Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS

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Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS

MANAGEMENT’S DISCUSSION AND ANALYSIS

OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION

FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2024

Snapshot

Organization of Information:

In the first quarter of 2024, we made changes to our organizational structure and management system to better align our portfolio to the market, increase transparency and improve segment comparability to peers. These changes did not impact our Consolidated Financial Statements, but did impact our reportable segments. The segments are reported on a comparable basis for all periods. In addition, due to the removal of certain components of segment profitability we also updated the title of our segment performance metric from pre-tax income from continuing operations to segment profit. Refer to note 4, "Segments," for additional information on our reportable segments.

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

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

Operating (non-GAAP) Earnings:

In an effort to provide better transparency into the operational results of the business, supplementally, management separates business results into operating and non-operating categories. Operating earnings from continuing operations is a non-GAAP measure that excludes the effects of certain acquisition-related charges, intangible asset amortization, expense resulting from basis differences on equity method investments, retirement-related costs and 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 primarily include true-ups, accounting elections and any changes to regulations, laws or audit adjustments that affect the recorded one-time charge. For acquisitions, operating (non-GAAP) earnings exclude the amortization of purchased intangible assets and acquisition-related charges such as in-process research and development, transaction costs, applicable retention, restructuring and related expenses, tax charges related to acquisition integration and pre-closing charges, such as financing costs. These charges are excluded as they may be inconsistent in amount and timing from period to period and are significantly impacted by the size, type and frequency of our acquisitions. Given its unique and temporary nature, management has also characterized as non-operating expense, the mark-to-market impact on the foreign exchange derivative contracts entered into prior to the acquisition of StreamSets and webMethods from SoftwareAG to economically hedge the foreign currency exposure related to the purchase price of this acquisition. These derivative contracts expired by June 28, 2024. This impact was recorded in other (income) and expense in the Consolidated Income Statement and reflects the realized loss from the changes in fair value of these derivative contracts. All other spending for acquired companies is included in both earnings from continuing operations and in operating (non-GAAP) earnings. For retirement-related costs, management characterizes certain items as operating and others as non-operating, consistent with GAAP. We include defined benefit plan and nonpension postretirement benefit plan service costs, multi-employer plan costs and the cost of defined contribution plans in operating earnings. Non-operating retirement-related costs include defined benefit plan and nonpension postretirement benefit plan amortization of prior service costs, interest cost, expected return on plan assets, amortized actuarial gains/losses, the impacts of any plan curtailments/settlements and

Management Discussion – (continued)

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 we consider these costs to be outside of the operational performance of the business.

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

Financial Results Summary — Three Months Ended June 30

(Dollars and shares in millions except per share amounts)Yr. to Yr. Percent/ Margin Change
For the three months ended June 30:20242023
Revenue (1)$15,770$15,4751.9%
Gross profit margin56.8%54.9%1.8pts.
Total expense and other (income)$6,730$6,5013.5%
Income from continuing operations before income taxes$2,219$2,00011.0%
Provision for income taxes from continuing operations$389$419(7.2)%
Income from continuing operations$1,830$1,58115.8%
Income from continuing operations margin11.6%10.2%1.4pts.
Income from discontinued operations, net of tax$4$272.0%
Net income$1,834$1,58315.9%
Earnings per share from continuing operations - assuming dilution$1.96$1.7214.0%
Consolidated earnings per share - assuming dilution$1.96$1.7214.0%
Weighted-average shares outstanding - assuming dilution934.4919.51.6%

(1)Year-to-year revenue growth of 3.8 percent adjusted for currency.

The following table provides the company’s operating (non-GAAP) earnings for the second quarter of 2024 and 2023.

(Dollars in millions except per share amounts)Yr. to Yr. Percent Change
For the three months ended June 30:20242023
Net income as reported$1,834$1,58315.9%
Income from discontinued operations, net of tax4272.0
Income from continuing operations$1,830$1,58115.8%
Non-operating adjustments (net of tax):
Acquisition-related charges$362$30817.3%
Non-operating retirement-related costs/(income)725nm
U.S. tax reform impacts12110(89.1)
Operating (non-GAAP) earnings (1)$2,275$2,00313.6%
Diluted operating (non-GAAP) earnings per share (1)$2.43$2.1811.5%

(1)Refer to page 81 for a more detailed reconciliation of net income to operating earnings.

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Management Discussion – (continued)

Macroeconomic Environment:

Our business portfolio positions us well in challenging macroeconomic times. Our diversification across geographies, industries, clients and business mix and our recurring revenue base provides some stability in revenue, profit and cash generation. Clients and partners continue to leverage technology to allow businesses to scale, drive efficiencies, fuel growth and gain competitive advantage. The short-term uncertainty caused by interest rates and inflation is leading clients to manage their discretionary spending, but the overall macroeconomic outlook for technology spending remains positive.

In the first six months of 2024, movements in global currencies continued to impact our reported year-to-year revenue and profit. We execute hedging programs which defer, but do not eliminate, the impact of currency. The (gains)/losses from these hedging programs are reflected primarily in other income and expense. Refer to “Currency Rate Fluctuations,” for additional information.

Financial Performance Summary — Three Months Ended June 30:

In the second quarter of 2024, we reported $15.8 billion in revenue, income from continuing operations of $1.8 billion and operating (non-GAAP) earnings of $2.3 billion. Diluted earnings per share from continuing operations was $1.96 as reported and $2.43 on an operating (non-GAAP) basis. We generated $2.1 billion in cash from operations and $2.6 billion in free cash flow, and delivered shareholder returns of $1.5 billion in dividends. Our second-quarter performance reflects solid revenue growth and cash flow generation, demonstrating the continued success of our hybrid cloud and AI strategy, and the strength of our diversified business model. We continued to focus on the fundamentals of our business which, combined with our cash generation, position us to continue investing in innovation and expertise across the portfolio while continuing to return value to shareholders through dividends.

Total revenue grew 1.9 percent as reported and 4 percent adjusted for currency compared to the prior-year period, led by Software and Infrastructure. Software delivered revenue growth of 7.1 percent as reported and 8.4 percent adjusted for currency, with solid growth across Hybrid Platform & Solutions and Transaction Processing, and with strong transactional performance. Hybrid Platform & Solutions revenue was up 5.2 percent as reported and 6.3 percent adjusted for currency, led by growth in Red Hat and Automation. Transaction Processing grew 11.4 percent as reported and 13.0 percent adjusted for currency, with revenue growth in both recurring and transactional software. Consulting revenue decreased 0.9 percent as reported but grew 1.8 percent adjusted for currency, reflecting continued solid demand for our large transformational offerings as clients continue to prioritize driving productivity with AI and analytics, partially offset by clients' delay in discretionary projects as they prioritized their spending. Infrastructure revenue increased 0.7 percent year to year as reported and 2.7 percent adjusted for currency, with growth in Hybrid Infrastructure reflecting continued demand across our hardware portfolio, offset by a decline in Infrastructure Support.

From a geographic perspective, Americas revenue decreased 0.8 percent as reported (0.5 percent adjusted for currency). Europe/Middle East/Africa (EMEA) increased 2.6 percent as reported and 3.2 percent adjusted for currency. Asia Pacific increased 8.6 percent as reported (17.2 percent adjusted for currency).

Gross margin of 56.8 percent increased 1.8 points year to year with continued margin expansion driven by revenue growth, portfolio mix and ongoing productivity actions. Operating (non-GAAP) gross margin of 57.8 percent increased 1.9 points compared to the prior-year period due to the same dynamics.

Total expense and other (income) increased 3.5 percent in the second quarter of 2024 versus the prior-year period primarily driven by higher spending reflecting our continued investment in portfolio innovation to drive our strategy, higher acquisition-related charges, amortization of acquired intangible assets and non-operating retirement-related cost, partially offset by the benefits from productivity actions and lower workforce rebalancing charges. Total operating (non-GAAP) expense and other (income) increased 1.2 percent year to year, driven primarily by the factors described above, excluding the higher non-operating retirement-related costs, acquisition-related charges and amortization of acquired intangible assets.

Pre-tax income from continuing operations of $2.2 billion increased 11.0 percent and pre-tax margin was 14.1 percent, an increase of 1.1 points compared to the second quarter of 2023. Performance this quarter benefited from our gross margin expansion and productivity actions partially offset by our continued investments to drive innovation. The continuing operations provision for income taxes in the second quarter of 2024 was $389 million, compared to $419 million in the

Management Discussion – (continued)

second quarter of 2023. Net income from continuing operations of $1.8 billion increased 15.8 percent and the net income from continuing operations margin was 11.6 percent, up 1.4 points year to year.

Operating (non-GAAP) pre-tax income from continuing operations of $2.8 billion increased 16.5 percent compared to the second quarter of 2023 and the operating (non-GAAP) pre-tax margin from continuing operations increased 2.2 points to 17.7 percent primarily driven by the combination of our revenue growth and gross margin performance and the benefits from productivity actions. The operating (non-GAAP) provision for income taxes in the second quarter of 2024 was $516 million, compared to $393 million in the second quarter of 2023. Operating (non-GAAP) net income from continuing operations of $2.3 billion increased 13.6 percent and the operating (non-GAAP) net income margin from continuing operations of 14.4 percent was up 1.5 points year to year.

Diluted earnings per share from continuing operations of $1.96 in the second quarter of 2024 increased 14.0 percent and operating (non-GAAP) diluted earnings per share of $2.43 increased 11.5 percent compared to the second quarter of 2023.

Cash provided by operating activities was $2.1 billion in the second quarter of 2024, a decrease of $0.6 billion compared to the second quarter of 2023 and free cash flow was $2.6 billion, an increase of $0.5 billion versus the prior-year period. Net cash provided by investing activities of $2.2 billion increased $2.2 billion and net cash used in financing activities of $4.5 billion increased $1.8 billion compared to the second quarter of 2023.

Financial Results Summary — Six Months Ended June 30:

(Dollars and shares in millions except per share amounts)Yr. to Yr. Percent/ Margin Change
For the six months ended June 30:20242023
Revenue (1)$30,231$29,7271.7%
Gross profit margin55.2%53.9%1.4pts.
Total expense and other (income)$13,399$12,9523.5%
Income from continuing operations before income taxes$3,293$3,0587.7%
Provision for/(benefit from) income taxes from continuing operations$(112)$543nm
Income from continuing operations$3,405$2,51535.4%
Income from continuing operations margin11.3%8.5%2.8pts.
Income/(loss) from discontinued operations, net of tax$34$(4)nm
Net income$3,439$2,51137.0%
Earnings per share from continuing operations - assuming dilution$3.65$2.7433.2%
Consolidated earnings per share - assuming dilution$3.68$2.7334.8%
Weighted-average shares outstanding - assuming dilution933.9918.61.7%
At 6/30/2024At 12/31/2023
Assets$133,848$135,241(1.0)%
Liabilities$109,745$112,628(2.6)%
Equity$24,103$22,6136.6%

(1)Year-to-year revenue growth of 3.2 percent adjusted for currency.

