased $42 million and $87 million year to year in the ~~third~~second quarter ~~but decreased $22 million in the~~and first ~~nine~~six months of ~~2017.~~2021, respectively. Interest expense is presented in cost of financing in the Consolidated Income Statement ~~of Earnings~~ if the related external borrowings are to support the Global Financing external business. Overall interest expense (excluding capitalized interest) for the ~~third~~second quarter and first ~~nine~~six months of ~~2017~~2021 was ~~$335~~$386 million and ~~$947~~$772 million, respectively, ~~an increase~~a decrease of ~~$29~~$55 million and ~~$43~~$113 million ~~respectively,~~ versus the comparable prior-year ~~periods,~~periods. The decrease for the second quarter was primarily driven by ~~higher~~a lower average debt balance compared to the prior-year period. The year-to-year decrease for the first six months of 2021 was primarily driven by a lower average debt balance and lower average interest rates ~~and higher average debt balance.~~in the current-year period.

Table of Contents

Management Discussion – (continued)

Retirement-Related Plans

The following ~~tables provide~~table provides the total pre-tax cost for all retirement-related plans. ~~These~~The operating cost amounts are included in the Consolidated Income Statement ~~of Earnings~~ within the caption (e.g., Cost, SG&A, RD&E) relating to the job function of the plan participants. The non-operating cost amounts are included in other (income) and expense.


					Yr. to Yr.
(Dollars in millions)					Percent
For the three months ended June 30:	2021		2020		Change
Retirement-related plans — cost:
Service cost	$	98	$	98	(0.2)	%
Multi-employer plans		7		7	(1.5)
Cost of defined contribution plans		265		267	(0.6)
Total operating costs	$	370	$	372	(0.5)	%
Interest cost	$	414	$	546	(24.2)	%
Expected return on plan assets		(742)		(854)	(13.1)
Recognized actuarial losses		636		559	13.7
Amortization of prior service costs/(credits)		1		0	124.0
Curtailments/settlements		16		13	24.9
Other costs		3		9	(61.5)
Total non-operating costs/(income)	$	328	$	273	19.8	%
Total retirement-related plans — cost	$	698	$	645	8.1	%

							Yr. to Yr.

													Yr. to Yr.
(Dollars in millions)							Percent						Percent
For the three months ended September 30:	2017			2016			Change
For the six months ended June 30:									2021		2020		Change
Retirement-related plans — cost:
Service cost	$	111		$	114		(2.5	)%	$	193	$	197	(1.7)	%
Amortization of prior service costs/(credits)	(22		)	(28		)	(21.3	)
Multi-employer plans										15		14	1.1
Cost of defined contribution plans	258			262			(1.4	)		536		532	0.8
Total operating costs/(income)	$	347		$	347		(0.2	)%
Total operating costs									$	744	$	743	0.1	%
Interest cost	$	746		$	826		(9.6	)%	$	826	$	1,086	(23.9)	%
Expected return on plan assets	(1,096		)	(1,392		)	(21.3	)		(1,484)		(1,706)	(13.0)
Recognized actuarial losses	728			692			5.2			1,276		1,122	13.7
Amortization of prior service costs/(credits)										4		1	398.9
Curtailments/settlements	2			4			(55.8	)		34		21	56.8
Multi-employer plan/other	(74		)	8			nm
Other costs										15		14	0.9
Total non-operating costs/(income)	$	306		$	139		121.1	%	$	670	$	538	24.6	%
Total retirement-related plans — cost	$	653		$	486		34.4	%	$	1,414	$	1,281	10.4	%

~~nm - not meaningful~~

~~Management Discussion — (continued)~~

Yr. to Yr.

(Dollars in millions)

Percent

For the nine months ended September 30:

2017

2016

Change

Retirement-related plans — cost:

Service cost

$
323

$
335

(3.6
)%
Amortization of prior service costs/(credits)

(66
)
(81
)
(18.5
)
Cost of defined contribution plans

776

802

(3.3
)
Total operating costs/(income)

$
1,033

$
1,056

(2.2
)%
Interest cost

$
2,215

$
2,483

(10.8
)%
Expected return on plan assets

(3,250
)
(4,190
)
(22.4
)
Recognized actuarial losses

2,143

2,069

3.5

Curtailments/settlements

3

19

(81.6
)
Multi-employer plans/other

(46
)
64

nm

Total non-operating costs/(income)

$
1,065

$
444

139.8
%
Total retirement-related plans — cost

$
2,097

$
1,500

39.8
%

~~nm - not meaningful~~

~~In the third quarter of 2017, total~~Total pre-tax retirement-related plan cost increased by ~~$167~~$52 million compared to the ~~third~~second quarter of ~~2016,~~2020, primarily driven by lower expected return on plan assets ($~~296~~112 million) and an increase in recognized actuarial losses ($3676 million);, partially offset by lower interest costs ($~~79 million) and a reduction in other ($83 million), driven by the pension obligation adjustment recorded related to the UK pension litigation ($91~~132 million). Total cost for the first ~~nine~~six months of ~~2017~~2021 increased ~~by $597~~$133 million versus the first ~~nine~~six months of ~~2016,~~2020, primarily driven by lower expected return on plan assets ($~~940~~222 million) and an increase in recognized actuarial losses ($73154 million);, partially offset by lower interest costs ($~~268~~259 million) ~~and other costs ($109 million)~~.

As ~~discussed~~described in the ~~“Snapshot” on page 51, the company~~“Operating (non-GAAP) Earnings” section, management characterizes certain retirement-related costs as operating and others as non-operating. Utilizing this characterization, operating retirement-related costs in the ~~third~~second quarter of ~~2017~~2021 were ~~$347~~$370 million, ~~flat~~a decrease of $2 million compared to the ~~third~~second quarter of 2016. Non-operating costs of $306 million in the third quarter of 2017 increased $168 million year to year, driven primarily by lower expected return on plan assets ($296 million) and an increase in recognized actuarial losses ($36 million); partially offset by lower interest costs ($79 million) and other costs ($83 million).2020. For the first ~~nine~~six months of ~~2017,~~2021, operating retirement-related costs were ~~$1,033~~$744 million, ~~a decrease~~an increase of ~~$24~~$1 million compared to the ~~first nine months of 2016, primarily driven by lower defined contribution plan costs ($26 million).~~prior-year period. Non-operating costs of ~~$1,065 million increased $621~~$328 million in the second quarter of 2021 increased $54 million year to year

Table of Contents

Management Discussion – (continued)

and for the first ~~nine~~six months of ~~2017~~2021 were $670 million, an increase of $132 million compared to the ~~prior year,~~prior-year period. These non-operating cost increases were driven primarily by lower expected return on plan assets ($940 million) and an increase in recognized actuarial losses ($73 million); partially offset by lower interest costs ($268 million) and other costs ($109 million), driven by the ~~third-quarter pension obligation adjustment~~same factors as described above.

Taxes

The provision for income taxes for the second quarter of 2021 was $227 million, compared to $209 million in the ~~UK.~~

~~Taxes~~

second quarter of 2020. The operating (non-GAAP) provision for income taxes for the second quarter of 2021 was $431 million, compared to $369 million in the second quarter of 2020.

The ~~continuing operations effective tax rate~~provision for ~~the third quarter of 2017 was 11.0 percent, a decrease of 1.5 points compared to the third quarter of 2016. The continuing operations effective tax rate~~income taxes for the first ~~nine~~six months of ~~2017~~2021 was ~~1.7 percent, an increase of 2.2 points~~$177 million, compared to a benefit from income taxes of $1,017 million for the first ~~nine~~six months of ~~2016.~~2020. The operating (non-GAAP) ~~tax rate~~provision for income taxes for the ~~third quarter~~first six months of ~~2017~~2021 was ~~14.7 percent, an increase of 0.5 points~~$610 million, compared to a benefit from income taxes of $592 million for the ~~third quarter~~first six months of ~~2016.~~2020. The benefit from income taxes for the first six months of 2020 was primarily related to the tax impacts of an intra-entity sale of certain of the company’s intellectual property. The operating (non-GAAP) ~~tax rate for the first nine months of 2017 was 7.1 percent, an increase of 3.9 points compared to the first nine months of 2016.~~

~~The change in the continuing operations effective tax rate for the third quarter of 2017 compared to 2016 was driven by an increase in foreign tax credits, partially offset by a prior year tax~~ benefit ~~related to foreign tax audit activity. The change in the operating (non-GAAP) tax rate for the third quarter was driven by the same factors.~~

~~The change in the continuing operations effective tax rate for the first nine months of 2017 compared to 2016~~from income taxes was primarily driven by the ~~year-to-year benefits above, as well as a~~same factor.

IBM’s full-year tax provision and effective tax rate are impacted by recurring factors including the geographic mix of income before taxes, state and local taxes, the effects of various global income tax strategies and any discrete tax ~~benefit related~~events, such as the settlement of income tax audits and changes in or new interpretations of tax laws. The GAAP tax provision and effective tax rate could also be affected by adjustments to the ~~intra-entity transfer recognized~~previously recorded charges for U.S. tax reform attributable to any changes in law, new regulations and guidance, audit adjustments, among others.

During the fourth quarter of 2020, the U.S. Internal Revenue Service (IRS) concluded its examination of the company’s U.S. income tax returns for 2013 and 2014, which had a specific focus on certain cross-border transactions that occurred in 2013 and issued a final Revenue Agent’s Report. The IRS’ proposed adjustments relative to these cross-border transactions, if sustained, would result in additional taxable income of approximately $4.5 billion. The company strongly disagrees with the IRS on these specific matters and filed its IRS Appeals protest in the first quarter of ~~2017~~2021. In the third quarter of 2018, the IRS commenced its audit of the company’s U.S. tax returns for 2015 and ~~other net discrete period impacts~~2016. The company anticipates that this audit will be completed in the first two quarters of 2017 primarily related to foreign tax audit activity. These benefits were more than offset by a prior year tax benefit related to the Japan tax matter (a refund of $1.0 billion plus interest of $0.2 billion). The change in the operating (non-GAAP) tax rate was driven by the same factors.

~~Management Discussion — (continued)~~

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 ~~2012.~~2015. The company is no longer subject to income tax examination of its U.S. federal tax ~~return~~returns 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 ~~interest~~penalties have been provided for any adjustments that are expected to result for these years.

In the first quarter of 2016, the IRS commenced its audit of the company’s U.S. tax returns for 2013 and 2014. The company anticipates that this audit will be completed by the end of the first quarter of 2018.

~~The amount of unrecognized tax benefits at December 31, 2016 increased by $108 million in the third quarter of 2017 and increased by $466 million in the first nine months of 2017 to $4,206 million~~. The overall increase for the nine months ended September 30, 2017 was primarily related to potential U.S. audit matters. The total amount of unrecognized tax benefits that, if recognized, would favorably affect the effective tax rate was $3,107 million at September 30, 2017.

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 ~~September~~June 30, ~~2017,~~2021, the company ~~has~~had recorded ~~$566~~$731 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 ~~Indian~~India Tax Authorities. ~~The~~Although the outcome of tax audits are always uncertain, the company believes ~~it will prevail on~~that adequate amounts of tax, interest and penalties have been provided for any adjustments that are expected to result for these ~~matters.~~years.

The amount of unrecognized tax benefits at June 30, 2021 is $8,019 million which can be reduced by $580 million associated with timing adjustments, U.S. tax credits, potential transfer pricing adjustments, and state income taxes. The net amount of $7,439 million, if recognized, would favorably affect the company’s effective tax rate.

Table of Contents

Management Discussion – (continued)

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.


					Yr. to Yr.
					Percent
For the three months ended June 30:	2021		2020		Change
Earnings per share of common stock from continuing operations:
Assuming dilution	$	1.47	$	1.52	(3.3)	%
Basic	$	1.48	$	1.53	(3.3)	%
Diluted operating (non-GAAP)	$	2.33	$	2.18	6.9	%
Weighted-average shares outstanding: (in millions)
Assuming dilution		904.2		894.9	1.0	%
Basic		895.0		889.4	0.6	%

					Yr. to Yr.
					Percent
For the three months ended September 30:	2017		2016		Change

											Yr. to Yr.
											Percent
For the six months ended June 30:							2021		2020		Change
Earnings per share of common stock from continuing operations:
Assuming dilution	$	2.92	$	2.98	(2.0	)%	$	2.52	$	2.83	(11.0)	%
Basic	$	2.93	$	2.99	(2.0	)%	$	2.55	$	2.85	(10.5)	%
Diluted operating (non-GAAP)	$	3.30	$	3.29	0.3	%	$	4.10	$	4.02	2.0	%
Weighted-average shares outstanding: (in millions)
Assuming dilution	933.2		957.3		(2.5	)%		903.0		895.0	0.9	%
Basic	929.4		954.0		(2.6	)%		894.3		888.7	0.6	%

Yr. to Yr.

