Patricia Murphy - Vice President of Investor Relations Martin Schroeter - Senior Vice President and Chief Financial Officer

Wamsi Mohan - Bank of America Merrill Lynch Katy Huberty - Morgan Stanley Steve Milunovich - UBS Toni Sacconaghi - Bernstein Ingin Wang - JPMorgan Jim Schneider - Goldman Sachs Amit Daryanani - RBC David Grossman - Stifel Financial Keith Bachman - BMO Jim Suva - Citi

Welcome and thank you for standing by. At this time, all participants are in a listen-only mode. Today’s conference is being recorded. If you have any objections, you may disconnect at this point. Now, I would like to turn the meeting over to Ms. Patricia Murphy, Vice President of Investor Relations. Ma’am, you may begin.

Thank you. This is Patricia Murphy, Vice President of Investor Relations for IBM. I’m here today with Martin Schroeter, IBM’s Senior Vice President and Chief Financial Officer. I’d like to welcome you to our First Quarter Earnings Presentation. The prepared remarks will be available within a couple of hours, and a replay of the webcast will be posted by this time tomorrow. I’ll remind you that certain comments made in this presentation may be characterized as forward-looking under the Private Securities Litigation Reform Act of 1995. Those statements involve a number of factors that could cause actual results to differ materially. Additional information concerning these factors is contained in the Company’s filings with the SEC. Copies are available from the SEC, from the IBM Web site, or from us in Investor Relations. Our presentation also includes certain non-GAAP financial measures, in an effort to provide additional information to investors. All non-GAAP measures have been reconciled to their related GAAP measures in accordance with SEC rules. You will find reconciliation charts at the end of the presentation, and in the Form 8-K submitted to the SEC. So with that, I’ll turn the call over to Martin Schroeter.

