01—Abstract
Summary
Summary of the 10-K filed February 26, 2019. Cited figures are marked; the original filing is the authoritative source.
International Business Machines Corporation (IBM) reported 2018 revenue of $79.6 billiona, up 0.6% as reported and flat at constant currency, with GAAP net income of $8.7 billion and diluted EPS from continuing operations of $9.51.
Results were distorted by a $2.0 billionb U.S. tax reform charge (versus $5.5 billion in 2017). On an operating (non-GAAP) basis, which excludes acquisition-related charges, non-operating retirement costs and tax reform, diluted EPS was $13.81, up 1.1%, and operating pre-tax margin was 17.3%. Growth was concentrated in strategic imperatives, which generated $39.8 billion (up 9%), with cloud revenue of $19.2 billion (up 12%) and an as-a-Service exit run rate of $12.2 billion.
Core legacy areas were weaker: IBM Z declined on product-cycle dynamics, Storage Systems faced pricing pressure, and Transaction Processing Software and Technical Support Services declined. Cash generation remained strong, with $15.2 billionc in operating cash flow and $11.9 billion in free cash flow, and $10.1 billion returned to shareholders through $5.7 billion in dividends and $4.4 billion in buybacks. Total debt was $45.8 billion, and the company stated its commitment to a strong investment-grade rating.
The most important forward-looking item is the pending $34 billiond Red Hat acquisition, expected to close in the second half of 2019, which the company plans to fund with cash and debt. Management guided 2019 GAAP EPS of at least $12.45 and operating EPS of at least $13.90, with free cash flow of about $12 billion, but these figures exclude Red Hat. The company also flagged a 2020–2021 suspension of buybacks to reduce debt and rating pressure after S&P and Fitch lowered IBM's long-term rating to A.
02—Key points
Key Highlights
- Revenue of $79.6B grew 0.6% as reported and was flat at constant currency; Americas declined 1.7% while EMEA grew 4.5% as reported.
- GAAP diluted EPS from continuing operations was $9.51 (up 54.9%), but was depressed by a $2.0B U.S. tax reform charge; operating EPS was $13.81 (up 1.1%).
- Strategic imperatives revenue reached $39.8B (up 9%), with cloud revenue of $19.2B (up 12%) and as-a-Service exit run rate of $12.2B.
- Free cash flow was $11.9B (down $1.1B year over year), and shareholder returns totaled $10.1B including $4.4B in gross buybacks (32.9M shares).
- Systems revenue fell 2.0%, driven by IBM Z product-cycle dynamics and Storage pricing pressure, partly offset by Power Systems growth of 8.8%.
- The pending $34B Red Hat acquisition (expected close 2H 2019) is cash and debt-funded; it prompted S&P and Fitch to lower IBM's long-term rating to A and suspends buybacks in 2020–2021.
- 2019 guidance: GAAP EPS of at least $12.45, operating EPS of at least $13.90, and free cash flow of about $12B, all excluding Red Hat.
03—One dollar
Follow one dollar
Of each $1.00 of revenue in FY2018, International Business Machines Corp kept $0.11.
- Revenue$79.59B100.0%
- Cost of revenue−$42.66B53.6%
- Gross profit$36.94B46.4%
- Operating costs−$28.21B35.4%
- Operating income$8.72B11.0%
- Interest, other & tax$5.0M0.0%
- Net income$8.73B11.0%
Where FY2018 revenue went
$79.59B- Cost of revenue: $42.66B, 54% of revenue
- SG&A: $19.37B, 24% of revenue
- Operating income: $8.72B, 11% of revenue
- R&D: $5.38B, 6.8% of revenue
- Other operating costs: $3.47B, 4.4% of revenue
Kept 11% as operating income
Full revenue history →04—Financials
Financial Highlights
Figures from 10-KFY2018filed February 26, 2019Financial Statements
FY2018 against FY2017
| Line item | FY2018FY2017 | Change |
|---|---|---|
| Revenue | $79.59B$79.14B | +0.6% |
| Cost of Revenue | $42.66B$42.20B | +1.1% |
| Gross Profit | $36.94B$36.94B | 0.0% |
| R&D Expenses | $5.38B$5.59B | −3.8% |
| SG&A Expenses | $19.37B$19.68B | −1.6% |
| Operating Income | $8.72B$5.76B | +51.5% |
| Interest Expense | $723.00M$615.00M | +17.6% |
| Net Income | $8.73B$5.75B | +51.7% |
| EPS (Basic) | $9.57$6.17 | +55.1% |
| EPS (Diluted) | $9.52$6.14 | +55.0% |
| Shares Outstanding (Basic) | 912.05M932.83M | −2.2% |
| Shares Outstanding (Diluted) | 916.32M937.39M | −2.2% |
05—Questions
Frequently Asked Questions
How much did U.S. tax reform affect IBM's 2018 results?
The enactment of the Tax Cuts and Jobs Act led to a $5.5B charge in 2017 and a further $2.0B charge in 2018, of which $1.9B was recorded in Q4 2018, mainly from electing to include GILTI in deferred tax measurement. The 2018 charge reduced GAAP diluted EPS by $2.23. Operating EPS of $13.81 excludes these charges, which is why it is substantially higher than GAAP EPS of $9.51.
Why is the Red Hat acquisition important for investors?
IBM agreed to acquire Red Hat for $190 per share in cash, a total enterprise value of about $34B, to strengthen its hybrid cloud position. The deal is expected to close in 2H 2019 and is expected to accelerate revenue growth and gross margin and be accretive to free cash flow within 12 months. It is funded with cash and debt, including a $20B bridge facility, which led to credit rating downgrades and a planned suspension of buybacks in 2020 and 2021.
Is IBM's core business growing or declining?
The mix is uneven. Strategic imperatives (cloud, analytics, security, mobile) grew 9% and now represent about half of revenue, while traditional areas such as Technical Support Services (down 3.3%), Transaction Processing Software (down 1.2%), traditional application management and IBM Z (down 5.4% for the year, 45% in Q4) declined. Cloud as-a-Service exit run rate growth partly offset these declines.
How strong is IBM's balance sheet and cash generation?
IBM generated $15.2B in operating cash flow and $11.9B in free cash flow in 2018, returning $10.1B to shareholders. Total debt was $45.8B, of which $31.2B supports the Global Financing business at a 9:1 debt-to-equity ratio, and cash plus marketable securities was $12.2B. The company reports a pension net underfunded position of $13.1B, with qualified plans 99% funded.
What are the key 2019 expectations and risks?
Management expects GAAP EPS of at least $12.45, operating EPS of at least $13.90, and free cash flow of about $12B, all excluding Red Hat. Risks include currency headwinds (about 4 points in Q1 2019), the wind-down of OEM commercial financing starting in Q2 2019, a change in pension amortization that reduces 2019 expense by about $900M, and the execution risk of integrating Red Hat and divesting certain software products to HCL.
06—Continue