Exhibit 13

Report of Financials

International Business Machines Corporation and Subsidiary Companies

Management Discussion
Overview		18
Forward-Looking and Cautionary Statements		18
Management Discussion Snapshot		18
Description of Business		20
Year in Review		25
Prior Year in Review		39
Other Information		46
Looking Forward		46
Liquidity and Capital Resources		47
Critical Accounting Estimates		50
Currency Rate Fluctuations		53
Market Risk		53
Financing Risks		54
Employees and Related Workforce		54
Global Financing		55
Report of Management		60
Report of Independent Registered Public Accounting Firm		61
Consolidated Financial Statements
Earnings		62
Financial Position		63
Cash Flows		64
Changes in Equity		65
Notes to Consolidated Financial Statements
A	Significant Accounting Policies	68
B	Accounting Changes	79
C	Acquisitions/Divestitures	81
D	Fair Value	86
E	Financial Instruments (Excluding Derivatives)	88
F	Inventories	90
G	Financing Receivables	90
H	Plant, Rental Machines and Other Property	92
I	Investments and Sundry Assets	92
J	Intangible Assets Including Goodwill	93
K	Borrowings	94
L	Derivative Financial Instruments	96
M	Other Liabilities	102
N	Equity Activity	103
O	Contingencies and Commitments	103
P	Taxes	106
Q	Research, Development and Engineering	108
R	Earnings Per Share of Common Stock	108
S	Rental Expense and Lease Commitments	109
T	Stock-Based Compensation	109
U	Retirement-Related Benefits	112
V	Segment Information	126
W	Subsequent Event	130
Five-Year Comparison of Selected Financial Data		131
Selected Quarterly Data		132
Performance Graphs		133
Board of Directors and Senior Leadership		135
Stockholder Information		136

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Management Discussion

International Business Machines Corporation and Subsidiary Companies

Overview

The financial section of the International Business Machines Corporation (IBM or the company) 2010 Annual Report includes the Management Discussion, the Consolidated Financial Statements and the Notes to the Consolidated Financial Statements. This Overview is designed to provide the reader with some perspective regarding the information contained in the financial section.

Organization of Information

·The Management Discussion is designed to provide readers with an overview of the business and a narrative on the company’s financial results and certain factors that may affect its future prospects from the perspective of the company’s management. The “Management Discussion Snapshot” on pages 18 to 20 presents an overview of the key performance drivers in 2010.

·Beginning with the “Year in Review” on page 25, the Management Discussion contains the results of operations for each reportable segment of the business and a discussion of the company’s financial position and cash flows. Other key sections within the Management Discussion include: “Looking Forward” on pages 46 and 47 and “Liquidity and Capital Resources” on pages 47 to 50. It is useful to read the Management Discussion in conjunction with note V, “Segment Information,” on pages 126 to 130.

·Global Financing is a reportable segment that is measured as a standalone entity. A separate “Global Financing” section is included beginning on page 55.

·The Consolidated Financial Statements are presented on pages 62 through 67. These statements provide an overview of the company’s income and cash flow performance and its financial position.

·The Notes follow the Consolidated Financial Statements. Among other items, the Notes contain the company’s accounting policies (pages 68 to 79), acquisitions and divestitures (pages 81 to 86), detailed information on specific items within the financial statements, certain contingencies and commitments (pages 103 through 105), and retirement-related benefits information (pages 112 through 126).

·The Consolidated Financial Statements and the Notes have been prepared in accordance with accounting principles generally accepted in the United States (GAAP).

·The references to “adjusted for currency” or “at constant currency” in the Management Discussion are made so that certain financial results can be viewed without the impact of fluctuations in foreign currency exchange rates, thereby facilitating period-to-period comparisons of business performance. Financial results adjusted for currency are calculated by translating current period activity in local currency using the comparable prior year period’s currency conversion rate. This approach is used for countries where the functional currency is the local country currency. See “Currency Rate Fluctuations” on page 53 for additional information.

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

Forward-Looking and Cautionary Statements

Certain statements contained in this Annual Report may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Any forward-looking statement in this Annual Report speaks only as of the date on which it is made; the company assumes no obligation to update or revise any such statements. Forward-looking statements are based on the company’s current assumptions regarding future business and financial performance; these statements by their nature address matters that are uncertain to different degrees. Forward-looking statements involve a number of risks, uncertainties and other factors that could cause actual results to be materially different, as discussed more fully elsewhere in this Annual Report and in the company’s filings with the Securities and Exchange Commission (SEC), including the company’s 2010 Form 10-K filed on February 22, 2011.

Management Discussion Snapshot

($ and shares in millions except per share amounts)

							Yr.-to-Yr.
							Percent/
							Margin
For the year ended December 31:	2010			2009			Change
Revenue	$	99,870		$	95,758		4.3	%*
Gross profit margin	46.1		%	45.7		%	0.3	pts.
Total expense and other income	$	26,291		$	25,647		2.5	%
Total expense and other income-to-revenue ratio	26.3		%	26.8		%	(0.5	)pts.
Income before income taxes	$	19,723		$	18,138		8.7	%
Provision for income taxes	4,890			4,713			3.8	%
Net income	$	14,833		$	13,425		10.5	%
Net income margin	14.9		%	14.0		%	0.8	pts.
Earnings per share of common stock:
Assuming dilution	$	11.52		$	10.01		15.1	%
Weighted-average shares outstanding:
Assuming dilution	1,287.4			1,341.4			(4.0	)%
Assets**	$	113,452		$	109,022		4.1	%
Liabilities**	$	90,279		$	86,267		4.7	%
Equity**	$	23,172		$	22,755		1.8	%

*	3.3 percent adjusted for currency.
**	At December 31.

In 2010, the company delivered strong financial results highlighted by improved revenue performance, continued margin expansion, solid cash generation and record levels of net income and earnings per share. The financial performance continues to be driven by the

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strength of the company’s global model and the results of the strategic transformation of the business.

The company’s transformation, which started at the beginning of the decade, has been focused on shifting the business to higher value areas of the market, improving operating leverage through productivity and investing in opportunities to drive future growth. The overall changes to the business have been dramatic. Several examples demonstrate the success of this transformation.

To capture the opportunity that exists in the emerging markets, the company created a dedicated management system and invested to drive market expansion and infrastructure development. Since 2000, the company has added $10 billion in annual revenue from its growth markets, and with a revenue growth rate that has consistently exceeded the major markets, the revenue contribution from the growth markets has increased significantly to 21 percent of total geographic revenue in 2010.

Across the company’s portfolio, there has been a shift to higher value areas while divesting commoditizing businesses. These actions have contributed to a significant change in the mix of the business. In 2000, Global Services segment pre-tax income was $4.5 billion; in 2010, it was over $8 billion. The Software growth is even more dramatic. In 2000, Software segment pre-tax income was $2.8 billion; in 2010, it was over $9 billion, tripling since 2000 and now representing 44 percent of total segment pre-tax income.

At the consolidated level, since 2000, the company has added $10 billion of pre-tax income, nearly tripled earnings per share and generated over $162 billion in cash flow from operating activities. The strong profit and cash generation has enabled the company to invest in the business, while delivering significant shareholder returns. In the past 10 years, the company has invested almost $60 billion in research and development and approximately $32 billion in acquiring 116 companies, adding to its capabilities in high- value areas like business analytics and smarter planet. From 2001-2010, the company returned $107 billion to shareholders through share repurchases and dividends, with almost $19 billion in 2010. The company’s performance in 2010 marked the end of a very successful decade. The changes that the company has made over the last 10 years have strengthened the business and position it well going forward.

For the year, the company delivered $11.52 in diluted earnings per share, an increase of 15.1 percent year to year. This was the eighth consecutive year of double-digit earnings per share growth. In 2007, the company developed a road map for growth with an earnings per share objective for 2010 of $10 to $11 per share. With its performance in 2010, the company exceeded the low end of its objective by $1.52 per share and the high end by $0.52 per share. The resilience of the business model enabled the company to exceed its objective even while managing through the severe global recession.

Total revenue for 2010 increased 4.3 percent (3 percent adjusted for currency) compared to 2009; excluding the divested Product Lifecycle Management (PLM) operations, total revenue increased 4.9 percent (4 percent adjusted for currency). Revenue from the growth markets increased 16.0 percent (11 percent adjusted for currency) with performance led by the BRIC countries of Brazil, Russia, India and China which increased 18 percent, adjusted for currency. Within the growth markets, 40 countries grew revenue at a double-digit rate at constant currency in 2010 compared to the prior year. Segment performance was driven by Systems and Technology which increased 11.0 percent year to year (11 percent adjusted for currency) and Software which increased 5.1 percent (5 percent adjusted for currency). Software revenue, excluding PLM, grew 8.1 percent (8 percent adjusted for currency).Within Software, performance was led by key branded middleware which increased 10.8 percent (11 percent adjusted for currency) compared to the prior year. Systems and Technology revenue growth was driven by new product introductions and very strong performance in the growth markets which increased 20 percent (19 percent adjusted for currency).

The consolidated gross profit margin increased 0.3 points versus 2009 to 46.1 percent, reflecting the improved business mix, operating leverage and the continued success of the company’s productivity initiatives. This was the seventh consecutive year of improvement in the gross profit margin. Gross profit margin performance by segment and the impact to the consolidated gross margin was as follows:

	Gross		Yr.-to-Yr.		Consolidated
	Margin		Change		Impact
Global Technology Services	34.7	%	(0.3	)pts.	(0.0	)pts.
Global Business Services	28.3	%	0.0	pts.	0.0	pts.
Software	86.9	%	0.9	pts.	0.3	pts.
Systems and Technology	38.5	%	0.7	pts.	0.0	pts.
Global Financing	51.3	%	3.8	pts.	0.1	pts.

In 2010, the company continued to invest for innovation and growth. These investments supported the introduction of the new System z mainframe and POWER7 products and the success in the performance of the growth markets. The company also invested $6 billion to acquire 17 companies, adding significant new capabilities to support its growth initiatives.

Total expense and other income increased 2.5 percent in 2010 versus 2009. The year-to-year drivers were approximately:

·Operational expense, (2) points

·Currency,* 1 point

·Acquisitions,** 3 points

*	Reflects impacts of translation and hedging programs.
**	Includes acquisitions completed in prior 12-month period.

Pre-tax income grew 8.7 percent and the pre-tax margin was 19.7 percent, an increase of 0.8 points versus 2009. Net income increased 10.5 percent reflecting an improvement in the tax rate. The effective tax rate was 24.8 percent, compared with 26.0 percent in the prior year. Net income margin improved 0.8 points to 14.9 percent.

Diluted earnings per share improved 15.1 percent reflecting the strong growth in net income and the benefits of the common stock repurchase program. In 2010, the company repurchased approximately 118 million shares of its common stock. Diluted earnings per

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share of $11.52 increased $1.51 from the prior year driven by the following factors:

·Revenue increase at actual rates, $0.43

·Operating leverage, $0.62

·Common stock repurchases, $0.46

At December 31, 2010, the company’s balance sheet and liquidity positions remained strong. Cash and marketable securities at year end were $11,651 million. Total debt of $28,624 million increased $2,525 million year to year, and the company generated $19,549 million in operating cash flow in 2010. The company has consistently generated strong cash flow from operations and also continues to have access to additional sources of liquidity through the capital markets and its global credit facility.

Key drivers in the company’s balance sheet and total cash flows are highlighted below.

Total assets increased $4,430 million ($3,609 million adjusted for currency) from December 31, 2009, driven by:

·Increased goodwill ($4,946 million) and intangible assets ($975 million) driven by 2010 acquisitions;

·Higher level of total receivables ($1,337 million) and increased total other assets ($679 million), partially offset by;

·Decreases in cash and cash equivalents ($1,522 million) and marketable securities ($800 million); and

·Lower total deferred taxes ($1,140 million).

Total liabilities increased $4,012 million ($3,673 million adjusted for currency) from December 31, 2009 driven by:

·Higher total debt ($2,525 million);

·Increase in deferred income ($839 million); and an

·Increase in compensation and benefits ($523 million).

Total equity of $23,172 million increased $418 million from the prior year-end balance as a result of:

·Higher retained earnings ($11,632 million);

·Increase in common stock ($3,608 million);

·Increase in foreign currency translation adjustments ($643 million); and an

·Increase in net unrealized gains on hedge of cash flow derivatives ($385 million), partially offset by an;

·Increase in treasury stock ($14,918 million); and a

·Decrease in retirement-related items ($992 million).

The company generated $19,549 million in cash flow provided by operating activities, a decrease of $1,224 million, compared to 2009, primarily driven by a decrease in cash from total receivables ($2,620 million), partially offset by the increase in net income ($1,408 million). Net cash used in investing activities of $8,507 million was $1,778 million higher than 2009, primarily due to increased acquisitions ($4,728 million), decreased cash from divestitures ($345 million) and increased net capital spending ($299 million), partially offset by the year-to-year net impacts related to marketable securities and other investments ($3,753 million).

Net cash used in financing activities of $12,429 million was $2,271 million lower versus 2009, primarily due to the net benefit from debt ($9,812 million) and an increase in cash from other common stock transactions ($722 million), partially offset by higher common stock repurchases ($7,946 million).

The estimated Global Services backlog was $142 billion at December 31, 2010, up $5 billion ($4 billion adjusted for currency) versus the prior year-end balance.

In January 2011, the company disclosed that it is expecting GAAP earnings of at least $12.56 and operating (non-GAAP) earnings of at least $13.00 per diluted share for the full year 2011. For additional information on the company’s use of operating (non-GAAP) earnings, see the “Looking Forward” section on pages 46 and 47.