Thanks, Patricia. In the first quarter, we delivered over $18 billion of revenue, operating pretax income of $2.1 billion and operating earnings per share of $2.38, which is up year to year. This is in line with the view we provided back in January and keeps us on track to our full year expectations for earnings per share and free cash flow. In the first quarter, we continued to deliver strong performance in our strategic imperative with revenue up 13% at constant currency. As is typical, I'll focus on constant currency growth rates throughout. Our Cloud offerings were up 35% this quarter; led by cloud as a service, which was up over 60%; Analytic, the largest of our strategic areas, was up 7%; Mobile was up over 20%; and Security up 10%. We also continued to deliver core capabilities to our clients running mission critical systems and processes. Many of these products provide the foundation of hybrid environments, enabling our clients to get more value from there on premise data and applications. Some of these key franchises are growing like WebSphere, while others are declining as they are in declining markets. But all are high value. We’ve been very clear that to be successful with enterprise clients and to solve real problems, you need to bring together cognitive solutions on cloud platforms and create industry specific solutions. And so we’ve been focused on building a cognitive and cloud platform, and massing the best industry skills and capabilities, all while maintaining our focus on delivering higher value solutions. As part of the transformation, we’ve made significant investments and shifted resources. This level of investment and a longer return profile of the cloud of the service businesses are reflected in our margins. Our foundation is now solidly in place. And while the investments will continue, our focus shifts to improving the returns on these investments by building scale and realizing operating efficiencies, keeping us on track to our full year objectives. And so our first quarter results once again reflect the success we’re having in our strategic imperatives. We grew 13% in the quarter, which was compared to our strongest growth quarter last year. Over the last 12 months, our strategic imperatives together generated nearly $34 billion in revenue and now represent 42% of our total revenue. With over $14.5 billion in cloud revenue over the last 12 months, we’re the global leader in enterprise cloud. We play an important role in running the critical processes of the largest enterprises. And so it's not surprising that each of the 10 largest global banks, nine of the top 10 retailers and eight of the top 10 airlines, are now IBM cloud as-a-service customers. At our investor briefing last month, we spent the day showing how we’ve transformed IBM into a cognitive solutions and cloud platform Company, and the importance and value of delivering industry specific solution. We talked about the differentiation of our cognitive and cloud platform through specific Watson technologies, through our data first approach and our enterprise strength cloud. We bring all of this together in one-architecture and we’re providing highly differentiated solutions by-industry and scaling these solutions. I am not going to recap all of that here, but what I want to focus on today is some of the progress we made specifically in the first quarter with our solutions, our clients and our partners. In the quarter, we expanded the reach of Watson and the IBM Cloud through our partnership with Visa, where Watson IoT turns cars, appliances and other connected devices into potential points to sale. Through our alliance with Samsung, where the weather company will be the default weather app on new Samsung devices, powering the weather experience for tens of millions of devices by the end of the year. And through our engagement with H&R Block, where we're now embedded in 10,000 branches, enabling 9 million filers to benefit from the Watson enhanced expertise of H&R Block’s tax professionals. In the first quarter, we announced a strategic partnership with Salesforce to deliver joint solutions, design to leverage artificial intelligence and enable companies to make smarter, faster decision across sales, service and marketing. We also partnered with Wanda, one of the largest commercial and enterprise groups in Asia to bring public cloud services to China. We're building emerging technologies on the IBM Cloud like Blockchain and Quantum. In Blockchain, we had over 40 new engagements in the quarter and are working on over 400 more. And as we’ve discussed in the past, the opportunities spend multiple industries. This quarter, we announced we're working with Maerks to use Blockchain to transform the global shipping supply chain; partnered with Northern Trust to launch Blockchain for the private equity market; and are collaborating with the FDA to explore how a Blockchain can benefit public health. In the first quarter, we also announced the first commercial Quantum system. IBM 2 systems are designed to tackle problems that are beyond the reach of today's computing system. These are just a few of the examples of the reach and scale we're building with cognitive and cloud, and I'll highlight a few more in the segment discussions. But first, I'll walk through our financial metrics for the quarter. Our revenue for the quarter was $18.2 billion, which is down 2%. Currency was once again a headwind to growth, fairly consistent with the impact in the fourth quarter. At current spot rates that headwind will be more substantial over the next couple of quarters. On a geographic basis, last quarter I talked about the impact the macro and geo-political trends on some countries’ performance. In Europe, much of this continued into the first quarter with the clients in the UK and Germany, in particular, putting pressure on our growth. Our gross margin performance continues to reflect investments across our business and the mix to as service businesses. I'll talk about additional drivers in the segment discussions. Looking at our expense, pre-tax profit tax rate and cash flow metrics, a year-to-year dynamics, reflect some unique items in last year's first quarter result. A year ago, we had charges that impacted our expense and pre-tax income by nearly $1.5 billion, including a work force rebalancing charge of $1 billion. In the first quarter of this year, our work force rebalancing charge was about $170 million, so the year-to-year impact of a lower level of workforce rebalancing accounts for 11 point of the 20% reduction in total expense. Our expense also includes a higher level of IP income, reflecting the success we've had in rebuilding our intellectual property income base through IP partnerships. I'll come back to this a little later. And so our operating pre-tax profit of $2.1 billion was up over 50% this quarter. Our tax rate for the quarter reflect an ongoing operating effective tax rate of just under 15%, in line with the expectation we discussed at the beginning of the year of 15% plus or minus 3 points. We also said, we've had a discreet tax benefit in the first quarter of $400 million to $500 million, and in the quarter, the net benefit was just under $500 million. This is far less than in discreet benefit we had last year of $1.2 billion associated with the Japan tax refund. And so tax was the substantial headwind to our net income and EPS growth in the quarter. We generated $2.3 billion of operating net income in the quarter and net income margin of 12.4%, which is up 30 basis points. On the bottom line, our operating EPS was up 1% to $2.38. We generated $1.1 billion of free cash flow in the