Percent

For the nine months ended September 30:

2017

2016

Change

Earnings per share of common stock from continuing operations:

Assuming dilution

$
7.24

$
7.67

(5.6
)%
Basic

$
7.28

$
7.70

(5.5
)%
Diluted operating (non-GAAP)

$
8.64

$
8.59

0.6
%
Weighted-average shares outstanding: (in millions)

Assuming dilution

940.2

960.7

(2.1
)%
Basic

935.6

957.7

(2.3
)%

Actual shares outstanding at ~~September~~June 30, ~~2017~~2021 were ~~925.8~~ 896.3 million. The weighted-average number of common shares outstanding assuming dilution during the ~~third~~second quarter and first ~~nine~~six months of ~~2017~~2021 were ~~24.1~~9.3 million (1.0 percent) and ~~20.5~~8.0 million (0.9 percent) shares ~~lower~~higher, respectively, than the same periods of ~~2016. The decrease was primarily the result of the common stock repurchase program.~~2020.

~~Management Discussion — (continued)~~

Financial Position

Dynamics

At ~~September~~June 30, ~~2017, the~~2021, our balance sheet ~~remains~~remained strong ~~and~~ with ~~the newly reorganized financing entity, IBM Credit LLC, the company is better positioned~~flexibility to support the ~~business over the long term. Cash and marketable securities at quarter end were $11,515 million. The company continues~~business. We continue to manage the investment portfolio to meet ~~its~~our capital preservation and liquidity ~~objectives. Total debt~~objectives and have continued to take actions to enhance our balance sheet strength and liquidity position.

Cash, restricted cash and marketable securities at June 30, 2021 were $8,165 million, a decrease of ~~$45,625 million increased $3,457~~$6,110 million from December 31, ~~2016, driven by new~~2020, primarily due to debt ~~issuances~~reduction payments and acquisitions. Financing receivables declined $4,111 million to $13,868 million since the end of ~~$9,336~~2020 primarily resulting from collections of seasonally higher year-end balances and our strategic actions to re-focus our Global Financing portfolio. Total debt of $55,176 million ~~partially offset by maturities of $6,259 million. Within total debt, $29,390~~at June 30, 2021 decreased $6,362 million ~~or approximately 64 percent, is in support~~from December 31, 2020, and $17,863 million since the end of the ~~Global Financing business. This includes IBM Credit LLC’s first public debt issuance of $3,000 million~~second quarter 2019 (immediately preceding the Red Hat acquisition). We have made good progress in ~~September 2017.~~deleveraging while being acquisitive and without sacrificing investments in our business or our solid dividend policy. In the first ~~nine~~six months of ~~2017, the company~~2021, we generated ~~$10,991~~$7,539 million in net cash from ~~operations. The company has~~operations, compared to $8,052 million in the first six months of 2020. We have consistently generated strong cash flow from operations and ~~continues~~continue to have access to additional sources of liquidity through the capital markets and ~~its Credit Facilities.~~our unused credit facilities.

Table of Contents

Management Discussion – (continued)

Our pension plans were well funded at the end of 2020, with worldwide qualified plans funded at 102 percent. Overall pension funded status as of the end of June was fairly consistent with year-end 2020, and we currently have no change to expected plan contributions in 2021.

The assets and debt associated with the Global Financing business are a significant part of ~~the company’s~~our financial position. The financial position amounts appearing on pages 5 and 6 are the consolidated amounts including Global Financing.

The amounts appearing in the separate Global Financing ~~Financial Position Key Metrics:~~

At September 30,

At December 31,

(Dollars in millions)

2017

2016

Cash and cash equivalents

$
1,919

$
1,844

Net investment in sales-type and direct financing leases

6,700

6,893

Equipment under operating leases — external clients (1)

504

548

Client loans

11,269

11,478

Total client financing assets

18,473

18,920

Commercial financing receivables

8,561

9,700

Intercompany financing receivables (2) (3)

4,897

4,959

Total assets

$
36,498

$
36,492

Debt

$
29,390

$
27,859

Total equity

$
3,278

$
3,812

(1)~~Includes intercompany mark-up, priced~~section, beginning on page 85, are supplementary data presented to facilitate an ~~arm’s-length basis, on products purchased from~~understanding of the ~~company’s product divisions which is eliminated in IBM’s consolidated results.~~

~~(2)Entire amount eliminated for purposes of IBM’s consolidated results and therefore does not appear on pages 5 and 6.~~

~~(3)These assets, along with all other financing assets in this table, are leveraged at the value in the table using~~ Global Financing ~~debt.~~business.

At September 30, 2017, substantially all client and commercial financing assets were IT related assets, and approximately 52 percent of the total external portfolio was with investment grade clients with no direct exposure to consumers. The increase in investment grade year to year (2 points) was driven primarily by rating changes within the existing portfolio, not by changing the company’s approach to the market. This investment grade percentage is based on the credit ratings of the companies in the portfolio. Additionally, the company takes actions to transfer exposure to third parties. On that basis, the investment grade content would increase by 15 points to 67 percent, an increase of 2 points year to year.

The company has a long-standing practice of taking mitigation actions, in certain circumstances, to transfer credit risk to third parties, including credit insurance, financial guarantees, non-recourse borrowings, transfers of receivables recorded as true sales in accordance with accounting guidance or sales of equipment under operating lease.

~~Management Discussion — (continued)~~

IBM Working Capital


	At June 30,		At December 31,
(Dollars in millions)	2021		2020
Current assets	$	30,774	$	39,165
Current liabilities		36,616		39,869
Working capital	$	(5,842)	$	(705)
Current ratio		0.84:1		0.98:1

At September 30,

At December 31,

(Dollars in millions)

2017

2016

Current assets

$
44,742

$
43,888

Current liabilities

31,697

36,275

Working capital

$
13,045

$
7,613

Current ratio

1.41:1

1.21:1

Working capital ~~increased $5,432~~decreased $5,137 million from the year-end ~~2016~~2020 position. The key changes are described below:

Current assets ~~increased $854~~decreased $8,390 million ~~(decreased $1,534~~($7,987 million adjusted for currency) due to:

· ~~An increase in cash and cash equivalents of $3,089 million ($2,214 million adjusted for currency); partially offset by~~

· ~~A decline in receivables of $2,118 million ($3,365 million adjusted for currency) primarily as a result of collections of higher year-end balances.~~

●

A decrease of $6,110 million ($6,016 million adjusted for currency) in cash, restricted cash and marketable securities; and

●

A decrease in financing receivables of $2,698 million ($2,557 million adjusted for currency) primarily due to collections of higher year-end balances and sales of financing receivables; partially offset by

●

An increase in prepaid expenses and other current assets of $562 million ($590 million adjusted for currency) primarily driven by an increase in derivative assets.

Current liabilities decreased ~~$4,578~~$3,253 million ($~~6,173~~2,618 million adjusted for currency) as a result of:

●

A decrease in other accrued expenses and liabilities of $1,598 million ($1,346 million adjusted for currency) primarily due to payments of $1,059 million for workforce rebalancing actions;

●

A decrease in taxes payable of $1,042 million ($967 million adjusted for currency) primarily driven by tax payments and decline in reserves as a result of resolution of certain tax audit matters;

●

A decrease in short-term debt of $741 million due to maturities of $4,622 million, including a $500 million early redemption of IBM Credit debt; partially offset by reclassifications of $3,932 million from long-term debt to reflect upcoming maturities; and

●

A decrease in accounts payable of $694 million ($642 million adjusted for currency) reflecting declines from seasonally higher year-end balances; partially offset by

●

An increase in deferred income of $439 million ($614 million adjusted for currency) driven by annual customer billings and an increase in software renewal rates.

Table of Contents

· A decrease in short-term debt of $3,214 million ($3,230 million adjusted for currency) primarily as a result of maturities of $6,258 million; partially offset by reclassifications of $3,670 million from long-term debt to reflect upcoming maturities and a decrease in commercial paper of $899 million; andManagement Discussion – (continued)

· ~~A decrease in accounts payable of $767 million ($969 million adjusted for currency) reflecting declines from typically higher year-end balances.~~

Receivables and Allowances

Roll Forward of Total IBM Receivables Allowance for Credit Losses

(Dollars in millions)

January 1, 2017

Additions *

Write-offs **

Other***

September 30, 2017

$
776

$
37

$
(157
)
$
33

$
689


(Dollars in millions)
January 1, 2021		Additions / (Releases) *		Write-offs **		Other +		June 30, 2021
$	644	$	(67)	$	(28)	$	1	$	550

* ~~Additions~~ Additions/(Releases) for Allowance for Credit Losses are ~~charged to~~recorded in expense.

**Refer to note A, “Significant Accounting Policies,” in ~~the company’s 2016~~our 2020 Annual Report ~~on pages 98 and 99~~ for additional information regarding allowance for credit loss write-offs.

~~***~~+ Primarily represents translation ~~adjustments.~~

adjustments

The total IBM receivables provision coverage was ~~1.9~~2.5 percent at ~~September~~June 30, ~~2017, a decrease~~2021, an increase of 10 basis points compared to December 31, ~~2016.~~2020. The increase in coverage was primarily driven by the overall decrease in total receivables, partially offset by a decrease in customer specific provisions. In the prior year, the global pandemic resulted in some deterioration in customer credit quality and/or bankruptcies which had an impact to provisions in the first half of 2020. We have started to see improvement in credit quality and some emergence from bankruptcies in the current year as the economy begins to reopen in many parts of the world. The majority of the write-offs during the ~~nine~~six months ended ~~September~~June 30, ~~2017~~2021 related to ~~Global Financing~~ receivables which had been previously reserved.

Global Financing Receivables and Allowances

The following table presents external ~~financing~~Global Financing receivables excluding ~~residual values, and the allowance for credit losses.~~immaterial miscellaneous receivables.


	At June 30,			At December 31,
(Dollars in millions)	2021			2020
Amortized cost *	$	14,111		$	18,264
Specific allowance for credit losses		173			184
Unallocated allowance for credit losses		54			79
Total allowance for credit losses		228			263
Net financing receivables	$	13,883		$	18,001
Allowance for credit losses coverage		1.6	%		1.4	%

~~Management Discussion — (continued)~~* Includes deferred initial direct costs which are expensed in IBM’s consolidated financial results.

At September 30,

At December 31,

(Dollars in millions)

2017

2016

Gross financing receivables

$
26,405

$
28,043

Specific allowance for credit losses

258

335

Unallocated allowance for credit losses

96

103

Total allowance for credit losses

354

438

Net financing receivables

$
26,051

$
27,605

Allowance for credit losses coverage

1.3
%
1.6
%

The percentage of Global Financing receivables reserved ~~decreased~~increased from ~~1.6~~1.4 percent at December 31, ~~2016,~~2020, to ~~1.3~~1.6 percent at ~~September~~June 30, ~~2017. The decline was~~2021, primarily driven by the ~~2017 write-offs of $119 million of receivables previously reserved, partially offset by the overall~~ decline in gross receivables. Specific reserves decreased 23 percent from $335 million at December 31, 2016, to $258 million at September 30, 2017. Unallocated reserves decreased 7 percent from $103 million at December 31, 2016, to $96 million at September 30, 2017.

amortized cost.

Roll Forward of Global Financing Receivables Allowance for Credit Losses

(Dollars in millions)

January 1, 2017

Additions *

Write-offs **

Other ***

September 30, 2017

$
438

$
14

$
(119
)
$
20

$
354


(Dollars in millions)
January 1, 2021		Additions / (Releases)*		Write-offs **		Other +		June 30, 2021
$	263	$	(23)	$	(12)	$	0	$	228

* ~~Additions~~ Additions/(Releases) for Allowance for Credit Losses are ~~charged to~~recorded in expense.

~~***~~+ Primarily represents translation ~~adjustments.~~adjustments

Global Financing’s ~~bad debt~~expected credit loss expense (including impacts from off-balance sheet commitments which are recorded in other liabilities) was a net release of $1$12 million and $29 million for the three and six months ended ~~September~~June 30, ~~2017,~~2021, respectively, compared to ~~a release~~an addition of $2$28 million and $39 million for the ~~same period in 2016~~. ~~Global Financing’s bad debt expense was $14 million for the nine~~three and six months ended ~~September~~June 30, ~~2017, compared to $75 million for the same period~~

Table of Contents

Management Discussion – (continued)

2020, respectively. The decreases in ~~2016, due to higher reserve requirements~~both periods in ~~Brazil~~2021 were primarily driven by lower specific and unallocated reserves in ~~the prior year.~~Americas.

Noncurrent Assets and Liabilities


	At June 30,		At December 31,
(Dollars in millions)	2021		2020
Noncurrent assets	$	116,039	$	116,806
Long-term debt	$	48,735	$	54,355
Noncurrent liabilities (excluding debt)	$	39,396	$	41,020

At September 30,

At December 31,

(Dollars in millions)

2017

2016

Noncurrent assets

$
76,894

$
73,582

Long-term debt

$
41,327

$
34,655

Noncurrent liabilities (excluding debt)

$
28,856

$
28,147

~~The increase in noncurrent~~Noncurrent assets ~~of $3,313~~decreased $767 million ~~($1,153~~(increased $80 million adjusted for currency) ~~was driven by:~~due to:

●

A decrease in long-term financing receivables of $1,412 million ($1,298 million adjusted for currency) as a result of reductions from seasonally higher year-end balances and sales of receivables;

●

A decrease in net property, plant and equipment of $617 million ($505 million adjusted for currency); and

●

A decrease of $857 million ($628 million adjusted for currency) in total operating right-of-use assets, deferred taxes and investments and sundry assets; partially offset by

●

An increase in goodwill and net intangible assets of $1,772 million ($2,122 million adjusted for currency) due to additions from new acquisitions, partially offset by intangibles amortization; and

●

An increase in prepaid pension assets of $436 million ($448 million adjusted for currency).