For additional information and details, see the “Year in Review” section on pages 25 to 39.

Description of Business

Please refer to IBM’s Annual Report on Form 10-K filed with the SEC on February 22, 2011 for a more detailed version of this Description of Business, especially Item 1A. entitled “Risk Factors.”

The company creates business value for clients and solves business problems through integrated solutions that leverage information technology and deep knowledge of business processes. IBM solutions typically create value by reducing a client’s operational costs or by enabling new capabilities that generate revenue. These solutions draw from an industry-leading portfolio of consulting, delivery and implementation services, enterprise software, systems and financing.

Strategy

Despite the volatility of the information technology (IT) industry over the past decade, IBM has consistently delivered superior performance, with a steady track record of sustained earnings per share growth. The company has shifted its business mix, exiting commoditized segments while increasing its presence in higher-value areas such as services, software and integrated solutions. As part of this shift, the company has acquired 116 companies this past decade, complementing and scaling its portfolio of products and offerings.

IBM’s clear strategy has enabled steady results in core business areas, while expanding its offerings and addressable markets. The key tenets of this strategy are:

·Deliver value to enterprise clients through integrated business and IT innovation;

·Shift the business mix to higher-value areas; and

·Become the premier globally integrated enterprise

These priorities reflect a broad shift in client spending away from “point products’’ and toward integrated solutions, as companies seek higher levels of business value from their IT investments. IBM has been able to deliver this enhanced client value thanks to its industry expertise, understanding of clients’ businesses and the breadth and depth of the company’s capabilities.

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Consistent with this strategy IBM is leveraging its capabilities to build and expand strong positions in targeted growth areas. IBM’s growth initiatives include Smarter Planet, Growth Markets, Business Analytics and Optimization, and Cloud Computing. Each initiative represents a significant growth opportunity with attractive profit margins for IBM.

Smarter Planet

Smarter Planet is an overarching strategy that highlights IBM’s differentiated capabilities and generates broad-based demand for the company’s products and services. Smarter Planet encapsulates IBM’s view of enterprise IT’s next major revolution: the instrumentation and integration of the world’s processes and infrastructures—from energy grids and pipelines to supply chains and traffic systems. The amount of data these systems can generate can now be captured and analyzed. This infusion of intelligence enables more efficiency, productivity and responsiveness.

Clients seeking these “smart” solutions value IBM’s deep industry and process expertise, powerful back-end systems and data analytics, complex systems integration capability and unique research capacity. IBM has built a series of horizontal solutions through organic development and strategic acquisitions including smarter commerce and smarter physical infrastructure. IBM’s Industry Frameworks provide a flexible software foundation for developing, acquiring and deploying these smart industry solutions. Each framework supports multiple solutions, enabling fast, efficient and tailored capabilities in support of clients’ business needs. These frameworks represent a proven technique for the company to engage with its clients, driving sustained growth and high business value in support of our Smarter Planet strategy.

Growth Markets

The company has benefited from its investments over the past several years in growth markets. The focus now is on geographic expansion of IBM’s presence; on specific industry verticals of the highest impact and opportunity; on countries’ build-out of infrastructure aligned with their national agendas; and on creating markets and new business models to serve the different requirements that exist in these emerging countries.

In order to support this growth, IBM is continuing to invest significantly in these markets to expand capacity and develop talent. At the same time, IBM is expanding and benefiting from large teams of talent with global missions of delivery. The company continues to deepen its research and development (R&D) teams to design for the unique challenges and rapid growth facing these markets.

Business Analytics and Optimization

Business optimization through the application of analytics across the business has emerged as another major category of business value. It succeeds earlier generations of back-office automation, basic enterprise resource planning and traditional business intelligence. Business analytics allows clients to see patterns in data they could not see before, understand their exposure to risk, and predict the outcomes of business decisions with greater certainty.

IBM’s approach is end-to-end, providing cross-enterprise as well as industry-based analytics solutions. IBM has established the Business Analytics and Optimization practice, leveraging IBM consulting capabilities and software products, along with systems and research assets. IBM’s breadth of expertise uniquely positions the company for revenue and profit growth.

Cloud Computing

Cloud is a new model for consuming and delivering IT and business services. It can deliver significant economies of scale, higher qualities of service and a new platform for business model innovation. The power of the model comes from harnessing vast stores of under-utilized technology with highly efficient virtualization and management, consumer-style user interfaces and the ubiquitous broadband.

IBM has helped thousands of clients adopt aspects of cloud computing. IBM is helping them build their own cloud-based infrastructures, provide security and integration services or offering infrastructure and business services from the IBM Cloud, including advanced analytics, collaboration, and IT infrastructure including virtual servers and storage or access to tools for testing software. IBM brings expert consulting, breakthrough technologies and a portfolio of cloud services squarely focused on the requirements of the enterprise. IBM has also implemented the cloud model within IBM in areas as diverse as sales analytics and research collaboration.

Business Model

The company’s business model is built to support two principal goals: helping clients succeed in delivering business value by becoming more innovative, efficient and competitive through the use of business insight and IT solutions; and providing long-term value to shareholders. The business model has been developed over time through strategic investments in capabilities and technologies that have the best long-term growth and profitability prospects based on the value they deliver to clients.

The company’s global capabilities include services, software, systems, fundamental research and related financing. The broad mix of businesses and capabilities are combined to provide business insight and solutions for the company’s clients.

The business model is resilient, adapting to the continuously changing market and economic environment. The company continues to divest commoditizing businesses and strengthen its position through strategic organic investments and acquisitions in higher-value segments like business analytics, smarter planet and cloud computing. In addition, the company has transformed itself into a globally integrated enterprise which has improved overall productivity and is driving investment and expanding participation in the world’s fastest growing markets. As a result, the company is a higher performing enterprise today than it was several years ago. 

This business model, supported by the company’s long-term financial model, has enabled the company to deliver consistently strong earnings, cash flows and returns to shareholders in changing economic environments.

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Business Segments and Capabilities

The company’s major operations consists of five business segments: Global Technology Services, Global Business Services, Software, Systems and Technology and Global Financing.

Global Services is a critical component of the company’s strategy of providing IT infrastructure and business insight and solutions to clients. While solutions often include industry-leading IBM software and systems, other suppliers’ products are also used if a client solution requires it. Approximately 60 percent of external Global Services segment revenue is annuity-based, coming primarily from outsourcing, maintenance and application management services arrangements. The Global Services backlog provides a solid revenue base entering each year. Within Global Services, there are two reportable segments: Global Technology Services and Global Business Services.

Global Technology Services (GTS) primarily provides IT infrastructure services and business process services, delivering business value through the company’s global scale, standardization and automation.

GTS Capabilities

Strategic Outsourcing Services. Comprehensive IT outsourcing services dedicated to transforming clients’ existing infrastructures to ensure better quality, flexibility, risk management and financial value. IBM integrates long-standing experience in service management, technology and industry applications with new technologies, such as cloud computing and virtualization, to help clients maximize the application of technology to achieve their business objectives.

Global Process Services. A range of offerings from standardized processing platforms and business process outsourcing through transformational offerings that deliver improved business results to clients through the strategic change and/or operation of the client’s business processes, applications and infrastructure (previously known as Business Transformation Outsourcing).

Integrated Technology Services. Project-based portfolio of services that enable clients to optimize their IT environments by driving efficiency, flexibility and productivity, while reducing costs. The standardized portfolio is built around key assets and patented software, and incorporates best practices and proven methodologies that ensure predictive quality of delivery, security and compliance.

Maintenance. A complete line of support services from product maintenance through solution support to maintain and improve the availability of clients’ IT infrastructures.

GTS Services Delivery. Responsible for the worldwide delivery of IBM’s technology- and process-based services. In support of technology-based services, GTS Services Delivery manages the world’s largest privately owned IT infrastructure with employees in over 40 countries, supporting approximately 430 data centers. Operating in a globally integrated delivery model enables regional client-facing teams to utilize a global network of competencies and centers. Each competency provides industry-leading, standardized, integrated tools and processes. By leveraging insights and experience drawn from IBM’s global scale, skills and technology, with applied innovation from IBM Research, clients gain access to leading-edge, high-quality services with improved productivity, flexibility and cost.

GTS Services Delivery also provides efficient, world-class delivery capabilities in support of IBM’s process-based services, which include Business Transformation Outsourcing, Business Process Outsourcing and Business Process Services. These delivery capabilities are available to clients through highly skilled employees and delivery centers in over 40 countries worldwide.

Global Business Services (GBS) primarily provides professional services and application management services, delivering business value and innovation to clients through solutions which leverage industry and business-process expertise while integrating the industry-leading portfolio of IBM and strategic partners, to define the upper end of client-valued services.

GBS Capabilities

Consulting and Systems Integration. Delivery of value to clients through consulting services for Strategy and Transformation; Application Innovation Services; Enterprise Applications (SAP and Oracle) and Business Analytics and Optimization.

Application Management Services. Application development, management, maintenance and support services for packaged software, as well as custom and legacy applications. Value is delivered through advanced capabilities in areas such as applications testing and modernization, cloud application security, the company’s highly differentiated globally integrated capability model, industry knowledge and the standardization and automation of application development.

Software consists primarily of middleware and operating systems software. Middleware software enables clients to integrate systems, processes and applications across a standard software platform. IBM middleware is designed on open standards, making it easier to integrate disparate business applications, developed by different methods and implemented at different times. Operating systems are the software engines that run computers. Approximately two-thirds of external software segment revenue is annuity-based, coming from recurring license charges and ongoing subscription and support. The remaining one-third relates to one-time charge (OTC) arrangements in which clients pay one, up-front payment for a perpetual license. Typically, the sale of OTC software includes one year of subscription and support. Clients can also purchase ongoing subscription and support after the first year, which includes product upgrades and technical support.

Software Capabilities

WebSphere Software. Delivers capabilities that enable clients to integrate and manage business processes across their organizations with the flexibility and agility they need to respond to changing

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conditions quickly. With a services-oriented architecture (SOA), businesses can more easily link together their fragmented data and business processes to extract value from their existing technology.

Information Management Software. Enables clients to integrate, manage and use their information to gain business value and improve their outcomes. Solutions include advanced database management, enterprise content management, information integration, data warehousing, business analytics and intelligence, performance management and predictive analytics.

Tivoli Software. Helps clients manage their technology and business assets by providing visibility, control and automation across their organizations. With solutions for identity management, data security, storage management and the ability to provide automation and provisioning of the datacenter, Tivoli helps build the infrastructure needed to make the world’s systems—from transportation to water, energy and telecommunications—run smarter.

Lotus Software. Enables businesses to connect people and processes for more effective communication and increased productivity through collaboration, messaging and social networking software. By remaining at the forefront of collaboration tools, Lotus helps organizations reap the benefits of social networking and other Web 2.0 modalities.

Rational Software. Supports software development for both IT and embedded system solutions with a suite of Application Lifecycle Management products. Jazz, Rational’s technology platform, transforms the way people work together to build software, making software delivery more collaborative, productive and transparent.

Business Analytics. Enables clients to better analyze their data and predict outcomes in order to make better business decisions. Solutions include Cognos’ business intelligence software, which provides comprehensive tools that range from querying to forecasting; as well as SPSS predictive analytics software that helps clients predict outcomes and act on that insight.

Operating Systems. Software that manages the fundamental processes that make computers run.

Systems and Technology provides clients with business solutions requiring advanced computing power and storage capabilities. Approximately half of Systems and Technology’s server and storage sales transactions are through the company’s business partners; with the balance direct to end-user clients. In addition, Systems and Technology provides leading semiconductor technology, products and packaging solutions to clients and for IBM’s own advanced technology needs.

Systems and Technology Capabilities

Systems. A range of general purpose and integrated systems designed and optimized for specific business, public and scientific computing needs. These systems—System z, Power Systems and System x—are typically the core technology in data centers that provide required infrastructure for business and institutions. Also, these systems form the foundation for IBM’s integrated offerings, such as IBM Smart Business Storage Cloud, IBM Smart Analytics Cloud, IBM Smart Analytics System and IBM CloudBurst. IBM servers use both IBM and non-IBM microprocessor technology and operating systems. All IBM servers run Linux, a key open-source operating system.

Storage. Data storage products and solutions that allow clients to retain and manage rapidly growing, complex volumes of digital information. These solutions address critical client requirements for information retention and archiving, data deduplication, availability and virtualization, and security and compliance. The portfolio consists of a broad range of disk and tape storage systems and software, including the ultra-scalable disk storage system XIV.

Retail Store Solutions. Point-of-sale retail systems (network connected cash registers) as well as solutions which connect them to other store systems.

Microelectronics. Semiconductor design and manufacturing primarily for use in IBM systems and storage products as well as delivering semiconductors and related services to external clients.

Global Financing facilitates clients’ acquisition of IBM systems, software and services. Global Financing invests in financing assets, leverages with debt and manages the associated risks with the objective of generating consistently strong returns on equity. The primary focus on the company’s offerings and clients mitigates many of the risks normally associated with a financing company. Global Financing has the benefit of both a deep knowledge of its client base and a clear insight into the products and services that are being financed. This combination allows Global Financing to effectively manage two of the major risks (credit and residual value) that are normally associated with financing.

Global Financing Capabilities

Client Financing. Lease and loan financing to end users and internal clients for terms generally between two and seven years. Internal financing is predominantly in support of Global Services’ long-term client service contracts. Global Financing also factors a selected portion of the company’s accounts receivable, primarily for cash management purposes. All internal financing arrangements are at arm’s-length rates and are based upon market conditions.

