01—Abstract
Summary
Summary of the 10-K filed February 28, 2017. Cited figures are marked; the original filing is the authoritative source.
IBM's 2016 Form 10-K shows a company in transition: revenue fell 2.2% to $79.9 billiona (1.6% decline adjusted for currency), while strategic imperatives (cloud, analytics, engagement) grew 13% to $32.8 billion, or 41% of revenue.
Gross profit margin contracted 1.9 points to 47.9%, and GAAP income from continuing operations declined 11.1% to $11.9 billionb, with diluted EPS from continuing operations of $12.39 (down 8.9%). Operating (non-GAAP) EPS was $13.59. Results were supported by a $1.0 billion Japanese tax refund that drove the effective tax rate to 3.6%, so underlying profitability was weaker than the headline GAAP figures alone suggest.
Cash generation remained strong, with $17.0 billionc in operating cash flow and $11.6 billion in free cash flow (97% realization of GAAP income from continuing operations). IBM returned $8.8 billion to shareholders through $5.3 billion in dividends and $3.5 billion in buybacks, and spent $5.7 billion on 15 acquisitions, including The Weather Company, Truven, and Promontory. Total debt rose to $42.2 billion, though $27.9 billion of it supports the Global Financing segment, which operates at a 7.3:1 leverage ratio.
Core debt-to-capitalization fell to 49.5%. Looking ahead, management guided 2017 GAAP EPS from continuing operations to at least $11.95d and operating EPS to at least $13.80, with flat free cash flow.
The company expects GAAP pre-tax income to decline due to roughly $900 million higher non-operating pension cost, while operating pre-tax income is expected to grow. Key risks flagged include Systems hardware weakness (revenue down 19.2%, with z Systems and Power Systems each down 27.1%), declining traditional consulting and ERP work in GBS, ongoing legal matters such as the SCO litigation and an SEC revenue-recognition investigation, and foreign-currency exposure, since more than 60% of revenue comes from outside the U.S.
02—Key points
Key Highlights
- Revenue declined 2.2% to $79.9B, but strategic imperatives grew 13% to $32.8B and now represent 41% of total revenue, up 6 points from 2015.
- GAAP diluted EPS from continuing operations fell 8.9% to $12.39; operating (non-GAAP) EPS was $13.59, also down 8.9%, and the GAAP tax rate of 3.6% was flattered by a $1.0B Japan tax refund.
- Gross profit margin contracted 1.9 points to 47.9%, reflecting investments in cloud and acquisitions and a mix shift toward as-a-Service offerings that are not yet at scale.
- Free cash flow was $11.6B (97% of GAAP income from continuing operations), and IBM returned $8.8B to shareholders via $5.3B in dividends and $3.5B in buybacks.
- Systems revenue fell 19.2% to $7.7B, with z Systems and Power Systems each down 27.1%, while Global Business Services revenue declined 2.7% as traditional ERP work wound down.
- Total debt rose $2.3B to $42.2B, with $27.9B supporting Global Financing at 7.3:1 leverage; the company plans to move client financing into IBM Credit LLC and raise leverage to roughly 9:1.
- 2017 guidance calls for GAAP EPS of at least $11.95 and operating EPS of at least $13.80, with flat free cash flow and higher non-operating pension costs weighing on GAAP pre-tax income.
03—One dollar
Follow one dollar
Of each $1.00 of revenue in FY2016, International Business Machines Corp kept $0.15.
