UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
QUARTERLY REPORT
PURSUANT
TO SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For The Quarter Ended March 31, 2007
1-2360
(Commission file number)
INTERNATIONAL BUSINESS MACHINES CORPORATION
(Exact name of registrant as specified in its charter)
New York |
|
13-0871985 |
(State of incorporation) |
|
(IRS employer identification number) |
|
|
|
Armonk, New York |
|
10504 |
(Address of principal executive offices) |
|
(Zip Code) |
914-499-1900
(Registrants telephone number)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer x |
Accelerated filer o |
Non-accelerated filer o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
The registrant has 1,484,827,275 shares of common stock outstanding at March 31, 2007.
Index
Part I - Financial Information
ITEM 1. Consolidated Financial Statements
INTERNATIONAL BUSINESS MACHINES CORPORATION
AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF
EARNINGS
(UNAUDITED)
(Dollars in millions except |
|
Three Months Ended |
|
||||
per share amounts) |
|
2007 |
|
2006* |
|
||
Revenue:* |
|
|
|
|
|
||
Services |
|
$ |
12,423 |
|
$ |
11,590 |
|
Sales |
|
8,985 |
|
8,486 |
|
||
Financing |
|
621 |
|
583 |
|
||
Total revenue |
|
22,029 |
|
20,659 |
|
||
|
|
|
|
|
|
||
Cost:* |
|
|
|
|
|
||
Services |
|
9,050 |
|
8,521 |
|
||
Sales |
|
3,809 |
|
3,776 |
|
||
Financing |
|
304 |
|
275 |
|
||
Total cost |
|
13,163 |
|
12,571 |
|
||
|
|
|
|
|
|
||
Gross profit |
|
8,866 |
|
8,088 |
|
||
|
|
|
|
|
|
||
Expense and other income: |
|
|
|
|
|
||
Selling, general and administrative |
|
5,089 |
|
4,602 |
|
||
Research, development and engineering |
|
1,509 |
|
1,456 |
|
||
Intellectual property and custom development income |
|
(205 |
) |
(229 |
) |
||
Other (income) and expense |
|
(180 |
) |
(246 |
) |
||
Interest expense |
|
73 |
|
66 |
|
||
Total expense and other income |
|
6,287 |
|
5,648 |
|
||
|
|
|
|
|
|
||
Income from continuing operations before income taxes |
|
2,579 |
|
2,440 |
|
||
Provision for income taxes |
|
735 |
|
732 |
|
||
|
|
|
|
|
|
||
Income from continuing operations |
|
1,844 |
|
1,708 |
|
||
* Reclassified to conform with 2007 presentation; see Note 1 on page 6 for additional information.
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
1
INTERNATIONAL BUSINESS MACHINES CORPORATION
AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF
EARNINGS (CONTINUED)
(UNAUDITED)
(Dollars in millions except |
|
Three Months Ended |
|
||||
per share amounts) |
|
2007 |
|
2006 |
|
||
Discontinued operations |
|
|
|
|
|
||
Loss from discontinued operations, net of tax |
|
|
|
|
|
||
Net income |
|
$ |
1,844 |
|
$ |
1,708 |
|
|
|
|
|
|
|
||
Earnings per share of common stock: |
|
|
|
|
|
||
Assuming dilution |
|
|
|
|
|
||
Continuing operations |
|
$ |
1.21 |
|
$ |
1.08 |
|
Discontinued operations |
|
0.00 |
|
0.00 |
|
||
Total |
|
$ |
1.21 |
|
$ |
1.08 |
|
|
|
|
|
|
|
||
Basic |
|
|
|
|
|
||
Continuing operations |
|
$ |
1.23 |
|
$ |
1.09 |
|
Discontinued operations |
|
0.00 |
|
0.00 |
|
||
Total |
|
$ |
1.23 |
|
$ |
1.09 |
|
|
|
|
|
|
|
||
Weighted-average number of common shares outstanding: (millions) |
|
|
|
|
|
||
Assuming dilution |
|
1,522.8 |
|
1,587.2 |
|
||
Basic |
|
1,499.5 |
|
1,564.5 |
|
||
Cash dividends per common share |
|
$ |
0.30 |
|
$ |
0.20 |
|
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
2
INTERNATIONAL
BUSINESS MACHINES CORPORATION
AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF FINANCIAL POSITION
(UNAUDITED)
ASSETS
|
|
At March 31, |
|
At December 31, |
|
||
(Dollars in millions) |
|
2007 |
|
2006 |
|
||
Assets |
|
|
|
|
|
||
Current assets: |
|
|
|
|
|
||
Cash and cash equivalents |
|
$ |
6,953 |
|
$ |
8,022 |
|
Marketable securities |
|
3,829 |
|
2,634 |
|
||
Notes and accounts receivable trade (net of allowances of $221 in 2007 and $221 in 2006) |
|
10,178 |
|
10,789 |
|
||
Short-term financing receivables (net of allowances of $282 in 2007 and $307 in 2006) |
|
12,947 |
|
15,095 |
|
||
Other accounts receivable (net of allowances of $12 in 2007 and $15 in 2006) |
|
892 |
|
964 |
|
||
Inventories, at lower of average cost or market: |
|
|
|
|
|
||
Finished goods |
|
762 |
|
506 |
|
||
Work in process and raw materials |
|
2,150 |
|
2,304 |
|
||
Total inventories |
|
2,912 |
|
2,810 |
|
||
Deferred taxes |
|
1,751 |
|
1,806 |
|
||
Prepaid expenses and other current assets |
|
2,985 |
|
2,539 |
|
||
Total current assets |
|
42,446 |
|
44,660 |
|
||
|
|
|
|
|
|
||
Plant, rental machines and other property |
|
36,722 |
|
36,521 |
|
||
Less: Accumulated depreciation |
|
22,308 |
|
22,082 |
|
||
Plant, rental machines and other property net |
|
14,414 |
|
14,440 |
|
||
Long-term financing receivables |
|
10,123 |
|
10,068 |
|
||
Prepaid pension assets |
|
10,994 |
|
10,629 |
|
||
Intangible assets net |
|
2,157 |
|
2,202 |
|
||
Goodwill |
|
13,103 |
|
12,854 |
|
||
Investments and sundry assets |
|
8,383 |
|
8,381 |
|
||
Total assets |
|
$ |
101,619 |
|
$ |
103,234 |
|
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
3
INTERNATIONAL
BUSINESS MACHINES CORPORATION
AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF
FINANCIAL POSITION (CONTINUED)
(UNAUDITED)
LIABILITIES AND STOCKHOLDERS EQUITY
(Dollars in millions) |
|
At March 31, |
|
At December 31, |
|
||||
Liabilities and Stockholders Equity |
|
|
|
|
|
||||
Current liabilities: |
|
|
|
|
|
||||
Taxes |
|
$ |
2,096 |
|
$ |
4,670 |
|
||
Short-term debt |
|
9,661 |
|
8,902 |
|
||||
Accounts payable |
|
6,859 |
|
7,964 |
|
||||
Compensation and benefits |
|
3,615 |
|
4,595 |
|
||||
Deferred income |
|
9,380 |
|
8,587 |
|
||||
Other accrued expenses and liabilities |
|
5,152 |
|
5,372 |
|
||||
Total current liabilities |
|
36,763 |
|
40,091 |
|
||||
|
|
|
|
|
|
||||
Long-term debt |
|
14,285 |
|
13,780 |
|
||||
Retirement and nonpension postretirement benefit obligations |
|
13,151 |
|
13,553 |
|
||||
Other liabilities |
|
9,613 |
|
7,304 |
|
||||
Total liabilities |
|
73,811 |
|
74,728 |
|
||||
|
|
|
|
|
|
||||
Stockholders equity: |
|
|
|
|
|
||||
|
|
|
|
|
|
||||
Common stock, par value $0.20 per share, and additional paid-in capital |
|
32,264 |
|
31,271 |
|
||||
Shares authorized: 4,687,500,000 |
|
|
|
|
|
||||
Shares issued: |
2007 2,022,374,103 |
|
|
|
|
|
|||
|
2006 2,008,470,383 |
|
|
|
|
|
|||
Retained earnings |
|
53,878 |
|
52,432 |
|
||||
|
|
|
|
|
|
||||
Treasury stock at cost |
|
(49,726 |
) |
(46,296 |
) |
||||
Shares: |
2007 537,546,828 |
|
|
|
|
|
|||
|
2006 501,987,771 |
|
|
|
|
|
|||
|
|
|
|
|
|
||||
Accumulated gains and (losses) not affecting retained earnings |
|
(8,607 |
) |
(8,901 |
) |
||||
Total stockholders equity |
|
27,809 |
|
28,506 |
|
||||
Total liabilities and stockholders equity |
|
$ |
101,619 |
|
$ |
103,234 |
|
||
* Reclassified to conform with 2007 presentation.
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
4
INTERNATIONAL
BUSINESS MACHINES CORPORATION
AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE THREE MONTHS ENDED MARCH 31, (UNAUDITED)
(Dollars in millions) |
|
2007 |
|
2006 |
|
||
Cash flow from operating activities from continuing operations: |
|
|
|
|
|
||
Net income |
|
$ |
1,844 |
|
$ |
1,708 |
|
Loss from discontinued operations |
|
|
|
|
|
||
Adjustments to reconcile income from continuing operations to cash provided from operating activities: |
|
|
|
|
|
||
Depreciation |
|
949 |
|
943 |
|
||
Amortization of intangibles |
|
291 |
|
265 |
|
||
Stock-based compensation |
|
178 |
|
200 |
|
||
Net gain on asset sales and other |
|
(88 |
) |
(9 |
) |
||
Changes in operating assets and liabilities, net of acquisitions/divestitures |
|
(157 |
) |
4 |
|
||
Net cash provided by operating activities from continuing operations |
|
3,016 |
|
3,110 |
|
||
|
|
|
|
|
|
||
Cash flow from investing activities from continuing operations: |
|
|
|
|
|
||
Payments for plant, rental machines and other property, net of proceeds from dispositions |
|
(917 |
) |
(782 |
) |
||
Investment in software |
|
(215 |
) |
(194 |
) |
||
Acquisition of businesses, net of cash acquired |
|
(205 |
) |
(748 |
) |
||
Purchases of marketable securities and other investments |
|
(8,443 |
) |
(6,807 |
) |
||
Proceeds from sale of marketable securities and other investments |
|
7,362 |
|
4,523 |
|
||
Net cash used in investing activities from continuing operations |
|
(2,418 |
) |
(4,008 |
) |
||
|
|
|
|
|
|
||
Cash flow from financing activities from continuing operations: |
|
|
|
|
|
||
Proceeds from new debt |
|
900 |
|
101 |
|
||
Payments to settle debt |
|
(104 |
) |
(297 |
) |
||
Short-term borrowings less than 90 days net |
|
436 |
|
100 |
|
||
Common stock transactions net |
|
(2,498 |
) |
(2,144 |
) |
||
Cash dividends paid |
|
(452 |
) |
(313 |
) |
||
Net cash used in financing activities from continuing operations |
|
(1,717 |
) |
(2,553 |
) |
||
|
|
|
|
|
|
||
Effect of exchange rate changes on cash and cash equivalents |
|
52 |
|
22 |
|
||
Net cash used in discontinued operations operating activities |
|
(3 |
) |
(4 |
) |
||
Net change in cash and cash equivalents |
|
(1,070 |
) |
(3,433 |
) |
||
|
|
|
|
|
|
||
Cash and cash equivalents at January 1 |
|
8,022 |
|
12,568 |
|
||
Cash and cash equivalents at March 31 |
|
$ |
6,953 |
|
$ |
9,135 |
|
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
5
Notes to Consolidated Financial Statements
1. The accompanying consolidated financial statements and footnotes thereto are unaudited. In the opinion of the management of International Business Machines Corporation (the company), these statements include all adjustments, which are of a normal recurring nature, necessary to present a fair statement of the companys results of operations, financial position and cash flows.