Commercial Financing. Short-term inventory and accounts receivable financing to dealers and remarketers of IT products.

Remanufacturing and Remarketing. As equipment is returned at the conclusion of a lease transaction, these assets are refurbished and sold or leased to new or existing clients both externally and internally. Externally remarketed equipment revenue represents sales or leases to clients and resellers. Internally remarketed equipment revenue primarily represents used equipment that is sold or leased internally to Systems and Technology and Global Services. Systems and Technology may also sell the equipment that it purchases from Global Financing to external clients.

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IBM Worldwide Organizations

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

·Sales and Distribution

·Research, Development and Intellectual Property

·Enterprise Transformation

·Integrated Supply Chain

Sales and Distribution

IBM has a significant global presence, operating in more than 170 countries, with an increasingly broad-based geographic distribution of revenue. The company’s Sales and Distribution organization manages a strong global footprint, with dedicated country-based operating units focused on delivering client value. Within these units, client relationship professionals work with integrated teams of consultants, product specialists and delivery fulfillment teams to improve clients’ business performance. These teams deliver value by understanding the clients’ businesses and needs, and then bring together capabilities from across IBM and an extensive network of Business Partners to develop and implement solutions. 

By combining global expertise with local experience, IBM’s geographic structure enables dedicated management focus for local clients, speed in addressing new market opportunities and timely investments in emerging opportunities. The geographic units align industry-skilled resources to serve clients’ agendas. IBM extends capabilities to mid-market client segments by leveraging industry skills with marketing, ibm.com and local Business Partner resources.

Through its growth markets organization, the company continues to increase its focus on the emerging markets around the world that have market growth rates greater than the global average — countries within Southeast Asia, Eastern Europe, the Middle East and Latin America. The company’s major markets include the United States (U.S.), Canada, the United Kingdom (U.K.), France, Germany, Italy, Japan, Denmark, Sweden, Switzerland, Austria, Belgium, Finland, Greece, Iceland, Ireland, Malta, the Netherlands, Portugal, Cyprus, Norway, Israel, Spain, the Bahamas and the Caribbean region.

The majority of IBM’s revenue, excluding the company’s original equipment manufacturer (OEM) technology business, occurs in industries that are broadly grouped into six sectors:

·Financial Services: Banking, Financial Markets, Insurance

·Public: Education, Government, Healthcare, Life Sciences

·Industrial: Aerospace and Defense, Automotive, Chemical and Petroleum, Electronics

·Distribution: Consumer Products, Retail, Travel and Transportation

·Communications: Telecommunications, Media and Entertainment, Energy and Utilities

·General Business: Mainly companies with fewer than 1,000 employees

Research, Development and Intellectual Property

IBM’s R&D operations differentiate the company from its competitors. IBM annually invests approximately $6 billion for R&D, focusing on high-growth, high-value opportunities. The company has rebalanced its internal R&D. Today, IBM’s portfolio is built around networked, modularized and embedded technologies, as well as business intelligence and analytics. In 2010, the company was once again awarded more U.S. patents than any other company, the 18th consecutive year IBM has been the patent leader. IBM’s 5,896 patents in 2010 were the most U.S. patents ever awarded to one company in a single year. Over 70 percent of the patents issued in 2010 were for software and services. The company’s R&D efforts continue to push the frontiers of science and technology—from analytics to cloud, to a computer named Watson that applied advanced analytics to defeat the all-time champions on the television quiz show, Jeopardy! Watson represents a tremendous breakthrough in the ability of computers to understand natural language and analyze massive amounts of data. It signals a new era in computing, where computers will increasingly be built and optimized for specific tasks and be able to learn.

In addition to producing world-class systems, software and technology products, IBM innovations are also a major differentiator in providing solutions for the company’s clients through its services businesses. As an example, the math department at IBM Research - the largest math department in the world housed in one institution – helps enterprises more effectively capture and analyze massive amounts of data to improve their business performance.

The company will continue to actively seek intellectual property protection for its innovations, while increasing emphasis on other initiatives designed to leverage its intellectual property leadership. The company’s investments in R&D also result in intellectual property (IP) income of approximately $1 billion annually. Some of IBM’s technological breakthroughs are used exclusively in IBM products, while others are licensed and may be used in either/both IBM products and/or the products of the licensee. While the company’s various proprietary intellectual property rights are important to its success, IBM believes its business as a whole is not materially dependent on any particular patent or license, or any particular group of patents or licenses. IBM owns or is licensed under a number of patents, which vary in duration, relating to its products. Licenses under patents owned by IBM have been and are being granted to others under reasonable terms and conditions.

Enterprise Transformation

A key element of the company’s strategy has been focused on becoming the premier globally integrated enterprise. In the early part of the decade, the company drove implementation of a consistent set of processes and standards worldwide to reduce inefficiencies and improve collaboration. With its processes fully integrated, the company implemented a new operating model with work shared in

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global resource centers of excellence located where it made the most business sense. Since 2005, global integration has enabled the company to reduce spending by over $5 billion and improve service quality, speed and risk management. The company has shifted resources toward building client relationships and employees skills, while positioning the company for new market opportunities. During this period, IBM has pioneered this new operating model, changing from a classic “multinational”, with smaller versions of the parent company replicated in countries around the world, to a global model with one set of processes, shared services and broadly distributed decision making.

The company is now embarking on the next generation of its transformation in which new capabilities and technologies like business analytics and cloud computing will drive performance. The proven principles of the globally integrated enterprise will be applied to all of the company’s spending to continue to drive additional productivity benefits in shared services, integrated operations and end-to-end process transformation.

Integrated Supply Chain

Consistent with the company’s work with clients to transform their supply chains for greater efficiency and responsiveness to global market conditions, the company continues to derive business value from its own globally integrated supply chain, thereby providing a strategic advantage for the company to create value for clients. IBM leverages its supply-chain expertise for clients through its supply-chain business transformation outsourcing service to optimize and help operate clients’ end-to-end supply-chain processes, from procurement to logistics.

IBM spends approximately $35 billion annually through its supply chain, procuring materials and services globally. The supply, manufacturing, and logistics and customer fulfillment operations are integrated in one operating unit that has optimized inventories over time, improved response to marketplace opportunities and external risks, and converted fixed costs to variable costs. Simplifying and streamlining internal processes has improved operations, sales force productivity and processes.

Year in Review

Segment Details

The following is an analysis of the 2010 versus 2009 reportable segment results. The table below presents each reportable segment’s external revenue and gross margin results.

($ in millions)

							Yr.-to-Yr.		Yr.-to-Yr.
							Percent/		Change
							Margin		Adjusted
For the year ended December 31:	2010			2009			Change		for Currency
Revenue:
Global Technology Services	$	38,201		$	37,347		2.3	%	0.7	%
Gross margin	34.7		%	35.0		%	(0.3	)pts.
Global Business Services	18,223			17,653			3.2	%	1.6	%
Gross margin	28.3		%	28.2		%	0.0	pts.
Software	22,485			21,396			5.1	%	4.8	%
Gross margin	86.9		%	86.0		%	0.9	pts.
Systems and Technology	17,973			16,190			11.0	%	11.1	%
Gross margin	38.5		%	37.8		%	0.7	pts.
Global Financing	2,238			2,302			(2.8	)%	(4.3	)%
Gross margin	51.3		%	47.5		%	3.8	pts.
Other	750			869			(13.7	)%	(13.8	)%
Gross margin	(0.9		)%	11.6		%	(12.5	)pts.
Total revenue	$	99,870		$	95,758		4.3	%	3.3	%
Gross profit	$	46,014		$	43,785		5.1	%
Gross margin	46.1		%	45.7		%	0.3	pts.

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The following table presents each reportable segment’s external revenue as a percentage of total segment external revenue and each reportable segment’s pre-tax income as a percentage of total segment pre-tax income.

	Revenue				Pre-tax Income*
For the year ended December 31:	2010		2009		2010		2009
Global Technology Services	38.5	%	39.4	%	26.8	%	28.6	%
Global Business Services	18.4		18.6		12.4		13.2
Total Global Services	56.9		58.0		39.2		41.9
Software	22.7		22.5		43.8		41.9
Systems and Technology	18.1		17.1		7.6		7.3
Global Financing	2.3		2.4		9.4		8.9
Total	100.0	%	100.0	%	100.0	%	100.0	%

* Segment pre-tax income includes transactions between segments that are intended to reflect an arm’s-length transfer price and excludes certain unallocated corporate items; see note V, “Segment Information” for additional information.

Workforce rebalancing charges were recorded in the first quarter of 2009 and 2010. The PLM and Geodis divestiture transactions were recorded in the first quarter of 2010 and the first quarter of 2009, respectively. These transactions impacted the year-to-year segment results for 2010 compared to 2009. Workforce rebalancing charges were incurred in every segment while the PLM transaction gain was recorded in Software and the Geodis transaction gain was recorded in the following segments: Global Technology Services ($81 million), Global Business Services ($46 million), Software ($106 million) and Systems and Technology ($64 million). In the following segment analysis and in the Global Financing analysis on page 55, each segment’s pre-tax income and pre-tax margin for 2010 is presented on an as reported basis and on a basis normalized for these transactions in both years to provide a better perspective of the underlying operational performance of the segments.

The segment results reflect the company’s continuing shift to higher value areas, while divesting commoditizing businesses. Total Global Services pre-tax income has increased to over $8 billion in 2010 compared to $4.5 billion in 2000. Software pre-tax income of $9 billion in 2010 has more than tripled since 2000 and now contributes 44 percent of total segment profit compared to 25 percent in 2000.

Global Services

The Global Services segments, GTS and GBS, delivered combined revenue of $56,424 million, an increase of 2.6 percent (1 percent adjusted for currency) in 2010 when compared to 2009. Services revenue performance at constant currency improved over the course of 2010 led by the transaction businesses. In the first and second quarter, revenue, adjusted for currency, decreased 2 percent and increased 1 percent, respectively, versus the prior year periods. In the third and fourth quarters, revenue increased 2 percent, at constant currency, in each period. The estimated Global Services backlog at actual currency rates was $142 billion at December 31, 2010, an increase of $5 billion ($4 billion adjusted for currency) compared to the December 31, 2009 level. Backlog for the outsourcing businesses at actual currency rates was estimated to be $97 billion at December 31, 2010, an increase of $3 billion ($1 billion adjusted for currency) from December 31, 2009. The Global Services segments delivered a combined pre-tax profit of $8,136 million in 2010, a growth of 0.5 percent versus 2009 with a pre-tax margin of 13.9 percent, down 0.2 points year to year.

($ in millions)

							Yr.-to-Yr.
					Yr.-to-Yr.		Change Adjusted
For the year ended December 31:	2010		2009		Change		for Currency
Global Services external revenue:	$	56,424	$	55,000	2.6	%	1.0	%
Global Technology Services	$	38,201	$	37,347	2.3	%	0.7	%
Outsourcing	22,241		21,620		2.9		1.1
Integrated Technology Services	8,714		8,771		(0.6	)	(1.8	)
Maintenance	7,250		6,956		4.2		2.6
Global Business Services	$	18,223	$	17,653	3.2	%	1.6	%

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Global Technology Services revenue of $38,201 million increased 2.3 percent (1 percent adjusted for currency) in 2010 versus 2009. The rate of year-to-year revenue growth, adjusted for currency, demonstrated an improving trend over the second half of 2010. In the first half, revenue, adjusted for currency, was flat versus the prior year, and in the second half, revenue increased 1 percent, at constant currency, compared to the prior year period. GTS Outsourcing revenue increased 2.9 percent (1 percent adjusted for currency) in 2010 with fairly consistent year-to-year growth, adjusted for currency, throughout the year. Revenue growth was led by performance in the growth markets, up 18.4 percent (8 percent adjusted for currency), as the company’s outsourcing offerings help clients build out their IT infrastructures. Integrated Technology Services (ITS) revenue decreased 0.6 percent (2 percent adjusted for currency) in 2010 versus 2009. Revenue performance, adjusted for currency, in ITS improved over the course of 2010 and the growth markets had good year-to-year growth, up 8 percent at constant currency, throughout 2010. Maintenance revenue increased 4.2 percent (3 percent adjusted for currency) compared to 2009 with consistent performance, at constant currency, throughout the year.

Global Business Services revenue increased 3.2 percent (2 percent adjusted for currency) in 2010 and delivered growth in outsourcing and the transactional businesses: consulting and systems integration. Revenue growth was strongest in North America, up 8.5 percent (7 percent adjusted for currency) and was broad based across the industry sectors with Financial Services, Distribution, Industrial, Public and General Business each delivering growth on a constant currency basis. GBS had good performance in its growth initiatives in 2010, with revenue and transactional signings growth in the growth markets and revenue growth of over 35 percent in business analytics. GBS added over 4,000 consultants in 2010 and now has over 7,800 dedicated consultants in its business analytics practice.

($ in millions)

For the year ended December 31:	2010			2009			Yr.-to-Yr. Change
Global Services:
Global Technology Services:
External gross profit	$	13,267		$	13,081		1.4	%
External gross profit margin	34.7		%	35.0		%	(0.3	) pts.
Pre-tax income	$	5,568		$	5,537		0.6	%
Pre-tax margin	14.1		%	14.3		%	(0.2	) pts.
Pre-tax income—normalized*	$	5,840		$	5,571		4.8	%
Pre-tax margin—normalized	14.8		%	14.4		%	0.4	pts.
Global Business Services:
External gross profit	$	5,148		$	4,979		3.4	%
External gross profit margin	28.3		%	28.2		%	0.0	pts.
Pre-tax income	$	2,569		$	2,555		0.5	%
Pre-tax margin	13.5		%	13.8		%	(0.3	) pts.
Pre-tax income—normalized**	$	2,697		$	2,632		2.5	%
Pre-tax margin—normalized	14.2		%	14.2		%	0.0	pts.