· ~~An increase of $2,065~~Long-term debt decreased $5,620 million ~~in deferred taxes~~ ($~~1,731~~5,089 million adjusted for currency) ~~driven by increases in the U.S. ($998 million) and the first-quarter 2017 intra-entity transfer, including the cumulative effect of adoption of the new FASB guidance ($827 million); and~~due to:

●

Reclassifications to short-term debt of $3,932 million to reflect upcoming maturities; and

●

Early redemption of IBM Credit debt of $1,250 million.

· ~~An increase in retirement plans assets of $1,487~~Noncurrent liabilities (excluding debt) decreased $1,624 million ($~~1,262~~958 million adjusted for currency) ~~driven by the expected returns on plan assets, partially offset by interest costs; partially offset by~~due to:

●

A decrease in retirement and nonpension postretirement benefit obligations of $983 million ($596 million adjusted for currency); and

●

A decrease in long-term operating lease liabilities of $296 million ($230 million adjusted for currency) related primarily to real estate leases.

Table of Contents

· ~~A decrease of $562 million in long-term financing receivables ($888 million adjusted for currency) reflecting seasonal reductions from higher year-end balances.~~

~~Long-term debt increased $6,671 million ($5,662 million adjusted for currency) from the year-end balance primarily driven by:~~

· ~~Issuances of $9,124 million; partially offset by~~

· ~~Reclassification to short-term debt of $3,670 million to reflect upcoming maturities.~~

Management Discussion —– (continued)

Debt

~~The increase in noncurrent liabilities (excluding debt) of $708 million (a decrease of $944 million adjusted for currency) was driven by:~~

· An increase in retirement and nonpension postretirement liabilities of $483 million (decreased $598 million adjusted for currency) driven by currency impacts and higher interest and service costs; partially offset by contributions.

~~Debt~~

~~The company’s~~Our funding requirements are continually monitored and strategies are executed to manage the overall asset and liability profile. Additionally, ~~the company maintains~~we maintain sufficient flexibility to access global funding sources as needed.


	At June 30,		At December 31,
(Dollars in millions)	2021		2020
Total company debt	$	55,176	$	61,538
Total Global Financing segment debt	$	17,470	$	21,167
Debt to support external clients		14,234		17,819
Debt to support internal clients		3,236		3,348
Non-Global Financing debt	$	37,706	$	40,371

At September 30,

At December 31,

(Dollars in millions)

2017

2016

Total company debt

$
45,625

$
42,169

Total Global Financing segment debt

$
29,390

$
27,859

Debt to support external clients

25,433

24,034

Debt to support internal clients

3,957

3,825

Non-Global Financing debt

$
16,235

$
14,309

Total debt of ~~$45,625~~$55,176 million ~~increased $3,457~~decreased $6,362 million ($5,831 million adjusted for currency) from December 31, ~~2016.~~2020, driven by debt maturities and early retirements of $5,954 million. Total debt has decreased $17,863 million since the end of the second quarter 2019 (immediately preceding the Red Hat acquisition).

Non-Global Financing debt of $37,706 million decreased $2,665 million ($2,330 million adjusted for currency) from December 31, 2020 due to scheduled debt maturities in the first six months of 2021.

Global Financing debt of $17,470 million decreased $3,696 million ($3,500 million adjusted for currency) from December 31, 2020, primarily due to lower funding requirements associated with financing receivables. In the first quarter of 2021, IBM Credit early redeemed all of its outstanding fixed-rate debt in the aggregate amount of $1.75 billion and deregistered with the U.S Securities and Exchange Commission.

Global Financing provides financing predominantly for the company’s external client assets, as well as for assets under contract by other IBM units. These assets, primarily for Global Technology Services, ~~& Cloud Platforms,~~ generate long-term, stable revenue streams similar to the Global Financing asset portfolio. Based on their attributes, these Global Technology Services ~~& Cloud Platforms~~ assets are leveraged with the balance of the Global Financing asset base. ~~The increase in debt is consistent~~Global Financing's funding of the Global Technology Services assets will wind down with the ~~company’s expectations at year-end 2016 to increase leverage in the~~separation of Kyndryl as Global Financing ~~business.~~

~~Non-Global Financing debt of $16,235 million was up $1,926 million from December 31, 2016~~refocuses its portfolio to support IBM's hybrid cloud platform and ~~down $116 million from September 30, 2016.~~

~~Consolidated debt-to-capitalization ratio at September 30, 2017 was 69.8 percent versus 69.6 percent at December 31, 2016 and 71.2 percent at September 30, 2016.~~

Given the significant leverage, the company also presents a debt-to-capitalization ratio which excludes Global Financing debt and equity as management believes this is more representative of the company’s core business operations. This ratio can vary from period to period as the company manages its global cash and debt positions. “Core” debt-to-capitalization ratio (excluding Global Financing debt and equity) was 49.6 percent at September 30, 2017 compared to 49.5 percent at December 31, 2016 and 54.6 percent at September 30, 2016.

~~Global Financing debt-to-equity ratio~~

At September 30,

At December 31,

2017

2016

Global Financing debt-to-equity ratio

9.0
x
7.3
x

AI capabilities.

The debt used to fund Global Financing assets is primarily composed of intercompany ~~loans and external debt.~~loans. 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 ~~currency~~interest rate variability underlying the financing receivable and are based on arm’s-length pricing.

The Global Financing ~~provides financing predominantly for the company’s external client assets, as well as for assets under contract by other IBM units. As previously stated, the company~~ ~~measures~~debt-to-equity ratio remained at 9.0 to 1 at June 30, 2021.

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” on page 6585 and in ~~“Segment Information” on pages 29 and 30.~~

~~Management Discussion — (continued)~~

note 4, “Segments.” In the ~~company’s~~ Consolidated Income Statement, ~~of Earnings,~~ the external debt-related interest expense supporting Global Financing’s internal financing to the company is reclassified from cost of financing to interest expense.

Equity

Total equity increased ~~by $1,365~~$1,341 million from December 31, ~~2016 as a result of~~2020, primarily due to an increase ~~in retained earnings~~from net income of ~~$2,806~~$2,280 million, an increase in accumulated other comprehensive income of $1,685 million mainly due to retirement-related ~~amounts~~benefit plans of ~~$1,446~~$991 million and an increase ~~of $794 million related to~~in foreign currency translation gains of $393 million, partially offset by ~~an increase in treasury stock~~dividends paid of ~~$3,762 million primarily due to common stock repurchases.~~$2,924 million.

Table of Contents

Management Discussion – (continued)

Cash Flow

~~The company’s~~Our cash flows from operating, investing and financing activities, as reflected in the Consolidated Statement of Cash Flows on page 7, are summarized in the following table. These amounts include the cash flows associated with the Global Financing business.


(Dollars in millions)
For the six months ended June 30:	2021		2020
Net cash provided by/(used in) continuing operations:
Operating activities	$	7,539	$	8,052
Investing activities		(4,671)		(2,138)
Financing activities		(8,914)		(1,739)
Effect of exchange rate changes on cash, cash equivalents and restricted cash		(65)		(301)
Net change in cash, cash equivalents and restricted cash	$	(6,110)	$	3,874

(Dollars in millions)

For the nine months ended September 30:

2017

2016

Net cash provided by/(used in) continuing operations:

Operating activities

$
10,991

$
13,105
* **
Investing activities

(3,278
)
(7,289
)*
Financing activities

(5,499
)
(4,619
)**
Effect of exchange rate changes on cash and cash equivalents

875

155

Net change in cash and cash equivalents

$
3,089

$
1,352

* Revised classification of certain financing receivables. Refer to note 1, “Basis of Presentation,” for additional information.

** Reclassified to reflect adoption of the FASB guidance on share-based compensation.

Net cash provided by operating activities decreased ~~by $2,114~~$513 million as compared to the first ~~nine~~six months of ~~2016~~2020 driven ~~by the following factors:~~primarily by:

· ~~An increase in net income tax payments of $1,211 million, driven by the prior year Japan tax refund received;~~

· ~~A decrease in cash provided by financing receivables of $868 million; and~~

· ~~Performance-related declines within net income; partially offset by~~

· ~~Working capital improvements of $1,009 million driven by strong cash collections.~~

●

A decrease in payroll tax and value-added tax deferrals of approximately $660 million primarily driven by prior-year tax relief under the U.S. CARES Act and other non-U.S. government assistance programs related to COVID-19; and

●

An increase in workforce rebalancing payments of $623 million; partially offset by

●

Performance-related improvements within net income;

●

A net decrease in cash payments for income taxes of $240 million primarily due to a withholding tax payment on intercompany dividends in the second quarter of 2020; and

●

A decrease in interest payments on debt of approximately $230 million.

Net cash used in investing activities ~~decreased $4,011~~increased $2,533 million as compared to the first ~~nine~~six months of ~~2016~~2020 driven by:

· ~~A decrease in net cash used related to acquisitions of $5,002 million.~~

●

An increase in cash used for acquisitions of $2,847 million to enhance our hybrid cloud and AI software capabilities and to add skills in strategic GBS ecosystem partners; and

●

A decrease in cash provided by divestitures of $782 million; partially offset by

●

A decrease in cash used for net purchases of marketable securities and other investments of $959 million; and

●

A decrease in cash used for net capital expenditures of $216 million.

Net cash used in financing activities increased ~~$880~~$7,175 million ~~as compared to the first nine months~~driven primarily by:

●

A decrease in net cash provided by debt transactions of $7,118 million primarily driven by a higher level of net additions in the prior year; partially offset by a lower level of maturities in the current year consistent with our overall debt pay down strategy.

Table of ~~2016 driven by:~~Contents

Management Discussion – (continued)

· ~~An increase in common stock repurchases of $1,043 million; partially offset by~~

· ~~An increase in net cash sourced from debt transactions of $422 million primarily driven by a higher level of issuances which exceeded higher maturities.~~

~~Management Discussion — (continued)~~Looking Forward

Separation of Kyndryl

~~Looking Forward~~

~~The company’s strategies, investments and actions are all taken with an objective~~On October 8, 2020 we announced our plan to separate the managed infrastructure services unit of ~~optimizing long-term performance. A long-term perspective ensures that the~~our GTS segment into a new public company, ~~is well-positioned to take advantage of the major shifts in technology, business and the global economy.~~

Within the IT industry, there are major shifts occurring—driven by cognitive, including data and analytics, cloud and changes in the ways individuals and enterprises are engaging. The company is bringing together its cognitive technologies on cloud platforms to create industry-based solutions in order to solve enterprise clients’ real problems. The company continues to address the higher value areas of enterprise IT and is amassing a unique set of capabilities and is differentiating itself from other technology providers as it moves into new spaces, and in some cases, creating entirely new markets. IBM is more than a hardware, software and services company; it has emerged as a cognitive solutions and cloud platform company, focused on industry differentiation. The company’s strategic imperatives represent revenue from its cloud, analytics, mobile, social and security solutions, across its segments, and are a signpost of progress in addressing these market shifts.

In 2017, the company is continuing to embed cognitive and cloud across the business, to build new platforms and solutions and reinvent core capabilities. This is fueling the shift toward strategic imperatives revenue. Consistent with the long-term model, over the course of 2017, the company has continued to acquire and integrate key capabilities, remix skills, invest in areas of growth and return value to shareholders. This is all taken into account in the full-year view. Overall, the company continues to expect GAAP earnings per share from continuing operations for 2017 to be ~~at least $11.95. Excluding acquisition-related charges of $0.75 per share and non-operating retirement-related items of $1.10 per share, operating (non-GAAP) earnings per share~~named Kyndryl. The separation is expected to be ~~at least $13.80.~~achieved through a U.S. federal tax-free spin-off to IBM shareholders and be completed by the end of 2021. The separation will create two industry-leading companies, each with strategic focus and flexibility to capitalize on their respective missions and drive client and shareholder value. IBM will accelerate our open hybrid cloud platform growth strategy and AI capabilities to drive clients’ digital transformations. Upon separation, Kyndryl will immediately be the world’s leading managed infrastructure services provider and will have greater agility to design, run and modernize the infrastructure of the world’s most important organizations. Both IBM and Kyndryl will have greater ability to focus on their operating and financial models, have more freedom to partner with others and both will align their investments and capital structure to their strategic focus areas. We have made good progress on executing the necessary financial, legal and regulatory milestones to enable the separation and remain on track to complete the separation by the end of 2021.