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (GAAP) requires management to make estimates and assumptions that affect the amounts of assets, liabilities, revenue, costs, expenses and gains and losses not affecting retained earnings that are reported in the Consolidated Financial Statements and accompanying disclosures. Actual results may be different. See the companys 2006 Annual Report for a discussion of the companys critical accounting estimates.
Interim results are not necessarily indicative of results for a full year. The information included in this Form 10-Q should be read in conjunction with the companys 2006 Annual Report.
In the first quarter of 2007, the company changed the presentation of revenue and cost in the Consolidated Statement of Earnings to reflect the categories of Services, Sales, and Financing. Previously, the presentation included Global Services, Hardware, Software, Global Financing, and an Other category. In the past, these categories were aligned with the companys reportable segment presentation of external revenue and cost. However, as the company moves toward delivering solutions which bring integrated software and services capabilities to its clients, the alignment between segments and categories will diverge. Therefore, there are situations where the Services segments could include software revenue, and conversely, the Software segment may have services revenue. The change was made to avoid possible confusion between the segment revenue and cost presentation and the required category presentation in the Consolidated Statement of Earnings.
The change only impacts the format for the presentation of the companys revenue and cost in the Consolidated Statement of Earnings and does not reflect any change in the companys reportable segment results or in the companys organizational structure. The periods presented in this Form 10-Q are reported on a comparable basis. The management discussion and analysis of revenue and gross profit from continuing operations will focus on the segment view, as this is how the business is managed and is the best reflection of the companys operating results and strategy.
Within the financial tables in this Form 10-Q, 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.
2. The following table summarizes Net income plus gains and (losses) not affecting retained earnings (net of tax).
|
|
Three Months Ended |
|
||||
(Dollars in millions) |
|
2007 |
|
2006 |
|
||
Net income |
|
$ |
1,844 |
|
$ |
1,708 |
|
Gains and (losses) not affecting retained earnings: (net of tax) |
|
|
|
|
|
||
Foreign currency translation adjustments |
|
90 |
|
138 |
|
||
Prior service costs, net gains/(losses) and transition assets/ (obligations)* |
|
208 |
|
|
|
||
Minimum pension liability adjustments* |
|
|
|
296 |
|
||
Net unrealized losses on marketable securities |
|
(19 |
) |
(26 |
) |
||
Net unrealized gains/(losses) on cash flow hedge derivatives |
|
14 |
|
(151 |
) |
||
Total net gains/(losses) not affecting retained earnings |
|
294 |
|
258 |
|
||
Net income plus gains and (losses) not affecting retained earnings |
|
$ |
2,138 |
|
$ |
1,966 |
|
* For additional information, see Note V on page 101 in the 2006 IBM Annual Report.
6
3. Stock-based compensation cost is measured at the grant date, based on the fair value of the award and is recognized over the employee requisite service period. The following table presents total stock-based compensation cost included in the Consolidated Statement of Earnings:
|
|
Three Months Ended |
|
||||
(Dollars in millions) |
|
2007 |
|
2006 |
|
||
Cost |
|
$ |
46 |
|
$ |
56 |
|
Selling, general and administrative |
|
112 |
|
122 |
|
||
Research, development and engineering |
|
20 |
|
21 |
|
||
Pre-tax stock-based compensation cost |
|
178 |
|
200 |
|
||
Income tax benefits |
|
(66 |
) |
(73 |
) |
||
Total stock-based compensation cost |
|
$ |
111 |
|
$ |
127 |
|
The reduction in pre-tax stock-based compensation cost for the three-month period ended March 31, 2007, as compared to the corresponding period in the prior year, was principally the result of a reduction in the level and fair value of stock option grants ($8 million) and a reduction related to performance-based stock units ($14 million).
As of March 31, 2007, the balance of $1,038 million of total unrecognized compensation costs related to non-vested awards is expected to be recognized over a weighted-average period of approximately two years.
There were no significant capitalized stock-based compensation costs at March 31, 2007 and 2006.
4. In February 2007, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, Including an Amendment of FASB Statement No. 115, which will become effective in 2008. SFAS No. 159 permits entities to measure eligible financial assets, financial liabilities and firm commitments at fair value, on an instrument-by-instrument basis, that are otherwise not permitted to be accounted for at fair value under other generally accepted accounting principles. The fair value measurement election is irrevocable and subsequent changes in fair value must be recorded in earnings. The company will adopt this Statement in fiscal year 2008 and is currently evaluating if it will elect the fair value option for any of its eligible financial instruments and other items.
In September 2006, the FASB finalized SFAS No. 157, Fair Value Measurements which will become effective in 2008. This Statement defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements; however, it does not require any new fair value measurements. The provisions of SFAS No. 157 will be applied prospectively to fair value measurements and disclosures beginning in the first quarter of 2008 and is not expected to have a material effect on the companys Consolidated Financial Statements.
In the first quarter of 2007, the company adopted SFAS No. 156, Accounting for Servicing of Financial Assetsan amendment of FASB Statement No. 140, that provides guidance on accounting for separately recognized servicing assets and servicing liabilities. In accordance with the provisions of SFAS No. 156, separately recognized servicing assets and servicing liabilities must be initially measured at fair value, if practicable. Subsequent to initial recognition, the company may use either the amortization method or the fair value measurement method to account for servicing assets and servicing liabilities within the scope of this Statement. The adoption of this Statement did not have a material effect on the companys Consolidated Financial Statements.
In the first quarter of 2007, the company adopted SFAS No. 155, Accounting for Certain Hybrid Financial Instrumentsan amendment of FASB Statements No. 133 and 140, which permits fair value remeasurement for any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation in accordance with the provisions of SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities. The adoption of this Statement did not have a material effect on the companys Consolidated Financial Statements.
7
The company adopted FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes an Interpretation of FASB Statement No. 109 (FIN 48) on January 1, 2007. FIN 48 clarifies the accounting and reporting for uncertainties in income tax law. This Interpretation prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. See Note 5 below for additional information, including the effects of adoption on the companys Consolidated Statement of Financial Position.
5. As highlighted in Note 4 above, the company adopted the provisions of FIN 48 on January 1, 2007.
The cumulative effect of adopting FIN 48 was a decrease in tax reserves and an increase of $117 million to the January 1, 2007 Retained earnings balance. Upon adoption, the liability for income taxes associated with uncertain tax positions at January 1, 2007 was $2,414 million. This liability can be reduced by $458 million of offsetting tax benefits associated with the correlative effects of potential transfer pricing adjustments, state income taxes and timing adjustments. The net amount of $1,956 million, if recognized, would favorably affect the companys effective tax rate. In addition, consistent with the provisions of FIN 48, the company reclassified $1,971 million of income tax liabilities from current to non-current liabilities because payment of cash is not anticipated within one year of the balance sheet date. These non-current income tax liabilities are recorded in Other Liabilities in the Consolidated Statement of Financial Position.
Interest and penalties related to income tax liabilities are included in income tax expense. The balance of accrued interest and penalties recorded in the Consolidated Statement of Financial Position at January 1, 2007 was $126 million; of this amount, $95 million was also reclassified from current to non-current liabilities upon adoption of FIN 48.
With limited exception, the company is no longer subject to U.S. federal, state and local or non-U.S. income tax audits by taxing authorities for years through 2000. During the quarter, the U.S. Internal Revenue Service commenced its audit of the companys U.S. income tax returns for 2004 and 2005. The company anticipates that this audit will be completed by the end of 2008. The company does not anticipate a significant change to the total amount of unrecognized tax benefits within the next 12 months.
6. The company offers defined benefit pension plans, defined contribution pension plans, as well as nonpension postretirement plans primarily consisting of retiree medical benefits. The following table provides the total retirement-related benefit plans impact on income from continuing operations before income taxes.
|
|
|
|
|
|
Yr. to Yr. |
|
||
|
|
|
|
|
|
Percent |
|
||
(Dollars in millions) |
|
2007 |
|
2006 |
|
Change |
|
||
For the three months ended March 31: |
|
|
|
|
|
|
|
||
Retirement-related plans cost: |
|
|
|
|
|
|
|
||
Defined benefit and contribution pension plans cost |
|
$ |
540 |
|
$ |
523 |
|
3.3 |
% |
Nonpension postretirement plans cost |
|
103 |
|
100 |
|
3.0 |
|
||
Total |
|
$ |
643 |
|
$ |
623 |
|
3.2 |
% |
8
The following table provides the components of the cost/(income) for the companys pension plans.
