2011 Annual Report 1 A Letter from the President and CEO I am pleased to report that IBM had Cash flow: IBM has consistently generated strong another strong year in 2011. Your cash flow, a key indicator of real business performance. In 2011 our free cash flow was$16 .6 billion. We have company continued to outperform improved our free cash flow by nearly$10 billion over our industry and the market at large. the past decade. We ended 2011 with $11.9 billion of We capped IBM’s first century by cash and marketable securities. achieving record revenue, profit, Investment and return to shareholders: Our cash flow free cash flow and earnings per share. has enabled us to invest in the business and to generate At the same time, we continued to substantial returns to investors, while spending $6.3 billion on R&D. In 2011 we invested $1.8 billion for deliver superior returns to you, and we five acquisitions in key areas of software and 4$ .1 billion are well positioned for future growth in net capital expenditures. We were able to return in a globally integrating economy. $18.5 billion to you — $15 billion through share repurchases and $3.5 billion through dividends. Last year’s Revenue and income: Our revenue in 2011 was dividend increase was 15 percent, marking the 16th $107 billion, up 7 percent. We grew operating pre-tax year in a row in which we have raised our dividend, and income by 9 percent, to $21.6 billion, our highest ever. the 96th consecutive year in which we have paid one. Margins: IBM’s operating pre-tax income margin rose for A road map to the future the ninth consecutive year — to 20.2 percent, up 10 points This performance was the result of disciplined execution since 2000. We achieved this by continuing to shift our by more than 400,000 IBMers and the strategic business mix to more profitable segments and by driving repositioning of the company over the past decade. productivity. More than 90 percent of our segment profit We have steadily realigned our business to lead in a in 2011 was from software, services and financing. new era of computing and to enable our clients to Earnings per share: We have continued to achieve benefit from the new capabilities that era is creating. strong EPS growth. Last year was another record, with As a consequence, our investors benefit from a business diluted operating earnings per share of $13.44, up model that is both sustainable over the long term 15 percent. This marked nine straight years of double- and fueled by some of the world’s most attractive high- digit EPS growth. growth markets and technologies. 2 Virginia M. Rometty, President and CEO Samuel J. Palmisano, Chairman of the Board A Letter from the President and CEO 3 You see this expressed in financial terms in ourEPS road 3. Cloud. IBM has helped thousands of clients adopt maps. We introduced our first in2007 , and surpassed aspects of cloud computing, where IT resources are our 2010 objectives. Now, we are well on track toward our virtualized, highly automated and accessed by self-service. 2015 Road Map goal of at least $20 in operating earnings Our cloud revenue in 2011 was more than three times per share. the prior year. As before, the road map is not simply a list of targets, but a management model built on exploiting multiple ways to create value. Operating leverage will come from our continuing shift to higher-margin businesses Our strong strategic positioning, and improving enterprise productivity — expected to solid balance sheet, recurring be $8 billion over this five-year period. We will create value for shareholders through an anticipated $50 billion revenue, robust profit streams in share repurchases and $20 billion in dividends. and unmatched global When it comes to growth strategies, we are focused reach give us confidence that on four high-growth spaces that should drive we will achieve success in approximately $20 billion in revenue growth by 2015: the next five years, as we have 1. Growth Markets. Revenue for our Growth Markets Unit was up 11 percent at constant currency for the second during the past decade. year in a row. Growth markets contributed 22 percent of IBM’s geographic revenue in 2011, up from 11 percent in 2000, and we expect them to approach 30 percent by 2015. 4. Smarter Planet. All of this comes together in our solutions to build Smarter Planet systems, transforming 2. Business Analytics. Our analytics business grew systems such as supply chains, retail, energy, transportation, 16 percent for the year. Having spotted early the telecommunications, food and water. It includes the emergence of “big data,” IBM built the world’s leading successful establishment of large new market categories, analytics software and consulting practice, and we are such as Smarter Cities and Smarter Commerce. Smarter translating it into powerful new capabilities, which Planet revenue grew by almost 50 percent in 2011. enable our clients to identify, manage and even predict outcomes that matter to their success. 4 In sum, our strong strategic positioning, solid balance sheet, The fact that we enter IBM’s second century with such recurring revenue, robust profit streams and unmatched strength and confidence is a testament to the extraordinary global reach give us confidence that we will achieve success leadership of Sam Palmisano as IBM’s CEO. I will leave in the next five years, as we have during the past decade. to Sam the description of our historic transformation. The information on pages 9 to 15 — “Generating Higher But there is no doubt that IBM today is far stronger than Value at IBM”— explains how. it was a decade ago, in both its performance and its impact on the world. The decade ahead Let me close by expressing my pride in the worldwide The next decade holds enormous promise for IBM, IBM team for bringing us to this point, and my gratitude most importantly because of what it holds for business to you, our shareholders, for your unwavering support. and society at large. We are uniquely positioned to deliver I trust you share our excitement about your company’s the benefits of a vast new natural resource — a gusher performance and the way in which IBMers are building of data from both man-made and natural systems that on our storied past to build an even brighter future. can now be tapped to help businesses and institutions succeed in an increasingly complex and dynamic global economy. Together, we can create economic and societal value of incalculable potential, across the developed and developing worlds, as well as in new global markets such as those in Africa. Virginia M. Rometty President and Chief Executive Officer Without question, the world is undergoing disruption. But IBM now stands out among our industry peers and in business at large as distinctively able to keep moving to the future, and to keep generating differentiating value for our clients, our employees and the citizens of the world. And that, in turn, promises to continue generating high value for our owners. This letter includes selected references to certain non-GAAP financial measures that are made to facilitate a comparative view of the company’s ongoing operational performance. For information about the company’s financial results related to( i) operating pre-tax income, operating pre-tax income margin and operating earnings per share and (ii) free cash flow, which are in each case non-GAAP measures, see the company’s Form 8-K submitted to the SEC on January 19, 2012 (Attachment II—Non-GAAP Supplementary Materials). 5 A Letter from the Chairman of the Board As we look back on our strong First, how have we done in answering: Why would performance in 2011 — the culmination someone invest in us? Some technology companies, particularly start-ups, are attractive to investors because of an impressive decade — Ginni they grow meteorically — but often without profit or and I thought it would be appropriate positive cash flow. Others provide a broad portfolio for me to share a perspective on this of products and services — but their very breadth makes them mystifying to the investor. most recent phase of IBM’s 100-year journey, and to offer some thoughts A decade ago we committed to providing our owners on what it has taught us. with clarity about our business model, strategies, finances and governance principles. We would manage and grow IBM through the basics — revenue, profit, earnings, cash I recently took a look at my notes from my first meeting and margins. And we pledged to deliver consistent investor with IBM’s senior leadership after becoming chairman returns through dividends and repurchased shares. in January 2003. I was surprised to see how little I had At the same time, we believed we could provide a unique written down. At the top were just four questions: investment opportunity — participation in attractive + Why would someone invest in us? new growth areas in technology and in emerging markets, + Why would customers buy from us? with confidence thatIBM would safeguard shareholders’ + Why would society allow us to operate? investments. + Why would someone work here? It all came together in our 2010 Road Map, and we Our history teaches us that IBM became one of the world’s are continuing to demonstrate progress against our great companies by continually creating value for all 2015 Road Map. The results for investors speak for of these stakeholders. Certainly, that was the IBM I joined themselves. Over the past five years, we have increased 38 years ago.