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Management Discussion – (continued)

The following table provides the company’s operating (non-GAAP) earnings for the first six months of 2024 and 2023.

(Dollars in millions except per share amounts)Yr. to Yr. Percent Change
For the six months ended June 30:20242023
Net income as reported$3,439$2,51137.0%
Income/(loss) from discontinued operations, net of tax34(4)nm
Income from continuing operations$3,405$2,51535.4
Non-operating adjustments (net of tax):
Acquisition-related charges$707$61315.4%
Non-operating retirement-related costs/(income)16310nm
U.S. tax reform impacts(436)115nm
Operating (non-GAAP) earnings (1)$3,839$3,25218.0%
Diluted operating (non-GAAP) earnings per share (1)$4.11$3.5416.1%

(1)Refer to page 82 for a more detailed reconciliation of net income to operating earnings.

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Financial Performance Summary —Six Months Ended June 30:

In the first six months of 2024, we reported $30.2 billion in revenue, income from continuing operations of $3.4 billion and operating (non-GAAP) earnings of $3.8 billion. Diluted earnings per share from continuing operations was $3.65 as reported and $4.11 on an operating (non-GAAP) basis. We generated $6.2 billion in cash from operations and $4.5 billion in free cash flow, and delivered shareholder returns of $3.1 billion in dividends. Our year-to-date performance reflects our deep focus on the business fundamentals with continued revenue growth, margin expansion, cash generation and a strong balance sheet with financial flexibility to support our business.

Total revenue grew 1.7 percent as reported and 3 percent adjusted for currency compared to the prior-year period. Software delivered revenue growth of 6.3 percent as reported and 7.2 percent adjusted for currency, with solid growth in both Hybrid Platform & Solutions and Transaction Processing. Consulting revenue decreased 0.6 percent as reported but grew 1.8 percent adjusted for currency, led by strength in our Business Transformation offerings, and reflecting continued organic growth. Infrastructure revenue was flat as reported and increased 1.5 percent adjusted for currency, with growth in Hybrid Infrastructure reflecting continued demand across our hardware portfolio, offset by a decline in Infrastructure Support reflecting product cycle dynamics.

From a geographic perspective, Americas revenue increased 1.0 percent year to year as reported (1.2 percent adjusted for currency). EMEA increased 1.1 percent (0.7 percent adjusted for currency). Asia Pacific increased 4.4 percent (12.5 percent adjusted for currency).

Gross margin of 55.2 percent increased 1.4 points year to year with gross profit margin expansion across all reportable segments driven by our improving portfolio mix and productivity actions. Operating (non-GAAP) gross margin of 56.3 percent increased 1.5 points compared to the prior-year period due to the same dynamics.

Total expense and other (income) increased 3.5 percent in the first six months of 2024 versus the prior-year period primarily driven by higher spending reflecting our continued investment in portfolio innovation to drive our strategy, higher acquisition-related charges, amortization of acquired intangible assets and non-operating retirement-related cost, and the effects of currency; partially offset by the gain on the divestiture of The Weather Company assets and the benefits from productivity actions. Total operating (non-GAAP) expense and other (income) increased 1.0 percent year to year, driven primarily by the factors described above, excluding the higher non-operating retirement-related costs, acquisition-related charges and amortization of acquired intangible assets.

Pre-tax income from continuing operations of $3.3 billion increased 7.7 percent and pre-tax margin was 10.9 percent, an increase of 0.6 points versus the first half of 2023. Performance in the first six months of 2024 reflects our gross margin expansion and the benefits from productivity actions which enabled investments to drive innovation. The continuing operations benefit from income taxes for the first six months of 2024 was $112 million, compared to a provision for income taxes of $543 million for the first six months of 2023. The benefit from income taxes in the first six months of 2024

Management Discussion – (continued)

was primarily driven by the resolution of certain tax audit matters in the first quarter. Net income from continuing operations of $3.4 billion increased 35.4 percent and the net income from continuing operations margin was 11.3 percent, up 2.8 points year to year.

Operating (non-GAAP) pre-tax income from continuing operations of $4.4 billion increased 15.7 percent compared to the prior-year period and the operating (non-GAAP) pre-tax margin from continuing operations increased 1.8 points to 14.7 percent. The operating (non-GAAP) provision for income taxes in the first six months of 2024 was $610 million, compared to $593 million in the first six months of 2023. Operating (non-GAAP) income from continuing operations of $3.8 billion increased 18.0 percent and the operating (non-GAAP) income margin from continuing operations of 12.7 percent increased 1.8 points year to year.

Diluted earnings per share from continuing operations of $3.65 in the first six months of 2024 increased 33.2 percent and operating (non-GAAP) diluted earnings per share of $4.11 increased 16.1 percent compared to the first half of 2023.

At June 30, 2024, the balance sheet remained strong with financial flexibility to support and invest in the business. Cash and cash equivalents, restricted cash and marketable securities at June 30, 2024 of $16.0 billion increased $2.5 billion from December 31, 2023 and debt of $56.5 billion at June 30, 2024 was flat from prior-year end.

Total assets decreased $1.4 billion (increased $0.5 billion adjusted for currency) from December 31, 2023 primarily driven by increases in cash and cash equivalents, restricted cash and marketable securities; partially offset by a decrease in receivables. Total liabilities decreased $2.9 billion ($1.0 billion adjusted for currency) from December 31, 2023 primarily driven by decreases in tax liabilities and accounts payable; partially offset by an increase in deferred income. Total equity of $24.1 billion increased $1.5 billion from December 31, 2023 primarily driven by first-half 2024 net income and common stock issuances; partially offset by dividends paid.

Cash provided by operating activities was $6.2 billion in the first six months of 2024, a decrease of $0.2 billion compared to the first six months of 2023 and free cash flow was $4.5 billion, an increase of $1.1 billion versus the prior-year period. Refer to page 77 for additional information on free cash flow. Net cash used in investing activities of 2.0 billion decreased 6.0 billion and financing activities were a net use of cash of 2.6 billion in the first six months of 2024 compared to a net source of cash of $3.0 billion in the prior-year period.

Management Discussion – (continued)

Second Quarter in Review

Results of Continuing Operations

Segment Details

As discussed in the "Organization of Information" section, we made changes to our organizational structure and management system in the first quarter of 2024. With these changes, we revised our reportable segments and updated the title of our segment performance metric from pre-tax income from continuing operations to segment profit.

The following tables present each reportable segment’s revenue and gross margin results, followed by an analysis of the second quarter and first six months of 2024 versus the second quarter and first six months of 2023 reportable segments results. Prior-year results have been recast to reflect the January 2024 segment changes as described in note 4, "Segments."

(Dollars in millions)Yr. to Yr. Percent/Margin ChangeYr. to Yr. Percent Change Adjusted For Currency
For the three months ended June 30:20242023 (1)
Revenue:
Software$6,739$6,2947.1%8.4%
Gross margin83.6%82.1%1.5pts.
Consulting5,1795,226(0.9)%1.8%
Gross margin26.3%25.9%0.4pts.
Infrastructure3,6453,6180.7%2.7%
Gross margin56.5%56.0%0.5pts.
Financing169185(8.3)%(6.6)%
Gross margin48.9%49.2%(0.3)pts.
Other38152(75.1)%(74.6)%
Gross marginnm(88.8)%nm
Total revenue$15,770$15,4751.9%3.8%
Total gross profit$8,950$8,5015.3%
Total gross margin56.8%54.9%1.8pts.
Non-operating adjustments:
Amortization of acquired intangible assets17015013.9%
Operating (non-GAAP) gross profit$9,120$8,6505.4%
Operating (non-GAAP) gross margin57.8%55.9%1.9pts.

(1)Recast to reflect January 2024 segment changes.

nm = not meaningful

Management Discussion – (continued)

(Dollars in millions)Yr. to Yr. Percent/Margin ChangeYr. to Yr. Percent Change Adjusted For Currency
For the six months ended June 30:20242023 (1)
Revenue:
Software$12,637$11,8856.3%7.2%
Gross margin83.0%82.3%0.7pts.
Consulting10,36510,423(0.6)%1.8%
Gross margin25.8%25.7%0.1pts.
Infrastructure6,7216,7160.1%1.5%
Gross margin55.4%54.1%1.4pts.
Financing362380(4.9)%(4.0)%
Gross margin48.7%46.5%2.2pts.
Other146321(54.6)%(54.6)%
Gross margin(260.7)%(81.5)%(179.2)pts.
Total revenue$30,231$29,7271.7%3.2%
Total gross profit$16,692$16,0104.3%
Total gross margin55.2%53.9%1.4pts.
Non-operating adjustments:
Amortization of acquired intangible assets34129814.4%
Operating (non-GAAP) gross profit$17,033$16,3084.4%
Operating (non-GAAP) gross margin56.3%54.9%1.5pts.

(1)Recast to reflect January 2024 segment changes.

Software

(Dollars in millions)Yr. to Yr. Percent ChangeYr. to Yr. Percent Change Adjusted For Currency
For the three months ended June 30:20242023 (1)
Software revenue:$6,739$6,2947.1%8.4%
Hybrid Platform & Solutions$4,575$4,3505.2%6.3%
Red Hat6.98.1
Automation14.615.9
Data & AI(3.0)(2.1)
Security2.03.0
Transaction Processing2,1641,94311.413.0

(1)Recast to reflect January 2024 segment changes.

Management Discussion – (continued)

(Dollars in millions)Yr. to Yr. Percent ChangeYr. to Yr. Percent Change Adjusted For Currency
For the six months ended June 30:20242023 (1)
Software revenue:$12,637$11,8856.3%7.2%
Hybrid Platform & Solutions$8,673$8,2005.8%6.5%
Red Hat7.88.6
Automation13.914.7
Data & AI(1.4)(0.8)
Security(0.2)0.3
Transaction Processing3,9643,6857.68.7

(1)Recast to reflect January 2024 segment changes.

Software revenue of $6,739 million increased 7.1 percent as reported (8.4 percent adjusted for currency) in the second quarter of 2024 compared to the prior-year period, driven by solid revenue growth in both Hybrid Platform & Solutions and Transaction Processing. We had strong transactional performance as clients leverage the capabilities of our AI and hybrid cloud platforms. This revenue performance also reflects the investments we have been making in Software, both organically and in acquisitions.