Cost/(Income) of Pension Plans
|
|
U.S. Plans |
|
Non-U.S. Plans |
|
||||||||
(Dollars in millions) |
|
2007 |
|
2006 |
|
2007 |
|
2006 |
|
||||
For the three months ended March 31: |
|
|
|
|
|
|
|
|
|
||||
Service cost |
|
$ |
188 |
|
$ |
182 |
|
$ |
120 |
|
$ |
154 |
|
Interest cost |
|
646 |
|
616 |
|
374 |
|
379 |
|
||||
Expected return on plan assets |
|
(926 |
) |
(901 |
) |
(604 |
) |
(558 |
) |
||||
Amortization of transition assets |
|
|
|
|
|
(1 |
) |
(1 |
) |
||||
Amortization of prior service cost |
|
15 |
|
15 |
|
(31 |
) |
(3 |
) |
||||
Recognized actuarial losses |
|
169 |
|
203 |
|
209 |
|
186 |
|
||||
Net periodic pension costU.S. Plan and material non-U.S. Plans |
|
92 |
* |
115 |
* |
67 |
** |
157 |
** |
||||
Cost of other defined benefit plans |
|
30 |
|
28 |
|
124 |
|
37 |
|
||||
Total net periodic pension cost for all defined benefit plans |
|
122 |
|
143 |
|
191 |
|
194 |
|
||||
Cost of defined contribution plans |
|
116 |
|
98 |
|
111 |
|
88 |
|
||||
Total pension plan cost recognized in the Consolidated Statement of Earnings |
|
$ |
238 |
|
$ |
241 |
|
$ |
302 |
|
$ |
282 |
|
* Represents the qualified portion of the IBM Personal Pension Plan.
** Represents the qualified and non-qualified portion of material non-U.S. plans.
In 2007, the company expects to contribute to its non-U.S. defined benefit plans approximately $620 million, which is the legally mandated minimum contribution for the companys non-U.S. plans. In the first quarter of 2007, the company contributed approximately $153 million to its non-U.S. plans.
The following table provides the components of the cost for the companys nonpension postretirement plans.
Cost of Nonpension Postretirement Plans
|
|
Three Months Ended |
|
||||
(Dollars in millions) |
|
2007 |
|
2006 |
|
||
Service cost |
|
$ |
17 |
|
$ |
16 |
|
Interest cost |
|
79 |
|
79 |
|
||
Amortization of prior service cost |
|
(15 |
) |
(16 |
) |
||
Recognized actuarial losses |
|
8 |
|
8 |
|
||
Net periodic postretirement plan cost - U.S. Plan |
|
89 |
|
87 |
|
||
Cost of non-U.S. Plans |
|
14 |
|
13 |
|
||
Total nonpension postretirement plan cost recognized in the Consolidated Statement of Earnings |
|
$ |
103 |
|
$ |
100 |
|
The company received a $9.5 million subsidy in the first quarter of 2007 in connection with the Medicare Prescription Drug Improvement and Modernization Act of 2003. A portion of this amount is used by the company to reduce its obligation and expense related to the plan, and the remainder is contributed to the plan to reduce contributions required by the participants. For further information related to the Medicare Prescription Drug Act, see page 110 in the companys 2006 Annual Report.
In addition, the company made a $500 million voluntary cash contribution to the U.S. nonpension postretirement benefit plan in March of 2007. This advance funding is in addition to ongoing contributions of approximately $400 million that will be made in 2007 which will be utilized to pay current year benefits. The $500 million contribution will be used to fund benefit payments in future years.
9
7. During the three months ended March 31, 2007, the company completed four acquisitions at an aggregate cost of $251 million.
The Software segment completed two acquisitions: Consul Risk Management International BV., a privately held company, and Vallent Corporation, a privately held company. Each acquisition further complemented and enhanced the companys portfolio of product offerings.
Global Technology Services (GTS) completed two acquisitions: Softek Storage Solutions Corporation, a privately held company and DM Information Systems, Ltd., a privately held company. Softek augments the companys unified data mobility offerings and worldwide delivery expertise for managing data in storage array, host and virtualized IT environments. DMIS will enhance and complement the companys Technology Service offerings.
Purchase price consideration was paid all in cash. These acquisitions are reported in the Consolidated Statement of Cash Flows net of acquired cash and cash equivalents.
The table below reflects the purchase price related to these acquisitions and the resulting purchase price allocations as of March 31, 2007.
|
|
Amortization |
|
|
|
|
(Dollars in millions) |
|
Life (yrs.) |
|
Acquisitions |
|
|
Current assets |
|
|
|
$ |
90 |
|
Fixed assets/non-current |
|
|
|
6 |
|
|
Intangible assets: |
|
|
|
|
|
|
Goodwill |
|
N/A |
|
239 |
|
|
Completed technology |
|
3 |
|
11 |
|
|
Client relationships |
|
35 |
|
13 |
|
|
Other |
|
24 |
|
6 |
|
|
In-process research and development |
|
|
|
|
|
|
Total assets acquired |
|
|
|
365 |
|
|
Current liabilities |
|
|
|
(85 |
) |
|
Non-current liabilities |
|
|
|
(30 |
) |
|
Total liabilities assumed |
|
|
|
(115 |
) |
|
Total purchase price |
|
|
|
$ |
251 |
|
The acquisitions were accounted for as purchase transactions, and accordingly, the assets and liabilities of the acquired entities were recorded at their estimated fair values at the date of acquisition. The primary items that generated the goodwill are the value of the synergies between the acquired companies and IBM and the acquired assembled workforce, neither of which qualify as an amortizable intangible asset. None of the goodwill is deductible for tax purposes. The overall weighted-average life of the identified amortizable intangible assets acquired is 3.6 years. With the exception of goodwill, these identified intangible assets will be amortized on a straight-line basis over their useful lives. Goodwill of $239 million has been assigned to the Software ($175 million) and Global Technology Services ($64 million) segments.
8. The changes in the goodwill balances by reportable segment, for the quarter ended March 31, 2007, are as follows:
|
|
|
|
|
|
|
|
|
|
Foreign |
|
|
|
||||||
|
|
|
|
|
|
|
|
|
|
Currency |
|
|
|
||||||
|
|
|
|
|
|
Purchase |
|
|
|
Translation |
|
|
|
||||||
(Dollars in millions) |
|
Balance |
|
Goodwill |
|
Price |
|
|
|
and Other |
|
Balance |
|
||||||
Segment |
|
12/31/06 |
|
Additions |
|
Adjustments |
|
Divestitures |
|
Adjustments |
|
3/31/07 |
|
||||||
Global Technology Services |
|
$ |
2,700 |
|
$ |
64 |
|
$ |
|
|
|
|
$ |
(55 |
) |
$ |
2,709 |
|
|
Global Business Services |
|
3,811 |
|
|
|
(5 |
) |
|
|
89 |
|
3,895 |
|
||||||
Systems and Technology |
|
214 |
|
|
|
|
|
|
|
|
|
214 |
|
||||||
Software |
|
6,129 |
|
175 |
|
(20 |
) |
|
|
|
|
6,284 |
|
||||||
Global Financing |
|
|
|
|
|
|
|
|
|
|
|
|
|
||||||
Total |
|
$ |
12,854 |
|
$ |
239 |
|
$ |
(25 |
) |
$ |
|
|
$ |
34 |
|
$ |
13,103 |
|
There were no goodwill impairment losses recorded during the quarter.
10
The following schedule details the companys intangible asset balances by major asset class:
|
|
At March 31, 2007 |
|
|||||||
(Dollars in millions) |
|
Gross Carrying |
|
Accumulated |
|
Net Carrying |
|
|||
Intangible asset class |
|
Amount |
|
Amortization |
|
Amount |
|
|||
Capitalized software |
|
$ |
1,878 |
|
$ |
(827 |
) |
$ |
1,052 |
|
Client-related |
|
1,051 |
|
(464 |
) |
587 |
|
|||
Completed technology |
|
512 |
|
(161 |
) |
351 |
|
|||
Strategic alliances |
|
104 |
|
(94 |
) |
10 |
|
|||
Patents/Trademarks |
|
114 |
|
(37 |
) |
77 |
|
|||
Other(a) |
|
263 |
|
(183 |
) |
79 |
|
|||
Total |
|
$ |
3,922 |
|
$ |
(1,765 |
) |
$ |
2,157 |
|
|
|
At December 31, 2006 |
|
|||||||
(Dollars in millions) |
|
Gross Carrying |
|
Accumulated |
|
Net Carrying |
|
|||
Intangible asset class |
|
Amount |
|
Amortization |
|
Amount |
|
|||
Capitalized software |
|
$ |
1,871 |
|
$ |
(837 |
) |
$ |
1,034 |
|
Client-related |
|
1,038 |
|
(424 |
) |
614 |
|
|||
Completed technology |
|
500 |
|
(128 |
) |
372 |
|
|||
Strategic alliances |
|
104 |
|
(89 |
) |
15 |
|
|||
Patents/Trademarks |
|
112 |
|
(29 |
) |
83 |
|
|||
Other(a) |
|
264 |
|
(179 |
) |
84 |
|
|||
Total |
|
$ |
3,888 |
|
$ |
(1,686 |
) |
$ |
2,202 |
|
(a) Other intangibles are primarily acquired proprietary and non-proprietary business processes, methodologies and systems and impacts from currency translation.
The net carrying amount of intangible assets decreased $45 million during the first quarter of 2007, primarily due to the amortization of existing intangible asset balances, partially offset by capitalized software additions and acquired intangible assets. The aggregate intangible amortization expense was $291 million and $265 million for the quarters ended March 31, 2007 and 2006, respectively. In addition, in the first quarter, the company retired $209 million of fully amortized intangible assets, impacting both the gross carrying amount and accumulated amortization by this amount.
The amortization expense for each of the five succeeding years relating to intangible assets currently recorded in the Consolidated Statement of Financial Position is estimated to be the following at March 31, 2007:
2007 (for Q2-Q4) |
|
$ |
797 million |
|
2008 |
|
$ |
700 million |
|
2009 |
|
$ |
337 million |
|
2010 |
|
$ |
154 million |
|
2011 |
|
$ |
100 million |
|
9. The table on page 43 of this Form 10-Q reflect the results of the companys reportable segments consistent with the management system used by the companys chief operating decision maker. These results are not necessarily a depiction that is in conformity with GAAP. For example, employee retirement plan costs are developed using actuarial assumptions on a country-by-country basis and allocated to the segments based on headcount. Different results could occur if actuarial assumptions that are unique to the segments were used. Performance measurement is based on income before income taxes (pre-tax income). These results are used, in part, by management, both in evaluating the performance of, and in allocating resources to, each of the segments.