IBM’s Hybrid Cloud and AI Strategy

~~Overall, looking forward~~Across every industry, enterprises are using technology to redesign business processes, whether through automation in manufacturing, telemedicine in healthcare or omnichannel in retail. These digital transformations are enabled by a hybrid cloud environment. The technology and services we provide to our clients enable their business growth and productivity increases and improve customer experiences. This is why our strategy is focused on hybrid cloud and AI. Hybrid cloud is the ~~fourth~~reality for our clients today. They have multiple public clouds, private clouds, on-premise workloads and are dealing with stringent regulatory and security requirements. Our hybrid cloud platform gives clients the ability to flexibly deploy and manage data and applications across any environment. With hybrid cloud, clients can derive 2.5 times more value in comparison to other approaches. This is what we have built our platform for and why we have such confidence in our strategy.

To execute our strategy, we continue to take decisive steps and make the necessary investments to strengthen our portfolio, both organic and inorganic, in skills, ecosystem and innovation. During the second quarter of ~~2017, as a result of the typical large transactional base~~2021, we continued to make progress in the ~~fourth quarter, there is~~execution of our strategy. We announced a ~~range~~series of ~~possible scenarios. In 2016,~~products to further differentiate our hybrid cloud and AI capabilities. To complement these organic investments, we completed several acquisitions, adding hybrid cloud and AI software capabilities and skills in strategic GBS ecosystem partners. We are adding delivery capabilities in GBS, technical skills in Red Hat and go-to-market capabilities across the ~~company increased revenue by $2.5 billion from third to fourth quarter. In 2017, the company expects stronger sequential performance than the typical third to fourth quarter increase,~~company. We are building a more client-centric culture through our ecosystem of partners and our garage model which provides clients with ~~potentially $300 million to $400 million~~a more ~~revenue, depending on currency, due~~technical and experiential approach, and we are increasing research and development in ~~part to the mainframe cycle. The company’s GAAP~~quantum, hybrid cloud and operating (non-GAAP) gross margins have shown good progression in recent quarters, driven by mix and some moderation in the headwinds from investment. In the fourth quarter of 2017, the company expects GAAP and operating (non-GAAP) gross margins to be consistent with the sequential improvement the company has experienced the last few years of an approximate 2.5 to 3.5 point increase in gross margins from third to fourth quarter. In expense, the company expects to continueAI to drive ~~efficiency in spending, however with~~innovation.

We have also taken actions to streamline and simplify our operating model and the ~~weaker U.S. dollar, currency hedges are expected to have an impact. The company continues to have a strong pipeline~~fundamentals of ~~IP income opportunities. At mid-October spot rates,~~our business model remain solid. We executed the ~~currency impact to revenue growth for the fourth-quarter 2017 is expected to be approximately a three-point tailwind, which would result in a neutral to a one-point tailwind to full-year 2017.~~

Free cash flow realization, defined as free cash flow to income from continuing operations (GAAP), was 96 percent over the last twelve months and is again expected to be in line with the longer-term model of over 90 percent in 2017. The company continues to expect full year free cash flow to be relatively flat year to year, as the first half year-to-year headwind shifts to a tailwind driven by lower tax and workforce rebalancing payments in 2017. This also reflects the level of profit consistent with the company’s full year expectations of earnings per share.

The company’s tax rate reflects its mix of business, both country and product mix. The company continues to expect that the 2017 GAAP tax rate will be approximately 3 points lower than the operating (non-GAAP) tax rate expectation. Expectations for the operating (non-GAAP) tax rate are approximately 15 percent plus or minus three points, excluding discrete items. This range was widened in 2017 due to mix variables and tax reform discussions underway in the U.S, which could result in planningstructural actions ~~this year. The tax rates for the first nine months of 2017, excluding discrete items, were in line with the company’s January 2017 expectations. The company may have discrete tax items~~initiated in the fourth quarter of ~~2017, however~~2020 to improve the ~~amount~~profit profile of Kyndryl and ~~timing~~to create financial flexibility to reinvest in our business. Our balance sheet and liquidity position remain strong. At June 30, 2021, we had $8.2 billion of cash and cash equivalents, restricted cash and marketable securities. We have made good progress in deleveraging, while being acquisitive and without sacrificing investments in our business or our solid dividend policy. We have reduced our debt by $17.9 billion from our peak level at June 30, 2019 (immediately preceding the Red Hat acquisition).

Looking forward, there is ~~unknown~~tremendous opportunity for us to help our clients become digital businesses. At the same time, the overall spending environment has continued to improve, and ~~any benefits may be mitigated by other actions. The rate will change year~~with the economy opening up in many parts of the world, many markets and industries are getting back on track. We continue to ~~year based on nonrecurring events, such as~~take prudent actions to improve our operating model and accelerate our strategy. We are managing for the ~~settlement~~long-term and are confident in the direction and focus of income tax audits and changes in tax laws, as well as recurring factors including the geographic mix of income before taxes, the timing and amount of foreign dividend repatriation, state and local taxes and the effects of various global income tax strategies.

~~In January 2017, the company reorganized its client and commercial financing business~~our business. We expect to continue our progress as a wholly owned subsidiary, IBM Credit LLC. As announced, the financing business target leverage was increased from 7:1 to 9:1. The subsidiary began accessing the capital markets directly in September 2017,leading hybrid cloud and AI company with ~~its first public debt issuance. At September 30, 2017, this business continues~~a focus on revenue growth and cash generation while maintaining our solid and modestly growing dividend policy.

Table of Contents

Management Discussion – (continued)

Our pension plans are well funded. Contributions for all retirement-related plans are expected to be ~~leveraged at a debt-to-equity ratio~~approximately $2.3 billion in 2021, an increase of ~~9:1.~~

~~Management Discussion — (continued)~~

~~The company expects 2017~~approximately $100 million compared to 2020, of which $0.2 billion generally relates to legally required contributions to non-U.S. defined benefit and multi-employer plans. We expect 2021 pre-tax retirement-related plan cost to be approximately $2.9 billion, an increase of approximately ~~$900~~$300 million compared to ~~2016.~~2020. This estimate reflects current pension plan assumptions at December 31, ~~2016.~~2020. Within total retirement-related plan cost, operating retirement-related plan cost is expected to be approximately ~~$1.4~~$1.5 billion, approximately flat versus ~~2016.~~2020. Non-operating retirement-related plan cost is expected to be approximately ~~$1.5~~$1.4 billion, an increase of approximately ~~$900~~$300 million compared to ~~2016,~~2020, primarily driven by lower income from expected return on assets. ~~Contributions for all retirement-related plans are expected to be approximately $2.4 billion in 2017, approximately flat compared to 2016.~~

Currency Rate Fluctuations

Changes in the relative values of non-U.S. currencies to the U.S. dollar (USD) affect ~~the company’s~~our financial results and financial position. At ~~September~~June 30, ~~2017,~~2021, currency changes resulted in assets and liabilities denominated in local currencies being translated into ~~more~~fewer dollars than at year-end ~~2016. The company uses~~2020. 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, ~~the company~~we may use some of the advantage from a weakening U.S. dollar to improve ~~its~~our position competitively, and price more aggressively to win the business, essentially passing on a portion of the currency advantage to ~~its~~our customers. Competition will frequently take the same action. Consequently, ~~the company believes~~we believe that some of the currency-based changes in cost impact the prices charged to clients. ~~The company~~We also ~~maintains~~maintain currency hedging programs for cash management purposes which temporarily mitigate, but do not eliminate, the volatility of currency impacts on ~~the company’s~~our financial results.

~~The company translates~~We translate revenue, cost and expense in ~~its~~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 ~~the company utilizes~~we utilize to disclose this information does not incorporate any operational actions that management could take to mitigate fluctuating currency rates. Currency movements impacted ~~the company’s~~our year-to-year revenue and earnings per share growth in the first ~~nine~~six months of ~~2017.~~2021. Based on the currency rate movements in the first ~~nine~~six months of ~~2017,~~2021, total revenue ~~decreased 2.7~~increased 2.2 percent as reported ~~and~~but decreased ~~2.2~~1.5 percent at constant currency versus the first ~~nine~~six months of ~~2016.~~2020. On an income from continuing operations before income tax basis, these translation impacts, ~~offset~~mitigated by the net impact of hedging activities, resulted in a theoretical maximum (assuming no pricing or sourcing actions) ~~decrease~~increase of approximately ~~$10~~$170 million in the first ~~nine~~six months of ~~2017~~2021 on an as-reported basis and ~~a decrease~~an increase of ~~$20~~approximately $210 million on an operating (non-GAAP) basis. The same mathematical exercise resulted in an increase of approximately ~~$50~~$160 million in the first ~~nine~~six months of ~~2016~~2020 on an as-reported basis and an increase of ~~$75~~approximately $150 million on an operating (non-GAAP) basis. ~~The company views~~We view these amounts as a theoretical maximum impact to ~~its~~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 ~~the company believes~~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, ~~the company manages~~we manage currency risk in these entities by linking prices and contracts to U.S. dollars.

The company continues to monitor the economic conditions in Venezuela. In mid-February 2016, changes to the currency exchange systems were announced which eliminated the SICAD exchange rate and replaced the SIMADI rate with DICOM, which is expected to be a floating exchange rate. The company recorded a pre-tax loss of $43 million in the first quarter of 2016 in other (income) and expense in the Consolidated Statement of Earnings as a result of the elimination of the SICAD and devaluation in the new exchange. Total pre-tax loss for the first nine months of 2017 was $9 million compared to $46 million in the first nine months of 2016. The company’s net assets denominated in local currency were $8 million at September 30, 2017. The company’s operations in Venezuela comprised less than 1 percent of total 2016 and 2015 revenue, respectively.

Liquidity and Capital Resources

In ~~the company’s 2016~~our 2020 Annual Report, on pages 6856 to ~~71,~~58, there is a discussion of ~~the company’s~~our liquidity including two tables that present ~~five~~three years of data. The table presented on page 6856 includes net cash from operating activities, cash and cash equivalents, restricted cash and short-term marketable securities, and the size of ~~the company’s~~our global credit facilities for each of the past ~~five~~three years. For the ~~nine~~six months

~~Management Discussion — (continued)~~

ended, or ~~as of,~~at, as applicable, ~~September~~June 30, ~~2017,~~2021, those amounts are ~~$11.0~~$7.5 billion ~~for~~of net cash from operating activities, ~~$11.5~~$8.2 billion of cash and cash equivalents, restricted cash and short-term marketable

Table of Contents

Management Discussion – (continued)

securities and ~~$10.25~~$10.0 billion in global credit facilities, respectively. While we have no current plans to draw on these credit facilities, they are available as back-up liquidity. On ~~July 20, 2017,~~June 22, 2021, the company ~~and IBM Credit~~ entered into a new $2.5 billion ~~364-day~~Three-Year Credit Agreement and a$7.5 billion Five-Year Credit Agreement to replace the existing $2.5 billion ~~three-year~~Three-Year and $10.25 billion Five-Year Credit Agreements and terminated its $2.5 billion 364-Day Credit Agreement. ~~These new agreements permit borrowings up~~Refer to ~~an aggregate~~note 11, “Borrowings” for additional details on these credit agreements.

On July 9, 2019, we closed the acquisition of ~~$5 billion~~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 ~~revolving basis.~~couple of years, we suspended our share repurchase program at the time of the Red Hat acquisition closing.

The major rating agencies’ ratings on ~~the company’s~~our debt securities at ~~September~~June 30, ~~2017~~2021 appear in the ~~table below. The Fitch ratings were reaffirmed on September 30, 2016~~following table. In May 2021, Standard and ~~remain unchanged~~Poor’s downgraded our long-term debt rating from A to A- and our commercial paper rating from A-1 to A-2.


	STANDARD	MOODY’S
	AND	INVESTORS
IBM RATINGS:	POOR’S	SERVICE
Senior long-term debt	A-	A2
Commercial paper	A-2	Prime-1

IBM has ample financial flexibility, supported by our strong liquidity position and cash flows, to operate at a single A credit rating. Debt levels have decreased $6.4 billion from December 31, ~~2016. On May 3, 2017, Moody’s Investors Service lowered its rating on~~2020 and $17.9 billion from our peak levels at June 30, 2019 (immediately preceding the ~~company’s senior long-term~~Red Hat acquisition) and we will continue to deleverage throughout 2021 utilizing our debt from Aa3 to A1, while reaffirming its rating on commercial paper. On May 5, 2017, Standard and Poor’s lowered its ratings on the company’s senior long-term debt to A+ from AA- and commercial paper to A-1 from A-1+. ~~IBM remains a strong investment grade company with significant financial flexibility to execute its strategy and capital allocation plans. The company does~~maturities schedule.

We do not have “ratings trigger” provisions in ~~its~~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. ~~The company’s~~Our debt covenants are well within the required levels. Our contractual agreements governing derivative instruments contain standard market clauses which can trigger the termination of the agreement if ~~the company’s~~our credit rating were to fall below investment grade. At ~~September~~June 30, ~~2017,~~2021, the fair value of those instruments that were in a liability position was ~~$352~~$142 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~~our outstanding instruments and market conditions. ~~The company has~~We have no other contractual arrangements that, in the event of a change in credit rating, would result in a material adverse effect on ~~its~~our financial position or liquidity.