*	Excludes $273 million and $115 million of workforce rebalancing charges in the first quarter of 2010 and 2009, respectively, and ($81) million related to the Geodis gain in the first quarter of 2009.
**	Excludes $128 million and $123 million of workforce rebalancing charges in the first quarter of 2010 and 2009, respectively, and ($46) million related to the Geodis gain in the first quarter of 2009.

GTS gross profit margin declined 0.3 points to 34.7 percent in 2010. Segment pre-tax profit increased to $5,568 million with a pre-tax margin of 14.1 percent. On a normalized basis, segment pre-tax income in 2010 increased 4.8 percent and margin expanded 0.4 points to 14.8 percent reflecting the benefits from workforce rebalancing and an improved revenue growth trend.

GBS gross profit increased 3.4 percent in 2010, in line with revenue growth. Gross profit margin of 28.3 percent was flat year-to-year. Segment pre-tax profit improved 0.5 percent to $2,569 million with a pre-tax margin decline of 0.3 points year over year. On a normalized basis, segment pre-tax income in 2010 increased 2.5 percent with a pre-tax margin of 14.2 percent, flat compared to 2009. Throughout 2010, GBS improved utilization and delivery excellence, while continuing to invest in globally integrated capabilities and skills to support growth initiatives.

Global Services Signings

Total Global Services signings of $57,696 million increased 1.1 percent (flat adjusted for currency) compared to 2009. Outsourcing signings for the year of $33,064 million increased 0.2 percent (decreased 1 percent adjusted for currency). In the fourth quarter, outsourcing signings increased 24.2 percent, after declining by 14.9 percent in the third quarter when compared to the prior year periods. On a dollar basis, fourth quarter outsourcing signings exceeded the third quarter by $8,458 million ($14,138 million versus $5,680 million). These quarterly dynamics are a good example of the volatility that can occur with outsourcing signings. Due to this volatility, outsourcing signings are not a good predictor of revenue. This is due to the many factors that impact how signings translate to revenue, such as duration, start date of the contract, and

27

whether it is a new contract or an extension of an existing contract. The company’s outsourcing business revenue is more determined by backlog, and period signings are just one of several inputs to backlog. Transactional signings increased 2.3 percent (1 percent adjusted for currency) to $24,633 million, with growth in Integrated Technology Services and Consulting signings. In the transactional services businesses, revenue growth and signings growth have historically been similar within a quarterly period. Revenue performance is predominantly determined by the dynamics within a quarter with signings providing little additional insight into period performance.

The following table presents Global Services signings. Outsourcing signings include GTS Outsourcing and Application Management Services Outsourcing. Transactional signings include Integrated Technology Services, Consulting and AMS Systems Integration.

($ in millions)

							Yr.-to-Yr.
					Yr.-to-Yr.		Change Adjusted
For the year ended December 31:	2010		2009		Change		for Currency
Outsourcing signings	$	33,064	$	33,014	0.2	%	(1.0	)%
Transactional signings	24,633		24,081		2.3		1.4
Total signings	$	57,696	$	57,094	1.1	%	0.0	%

Global Services signings are management’s initial estimate of the revenue value of a client’s commitment under a Global Services contract. There are no third-party standards or requirements governing the calculation of signings. The calculation used by management involves estimates and judgments to gauge the extent of a client’s commitment, including the type and duration of the agreement, and the presence of termination charges or wind-down costs.

Signings include GTS Outsourcing, ITS and GBS contracts. Contract extensions and increases in scope are treated as signings only to the extent of the incremental new revenue value. Maintenance is not included in signings as maintenance contracts tend to be more steady state, where revenues equal renewals.

Total Global Services backlog includes GTS Outsourcing, ITS, GBS and Maintenance. Outsourcing backlog includes GTS Outsourcing and Application Management Services Outsourcing. 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 adjustments for currency.

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

Software

($ in millions)

							Yr.-to-Yr.
					Yr.-to-Yr.		Change Adjusted
For the year ended December 31:	2010		2009*		Change		for Currency
Software external revenue:	$	22,485	$	21,396	5.1	%	4.8	%
Middleware	$	18,444	$	17,125	7.7	%	7.5	%
Key Branded Middleware	13,876		12,524		10.8		10.7
WebSphere					20.8		20.6
Information Management					8.6		8.3
Lotus					(2.3	)	(2.1	)
Tivoli					15.0		15.1
Rational					4.8		4.8
Other middleware	4,568		4,602		(0.7	)	(1.2	)
Operating systems	2,282		2,163		5.5		4.9
Other	1,759		2,108		(16.6	)	(17.0	)

* Reclassified to conform with 2010 presentation.

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Software revenue of $22,485 million increased 5.1 percent (5 percent adjusted for currency) in 2010 compared to 2009. Adjusting for the divested PLM operations, revenue grew at 8.1 percent (8 percent adjusted for currency) in 2010. Software revenue growth continued to be led by the Key Branded Middleware products with strong performance in the areas of business commerce, business analytics, storage management and business integration. Overall, the Software business performed well in 2010, delivering over $9 billion in segment pre-tax profit, an increase of 12 percent as reported versus 2009. In addition, the company continues to invest in additional capabilities for the software business through both organic investments and the completion of 13 acquisitions in 2010.

Key Branded Middleware revenue increased 10.8 percent (11 percent adjusted for currency) and gained market share again in 2010 as the Software business extended its lead in the middleware market. Software revenue continued to mix to the faster growing branded middleware which accounted for 62 percent of total software revenue in 2010, an increase of 3 points from 2009. Adjusted for currency, growth in 2010 was led by growth in WebSphere and Tivoli. The Software business continues to benefit from the company’s growth initiatives, with business analytics revenue up year over year.

WebSphere revenue increased 20.8 percent (21 percent adjusted for currency) in 2010 with strong performance throughout the year. Application Servers software had revenue growth of 12.0 percent (11.7 percent adjusted for currency) year to year. Business Integration software, which includes the ILOG, Sterling Commerce and Lombardi acquisitions, delivered strong revenue growth in 2010, up 33.6 percent (33 percent adjusted for currency). With the 2010 acquisitions of Sterling Commerce, Coremetrics and Unica Corporation, the company expects continued market momentum in its WebSphere commerce area.

Information Management revenue increased 8.6 percent (8 percent adjusted for currency) in 2010 versus the prior year with revenue growth in both Information Management solutions and infrastructure offerings. The software business continued to expand its Information Management capabilities through strategic acquisitions, as the company completed the acquisitions of Netezza, OpenPages, PSS Systems, Clarity Systems and Initiate Systems.

Tivoli revenue increased 15.0 percent (15 percent adjusted for currency) in 2010 when compared to 2009, with revenue growth in each element of the Integrated Service management strategy — Systems management, Security and Storage management. Tivoli provides clients an integrated approach to service management.

Rational revenue increased 4.8 percent (5 percent adjusted for currency) in 2010 versus 2009.

Operating systems revenue increased 5.5 percent (5 percent adjusted for currency) in 2010 compared to 2009, driven by Power Systems and System x related products.

Other software revenue decreased 16.6 percent (17 percent adjusted for currency) due primarily to the divestiture of the PLM operations in the first quarter of 2010.

($ in millions)

							Yr.-to-Yr.
For the year ended December 31:	2010			2009			Change
Software:
External gross profit	$	19,537		$	18,405		6.2	%
External gross profit margin	86.9		%	86.0		%	0.9	pts.
Pre-tax income	$	9,097		$	8,095		12.4	%
Pre-tax margin	35.8		%	33.6		%	2.1	pts.
Pre-tax income—normalized*	$	8,603		$	8,005		7.5	%
Pre-tax margin—normalized	33.8		%	33.3		%	0.6	pts.

* Excludes $98 million and $17 million of workforce rebalancing charges in the first quarter of 2010 and 2009, respectively, and $(591) million related to the PLM gain in the first quarter of 2010 and $(106) million related to the Geodis gain in the first quarter of 2009.

Software gross profit of $19,537 million in 2010 increased 6.2 percent versus 2009, driven primarily by the year-to-year growth in software revenue. The improvement in the gross profit margin was primarily driven by the divestiture of the lower gross margin PLM revenue. The Software segment delivered $9,097 million of pre-tax profit in 2010, an increase of $1,002 million, or 12.4 percent, versus 2009. The segment pre-tax profit margin expanded 2.1 points to 35.8 percent. On a normalized basis, segment pre-tax income increased 7.5 percent and segment pre-tax margin expanded 0.6 points to 33.8 percent.

Systems and Technology

($ in millions)

							Yr.-to-Yr.
					Yr.-to-Yr.		Change Adjusted
For the year ended December 31:	2010		2009		Change		for Currency
Systems and Technology external revenue:	$	17,973	$	16,190	11.0	%	11.1	%
System z					16.4	%	17.7	%
Power Systems					(8.4	)	(8.5	)
System x					27.5		26.8
Storage					7.6		8.1
Retail Store Solutions					22.4		23.2
Total Systems					9.5		9.6
Microelectronics OEM					24.8		24.7

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Systems and Technology revenue increased 11.0 percent (11 percent adjusted for currency) in 2010 versus 2009. Revenue performance was driven by double-digit growth in System z, System x, Microelectronics OEM, Storage disk products and Retail Store Solutions. Systems and Technology had very strong performance in the growth markets, which grew 20 percent (19 percent adjusted for currency), driven by the BRIC countries which increased 29 percent (28 percent adjusted for currency). The company gained share in high-end servers, while total servers and storage held share.

System z revenue increased 16.4 percent (18 percent adjusted for currency) in 2010 versus 2009. The increase in revenue was driven by the new mainframe product introduced in the third quarter and strong performance in both the growth markets and major markets. MIPS (millions of instructions per second) shipments increased 22 percent in 2010 versus 2009. This performance reflects the value and innovation System z delivers to the company’s clients. The new z Enterprise 196 server delivers 40 percent more performance than the prior generation mainframe, driven by the world’s fastest processor which operates at more than 5 gigahertz. 

Power Systems revenue decreased 8.4 percent (9 percent adjusted for currency) in 2010 versus 2009. Revenue increased in the fourth quarter 1.8 percent (3 percent adjusted for currency) as the company benefitted from new POWER7 products which were introduced late in the third quarter. Although revenue declined in 2010, Power Systems gained share and continued to be the market share leader. The decrease in revenue was primarily driven by high-end servers which declined 26 percent (27 percent adjusted for currency), partially offset by increases in midrange systems of 7 percent (7 percent adjusted for currency) and blades 7 percent (7 percent adjusted for currency). The company had over 1,000 competitive unit displacements in 2010, which drove approximately $1 billion of business. Approximately 60 percent of these wins came from Oracle UNIX installed accounts and 30 percent from Hewlett-Packard installed accounts. In addition, the company also drove x86 consolidations to Power Systems, with over 100 competitive wins. 

System x revenue increased 27.5 percent (27 percent adjusted for currency) in 2010 versus 2009. In the growth markets, revenue increased 30 percent versus the prior year. High-end System x revenue increased 22 percent (21 percent adjusted for currency) in 2010 versus 2009, while total server revenue increased 27  percent (27 percent adjusted for currency) in 2010 versus 2009. System x blades revenue increased 20 percent (20 percent adjusted for currency) versus the prior year.

Storage revenue increased 7.6 percent (8 percent adjusted for currency) in 2010 versus the prior year. In the growth markets, storage revenue grew 21 percent year over year (21 percent adjusted for currency). Total disk revenue increased 13 percent (14 percent adjusted for currency) in 2010 versus 2009. The increase was driven by strength in enterprise disk products which increased 16.4 percent (17 percent adjusted for currency) led by XIV and DS8000. XIV has added over 975 new customers since the acquisition in the fourth quarter of 2007. Tape revenue declined 6 percent in 2010 versus 2009.

Microelectronics OEM revenue increased 24.8 percent (25 percent adjusted for currency) in 2010 versus 2009. The company had strong revenue growth from its OEM customers in networking, game consoles and wireless communications.

Retail Stores Solutions revenue increased 22.4 percent (23 percent adjusted for currency) in 2010 versus 2009 as the company extended its leadership position as a point of sale provider.

($ in millions)

							Yr.-to-Yr.
For the year ended December 31:	2010			2009			Change
Systems and Technology:
External gross profit	$	6,920		$	6,127		12.9	%
External gross profit margin	38.5		%	37.8		%	0.7	pts.
Pre-tax income	$	1,586		$	1,419		11.8	%
Pre-tax margin	8.4		%	8.3		%	0.2	pts.
Pre-tax income—normalized*	$	1,643		$	1,359		20.9	%
Pre-tax margin—normalized	8.8		%	7.9		%	0.8	pts.

* Excludes $57 million and $4 million of workforce rebalancing charges in the first quarter of 2010 and 2009, respectively, and $(64) million related to the Geodis gain in the first quarter of 2009.

The increase in external gross profit for 2010 versus 2009 was due to improved operating leverage driven by higher revenue.

Overall gross margin increased 0.7 points in 2010 versus the prior year. The increase was primarily driven by improved margins in Microelectronics (1.6 points), System x (0.7 points) and Storage (0.4 points), partially offset by a decline due to revenue mix (1.4 points) and lower margins in Power Systems (0.6 points) and System z (0.5 points).

Systems and Technology’s pre-tax income increased 20.9 percent in 2010 on a normalized basis when compared to the prior year. Pre-tax margin increased 0.8 points in 2010 on a normalized basis versus 2009.