11
10. The following table provides a rollforward of the current and non-current liability balances for actions taken in the following periods: (1) the second-quarter of 2005; (2) the fourth-quarter 2002 actions associated with the acquisition of the PricewaterhouseCoopers consulting business; (3) the second-quarter of 2002 associated with the Microelectronics Division and the rebalancing of both the companys workforce and leased space resources; (4) the 2002 actions associated with the hard disk drive (HDD) business for reductions in workforce, manufacturing capacity and space; (5) actions taken in 1999; and (6) actions that took place prior to 1994. See the companys 2006 Annual Report, Note R on page 93 for additional information on the actions taken in 2005.
|
|
Liability |
|
|
|
|
|
Liability |
|
||||
|
|
as of |
|
|
|
|
|
as of |
|
||||
(Dollars in millions) |
|
12/31/2006 |
|
Payments |
|
Other Adj.* |
|
3/31/2007 |
|
||||
Current: |
|
|
|
|
|
|
|
|
|
||||
Workforce |
|
$ |
163 |
|
$ |
(43 |
) |
$ |
16 |
|
$ |
135 |
|
Space |
|
88 |
|
(16 |
) |
9 |
|
81 |
|
||||
Other |
|
6 |
|
|
|
|
|
7 |
|
||||
Total Current |
|
$ |
257 |
|
$ |
(59 |
) |
$ |
25 |
|
$ |
222 |
|
Non-current: |
|
|
|
|
|
|
|
|
|
||||
Workforce |
|
$ |
531 |
|
$ |
|
|
$ |
|
|
$ |
531 |
|
Space |
|
109 |
|
|
|
(8 |
) |
101 |
|
||||
Total Non-current |
|
$ |
640 |
|
$ |
|
|
$ |
(7 |
) |
$ |
632 |
|
* The other adjustments column in the table above principally includes the reclassification of non-current to current and foreign currency translation adjustments. In addition, during the quarter ended March 31, 2007, net adjustments to increase previously recorded liabilities for actions taken prior to 1994 ($2.6 million) were recorded: $2.3 million was included in Selling, General and Administrative expense and $0.3 million was recorded in Other (income) and expense. In addition, interest expense (accretion) of $7.3 million was recorded in Selling, general and administrative expense and $1 million was recorded in Other (income) and expense.
11. The company is involved in a variety of claims, suits, investigations and proceedings that arise from time to time in the ordinary course of its business, including actions with respect to contracts, intellectual property, product liability, employment, benefits, securities and environmental matters. These actions may be commenced by a number of different constituents, including competitors, partners, clients, current or former employees, government and regulatory agencies, stockholders and representatives of the locations in which the company does business. The following is a discussion of some of the more significant legal matters involving the company.
The company is a defendant in an action filed on March 6, 2003 in state court in Salt Lake City, Utah by The SCO Group. The company removed the case to Federal Court in Utah. Plaintiff is an alleged successor in interest to some of AT&Ts Unix IP rights, and alleges copyright infringement, unfair competition, interference with contract and breach of contract with regard to the companys distribution of AIX and Dynix and contribution of code to Linux. The company has asserted counterclaims, including breach of contract, violation of the Lanham Act, unfair competition, intentional torts, unfair and deceptive trade practices, breach of the General Public License that governs open source distributions, promissory estoppel and copyright infringement. In October 2005, the company withdrew its patent counterclaims in an effort to simplify and focus the issues in the case and to expedite their resolution. Motions for summary judgment were heard in March 2007, and the court has not yet issued its decision. A trial date has not been set.
In May 2005, the Louisiana Supreme Court denied the companys motion to review and reverse a Louisiana state courts certification of a nationwide class in a case filed against the company in 1995. The class consists of certain former employees who left the company in 1992, and their spouses. They claim damages based on the companys termination of an education assistance program. On April 4, 2006, the trial court denied the companys motion for summary judgment. On October 27, 2006, the Louisiana Supreme Court denied IBMs writ seeking an appeal of the trial courts decision to deny summary judgment. At present, trial briefs are due in June 2007. No date has been set for trial.
On June 2, 2003, the company announced that it received notice of a formal, nonpublic investigation by the Securities and Exchange Commission (SEC). The SEC sought information relating to revenue recognition in 2000 and 2001 primarily concerning certain types of client transactions. The company believes that the investigation arises from a separate investigation by the SEC of Dollar General Corporation, a client of the companys Retail Stores Solutions unit, which markets and sells point-of-sale products.
12
On January 8, 2004, the company announced that it received a Wells Notice from the staff of the SEC in connection with the staffs investigation of Dollar General Corporation, which as noted above, is a client of the companys Retail Stores Solutions unit. It is the companys understanding that an employee in the companys Sales & Distribution unit also received a Wells Notice from the SEC in connection with this matter. The Wells Notice notifies the company that the SEC staff is considering recommending that the SEC bring a civil action against the company for possible violations of the U.S. securities laws relating to Dollar Generals accounting for a specific transaction, by participating in and aiding and abetting Dollar Generals misstatement of its 2000 results. In that transaction, the company paid Dollar General $11 million for certain used equipment as part of a sale of IBM replacement equipment in Dollar Generals 2000 fourth fiscal quarter. Under the SECs procedures, the company responded to the SEC staff regarding whether any action should be brought against the company by the SEC. The separate SEC investigation noted above, relating to the recognition of revenue by the company in 2000 and 2001 primarily concerning certain types of client transactions, is not the subject of this Wells Notice.
On June 27, 2005, the company announced that it had received a request to voluntarily comply with an informal investigation by the staff of the SEC concerning the companys disclosures relating to the companys first-quarter 2005 earnings and expensing of equity compensation. On January 12, 2006, the company announced that it received notice of a formal, nonpublic investigation by the SEC of this matter. The company has been cooperating with the SEC, and will continue to do so. The SEC has informed the company that the investigation should not be construed as an indication that any violations of law have occurred.
In July 2005, two lawsuits were filed in the United States District Court for the Southern District of New York related to the companys disclosures concerning first-quarter 2005 earnings and the expensing of equity compensation. Pursuant to an Order from the Court dated March 28, 2006, the two lawsuits were consolidated into a single action captioned In re International Business Machines Corp. Securities Litigation. Plaintiffs filed a corrected consolidated amended complaint dated May 19, 2006, in which they named the company and IBMs Senior Vice President and Chief Financial Officer as defendants and alleged that defendants made certain misrepresentations and omissions in violation of Section 10(b), and Rule 10b-5 thereunder, and Section 20(a) of the Securities Exchange Act of 1934. On September 20, 2006, the Court denied a Motion to Dismiss that was filed by IBM. On March 12, 2007, the plaintiffs class was certified.
In January 2004, the Seoul District Prosecutors Office in South Korea announced it had brought criminal bid-rigging charges against several companies, including IBM Korea and LG IBM (a joint venture between IBM Korea and LG Electronics, which has since been dissolved, effective January, 2005) and had also charged employees of some of those entities with, among other things, bribery of certain officials of government-controlled entities in Korea and bid rigging. IBM Korea and LG IBM cooperated fully with authorities in these matters. A number of individuals, including former IBM Korea and LG IBM employees, were subsequently found guilty and sentenced. IBM Korea and LG IBM were also required to pay fines. Debarment orders were imposed at different times, covering a period of no more than a year from the date of issuance, which barred IBM Korea from doing business directly with certain government-controlled entities in Korea. All debarment orders have since expired and when they were in force did not prohibit IBM Korea from selling products and services to business partners who sold to government-controlled entities in Korea. In addition, the U.S. Department of Justice and the SEC have both contacted the company in connection with this matter.
On January 24, 2006, a putative class action lawsuit was filed against IBM in federal court in San Francisco on behalf of technical support workers whose primary responsibilities are or were to install and maintain computer software and hardware. The complaint was subsequently amended on March 13, 2006. The First Amended Complaint, among other things, adds four additional named plaintiffs and modifies the definition of the workers purportedly included in the class. The suit, Rosenburg, et. al., v. IBM, alleges the company failed to pay overtime wages pursuant to the Fair Labor Standards Act and state law, and asserts violations of various state wage requirements, including recordkeeping and meal-break provisions. The suit also asserts certain violations of ERISA. Relief sought includes back wages, corresponding 401(k) and pension plan credits, interest and attorneys fees. On January 11, 2007, the District Court granted preliminary approval to a class-wide settlement whereby IBM will place into a fund $65 million, plus certain interest accruing between December 1, 2006 until such time as the fund is transferred to the claims administrator, to pay claims asserted by class members, Plaintiffs attorneys fees and administrative costs. Individual payments will be based on factors, including the class members state of employment, time worked in the relevant job position and base salary. The District Court is scheduled to have a hearing to finally approve the settlement in July 2007. The charge associated with this settlement was consistent with a provision previously established by the company.
13
On October 23, 2006, the company filed two lawsuits against Amazon.com, Inc. (Amazon), in the United States District Court for the Eastern District of Texas, one in the Lufkin Division and one in the Tyler Division. The Lufkin suit alleges that Amazon has unlawfully infringed three IBM patents. The Tyler suit alleges that Amazon has unlawfully infringed two IBM patents. The Lufkin Division patents cover methods for storing data, presenting applications and presenting advertising on a computer network. The Tyler Division patents cover an electronic catalog requisition system and related information retrieval and ordering methods and a computer-implemented hypertext system and method for operating a computer-implemented object-oriented hypertext system. Each suit seeks, among other things, compensatory damages and injunctive relief. On December 14, 2006, Amazon answered, counterclaimed in each suit and sought to transfer the Lufkin suit to consolidate it with Tyler suit. IBM filed its opposition to the transfer motion on January 2, 2007 and answered the counterclaims in both suits on January 8. On January 16, 2007, the Lufkin court denied Amazons transfer motion. The courts have issued scheduling orders in both suits. The Lufkin action is set for trial on May 6, 2008 and the Tyler action on October 13, 2008.
On November 29, 2006, the company filed a lawsuit against Platform Solutions, Inc. (PSI) in the United States District Court for the Southern District of New York. IBM asserted claims for patent infringement and breach of contract in connection with PSIs development and marketing of a computer system that PSI says is compatible with IBMs S/390 and System z architectures. IBM also sought a declaratory judgment that its refusal to license its patents to PSI and certain of its software for use on PSI systems does not violate the antitrust laws. IBM seeks damages and injunctive relief. On January 19, 2007, PSI answered the complaint and asserted counterclaims against IBM for alleged monopolization and attempted monopolization, tying, violations of New York and California statutes proscribing unfair competition, tortious interference with the acquisition of PSI by a third party and promissory estoppel. PSI also sought declaratory judgments of noninfringement of IBMs patents and patent invalidity. The court has not yet set a trial date.