	~~STANDARD~~	~~MOODY’S~~
	~~AND~~	~~INVESTORS~~	~~FITCH~~
~~IBM and IBM Credit LLC ratings:~~	~~POOR’S~~	~~SERVICE~~	~~RATINGS~~
~~Senior long-term debt~~	A+	A1	A+
~~Commercial paper~~	~~A-1~~	~~Prime-1~~	F1

In July 2017, the UK's Financial Conduct Authority (FCA), which regulates the London Interbank Offered Rate (LIBOR), announced that it intends to phase out LIBOR by the end of 2021. In March 2021, the FCA announced an extension of the phase out in the case of U.S. dollar settings for certain tenors until the end of June 2023. 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 have evaluated the replacement of the LIBOR benchmark interest rate, including risk management and internal operational readiness and we are 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. However, it is not expected to have a material impact in the consolidated financial results.

~~The company prepares its~~We prepare our Consolidated Statement of Cash Flows in accordance with applicable accounting standards for cash flow presentation on page 7 of this Form 10-Q and ~~highlights~~highlight causes and events underlying sources and uses of cash in that format on page ~~79.~~80. For the purpose of running its business, ~~the company~~IBM manages, monitors and analyzes cash flows in a different manner.

Table of Contents

Management Discussion – (continued)

Management uses free cash flow as a measure to evaluate its operating results, plan ~~share repurchase~~shareholder return levels, ~~make~~ 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. ~~The company defines~~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~~our Global Financing receivables isare 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 outflows. As previously noted, the company views Global Financing receivables as a profit-generating investment which it seeks to maximize and therefore it is not considered when formulating guidance for free cash flow. As a result the company does not estimate a GAAP Net Cash from Operations expectation metric.

~~Management Discussion — (continued)~~

The following is management’s view of cash flows for the first ~~nine~~six months of ~~2017~~2021 and ~~2016~~2020 prepared in a manner

consistent with the description above.

(Dollars in millions)

For the nine months ended September 30:

2017

2016

Net cash from operating activities per GAAP

$
10,991

$
13,105
* **
Less: change in Global Financing receivables

2,468

3,336
*
Net cash from operating activities, excluding Global Financing receivables

8,523

9,769
**
Capital expenditures, net

(2,347
)
(2,801
)
Free cash flow (FCF)

6,176

6,969
**
Acquisitions

(442
)
(5,445
)
Divestitures

35

35

Share repurchase

(3,674
)
(2,632
)
Common stock repurchases for tax withholdings

(153
)
(115
)**
Dividends

(4,119
)
(3,927
)
Non-Global Financing debt

1,896

3,365

Other (includes Global Financing receivables and Global Financing debt)

3,270

3,523

Change in cash, cash equivalents and short-term marketable securities

$
2,988

$
1,773

* Revised classificationNet cash from operating activities and free cash flow in 2021 include significant cash impacts from the workforce rebalancing actions we initiated in the fourth quarter of ~~certain financing receivables.~~2020 and Kyndryl separation-related charges.


(Dollars in millions)
For the six months ended June 30:	2021		2020
Net cash from operating activities per GAAP	$	7,539	$	8,052
Less: change in Global Financing receivables		3,763		2,971
Net cash from operating activities, excluding Global Financing receivables	$	3,776	$	5,081
Capital expenditures, net		(1,217)		(1,434)
Free cash flow	$	2,559	$	3,647
Acquisitions		(2,866)		(19)
Divestitures		(25)		757
Common stock repurchases for tax withholdings		(234)		(211)
Dividends		(2,924)		(2,890)
Non-Global Financing debt		(2,331)		3,958
Other (includes Global Financing net receivables and Global Financing debt)		(288)		(1)
Change in cash, cash equivalents, restricted cash and short-term marketable securities	$	(6,110)	$	5,241

** Reclassified to reflect adoption of the FASB guidance on share-based compensation.

In the first ~~nine~~six months of ~~2017, the company~~2021, we generated free cash flow of ~~$6.2~~$2.6 billion, a decrease of ~~$0.8~~$1.1 billion versus the prior year. The ~~year-to-year decrease was driven primarily by a~~current-year period includes cash ~~tax refund related to the Japan tax matter~~impacts from structural actions we initiated in the ~~prior year. In addition, working capital contributed to the free cash flow performance~~fourth quarter of 2020 and separation-related charges in the ~~first nine months~~amount of ~~2017. Net capital expenditures of $2.3 billion included investments to expand the company’s cloud and cognitive capabilities.~~$1.2 billion. In the first ~~nine~~six months of ~~2017, the company~~2021, we also continued to ~~focus its cash utilization on returning~~return value to shareholders ~~including $4.1~~with $2.9 billion in ~~dividends and $3.7 billion in gross common stock repurchases.~~

dividends.

Events that could temporarily change the historical cash flow dynamics discussed previously and in ~~the company’s 2016~~our 2020 Annual Report 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 ~~12,~~13, “Contingencies,” in this Form 10-Q. With respect to pension funding, ~~the company expects~~we expect to make legally mandated pension plan contributions to certain non-U.S. defined benefit plans of approximately ~~$400~~$200 million in ~~2017.~~2021. Contributions related to all retirement-related plans are expected to be approximately ~~$2.4~~$2.3 billion in ~~2017.~~2021. 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. ~~The company is~~We are not quantifying any further impact from pension funding because it is not possible to predict future movements in the capital markets or changes in pension plan funding regulations.

In 2021, we are not legally required to make any contributions to the U.S. defined benefit pension plans.

~~The company’s U.S.~~Our cash flows ~~continue to be~~are sufficient to fund ~~its~~our current ~~domestic~~ operations and obligations, including investing and financing activities such as acquisitions, dividends and debt service. ~~The company’s U.S. operations generate substantial cash flows, and, in those circumstances where the company has~~When additional ~~cash~~ requirements ~~in the U.S., the company has~~arise, we have several liquidity

Table of Contents

Management Discussion – (continued)

options available. These options may include the ability to borrow additional funds at reasonable interest rates ~~utilizing its Credit Facilities, repatriating certain foreign earnings~~ and utilizing ~~intercompany loans with certain foreign subsidiaries.~~

~~The company does earn a significant amount of its pre-tax income outside~~our committed global credit facilities. With our share repurchase program suspended since the U.S. The company’s policy is to indefinitely reinvest the undistributed earnings of its foreign subsidiaries, and accordingly, no provision for federal income taxes has been made on accumulated earnings of foreign subsidiaries. The company periodically repatriates a portion of these earnings to the extent that it does not incur an additional U.S. tax liability. Quantificationclose of the ~~deferred tax liability, if any, associated with indefinitely reinvested earnings is not practicable. While the company currently does not have~~Red Hat acquisition, our overall shareholder payout remains at a ~~need~~comfortable level and we remain fully committed to repatriate funds held by its foreign subsidiaries, if these funds are needed for operations and obligations in the U.S., the company could elect to repatriate these funds which could result in a reassessment of the company’s policy and increased tax expense.our dividend.

Global Financing

Results of Operations


					Yr. to Yr.
					Percent/
(Dollars in millions)					Margin
For the three months ended June 30:	2021		2020		Change
External revenue	$	242	$	265	(8.6)	%
Internal revenue		260		241	7.9
Total revenue	$	502	$	506	(0.7)	%
Pre-tax income	$	246	$	176	39.3	%


					Yr. to Yr.
					Percent/
(Dollars in millions)					Margin
For the six months ended June 30:	2021		2020		Change
External revenue	$	482	$	564	(14.7)	%
Internal revenue		428		453	(5.4)
Total revenue	$	910	$	1,017	(10.5)	%
Pre-tax income	$	412	$	370	11.3	%

We have refocused our Global Financing business on IBM’s products and services. The wind down of our OEM commercial financing operations is complete. In 2020, we began entering into agreements to sell certain financing receivables to third parties. While these strategic actions continue to impact external revenue and pre-tax income on a year-to-year basis, our repositioning of the Global Financing business has strengthened our liquidity position, improved the quality of our portfolio and lowered our debt needs.

Global Financing total revenue decreased 0.7 percent in the second quarter of 2021 compared to the prior year. External revenue decreased 8.6 percent (12 percent adjusted for currency), driven by external financing (down 23.1 percent to $160 million), partially offset by external used equipment sales (up 43.8 percent to $82 million). Internal revenue was up 7.9 percent due to increases in internal used equipment sales (up 23.5 percent to $230 million), partially offset by declines in internal financing (down 45.7 percent to $29 million).

Global Financing total revenue decreased 10.5 percent in the first six months of 2021 compared to the same period in 2020. External revenue decreased 14.7 percent (17 percent adjusted for currency), driven by a decline in external financing (down 22.2 percent to $344 million), partially offset by an increase in external used equipment sales (up 12.8 percent to $137 million). Internal revenue decreased 5.4 percent, driven by a decline in internal financing (down 51.6 percent to $66 million), partially offset by an increase in internal used equipment sales (up 14.6 percent to $362 million).

For both the three and six months ended June 30, 2021, the decreases in external financing were due to a lower average asset balance, partially driven by the strategic actions, and the decreases in internal financing were due to lower yields and a lower average asset balance. Internal used equipment sales were up due to increased sales to GTS.

Table of Contents

Management Discussion —– (continued)

Global Financing pre-tax income increased 39.3 percent to $246 million in the second quarter of 2021 and 11.3 percent to $412 million in the first six months of 2021, compared to the same periods in 2020. The increase in the second quarter was primarily driven by improvements in provisions for credit losses and an increase in gross profit reflecting higher sales of internal used equipment. The increase in pre-tax income for the first six months of 2021 was primarily driven by improvements in provisions for credit losses, partially offset by a decrease in gross profit due to lower revenue as a result of the declining asset base.

Return on Equity Calculation

Three Months Ended

Nine Months Ended

September 30,

September 30,

(Dollars in millions)

2017

2016

2017

2016

Numerator

Global Financing after-tax income*

$
194

$
244

$
621

$
829

Annualized after-tax income (a)

$
776

$
977

$
828

$
1,106

Denominator

Average Global Financing equity (b)**

$
3,255

$
3,595

$
3,372

$
3,647

Global Financing return on equity (a)/(b)

23.8
%
27.2
%
24.6
%
30.3
%



	For Three Months Ended						For Six Months Ended
	June 30,						June 30,
(Dollars in millions)	2021			2020			2021			2020
Numerator
Global Financing after-tax income*	$	179		$	147		$	302		$	339
Annualized after-tax income (1)	$	714		$	588		$	603		$	677
Denominator
Average Global Financing equity (2)**	$	1,986		$	2,453		$	2,108		$	2,551
Global Financing return on equity (1)/(2)		36.0	%		24.0	%		28.6	%		26.5	%

* 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 2two quarters and 3three quarters, for the three months ended ~~September~~June 30 and for the ~~nine~~six months ended ~~September~~June 30, respectively.

Global Financing return on equity was 36.0 percent for the three months ended June 30, 2021, compared to 24.0 percent for the three months ended June 30, 2020. The increase was driven by a lower average equity balance and an increase in net income. Return on equity was 28.6 percent for the six months ended June 30, 2021, compared to 26.5 percent for the six months ended June 30, 2020. The increase was driven by a lower average equity balance, partially offset by a decrease in net income, which included a discrete tax benefit of $40 million in the first quarter of 2020.

Table of Contents

Management Discussion – (continued)

Financial Position


	At June 30,		At December 31,
(Dollars in millions)	2021		2020
Cash and cash equivalents	$	1,403	$	1,862
Client financing receivables:
Net investment in sales-type and direct financing leases ⁽¹⁾		3,647		4,092
Client loans		9,225		11,498
Total client financing receivables		12,871		15,590
Commercial financing receivables		1,012		2,411
Other receivables		52		91
Total external receivables ⁽²⁾		13,936		18,092
Intercompany financing receivables ^(3) (4)		3,869		3,959
Other assets		1,729		1,162
Total assets	$	20,937	$	25,075

Intercompany payables ⁽³⁾	$	387	$	303
Debt ⁽⁵⁾		17,470		21,167
Other liabilities		1,139		1,254
Total liabilities		18,996		22,723
Total equity		1,941		2,352
Total liabilities and equity	$	20,937	$	25,075

(1)	Includes deferred initial direct costs which are expensed in IBM’s consolidated financial results.

(2)

The difference between the year-to-date decrease in total external receivables of $4.2 billion (from $18.1 billion in 2020 to $13.9 billion in 2021) and the $3.8 billion change in Global Financing receivables disclosed in the free cash flow presentation on page 84 is primarily attributable to currency impacts.

(3)	This entire amount is eliminated for purposes of IBM’s consolidated financial 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.

(5)	Global Financing debt is primarily composed of intercompany loans.

At June 30, 2021, approximately 64 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 and relatively flat compared to March 31, 2021. We continue to apply our rigorous credit policies, particularly in industries and countries disrupted by COVID-19, as it relates to the origination of new business. This investment grade percentage is based on the credit ratings of the companies in the portfolio and reflects mitigating credit enhancement actions taken by the client to reduce the risk to IBM.