Hybrid Platform & Solutions revenue of $4,575 million increased 5.2 percent as reported (6.3 percent adjusted for currency) in the second quarter of 2024 compared to the prior-year period, driven primarily by growth in Red Hat and Automation. Red Hat revenue increased 6.9 percent as reported (8.1 percent adjusted for currency), with double-digit growth in OpenShift and Ansible, and solid growth in RHEL in the second quarter of 2024 compared to the prior-year period. The revenue growth within Red Hat reflects the demand for our hybrid cloud solutions, including application modernization, management automation, generative AI and virtualization. Automation revenue increased 14.6 percent as reported (15.9 percent adjusted for currency), driven by strong growth in our Software-as-a-Service subscription offerings such as AIOps and Management, which includes the revenue contribution from the Apptio acquisition which closed in the third quarter of 2023. The synergy between Apptio's FinOps offerings and our broader automation portfolio helps clients manage, optimize and automate technology spending decisions. Data & AI revenue decreased 3.0 percent as reported (2.1 percent adjusted for currency), due to a challenging year-to-year revenue performance comparison where we had strong, broad-based, double-digit revenue growth in the second quarter of 2023.

Across Hybrid Platform & Solutions, our annual recurring revenue (ARR) was $14.1 billion. ARR is a key performance metric management uses to assess the health and growth trajectory of our Hybrid Platform & Solutions business within the Software segment. The metric was updated in the first quarter of 2024 to reflect the organizational changes described in note 4, “Segments,” and to simplify the calculation. ARR is calculated by using the current quarter’s recurring revenue and then multiplying that value by four. This value includes the following consumption models: (1) software subscription agreements, including committed term licenses, (2) as-a-service arrangements such as SaaS and PaaS, and (3) maintenance and support contracts. ARR should be viewed independently of revenue as this performance metric and its inputs may not represent revenue that will be recognized in future periods.

Transaction Processing revenue of $2,164 million increased 11.4 percent as reported (13.0 percent adjusted for currency) in the second quarter of 2024 compared to the prior-year period, reflecting continued revenue growth in both recurring and transactional software. This growth reflects the innovation and value of our mission-critical hardware stack across IBM Z, Power and Storage systems. The performance is the result of the combination of clients' growing demand for capacity, solid renewal rates, and strong large deal performance. In addition, our new generative AI portfolio innovation, watsonx Code Assistant for Z, is resonating well with clients.

For the first six months of 2024, Software revenue of $12,637 million increased 6.3 percent as reported (7.2 percent adjusted for currency) compared to the same period in 2023, driven by solid growth in Hybrid Platform & Solutions, led by Red Hat and Automation, and Transaction Processing. This performance reflects the continued demand for the high-value capabilities within our Hybrid Platform & Solutions offerings and the value of our mission-critical software within Transaction Processing.

Management Discussion – (continued)

(Dollars in millions)Yr. to Yr. Percent/ Margin Change
For the three months ended June 30:20242023 (1)
Software:
Gross profit$5,634$5,1679.0%
Gross profit margin83.6%82.1%1.5pts.
Segment profit$2,113$1,74920.8%
Segment profit margin31.3%27.8%3.6pts.
(Dollars in millions)Yr. to Yr. Percent/ Margin Change
For the six months ended June 30:20242023 (1)
Software:
Gross profit$10,494$9,7857.2%
Gross profit margin83.0%82.3%0.7pts.
Segment profit$3,612$3,12815.5%
Segment profit margin28.6%26.3%2.3pts.

(1)Recast to reflect January 2024 segment changes.

Software gross profit margin increased 1.5 points to 83.6 percent in the second quarter of 2024 compared to the prior-year period. Segment profit of $2,113 million increased 20.8 percent and segment profit margin of 31.3 percent increased 3.6 points compared to the prior-year period. The segment profit growth reflects our operating leverage driven by our revenue performance and portfolio mix. The benefits of our continued productivity actions, partially offset by key investments in software innovation, also contributed to segment profit and margin expansion.

For the first six months of 2024, gross profit margin increased 0.7 points to 83.0 percent, compared to the first six months of 2023. Segment profit of $3,612 million increased 15.5 percent and segment profit margin of 28.6 percent increased 2.3 points compared to the prior-year period. The segment profit growth for the first half of 2024 was driven by the same factors described for the second quarter. The segment profit margin also included about half of a point of impact from currency.

Management Discussion – (continued)

Consulting

(Dollars in millions)Yr. to Yr. Percent ChangeYr. to Yr. Percent Change Adjusted For Currency
For the three months ended June 30:20242023 (1)
Consulting revenue:$5,179$5,226(0.9)%1.8%
Business Transformation$2,360$2,2952.8%5.5%
Technology Consulting917941(2.5)0.5
Application Operations1,9021,991(4.5)(1.8)
(Dollars in millions)Yr. to Yr. Percent ChangeYr. to Yr. Percent Change Adjusted For Currency
For the six months ended June 30:20242023 (1)
Consulting revenue:$10,365$10,423(0.6)%1.8%
Business Transformation$4,677$4,5782.2%4.4%
Technology Consulting1,8481,866(1.0)1.8
Application Operations3,8403,980(3.5)(1.3)

(1)Recast to reflect January 2024 segment changes.

Consulting revenue of $5,179 million decreased 0.9 percent as reported, but increased 1.8 percent adjusted for currency in the second quarter of 2024 compared to the prior-year period. We continued to have solid demand for our large transformational offerings as clients continue to prioritize driving productivity with AI and analytics. At the same time, consistent with the first quarter, we continued to see clients delay discretionary projects as they prioritized their spending. Our extensive industry and domain expertise has placed us in an early leadership role at the onset of the technology shift to generative AI. We are partnering with our clients to design and scale AI solutions by leveraging our AI capabilities and the AI capabilities of our strategic partners. We are utilizing generative AI solutions to improve delivery by developing new ways of working and driving productivity within our client contracts. Generative AI is driving the next wave of growth, acting as a catalyst for companies to grow revenue, cut costs and change the way they work. This is creating a significant opportunity for IBM, as we have both technology and consulting, which is a unique and powerful combination to help clients navigate this technology shift. In human capital businesses, we are seeing clients re-prioritize their spend on this technology transition, and there is some potential for the total addressable market to expand.

In the second quarter of 2024, Business Transformation revenue of $2,360 million increased 2.8 percent as reported (5.5 percent adjusted for currency) compared to the prior-year period, led by finance and supply chain transformations. Data transformation offerings also contributed to revenue growth in the quarter.

Technology Consulting revenue of $917 million decreased 2.5 percent as reported, but grew 0.5 percent adjusted for currency in the second quarter of 2024 compared to the prior-year period, driven by growth in application modernization services.

Application Operations revenue of $1,902 million decreased 4.5 percent as reported (1.8 percent adjusted for currency) compared to the prior-year period, reflecting a decline in on-premise custom application management projects, partially offset by growth in cloud-based application management offerings.

For the first six months of 2024, Consulting revenue of $10,365 million decreased 0.6 percent as reported, but grew 1.8 percent adjusted for currency, led by strength in our Business Transformation offerings. Business Transformation revenue grew year to year led by finance and supply chain, data and technology, and customer experience transformation projects. In our Technology Consulting business, revenue declined as reported, but grew adjusted for currency. We had declines in on-premise and cloud application development, but growth in client engagements focused on cloud modernization. Within Application Operations, we had declines in on-premise application management services, partially offset by growth in cloud application management services.

Management Discussion – (continued)

(Dollars in millions)Yr. to Yr. Percent/ Margin Change
For the three months ended June 30:20242023 (1)
Consulting:
Gross profit$1,362$1,3530.7%
Gross profit margin26.3%25.9%0.4pts.
Segment profit$463$483(4.0)%
Segment profit margin8.9%9.2%(0.3)pts.
(Dollars in millions)Yr. to Yr. Percent/ Margin Change
For the six months ended June 30:20242023 (1)
Consulting:
Gross profit$2,676$2,678(0.1)%
Gross profit margin25.8%25.7%0.1pts.
Segment profit$888$910(2.4)%
Segment profit margin8.6%8.7%(0.2)pts.

(1)Recast to reflect January 2024 segment changes.

In the second quarter of 2024, Consulting gross profit margin of 26.3 percent increased 0.4 points on a year-to-year basis. Segment profit of $463 million decreased 4.0 percent and segment profit margin of 8.9 percent decreased 0.3 points year to year. The gross profit margin expansion was driven by productivity and pricing actions we have taken, partially offset by continued labor inflation which is also reflected in the modest decline in segment profit margin.

For the first six months of 2024, Consulting gross profit margin of 25.8 percent increased 0.1 points compared to the prior-year period. Segment profit of $888 million decreased 2.4 percent and segment profit margin of 8.6 percent decreased 0.2 points in the first six months of 2024 compared to the prior-year period. The six-month margin performance was driven by the same factors as described above for the second quarter. The segment profit margin also included about half of a point of impact from currency.

Consulting Signings and Book-to-Bill

(Dollars in millions)Yr. to Yr. Percent ChangeYr. to Yr. Percent Change Adjusted For Currency
For the three months ended June 30:20242023 (1)
Total Consulting signings$5,678$5,946(4.5)%(2.5)%
(Dollars in millions)Yr. to Yr. Percent ChangeYr. to Yr. Percent Change Adjusted For Currency
For the six months ended June 30:20242023 (1)
Total Consulting signings$11,189$11,328(1.2)%0.7%

(1)Recast to reflect January 2024 segment changes.

In the second quarter of 2024, Consulting signings decreased 4.5 percent as reported and 2.5 percent adjusted for currency. While discretionary spending constraints impacted our small engagement performance in the second-quarter 2024, we had solid demand for large engagements across finance and supply chain transformation, cloud modernization and application development. Our book-to-bill ratio for the trailing twelve-months remains over 1.15. Book-to-bill represents the ratio of IBM Consulting signings to its revenue over the same period. The metric is a useful indicator of the demand of our business over time.

Management Discussion – (continued)

Signings are management’s initial estimate of the value of a client’s commitment under a services contract within IBM Consulting. 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.

Contract extensions and increases in scope are treated as signings only to the extent of the incremental new value. Total 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. Signings associated with an acquisition will be recognized on a prospective basis.

Management believes the estimated values of signings disclosed provide an indication of our forward-looking revenue. Signings are used to monitor the performance of the business and viewed as useful information for management and shareholders. The conversion of signings into revenue may vary based on the types of services and solutions, contract duration, customer decisions, and other factors, which may include, but are not limited to, the macroeconomic environment.

Infrastructure

(Dollars in millions)Yr. to Yr. Percent ChangeYr. to Yr. Percent Change Adjusted For Currency
For the three months ended June 30:20242023
Infrastructure revenue:$3,645$3,6180.7%2.7%
Hybrid Infrastructure$2,360$2,2604.4%6.1%
IBM Z6.07.6
Distributed Infrastructure3.35.0
Infrastructure Support1,2851,358(5.4)(2.9)
(Dollars in millions)Yr. to Yr. Percent ChangeYr. to Yr. Percent Change Adjusted For Currency
For the six months ended June 30:20242023
Infrastructure revenue:$6,721$6,7160.1%1.5%
Hybrid Infrastructure$4,163$3,9694.9%6.2%
IBM Z5.26.5
Distributed Infrastructure4.66.0
Infrastructure Support2,5582,747(6.9)(5.1)

Infrastructure revenue of $3,645 million increased 0.7 percent as reported and 2.7 percent adjusted for currency in the second quarter of 2024 compared to the prior-year period, with strong growth in Hybrid Infrastructure, partially offset by a decline in Infrastructure Support.