- Revenue$79.92B100.0%
- Cost of revenue−$41.40B51.8%
- Gross profit$38.52B48.2%
- Operating costs−$26.64B33.3%
- Operating income$11.88B14.9%
- Interest, other & tax−$9.0M0.0%
- Net income$11.87B14.9%
Where FY2016 revenue went
$79.92B- Cost of revenue: $41.40B, 52% of revenue
- SG&A: $20.87B, 26% of revenue
- Net income: $11.87B, 15% of revenue
- R&D: $5.73B, 7.2% of revenue
Kept 15% as net income
Full revenue history →04—Financials
Financial Highlights
Figures from 10-KFY2016filed February 28, 2017Financial Statements
FY2016 against FY2015
| Line item | FY2016FY2015 | Change |
|---|---|---|
| Revenue | $79.92B$81.74B | −2.2% |
| Cost of Revenue | $41.40B$41.06B | +0.8% |
| Gross Profit | $38.52B$40.68B | −5.3% |
| R&D Expenses | $5.73B$5.25B | +9.1% |
| SG&A Expenses | $20.87B$20.43B | +2.1% |
| Operating Income | $11.88B$13.36B | −11.1% |
| Interest Expense | $630.00M$468.00M | +34.6% |
| Net Income | $11.87B$13.19B | −10.0% |
| EPS (Basic) | $12.43$13.48 | −7.8% |
| EPS (Diluted) | $12.38$13.42 | −7.7% |
| Shares Outstanding (Basic) | 955.42M978.74M | −2.4% |
| Shares Outstanding (Diluted) | 958.71M982.70M | −2.4% |
05—Questions
Frequently Asked Questions
How did IBM's core business perform in 2016 and what drove the decline in revenue?
Total revenue fell 2.2% as reported to $79.9B (1.6% adjusted for currency). Growth in cloud, analytics, and security (strategic imperatives, up 13%) was offset by declines in Systems hardware (down 19.2%), transactional software, and traditional GBS consulting and ERP work. Americas revenue declined 2.5%, EMEA fell 5.0%, and Asia Pacific rose 2.6% as reported but declined 1% adjusted for currency.
Why do GAAP and operating (non-GAAP) earnings differ, and which is more meaningful?
Operating earnings exclude acquisition-related charges (such as amortization of purchased intangibles) and non-operating retirement-related costs such as pension interest cost, expected return on plan assets, and actuarial loss amortization. GAAP EPS was $12.39 versus $13.59 operating. Investors should weigh both: the GAAP figure includes real pension and acquisition costs, while the operating figure is management's view of recurring operational performance. The GAAP tax rate of 3.6% was also unusually low due to the one-time $1.0B Japan refund, which is not repeatable.
Is IBM's debt load a concern for investors?
Consolidated total debt rose to $42.2B, but about two-thirds ($27.9B) funds Global Financing, a captive lending business whose assets are leveraged 7.3:1 and generate a 30.6% return on equity. Core debt-to-capitalization, excluding Global Financing, improved to 49.5% from 54.3%. Consolidated debt-to-capitalization fell to 69.6% from 73.4%. The company holds an investment-grade rating (AA-/Aa3/A+) and a $10.25B undrawn credit facility. However, the planned increase in financing leverage to 9:1 will add risk if credit conditions deteriorate.
What is the outlook for 2017 and what are the key risks?
Management guided to GAAP EPS from continuing operations of at least $11.95 and operating EPS of at least $13.80, with free cash flow essentially flat. GAAP pre-tax income is expected to decline because non-operating pension costs are forecast to rise about $900M to roughly $1.5B. Key risks include continued declines in Systems hardware tied to product-cycle timing, pressure on traditional consulting and transactional software, currency volatility (over 60% of revenue is non-U.S.), possible tax reform and OECD guideline changes, pension funding requirements, and open litigation including the SCO matter, an SEC revenue-recognition investigation, and FCPA-related inquiries.
How strong is IBM's shareholder return program and cash generation?
IBM generated $17.0B in operating cash flow and $11.6B in free cash flow in 2016. It returned $8.8B to shareholders ($5.3B in dividends, with the quarterly dividend raised to $1.40 from $1.30, and $3.5B in buybacks of 23.3 million shares). $5.1B remained under the buyback authorization at year-end. Free cash flow fell $1.5B year over year, mainly due to lower net income and reduced trade receivables cash flow, partially offset by lower cash tax payments. Dividend payments exceeded free cash flow after acquisitions, so the company funded part of its shareholder returns and $5.7B in acquisitions with new debt.
06—Continue