The company accounts for business combinations using the acquisition method and accordingly, the identifiable assets acquired, the liabilities assumed and any noncontrolling interest in the acquiree are recorded at their acquisition date fair values. Significant judgments and use of estimates are required when performing valuations. For example, the company uses judgments when estimating the fair value of intangible assets using a discounted cash flow model; which involves the use of significant estimates and assumptions with respect to revenue growth rates, customer attrition rate and discount rates.

Red Hat - On July 9, 2019, the company completed the acquisition of all of the outstanding shares of Red Hat. Red Hat’s portfolio of open-source technologies, innovative cloud development platform and developer community, combined with IBM’s innovative hybrid cloud technology, industry expertise and commitment to data, trust and security, will deliver the hybrid multicloud capabilities required to address the next chapter of cloud implementations as well as accelerate the company’s growth. Red Hat’s business model is based upon open-source software, which is an alternative to proprietary software in relation to the development and licensing of commercial software code. For Red Hat’s open-source software subscriptions, no revenue is recognized upfront from the licensing of the code itself, but rather, is recognized over time throughout the contract term as control of the promised product or service is transferred to the customer.

On the acquisition date, Red Hat shareholders received $190 per share in cash, representing a total equity value of approximately $34 billion. The company funded the transaction through a combination of cash on hand and proceeds from debt issuances. Refer to note 13, “Borrowings” for additional details on the financing of the transaction.

The following table reflects the preliminary purchase price allocation as of the acquisition date.

*	Includes $2.2 billion of cash and cash equivalents.

Includes $485 million of short-term debt related to the convertible notes acquired from Red Hat that were recognized at their fair value on the acquisition date, of which $50 million is included in the company’s Consolidated Statement of Financial Position as of September 30, 2019. This remaining balance was settled on October 1, 2019.

N/A – Not applicable

The goodwill generated is primarily attributable to the assembled workforce of Red Hat and the increased synergies expected to be achieved from the integration of Red Hat products into the company’s various integrated solutions, neither of which qualify as an amortizable intangible asset.

The overall weighted-average useful life of the identified amortizable intangible assets acquired is 10.9 years. These identified intangible assets will be amortized on a straight-line basis over their useful lives, which approximates the

pattern that the assets’ economic benefits are expected to be consumed over time. Goodwill of $23.1 billion has been assigned to the segments as follows: Cloud & Cognitive Software $18.4 billion, Global Technology Services $3.1 billion, Global Business Services $1.1 billion, and Systems $0.5 billion. It is expected that six percent of the goodwill will be deductible for tax purposes.

The valuation of the assets acquired and liabilities assumed is preliminary and subject to revision as more detailed analyses are completed. If additional information about the fair value of assets acquired and liabilities assumed becomes available, the company may further revise the preliminary purchase price allocation as soon as practical, but no later than one year from the acquisition date. Any such revisions or changes may be material.

The company recognized acquisition-related costs, such as legal and advisory fees, related to the acquisition within SG&A in the Consolidated Statement of Earnings of $98 million and $171 million for the three and nine months ending September 30, 2019, respectively. Within the amounts recognized in SG&A, $55 million represents amortized costs related to bridge term loan facility fees for the nine months ended September 30, 2019. There were no bridge loan fees for the three months ended September 30, 2019. In addition, for the period beginning on the acquisition date through September 30, 2019, the company recognized $16 million, $101 million and $68 million of compensation expense, within cost, SG&A and RD&E, respectively in the Consolidated Statement of Earnings, related to employee retention plans. The remaining compensation expense of approximately $230 million associated with the retention plans will be recognized over the remaining requisite service periods, which range from six months to three years from the acquisition date.

The acquisition of Red Hat settled a pre-existing vendor/customer relationship in which the company had historically paid in advance for purchases of Red Hat products. Because the terms of the agreements were determined to approximate fair value as of the acquisition date, the company did not recognize any gain or loss separately from the acquisition, and $60 million was included as part of the fair value of consideration transferred on the acquisition date.

The Consolidated Statement of Earnings includes revenue and a pre-tax loss attributable to Red Hat since the date of acquisition for both the three and nine months ended September 30, 2019 of $371 million and $981 million, respectively. The pre-tax loss is primarily driven by the deferred revenue fair value adjustment, retention expenses, intangible asset amortization and deal fees. It excludes interest expense.