We have a long-standing practice of taking mitigation actions, in certain circumstances, to transfer credit risk to third parties, with enhanced focus due to current macroeconomic uncertainty. These actions may include 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. Sale of receivables arrangements are also utilized in the normal course of business as part of our cash and liquidity management.

For the six months ended June 30, 2021, we sold $2,091 million of client financing receivables to third parties, consisting of loan and lease receivables of $1,359 million and $732 million, respectively. More than half of the receivables sold were classified as current assets at the time of sale. For the six months ended June 30, 2020, we sold $711 million of client financing receivables to third parties, consisting of loan and lease receivables of $294 million and $417 million, respectively.

In addition, we sold $2,621 million of commercial financing receivables for the six months ended June 30, 2021, to a third-party investor. we also classified $467 million and $383 million of IBM commercial financing receivables as held for sale at June 30, 2021 and December 31, 2020, respectively, in short-term financing receivables in the Consolidated

Table of Contents

Management Discussion – (continued)

Balance Sheet. Payment terms for commercial financing receivables generally range from 30 to 90 days and sales are made to the investor on a revolving basis. We did not have any sales of commercial financing receivables for the six months ended June 30, 2020.

The transfers of these receivables qualified as true sales and therefore reduced financing receivables. The cash proceeds from the sales are included in cash flows from operating activities, with no impact to free cash flow, and the impacts to the Consolidated Income Statement, including fees and net gain or loss associated with the transfers of these receivables for the six months ended June 30, 2021 and June 30, 2020, were not material. For additional information relating to the sales of financing receivables refer to note 8, “Financing Receivables.”

Refer to pages 77 through 79 for additional information related to Global Financing receivables, allowance for credit losses and debt.

Residual Value

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 IBM products. 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.

Global Financing 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.

The following table presents the recorded amount of unguaranteed residual value for sales-type and direct financing leases, as well as operating leases at June 30, 2021 and December 31, 2020. In addition, the table presents the run out of when the unguaranteed residual value assigned to equipment on leases at June 30, 2021 and December 31, 2020, is expected to be returned to the company.

Unguaranteed Residual Value


	At		At		Estimated Run Out of June 30, 2021 Balance
	December 31,		June 30,								2024 and
(Dollars in millions)	2020		2021		2021		2022		2023		Beyond
Sales-type and direct financing leases	$	469	$	387	$	50	$	113	$	133	$	92
Operating leases		48		30		23		4		1		2
Total unguaranteed residual value	$	516	$	417	$	72	$	117	$	133	$	95

Table of Contents

Management Discussion – (continued)

~~Management Discussion — (continued)~~

GAAP Reconciliation

The tables below provide a reconciliation of ~~the company’s~~our income statement results as reported under GAAP to ~~its~~our operating earnings presentation which is a non-GAAP measure. ~~The company’s~~Management’s calculation of operating (non-GAAP) earnings, as presented, may differ from similarly titled measures reported by other companies. Refer to the ~~“Snapshot”~~“Operating (non-GAAP) Earnings” section ~~on page 51~~ for ~~the company’s~~management’s rationale for presenting operating earnings information.


				Acquisition-			Retirement-			U.S.			Separation-
(Dollars in millions except per share amounts)				Related			Related			Tax Reform			Related			Operating
For the three months ended June 30, 2021:	GAAP			Adjustments			Adjustments			Impacts			Charges			(non-GAAP)
Gross profit	$	9,004		$	180		$	—		$	—		$	58		$	9,242
Gross profit margin		48.0	%		1.0	pts.		—	pts.		—	pts.		0.3	pts.		49.3	%
S,G&A	$	5,334		$	(298)		$	—		$	—		$	(116)		$	4,919
R,D&E		1,657			—			—			—			0			1,656
Other (income) and expense		315			(1)			(328)			—			—			(14)
Total expense and other (income)		7,451			(299)			(328)			—			(117)			6,708
Pre-tax income from continuing operations		1,552			479			328			—			175			2,534
Pre-tax margin from continuing operations		8.3	%		2.6	pts.		1.7	pts.		—	pts.		0.9	pts.		13.5	%
Provision for income taxes*	$	227		$	107		$	67		$	(14)		$	44		$	431
Effective tax rate		14.7	%		1.4	pts.		0.7	pts.		(0.5)	pts.		0.7	pts.		17.0	%
Income from continuing operations	$	1,325		$	373		$	261		$	14		$	131		$	2,103
Income margin from continuing operations		7.1	%		2.0	pts.		1.4	pts.		0.1	pts.		0.7	pts.		11.2	%
Diluted earnings per share from continuing operations	$	1.47		$	0.41		$	0.29		$	0.01		$	0.15		$	2.33

(Dollars in millions except per share amounts)

Acquisition-related

Retirement-related

Operating

For the three months ended September 30, 2017

GAAP

adjustments

adjustments

(Non-GAAP)

Gross profit

$
8,800

$
114

$
203

$
9,116

Gross profit margin

45.9
%
0.6
pts.
1.1
pts.
47.6
%
S,G&A

$
4,648

$
(125
)
$
(53
)
$
4,470

R,D&E

1,342

—

(51
)
1,291

Other (income) and expense

(114
)
—

—

(114
)
Total expense and other (income)

5,735

(125
)
(103
)
5,507

Pre-tax income from continuing operations

3,065

238

306

3,609

Pre-tax margin from continuing operations

16.0
%
1.2
pts.
1.6
pts.
18.8
%
Provision for income taxes*

$
339

$
79

$
113

$
531

Effective tax rate

11.0
%
1.5
pts.
2.2
pts.
14.7
%
Income from continuing operations

$
2,726

$
159

$
193

$
3,079

Income margin from continuing operations

14.2
%
0.8
pts.
1.0
pts.
16.1
%
Diluted earnings per share from

continuing operations

$
2.92

$
0.17

$
0.21

$
3.30


				Acquisition-			Retirement-			U.S.			Separation-
(Dollars in millions except per share amounts)				Related			Related			Tax Reform			Related			Operating
For the three months ended June 30, 2020:	GAAP			Adjustments			Adjustments			Impacts			Charges			(non-GAAP)
Gross profit	$	8,700		$	187		$	—		$	—		$	—		$	8,887
Gross profit margin		48.0	%		1.0	pts.		—	pts.		—	pts.		—	pts.		49.0	%
S,G&A	$	5,248		$	(285)		$	—		$	—		$	—		$	4,962
R,D&E		1,582			—			—			—			—			1,582
Other (income) and expense		179			(1)			(273)			—			—			(95)
Total expense and other (income)		7,129			(286)			(273)			—			—			6,570
Pre-tax income from continuing operations		1,571			473			273			—			—			2,318
Pre-tax margin from continuing operations		8.7	%		2.6	pts.		1.5	pts.		—	pts.		—	pts.		12.8	%
Provision for income taxes*	$	209		$	108		$	52		$	—		$	—		$	369
Effective tax rate		13.3	%		1.9	pts.		0.7	pts.		—	pts.		—	pts.		15.9	%
Income from continuing operations	$	1,362		$	365		$	222		$	—		$	—		$	1,949
Income margin from continuing operations		7.5	%		2.0	pts.		1.2	pts.		—	pts.		—	pts.		10.8	%
Diluted earnings per share from continuing operations	$	1.52		$	0.41		$	0.25		$	—		$	—		$	2.18

* 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.

(Dollars in millions except per share amounts)

Acquisition-related

Retirement-related

Operating

For the three months ended September 30, 2016

GAAP

adjustments

adjustments

(Non-GAAP)

Gross profit

$
9,013

$
129

$
79

$
9,221

Gross profit margin

46.9
%
0.7
pts.
0.4
pts.
48.0
%
S,G&A

$
4,732

$
(138
)
$
(53
)
$
4,541

R,D&E

1,397

—

(7
)
1,390

Other (income) and expense

(8
)
(2
)
—

(10
)
Total expense and other (income)

5,751

(140
)
(60
)
5,550

Pre-tax income from continuing operations

3,263

269

139

3,671

Pre-tax margin from continuing operations

17.0
%
1.4
pts.
0.7
pts.
19.1
%
Provision for income taxes*

$
409

$
73

$
40

$
521

Effective tax rate

12.5
%
1.1
pts.
0.6
pts.
14.2
%
Income from continuing operations

$
2,854

$
197

$
99

$
3,149

Income margin from continuing operations

14.8
%
1.0
pts.
0.5
pts.
16.4
%
Diluted earnings per share from

continuing operations

$
2.98

$
0.21

$
0.10

$
3.29

Table of Contents

Management Discussion – (continued)


				Acquisition-			Retirement-			U.S.			Separation-
(Dollars in millions except per share amounts)				Related			Related			Tax Reform			Related			Operating
For the six months ended June 30, 2021:	GAAP			Adjustments			Adjustments			Impacts			Charges			(non-GAAP)
Gross profit	$	17,208		$	355		$	—		$	—		$	61		$	17,624
Gross profit margin		47.2	%		1.0	pts.		—	pts.		—	pts.		0.2	pts.		48.3	%
S,G&A	$	10,508		$	(591)		$	—		$	—		$	(175)		$	9,742
R,D&E		3,286			—			—			—			0			3,286
Other (income) and expense		676			(1)			(670)			—			—			5
Total expense and other (income)		14,751			(593)			(670)			—			(175)			13,313
Pre-tax income from continuing operations		2,457			948			670			—			236			4,312
Pre-tax margin from continuing operations		6.7	%		2.6	pts.		1.8	pts.		—	pts.		0.6	pts.		11.8	%
Provision for income taxes*	$	177		$	240		$	128		$	6		$	59		$	610
Effective tax rate		7.2	%		4.0	pts.		1.9	pts.		0.1	pts.		1.0	pts.		14.1	%
Income from continuing operations	$	2,281		$	707		$	542		$	(6)		$	177		$	3,702
Income margin from continuing operations		6.3	%		1.9	pts.		1.5	pts.		0.0	pts.		0.5	pts.		10.1	%
Diluted earnings per share from continuing operations	$	2.52		$	0.79		$	0.60		$	(0.01)		$	0.20		$	4.10


				Acquisition-			Retirement-			U.S.			Separation-
(Dollars in millions except per share amounts)				Related			Related			Tax Reform			Related			Operating
For the six months ended June 30, 2020:	GAAP			Adjustments			Adjustments			Impacts			Charges			(non-GAAP)
Gross profit	$	16,622		$	375		$	—		$	—		$	—		$	16,998
Gross profit margin		46.6	%		1.1	pts.		—	pts.		—	pts.		—	pts.		47.6	%
S,G&A	$	11,203		$	(570)		$	—		$	—		$	—		$	10,633
R,D&E		3,207			—			—			—			—			3,207
Other (income) and expense		361			(1)			(538)			—			—			(178)
Total expense and other (income)		15,101			(571)			(538)			—			—			13,992
Pre-tax income from continuing operations		1,522			946			538			—			—			3,006
Pre-tax margin from continuing operations		4.3	%		2.7	pts.		1.5	pts.		—	pts.		—	pts.		8.4	%
Provision for (benefit from) income taxes*	$	(1,017)		$	210		$	65		$	149		$	—		$	(592)
Effective tax rate		(66.8)	%		28.0	pts.		14.1	pts.		5.0	pts.		—	pts.		(19.7)	%
Income from continuing operations	$	2,538		$	736		$	472		$	(149)		$	—		$	3,598
Income margin from continuing operations		7.1	%		2.1	pts.		1.3	pts.		(0.4)	pts.		—	pts.		10.1	%
Diluted earnings per share from continuing operations	$	2.83		$	0.83		$	0.53		$	(0.17)		$	—		$	4.02

Table of Contents

Management Discussion – (continued)

~~Management Discussion — (continued)~~

(Dollars in millions except per share amounts)

Acquisition-related

Retirement-related

Operating

For the nine months ended September 30, 2017

GAAP

adjustments

adjustments

(Non-GAAP)

Gross profit

$
25,365

$
349

$
591

$
26,305

Gross profit margin

44.8
%
0.6
pts.
1.0
pts.
46.5
%
S,G&A

$
14,959

$
(393
)
$
(326
)
$
14,240

R,D&E

4,360

—

(148
)
4,212

Other (income) and expense

(218
)
(7
)
—

(225
)
Total expense and other (income)

18,434

(401
)
(474
)
17,559

Pre-tax income from continuing operations

6,931

750

1,065

8,746

Pre-tax margin from continuing operations

12.2
%
1.3
pts.
1.9
pts.
15.5
%
Provision for income taxes*

$
120

$
212

$
288

$
621

Effective tax rate

1.7
%
2.3
pts.
3.1
pts.
7.1
%
Income from continuing operations

$
6,811

$
537

$
777

$
8,125

Income margin from continuing operations

12.0
%
0.9
pts.
1.4
pts.
14.4
%
Diluted earnings per share from

continuing operations

$
7.24

$
0.57

$
0.83

$
8.64

(Dollars in millions except per share amounts)

Acquisition-related

Retirement-related

Operating

For the nine months ended September 30, 2016

GAAP

adjustments

adjustments

(Non-GAAP)