In October 2003, a purported collective action lawsuit was filed against IBM in the United States District Court for the Northern District of California by ten former IBM employees alleging, on behalf of themselves and allegedly similarly situated former employees, that the company engaged in a pattern and practice of discriminating against employees on the basis of age when it terminated employees in connection with reductions in force. Initially, the District Court dismissed the lawsuit on the basis of release agreements signed by all the plaintiffs. On appeal, the Ninth Circuit reversed the trial courts finding that the release barred these claims, and in January 2007 after denial of IBMs petition for rehearing, the matter was returned to the trial court for further proceedings.
The company is party to, or otherwise involved in, proceedings brought by U.S. federal or state environmental agencies under the Comprehensive Environmental Response, Compensation and Liability Act (CERCLA), known as Superfund, or laws similar to CERCLA. Such statutes require potentially responsible parties to participate in remediation activities regardless of fault or ownership of sites. The company is also conducting environmental investigations, assessments or remediations at or in the vicinity of several current or former operating sites globally pursuant to permits, administrative orders or agreements with country, state or local environmental agencies, and is involved in lawsuits and claims concerning certain current or former operating sites.
The company is also subject to ongoing tax examinations and governmental assessments in various jurisdictions. Similar to many other U.S. companies doing business in Brazil, the company is involved in various challenges with Brazilian authorities regarding non-income tax assessments and non-income tax litigation matters. These matters principally relate to claims for taxes on the importation of computer software. The total amounts related to these matters are approximately $1.7 billion, including amounts currently in litigation and other amounts. The company believes it will prevail on these matters and that these amounts are not meaningful indicators of liability.
In accordance with SFAS No. 5, Accounting for Contingencies, (SFAS No. 5), the company records a provision with respect to a claim, suit, investigation or proceeding when it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. Any provisions are reviewed at least quarterly and are adjusted to reflect the impact and status of settlements, rulings, advice of counsel and other information pertinent to a particular matter. Any recorded liabilities for the above items, including any changes to such liabilities for the quarter ended March 31, 2007, were not material to the Consolidated Financial Statements. Based on its experience, the company believes that the damage amounts claimed in the matters referred to above are not a meaningful indicator of the potential liability. Claims, suits, investigations and proceedings are inherently uncertain and it is not possible to predict the ultimate outcome of the matters previously discussed. While the company will continue to defend itself vigorously in all such matters, it is possible that the companys business, financial condition, results of operations or cash flows could be affected in any particular period by the resolution of one or more of these matters.
14
Whether any losses, damages or remedies finally determined in any such claim, suit, investigation or proceeding could reasonably have a material effect on the companys business, financial condition, results of operations or cash flows will depend on a number of variables, including the timing and amount of such losses or damages; the structure and type of any such remedies; the significance of the impact any such losses, damages or remedies may have on the companys Consolidated Financial Statements; and the unique facts and circumstances of the particular matter which may give rise to additional factors.
12. The companys extended lines of credit to third-party entities include unused amounts of $3,670 million and $2,895 million at March 31, 2007 and December 31, 2006, respectively. A portion of these amounts was available to the companys business partners to support their working capital needs. In addition, the company has committed to provide future financing to its clients in connection with client purchase agreements for approximately $2,796 million and $2,496 million at March 31, 2007 and December 31, 2006, respectively.
The company has applied the disclosure provisions of FIN 45, Guarantors Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, to its agreements that contain guarantee or indemnification clauses. These disclosure provisions expand those required by SFAS No. 5, by requiring a guarantor to disclose certain types of guarantees, even if the likelihood of requiring the guarantors performance is remote. The following is a description of arrangements in which the company is the guarantor.
The company is a party to a variety of agreements pursuant to which it may be obligated to indemnify the other party with respect to certain matters. Typically, these obligations arise in the context of contracts entered into by the company, under which the company customarily agrees to hold the party harmless against losses arising from a breach of representations and covenants related to such matters as title to the assets sold, certain intellectual property (IP) rights, specified environmental matters, third-party performance of non-financial contractual obligations and certain income taxes. In each of these circumstances, payment by the company is conditioned on the other party making a claim pursuant to the procedures specified in the particular contract, which procedures typically allow the company to challenge the other partys claims. Further, the companys obligations under these agreements may be limited in terms of time and/or amount, and in some instances, the company may have recourse against third parties for certain payments made by the company.
It is not possible to predict the maximum potential amount of future payments under these or similar agreements, due to the conditional nature of the companys obligations and the unique facts and circumstances involved in each particular agreement. Historically, payments made by the company under these agreements have not had a material effect on the companys business, financial condition or results of operations.
In addition, the company guarantees certain loans and financial commitments. The maximum potential future payment under these financial guarantees was $30 million and $32 million at March 31, 2007 and December 31, 2006, respectively. The fair value of the guarantees recognized in the Consolidated Statement of Financial Position is not material.
Changes in the companys warranty liability balance are presented in the following table:
(Dollars in millions) |
|
2007 |
|
2006 |
|
||
Balance at January 1 |
|
$ |
582 |
|
$ |
754 |
|
Current period accruals |
|
105 |
|
105 |
|
||
Accrual adjustments to reflect actual experience |
|
(16 |
) |
56 |
|
||
Charges incurred |
|
(167 |
) |
(198 |
) |
||
Balance at March 31 |
|
$ |
504 |
|
$ |
718 |
|
The decrease in the balance was primarily driven by a reduction in estimated future cost as a result of the divestiture of the companys Personal Computing business to Lenovo Group Limited (Lenovo) in April 2005.
15
13. Subsequent Events: On April 24, 2007, the company announced that the Board of Directors approved a quarterly dividend of $0.40 per common share. The dividend is payable June 9, 2007 to shareholders of record on May 10, 2007. The dividend declaration represents an increase of $0.10, or 33 percent more than the prior quarterly dividend of $0.30 per common share. In the last two years the company has doubled its quarterly dividend.
On April 24, 2007, the company announced that the Board of Directors authorized $15 billion in additional funds for use in the companys common stock repurchase program. This amount is in addition to approximately $1.4 billion for common stock repurchase remaining from a prior Board authorization. With this new approval, the company has approximately $16.4 billion available for its stock repurchase program. The company may repurchase shares on the open market or in private transactions, including structured or accelerated transactions, depending on market conditions. The company intends to borrow a large portion of the funds for this repurchase, and maintain increased financial leverage. At this time, the company does not anticipate requesting Board approval for additional funds for stock repurchases within the next 12 months.
16
MANAGEMENTS DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
FOR THE THREE MONTHS ENDED MARCH 31, 2007*
Snapshot
|
|
|
|
|
|
Yr. To Yr. |
|
||
|
|
|
|
|
|
Percent/ |
|
||
(Dollars in millions except per share amounts) |
|
|
|
|
|
Margin |
|
||
Three months ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
||
Revenue |
|
$ |
22,029 |
|
$ |
20,659 |
|
6.6 |
%** |
Gross profit margin |
|
40.2 |
% |
39.1 |
% |
1.1 |
pts. |
||
Total expense and other income |
|
$ |
6,287 |
|
$ |
5,648 |
|
11.3 |
% |
Total expense and other income to revenue ratio |
|
28.5 |
% |
27.3 |
% |
1.2 |
pts. |
||
Provision for income taxes |
|
$ |
735 |
|
$ |
732 |
|
0.4 |
% |
Income from continuing operations |
|
$ |
1,844 |
|
$ |
1,708 |
|
8.0 |
% |
Earnings per share from continuing operations: |
|
|
|
|
|
|
|
||
Assuming dilution |
|
$ |
1.21 |
|
$ |
1.08 |
|
12.0 |
% |
Basic |
|
$ |
1.23 |
|
$ |
1.09 |
|
12.8 |
% |
Weighted-average shares outstanding: |
|
|
|
|
|
|
|
||
Assuming dilution |
|
1,522.8 |
|
1,587.2 |
|
(4.1 |
)% |
||
Basic |
|
1,499.5 |
|
1,564.5 |
|
(4.2 |
)% |
||
|
|
|
|
|
|
|
|
||
|
|
3/31/07 |
|
12/31/06 |
|
|
|
||
Assets |
|
$ |
101,619 |
|
$ |
103,234 |
|
(1.6 |
)% |
Liabilities |
|
$ |
73,811 |
|
$ |
74,728 |
|
(1.2 |
)% |
Equity |
|
$ |
27,809 |
|
$ |
28,506 |
|
(2.4 |
)% |
* The following Results of Continuing Operations discussion does not include the hard disk drive (HDD) business that the company sold to Hitachi, Ltd. on December 31, 2002. The HDD business was accounted for as a discontinued operation under generally accepted accounting principles. There were no losses for the three-month period ended March 31, 2007 and 2006.
** 3.6 percent adjusted for currency
Within the Management Discussion, selected references to adjusted for currency or at constant currency are made so that the companys financial results can be viewed without the impact of fluctuations in foreign currency exchange rates, thereby facilitating period-to-period comparisons of the companys business performance.
Total revenue increased 6.6 percent as reported, 3.6 percent adjusted for currency versus the first quarter of 2006. Pre-tax income from continuing operations was $2,579 million, up 5.7 percent versus the first quarter of 2006. Diluted earnings per share from continuing operations was $1.21 versus $1.08, a 12.0 percent improvement year-to-year.
The companys financial performance in the quarter demonstrated the value of its global integration. The company has been making investments for sometime to build global capabilities, transform its operations and extend its global reach. This quarter, the companys strong performance in Asia Pacific, combined with improved performance in Europe, more than offset weakness in the United States. In addition, the company continued to benefit from strong growth in its emerging country markets where revenue grew 24.1 percent (21 percent adjusted for currency).
The increase in revenue was driven by an 8.8 percent increase in Software, reflecting double-digit growth in key branded middleware, a 7.0 percent increase in Global Technology Services led by Integrated Technology Services and an increase of 8.7 percent in Global Business Services with improved revenue growth in all three geographies. In addition, Systems and Technology revenue increased 2.3 percent primarily driven by strong growth in System p and System z products, partially offset by an anticipated decline in Microelectronics and weaker performance in System Storage. Global Financing revenue increased 5.6 percent reflecting an improvement in financing revenue due to an increase in used equipment sales and financing assets.
The gross profit margin was 40.2 percent, an increase of 1.1 points versus the prior year driven by improvements in Systems and Technology and Global Business Services. This is the 11th consecutive quarter that the gross profit margin
17
has increased, driven by an improving business mix and productivity initiatives.