Hybrid Infrastructure revenue of $2,360 million increased 4.4 percent as reported and 6.1 percent adjusted for currency in the second quarter of 2024 compared to the prior-year period. Within Hybrid Infrastructure, we had strong and broad-based revenue growth across our hardware platforms, led by IBM Z which increased 6.0 percent as reported and 7.6 percent adjusted for currency. We are now more than two years into the z16 cycle and the revenue performance continues to outperform prior cycles. Our clients have increasing demands for workloads given rapid business expansion, the complex regulatory environment and increasing cybersecurity threats and attacks. IBM Z addresses these client needs with the combination of cloud-native development for hybrid cloud, embedded AI at scale, quantum-safe security, energy efficiency and strong reliability and scalability. IBM Z remains an enduring platform for mission-critical workloads, driving both hardware and related software, storage and services adoption. Distributed Infrastructure revenue increased 3.3 percent as reported and 5.0 percent adjusted for currency, driven primarily by strong growth in Power and Storage systems. Within Power, revenue growth was driven by demand for data intensive workloads on Power10, led by SAP Hana. Storage revenue performance was driven by growth in high-end storage tied to the z16 cycle and solutions tailored to protect, manage and access data for scaling generative AI.

Management Discussion – (continued)

Infrastructure Support revenue of $1,285 million decreased 5.4 percent as reported (2.9 percent adjusted for currency) in the second quarter of 2024 compared to the prior-year period, driven by volume decline in support of non-IBM equipment and IBM product cycle dynamics.

For the first six months of 2024, Infrastructure revenue of $6,721 million was flat as reported and increased 1.5 percent adjusted for currency compared to the prior-year period, driven by year-to-year growth in Hybrid Infrastructure partially offset by declines in Infrastructure Support. Within Hybrid Infrastructure, we had solid revenue growth in IBM Z and strong growth in Power and Storage systems within Distributed Infrastructure. The revenue decline in Infrastructure Support for the first six months of 2024 was driven by the same dynamics as the second quarter.

(Dollars in millions)Yr. to Yr. Percent/ Margin Change
For the three months ended June 30:20242023 (1)
Infrastructure:
Gross profit$2,060$2,0251.7%
Gross profit margin56.5%56.0%0.5pts.
Segment profit$654$732(10.7)%
Segment profit margin17.9%20.2%(2.3)pts.
(Dollars in millions)Yr. to Yr. Percent/ Margin Change
For the six months ended June 30:20242023 (1)
Infrastructure:
Gross profit$3,726$3,6312.6%
Gross profit margin55.4%54.1%1.4pts.
Segment profit$965$1,039(7.1)%
Segment profit margin14.4%15.5%(1.1)pts.

(1)Recast to reflect January 2024 segment changes.

Infrastructure gross profit margin of 56.5 percent increased 0.5 points in the second quarter of 2024 compared to the prior-year period, with solid margin expansion in Hybrid Infrastructure and Infrastructure Support. The increase in margin within Hybrid Infrastructure was driven primarily by margin expansion within Distributed Infrastructure, driven by Power systems, and portfolio mix to IBM Z. In the second quarter of 2024, Infrastructure segment profit of $654 million decreased 10.7 percent and segment profit margin of 17.9 percent decreased 2.3 points compared to the prior-year period. The year-to-year decrease in segment profit and margin reflects key investments we are making in the business across areas such as AI, hybrid cloud and quantum, partially offset by the benefits from productivity actions we have taken. The segment profit margin included approximately 1 point of impact from currency.

For the first six months of 2024, gross profit margin of 55.4 percent increased 1.4 points compared to the prior-year period, driven by margin expansion in Hybrid Infrastructure and Infrastructure Support. Infrastructure profit of $965 million decreased 7.1 percent and segment profit margin of 14.4 percent decreased 1.1 points in the first six months of 2024 compared to the prior-year period. This performance reflects the same factors described in the second-quarter performance, which were partially offset by higher IP and custom development income year to year. The segment profit margin also included approximately 1 point of impact from currency.

Financing

Refer to pages 78 through 80 for a discussion of Financing’s segment results.

Management Discussion – (continued)

Geographic Revenue

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

(Dollars in millions)Yr. to Yr. Percent ChangeYr. to Yr. Percent Change Adjusted For Currency
For the three months ended June 30:20242023
Total Revenue$15,770$15,4751.9%3.8%
Americas$7,979$8,046(0.8)%(0.5)%
Europe/Middle East/Africa (EMEA)4,7224,6022.63.2
Asia Pacific3,0692,8278.617.2
(Dollars in millions)Yr. to Yr. Percent ChangeYr. to Yr. Percent Change Adjusted For Currency
For the six months ended June 30:20242023
Total Revenue$30,231$29,7271.7%3.2%
Americas$15,275$15,1241.0%1.2%
Europe/Middle East/Africa (EMEA)9,0358,9331.10.7
Asia Pacific5,9225,6704.412.5

Geographic revenue performance for the three months ended June 30, 2024:

Americas revenue of $7,979 million decreased 0.8 percent as reported and 0.5 percent adjusted for currency in the second quarter of 2024 compared to the prior-year period. The U.S. increased 2.6 percent. Canada decreased 6.2 percent as reported and 4.4 percent adjusted for currency. Latin America decreased 19.9 percent as reported and 18.4 percent adjusted for currency, with Brazil decreasing 22.8 percent as reported and 20.0 percent adjusted for currency.

In EMEA, total revenue of $4,722 million increased 2.6 percent as reported and 3.2 percent adjusted for currency. Italy and Germany increased 4.6 percent and 3.5 percent, respectively, as reported, and 5.6 percent and 4.6 percent, respectively, adjusted for currency. France and the UK decreased 9.0 percent and 0.3 percent, respectively, as reported, and 8.1 percent and 1.1 percent, respectively, adjusted for currency.

Asia Pacific revenue of $3,069 million increased 8.6 percent as reported and 17.2 percent adjusted for currency. Japan increased 11.2 percent as reported and 26.2 percent adjusted for currency. Australia and India increased 13.7 percent and 11.9 percent, respectively, as reported, and 15.1 percent and 13.5 percent, respectively, adjusted for currency. China decreased 4.3 percent as reported and 2.3 percent adjusted for currency.

Geographic revenue performance for the six months ended June 30, 2024:

Americas revenue of $15,275 million increased 1.0 percent as reported and 1.2 percent adjusted for currency. The U.S. increased 3.0 percent compared to the prior-year period. Canada decreased 6.3 percent as reported and 5.6 percent adjusted for currency. Latin America decreased 6.5 percent as reported and 5.2 percent adjusted for currency, with Brazil decreasing 9.0 percent as reported and 8.8 percent adjusted for currency.

In EMEA, total revenue of $9,035 million increased 1.1 percent as reported and 0.7 percent adjusted for currency. Germany and Italy increased 3.8 percent and 3.2 percent, respectively, both as reported and adjusted for currency. The UK increased 1.9 percent as reported, but decreased 0.6 percent adjusted for currency. France decreased 3.5 percent both as reported and adjusted for currency.

Asia Pacific revenue of $5,922 million increased 4.4 percent as reported and 12.5 percent adjusted for currency. Japan increased 7.1 percent as reported and 20.9 percent adjusted for currency. India and Australia increased 8.7 percent and 3.0 percent, respectively, as reported, and 10.0 percent and 5.5 percent, respectively, adjusted for currency. China decreased 5.0 percent as reported and 2.3 percent adjusted for currency.

Management Discussion – (continued)

Expense

Total Expense and Other (Income)

(Dollars in millions)Yr. to Yr. Percent Change
For the three months ended June 30:20242023
Total expense and other (income)$6,730$6,5013.5%
Non-operating adjustments:
Amortization of acquired intangible assets$(268)$(239)12.2%
Acquisition-related charges(36)(7)nm
Non-operating retirement-related (costs)/income(98)(1)nm
Operating (non-GAAP) expense and other (income)$6,328$6,2541.2%
Total expense-to-revenue ratio42.7%42.0%0.7pts.
Operating (non-GAAP) expense-to-revenue ratio40.1%40.4%(0.3)pts.
(Dollars in millions)Yr. to Yr. Percent Change
For the six months ended June 30:20242023
Total expense and other (income)$13,399$12,9523.5%
Non-operating adjustments:
Amortization of acquired intangible assets$(526)$(483)8.8%
Acquisition-related charges(96)(10)nm
Non-operating retirement-related (costs)/income(194)4nm
Operating (non-GAAP) expense and other (income)$12,584$12,4631.0%
Total expense-to-revenue ratio44.3%43.6%0.8pts.
Operating (non-GAAP) expense-to-revenue ratio41.6%41.9%(0.3)pts.

nm - not meaningful

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

Management Discussion – (continued)

Selling, General and Administrative Expense

(Dollars in millions)Yr. to Yr. Percent Change
For the three months ended June 30:20242023
Selling, general and administrative expense:
Selling, general and administrative — other$4,121$3,9913.3%
Advertising and promotional expense354372(5.0)
Workforce rebalancing charges20117(82.7)
Amortization of acquired intangible assets26823912.3
Stock-based compensation1721682.3
Provision for/(benefit from) expected credit loss expense214(85.4)
Total selling, general and administrative expense$4,938$4,9000.8%
Non-operating adjustments:
Amortization of acquired intangible assets$(268)$(239)12.3%
Acquisition-related charges(18)(7)176.4
Operating (non-GAAP) selling, general and administrative expense$4,651$4,655(0.1)%
(Dollars in millions)Yr. to Yr. Percent Change
For the six months ended June 30:20242023
Selling, general and administrative expense:
Selling, general and administrative — other$8,036$7,8772.0%
Advertising and promotional expense633687(7.9)
Workforce rebalancing charges3963765.3
Amortization of acquired intangible assets5264829.0
Stock-based compensation3433178.2
Provision for/(benefit from) expected credit loss expense(21)16nm
Total selling, general and administrative expense$9,912$9,7541.6%
Non-operating adjustments:
Amortization of acquired intangible assets$(526)$(482)9.0%
Acquisition-related charges(28)(9)213.8
Operating (non-GAAP) selling, general and administrative expense$9,358$9,2631.0%

nm - not meaningful

Total selling, general and administrative (SG&A) expense increased 0.8 percent in the second quarter of 2024 versus the prior-year period driven primarily by the following factors:

  • Higher spending, which includes operating expenses of acquired businesses, as a result of our continued investment to drive our hybrid cloud and AI strategy; and

  • Higher acquisition-related charges and amortization of acquired intangible assets (1 point); partially offset by

  • Benefits from productivity actions;

  • Lower workforce rebalancing charges (2 points); and

  • The effects of currency (1 point).