Gross profit

$
27,401

$
371

$
238

$
28,010

Gross profit margin

47.1
%
0.6
pts.
0.4
pts.
48.2
%
S,G&A

$
16,093

$
(365
)
$
(183
)
$
15,545

R,D&E

4,320

—

(23
)
4,297

Other (income) and expense

281

(7
)
—

274

Total expense and other (income)

20,056

(372
)
(206
)
19,478

Pre-tax income from continuing operations

7,345

743

444

8,532

Pre-tax margin from continuing operations

12.6
%
1.3
pts.
0.8
pts.
14.7
%
Provision for/(benefit from) income taxes*

$
(31
)
$
201

$
106

$
277

Effective tax rate

(0.4
)%
2.4
pts.
1.3
pts.
3.2
%
Income from continuing operations

$
7,375

$
542

$
338

$
8,255

Income margin from continuing operations

12.7
%
0.9
pts.
0.6
pts.
14.2
%
Diluted earnings per share from

continuing operations

$
7.67

$
0.57

$
0.35

$
8.59

~~Management Discussion — (continued)~~

Forward-Looking and Cautionary Statements

Except for the historical information and discussions contained herein, statements contained in this Form 10-Q may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based on the company’s current assumptions regarding future business and financial performance. These statements involve a number of risks, uncertainties and other factors that could cause actual results to differ materially, including, but not limited to, the following: a downturn in ~~the~~ economic environment and client spending budgets; ~~the company’s failure to meet growth and productivity objectives;~~ a failure of the company’s innovation initiatives; damage to the company’s reputation; risks from investing in growth opportunities; failure of the company’s intellectual property portfolio to prevent competitive offerings and the failure of the company to obtain necessary licenses; ~~cybersecurity~~the possibility that the proposed separation of the managed infrastructure services unit of the company’s Global Technology Services segment will not be completed within the anticipated time period or at all, the possibility of disruption or unanticipated costs in connection with the proposed separation or the possibility that the separation will not achieve its intended benefits; the company’s ability to successfully manage acquisitions, alliances and ~~data privacy considerations;~~dispositions, including integration challenges, failure to achieve objectives, the assumption of liabilities, and higher debt levels; fluctuations in financial results; impact of local legal, economic, political, health and ~~health~~other conditions; ~~adverse effects from environmental matters, tax matters and~~ the company’s ~~pension plans;~~failure to meet growth and productivity objectives; ineffective internal controls; the company’s use of accounting estimates; impairment of the company’s goodwill or amortizable intangible assets; the company’s ability to attract and retain key ~~personnel~~employees and its reliance on critical skills; impacts of relationships with critical suppliers; product quality issues; impacts of business with government clients; reliance on third party distribution channels and ecosystems; cybersecurity and data privacy considerations; adverse effects from environmental matters, tax matters; legal proceedings and investigatory risks; the company’s pension plans; currency fluctuations and customer financing risks; impact of changes in market liquidity conditions and customer credit risk on receivables; ~~reliance on third party distribution channels and ecosystems; the company’s ability to successfully manage acquisitions, alliances and dispositions; risks from legal proceedings;~~ risk factors related to IBM securities; and other risks, uncertainties and factors discussed in the company’s Form 10-Qs, Form 10-K and in the company’s other filings with the U.S. Securities and Exchange Commission ~~(SEC)~~ or in materials incorporated therein ~~or herein~~ by reference. ~~The~~Any forward-looking statement in this Form 10-Q speaks only as of the date on which it is made. Except as required by law, the company assumes no obligation to update or revise any forward-looking statements.

Item 4. Controls and Procedures

The company’s management evaluated, with the participation of the Chief Executive Officer and Chief Financial Officer, the effectiveness of the company’s disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that the company’s disclosure controls and procedures were effective as of the end of the period covered by this report. There has been no change in the company’s internal control over financial reporting that occurred during the quarter covered by this report that has materially affected, or is reasonably likely to materially affect, the company’s internal control over financial reporting.

Table of Contents

Part II — Other Information

Item 1. Legal Proceedings

Refer to note ~~12,~~13, “Contingencies,” ~~on pages 44 to 46 of~~in this Form 10-Q.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds and Issuer Repurchases of Equity Securities

The following table provides information relating to the company’s repurchase of common stock for the ~~third~~second quarter of ~~2017.~~2021.

Total Number

Approximate

of Shares

Dollar Value

Purchased as

of Shares that

Total Number

Average

Part of Publicly

May Yet Be

of Shares

Price Paid

Announced

Purchased Under

Period

Purchased

per Share

Program

The Program*

July 1, 2017 - July 31, 2017

1,403,534

$
149.09

1,403,534

$
2,191,734,677

August 1, 2017 - August 31, 2017

3,167,041

$
142.65

3,167,041

$
1,739,970,319

September 1, 2017 - September 30, 2017

1,982,071

$
144.56

1,982,071

$
1,453,447,857

Total

6,552,646

$
144.60

6,552,646


				Total Number	Approximate
				of Shares	Dollar Value
				Purchased as	of Shares that
	Total Number	Average		Part of Publicly	May Yet Be
	of Shares	Price Paid		Announced	Purchased Under
Period	Purchased	per Share		Program	The Program*
April 1, 2021 - April 30, 2021	—	$	—	—	$	2,007,611,768

May 1, 2021 - May 31, 2021	—	$	—	—	$	2,007,611,768

June 1, 2021 - June 30, 2021	—	$	—	—	$	2,007,611,768

Total	—	$	—	—

* On October ~~25, 2016,~~30, 2018, the Board of Directors authorized ~~$3.0~~$4.0 billion in funds for use in the company’s common stock repurchase program. The company stated that it would repurchase shares on the open market or in private transactions depending on market conditions. The common stock repurchase program does not have an expiration date. This table does not include shares tendered to satisfy the exercise price in connection with cashless exercises of employee stock options or shares tendered to satisfy tax withholding obligations in connection with employee equity awards.

The company suspended its share repurchase program at the time of the Red Hat closing. At June 30, 2021 there was approximately $2.0 billion in authorized funds remaining for purchases under this program.

Item 5. Other Information

Disclosure pursuant to Section 13(r) of the Securities Exchange Act of 1934

On March 2, 2021, the U.S. government designated the Russian Federal Security Service (FSB) as a blocked party under Executive Order 13382. On the same day, the U.S. Department of the Treasury’s Office of Foreign Assets Control issued Cyber-related General License 1B “Authorizing Certain Transactions with the Federal Security Service” (GL 1B), which generally authorizes U.S. companies to engage in certain licensing, permitting, certification, notification and related transactions with the FSB to the extent such activities are required for the importation, distribution or use of information technology products in the Russian Federation, though the fact of such activities are now to be disclosed under the Securities Exchange Act of 1934 in companies’ periodic filings.

During the quarter ended June 30, 2021, as permitted under GL 1B, IBM filed notifications with the FSB as required in connection with the importation and distribution of our products in the Russian Federation. No payments were issued or received, and no gross revenue or net profits were generated in connection with these filing activities. IBM and its subsidiaries do not sell products or provide services to the FSB. To the extent permitted by applicable law, IBM and its subsidiaries expect to continue to file notifications with the FSB and may apply for import licenses and permits from the FSB in connection the importation and distribution of our products in the Russian Federation.

Table of Contents

Item 6. Exhibits

~~Exhibit Number~~


Exhibit Number
~~4.1~~		Indenture dated as of October 1, 1993 between IBM and The Bank of New York Mellon, (as successor to The Chase Manhattan Bank (National Association)) as Trustee. *
10.1		Forms of LTPP equity award agreements for (i) stock options, restricted stock, restricted stock units, cash-settled restricted stock units, SARS, (ii) performance share units and (iii) retention restricted stock unit awards, effective June 1, 2021.
~~4.2~~		First Supplemental Indenture to Indenture dated as of October 1, 1993 between IBM and The Bank of New York Mellon, (as successor to The Chase Manhattan Bank (National Association)) as Trustee, dated as of December 15, 1995. *

11		~~Statement re: computation of per share earnings.~~

		~~The statement re computation of per share earnings is note [14], “Earnings Per Share of Common Stock,” in this Form 10-Q.~~

12		~~Statement re: computation of ratios.~~

31.1		Certification by principal executive officer pursuant to Rule 13A-14(a) or 15D-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2		Certification by principal financial officer pursuant to Rule 13A-14(a) or 15D-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1		Certification by principal executive officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2		Certification by principal financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101.INS		XBRL Instance Document – the instance document does not appear on the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document

101.SCH		XBRL Taxonomy Extension Schema Document

101.CAL		XBRL Taxonomy Extension Calculation Linkbase Document

101.DEF		XBRL Taxonomy Extension Definition Linkbase Document

101.LAB		XBRL Taxonomy Extension Label Linkbase Document

101.PRE		XBRL Taxonomy Extension Presentation Linkbase Document

104		Cover Page Interactive Data File – the cover page interactive data file does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document

* ~~Refiled by the company in electronic format in accordance with SEC Release Nos. 33-10322 and 34-80132 relating to exhibit hyperlinks, which became effective September 1, 2017.~~Table of Contents

SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


		International Business Machines Corporation
		(Registrant)


Date:	~~October 31, 2017~~July 27, 2021
		By:	/s/ Robert F. Del Bene
			Robert F. Del Bene
			Vice President and Controller

	At September 30,		At December 31,
(Dollars in millions)	2017		2016
Assets:
Current assets:
Cash and cash equivalents	$	10,915	$	7,826
Marketable securities	600		701
Notes and accounts receivable - trade (net of allowances of $296 in 2017 and $290 in 2016)	8,150		9,182
Short-term financing receivables (net of allowances of $270 in 2017 and $337 in 2016)	18,050		19,006
Other accounts receivable (net of allowances of $39 in 2017 and $48 in 2016)	926		1,057
Inventories, at lower of average cost or market:
Finished goods	430		358
Work in process and raw materials	1,281		1,195
Total inventories	1,711		1,553
Prepaid expenses and other current assets	4,389		4,564
Total current assets	44,742		43,888
Property, plant and equipment	31,937		30,133
Less: Accumulated depreciation	20,880		19,303
Property, plant and equipment — net	11,057		10,830
Long-term financing receivables (net of allowances of $84 in 2017 and $101 in 2016)	8,459		9,021
Prepaid pension assets	4,521		3,034
Deferred taxes	7,289		5,224
Goodwill	36,782		36,199
Intangible assets — net	3,981		4,688
Investments and sundry assets	4,806		4,585
Total assets	$	121,636	$	117,470

(Dollars in millions)
At September 30, 2017	Level 1		Level 2		Level 3		Total
Assets:
Cash equivalents (1)
Time deposits and certificates of deposit	$	—	$	5,553	$	—	$	5,553
Money market funds	1,375		—		—		1,375
U.S. government securities	—		200		—		200
Canadian government securities	—		460		—		460
Total	1,375		6,214		—		7,589		(6)
Debt securities - current (2)	—		599		—		599		(6)
Debt securities - noncurrent (3)	4		7		—		11
Available-for-sale equity investments (3)	5		—		—		5
Derivative assets (4)
Interest rate contracts	—		517		—		517
Foreign exchange contracts	—		416		—		416
Equity contracts	—		23		—		23
Total	—		957		—		957		(7)
Total assets	$	1,384	$	7,775	$	—	$	9,159	(7)
Liabilities:
Derivative liabilities (5)
Foreign exchange contracts	$	—	$	333	$	—	$	333
Equity contracts	—		4		—		4
Interest rate contracts	—		15		—		15
Total liabilities	$	—	$	352	$	—	$	352	(7)

(Dollars in millions)
At December 31, 2016	Level 1		Level 2		Level 3		Total
Assets:
Cash equivalents (1)
Time deposits and certificates of deposit	$	—	$	3,629	$	—	$	3,629
Money market funds	1,204		—		—		1,204
Total	1,204		3,629		—		4,832		(6)
Debt securities - current (2)	—		699		—		699		(6)
Debt securities - noncurrent (3)	1		6		—		8
Available-for-sale equity investments (3)	7		—		—		7
Derivative assets (4)
Interest rate contracts	—		555		—		555
Foreign exchange contracts	—		560		—		560
Equity contracts	—		11		—		11
Total	—		1,126		—		1,126		(7)
Total assets	$	1,212	$	5,460	$	—	$	6,672	(7)
Liabilities:
Derivative liabilities (5)
Foreign exchange contracts	$	—	$	188	$	—	$	188
Equity contracts	—		10		—		10
Interest rate contracts	—		8		—		8
Total liabilities	$	—	$	206	$	—	$	206	(7)

			Gross		Gross
(Dollars in millions)	Adjusted		Unrealized		Unrealized		Fair
At September 30, 2017:	Cost		Gains		Losses		Value
Debt securities — noncurrent(1)	$	7	$	3	$	—	$	11
Available-for-sale equity investments(1)	$	1	$	4	$	0	$	5