quarter, which is down year-to-year by the amount of last year's Japan tax refund. As you know, there is a lot of seasonality in the timing of our cash flows, much more so than in our net income. That’s why it makes sense to look at cash realization on a trailing 12-month basis. Over the last 12 month, our free cash flow was 90% of our GAAP net income. Looking at our segments, Cognitive Solutions revenue was up 3% year-to-year and pre-tax income was up double digits. Our solution software revenue was up 5% while transaction processing software was down 1%. Within solution software, growth was again led by offerings in analytics, including our Watson related offerings and Security. We saw strong SaaS performance with strong double digit growth again this quarter. I’ll share more on our progress starting with Analytics. We saw good growth in on premise data basis and data warehousing, which includes DB2, Informix and Netezza. Content and integration offerings were also up this quarter as data ingestion as an important initial step in a cognitive journey. As part of that journey, our Watson platform continues to gain momentum in the marketplace. The Watson platform, built on the IBM Cloud, underpins our AI strategy and is a fast and easy way to embed cognitive into our clients’ work flows. Two great examples are Salesforce H&R Block. H&R Block went from an idea to fundamentally changing the client engagement experience with Watson, redesigning business processes and deploying a cognitive solution across 10,000 branches in just a matter of months. Building on the platform, we’ve differentiated with industry expertise across verticals. In Watson Health, we had strong growth, particularly in oncology, government and life sciences, as we move to scaling Watson and healthcare. Out of the top 25 life sciences companies, nearly half are either using or implementing our cognitive offerings. In an environment of increased regulatory pressure, Cognitive helps to expedite the time to bring drugs to market and to monitor them, once in the market. This quarter, we also introduced new cognitive offerings, such as Watson Imagining Clinical Review and infuse Cognitive into existing offering. For example, in Watson Care Manager, we’re bringing organic and acquired content together to build the cloud based offering that addresses integrated care; we’re then adding cognitive capabilities to extract trends and provide actionable insights. This is the kind of work we can do with our industry specific development skills. We also had good growth in Watson IoT where we added over 50 new clients to our IoT platform again this quarter. And we’re incorporating new capabilities into the IoT platform, such as the visa payment services mentioned earlier. Clients are collocating for innovation at our Munich center, and the number of developers on our IoT platform had strong double digit growth. Watson for Financial Services also contributed to growth this quarter. Here, we’re leveraging the skills we acquired through the acquisition of Promontory, the world’s leading regulatory compliance consulting firm, to develop cognitive offerings in areas like regulatory change management. It is a space ideally suited for cognitive because its expertise and domain driven; banks aren’t going to automate core regulatory processes with publicly available data alone. By combining industry experts with cognitive capabilities and levering industry specific client data, we’re building solutions that solve the problems in the industry. Remember, it matters who change your AI platform on what data and who owns the insights. By pulling all of this together, IBM will be well positioned as the leader in the reg tech marketplace. Security also contributed to growth in the quarter, driven again by areas such as data security and security intelligence. We’ve had strong traction in Watson for Cyber Security since launching in February, and deployed it in over 50 customers globally. And we embedded Cognitive into another offering, MaaS360 Advisor, using machine learning to analyze and protect devices. We complement our software offerings with security services to offer the broadest portfolio in the industry. Together with our security services, we outpace the market. Turning to transaction processing software, performance improved sequentially driven by Z Systems Middleware and Storage Middleware. While the overall business is declining, we have some areas that are growing, like software-defined-storage; other parts are high value and running mission critical workloads for our clients but the growth profile is stable-to-declining. Turning to profit, Cognitive Solutions’ gross margin is down, driven by continued investment into strategic areas, including acquisitions and the mix toward SaaS. Roughly a quarter of the Cognitive Solutions business is now services and SaaS offerings, which currently have a different margin profile. Pre-tax income is up for the segment and improving year-to-year even when you adjust for the lower rebalancing charges. This segment has very high PTI margins, which expanded this quarter. So for the Cognitive Solutions segment, we grew revenue and profit in the quarter. We’re embedding Cognitive into more offerings, scaling platforms and building high value vertical solutions. Global Business Services was down 2%, which is a two point improvement in the trajectory from last quarter. Strategic Imperatives grew double-digits, led by our cloud and mobile practices. Overall, we had modest growth in signings this quarter, driven by our digital offerings. However, the GBS backlog is still declining. As we talked about last quarter, we need the growth from our new offerings to drive consistent signings growth to improve the trajectory of the GBS backlog. Consulting revenue was down 2%, improving nearly 3 points from last quarter performance. We have good growth in IBM iX, our digital design practice that helps our clients build new customer and employee engagement models around digital. We've built a robust network of 35 design studios around the world where clients co-create with GBS consultants in digital strategy, design and mobile experience. We’re redesigning our clients’ work flows through integrated solutions and a robust set of enterprise grade mobility applications. This quarter, we announced agreements with BP Castrol, Bell Canada and Santander to name a few. In Consulting, we continue to shift resources to our Cognitive Services, Advanced Analytics and Digital Platform, and away from the more traditional areas, including consulting for on premise enterprise applications and some migration and process reengineering services. Our consulting revenue reflects this shift. Application management was flat year-to-year and has been relatively stable over the last year. We're innovating our clients’ platforms helping them migrate to new cloud architectures increasing their speed and agility, and ultimately, improving their competitiveness. Turning to profit, we continue to invest in our strategic imperatives and build-out our practices around cognitive, cloud, mobile and digital design. Over the last year, we've added nearly 8,000 resources to these businesses. There also continue to be accounts where we are investing more to deliver on important client commitment. And in parallel, we're streamlining the practice infrastructure and driving efficiencies in our delivery model through new methods, solutions and project management approaches. As we talked about at our investor briefing, GBS is aligned and focused its capabilities around three growth platforms. The first is digital strategy and iX, where we help clients