Operating (non-GAAP) SG&A expense was flat year to year primarily driven by the same factors above excluding the higher acquisition-related charges and amortization of acquired intangible assets.

Management Discussion – (continued)

Total SG&A expense increased 1.6 percent in the first six months of 2024 versus the prior-year period driven primarily by the following factors:

  • Higher spending, which includes expenses from acquired businesses, as a result of our continued investment to drive our hybrid cloud and AI strategy; and

  • Higher acquisition-related charges and amortization of acquired intangible assets (1 point); partially offset by

  • Benefits from productivity actions; and

  • The effects of currency (1 point).

Operating (non-GAAP) SG&A expense increased 1.0 percent year to year primarily driven by the same factors above excluding the higher acquisition-related charges and amortization of acquired intangible assets.

Expected credit loss expense was a benefit of $21 million in the first six months of 2024 compared to a provision of $16 million in the prior-year period. The year-to-year change was primarily driven by lower reserve requirements in the current year. Refer to "Receivables and Allowances" section on page 72 for additional information.

Research, Development and Engineering

(Dollars in millions)Yr. to Yr. Percent Change
For the three months ended June 30:20242023
Research, development and engineering expense$1,840$1,6879.1%
(Dollars in millions)Yr. to Yr. Percent Change
For the six months ended June 30:20242023
Research, development and engineering expense$3,637$3,3428.8%

Research, development and engineering (RD&E) expense increased 9.1 percent and 8.8 percent year to year in the second quarter and first six months of 2024, respectively. RD&E expense increased year to year primarily driven by investments to drive innovation in AI, hybrid cloud and quantum, as well as in Infrastructure ahead of our next IBM Z cycle in 2025.

Intellectual Property and Custom Development Income

(Dollars in millions)Yr. to Yr. Percent Change
For the three months ended June 30:20242023
Intellectual property and custom development income:
Intellectual property income (1) (2)$77$129(40.6)%
Custom development income16511937.9
Total$241$248(2.8)%

(1)Includes licensing, royalty-based fees and sales.

(2)Prior period has been reclassified to conform to the change in 2024 presentation.

Management Discussion – (continued)

(Dollars in millions)Yr. to Yr. Percent Change
For the six months ended June 30:20242023
Intellectual property and custom development income:
Intellectual property income (1) (2)$149$193(23.0)%
Custom development income30923531.5
Total$458$4286.9%

(1)Includes licensing, royalty-based fees and sales.

(2)Prior period has been reclassified to conform to the change in 2024 presentation.

Total intellectual property and custom development income decreased 2.8 percent year to year in the second quarter, and increased 6.9 percent in the first six months of 2024 compared to the prior-year period. The increase in the first six months of 2024 was primarily driven by joint development and licensing agreements with a Japanese consortium to leverage our intellectual property and expertise on advanced semiconductors.

The timing and amount of licensing and sales 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.

Other (Income) and Expense

(Dollars in millions)Yr. to Yr. Percent Change
For the three months ended June 30:20242023
Other (income) and expense:
Foreign currency transaction losses/(gains)$(140)$(166)(15.9)%
(Gains)/losses on derivative instruments (1)140141(0.8)
Interest income(217)(201)7.7
Net (gains)/losses from securities and investment assets03nm
Retirement-related costs/(income)981nm
Other(114)(39)193.5
Total other (income) and expense$(233)$(261)(10.6)%
Non-operating adjustments:
Amortization of acquired intangible assets$—$0(100.0)%
Acquisition-related charges (1)(18)0nm
Non-operating retirement-related (costs)/income(98)(1)nm
Operating (non-GAAP) other (income) and expense$(349)$(262)33.1%

(1)2024 includes the realized loss recognized on foreign exchange derivative contracts entered into by the company prior to the acquisition of StreamSets and webMethods from Software AG. Refer to note 16, “Derivative Financial Instruments,” for additional information.

nm - not meaningful

Management Discussion – (continued)

(Dollars in millions)Yr. to Yr. Percent Change
For the six months ended June 30:20242023
Other (income) and expense:
Foreign currency transaction losses/(gains)$(345)$(78)nm
(Gains)/losses on derivative instruments (1)427(1)nm
Interest income(427)(371)15.2%
Net (gains)/losses from securities and investment assets(10)8nm
Retirement-related costs/(income)194(4)nm
Other(389)(61)nm
Total other (income) and expense$(550)$(506)8.8%
Non-operating adjustments:
Amortization of acquired intangible assets$—$(1)(100.0)%
Acquisition-related charges (1)(68)(1)nm
Non-operating retirement-related (costs)/income(194)4nm
Operating (non-GAAP) other (income) and expense$(812)$(504)61.2%

(1)2024 includes the realized loss recognized on foreign exchange derivative contracts entered into by the company prior to the acquisition of StreamSets and webMethods from Software AG. Refer to note 16, “Derivative Financial Instruments,” for additional information.

nm - not meaningful

Total other (income) and expense was income of $233 million in the second quarter of 2024 and decreased $28 million compared to the prior-year period. The year-to-year change was primarily driven by:

  • Higher non-operating retirement-related cost of $97 million primarily driven by an increase in recognized actuarial losses of the Qualified PPP due to the change in amortization period as described in note 18, "Retirement-Related Benefits," partially offset by lower interest costs; partially offset by

  • Higher gains on land/building dispositions and sale of intangibles ($54 million) included in “Other”; and

  • Higher interest income ($15 million) primarily driven by a higher average cash balance in the current year.

Operating (non-GAAP) other (income) and expense was income of $349 million in the second quarter of 2024 and increased $87 million compared to the prior-year period. The year-to-year change was primarily driven by the factors described above, excluding the higher non-operating retirement-related costs.

Total other (income) and expense was income of $550 million in the first six months of 2024 and increased $44 million compared to the prior-year period. The year-to-year change was primarily driven by:

  • Higher gains on divestitures ($214 million) primarily driven by the divestiture of The Weather Company assets (included in “Other” in the table above). Refer to note 5, "Acquisitions & Divestitures," for additional information; and

  • Higher gains on land/building dispositions and sale of intangibles ($77 million) included in “Other”; and

  • Higher interest income ($56 million) primarily driven by a higher average cash balance in the current year; partially offset by

  • Higher non-operating retirement-related cost of $198 million primarily driven by the change in amortization period as described in note 18, "Retirement-Related Benefits," partially offset by lower interest costs; and

  • Net exchange losses (including derivative instruments) of $82 million in the current year versus net exchange gains of $79 million in the prior year.

Management Discussion – (continued)

Operating (non-GAAP) other (income) and expense was income of $812 million in the first six months of 2024 and increased $308 million compared to the prior-year period. The year-to-year change was primarily driven by the factors described above, excluding the higher non-operating retirement-related costs.

Interest Expense

(Dollars in millions)Yr. to Yr. Percent Change
For the three months ended June 30:20242023
Interest expense$427$4231.0%
(Dollars in millions)Yr. to Yr. Percent Change
For the six months ended June 30:20242023
Interest expense$859$7908.7%

Interest expense increased $4 million and $69 million year to year in the second quarter and first six months of 2024, respectively. Interest expense is presented in cost of financing in the Consolidated Income Statement if the related external borrowings are to support the Financing external business. Overall interest expense (excluding capitalized interest) for the second quarter and first six months of 2024 was $509 million and $1,026 million, respectively, an increase of $3 million and $63 million, respectively, compared to the prior-year periods. The year-to-year dynamics for both the second quarter and first six months of 2024 were primarily driven by higher average interest rates and a higher average debt balance in the current year.

Retirement-Related Plans

The following tables provide the total pre-tax cost for all retirement-related plans. The operating cost amounts are included in the Consolidated Income Statement within the caption (e.g., Cost, SG&A, RD&E) relating to the job function of the plan participants. The non-operating cost amounts are included in other (income) and expense.

(Dollars in millions)Yr. to Yr. Percent Change
For the three months ended June 30:20242023
Retirement-related plans — cost:
Service cost$141$46208.8%
Multi-employer plans331.7
Cost of defined contribution plans109242(55.1)
Total operating costs$252$291(13.2)%
Interest cost$555$604(8.1)%
Expected return on plan assets(725)(745)(2.6)
Recognized actuarial losses25612899.8
Amortization of prior service costs/(credits)(2)(2)(13.8)
Curtailments/settlements26(60.6)
Other costs121017.0
Total non-operating costs/(income)$98$1nm
Total retirement-related plans — cost$350$29220.0%

nm - not meaningful

Management Discussion – (continued)

(Dollars in millions)Yr. to Yr. Percent Change
For the six months ended June 30:20242023
Retirement-related plans — cost:
Service cost$284$92209.2%
Multi-employer plans661.4
Cost of defined contribution plans220511(57.1)
Total operating costs$510$610(16.4)%
Interest cost$1,113$1,203(7.5)%
Expected return on plan assets(1,455)(1,484)(1.9)
Recognized actuarial losses51525799.9
Amortization of prior service costs/(credits)(4)(4)(17.5)
Curtailments/settlements45(11.4)
Other costs20197.6
Total non-operating costs/(income)$194$(4)nm
Total retirement-related plans — cost$704$60616.2%

nm - not meaningful

Total pre-tax retirement-related plan cost increased by $58 million compared to the second quarter of 2023, primarily driven by an increase in recognized actuarial losses ($128 million) and higher service cost ($95 million), partially offset by lower cost of defined contribution plans ($134 million) and lower interest costs ($49 million). Total cost for the first six months of 2024 increased by $98 million compared to the first six months of 2023, primarily driven by an increase in recognized actuarial losses ($257 million) and higher service cost ($192 million), partially offset by lower cost of defined contribution plans ($292 million) and lower interest costs ($90 million).

As described in the “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 second quarter of 2024 were $252 million, a decrease of $38 million compared to the second quarter of 2023. The decrease was primarily driven by lower cost of defined contribution plans ($134 million), partially offset by higher service cost ($95 million) due to the U.S. retirement plan changes. For the first six months of 2024, operating retirement-related costs were $510 million, a decrease of $100 million compared to the prior-year period, primarily driven by lower cost of defined contribution plans ($292 million), partially offset by higher service cost ($192 million) due to U.S. retirement plan changes. Including the related employee salary increase effective January 1, 2024, the net impact to our operating costs from the U.S. retirement plan changes was immaterial for the three and six months ended June 30, 2024. Refer to note 18, "Retirement-Related Benefits," for additional information. Non-operating costs/(income) of $98 million in the second quarter of 2024 increased $97 million year to year and for the first six months of 2024 was $194 million of cost compared to $4 million of income in the prior-year period. The year-to-year changes were primarily driven by an increase in recognized actuarial losses, due to the change in amortization period of the Qualified PPP as described in note 18, "Retirement-Related Benefits," partially offset by lower interest costs.