	Fair Value of Derivative Assets					Fair Value of Derivative Liabilities
	Balance Sheet					Balance Sheet
(Dollars in millions)	Classification	9/30/2017		12/31/2016		Classification	9/30/2017		12/31/2016
Designated as hedging instruments:
Interest rate contracts:	Prepaid expenses and other current assets	$	—	$	—	Other accrued expenses and liabilities	$	1	$	—
	Investments and sundry assets	517		555		Other liabilities	15		8
Foreign exchange contracts:	Prepaid expenses and other current assets	208		421		Other accrued expenses and liabilities	272		46
	Investments and sundry assets	170		17		Other liabilities	5		35
	Fair value of derivative assets	$	896	$	993	Fair value of derivative liabilities	$	292	$	89

Not designated as hedging instruments:
Foreign exchange contracts:	Prepaid expenses and other current assets	$	38	$	100	Other accrued expenses and liabilities	$	56	$	89
	Investments and sundry assets	—		22		Other liabilities	—		18
Equity contracts:	Prepaid expenses and other current assets	23		11		Other accrued expenses and liabilities	4		10
	Investments and sundry assets	—		—		Other liabilities	—		—
	Fair value of derivative assets	$	61	$	133	Fair value of derivative liabilities	$	60	$	117

Total Derivatives		$	957	$	1,126		$	352	$	206

Total debt designated as hedging instruments(1):
Short-term debt		N/A		N/A			$	377	$	1,125
Long-term debt		N/A		N/A			11,469		7,844
		N/A		N/A			$	11,846	$	8,969

Total		$	957	$	1,126		$	12,198	$	9,175

	Gain (Loss) Recognized in Earnings
	Consolidated	Recognized on						Attributable to Risk
(Dollars in millions)	Statement of	Derivatives						Being Hedged(2)
For the three months ended September 30:	Earnings Line Item	2017			2016			2017		2016
Derivative instruments in fair value hedges(1)(5):
Interest rate contracts	Cost of financing	$	(3	)	$	(20	)	$	20	$	40
	Interest expense	(3		)	(21		)	20		43
Derivative instruments not designated as hedging instruments:
Foreign exchange contracts	Other (income) and expense	(35		)	30			N/A		N/A
Interest rate contracts	Other (income) and expense	—			0			N/A		N/A
Equity contracts	SG&A expense	31			45			N/A		N/A
	Other (income) and expense	—			0			N/A		N/A
Total		$	(10	)	$	34		$	41	$	83

	Gain (Loss) Recognized in Earnings and Other Comprehensive Income
														Ineffectiveness and
(Dollars in millions)	Effective Portion						Consolidated	Effective Portion Reclassified						Amounts Excluded from
For the three months	Recognized in OCI						Statement of	from AOCI						Effectiveness Testing(3)
ended September 30:	2017			2016			Earnings Line Item	2017			2016			2017			2016
Derivative instruments in cash flow hedges:
Interest rate contracts	$	—		$	—		Interest expense	$	(7	)	$	(7	)	$	—		$	—
Foreign exchange contracts	(70		)	35			Other (income) and expense	64			(6		)	(1		)	(1		)
							Cost of sales*	1			(7		)	—			—
							Cost of services*	20			3			—			—
							SG&A expense	(6		)	2			—			—
Instruments in net investment hedges(4):
Foreign exchange contracts	(507		)	(131		)	Cost of financing	—			—			0			—
							Interest expense	—			—			8			25
Total	$	(577	)	$	(96	)		$	73		$	(15	)	$	7		$	24

(Dollars in millions)
At December 31, 2016:*	Americas			EMEA			Asia Pacific			Total
Financing receivables:
Lease receivables	$	3,830		$	1,171		$	1,335		$	6,336
Loan receivables	6,185			3,309			2,243			11,737
Ending balance	$	10,015		$	4,480		$	3,578		$	18,073
Collectively evaluated for impairment	$	9,847		$	4,460		$	3,419		$	17,726
Individually evaluated for impairment	$	168		$	20		$	159		$	347
Allowance for credit losses
Beginning balance at January 1, 2016
Lease receivables	$	52		$	17		$	143		$	213
Loan receivables	122			55			200			377
Total	$	175		$	72		$	343		$	590
Write-offs	$	(36	)	$	(48	)	$	(154	)	$	(237	)
Recoveries	2			0			0			2
Provision	65			(1		)	(6		)	58
Other	17			(1		)	(18		)	(3		)
Ending balance at December 31, 2016	$	223		$	22		$	165		$	410
Lease receivables	$	54		$	4		$	76		$	133
Loan receivables	$	169		$	18		$	89		$	276

Collectively evaluated for impairment	$	62		$	13		$	15		$	90
Individually evaluated for impairment	$	161		$	9		$	150		$	320

	At September 30, 2017				At December 31, 2016*
	Recorded		Related		Recorded		Related
(Dollars in millions)	Investment		Allowance		Investment		Allowance
Americas	$	140	$	131	$	168	$	161
EMEA	31		23		20		9
Asia Pacific	102		94		159		150
Total	$	273	$	248	$	347	$	320

					Interest
	Average		Interest		Income
(Dollars in millions)	Recorded		Income		Recognized on
For the three months ended September 30, 2017:	Investment		Recognized		Cash Basis
Americas	$	156	$	0	$	—
EMEA	31		0		—
Asia Pacific	101		0		—
Total	$	288	$	0	$	—

	Lease Receivables						Loan Receivables
(Dollars in millions)					Asia						Asia
At September 30, 2017:	Americas		EMEA		Pacific		Americas		EMEA		Pacific
Credit Ratings:
Aaa – Aa3	$	358	$	52	$	56	$	626	$	124	$	94
A1 – A3	715		126		543		1,251		302		908
Baa1 – Baa3	807		404		329		1,412		968		550
Ba1 – Ba2	762		415		172		1,333		993		289
Ba3 – B1	421		197		86		736		473		143
B2 – B3	345		83		69		604		200		116
Caa – D	56		13		15		98		31		25
Total	$	3,465	$	1,290	$	1,269	$	6,059	$	3,091	$	2,124

			Fully		<90 Days				Recorded
	Total		Reserved		or Unbilled		Total		Investment
(Dollars in millions)	Past Due		Financing		Financing		Financing		> 90 Days and
At September 30, 2017:	> 90 days (1)		Receivables		Receivables		Receivables		Accruing (2)
Americas	$	28	$	51	$	3,463	$	3,541	$	255
EMEA	9		4		1,283		1,297		15
Asia Pacific	5		32		1,266		1,304		19
Total lease receivables	$	42	$	87	$	6,012	$	6,142	$	290
Americas	$	43	$	80	$	6,057	$	6,180	$	401
EMEA	26		19		3,076		3,120		46
Asia Pacific	6		61		2,122		2,189		9
Total loan receivables	$	75	$	160	$	11,255	$	11,489	$	456
Total	$	117	$	247	$	17,267	$	17,631	$	746

	Cognitive Solutions & Industry Services
							Technology
				Global			Services &
	Cognitive			Business			Cloud						Global			Total
(Dollars in millions)	Solutions			Services			Platforms			Systems			Financing			Segments
For the three months ended September 30, 2017:
External revenue	$	4,400		$	4,093		$	8,457		$	1,721		$	427		$	19,098
Internal revenue	629			92			164			227			272			1,384
Total revenue	$	5,030		$	4,185		$	8,621		$	1,948		$	698		$	20,482
Pre-tax income from continuing operations	$	1,649		$	453		$	1,192		$	339		$	244		$	3,876
Revenue year-to-year change	2.6		%	(2.3		)%	(3.4		)%	12.3		%	(8.5		)%	(0.6		)%
Pre-tax income year-to-year change	4.8		%	(16.8		)%	(7.5		)%	149.7		%	(31.4		)%	(0.5		)%
Pre-tax income margin	32.8		%	10.8		%	13.8		%	17.4		%	34.9		%	18.9		%

For the three months ended September 30, 2016:
External revenue	$	4,235		$	4,191		$	8,748		$	1,558		$	412		$	19,145
Internal revenue	667			93			180			176			352			1,468
Total revenue	$	4,902		$	4,284		$	8,929		$	1,734		$	763		$	20,613
Pre-tax income from continuing operations	$	1,574		$	544		$	1,288		$	136		$	355		$	3,897

Pre-tax income margin	32.1		%	12.7		%	14.4		%	7.8		%	46.5		%	18.9		%

(Dollars in millions)	Total
2017 (for Q4)	$	468
2018	5,140
2019	7,034
2020	6,155
2021	5,155
2022 and beyond	21,569
Total	$	45,522

	For the Three Months Ended
	September 30, 2017		September 30, 2016
Number of shares on which basic earnings per share is calculated:
Weighted-average shares outstanding during period	929,437,441		953,995,828
Add — Incremental shares under stock-based compensation plans	2,236,234		2,357,365
Add — Incremental shares associated with contingently issuable shares	1,553,754		964,091
Number of shares on which diluted earnings per share is calculated	933,227,429		957,317,284

Income from continuing operations (millions)	$	2,726	$	2,854
Loss from discontinued operations, net of tax (millions)	0		(1		)
Net income on which basic earnings per share is calculated (millions)	$	2,726	$	2,853
Income from continuing operations (millions)	$	2,726	$	2,854
Net income applicable to contingently issuable shares (millions)	0		—
Income from continuing operations on which diluted earnings per share is calculated (millions)	$	2,726	$	2,854
Loss from discontinued operations, net of tax, on which basic and diluted earnings per share is calculated (millions)	0		(1		)
Net income on which diluted earnings per share is calculated (millions)	$	2,726	$	2,853

Earnings/(loss) per share of common stock:
Assuming dilution
Continuing operations	$	2.92	$	2.98
Discontinued operations	0.00		0.00
Total	$	2.92	$	2.98
Basic
Continuing operations	$	2.93	$	2.99
Discontinued operations	0.00		0.00
Total	$	2.93	$	2.99

	For the Nine Months Ended
	September 30, 2017			September 30, 2016
Number of shares on which basic earnings per share is calculated:
Weighted-average shares outstanding during period	935,600,777			957,693,385
Add — Incremental shares under stock compensation plans	3,213,758			2,258,854
Add — Incremental shares associated with contingently issuable shares	1,394,930			771,943
Number of shares on which diluted earnings per share is calculated	940,209,466			960,724,182

Income from continuing operations (millions)	$	6,811		$	7,375
Loss from discontinued operations, net of tax (millions)	(3		)	(4		)
Net income on which basic earnings per share is calculated (millions)	$	6,807		$	7,371
Income from continuing operations (millions)	$	6,811		$	7,375
Net income applicable to contingently issuable shares (millions)	(2		)	—
Income from continuing operations on which diluted earnings per share is calculated (millions)	$	6,809		$	7,375
Loss from discontinued operations, net of tax, on which basic and diluted earnings per share is calculated (millions)	(3		)	(4		)
Net income on which diluted earnings per share is calculated (millions)	$	6,806		$	7,371

Earnings/(loss) per share of common stock:
Assuming dilution
Continuing operations	$	7.24		$	7.67
Discontinued operations	0.00			0.00
Total	$	7.24		$	7.67
Basic
Continuing operations	$	7.28		$	7.70
Discontinued operations	0.00			0.00
Total	$	7.28		$	7.70

	9/30/17		12/31/16
Assets	$	121,636	$	117,470	3.5	%
Liabilities	$	101,879	$	99,078	2.8	%
Equity	$	19,757	$	18,392	7.4	%

	Three Months Ended				Nine Months Ended
	September 30,				September 30,
(Dollars in millions)	2017		2016		2017		2016
External revenue	$	427	$	412	$	1,246	$	1,245
Internal revenue	272		352		925		1,340
Total revenue	$	698	$	763	$	2,171	$	2,585
Pre-tax income	$	244	$	355	$	836	$	1,208

(Dollars in millions)
January 1, 2017		Additions *		Write-offs **			Other***		September 30, 2017
$	776	$	37	$	(157	)	$	33	$	689

(Dollars in millions except per share amounts)				Acquisition-related			Retirement-related			Operating
For the three months ended September 30, 2017	GAAP			adjustments			adjustments			(Non-GAAP)
Gross profit	$	8,800		$	114		$	203		$	9,116
Gross profit margin	45.9		%	0.6		pts.	1.1		pts.	47.6		%
S,G&A	$	4,648		$	(125	)	$	(53	)	$	4,470
R,D&E	1,342			—			(51		)	1,291
Other (income) and expense	(114		)	—			—			(114		)
Total expense and other (income)	5,735			(125		)	(103		)	5,507
Pre-tax income from continuing operations	3,065			238			306			3,609
Pre-tax margin from continuing operations	16.0		%	1.2		pts.	1.6		pts.	18.8		%
Provision for income taxes*	$	339		$	79		$	113		$	531
Effective tax rate	11.0		%	1.5		pts.	2.2		pts.	14.7		%
Income from continuing operations	$	2,726		$	159		$	193		$	3,079
Income margin from continuing operations	14.2		%	0.8		pts.	1.0		pts.	16.1		%
Diluted earnings per share from
continuing operations	$	2.92		$	0.17		$	0.21		$	3.30