to imagine what their businesses should look like in the digital world and then execute a roadmap to build and migrate their capabilities to get them there. The second is cognitive process transformation where we help clients adapt their core processes and integrate cognitive technology to gain insight, drive efficiencies and create new business model. The third is cloud application innovation where we modernize our systems by putting in place new cloud centric application architectures tailored to their business and their industry. With deep industry capabilities we're executing a strategy that is client value led and powered by IBM assets and leading third party platforms. We're refocused our practice model to ensure we're building deep skills in the right areas and increasing our sales and delivery capacity. We're starting to see the benefit of this focus and are expecting improved performance over the course of the year. Technology services and cloud platforms revenue was down 2%. We continue to have strong double digit growth in our strategic imperatives particularly in cloud which was up over 40% as we build out hybrid cloud environment for our client. As enterprises move to the cloud, they need help in managing the complexity of integrating multiple environments. We're able to move these enterprises to the cloud in a way that leverages their critical data and IT investment. Our cloud as a service revenue for the segment grew over 50% and our annual as-a-Service run rate was $5.7 billion. Infrastructure services was down 2%, as you know this is a business model where we drive productivity for our clients. We orchestrate disparate systems and optimize IT operations. We help clients manage their hybrid cloud environment which can include multiple cloud platforms, on premise data centers and mobile environment. When we deliver this productivity to our clients that's less revenue for us, but then we look to create new revenue streams by moving them to new areas, acquiring new scope and bringing on new clients. So our business model has always been to deliver productivity for our clients and then grow by expanding our scope of work and adding new clients to the platform. While we had some substantial relationships lined up we did not get them closed by quarter end which impacted revenue in the period. The revenue trajectory also reflects that a couple of large clients brought their operations in house due to regulatory and other unique circumstances. These clients remain on IBM platforms and will continue to be a trusted partner. Turning to technical support services revenue was down 2%. We continue to ship more to our multivendor support services which again grew this quarter. We provide end-to-end support both inside and outside the data center including for example IoT environment. Integration software was down 3%. We grew in our hybrid integration software that connects and integrates applications, data and processes across on premise and cloud environment. In addition Webster application server grew for the third consecutive quarter, demonstrating the importance of middleware in public, private and hybrid environment. We declined in our on-prem dev ops tools and IP services management software. While some clients prefer to keep this work in house these kinds of workloads continue to shift to cloud, we're seeing this as Blumix, our cloud dev ops platform continues to expand. Looking at profit, gross profit margin was down while PTI margin for the segment was up 5 points year-to-year. This quarter we had a lower level of work force rebalancing and we recognized savings from productivity actions including last year's transformation actions. Much of this was reinvested in new and existing skills. We are investing as we move to a Watson based cognitive delivery model. Through this delivery model we're able to manage complex hybrid cloud environment and provide more insights into infrastructure that is always on, available everywhere and of course secure. In infrastructure services we're constantly managing resources and investment across our portfolio and the combination of the winding down of some contracts, signings delays and some investment ahead of those signings impacted our profit in the quarter. Finally, in TSF, we're shifting more to multi-vendor services and in Integration Software we are mixing more to SaaS, which impacts margins in the near-term. In summary, when you look at our performance in technology services and cloud platforms, our clients need help moving to the cloud and managing the complexity of their hybrid cloud environment and we continue to see strong growth in cloud and our as-a-Service revenue. Our middleware also continues to be important in this environment. Our business model is one were we're constantly delivering productivity for our clients, this is what make us the market leader. The profit cycle requires that we invest ahead to provide the scale and efficiency that our clients cannot achieved on their own. These dynamics impacted revenue and margin this quarter. As we sign the contracts that didn’t close in March and yields of operational efficiencies we’re expecting better performance in this business in the second half. Our systems revenue reflects declines in z Systems and Power indicative of where we are in the product cycles, while storage grew after repositioning for flash across our portfolio. Systems gross margin was down year-to-year with declines across z Systems, Power and Storage as we address market shifts and product transition. In z Systems, the mainframe continues to deliver a high value secure and scalable platform that is critical to our client's needs, addressing both existing and new workload. We added seven new clients in the quarter and 87 since the beginning of this cycle. We also had five major financial services sector win this quarter with existing clients, as well as several blockchain engagements. Our revenue and margin performance for the quarter reflects the fact we have nine quarters into the product cycle and we expect the new mainframe late in the year. Power decline, which reflects our change over to a growing Linux market, while continuing to serve a high value, but decline in UNIX market. Linux workload again had double-digit growth, outpacing the market. We're the underdog here and we have a 3% share, so there is a lot of opportunity ahead of us. Our expanded Linux offerings, Power on Linux are going to pass the double revenue this year and HANA on Power continues to play an important role in that success, by contrast in UNIX, declines were driven by our midrange in low-end systems. Power while critical for cloud and cognitive workloads continues to be impacted by shifting our platform from UNIX to Linux, both in revenue and margins. Storage hardware was up 7% this quarter, led by double-digit growth in our all-flash array offering. Flash contributed to our storage revenue growth in both midrange and high-end. In storage, we continue to see the shift in value towards software defined environment, where we continue to lead the market. We again had double-digit revenue growth and software defined storage, which is not reported in our system segment. Storage software now represents more than 40% of our total storage revenue. Storage gross margins are down as hardware continues to be impacted by pricing pressure. To summarize Systems, our revenue and gross profit performance were driven by expected cycle declines in z Systems and Power mitigated by Storage revenue growth. We continue to expand our footprint and add new capabilities, which address changing workloads. What we’re facing some shifting market dynamics and ongoing product transitions, our portfolio remained uniquely optimized for cognitive and cloud computing. New systems product introductions later in the year, will drive improved second half performance as compared to the first. I want to spend a minute on our IP income and put our recent performance into context. Our investment and research and development generates a significant amount of intellectual property and we have a number of different ways we monetize it. Keep in mind that the vast majority of our IP is monetized to revenue stream, with only a small portion through IP income. 