Global Financing

See pages 55 through 59 for an analysis of Global Financing’s segment results.

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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 discussed separately below.

($ in millions)

							Yr.-to-Yr.
					Yr.-to-Yr.		Change Adjusted
For the year ended December 31:	2010		2009		Change		for Currency
Total revenue:	$	99,870	$	95,758	4.3	%	3.3	%
Geographies:	$	97,060	$	93,477	3.8	%	2.8	%
Americas	42,044		40,184		4.6		3.5
Europe/Middle East/Africa	31,866		32,583		(2.2	)	0.8
Asia Pacific	23,150		20,710		11.8		4.7
Major markets					1.1	%	1.0	%
Growth markets					16.0	%	10.9	%
BRIC countries					22.8	%	18.4	%

Total geographic revenue increased 3.8 percent (3 percent adjusted for currency) to $97,060 million in 2010 when compared to 2009, with constant currency growth in each of the geographic areas and markets. Overall performance was driven by the growth markets. 

Revenue from the major markets increased 1.1 percent (1 percent adjusted for currency) and was led by growth in the U.S., the U.K. and France. Performance in the major markets improved in the second half of 2010. The major markets grew 0.3 percent (declined 1 percent adjusted for currency) in the first half and increased 1.7 percent (3 percent adjusted for currency) in the second half. Revenue from the growth markets increased 16.0 percent (11 percent adjusted for currency). The growth markets performance, adjusted for currency, outpaced the more established major markets by 10 points in 2010 and geographic revenue contribution increased to 21 percent, 2 points higher versus 2009. The combined revenue in the BRIC countries, which represented approximately 40 percent of the growth markets in 2010, increased 22.8 percent (18 percent adjusted for currency) with growth in each of the four countries and strong growth in China and Russia. The company has continued to make investments in these markets to drive market expansion and infrastructure development. The growth markets performance overall was broad based with double-digit growth at constant currency in a total of 40 growth market countries.

Americas revenue increased 4.6 percent (3 percent adjusted for currency) in 2010. Within the major market countries, the U.S. increased 2.7 percent and Canada increased 10.4 percent (flat adjusted for currency). Revenue in the Latin America growth markets increased 15.4 percent (14 percent adjusted for currency) led by Brazil with growth of 20.4 percent (12 percent adjusted for currency).

Europe/Middle East/Africa (EMEA) revenue decreased 2.2 percent (increased 1 percent adjusted for currency) in 2010 compared to 2009. In the major market countries, revenue increased in the U.K. 4.5 percent (6 percent adjusted for currency), while revenue declined in Spain 5.6 percent (1 percent adjusted for currency), Germany 7.7 percent (3 percent adjusted for currency) and Italy 8.7 percent (4 percent adjusted for currency). In France, revenue declined 1.8 percent as reported, but increased 4 percent at constant currency. Russia revenue increased 49.0 percent (48 percent adjusted for currency).

Asia Pacific revenue increased 11.8 percent (5 percent adjusted for currency) year over year. Asia Pacific growth market countries increased 18.3 percent (11 percent adjusted for currency), led by growth in China and India. China revenue increased 23.4 percent (23 percent adjusted for currency) and India revenue increased 19.2 percent (13 percent adjusted for currency). Japan revenue increased 5.0 percent as reported but declined 2 percent adjusted for currency in 2010 compared to the prior year.

OEM revenue of $2,811 million in 2010 increased 23.3 percent (23 percent adjusted for currency) compared to 2009 driven by growth in the Microelectronics OEM business.

Total Expense and Other Income

($ in millions)

							Yr.-to-Yr.
For the year ended December 31:	2010			2009			Change
Total expense and other income	$	26,291		$	25,647		2.5	%
Expense-to-revenue ratio	26.3		%	26.8		%	(0.5	)pts.

The key drivers year to year in total expense and other income were approximately:

·Operational expense, (2) points

·Currency,* 1 point

·Acquisitions,** 3 points

*	Reflects impacts of translation and hedging programs.
**	Includes acquisitions completed in prior 12-month period.

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The company’s expense-to-revenue ratio improved in 2010 versus 2009. The increase in total expense and other income was primarily driven by the company’s acquisitions and the effects of currency. 

Operational expense improved 2 points in 2010 when compared to the prior year. The company has had an ongoing focus on increasing efficiency and driving productivity across the business. Savings from productivity initiatives result in improved profitability and enables continued investments in innovation and key growth initiatives.

Examples of the company’s investments include:

·Industry sales skills to support Smarter Planet

·Sales capabilities for business analytics, including the establishment of eight analytics solution centers

·Development, sales and marketing to support new high-end technology solutions in mainframes and POWER7

·Sales resources and sales enablement to drive growth market performance

·Acquisition of 17 companies adding significant capabilities

For additional information regarding total expense and other income, see the following analyses by category.

Selling, General and Administrative

($ in millions)

					Yr.-to-Yr.
For the year ended December 31:	2010		2009*		Change
Selling, general and administrative—base	$	18,585	$	17,872	4.0	%
Advertising and promotional expense	1,337		1,255		6.6
Workforce reductions	641		474		35.3
Amortization expense—acquired intangibles	253		285		(11.3	)
Retirement-related expense	494		503		(1.7	)
Stock-based compensation	488		417		16.9
Bad debt expense	40		147		(72.5	)
Total	$	21,837	$	20,952	4.2	%

* Reclassified to conform with 2010 presentation.

Total selling, general and administrative (SG&A) expense increased 4.2 percent (3 percent adjusted for currency) in 2010 versus 2009. Overall, the increase was driven by acquisition-related spending (3 points) and currency impacts (1 point), while operational expense was essentially flat. Workforce reductions expense increased $167 million due primarily to actions taken in the first quarter of 2010, with the majority of the spending in Europe and Asia Pacific. Bad debt expense decreased $107 million reflecting the improving credit environment. The allowance for credit losses coverage rate at December 31, 2010 was 1.8 percent, a decrease of 20 basis points from year-end 2009.

Other (Income) and Expense

($ in millions)

							Yr.-to-Yr.
For the year ended December 31:	2010			2009*			Change
Foreign currency transaction (gains)/losses	$	303		$	(1	)	NM
Gains on derivative instruments	(239		)	(12		)	NM
Interest income	(92		)	(94		)	(2.3	)%
Net losses/(gains) from securities and investment assets	31			112			(72.1	)
Other	(790		)	(357		)	121.2
Total	$	(787	)	$	(351	)	124.5	%

*  Reclassified to conform with 2010 presentation.

NM—Not meaningful

Other (income) and expense was income of $787 million in 2010, an increase in income of $436 million year to year. The increase in income was primarily driven by several key factors reflected in Other in the table above: the net gain from the PLM transaction in the first quarter of 2010 ($591 million); a net gain associated with the disposition of a joint venture in third quarter of 2010 ($57 million) versus a gain from the divestiture of the core logistics operations to Geodis in the first quarter of 2009 ($298 million); and a provision for losses related to a joint venture investment ($119 million) recorded in the second quarter 2009. In addition, foreign currency rate volatility drove higher foreign currency transaction losses ($304 million) and increased gains on derivative instruments ($227 million).

Research, Development and Engineering

($ in millions)

					Yr.-to-Yr.
For the year ended December 31:	2010		2009		Change
Research, development and engineering
Total	$	6,026	$	5,820	3.5	%

The company continues to invest in research and development, focusing its investments on high-value, high-growth opportunities and to extend its technology leadership. Total research, development and engineering (RD&E) expense increased 3.5 percent in 2010 versus 2009, primarily driven by acquisitions (up 2 points) and currency impacts (up 1 point). RD&E investments represented 6.0 percent of total revenue in 2010, compared to 6.1 percent in 2009.

Intellectual Property and Custom Development Income

($ in millions)

					Yr.-to-Yr.
For the year ended December 31:	2010		2009		Change
Sales and other transfers of intellectual property	$	203	$	228	(10.8	)%
Licensing/royalty-based fees	312		370		(15.6	)
Custom development income	638		579		10.3
Total	$	1,154	$	1,177	(1.9	)%

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The timing and amount of sales and other transfers of IP may vary significantly from period to period depending upon timing of divestitures, industry consolidation, economic conditions and the timing of new patents and know-how development. There were no significant individual IP transactions in 2010 or 2009.

Interest Expense

($ in millions)

					Yr.-to-Yr.
For the year ended December 31:	2010		2009		Change
Interest expense
Total	$	368	$	402	(8.5	)%

The decrease in interest expense was primarily due to lower average interest rates in 2010 versus 2009, partially offset by higher average debt balances in 2010 versus 2009. Total debt at December 31, 2010 was $28.6 billion; an increase of $2.5 billion from the prior year-end position. Interest expense is presented in cost of financing in the Consolidated Statement of Earnings if the related external borrowings are to support the Global Financing external business. Overall interest expense for 2010 was $923 million, a decrease of $185 million versus 2009.

Stock-Based Compensation

Total pre-tax stock-based compensation cost of $629 million increased $71 million compared to 2009. The increase was principally the result of an increase related to restricted and performance-based stock compensation costs ($87 million), partially offset by a reduction in stock option compensation costs ($16 million). The year-to-year change was reflected in the following categories: reductions in cost ($1 million) and Other (income) and expense ($1 million) and increases in RD&E expense ($2 million) and SG&A expense ($71 million).

See note T, “Stock-Based Compensation,” on pages 109 to 112 for additional information on stock-based incentive awards.

Retirement-Related Benefits

The following table presents the total pre-tax cost for all retirement-related plans. These amounts are included in the Consolidated Statement of Earnings within the category (e.g., cost, SG&A, RD&E) relating to the job function of the plan participants.

($ in millions)

					Yr.-to-Yr.
For the year ended December 31:	2010		2009		Change
Defined benefit and contribution pension plans cost	$	1,035	$	1,065	(2.8	)%
Nonpension postretirement plans costs	347		350		(0.9	)
Total	$	1,382	$	1,415	(2.3	)%

Overall retirement-related benefit costs decreased $33 million versus 2009, driven by lower defined contribution plans cost of $20 million and lower defined benefit plans cost of $10 million compared to 2009. As discussed in the “Looking Forward” section on page 46, the company has begun to characterize certain retirement-related costs as operating and others as non-operating. Utilizing this characterization, operating retirement-related costs for 2010 were $1,796 million, a decrease of $128 million compared to 2009. This decrease was driven by a $108 million reduction in total service cost and a $20 million reduction in the cost of defined contribution plans. Non-operating costs/(income) of ($414 million) decreased $95 million in 2010 compared to the prior year driven primarily by an increase in recognized actuarial losses of $148 million, a $153 million increase in curtailment settlement charges and a $63 million reduction in the expected return on plan assets, partially offset by lower interest cost of $158 million and lower pension insolvency insurance premiums of $118 million.

See note U, “Retirement-Related Benefits,” on pages 112 through 126 for additional information on these plans and the factors driving the year-to-year change in total cost.

Business Acquisition Intangible Asset Amortization

The company has been investing in targeted acquisitions to increase its capabilities in higher value businesses. The following table presents the total amortization from intangible assets acquired through business acquisitions included in the Consolidated Statement of Earnings. See note J, “Intangible Assets Including Goodwill,” on pages 93 and 94 for additional information.

($ in millions)

					Yr.-to-Yr.
For the year ended December 31:	2010		2009		Change
Cost:
Software (Sales)	$	239	$	160	49.0	%
Global Technology Services (Services)	6		33		(81.7	)
Systems and Technology (Sales)	15		11		39.8
Selling, general and administrative expense	253		285		(11.3	)
Total	$	513	$	489	4.9	%

Other acquisition-related charges were $45 million in 2010 and $9 million in 2009. These charges include deal costs, severence costs related to acquired resources and costs related to vacant space for acquired companies.

Income Taxes

The effective tax rate for 2010 was 24.8 percent, compared with 26.0 percent in 2009. The 1.2 point decrease was primarily driven by a more favorable geographic mix of pre-tax income and incentives (2.5 points), the increased utilization of foreign tax credits (4.1 points) and the completion in 2010 of the U.S. federal income tax examination for the years 2006 and 2007 including the associated reserve redeterminations (6.4 points). These benefits were partially offset by tax charges related to certain intercompany payments made by foreign subsidiaries (6.6 points), the tax impact of certain business restructuring transactions (2.7 points) and the tax costs associated with the intercompany licensing of certain intellectual property (2.9 points). The remaining items were individually insignificant.

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Earnings Per Share

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

					Yr.-to-Yr.
For the year ended December 31:	2010		2009		Change
Earnings per share of common stock:
Assuming dilution	$	11.52	$	10.01	15.1	%
Basic	$	11.69	$	10.12	15.5	%
Weighted-average shares outstanding (in millions):
Assuming dilution	1,287.4		1,341.4		(4.0	)%
Basic	1,268.8		1,327.2		(4.4	)%

Actual shares outstanding at December 31, 2010 and 2009 were 1,228.0 million and 1,305.3 million, respectively. The average number of common shares outstanding assuming dilution was 54.0 million shares lower in 2010 versus 2009. The decrease was primarily the result of the common stock repurchase program. See note N, “Equity Activity,” on page 103 for additional information regarding common stock activities. Also see note R, “Earnings Per Share of Common Stock,” on page 108.