Taxes

The continuing operations provision for income taxes in the second quarter of 2024 was $389 million, compared to $419 million in the second quarter of 2023. The operating (non-GAAP) provision for income taxes in the second quarter of 2024 was $516 million, compared to $393 million in the second quarter of 2023.

The continuing operations benefit from income taxes in the first six months of 2024 was $112 million, compared to a provision for income taxes of $543 million in the first six months of 2023. The benefit from income taxes in the first six months of 2024 was primarily driven by the resolution of certain tax audit matters in the first quarter. The operating (non-GAAP) provision for income taxes in the first six months of 2024 was $610 million, compared to $593 million in the first six months of 2023.

Management Discussion – (continued)

IBM’s tax provision and effective tax rate are impacted by recurring factors including the geographical mix of income before taxes, incentives, changes in unrecognized tax benefits and discrete tax 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 previously recorded charges for U.S. tax reform attributable to any changes in law, new regulations and guidance, and 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 and issued a final Revenue Agent’s Report (RAR) proposing adjustments related to certain cross-border transactions that occurred in 2013. The company filed its IRS Appeals protest in the first quarter of 2021, and in October of 2023, the IRS issued a revised RAR. These adjustments, if sustained, would increase the company’s income subject to tax by approximately $4.2 billion, with tax calculated at the relevant federal income tax rate. The company continues to strongly disagree with the IRS position and will pursue resolution at IRS Appeals and then court, if necessary. In the first quarter of 2024, the IRS concluded its examination of the company's U.S. income tax returns for 2015 and 2016 and issued a final RAR proposing adjustments related to certain cross-border transactions that occurred in 2015. The proposed adjustments, if sustained, would increase the company’s income subject to tax by approximately $1.2 billion, with tax calculated at the relevant federal income tax rate. The company strongly disagrees with the IRS position and filed its IRS Appeals protest in the second quarter of 2024. In the fourth quarter of 2021, the IRS commenced its audit of the company’s U.S. tax returns for 2017 and 2018. The company anticipates that this audit will be completed in 2024. 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 2016. The company is no longer subject to income tax examination of its U.S. federal tax return for years prior to 2013. The open years contain matters that could be subject to differing interpretations of applicable tax laws and regulations as it relates to the amount and/or timing of income, deductions, and tax credits. Although the outcome of tax audits is always uncertain, the company believes that adequate amounts of tax, interest and penalties have been provided for any adjustments that are expected to result for these years.

The company is involved in a number of income tax-related matters in India challenging tax assessments issued by the India Tax Authorities. As of June 30, 2024, the company had recorded $584 million as prepaid income taxes in India. A significant portion of this balance represents cash tax deposits paid over time to protect the company’s right to appeal various income tax assessments made by the India Tax Authorities. Although the outcome of tax audits is always uncertain, the company believes that adequate amounts of tax, interest and penalties have been provided for any adjustments that are expected to result for these years.

The amount of unrecognized tax benefits at June 30, 2024 is $8,398 million which can be reduced by $595 million associated with timing adjustments, potential transfer pricing adjustments, and state income taxes. The net amount of $7,803 million, if recognized, would favorably affect the company’s effective tax rate.

Financial Position

Dynamics

Our balance sheet at June 30, 2024 continues to provide us with financial flexibility to support and invest in the business.

Cash and cash equivalents, restricted cash and marketable securities at June 30, 2024 were $15,959 million, an increase of $2,497 million compared to December 31, 2023, including restricted cash held in escrow in connection with the acquisition of StreamSets and webMethods from Software AG which was remitted on July 1, 2024. Total debt of $56,531 million at June 30, 2024 was flat compared to December 31, 2023. We continue to manage our debt levels while being acquisitive and without sacrificing investments in our business.

In the first six months of 2024, we generated $6,234 million in cash from operating activities, a decrease of $179 million compared to the first six months of 2023. Our free cash flow for the six months ended June 30, 2024 was $4,522 million, an increase of $1,081 million versus the prior year. Refer to pages 76 through 77 for additional information on free cash flow. Our cash generation enables us to continue investing in innovation and expertise across the portfolio, while returning value to shareholders through dividends. We returned $3,058 million to shareholders through dividends in the first half of 2024.

Our pension plans were well funded at the end of 2023, with worldwide qualified plans funded at 111 percent. Overall pension funded status as of the end of June 2024 was fairly consistent with year-end 2023. We expect contributions for all

Management Discussion – (continued)

retirement-related plans to be approximately $1.5 billion in 2024, a decrease of approximately $0.3 billion compared to 2023.

IBM Working Capital

(Dollars in millions)At June 30, 2024At December 31, 2023
Current assets$33,299$32,908
Current liabilities29,64834,122
Working capital$3,651$(1,214)
Current ratio1.12:10.96:1

Working capital increased $4,865 million from the year-end 2023 position. Current assets increased $391 million ($1,097 million adjusted for currency) primarily in cash and cash equivalents, restricted cash, and marketable securities; partially offset by a decrease in receivables mainly from collections of seasonally higher year-end balances. Current liabilities decreased $4,474 million ($3,808 million adjusted for currency) due to declines in short-term debt mainly due to maturities, taxes payable, and accounts payable, partially offset by an increase in deferred income.

Receivables and Allowances

Roll Forward of Total IBM Receivables Allowance for Credit Losses

(Dollars in millions)
January 1, 2024Additions / (Releases) (1)Write-offs (2)(3)Foreign currency and other (3)June 30, 2024
$457$(19)$(125)$(11)$302

(1)Additions/(Releases) for allowance for credit losses are recorded in expense.

(2)Refer to note A, “Significant Accounting Policies,” in our 2023 Annual Report for additional information regarding allowance for credit loss write-offs.

(3)Includes activity related to discontinued operations.

Excluding receivables classified as held for sale, the total IBM receivables provision coverage was 1.7 percent at June 30, 2024, a decrease of 50 basis points compared to December 31, 2023. The decrease in coverage is due to declines in reserves primarily driven by write-offs; partially offset by the overall decrease in total receivables. The write-offs during the six months ended June 30, 2024 were primarily driven by receivables from discontinued operations which had been previously reserved and were written off in the first quarter. Refer to Financing's "Financial Position" on page 79 for additional details regarding the Financing segment receivables and allowances.

Noncurrent Assets and Liabilities

(Dollars in millions)At June 30, 2024At December 31, 2023
Noncurrent assets$100,548$102,333
Long-term debt$52,929$50,121
Noncurrent liabilities (excluding debt)$27,168$28,385

The decrease in noncurrent assets of $1,785 million ($559 million adjusted for currency) is primarily due to a decrease in intangible assets driven by amortization.

Long-term debt increased $2,808 million ($3,411 million adjusted for currency) primarily driven by our first-quarter debt issuances; partially offset by reclassifications to short-term debt to reflect upcoming maturities.

Noncurrent liabilities (excluding debt) decreased $1,217 million ($571 million adjusted for currency) primarily driven by a decrease in income tax reserves from the resolution of certain tax audit matters in the first quarter and a decrease in retirement and nonpension postretirement benefit obligations.

Management Discussion – (continued)

Debt

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

(Dollars in millions)At June 30, 2024At December 31, 2023
Total debt$56,531$56,547
Financing segment debt (1)$11,112$11,879
Non-Financing debt$45,420$44,668

(1)Refer to Financing’s “Financial Position” on page 79 for additional details.

Total debt of $56,531 million decreased $16 million (increased $607 million adjusted for currency) from December 31, 2023, primarily driven by maturities of $5,224 million and currency impacts; partially offset by proceeds from issuances of $5,705 million.

Non-Financing debt of $45,420 million increased $752 million ($1,201 million adjusted for currency) from December 31, 2023, primarily due to first-quarter debt issuances; partially offset by maturities.

Financing segment debt of $11,112 million decreased $768 million ($594 million adjusted for currency) from December 31, 2023, primarily due to lower funding requirements associated with financing receivables.

Financing provides financing solutions predominantly for IBM’s external client assets, and the debt used to fund Financing assets is primarily composed of intercompany 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 interest rate variability underlying the financing receivable. The Financing debt-to-equity ratio remained at 9.0 to 1 at June 30, 2024.

Interest expense relating to debt supporting Financing’s external client and internal business is included in the “Financing Results of Operations” and in note 4, “Segments.” In the Consolidated Income Statement, the external debt-related interest expense supporting Financing’s internal financing to the company is classified as interest expense.

Equity

Total equity increased $1,490 million from December 31, 2023, primarily driven by an increase from net income of $3,439 million and common stock of $858 million; partially offset by dividends paid of $3,058 million.

Cash Flow

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 table below. These amounts also include the cash flows associated with the Financing business.

(Dollars in millions)
For the six months ended June 30:20242023
Net cash provided by/(used in):
Operating activities$6,234$6,412
Investing activities(1,971)(7,953)
Financing activities(2,638)2,978
Effect of exchange rate changes on cash, cash equivalents and restricted cash(236)(1)
Net change in cash, cash equivalents and restricted cash$1,389$1,436

Management Discussion – (continued)

Net cash provided by operating activities decreased $179 million as compared to the first six months of 2023. This was due to a decrease in cash provided by financing receivables; partially offset by performance-related improvements within net income. Changes in operating assets and liabilities, net of acquisitions/divestitures in the Consolidated Statement of Cash Flows also includes the reduction of tax reserves mainly in the first-quarter 2024 which is reflected as a non-cash adjustment to reconcile net income/(loss) to cash from operating activities.

Net cash used in investing activities decreased $5,982 million mainly driven by a decrease in net cash used in marketable securities and other investments and an increase in cash provided by divestitures from the sale of The Weather Company assets in the first quarter of 2024.

Financing activities were a net use of cash of $2,638 million in the first six months of 2024 compared to a net source of cash of $2,978 million in the first six months of 2023 primarily driven by a lower level of net debt issuances in the current-year period.

Looking Forward

Technology has proven to be a fundamental source of competitive advantage. Continued demand for technology will serve as a major driving force behind global economic and business growth as businesses look to scale, offer better services, drive efficiencies and seize new market opportunities. AI-driven productivity, in particular, continues to be a top priority for businesses for both cost reductions and new revenue opportunities.

Enterprise AI continues to gain traction. In 2024, we anticipate more clients moving from experimenting to deploying AI at scale to unlock productivity. We believe our comprehensive AI strategy is well positioned to help clients scale AI. It has been a year since we introduced watsonx and our generative AI strategy to the market. We have infused AI across the business. From the tools clients use to manage and optimize their hybrid cloud environments, to our platform products across watsonx.ai, .data and .gov, to Infrastructure and Consulting, you can find AI innovation in all of our segments. For example, in Software, our broad suite of automation products such as Apptio and watsonx Orchestrate are leveraging AI. Red Hat is bringing AI to the platform with innovation such as OpenShift AI and RHEL AI. In Transaction Processing we are experiencing early momentum in watsonx Code Assistant for Z. In Infrastructure, IBM Z is equipped with real time AI inferencing capabilities. In Consulting, our experts are helping clients design and implement AI strategies and are also leveraging AI technologies in the delivery of those services.