15 years ago or so much of our IP was associated with our semi-conductor manufacturing and design business. At the time, in addition to licensing some of the IP, we used joint development agreements to deal with the economics of our manufacturing scale. These partners essentially helped that scale issue. Since then our strategy has changed which resulted in a different mix of business. We continue to have joint development and technology licensing agreements though fewer. Now clients see the value in our IP, but it requires continues innovation to stay in high value spaces. And so more recently we are forming IP partnerships to enable ongoing innovation in our IP while allocating our development resources to where we see the best opportunities for us. In these partnerships, we license, not sell, our source go to a technology or services partner who assumes the development mission and invests to innovate and build new functionality, enhancing the value of the asset, which reinforces and support to our revenue stream. We retain the ownership of the IP and the revenue streams and pay a royalty to the partner for the development mission. And as the partner sells to their clients they pay a royalty back to IBM from the revenue they receive. The benefits of these IP partnerships to us include the prioritization of our development resources, the continued innovation for our clients based on our high value assets and the creation of additional channels which can expand the clients base. So to sum it up, our ability to monetize IP, is driven by the amount of IP that we create, which is substantial, not whether a transaction occurs in a particular period. Because our IP is high value and relevant to our clients it is attractive to a broad range of technology and services partners who can build solutions around the core assets. We had three new IP partnership agreements in the first quarter and now 19 over the last two years. To put that in perspective we have licensed, on a non-exclusive basis about 1% of our software code base and these agreements to date and we are generating more IP every year than we are licensing, so we have a lot of opportunity in this area alone. But as I said earlier, why and how we chose to monetize our IP, for example, whether it to address scale issues or resource optimization, reflects our business strategy and so the opportunities and the model will evolve. We are now turning to cash flow and the balance sheet, we generated $1.9 billion of cash from operations excluding our financing receivables and we invested over $800 million in capital expenditures particularly in our Watson and cloud platform areas as well as in support of our services and systems businesses and so our free cash flow was $1.1 billion. Over the last year our cash utilization rate is 90%. Excluding the benefit of last year's tax refund free cash flow is flat year-to-year, and within that working capital contributed to our cash flow performance driven by strong cash collections. Our first quarter of free cash flow generation is in line with historical trends and we remain on track to deliver a level of free cash flow consistent with last year. Looking at uses of cash in the quarter we returned over $2.6 billion to our shareholders about half through dividends and half through share re-purchases. We bought back over 7 million shares and at the end of the first quarter we had 3.8 billion remaining in our buyback authorization. On the balance sheet we ended the quarter with $10.7 billion in cash and total debt of $42.8 billion. Two thirds of our debt was in support of our financing business which now includes the increase in leverage related to our client and commercial financing business IBM credit. The leverage in this business is now 9:2, which as I described in January translates to an increase of just over 600 million in global financing debt. The credit quality of our financing receivables remains strong at 52% investment grade, which is flat versus December and a point better than year ago. More information on our financing business is provided in the supplemental charts in the back up. Our non-financing debt was 14.3 billion with a debt to cap ratio of 48%, which is a point lower than December. Debt to cap is down 14 points year-to-year as you will recall that we frontend loaded our debt issuances this last year. Our balance sheet continues to have the strength and flexibility to support our business over the long-term. Let me wrap up by talking about how we see the balance of the year, starting with the progression on the first half and then drivers of our second half performance. As you know we typically see a profit improvement from first to second quarter. Last year the sequential improvement was significant because of the charges in the first quarter. Adjusting for these outside charges, we increased our operating pretax profit by an average of 800 million from first to second over the last couple of years. We see a similar level of sequential improvement this year, which means we would finish the first half at about 37% of our full year at least operating EPS expectation. Now every year is different and we when you look at that 37% attainment compared to history, you will see it's a few points below the last few years. So I'll spend a minute on why this year the first to second half dynamics will be different, and why we remained comfortable with our full year expectation. To do that I'll give you a couple of examples of things that we know and things that we expect. We know that will have new system product later in the year and this will drive a significant improvement in gross profit from first half to second half. Related to that in the second half we'll have the investment ramp behind us, so we'll also benefit from lower systems development spending in the second half relative to the first. We also know that we'll wrap on last year's larger acquisitions, there will be less dilutive to profit in the second half as we continue to ramp revenue and realize some operational synergies. Then there are a couple of things that we expect, particularly in our services businesses. We expect that global technology services will sign a few of the larger contracts that didn’t close in the first quarter and that together with the cost savings and the yield on some of the investments we've been making will improve the first to second half profit dynamics. In global business services our trajectory is starting to improve and we expect this to continue throughout the year, we also expect currency to be a headwind and we put a view of that into the supplemental slides. The translation of our pretax profit to net income will depend on the mix of business and the operational tax rate assumption continues to be 15% plus or minus 3 points. As always this is without discreet items. To put all that together, and we continue to expect to deliver at least $13.80 of operating earnings per share for 2017 and free cash flow net consistent with last year. And with that we'll take your questions.