Financial Position

Dynamics

At December 31, 2010, the company’s balance sheet and liquidity positions remain strong and are positioned to support the business over the long term. Cash and marketable securities at year end were $11,651 million. Total debt of $28,624 million increased $2,525 million from prior year-end levels, after declining by $7,826 million in 2009. The commercial paper balance at December 31, 2010 was $1,144 million, up from $235 million at December 31, 2009. The company continues to have substantial flexibility in the market. In the fourth quarter, the company completed two bond issuances raising $1 billion in five-year bonds priced at 2 percent, and an additional $1 billion in 18-month floating rate notes. In late November 2010, the company’s long-term debt rating was upgraded by Moody’s Investors Services from A1 to Aa3. During 2010, the company generated $19,549 million in cash from operations. The company has consistently generated strong cash flow from operations and continues to have access to additional sources of liquidity through the capital markets and its $10 billion global credit facility. The strong cash flow and substantial cash position permits the company to invest and deploy capital to areas with the most attractive long-term opportunities.

Consistent with accounting standards, the company remeasures the funded status of its retirement and postretirement plans at December 31. The funded status is measured as the difference between the fair value of the plan assets and the benefit obligation and is recognized in the Consolidated Statement of Financial Position. At December 31, 2010, the overall net underfunded position of $13,735 million was essentially unchanged from December 31, 2009, as improved returns on plan assets were offset by an increase in the benefit obligation as a result of a reduction in discount rates. Due to the improvement in the financial markets in 2010, the return on the U.S. Personal Pension Plan assets was approximately 14 percent. The company’s asset return in the non-U.S. plans was approximately 9 percent. Overall, global asset returns were approximately 12 percent in 2010. At December 31, 2010, the company’s qualified defined benefit plans worldwide were 99 percent funded with the U.S. qualified Personal Pension Plan 101 percent funded.

In addition, total equity increased $418 million, net of tax, primarily as a result of an improvement in retained earnings of $11,632 million driven by current year net income, substantially offset by net stock transactions which declined $11,310 million primarily due to common stock repurchases.

The assets and debt associated with the Global Financing business are a significant part of the company’s financial position. The financial position amounts appearing on page 63 are the consolidated amounts including Global Financing. The amounts appearing in the separate Global Financing section, beginning on page 55, are supplementary data presented to facilitate an understanding of the Global Financing business.

Working Capital

($ in millions)

At December 31:	2010		2009
Current assets	$	48,116	$	48,935
Current liabilities	40,562		36,002
Working capital	$	7,554	$	12,933
Current ratio	1.19:1		1.36:1

Working capital decreased $5,379 million from the year-end 2009 position. The key changes are described below:

Current assets decreased $819 million ($1,000 million adjusted for currency), driven by:

·A decline of $2,322 million in cash and cash equivalents and marketable securities (see cash flow analysis on page 35); partially offset by

·An increase of $1,343 million in short-term financing receivables ($1,122 million adjusted for currency) due to higher volumes.

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Current liabilities increased $4,560 million ($4,101 million adjusted for currency) as a result of:

·An increase in short-term debt of $2,610 million ($2,441 million adjusted for currency) primarily driven by: 

·a net increase of $909 million in commercial paper and $4,238 million in new debt issuances; and

·reclassification of $3,941 million from long-term to short-term debt to reflect maturity dates; partially offset by

·$6,712 million in debt repayments.

·An increase in deferred income of $735 million ($672 million adjusted for currency) driven by the software business, including acquisitions;

·An increase of $523 million in accrued compensation and benefits; and

·An increase of $368 million in accounts payable, driven by higher year-end activity.

Cash Flow

The company’s cash flow from operating, investing and financing activities, as reflected in the Consolidated Statement of Cash Flows on page 64, is summarized in the table below. These amounts include the cash flows associated with the Global Financing business.

($ in millions)

For the year ended December 31:	2010			2009
Net cash provided by/(used in):
Operating activities	$	19,549		$	20,773
Investing activities	(8,507		)	(6,729		)
Financing activities	(12,429		)	(14,700		)
Effect of exchange rate changes on cash and cash equivalents	(135		)	98
Net change in cash and cash equivalents	$	(1,522	)	$	(558	)

Net cash from operating activities decreased $1,224 million as compared to 2009 driven by the following key factors:

·A decrease in cash provided by Global Financing receivables of $2,634 million as a result of improved originations in 2010;

·Higher income tax payments of approximately $1,000 million driven by foreign tax payments; and

·A decrease in cash of approximately $600 million as a result of lower tax refunds in 2010 versus the previous year; partially offset by

·Improved net income of $1,408 million; and

·Increased cash provided by other assets/liabilities of $1,125 million mainly due to higher compensation and benefit accruals in 2010.

Net cash used in investing activities increased $1,778 million driven by:

·An increase of $4,728 million in cash used for acquisitions primarily as a result of the Netezza and Sterling Commerce transactions;

·Increased net capital spending of $299 million primarily for new hardware products and semiconductor technology;

·A decrease in cash from divestitures of $345 million as a result of the Geodis transaction in 2009; and

·A decrease in cash provided by Global Financing non-operating receivables of $221 million as a result of improved originations in 2010; partially offset by

·The net impact of purchases and sales of short-term marketable securities and other investments that resulted in a source of cash in the current year of $1,773 million in comparison to a use of cash of $1,895 million in 2009.

Net cash used in financing activities decreased $2,271 million as a result of:

·Net increase in cash of $9,812 million from debt that resulted from net cash proceeds from debt in the current year of $2,349 million in comparison to net cash payments to settle debt of $7,463 million in 2009; and

·An increase of $722 million in cash generated from other common stock transactions primarily due to higher stock option exercises; partially offset by

·Higher common stock repurchases of $7,946 million.

Noncurrent Assets and Liabilities

($ in millions)

At December 31:	2010		2009
Noncurrent assets	$	65,335	$	60,087
Long-term debt	$	21,846	$	21,932
Noncurrent liabilities (excluding debt)	$	27,871	$	28,334

The increase in noncurrent assets of $5,249 million (an increase of $4,609 million adjusted for currency) was a result of:

·An increase of $4,946 million ($4,698 million adjusted for currency) in goodwill and an increase of $975 million in intangible assets driven by the company’s 2010 acquisitions; and

·An increase of $399 million in investments and sundry assets primarily driven by increased prepaid income taxes; partially offset by

·A decrease of $974 million in noncurrent deferred taxes ($1,137 million adjusted for currency) primarily driven by current year activity, including compensation and benefits, hedging and research and development.

Noncurrent liabilities, excluding debt, decreased $463 million ($414 million adjusted for currency) primarily driven by a decrease in other noncurrent liabilities of $592 million due to a change in the fair value of derivatives related to foreign exchange contracts.

35

Debt

The company’s funding requirements are continually monitored and strategies are executed to manage the overall asset and liability profile. Additionally, the company maintains sufficient flexibility to access global funding sources as needed.

($ in millions)

At December 31:	2010		2009
Total company debt	$	28,624	$	26,099
Total Global Financing segment debt:	$	22,823	$	22,383
Debt to support external clients	19,583		19,091
Debt to support internal clients	3,240		3,292

Global Financing provides financing predominantly for the company’s external client assets, as well as for assets under contract by other IBM units. These assets, primarily for Global Services, generate long-term, stable revenue streams similar to the Global Financing asset portfolio. Based on their attributes, these Global Services assets are leveraged with the balance of the Global Financing asset base. The debt analysis above is further detailed in the Global Financing section on page 58.

Given the significant leverage, the company presents a debt-to-capitalization ratio which excludes Global Financing debt and equity as management believes this is more representative of the company’s core business operations. This ratio can vary from period to period as the company manages its global cash and debt positions.

“Core” debt-to-capitalization ratio (excluding Global Financing debt and equity) was 22.6 percent at December 31, 2010 compared to 16.0 percent at December 31, 2009. The increase was primarily driven by an increase in non-Global Financing debt of $2,084 million. With this amount of leverage, the company continues to have a high degree of financial flexibility.

Consolidated debt-to-capitalization ratio at December 31, 2010 was 55.3 percent versus 53.4 percent at December 31, 2009.

Equity

Total equity increased $418 million primarily as a result of an increase in retained earnings of $11,632 million and an increase of $3,608 million in common stock, substantially offset by an increase in treasury stock of $14,918 million driven by common stock repurchases during 2010.

Consolidated Fourth-Quarter Results

($ and shares in millions except per share amounts)

							Yr.-to-Yr.
							Percent/
							Margin
For the fourth quarter:	2010			2009			Change
Revenue	$	29,019		$	27,230		6.6	%*
Gross profit margin	49.0		%	48.3		%	0.8	pts.
Total expense and other income	$	7,271		$	6,765		7.5	%
Total expense and other income-to-revenue ratio	25.1		%	24.8		%	0.2	pts.
Income before income taxes	$	6,956		$	6,381		9.0	%
Provision for income taxes	1,698			1,568			8.3	%
Net income	$	5,257		$	4,813		9.2	%
Net income margin	18.1		%	17.7		%	0.4	pts.
Earnings per share of common stock:
Assuming dilution	$	4.18		$	3.59		16.4	%
Weighted-average shares outstanding:
Assuming dilution	1,258.4			1,340.7			(6.1	)%

*  7.1 percent adjusted for currency.

Snapshot

The fourth quarter of 2010 capped off a very good year as the company continued the trend of improving business performance, increasing constant currency revenue growth, expanding margins and again delivering double-digit earnings per share growth. Diluted earnings per share of $4.18 increased 16.4 percent versus the fourth quarter of 2009 and represented the 32nd consecutive quarter of earnings per share growth for the company. The company delivered solid financial results while continuing a high level of investment to drive future growth and delivering strong shareholder returns.

Total revenue increased 6.6 percent as reported (7 percent adjusted for currency) versus the fourth quarter of 2009 driven by hardware and software. This was the highest quarterly constant currency revenue growth rate in nearly a decade. Systems and Technology revenue increased 21.0 percent (22 percent adjusted for currency) with growth in every platform and strong performance in the System z mainframe product. Software revenue increased 7.0 percent (8 percent adjusted for currency) as reported, and was up 10.5 percent (12 percent adjusted for currency) without the divested PLM operations. Software’s 12 percent growth at constant currency was double the growth rate of its strong performance in the first three quarters of the year. Total Global Services revenue growth of 2.0 percent (2 percent adjusted for currency) was consistent with third-quarter 2010 performance. The estimated Global Services backlog at actual currency rates was $142 billion, an increase of $5 billion ($4 billion adjusted for currency) compared to the December 31, 2009 level and an increase of $8 billion ($7 billion adjusted for currency) from September 30, 2010. From a geographic perspective, major markets revenue increased 3.9 percent (5 percent adjusted for currency) led by constant currency growth in the U.S., France and Italy. Total revenue in the growth markets increased 15.4 percent (13 percent adjusted for currency)

36

led by the BRIC countries which increased 18.7 percent (17 percent adjusted for currency). Business analytics, another of the company’s key growth initiatives, had revenue growth of 19 percent in the fourth quarter.

The consolidated gross profit margin increased 0.8 points versus the fourth quarter of 2009 to 49.0 percent with improved margins in Systems and Technology and Software. Gross profit margin performance by segment and the impact to the consolidated gross margin was as follows:

	Gross		Yr.-to-Yr.		Consolidated
	Margin		Change		Impact
Global Technology Services	34.7	%	(1.1	)pts.	(0.1	)pts.
Global Business Services	28.3	%	(2.0	)pts.	(0.2	)pts.
Software	88.5	%	0.9	pts.	0.3	pts.
Systems and Technology	43.9	%	1.4	pts.	0.2	pts.
Global Financing	51.8	%	(0.1	)pts.	(0.0	)pts.

Total expense and other income increased 7.5 percent in the fourth quarter compared to the prior year, in line with the revenue growth in the quarter. The year-to-year drivers were approximately:

·Operational expense, 5 points

·Currency,* (2) points

·Acquisitions,** 4 points

*	Reflects impacts of translation and hedging programs.
**	Includes acquisitions completed in prior 12-month period.

Pre-tax income increased 9.0 percent and pre-tax margin improved 0.5 points to 24.0 percent versus the fourth quarter of 2009. Net income increased 9.2 percent and the net income margin improved 0.4 points to 18.1 percent.

Diluted earnings per share improved 16.4 percent reflecting the growth in net income and the benefits of the common stock repurchase program. In the fourth quarter, the company repurchased 25.1 million shares of its common stock. Diluted earnings per share of $4.18 increased $0.59 from the prior year driven by the following factors:

·Revenue increase at actual rates, $0.24

·Operating leverage, $0.09

·Common stock repurchases, $0.26

Segments

The Global Services segments had combined revenue of $14,923 million in the fourth quarter, an increase of 2.0 percent (2 percent adjusted for currency) and delivered pre-tax profit of $2,403 million, an increase of 3.5 percent year to year. Total signings for Global Services in the fourth quarter were $22,094 million, an increase of 17.8 percent (18 percent adjusted for currency) versus 2009. Outsourcing signings of $14,138 million increased 24.2 percent (23 percent adjusted for currency). Transactional signings increased 7.8 percent (9 percent adjusted for currency) to $7,956 million with growth in both GBS and GTS. Signings in the quarter included 19 deals greater than $100 million.

GTS revenue of $10,165 million increased 1.1 percent (1 percent adjusted for currency) versus the fourth quarter of 2009. Outsourcing revenue increased 1.3 percent (1 percent adjusted for currency). The estimated outsourcing backlog, which is the primary driver of outsourcing revenue, was $97 billion at December 31, 2010, an increase of $3 billion ($1 billion adjusted for currency) compared to the December 31, 2009 level and an increase of $6 billion ($5 billion adjusted for currency) from September 30, 2010. Fourth-quarter revenue was driven primarily from existing backlog while revenue from base accounts also increased for the first time since the fourth quarter of 2008. The increase in the outsourcing backlog was due to significant demand for the company’s offerings in the growth markets as clients build out their infrastructures. ITS revenue decreased 0.6 percent (flat adjusted for currency) versus the prior year. Revenue performance in the fourth quarter improved from previous quarters with the growth markets continuing to have good performance.