Total expense and other income increased 11.3 percent versus the first quarter of 2006 driven by the companys continuing investments in higher value capabilities.
The companys effective tax rate for the first three months of 2007 was 28.5 percent versus 30.0 percent in the first quarter of 2006.
Total Assets declined $1.6 billion from December 31, 2006 primarily due to lower accounts receivable ($2.8 billion), partially offset by increases in Goodwill ($0.2 billion) and pension assets ($0.4 billion).
Global Services signings were $11.1 billion for the quarter, down 2 percent compared to the first quarter of 2006. The estimated Global Services backlog ended at $115 billion, versus $116 billion at December 31, 2006.
Quarter in Review
Results of Continuing Operations
Segment Details
The following table presents each reportable segments external revenue as a percentage of total external segment revenue.
For the period ended March 31: |
|
2007 |
|
2006 |
|
Global Technology Services |
|
37.8 |
% |
37.7 |
% |
Global Business Services |
|
19.2 |
|
18.8 |
|
Total Global Services |
|
57.0 |
|
56.5 |
|
Systems and Technology |
|
20.7 |
|
21.6 |
|
Global Financing |
|
2.8 |
|
2.8 |
|
Total Systems and Technology/Financing |
|
23.5 |
|
24.4 |
|
Software |
|
19.5 |
|
19.1 |
|
Total |
|
100.0 |
% |
100.0 |
% |
The following is an analysis of the first quarter 2007 versus first quarter 2006 reportable segment external revenue and gross margin results.
(Dollars in millions) |
|
2007 |
|
2006 |
|
Yr. to Yr. |
|
Yr. to Yr. |
|
||
Revenue: |
|
|
|
|
|
|
|
|
|
||
Global Technology Services |
|
$ |
8,258 |
|
$ |
7,719 |
|
7.0 |
% |
3.8 |
% |
Gross margin |
|
29.2 |
% |
29.2 |
% |
0.0 |
pts. |
|
|
||
Global Business Services |
|
4,183 |
|
3,848 |
|
8.7 |
% |
5.5 |
% |
||
Gross margin |
|
23.8 |
% |
21.4 |
% |
2.5 |
pts. |
|
|
||
Systems and Technology |
|
4,520 |
|
4,419 |
|
2.3 |
% |
(0.1 |
)% |
||
Gross margin |
|
34.8 |
% |
32.0 |
% |
2.8 |
pts. |
|
|
||
Software |
|
4,251 |
|
3,907 |
|
8.8 |
% |
5.4 |
% |
||
Gross margin |
|
83.6 |
% |
84.2 |
% |
(0.6 |
)pts. |
|
|
||
Global Financing |
|
614 |
|
582 |
|
5.6 |
% |
3.0 |
% |
||
Gross margin |
|
50.9 |
% |
52.8 |
% |
(1.9 |
)pts. |
|
|
||
Other |
|
203 |
|
184 |
|
10.1 |
% |
9.1 |
% |
||
Gross margin |
|
12.0 |
% |
1.2 |
% |
10.8 |
pts. |
|
|
||
Total revenue |
|
$ |
22,029 |
|
$ |
20,659 |
|
6.6 |
% |
3.6 |
% |
Gross profit |
|
$ |
8,866 |
|
$ |
8,088 |
|
9.6 |
% |
|
|
Gross margin |
|
40.2 |
% |
39.1 |
% |
1.1 |
pts. |
|
|
18
Global Services
|
|
|
|
|
|
Yr. to Yr. |
|
||
(Dollars in millions) |
|
|
|
|
|
Percent |
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
||
Global Services revenue: |
|
$ |
12,441 |
|
$ |
11,567 |
|
7.6 |
% |
Global Technology Services |
|
$ |
8,258 |
|
$ |
7,719 |
|
7.0 |
% |
Strategic Outsourcing |
|
4,335 |
|
4,098 |
|
5.8 |
|
||
Business Transformation Outsourcing |
|
489 |
|
490 |
|
(0.1 |
) |
||
Integrated Technology Services |
|
1,899 |
|
1,689 |
|
12.5 |
|
||
Maintenance |
|
1,534 |
|
1,443 |
|
6.3 |
|
||
Global Business Services |
|
$ |
4,183 |
|
$ |
3,848 |
|
8.7 |
% |
The companys two services segments, Global Technology Services and Global Business Services, together had revenue of $12.4 billion, an increase of 7.6 percent (4 percent adjusted for currency) in the first quarter of 2007 when compared to the first quarter of 2006. Global Business Services delivered strong results for both revenue and profit growth in the quarter.
Global Technology Services (GTS) revenue increased 7.0 percent (4 percent adjusted for currency) in the first quarter versus the first quarter of 2006, led by strong growth in Integrated Technology Services. Total signings in GTS decreased 6 percent in the first quarter of 2007, with longer term signings decreasing 9 percent partially offset by increased shorter term signings of 5 percent.
Strategic Outsourcing revenue was up 5.8 percent (3 percent adjusted for currency) in the quarter driven by growth in Asia Pacific and EMEA, partially offset by weakness in the Americas. Total SO signings in the first quarter were down 11 percent when compared with first quarter of 2006.
Business Transformation Outsourcing (BTO) revenue decreased 0.1 percent (3 percent adjusted for currency) in the first quarter of 2007 when compared to the first quarter of 2006. Double-digit growth in Asia Pacific and EMEA was offset by decreased revenue in the Americas driven by the impact from a large contract renegotiation in 2006. BTO signings increased 7 percent year to year.
Integrated Technology Services (ITS) revenue increased 12.5 percent (9 percent adjusted for currency) in the first quarter versus the comparable period of 2006. The company continues to see progress from the changes implemented to improve the ITS business, particularly in Asia Pacific and parts of Europe. In addition, the acquisition of Internet Security Systems, which added to the companys capabilities in security and intrusion protection, contributed to the growth this quarter. ITS signings were up 5 percent year to year.
Maintenance revenue increased 6.3 percent (3 percent adjusted for currency) in the quarter, driven primarily by increased availability services on non-IBM IT equipment.
Global Business Services (GBS) revenue increased 8.7 percent (6 percent adjusted for currency) in the first quarter of 2007 versus the year ago period, reflecting improved revenue growth rates in all three geographies with the strongest growth in Asia Pacific. From an offering perspective, the strongest growth was in the areas of supply chain, business strategy and change and in Service-Oriented Architecture (SOA) driven offerings, where the company continues to extend its leadership by helping clients to build strategic new solutions in partnership with the companys Software business and Research Division. Total signings in GBS increased 3 percent in the first quarter of 2007. Shorter term signings increased 13 percent year to year and were up in all geographies, led by the Americas and Asia Pacific. This was the third consecutive quarter of double-digit short term signings growth. Longer term signings were down 22 percent, as growth in signings for Application Management Services was offset by declines in the companys U.S. Federal business.
19
|
|
|
|
|
|
Yr. to Yr. |
|
||
|
|
|
|
|
|
Percent/ |
|
||
(Dollars in millions) |
|
|
|
|
|
Margin |
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
||
Global Services gross profit: |
|
|
|
|
|
|
|
||
Global Technology Services |
|
$ |
2,407 |
|
$ |
2,253 |
|
6.8 |
% |
Gross profit margin |
|
29.2 |
% |
29.2 |
% |
0.0 |
pts. |
||
Global Business Services |
|
997 |
|
823 |
|
21.2 |
% |
||
Gross Profit margin |
|
23.8 |
% |
21.4 |
% |
2.5 |
pts. |
||
Global Technology Services gross profit margin was 29.2 percent, flat year to year, and the segment pre-tax margin was 7.8 percent in the first quarter, a decline of 2.5 points versus the first quarter of 2006. The pre-tax margin decline was driven by increased investments in sales and delivery, as well as the impact of recently completed acquisitions. The company continues to increase its investments in technology, tools and processes to improve service delivery and client satisfaction in outsourced accounts. Gross margins improved in Asia Pacific, but cost issues in strategic outsourcing impacted margins in the U.S. The company is implementing actions to improve the profitability of the GTS business, with a specific focus on the U.S. cost base.
Global Business Services gross profit margin was 23.8 percent in the quarter, an improvement of 2.5 points versus the prior year. The GBS segment pre-tax margin was 10.5 percent, an increase of 2.0 points year to year with pre-tax income growing 32 percent versus the prior year. This profit expansion was driven by higher revenue growth and utilization, improved pricing and strong contract management.
Global Services Signings
In first-quarter of 2007, total Global Services signings decreased 2 percent year to year to $11,084 million. Shorter term signings, driven by demand for both ITS and Consulting and Systems Integration offerings, were $5,255 million, up 10 percent. This was the third consecutive quarter of signings growth in these short term businesses. Longer term signings were $5,829 million, down 11 percent year to year when compared to first-quarter 2006. GTS signings were $6,845 million and GBS signings were $4,239 million in the first quarter of 2007. In the first quarter, the company signed 9 deals greater than $100 million and the total Global Services backlog was estimated at $115 billion, an increase of $4.9 billion versus March 31, 2006 and down $0.2 billion from December 31, 2006.
Global Technology Services Signings
(Dollars in millions) |
|
|
|
|
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
||
Longer term |
|
$ |
4,924 |
|
$ |
5,416 |
|
Shorter term |
|
1,921 |
|
1,829 |
|
||
Total |
|
$ |
6,845 |
|
$ |
7,245 |
|
Global Business Services Signings
(Dollars in millions) |
|
|
|
|
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
||
Longer term |
|
$ |
905 |
|
$ |
1,156 |
|
Shorter term |
|
3,334 |
|
2,952 |
|
||
Total |
|
$ |
4,239 |
|
$ |
4,109 |
|
Global Services signings are managements initial estimate of the value of a clients commitment under a Global Services contract. Signings are used by management to assess period performance of Global Services management. There are no third-party standards or requirements governing the calculation of signings. The calculation used by management is an approximation of constant currency, and involves estimates and judgments to gauge the extent of a clients commitment, including the type and duration of the agreement, and the presence of termination charges or wind-down costs. For example, for longer term contracts that require significant upfront investment by the company, the portions of these contracts that are a signing are those periods in which there is a significant economic impact on the client if the commitment is not achieved, usually through a termination charge or the client incurring significant wind-down costs as a result of the termination. For
20
shorter term contracts that do not require significant upfront investments, a signing is usually equal to the full contract value. Longer term contracts represent SO and BTO contracts as well as GBS contracts with the U.S. Federal government and its agencies and Application and Management Services (AMS) for custom and legacy applications. Shorter term contracts represent the remaining GBS offerings of Consulting and Systems Integration, AMS packaged applications and ITS contracts. These amounts have been adjusted to exclude the impact of year to year currency changes.