Thank you, Martin. Before we begin the Q&A I’d like to mention a couple of items. First, we have supplemental charts at the end of the deck that provide additional information on the quarter. And second, I’d ask you to refrain from multi-part questions. So let’s please open it up for questions.

Thank you we will now begin the question-and-answer session. [Operator Instructions] Our first question is from Wamsi Mohan with Bank of America Merrill Lynch. You may proceed with your question.

Martin, as we look at this quarter on a year-on-year basis we saw PTI dollar improvement of close to about $700 million, should we expect any more PTI improvement over the course of this year, given that the discrete tax benefit was 500 million, you can pretty much guess your guidance from those two elements, not sure if there is more discreet items yet to come, but conceptually is there are more PTI benefit yet to come or have you seen the PTI benefit already flow through? Thank you.

Yes, thanks Wamsi. The first thing I’ll say is I apologies for my voice, so if I sound kind of crocking -- I got a bit of a cold here. But hopefully you can understand. So with regard to what we see from here out, as you noted we got about 700 in our guidance on a full year basis, we did about 700 in the first, the thing I would add is that we don’t know what that mix is going to be, it's 15 plus or minus two points. So if you were to take that range, we either have another couple hundred to go if it comes in from a high tax area or we're already over solved by few hundred. So either way, you are in about that right range. Now we have a lot of work underway to drive productivity in our services business, we talked a bit about that in the prepared remarks, we still expect to get the growth out of the acquisitions that we spend some money on. So there is a lot more obviously within the dynamics of our business from here to the end of the year. But if you just wanted to look at those two line items, then yes either we have a little bit left to go, if it comes in at a higher tax mix, so we've over solved already, but yes that’s the -- what the guidance implied.

Thank you. Our next question is from Katy Huberty with Morgan Stanley. You may ask your question.

At the Analyst Day, you talked about as you scale the cloud business, as you scale the cognitive initiative that we should start to expect margin stability and even inflection. You also talked -- essentially guided to GBS margin improvement for the full year. And when you step back and look at gross margins which is more of the clean read on your profitability not into the insight work pressure [ph] balancing and IP income, those declines accelerated this quarter in all of those businesses. So the question is, do you still expect that we can start to see stability and even inflection in any of those businesses this year or is that further out?

So couple of things, when we look at -- we pretty much look at every year, one quarter is the low point in GP margin that always true. And then we build sequentially from there, I think what I would expect this year in that build sequentially, I do expect as we said in prepared remarks, I do expect the services units to start to drive sequential improvement in that business. Now some have longer to go, more progress to make if you will, as we noted GBS with the declining revenue and the impact of margins, we also -- we believe that a business that can grow, pass the growth is what we described, which is consistent signings growth, we will get the backlog growth which will drive revenue growth. So all of that we still think we have ahead of us, we did get signing growth in the first quarter, it's 2%, but we got signing growth and so we will continue to build that business back. And then in GBS specifically, the margins in the new strategic imperative work, the margins in the areas that that business is moving to remain better than the margins in the places they're coming from. So yes, we have to realize the productivity at the overall model level, but we are seeing margin opportunities in those new areas in GBS and we would expect to continue to make progress, but again in total the margin picture on a sequential basis as we always do will grow from first to second, third and fourth as well, and depending on the mix of business that growth that we typically see from first to fourth, could be three, four points higher and it's been as high as 10 points in some years. We'll be within that range some place by the time we get out of the fourth, but the first quarter is always the low point in the year.

Our next question is from Steve Milunovich with UBS. You may ask your question.

Martin, you talked about the investments that the company has been making the last few years and previously suggested a little more flexibility this year, could you talk about in dollars, are the investments that you're making into the strategic imperatives flattening out? Should we look for less growth year-over-year in those investments, are they actually becoming flat and is there a point in the next couple of years where we could even see them decline year-over-year to help your margins?

So, couple of things, one, when we said we would expect -- when the tip of the bow of the ship gets through the wave, that was a year-to-year statement, and so now with those acquisitions for instance in our run rate, the dollar level is at an elevated amount and so the year-on-year impact is diminished if you will. Now, all of those businesses need continued investment and for IBM, what it's always been about for us is shift as much as it is adding to that pie. So I think the adding to the pie now is behind us, if you will, and the shift will continue. So we'll continue to invest heavily in the strategic imperative, but it won't represent the same growth that what we've -- as what we've seen in the past now that they're in our model.

Thank you. Our next question is from Toni Sacconaghi with Bernstein. Your line is open.