GTS gross profit margin of 34.7 percent declined 1.1 points compared to the fourth quarter of 2009. The GTS segment pre-tax profit of $1,657 million was up 6.5 percent and the margin expanded 0.9 points to 15.8 percent from the fourth quarter of 2009.

GBS revenue of $4,758 million increased 3.9 percent (4 percent adjusted for currency) compared to the fourth quarter of 2009 with growth both in outsourcing and the transactional businesses: consulting and systems integration. In the quarter, GBS gained share overall with gains in Consulting and sustained share in Application Management Services. From a geographic perspective, revenue performance was led by North America with growth of 11 percent, adjusted for currency. From an industry sector perspective, revenue growth was led by Distribution, Financial Services, Industrial and General Business. The growth initiatives continued to have good performance with GBS business analytics revenue up over 40 percent in the fourth quarter.

GBS gross profit margin of 28.3 percent declined 2.0 points year to year. The GBS segment pre-tax profit of $746 million declined 2.7 percent in the fourth quarter and pre-tax margin declined 0.9 points to 15.0 percent. GBS has improved utilization and delivery excellence, while continuing to invest in globally integrated capabilities and skills to support growth initiatives.

Software revenue of $7,039 million increased 7.0 percent (8 percent adjusted for currency). Adjusting for the divested PLM operations, revenue grew at 12 percent adjusted for currency in the fourth quarter. Revenue from Key Branded Middleware increased 13.4 percent (15 percent adjusted for currency) and gained share for the 13th straight quarter as the software business continued to extend its lead in the middleware market. Software revenue continues to mix to the faster growing branded middleware and, in the fourth quarter, it accounted for 66 percent of total software revenue, an increase of 3 points year to year. Revenue performance in the fourth quarter of 2010 was led by WebSphere which increased 32.2 percent (34 percent adjusted for currency), Tivoli up 12.1 percent (14 percent adjusted for currency), Rational up 10.2 percent (12 percent adjusted for currency) and Information Management up 10.4 percent (12 percent adjusted for currency). The company continues to add to its software capabilities. With

37

the acquisition of Netezza, the value of business analytics can be extended to both large enterprises and smaller clients with a system that is simple, economical and offers quick time-to-value. Netezza got off to a strong start in the quarter and complements the company’s business analytics and optimization capabilities.

The fourth quarter concluded a strong year for the software segment. Software gross profit increased 0.9 points to 88.5 percent. The Software segment delivered pre-tax profit of $3,172 million, an increase of 3.7 percent with a pre-tax margin of 40.6 percent.

Systems and Technology revenue of $6,277 million increased 21.0 percent (22 percent adjusted for currency), the best quarterly revenue performance in over a decade. Revenue was driven by growth in all brands with strong double-digit growth in System z, Power Systems entry systems, System x, Storage disk products, Retail Store Solutions and Microelectronics OEM. Both the major markets and growth markets had revenue growth in excess of 20 percent in the quarter. Total servers gained 3 points of market share with each of the server brands gaining share while Storage held share. System z revenue increased 69.2 percent (72 percent adjusted for currency). This performance reflects the value and innovation System z delivers to clients. System z MIPS shipments increased 58 percent year to year. The fourth-quarter MIPS performance was the highest quarterly growth in six years. Power Systems revenue increased 1.8 percent (3 percent adjusted for currency) and gained share for the 11th consecutive quarter. This was the first quarter with the complete POWER7 product line available. The newly introduced entry systems had strong customer acceptance with revenue growth of 29.9 percent (31 percent adjusted for currency) year to year. Mid-range Power Systems revenue grew 6.7 percent (8 percent adjusted for currency), the third consecutive quarter of revenue growth. The high-end product set has strong momentum entering 2011 as it shipped nearly 200 high-end 795 servers in the fourth quarter of 2010, three times as many as the third quarter of 2010. The company’s competitive take outs continued in the fourth quarter, with over 280 displacements driving approximately $325 million of business. Storage revenue increased 8.3 percent (10 percent adjusted for currency) led by the growth markets which increased 23 percent adjusted for currency, the third consecutive quarter of growth above 20 percent. Total disk revenue increased 10.9 percent (13 percent adjusted for currency) driven by the continued strength in high-end storage, XIV and the DS8000 product. XIV added more than 200 new customers to its platform in the fourth quarter. Storage had a successful launch of its new V7000 mid-range product which was sold out in the fourth quarter. System x revenue increased 18.3 percent (18 percent adjusted for currency), the fifth consecutive quarter of double-digit revenue growth. High-end System x revenue increased 31.0 percent (31 percent adjusted for currency) and System x blades revenue grew 14.1 percent (14 percent adjusted for currency). Retail Stores Solutions revenue increased 25.6 percent (27 percent adjusted for currency) and extended the company’s leadership position as a point of sale provider. Microelectronics OEM revenue increased 29.6 percent (30 percent adjusted for currency) in the fourth quarter with strong growth from networking and game console products.

Systems and Technology gross margin of 43.9 percent increased 1.4 points versus the fourth quarter of 2009 primarily reflecting a richer revenue mix to System z. The Systems and Technology segment pre-tax profit increased 45.1 percent to $1,208 million. Pre-tax margin increased 3.2 points to 18.6 percent compared to the fourth quarter of 2009.

Global Financing revenue of $628 million increased 1.2 percent (1 percent adjusted for currency), driven primarily by an increase in used equipment sales revenue. The Global Financing segment fourth-quarter pre-tax profit increased 14.0 percent to $567 million and the pre-tax margin expanded 3.4 points to 47.1 percent from the fourth quarter of 2009. The company’s financing business delivered good results as the global economy continued to emerge from a challenging credit environment.

Geographic Revenue

Total geographic revenue of $28,234 million increased 6.2 percent (7 percent adjusted for currency) year to year in the fourth quarter with constant currency growth in all geographies. Revenue from the major markets increased 3.9 percent (5 percent adjusted for currency) and improved 5 points from the constant currency performance in the third quarter. The fourth-quarter revenue growth was driven by the U.S., France and Italy. The U.S.—the company’s largest market—grew 10 percent, representing the strongest year-to-year growth in 11 years. Revenue from the growth markets increased 15.4 percent (13 percent adjusted for currency); adjusted for currency, revenue growth outpaced the major markets by 8 points in the quarter. In the BRIC countries, which represented approximately 41 percent of the growth markets revenue in the quarter, revenue increased 18.7 percent (17 percent adjusted for currency) with growth in each of the four countries led by strong growth in China (up 27.0 percent, 25 percent adjusted for currency) and Russia (up 45.2 percent, 46 percent adjusted for currency). Revenue growth in the growth markets continues to be broad based with double-digit growth in 50 countries, adjusted for currency, up from 32 countries in the third quarter of 2010. In the fourth quarter, the company gained share overall in the growth markets as well as in hardware and software. Total Americas revenue of $12,151 million increased 9.4 percent (9 percent adjusted for currency). EMEA revenue decreased 1.8 percent (increased 4 percent adjusted for currency) to $9,516 million. Adjusted for currency, revenue performance was led by France with strong double-digit growth (7.3 percent, 17 percent adjusted for currency) and solid performance in Italy (declined 3.9 percent, increased 5 percent adjusted for currency). Revenue performance was mixed across the other major market countries with the U.K. down 1.5 percent (up 2 percent adjusted for currency), Germany down 10.7 percent (3 percent adjusted for currency) and Spain down 6.2 percent (up 2 percent adjusted for currency). Asia Pacific revenue increased 13.6 percent (7 percent adjusted for currency) to $6,567 million, with the growth markets up 19.7 percent (14 percent adjusted for currency) and Japan up 6.5 percent (decreased 2 percent adjusted for currency).

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Expense

Total expense and other income increased 7.5 percent year to year with an expense-to-revenue ratio of 25.1 percent compared to 24.8 percent in the fourth quarter of 2009. The increase in total expense and other income was primarily driven by the company’s acquisitions over the past 12 months, a higher level of expense in support of fourth quarter revenue performance and investment in capacity to support future growth. Within SG&A expense, workforce rebalancing charges decreased approximately $60 million compared to a relatively high level of activity in the fourth quarter of 2009. With the year-to-year change in currencies, the hedge of cash flow program generated a loss of approximately $40 million in the fourth quarter of 2010 compared with a loss of over $250 million in the fourth quarter of 2009.

The company’s effective tax rate in the fourth quarter of 2010 was 24.4 percent compared with 24.6 percent in the fourth quarter of 2009.

Share repurchases totaled $3,592 million in the fourth quarter. The weighted-average number of diluted common shares outstanding in the fourth quarter of 2010 was 1,258.4 million compared with 1,340.7 million in the fourth quarter of 2009.

Cash Flow

The company ended the fourth quarter of 2010 with $10,661 million in cash and cash equivalents, an increase of $801 million from September 30, 2010. The company generated $6,795 million in cash flow provided by operating activities, an increase of $347 million compared to the fourth quarter of 2009, driven primarily by working capital/other ($978 million) and an increase in net income ($445 million), partially offset by Global Financing receivables ($1,060 million). Net cash used in investing activities of $4,082 million increased $1,587 million primarily due to increased acquisitions of $1,859 million. Net cash used in financing activities of $1,859 million increased $653 million due to higher payments to repurchase common stock ($538 million), lower cash from other common stock transactions ($401 million) and increased dividend payments ($81 million), partially offset by an increased net benefit associated with debt ($367 million).

Prior Year in Review

The Prior Year in Review section provides a summary of the company’s financial performance in 2009 as compared to 2008. For a detailed discussion of 2009 performance, see the 2009 Annual Report.

($ and shares in millions except per share amounts)

							Yr.-to-Yr.
							Percent/
							Margin
For the year ended December 31:	2009			2008			Change
Revenue	$	95,758		$	103,630		(7.6	)%*
Gross profit margin	45.7		%	44.1		%	1.7	pts.
Total expense and other income	$	25,647		$	28,945		(11.4	)%
Total expense and other income-to-revenue ratio	26.8		%	27.9		%	(1.1	)pts.
Income before income taxes	$	18,138		$	16,715		8.5	%
Provision for income taxes	4,713			4,381			7.6	%
Net income	$	13,425		$	12,334		8.8	%
Net income margin	14.0		%	11.9		%	2.1	pts.
Earnings per share of common stock:
Assuming dilution	$	10.01		$	8.89		12.6	%
Weighted-average shares outstanding:
Assuming dilution	1,341.4			1,387.8			(3.3	)%
Assets**	$	109,022		$	109,524		(0.5	)%
Liabilities**	$	86,267		$	95,939		(10.1	)%
Equity**	$	22,755		$	13,584		67.5	%

* (5.3) percent adjusted for currency.

** At December 31.

In 2009, in a difficult global economic environment, the company continued to deliver value to its clients and strong financial results to its investors—with profit growth driven by continued margin expansion, expense productivity, market share gains in software and systems and a continuing strong cash position. The company again achieved record levels of pre-tax profit, earnings per share and cash flow from operations—despite a decline in revenue. The financial performance reflected the strength of the company’s global model and the results of the strategic transformation of the business.

39

For the year, the company delivered $10.01 in diluted earnings per share, an increase of 12.6 percent year to year. This was the seventh consecutive year of double-digit earnings per share growth. In 2007, the company developed a road map for growth with an earnings per share objective for 2010 of $10 to $11 per share. With its performance in 2009, the company achieved this objective one year early.

Total revenue decreased 7.6 percent (5 percent adjusted for currency) compared to 2008. Revenue from the growth markets declined 3.5 percent, but increased 1 percent at constant currency. Performance was led by the BRIC countries of Brazil, Russia, India and China which increased 4 percent, adjusted for currency. Segment performance was driven by Software which decreased 3.1 percent year to year (1 percent adjusted for currency) and Global Technology Services which declined 4.9 percent (2 percent adjusted for currency). Within Software, performance was led by key branded middleware which increased revenue 1.1 percent (3 percent adjusted for currency) compared to the prior year.

Gross profit margins improved reflecting the shift to higher value businesses and the continued focus on productivity and cost management. The consolidated gross profit margin increased 1.7 points versus 2008 to 45.7 percent. This was the sixth consecutive year of improvement in the gross profit margin. Gross profit margin performance by segment and the impact to the consolidated gross margin was as follows:

	Gross		Yr.-to-Yr.		Consolidated
	Margin		Change		Impact
Global Technology Services	35.0	%	2.4	pts.	0.8	pts.
Global Business Services	28.2	%	1.5	pts.	0.4	pts.
Software	86.0	%	0.6	pts.	0.6	pts.
Systems and Technology	37.8	%	(0.2	)pts.	0.1	pts.
Global Financing	47.5	%	(3.8	)pts.	(0.1	)pts.

Total expense and other income decreased 11.4 percent in 2009 versus 2008. The year-to-year drivers were approximately:

·Operational expense, (9) points  

·Currency,* (4) points

·Acquisitions,** 1 point

* Reflects impacts of translation and hedging programs.

** Includes acquisitions completed in prior 12-month period.

Pre-tax income grew 8.5 percent and the pre-tax margin was 18.9 percent, the highest level in more than a decade. Net income increased 8.8 percent reflecting a slight improvement in the tax rate. The effective tax rate for 2009 was 26.0 percent, compared with 26.2 percent in 2008.