The following table presents the supplemental consolidated financial results of the company on an unaudited pro forma basis, as if the acquisition had been consummated on January 1, 2018 through the periods shown below. The primary adjustments reflected in the pro forma results relate to: (1) the debt used to fund the acquisition, (2) changes driven by acquisition accounting, including amortization of intangible assets and the deferred revenue fair value adjustment, (3) employee retention plans, (4) elimination of intercompany transactions between IBM and Red Hat, and (5) the presentation of acquisition-related costs. Acquisition-related costs are non-recurring in nature and the pro forma net income amounts shown below include $356 million of these costs.

The unaudited pro forma financial information presented below does not purport to represent the actual results of operations that IBM and Red Hat would have achieved had the companies been combined during the periods presented and is not intended to project the future results of operations that the combined company may achieve after the acquisition. Historical fiscal periods are not aligned under this presentation. The unaudited pro forma financial information does not reflect any potential cost savings, operating efficiencies, long-term debt pay down estimates, suspension of IBM’s share repurchase program, financial synergies or other strategic benefits that may be realized as a result of the acquisition and also does not reflect any restructuring costs to achieve those benefits.


(Unaudited)	Three Months Ended September 30,				Nine Months Ended September 30,
(Dollars in millions)	2019		2018		2019		2018
Revenue	$	18,567	$	19,236	$	57,424	$	58,987
Net income	$	2,249	$	2,079	$	5,664	$	4,278

Divestitures

Select IBM Software Products – On December 6, 2018, IBM and HCL Technologies Limited (HCL) announced a definitive agreement, in which HCL would acquire select standalone Cloud & Cognitive Software products for $1,775 million, inclusive of $150 million of contingent consideration. The software products in-scope included AppScan, BigFix, Unica, Commerce, Portal, Notes, Domino and Connections. The transaction included commercial software, intellectual property and services offerings. In addition, the transaction includes transition services for IT and other services. The initial terms of the transition services are generally less than one year, however, HCL can renew certain services up to an additional year.

The transaction closed on June 30, 2019. The company received cash of $812 million at closing and $40 million of the contingent consideration in the third quarter of 2019. The company expects to receive an additional $813 million (net of any additional contingent consideration) within 12 months of closing. The outstanding contingent consideration is expected to be earned within 24 months of the closing. The company recognized a pre-tax gain on the sale of $556 million on June 30, 2019, which was recorded in other (income) and expense in the Consolidated Statement of Earnings. Due to changes in transaction estimates, the company recognized an additional pre-tax gain of $72 million in the third quarter of 2019. The total gain on sale may change in the future due to contingent consideration or changes in other transaction estimates, however, material changes are not expected.

Select IBM Marketing Platform and Commerce Offerings – On April 4, 2019, IBM and Centerbridge Partners, L.P. (Centerbridge) announced a definitive agreement, in which Centerbridge would acquire select marketing platform and commerce offerings from IBM, including Customer Experience Analytics, Content Hub and Marketing Assistant, among others. The transaction included commercial software and services offerings. In addition, the company started providing Centerbridge with transition services including IT, supply chain management, and other services. Upon closing, Centerbridge announced that this business would be re-branded under the name Acoustic. The closing completed for the U.S. on June 30, 2019. The company expects a subsequent closing for the remaining countries to occur within 12 months of the U.S. closing. The timing of the subsequent closing is subject to change as more information becomes available. The company received a net cash payment of $240 million on June 30, 2019 and expects to receive an additional $150 million within 36 months of the U.S. closing.

The company recognized an immaterial pre-tax gain on the sale on June 30, 2019. The amount of the pre-tax gain for the remaining countries will not be determinable until the valuation of the final balance sheet transferred is completed, however, it is not expected to be material.

Seterus – On January 3, 2019, IBM and Mr. Cooper Group announced a definitive agreement, in which Mr. Cooper Group acquired IBM’s Seterus home mortgage servicing platform business. The transaction closed in the first quarter of 2019. The financial terms related to this transaction were not material.

The above three divested businesses are reported in other – divested businesses. Refer to note 8, “Segments,” for additional information.

Others ‒ In addition to the above, the company completed or signed the following divestitures:

2019 – In the first quarter of 2019, the Global Financing segment sold certain commercial financing capabilities and assigned a number of its commercial financing contracts, excluding related receivables which will be collected as they become due in the normal course of business. In the third quarter of 2019, IBM completed one divestiture in the Global Business Services segment and entered into a definitive agreement to sell select assets reported in the Cloud & Cognitive Software segment. The financial terms related to each of these transactions were not material.