I just wanted to confirm and clarify how you're getting to your full year '13 AB [ph] target. So for Q2, I think given that you expect 37% of EPS in the first half that would point to EPS of about $2.73, I think consensus is $3.17. So well below Street expectations. Which means that you have to be well above Street expectation for the second half. I'm wondering if you can also clarify what you're assuming on IP licensing for the year. It was up dramatically in the first quarter, I think you said it would be about flat year-over-year. So that implies the rest of the year IP licensing is going to be declining and therefore a year-over-year headwind, is that the right way we should think about it, and if you're IP licensing or your discrete tax benefits are significantly higher than you think today, will you be adjusting your guidance accordingly?

So, a couple of things Toni, one we're not adjusting our guidance, we've reaffirmed that we see an at least $13.80 number for the year, and we also see free cash flow flat, roughly flat as we said. So same guidance as we talked about in January and quite frankly from my perspective the quarter played out you know pretty much as we expected, other than we thought we had a couple of more signings relationships in services that we could have gotten done, but by and large the quarter played out as we expected and we maintained our guidance. In the prepared remarks Tony, we started to put together some of the things that we know and some of the things that we expect and I think that framework is kind of how I think about it. Now as you know we have a lot of scenarios around guidance and what might happen, but let's go through a couple of the things that we mentioned in the prepared remarks. First, you know the systems product announcements have kind of a double impact. One you have to ramp investment ahead of the revenue in order to get that system ready. That's the period we're in now and we'll be in it through the first half. Once we get the systems announced and out the door then we start getting revenue and you get the double benefit you get GP dollars and you get lower spending in order to because you don't have to ramp any more. So that has a pretty profound impact on the first to second half. We also talked about getting the acquisitions further embedded. Now we do a lot of acquisitions, there's obviously opportunities to drive investment in those but we also have a lot of opportunity to realize efficiencies in how we run. So we see an improvement from first to second half -- continued improvement first to second half as we ramp those new solutions around those acquisitions as well as get some synergies from the way we run the play. In our services business as we mentioned we see an improvement as we go through the year, both in the revenue trajectory and in the margin profile quite frankly. We got a lot of work to drive productivity in our services business both in GTS and GBS and it sits kind of across that delivery platform we think there is a lot of opportunity to drive improvement as we get into the second half and then IP income, similar to how we described it in January, we said we have a bunch of scenarios around IP income, we see enough opportunity to be flat year-to-year, but our guidance didn't rely on it year to year. So to your point, if we're flat versus excuse me -- here's where my voice starts to go Tony, I apologize. If we're flat relative to -- for the full year and we're up a bit in the first quarter, does that imply down? Yes that's kind of how we expected the year to play out. And in fact we said that, based on what you describe, it could be a bigger headwind the what you described, because not a lot of our scenarios have flat, some of them -- we had a -- like I said quite a good year in the second half -- quite a good second half of last year in IP income and so that could be down a bit, but again we've got a lot of scenario. So the year comes together I think because we do have dramatically different profile in the second versus the first. We included the framing, if you will, of where we finish the first half because not every year plays out the same way and I think it’s important to understand the dynamics. But no change to our guidance and we still see the year playing out as we did in the first quarter.

Thank you, next question is from Ingin Wang with JPMorgan, your line is open.

Just one on the tech services side, it sounds like some delays in deals closing. Is that a macro-cyclical issue in terms of maybe a slow start to the year for some of your enterprise clients? What's the visibility into these deals closing in GPS and also the improvement in GBS that you just mentioned, is that also required improvement in macro environment, or is there something else that's driving that [Multiple Speakers]?

Sure. So thanks, Ingin. These no macro, so I’ll talk about GBS specifically. And quite well, the nature of the work we do with our clients, we are running the hearts and lungs of our client's businesses. And so obviously, when you run hearts and lungs, you’re not running toward 90-day schedule. There is nobody by the way that’s in the room with you other than the client, nobody has the breadth of the capability that we have. So our clients move at a pace that reflect the important of the work we do. And at the same time add into that the steps required for instance regulatory approval, we’ve got a lot of [technical difficulty] customers, there are a lot of customers in regulated industry. And so the signings delays were not at all macro driven, this is our -- these are deep, deep partnerships with our clients that require careful planning, careful execution and they’re not going to move on a 90-day cycle. In GBS, again, I don’t think, we need an improved macro environment for GBS. In fact, one could argue that GBS will do better when clients are more focused on how to move to the future and more focused on or put under more pressure, if you will. The transformation that GBS is going through is driven by their ability to rescale in the new areas and we put -- we've poured a lot of people into GBS focused on these new practices that we have. The results that we see as the teams move into those new practices are very positive. So no, this is not at all macro, on GBS it is again, because the relationships with these clients are so vital to how their organizations run and are never going to move on a 90-day calendar. And GBS I think is demonstrating now that as it moves into the future, it can do even better.

Thank you. Next question is from Jim Schneider with Goldman Sachs. Your line is open.