Diluted earnings per share improved 12.6 percent reflecting the strong growth in net income and the benefits of the common stock repurchase program. In 2009, the company repurchased approximately 69 million shares of its common stock. Diluted earnings per share of $10.01 increased $1.12 from the prior year driven by the following factors:

·Revenue decrease at actual rates, $(0.68)  

·Operating leverage, $ 1.46  

·Common stock repurchases, $ 0.34

At December 31, 2009, the company’s balance sheet and liquidity positions remained strong. Cash on hand was $12,183 million. Total debt decreased $7,826 million year to year, and the company generated $20,773 million in operating cash flow in 2009. The company has consistently generated strong cash flow from operations and also continues to have access to additional sources of liquidity through the capital markets and its global credit facility.

The following is an analysis of the 2009 versus 2008 reportable segment results for Global Services, Systems and Technology and Software. The Global Financing segment analysis is included in the Global Financing section on pages 55 through 59.

Global Services

($ in millions)

							Yr.-to-Yr.
					Yr.-to-Yr.		Change Adjusted
For the year ended December 31:	2009*		2008*		Change		for Currency
Global Services external revenue:	$	55,000	$	58,891	(6.6	)%	(4.0	)%
Global Technology Services:	$	37,347	$	39,264	(4.9	)%	(2.0	)%
Outsourcing	21,620		22,734		(4.9	)	(2.0	)
Integrated Technology Services	8,771		9,283		(5.5	)	(2.9	)
Maintenance	6,956		7,250		(4.1	)	(1.1	)
Global Business Services	$	17,653	$	19,628	(10.1	)%	(8.1	)%

* Reclassified to conform with 2010 presentation.

40

The Global Services segments, GTS and GBS, had combined revenue of $55,000 million, a decrease of 6.6 percent (4 percent adjusted for currency) in 2009 when compared to 2008. Services revenue performance was supported by its annuity revenue base, but also reflected the challenges in the more economically sensitive consulting business.

Total Global Services signings of $57,094 million decreased 0.2 percent (increased 2 percent adjusted for currency). Outsourcing signings of $33,014 million increased 8.8 percent (11 percent adjusted for currency). Outsourcing signings growth was broad based across all the major geographies. Transactional signings were $24,081 million, a decrease of 10.2 percent (8 percent adjusted for currency). The estimated Global Services backlog at actual currency rates was $137 billion at December 31, 2009, an increase of $7 billion ($1 billion adjusted for currency) from December 31, 2008 and an increase of $2 billion ($3 billion adjusted for currency) from September 30, 2009.

The Global Services segments delivered a combined pre-tax profit of $8,092 million in 2009, a growth of 11.0 percent versus 2008, and expanded pre-tax margin 2.3 points to 14.1 percent. The improved margin was a result of the structural changes made to services delivery over the past several years. The services global delivery capabilities have proven to be dynamic and flexible enough to deal with very tough market conditions. Overall, the Global Services business delivered strong margin and signings performance in a difficult economic climate.

Global Technology Services revenue of $37,347 million decreased 4.9 percent (2 percent adjusted for currency) in 2009 versus 2008. Outsourcing signings of $25,507 million increased 4.3 percent (8 percent adjusted for currency) with growth of 7 percent in the major markets and 14 percent in the growth markets, adjusted for currency. Integrated Technology Services signings of $9,196 million decreased 10.3 percent (8 percent adjusted for currency).

Outsourcing revenue decreased 4.9 percent (2 percent adjusted for currency). Outsourcing revenue performance, adjusted for currency, was consistent throughout the year, although impacted by reduced volumes in the existing client base. Revenue trends in Outsourcing should improve in 2010 as a result of the 2009 signings performance.

Integrated Technology Services (ITS) revenue decreased 5.5 percent (3 percent adjusted for currency) in 2009 versus 2008. Revenue performance largely reflects recent signings performance which continued to be impacted by declines in OEM offerings, as the ITS portfolio shifts to higher value, higher margin offerings.

Global Business Services revenue decreased 10.1 percent (8 percent adjusted for currency) in 2009 driven primarily by a double-digit decline in Consulting and Systems Integration revenue. Application Outsourcing signings increased 27.1 percent (25 percent adjusted for currency), illustrating the strong value proposition Application Outsourcing can provide to clients with compelling cost savings. Consulting and Systems Integration signings decreased 10.2 percent (8 percent adjusted for currency).

($ in millions)

							Yr.-to-Yr.
For the year ended December 31:	2009			2008			Change
Global Services:
Global Technology Services:
External gross profit	$	13,081		$	12,802		2.2	%
External gross profit margin	35.0		%	32.6		%	2.4	pts.
Pre-tax income	$	5,537		$	4,607		20.2	%
Pre-tax margin	14.3		%	11.3		%	3.0	pts.
Global Business Services:
External gross profit	$	4,979		$	5,238		(4.9	)%
External gross profit margin	28.2		%	26.7		%	1.5	pts.
Pre-tax income	$	2,555		$	2,681		(4.7	)%
Pre-tax margin	13.8		%	13.0		%	0.8	pts.

GTS gross profit margin improved 2.4 points to 35.0 percent in 2009 and expanded in all lines of business when compared to 2008. Outsourcing gross margin improved for the fifth consecutive year, while also improving overall service delivery quality. This has been accomplished through a disciplined and innovative approach to delivery focused on both labor and non-labor productivity actions. GTS has been executing a strategy to deliver services out of key global delivery centers using consistent global delivery methods and processes. The delivery centers are also improving labor utilization with analytics and by applying supply chain tools and techniques to the labor base. Integrated Technology Services gross margin improved as the result of mixing the portfolio to more profitable labor-based services. Segment pre-tax profit increased 20.2 percent to $5,537 million with a pre-tax margin of 14.3 percent, an increase of 3.0 points versus 2008.

GBS gross profit margin improved 1.5 points to 28.2 percent in 2009 with an improving margin trend throughout the year. Segment pre-tax profit was down 4.7 percent to $2,555 million, however, the margin improved 0.8 points year over year. Throughout the year, the dynamic GBS delivery model enabled solid profit performance in a tough economic climate. The pre-tax margin expansion also included improving trends throughout the year and was driven primarily by improved delivery center utilization, reduced subcontractor spending and improved cost and expense management.

41

Software

($ in millions)

							Yr.-to-Yr.
					Yr.-to-Yr.		Change Adjusted
For the year ended December 31:	2009*		2008*		Change		for Currency
Software external revenue:	$	21,396	$	22,089	(3.1	)%	(0.8	)%
Middleware	$	17,125	$	17,305	(1.0	)%	1.4	%
Key Branded Middleware	12,524		12,392		1.1		3.4
WebSphere					10.5		12.7
Information Management					(0.5	)	1.9
Lotus					(10.0	)	(7.9	)
Tivoli					2.9		5.1
Rational					0.2		2.7
Other middleware	4,602		4,912		(6.3	)	(3.5	)
Operating systems	2,163		2,337		(7.4	)	(4.9	)
Other	2,108		2,448		(13.9	)	(12.0	)

* Reclassified to conform with 2010 presentation.

Software revenue of $21,396 million decreased 3.1 percent (1 percent adjusted for currency) in 2009 compared to 2008. Adjusted for currency, growth in the Key Branded Middleware products was offset by decreased revenue in other components of the software portfolio. Overall, the software business continued to perform well in the uncertain environment. The company’s acquisitions increased revenue and the company is continuing to invest in capabilities that accelerate the development of new market opportunities like business analytics and smarter planet.

Key Branded Middleware revenue increased 1.1 percent (3 percent adjusted for currency) and represented 59 percent of total Software revenue, an increase of 2 points from 2008. The company continued to solidify its lead in the middleware market, gaining share for nine consecutive quarters. Organic investments and acquisitions in middleware capabilities continue to result in it becoming a larger portion of the software portfolio and improving the overall software revenue growth rate. Growth in 2009, adjusted for currency, was led by WebSphere and Tivoli.

WebSphere revenue increased 10.5 percent (13 percent adjusted for currency) in 2009 with strong performance throughout the year. Application Servers, which provide customers with a secure and resilient infrastructure for mission-critical business applications, grew 5 percent adjusted for currency. Business Integration software had double-digit revenue growth in 2009, including strong contribution from ILOG, a company acquired in the fourth quarter of 2008.

Information Management revenue decreased 0.5 percent (increased 2 percent adjusted for currency) in 2009 versus the prior year, with revenue growth, adjusted for currency, in both Information Management solutions and infrastructure offerings. Cognos and InfoSphere software, two key components of the business analytics area, both had double-digit revenue growth adjusted for currency. The acquisition of SPSS, which was completed in early October 2009, further expands the company’s business analytics capabilities.

Lotus revenue decreased 10.0 percent (8 percent adjusted for currency) in 2009. Demand for Lotus software was impacted by customer consolidations and downsizing throughout 2009.

Tivoli revenue increased 2.9 percent (5 percent adjusted for currency) in 2009 when compared to 2008, driven by growth in storage software. Tivoli storage revenue grew consistently throughout the year as customers managed their rapidly growing storage data.

Rational revenue increased 0.2 percent in 2009 as reported and increased 3 percent adjusted for currency versus 2008. Rational’s integrated software tools improve the speed, quality and efficiency for customers with software development projects. Telelogic contributed strong revenue growth in 2009 and extended the brand’s reach into the systems development market opportunity.

Revenue from Other middleware products decreased 6.3 percent (3 percent adjusted for currency) in 2009 versus the prior year. This software product set includes more mature products which provide a more stable flow of revenue.

Operating systems product revenue decreased 7.4 percent (5 percent adjusted for currency) in 2009 compared to 2008, reflecting declining sales in all system brands.

Other revenue declined 13.9 percent (12 percent adjusted for currency) versus 2008 primarily driven by a decrease in Product Lifecycle Management software.

42

($ in millions)

							Yr.-to-Yr.
For the year ended December 31:	2009			2008			Change
Software:
External gross profit	$	18,405		$	18,859		(2.4	)%
External gross profit margin	86.0		%	85.4		%	0.6	pts.
Pre-tax income	$	8,095		$	7,075		14.4	%
Pre-tax margin	33.6		%	28.5		%	5.2	pts.

Software gross profit of $18,405 million in 2009 decreased 2.4 percent versus 2008, driven primarily by declining revenue. Gross profit margin expanded 0.6 points to 86.0 percent in 2009. The Software segment delivered $8,095 million of pre-tax profit in 2009, an increase of 14.4 percent versus 2008. The segment pre-tax profit margin expanded 5.2 points to 33.6 percent. The breadth of the software portfolio, the strong recurring revenue stream and the actions taken to improve efficiency and productivity combined to deliver strong profit results.

Systems and Technology

($ in millions)

							Yr.-to-Yr.
					Yr.-to-Yr.		Change Adjusted
For the year ended December 31:	2009		2008		Change		for Currency
Systems and Technology external revenue:	$	16,190	$	19,287	(16.1	)%	(14.9	)%
System z					(28.7	)%	(27.5	)%
Power Systems					(10.7	)	(9.2	)
System x					(4.6	)	(3.3	)
Storage					(12.0	)	(11.0	)
Retail Store Solutions					(25.6	)	(23.6	)
Total Systems					(15.9	)	(14.6	)
Microelectronics OEM					(15.1	)	(15.2	)

Systems and Technology revenue decreased 16.1 percent (15 percent adjusted for currency) in 2009 versus 2008 reflecting the challenges that transactional-based businesses faced in the difficult economic environment. While revenue performance declined in 2009, the rate of decline improved sequentially in the third and fourth quarters. The company gained share in Power Systems, System x, blades and Storage external disk and tape storage during 2009.

System z revenue decreased 28.7 percent (28 percent adjusted for currency) in 2009 versus 2008. MIPS (millions of instructions per second) shipments decreased 13 percent in 2009 versus the prior year. MIPS increased 4 percent in 2009 on a two year compounded growth rate and this performance was consistent with what the company expected at this point in the product cycle. In the third quarter, the company introduced System z Solution Editions, which expanded the platform’s value proposition to both new and existing clients.

Power Systems revenue decreased 10.7 percent (9 percent adjusted for currency) in 2009 versus 2008. Low-end server revenue declined 43 percent, mid-range server revenue decreased 2 percent and high-end server revenue decreased 10 percent versus 2008. Although revenue declined, the company continued to gain market share in the mid-range and high end by helping clients increase efficiency in their data centers by leveraging consolidation and virtualization results. This has led to seven consecutive quarters of share gains. In addition, in 2009, the company increased sales generated by UNIX competitive displacements to over $600 million.

System x revenue decreased 4.6 percent (3 percent adjusted for currency) in 2009 versus 2008. Revenue performance in the second half of the year was strong with third-quarter revenue increasing 0.6 percent (2 percent adjusted for currency) and fourth-quarter revenue increasing 36.8 percent (30 percent adjusted for currency) compared to the prior-year periods. System x server revenue declined 4 percent, primarily driven by decreased low-end server revenue (10 percent) in 2009 versus 2008. Blades revenue increased 11 percent in 2009 versus 2008. System x server gained share in four consecutive quarters. The company’s improved sales model and enhanced product offerings were the key contributors to this performance.

Storage revenue decreased 12.0 percent (11 percent adjusted for currency) in 2009 versus 2008. Total disk revenue decreased 9 percent versus 2008. These decreases were driven by declines in mid-range disk revenue of 18 percent and decreased Enterprise Disk revenue of 6 percent. In the fourth quarter, the company introduced the DS8700 product, the latest addition to the DS8000 line of high-end disk systems. The company’s storage acquisitions, XIV and Diligent, had strong performance. XIV has added over 400 new customers since the acquisition. Tape revenue declined 20 percent in 2009 versus 2008.