Signings include SO, BTO, ITS and GBS contracts. Contract extensions and increases in scope are treated as signings only to the extent of the incremental new value. Maintenance is not included in signings as maintenance contracts tend to be more steady-state, where revenues equal renewals, and therefore, the company does not think they are as useful a predictor of future performance.
Backlog includes SO, BTO, ITS, GBS, and Maintenance. Backlog is intended to be a statement of overall work under contract and therefore does include Maintenance. Backlog estimates are subject to change and are affected by several factors, including terminations, changes in the scope of contracts, periodic revalidations, adjustments for revenue not materialized and currency assumptions used to approximate constant currency.
Contract portfolios purchased in an acquisition are treated as positive backlog adjustments provided those contracts meet the companys requirements for initial signings. A new signing will be recognized if a new services agreement is signed incidental or coincident to an acquisition.
Systems and Technology
|
|
|
|
|
|
Yr. to Yr. |
|
||
(Dollars in millions) |
|
|
|
|
|
Percent |
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
||
Systems and Technology Revenue: |
|
$ |
4,520 |
|
$ |
4,419 |
|
2.3 |
% |
System z |
|
|
|
|
|
11.5 |
% |
||
System i |
|
|
|
|
|
(13.4 |
) |
||
System p |
|
|
|
|
|
13.5 |
|
||
System x |
|
|
|
|
|
5.6 |
|
||
System Storage |
|
|
|
|
|
(1.2 |
) |
||
Microelectronics |
|
|
|
|
|
(7.4 |
) |
||
Engineering and Technology Services |
|
|
|
|
|
(5.6 |
) |
||
Retail Store Solutions |
|
|
|
|
|
7.0 |
|
||
Printing Systems |
|
|
|
|
|
(11.1 |
) |
||
Systems and Technology revenue increased 2.3 percent (essentially flat when adjusted for currency) in the first quarter of 2007 versus the first quarter of 2006. System z revenue increased 11.5 percent (8 percent adjusted for currency) in the first quarter versus the prior year with double digit growth in Asia Pacific and Europe. MIPS (millions of instructions per second) volumes grew 9 percent year-to-year, marking seven consecutive quarters of year-to-year MIPS growth. This sustained growth is supported by strong demand for traditional mainframe engines, specialty engines for Linux and Java and a growing recognition of System z as the premier tool for large scale virtualization. As a result, the company is experiencing new clients and workload coming to the platform and leveraging the latest technology.
System i revenue decreased 13.4 percent (16 percent adjusted for currency) in the first quarter of 2007 compared to the first quarter of 2006, as sales of upgrades remained weak. Actions taken by the company to reduce costs, together with sales of high margin Capacity on Demand upgrades helped improve the brands gross margin year to year.
System p revenue increased 13.5 percent (10 percent adjusted for currency) in the first quarter of 2007 versus the first quarter of 2006. This reflects the third consecutive quarter of revenue growth for the System p brand since the introduction of Power 5+ technology in July of 2006. The company continued to see strong growth in its high-end systems, as well as its Capacity On Demand offerings, extending its price/performance leadership and positively contributing to margins. Clients continue to leverage System ps native virtualization to consolidate multiple smaller servers into high-end System p.
System x revenue increased 5.6 percent (3 percent adjusted for currency) in the first quarter of 2007 versus the prior year. Consistent with industry market dynamics, unit volumes declined slightly year to year, driven by virtualization. Virtualization
21
is driving a consolidation of server deployments on a single system and this development is positive for the companys strength across its server platforms.
System x Blades volumes increased 12 percent in the first quarter of 2007 versus the first quarter of 2006, however revenue growth was flat as a result of an increased amount of operating lease activity in the current quarter.
System Storage revenue decreased 1.2 percent (4 percent adjusted for currency) in the first quarter of 2007 after positive second half 2006 performance. Total disk revenue declined 2 percent primarily driven by declines in the U.S. Tape products revenue was flat in the first quarter of 2007 versus the same period in 2006.
Microelectronics revenue decreased 7.4 percent (7 percent adjusted for currency) in the first quarter of 2007 versus a very strong first quarter of 2006. As anticipated, demand moderated in the first quarter of 2007, as last years game platform launches drove significant early production volume and revenue. During the first quarter, the company announced a joint development agreement with Freescale Semiconductor on 45 nanometer technology. The company also began production of its 65 nanometer Cell Broadband Engine chip in its East Fishkill facility.
Retail Stores Solutions revenue increased 7.0 percent (4 percent adjusted for currency) versus the first quarter of 2006 primarily due to clients replacing older technology in favor of integrated retail solutions in Europe, partially offset by declines in revenue in both the Americas and Asia Pacific. Printing Systems revenue decreased 11.1 percent (13 percent adjusted for currency) due primarily to lower sales of hardware products and lower maintenance revenue as a result of a declining install base.
|
|
|
|
|
|
Yr. to Yr. |
|
|
|
|
|
|
|
Percent/ |
|
(Dollars in millions) |
|
|
|
|
|
Margin |
|
For the period ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
Systems and Technology: |
|
|
|
|
|
|
|
Gross profit |
|
$1,572 |
|
$1,413 |
|
11.2 |
% |
Gross profit margin |
|
34.8 |
% |
32.0 |
% |
2.8 |
pts. |
The increase in gross profit dollars was primarily due to the increase in revenue as well as the mix of revenue to higher margin products in the first quarter of 2007 versus the first quarter of 2006.
Overall gross margin increased 2.8 points versus 2006. Margin improvements in System z, System p and Microelectronics contributed 1.6, 1.4 and 0.6 points, respectively to the overall margin improvement. Improved revenue mix, primarily driven by System z growth, contributed 0.6 points. These improvements were partially offset by lower margins in System x and System Storage which impacted the overall margin by 0.7 and 0.6 points, respectively.
Software
|
|
|
|
|
|
Yr. to Yr. |
|
||
(Dollars in millions) |
|
|
|
|
|
Percent |
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
||
Software Revenue: |
|
$ |
4,251 |
|
$ |
3,907 |
|
8.8 |
% |
Middleware |
|
$ |
3,246 |
|
$ |
2,955 |
|
9.9 |
% |
Key Branded Middleware |
|
2,167 |
|
1,854 |
|
16.9 |
|
||
WebSphere Family |
|
|
|
|
|
13.6 |
|
||
Information Management |
|
|
|
|
|
19.9 |
|
||
Lotus |
|
|
|
|
|
7.0 |
|
||
Tivoli |
|
|
|
|
|
17.8 |
|
||
Rational |
|
|
|
|
|
15.1 |
|
||
Other Middleware |
|
1,079 |
|
1,101 |
|
(1.9 |
) |
||
Operating Systems |
|
522 |
|
520 |
|
0.3 |
|
||
Product Lifecycle Management |
|
251 |
|
240 |
|
4.5 |
|
||
Other |
|
232 |
|
191 |
|
21.3 |
|
22
Software segment revenue was $4.3 billion in the first quarter of 2007, an increase of 8.8 percent (5 percent adjusted for currency), reflecting double-digit growth in the companys key branded middleware.
Key Branded Middleware delivered 16.9 percent growth (13 percent adjusted for currency) in the first quarter of 2007. Leadership products and strong customer loyalty drove double-digit revenue growth in the WebSphere, Information Management, Tivoli and Rational brands. The revenue growth in WebSphere, Lotus and Rational was primarily organic. The Information Management and Tivoli growth was significantly enhanced by the companys recent acquisitions. These acquisitions performed well in the quarter and accounted for more than half of the growth in key branded middleware in the quarter. Organic revenue growth slowed from the strong level in the fourth quarter, as some large customers in the U.S. delayed their purchasing decisions.
Revenue from the WebSphere family of products increased 13.6 percent (10 percent adjusted for currency) in the first quarter of 2007 versus the first quarter of 2006. The company has continued to build a robust portfolio of WebSphere products to realize the potential of SOA.
Information Management revenue increased 19.9 percent (16 percent adjusted for currency) in the first quarter of 2007 versus the prior year. Momentum in the companys distributed relational database products continued with double-digit revenue growth in the quarter. The Information on Demand portfolio of software products builds value around the companys core database business. It enables clients to integrate, analyze and optimize disparate information across their enterprise. Revenue from these offerings grew 28 percent in the first quarter of 2007. Results were also strong in the Enterprise Content Management product set, which was bolstered by the Filenet acquisition.
Revenue from Lotus increased 7.0 percent (3 percent adjusted for currency) in the first quarter of 2007. The companys Lotus products provide clients with collaborative solutions which enable the integration of people, data and business processes as part of the companys On Demand and SOA strategies. Customer loyalty to the Lotus product set remains strong as evidenced by ten consecutive quarters of revenue growth.
Tivoli revenue increased 17.8 percent (14 percent adjusted for currency) driven by double-digit growth in the Systems Management, Security and Storage product segments with strong contribution from the recent acquisitions including MRO, Vallent and Consul.
Rational revenue increased 15.1 percent (11 percent adjusted for currency) in the first quarter of 2007 versus the first quarter of 2006. Rationals products provide an integrated approach to the governance of software development and delivery. This is resonating well with the companys customers as evidenced by this acceleration in the revenue growth rate.
Other Middleware and Operating Systems products revenue decreased 1.9 percent (5 percent adjusted for currency) and increased 0.3 percent (decreased 2 percent adjusted for currency), respectively, in the first quarter of 2007 when compared to the same period of 2006. These product sets include more mature products which provide a strong revenue contribution despite slight revenue declines.
Product Life Cycle Management (PLM) revenue increased 4.5 percent (1 percent adjusted for currency) in the first quarter of 2007 versus the first quarter of 2006. PLM software helps companies improve their product development processes and their ability to use product-related information across their businesses.
|
|
|
|
|
|
Yr. to Yr. |
|
||
|
|
|
|
|
|
Percent/ |
|
||
(Dollars in millions) |
|
|
|
|
|
Margin |
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
||
Software: |
|
|
|
|
|
|
|
||
Gross profit |
|
$ |
3,553 |
|
$ |
3,290 |
|
8.0 |
% |
Gross profit margin |
|
83.6 |
% |
84.2 |
% |
(0.6) |
pts |
||
The software segment gross profit margin was 83.6 percent in the quarter, down 0.6 points year to year. The segment pre-tax profit margin was 21.4 percent, a decrease of 1.7 points. Software gross profit and pre-tax profit increased year to year despite the decline in margins which was driven by investments in acquisitions and internal development and sales.