We are committed to an open innovation ecosystem around AI, to help our clients maximize flexibility and leverage skills and IBM with Red Hat can be a key driver of open-source AI. We recently announced that we open-sourced IBM’s Granite family of large language models and we see parallels to how Linux became dominant in the enterprise server space as a result of the speed and innovation offered by open source. Red Hat and IBM also launched InstructLab to evolve and improve AI models. Our partner ecosystem remains essential to both AI and hybrid cloud growth and we continue to progress strategic partnerships with industry leaders. In May, IBM and Palo Alto Networks announced a partnership to deliver AI-powered security solutions using watsonx. As part of this, Palo Alto is acquiring certain IBM QRadar SaaS assets, and we are partnering to offer seamless migration for QRadar customers to XSIAM. The cash proceeds from the sale of QRadar SaaS assets will be reflected in free cash flow, as they will be included in cash from investing activities within proceeds from disposition of PP&E, other, in the Consolidated Statement of Cash Flows. These proceeds are expected to be largely offset by structural actions to address stranded costs, representing a modest net benefit to free cash flow in the second half of 2024. This transaction is expected to close in the third quarter of 2024, subject to regulatory approvals and other customary closing conditions.

We continue to invest in emerging technologies, bringing new innovations to market. In early April 2024, we installed a Quantum System One, the first IBM quantum system on a college campus anywhere in the world. This installation will advance research in critical areas such as energy, storage, materials science and financial modeling. As we remain focused on portfolio optimization, we closed the sale of The Weather Company assets in January. To complement our portfolio, we completed four acquisitions in the first half of 2024, and on July 1, 2024, we completed the acquisition of the StreamSets and webMethods assets from Software AG. This acquisition brings together leading capabilities in integration, API management and data ingestion.

On April 24, 2024, we announced our intent to acquire all of the outstanding shares of HashiCorp. The combination of IBM’s and HashiCorp’s combined portfolios will help clients manage growing application and infrastructure complexity and create a comprehensive end-to-end hybrid cloud platform designed for the AI era. Under the terms of the definitive agreement, HashiCorp shareholders on record immediately prior to the effective time on the closing date will receive $35

Management Discussion – (continued)

per share in cash, representing a total enterprise value of approximately $6.4 billion. On July 15, 2024, HashiCorp stockholders voted to approve the merger with IBM. The transaction is expected to close by the end of 2024, subject to regulatory approvals and other customary closing conditions. Upon closing, HashiCorp will be integrated into the Software segment.

In the first six months of 2024, we continued to invest organically and inorganically, bring new products and innovation to market, expand our ecosystem and drive productivity across our business. Our first half performance is another proof point of this progress. We are a more focused business that has delivered sustained revenue growth and strong cash generation – a business well positioned for the future.

Retirement-Related Plans

Our pension plans are well funded. Contributions for all retirement-related plans are expected to be approximately $1.5 billion in 2024, of which $0.2 billion generally relates to legally required contributions to non-U.S. defined benefit and multi-employer plans. The expected decrease of $0.3 billion in total contributions for 2024 is primarily driven by ongoing dynamics of our retirement-related plans, including the change in U.S. retirement-related benefits described in note 18, "Retirement-Related Benefits." We expect 2024 pre-tax retirement-related plan cost to be approximately $1.5 billion, an increase of approximately $0.3 billion compared to 2023. Within total retirement-related plan cost, operating retirement-related plan cost is expected to be approximately $1.1 billion, a decrease of approximately $0.1 billion compared to 2023. Non-operating retirement-related plan cost is expected to be approximately $0.4 billion, an increase of approximately $0.5 billion compared to 2023, primarily driven by higher recognized actuarial losses; partially offset by lower interest cost.

Currency Rate Fluctuations

Changes in the relative values of non-U.S. currencies to the USD affect our financial results and financial position. At June 30, 2024, currency changes resulted in assets and liabilities denominated in local currencies being translated into fewer dollars than at year-end 2023. We use financial hedging instruments to limit specific currency risks related to foreign currency-based transactions.

Movements in currency, and the fact that we do not hedge 100 percent of our currency exposures, will result in a currency impact to our revenues, profit and cash flows throughout 2024. We execute a hedging program which defers, versus eliminates, the volatility of currency impacts on our financial results. During periods of sustained movements in currency, the marketplace and competition adjust to the changing rates over time.

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

Based on the currency rate movements in the second quarter of 2024, revenue from continuing operations increased 1.9 percent as reported and 4 percent at constant currency compared to the prior year. In the first six months of 2024, revenue from continuing operations increased 1.7 percent as reported and 3 percent at constant currency, compared to the same period in 2023. In the second quarter of 2024, currency translation and hedging negatively impacted year-to-year pre-tax income growth and operating (non-GAAP) pre-tax income growth each by approximately $100 million. In the first six months of 2024, currency translation and hedging negatively impacted year-to-year pre-tax income growth and operating (non-GAAP) pre-tax income growth by approximately $300 million and $250 million, respectively. From a segment perspective, in the second quarter of 2024, currency translation and hedging negatively impacted our Infrastructure segment profit margin year-to-year growth by approximately one point. In the first six months of 2024, currency translation and hedging impacted our Infrastructure segment profit margin year-to-year growth by approximately one point, and Software and Consulting by about half of a point each.We view these amounts as a theoretical maximum impact to our as-reported financial results. Hedging and certain underlying foreign currency transaction gains and losses are allocated to our segment 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.

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

Management Discussion – (continued)

Liquidity and Capital Resources

In our 2023 Annual Report, on pages 30 to 32, there is a discussion of our liquidity including two tables that present three years of data. The table presented on page 30 includes net cash from operating activities, cash and cash equivalents, restricted cash and short-term marketable securities, and the size of our global credit facilities for each of the past three years. For the six months ended, or at, as applicable, June 30, 2024, those amounts are $6.2 billion of net cash from operating activities, $16.0 billion of cash and cash equivalents, restricted cash and short-term marketable securities and $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 June 17, 2024, the company amended its $2.5 billion Three-Year Credit Agreement and $7.5 billion Five-Year Credit Agreement (the Credit Agreements) to extend the maturity dates to June 20, 2027 and June 22, 2029, respectively. Refer to note 12, “Borrowings,” for additional details on these credit facilities.

The major rating agencies' ratings on our debt securities at June 30, 2024 appear in the following table and remain unchanged from March 31, 2024.

IBM Ratings:Standard and Poor'sMoody’s Investors ServiceFitch Ratings
Senior long-term debtA-A3A-
Commercial paperA-2Prime-2F1

We have financial flexibility, supported by our strong liquidity position and cash flows, to operate at a single A credit rating. At June 30, 2024, our debt level was flat from December 31, 2023 driven by maturities and currency impacts; partially offset by proceeds from issuances.

We do not have “ratings trigger” provisions in our debt covenants or documentation, which would allow the holders to declare an event of default and seek to accelerate payments thereunder in the event of a change in credit rating. Our 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 our credit rating were to fall below investment grade. At June 30, 2024, the fair value of those instruments that were in a liability position was $624 million, before any applicable netting, and this position is subject to fluctuations in fair value period to period based on the level of our outstanding instruments and market conditions. We have no other contractual arrangements that, in the event of a change in credit rating, would result in a material adverse effect on our financial position or liquidity.

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 highlight causes and events underlying sources and uses of cash in that format on page 73. For the purpose of running its business, IBM manages, monitors and analyzes cash flows in a different manner.

Management uses free cash flow as a measure to evaluate its operating results, plan shareholder return levels, strategic investments and assess its ability and need to incur and service debt. The entire free cash flow amount is not necessarily available for discretionary expenditures. We define free cash flow as net cash from operating activities less the change in Financing receivables and net capital expenditures, including the investment in software and other asset sales. A key objective of the Financing business is to generate strong returns on equity, and our Financing receivables are the basis for that growth. Accordingly, management considers 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 Financing receivables.

Management Discussion – (continued)

The following is management’s view of cash flows for the first six months of 2024 and 2023 prepared in a manner consistent with the description above.

(Dollars in millions)
For the six months ended June 30:20242023
Net cash from operating activities per GAAP$6,234$6,412
Less: change in Financing receivables9512,028
Net cash from operating activities, excluding Financing receivables$5,283$4,385
Capital expenditures, net(761)(944)
Free cash flow$4,522$3,441
Acquisitions(235)(356)
Divestitures7036
Dividends(3,058)(3,007)
Non-Financing debt1,0768,514
Other (includes Financing net receivables and Financing debt)(510)(1,109)
Change in cash, cash equivalents, restricted cash and short-term marketable securities$2,497$7,489

In the first six months of 2024, we generated $4.5 billion in free cash flow, an increase of $1.1 billion versus the prior-year period. The increase was primarily driven by performance-related improvements within net income and $0.2 billion from timing of capital expenditures.

Events that could temporarily change the historical cash flow dynamics discussed previously and in our 2023 Annual Report include significant changes in operating results, material changes in geographic sources of cash, unexpected adverse impacts from litigation, future pension funding requirements, 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 14, “Contingencies,” in this Form 10-Q. With respect to pension funding, we expect to make legally mandated pension plan contributions to certain non-U.S. defined benefit plans of approximately $200 million in 2024. Contributions related to all retirement-related plans are expected to be approximately $1.5 billion in 2024. Refer to "Retirement-Related Plans" for additional information. Financial market performance could increase the legally mandated minimum contributions in certain non-U.S. countries that require more frequent remeasurement of the funded status. We are not quantifying any further impact from pension funding because it is not possible to predict future movements in the capital markets or changes in pension plan funding regulations. In 2024, we are not legally required to make any contributions to the U.S. defined benefit pension plans.

Our cash flows are sufficient to fund our current operations and obligations, including investing and financing activities such as dividends and debt service. When additional requirements arise, we have several liquidity options available. These options may include the ability to borrow additional funds at reasonable interest rates and utilizing our committed global credit facilities. Our overall shareholder payout remains at a comfortable level and we remain fully committed to our long-standing dividend policy.

Management Discussion – (continued)

Financing

Financing is a reportable segment that facilitates IBM clients’ acquisition of hardware, software and services by providing financing solutions, while generating solid returns on equity.

Results of Operations

(Dollars in millions)Yr. to Yr. Percent Change
For the three months ended June 30:20242023
Revenue$169$185(8.3)%
Segment profit (1)$77$6419.3%
(Dollars in millions)Yr. to Yr. Percent Change
For the six months ended June 30:20242023
Revenue$362$380(4.9)%
Segment profit (1)$168$1642.4%

(1)Prior-year amounts recast to reflect January 2024 segment changes.