23
Global Financing
See page 34 for a discussion of Global Financings revenue and gross profit.
Geographic Revenue
In addition to the revenue presentation by reportable segment, the company also measures revenue performance on a geographic basis. The following geographic, regional and country-specific revenue performance excludes OEM revenue, which is presented separately.
|
|
|
|
|
|
|
|
Yr. To Yr. |
|
||
|
|
|
|
|
|
|
|
Percent |
|
||
|
|
|
|
|
|
Yr. to |
|
Change |
|
||
|
|
|
|
|
|
Yr. |
|
Adjusting |
|
||
(Dollars in millions) |
|
|
|
|
|
Percent |
|
For |
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
Currency |
|
||
Geographies: |
|
|
|
|
|
|
|
|
|
||
Americas |
|
$ |
9,146 |
|
$ |
9,028 |
|
1.3 |
% |
1.3 |
% |
Europe/Middle East/Africa |
|
7,582 |
|
6,682 |
|
13.5 |
|
4.6 |
|
||
Asia Pacific |
|
4,472 |
|
4,076 |
|
9.7 |
|
9.0 |
|
||
OEM |
|
828 |
|
873 |
|
(5.1 |
) |
(5.2 |
) |
||
Total |
|
$ |
22,029 |
|
$ |
20,659 |
|
6.6 |
% |
3.6 |
% |
Revenue increased in all geographies in the first quarter of 2007 versus the first quarter of 2006, led by strong performance in Asia Pacific and improvements in Europe/Middle East/Africa (EMEA).
Americas revenue increased 1.3 percent (1 percent adjusted for currency), in the first quarter of 2007 versus the year-ago period. Revenue in Latin America increased 11.9 percent (10 percent adjusted for currency), Canada increased 1.5 percent (3 percent adjusted for currency) and the U.S. increased 0.3 percent. Growth from sales to small and medium business customers remained fairly steady. However, the company experienced a slowdown in sales to large enterprises in the U.S.
EMEA revenue increased 13.5 percent (5 percent adjusted for currency) in the first quarter of 2007 when compared to the first quarter of 2006. In the major countries, Germany increased 20.1 percent (10 percent adjusted for currency), the U.K. increased 12.8 percent (1 percent adjusted for currency), France increased 13.4 percent (4 percent adjusted for currency), Spain increased 20.0 percent (10 percent adjusted for currency) and Italy increased 6.9 percent (decreased 2 percent adjusted for currency). The rate of growth in Germany benefited from an improving economy and better sales execution.
Asia Pacific revenue increased 9.7 percent (9 percent adjusted for currency) in the first quarter of 2007 versus the first quarter of 2006, reflecting solid execution in a strong economy. This is the third consecutive quarter of revenue growth in the geography and the best performance in five years. Revenue increased in all regions, with double-digit growth in Australia/New Zealand, China and ASEAN/South Asia. Japan revenue increased 1.1 percent (3 percent adjusted for currency), continuing the recovery started in the second half of 2006. Good services signings, improved execution and implementation of a successful sales capacity maximization program contributed to the increased revenue.
The emerging countries of Brazil, Russia, India and China together grew 24.1 percent (21 percent adjusted for currency), driven by continuing customer investment to build out their infrastructures. Brazil grew 17.4 percent (13 percent adjusted for currency), Russia increased 0.6 percent (1 percent adjusted for currency), India increased 24.6 percent (24 percent adjusted for currency) and China increased 34.3 percent (31 percent adjusted for currency).
OEM revenue decreased 5.1 percent (5 percent adjusted for currency) in the first quarter of 2007 when compared to a very strong first quarter of 2006. As anticipated, demand for the companys game processors has moderated.
24
Expense
The Total expense and other income to revenue ratio was 28.5 percent for the first quarter of 2007 versus 27.3 percent for the first three months of 2006. The company has made significant changes to the mix of its business, investing in higher value capabilities, including strategic acquisitions, while divesting of commoditizing businesses. This has contributed to higher gross margins, which have increased over five points from 2002 to 2006. These higher value businesses also require higher operating expenses reflecting the ongoing investment required to develop and sell higher value capabilities. The company expects a similar level of expense growth through the second quarter of this year, with some moderation of the growth rate in the second half of the year.
For additional information regarding Total expense and other income, see the following analyses by category.
Selling, general and administrative expense
|
|
|
|
|
|
Yr. To Yr. |
|
||
(Dollars in millions) |
|
|
|
|
|
Percent |
|
||
For the period ended March 31: |
|
2007 |
|
2006* |
|
Change |
|
||
Selling, general and administrative expense: |
|
|
|
|
|
|
|
||
Selling, general and administrative base |
|
$ |
4,412 |
|
$ |
3,957 |
|
11.5 |
% |
Advertising and promotional expense |
|
292 |
|
281 |
|
4.0 |
|
||
Workforce reductions ongoing |
|
55 |
|
34 |
|
59.2 |
|
||
Restructuring |
|
10 |
|
5 |
|
97.1 |
|
||
Amortization expense acquired intangibles |
|
59 |
|
54 |
|
8.6 |
|
||
Retirement-related expense |
|
152 |
|
151 |
|
0.6 |
|
||
Stock-based compensation |
|
112 |
|
122 |
|
(8.9 |
) |
||
Bad debt expense |
|
(2 |
) |
(3 |
) |
(32.1 |
) |
||
Total |
|
$ |
5,089 |
|
$ |
4,602 |
|
10.6 |
% |
* Reclassified to conform with 2007 presentation.
Total Selling, general and administrative (SG&A) expense increased 10.6 percent (8 percent adjusted for currency) in the first quarter of 2007 versus the first quarter of 2006. The increase was driven by the companys investment in acquisitions which accounted for approximately 5 points of the increase. The company has made good progress in integrating the acquisitions completed in the second half of 2006, but these acquisitions are not accretive in the first year, and as a result impact the companys profitability in the short term. In addition, investments the company is making in its software and services businesses, as well as emerging markets, contributed approximately 3 points of the increase, and approximately 3 points of the increase was due to the impact of currency.
Other (income) and expense
|
|
|
|
|
|
Yr. to Yr. |
|
||
(Dollars in millions) |
|
|
|
|
|
Percent |
|
||
For the period ended March 31: |
|
2007 |
|
2006* |
|
Change |
|
||
Other (income) and expense: |
|
|
|
|
|
|
|
||
Foreign currency transaction losses /(gains) |
|
$ |
(24 |
) |
$ |
(20 |
) |
24.2 |
% |
Losses/(gains) on derivative instruments |
|
64 |
|
(31 |
) |
nm |
|
||
Interest income |
|
(138 |
) |
(151 |
) |
(8.6 |
) |
||
Net gains from securities and investment assets |
|
(51 |
) |
(1 |
) |
nm |
|
||
Net realized (gains)/losses from certain real estate activities |
|
(2 |
) |
|
|
nm |
|
||
Other |
|
(27 |
) |
(43 |
) |
(35.8 |
) |
||
Total |
|
$ |
(180 |
) |
$ |
(246 |
) |
(27.0 |
)% |
* Reclassified to conform with 2007 presentation.
nm not meaningful
25
Other (income) and expense was income of $180 million in the first quarter 2007, a decrease of 27.0 percent versus the first quarter of 2006. The company hedges its major cross-border cash flows to mitigate the effect of currency volatility in the year-over-year results. The impact of these hedging programs is primarily reflected in Other (income) and expense, as well as cost of goods sold. This quarter, losses from derivatives resulted in $95 million of year-to-year impact to Other (income) and expense. This impact was partially offset by an increase in net gains from sale of securities, primarily from the sale of Lenovo stock in the first quarter of 2007. As a result of the sale of Lenovo stock, the companys ownership in Lenovo declined from 14.7 percent to 11.3 percent, with voting ownership at 7.4 percent.
Research, Development and Engineering
|
|
|
|
|
|
Yr. to Yr. |
|
||
(Dollars in millions) |
|
|
|
|
|
Percent |
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
||
Research, development and engineering: |
|
|
|
|
|
|
|
||
Total |
|
$ |
1,509 |
|
$ |
1,456 |
|
3.7 |
% |
Research, development and engineering expense increased 3.7 percent in the first quarter of 2007 versus the first quarter of 2006 primarily driven by Software acquisitions.
Intellectual Property and Custom Development Income
|
|
|
|
|
|
Yr. to Yr. |
|
||
(Dollars in millions) |
|
|
|
|
|
Percent |
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
||
Intellectual Property and Custom Development |
|
|
|
|
|
|
|
||
Income: |
|
|
|
|
|
|
|
||
Sales and other transfers of intellectual property (IP) |
|
$ |
19 |
|
$ |
56 |
|
(66.4 |
)% |
Licensing/royalty-based fees |
|
77 |
|
78 |
|
(0.8 |
) |
||
Custom development income |
|
109 |
|
95 |
|
14.0 |
|
||
Total |
|
$ |
205 |
|
$ |
229 |
|
(10.6 |
)% |
The timing and amount of Sales and other transfers of IP may vary significantly from period to period depending upon the timing of divestitures, economic conditions, industry consolidation and the timing of new patents and know-how development. There were no significant IP transactions in the quarter.
Interest Expense
|
|
|
|
|
|
Yr. to Yr. |
|
||
(Dollars in millions) |
|
|
|
|
|
Percent |
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
||
Interest expense: |
|
|
|
|
|
|
|
||
Total |
|
$ |
73 |
|
$ |
66 |
|
9.7 |
% |
The increase in Interest expense was primarily due to higher interest rates and higher average non-Global Financing debt in the first quarter of 2007 versus first quarter of 2006.
Interest expense is presented in Cost of Financing in the Consolidated Statement of Earnings only if the related external borrowings are to support the Global Financing external business. See page 37 for additional information regarding Global Financing debt and interest expense.
26
Retirement-Related Plans
The following table provides the total pre-tax cost for all retirement-related plans. Cost amounts are included as an element in the cost and expense amounts in the Consolidated Statement of Earnings within the caption (e.g., Cost, SG&A, RD&E) relating to the job function of the individuals participating in the plans.
|
|
|
|
|
|
Yr. to Yr. |
|
||
(Dollars in millions) |
|
|
|
|
|
Percent |
|
||
For the period ended March 31: |
|
2007 |
|
2006 |
|
Change |
|
||
Retirement-related pla |