For the three months ended June 30, 2024, financing revenue decreased 8.3 percent as reported (6.6 percent adjusted for currency) compared to the prior-year period. For the six months ended June 30, 2024, financing revenue decreased 4.9 percent as reported (4.0 percent adjusted for currency) compared to the prior-year period. These declines were primarily driven by a reduction in used equipment sales.

Financing segment profit increased 19.3 percent to $77 million in the second quarter of 2024, compared to the prior-year period and the segment profit margin of 45.3 percent increased 10.5 points year to year. The increase in segment profit was primarily driven by lower unallocated credit loss reserve requirements. For the six months ended June 30, 2024, Financing segment profit increased 2.4 percent to $168 million compared to the prior-year period and the segment profit margin of 46.5 percent increased 3.3 points year to year. The increase in segment profit was primarily driven by lower unallocated reserve requirements in the current year partially offset by settlements on non-accrual assets in the prior year.

Management Discussion – (continued)

Financial Position

(Dollars in millions)At June 30, 2024At December 31, 2023
Cash and cash equivalents$412$555
Client financing receivables:
Net investment in sales-type and direct financing leases (1)3,9514,237
Client loans6,0026,486
Total client financing receivables$9,953$10,723
Commercial financing receivables:
Held for investment6131,155
Held for sale723692
Other receivables1526
Total external receivables (2)$11,303$12,596
Intercompany assets (3)1,019963
Other assets217294
Total assets$12,951$14,409
Debt (4)$11,112$11,879
Other liabilities (5) (6)6081,205
Total liabilities (5)$11,720$13,085
Total equity (5)$1,232$1,324
Total liabilities and equity$12,951$14,409

(1)Includes deferred initial direct costs which are expensed in IBM’s consolidated financial results.

(2)The change in total external receivables of $1.3 billion and the $1.0 billion change in Financing segment’s receivables disclosed in the free cash flow presentation on page 77 is primarily attributable to currency impacts.

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

(4)Financing segment debt is primarily composed of intercompany loans.

(5)Prior-year amounts recast to reflect January 2024 segment change. Other liabilities have been reclassified to conform to the change in 2024 presentation.

(6)Includes intercompany payables of $0.4 billion at December 31, 2023. There were no intercompany payables outstanding at June 30, 2024. These intercompany payables were eliminated for purposes of IBM’s consolidated financial results.

Financing Segment Receivables and Allowances

The following table presents external Financing segment receivables excluding receivables classified as held for sale, and immaterial miscellaneous receivables.

(Dollars in millions)At June 30, 2024At December 31, 2023
Amortized cost (1)$10,702$12,034
Specific allowance for credit losses104111
Unallocated allowance for credit losses3245
Total allowance for credit losses137156
Net financing receivables$10,566$11,878
Allowance for credit losses coverage1.3%1.3%

(1)Includes deferred initial direct costs which are expensed in IBM’s consolidated financial results.

The percentage of Financing segment receivables reserved was 1.3 percent at both June 30, 2024 and December 31, 2023.

Management Discussion – (continued)

We continue to apply our rigorous credit policies. Approximately 75 percent of the total external portfolio was with investment grade clients, an increase of 3 points as compared to December 31, 2023. This investment grade percentage is based on the credit ratings of the companies in the portfolio and reflects certain mitigation actions taken to reduce the risk to IBM.

For additional information relating to the company's credit quality and mitigation actions, including sales of receivables, refer to note 9, “Financing Receivables.”

Return on Equity Calculation

For Three Months Ended June 30,For Six Months Ended June 30,
(Dollars in millions)20242023 (1)20242023 (1)
Numerator:
Financing after-tax segment profit (2)$62$53$137$135
Annualized after-tax segment profit (A)$250$210$275$270
Denominator:
Average Financing equity (B) (3)$1,167$1,172$1,219$1,259
Financing return on equity (A)/(B)21.4%17.9%22.5%21.4%

(1)Prior-year amounts recast to reflect January 2024 segment changes.

(2)Calculated based upon an estimated tax rate, which is a function of IBM’s provision for income taxes determined on a consolidated basis.

(3)Average of the ending equity for Financing for the last two quarters and three quarters, for the three months ended June 30 and for the six months ended June 30, respectively.

Return on equity was 21.4 percent compared to 17.9 percent for the three months ended June 30, 2024, and 2023, respectively. The increase was driven by an increase in net income. Return on equity was 22.5 percent compared to 21.4 percent for the six months ended June 30, 2024, and 2023, respectively. The increase was primarily driven by a lower average equity balance and an increase in net income.

Residual Value

The following table presents the recorded amount of unguaranteed residual value for sales-type and direct financing leases at June 30, 2024 and December 31, 2023. In addition, the table presents the run out of when the unguaranteed residual value assigned to equipment on leases at June 30, 2024 is expected to be returned to the company. The unguaranteed residual value for operating leases at June 30, 2024 and December 31, 2023 was not material. For additional information related to the company's residual value, refer to note A, "Significant Accounting Policies," in the company's 2023 Annual Report.

Unguaranteed Residual Value

At December 31, 2023At June 30, 2024Estimated Run Out of June 30, 2024 Balance
(Dollars in millions)2024202520262027 and Beyond
Sales-type and direct financing leases$458$464$30$136$121$176

Management Discussion – (continued)

GAAP Reconciliation

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

(Dollars in millions except per share amounts)GAAPAcquisition- Related AdjustmentsRetirement- Related AdjustmentsU.S. Tax Reform ImpactsOperating (non-GAAP)
For the three months ended June 30, 2024:
Gross profit$8,950$170$—$—$9,120
Gross profit margin56.8%1.1pts.—pts.—pts.57.8%
SG&A$4,938$(286)$—$—$4,651
Other (income) and expense (1)$(233)$(18)$(98)$—$(349)
Total expense and other (income)$6,730$(304)$(98)$—$6,328
Pre-tax income from continuing operations$2,219$474$98$—$2,792
Pre-tax margin from continuing operations14.1%3.0pts.0.6pts.—pts.17.7%
Provision for income taxes (2)$389$113$26$(12)$516
Effective tax rate17.5%1.1pts.0.3pts.(0.4)pts.18.5%
Income from continuing operations$1,830$362$72$12$2,275
Income margin from continuing operations11.6%2.3pts.0.5pts.0.1pts.14.4%
Diluted earnings per share from continuing operations$1.96$0.39$0.08$0.01$2.43
(Dollars in millions except per share amounts)GAAPAcquisition- Related AdjustmentsRetirement- Related AdjustmentsU.S. Tax Reform ImpactsOperating (non-GAAP)
For the three months ended June 30, 2023:
Gross profit$8,501$150$—$—$8,650
Gross profit margin54.9%1.0pts.—pts.—pts.55.9%
SG&A$4,900$(245)$—$—$4,655
Other (income) and expense$(261)$0$(1)$—$(262)
Total expense and other (income)$6,501$(246)$(1)$—$6,254
Pre-tax income from continuing operations$2,000$395$1$—$2,396
Pre-tax margin from continuing operations12.9%2.6pts.0.0pts.—pts.15.5%
Provision for income taxes (2)$419$87$(3)$(110)$393
Effective tax rate21.0%0.2pts.(0.2)pts.(4.6)pts.16.4%
Income from continuing operations$1,581$308$5$110$2,003
Income margin from continuing operations10.2%2.0pts.0.0pts.0.7pts.12.9%
Diluted earnings per share from continuing operations$1.72$0.34$0.00$0.12$2.18

(1)Acquisition-Related Adjustments in 2024 includes a realized loss of $18 million on foreign exchange derivative contracts entered into by the company prior to the acquisition of StreamSets and webMethods from Software AG. Refer to note 16, “Derivative Financial Instruments,” for additional information.

(2)The tax impact on operating (non-GAAP) pre-tax income from continuing operations is calculated under the same accounting principles applied to the GAAP pre-tax income which employs an annual effective tax rate method to the results.

Management Discussion – (continued)

(Dollars in millions except per share amounts)GAAPAcquisition- Related AdjustmentsRetirement- Related AdjustmentsU.S. Tax Reform Impacts (1)Operating (non-GAAP)
For the six months ended June 30, 2024:
Gross profit$16,692$341$—$—$17,033
Gross profit margin55.2%1.1pts.—pts.—pts.56.3%
SG&A$9,912$(554)$—$—$9,358
Other (income) and expense (2)$(550)$(68)$(194)$—$(812)
Total expense and other (income)$13,399$(622)$(194)$—$12,584
Pre-tax income from continuing operations$3,293$963$194$—$4,449
Pre-tax margin from continuing operations10.9%3.2pts.0.6pts.—pts.14.7%
Provision for/(benefit from) income taxes (3)$(112)$255$31$436$610
Effective tax rate(3.4)%6.5pts.0.9pts.9.8pts.13.7%
Income from continuing operations$3,405$707$163$(436)$3,839
Income margin from continuing operations11.3%2.3pts.0.5pts.(1.4)pts.12.7%
Diluted earnings per share from continuing operations$3.65$0.76$0.17$(0.47)$4.11
(Dollars in millions except per share amounts)GAAPAcquisition- Related AdjustmentsRetirement- Related AdjustmentsU.S. Tax Reform ImpactsOperating (non-GAAP)
For the six months ended June 30, 2023:
Gross profit$16,010$298$—$—$16,308
Gross profit margin53.9%1.0pts.—pts.—pts.54.9%
SG&A$9,754$(491)$—$—$9,263
Other (income) and expense$(506)$(2)$4$—$(504)
Total expense and other (income)$12,952$(493)$4$—$12,463
Pre-tax income from continuing operations$3,058$791$(4)$—$3,845
Pre-tax margin from continuing operations10.3%2.7pts.0.0pts.—pts.12.9%
Provision for income taxes (3)$543$178$(14)$(115)$593
Effective tax rate17.8%1.0pts.(0.3)pts.(3.0)pts.15.4%
Income from continuing operations$2,515$613$10$115$3,252
Income margin from continuing operations8.5%2.1pts.0.0pts.0.4pts.10.9%
Diluted earnings per share from continuing operations$2.74$0.67$0.01$0.13$3.54

(1)2024 includes a benefit from income taxes due to the resolution of certain tax audit matters in the first quarter.

(2)Acquisition-Related Adjustments in 2024 includes a realized loss of $68 million on foreign exchange derivative contracts entered into by the company prior to the acquisition of StreamSets and webMethods from Software AG. Refer to note 16, “Derivative Financial Instruments,” for additional information.

(3)The tax impact on operating (non-GAAP) pre-tax income from continuing operations is calculated under the same accounting principles applied to the GAAP pre-tax income which employs an annual effective tax rate method to the results.

Management Discussion – (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 economic environment and client spending budgets; 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; the company’s ability to successfully manage acquisitions, alliances and 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 other conditions; the company’s 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 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 related to climate change and 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; potential failure of the separation of Kyndryl Holdings, Inc. to qualify for tax-free treatment; 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 or in materials incorporated therein by reference. 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.

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