Just wanted to follow-up on the earlier services question and maybe ask about the commentary you made about couple of clients, order clients taking work in-house. Is that a commentary on the infrastructure and cloud piece of the business specifically, or is that a broader comment on the application services and like? And can we maybe just kind of talk about what you seeing terms of pricing pressure in the market, because you previously called that out several times, but didn’t this time? Thank you.

Yes, sure. So there is -- I wouldn’t say there is anything macro. In the two instances that we mentioned about people bringing -- companies bringing this in-house, very unique circumstances. And I think when I describe it, which I will, I think you will agree that they are sort of unique. So for instance, we have a client in Germany, it was renewed -- it was a five-year deal renewed for another five years and there is a rule, there is a law in Germany that this particular type of client cannot renew the same contract twice, just can't. And so they had to bring it back in-house due to regulatory reason. We will still -- they took the people, by the way, they were all in structure that allowed them to take the people back. They still run their IBM mainframes. So we’re still partners with them on the infrastructure that they run. But that’s a highly unique, I am not making on macro statement. And in the other case, again highly unique to the client situation, they had a plan in their industry to split two businesses and so they were heading down the path of having two businesses with two infrastructures. We have them by the way, both of them and then the market if you will, they made a judgment based on the market that they were just going to take one of those businesses and sort of wind it down. So they just had no need, if you will, to have a big infrastructure around that particular business. So very unique, not at all what I would call a macro. And then on pricing pressure, the nature of these relationships, again, as I mentioned earlier, these are substantial relationships that are running very core of what these companies need. And if I had to -- I guess these are complex, but if I had to simplify it, they're asking us to move them into -- in the future to move into cloud, to give them the agility and the security and the mobility that they see their competitors have. So there is -- there are not -- there is nobody in the room with us when we go in for those calls. And if they want to purse that path and as I think there is -- that suits their business model, then they're talking to us and we'll make those deals happen, but it's not a macro statement, its very much about our ability to deliver the future to them and whether or not that suits the way they're thinking their business at that particular time.

Thank you, next question is from Amit Daryanani with RBC. You may ask your question.

I guess Martin, I just want to go back to the gross margin discussion and perhaps more at the corporate level, I realize that these margins will improve from Q1 to Q4. At what point I guess do you see gross margin starting to stabilize, the year-over-year declines start to abate for the company? And if you were to think about the cost saving benefits, what cost saving benefits that you have expected for 2017?

Sure Amit, a couple of things. One, we are seeing the savings if you will of what we were able to start to transform last year and the actions we took. Now remember at the time we talked about Q1 '16. So a year ago we talked about how there was some -- some measure of that was to reduce capacity and a lot of that, by the way, that capacity reduction was to get our teams back together into collocated offices, where they could operate in more agile environment and it was to reduce the number of sites, if you will, which we had people and couldn’t collaborate properly. So there were some measure with the reduced capacity, but the bulk of what we wanted to do is to revitalize skills, as we always do. We're always revitalizing our skills. So we see the benefit of that in the new skill mix that we have, we see the benefit of that for instance in GBS growing signings in the first quarter. Now there is productivity that we see in the SG&A line, because while we are investing more for development our SG&A spending is down. And that was again not only the reduced capacity, but it's us being more efficient at how we operate. From a gross profit margin perspective, we are a high -- we have a high value model as you know. And so one of the things we are always looking at is, are the places we are going to still more valuable and higher margin than the places we are coming from and the strategic imperatives as we've talked about it in the past have a higher margin profile than the core if you will. That shouldn’t surprise anyone, I think that’s why our investors expect us to invest into those new areas, as opposed to just going to chase some lower margin content. And we still see that now, it's been true since we have been talking about the strategic imperatives and it remains true that the margins in those areas continue to be higher. So I think that I still view the opportunity for us and gross margin is going to look -- gets better because again the places we're moving to is better than what we're coming from.

Thank you. Our next question is from David Grossman with Stifel Financial. You may ask your question.

Martin, if you look over the next 12 to 24 months I think the strategic imperative were in the low 40, the percentage of revenue. What are the main variables that dictate whether the imperative grow to over 50% of revenue and again to more than compensate for the decline in the legacy core.

Sure David, so few things first and we talked about this a little bit in the prepared remarks and I think it's important, the legacy core is a business that we're confidently reinventing, it's not something that we are under investing, it's not something that we don’t like, we really like this business, it is very high value and some of that content sure fits in declining market. So it has declining opportunity, but that’s high value. And then, as we talked about in that prepared remarks, some of those businesses like Webster application server is growing, it's in a growing market and we grow. So the core is -- and I know you didn’t say it this way, but the core is -- I just want to make sure everyone's clear, is made up of lot of different things. And included in that core, if you will, is -- we've got part of our power business, we got some of our mainframe business, we're just not in the time of the cycle for the core part -- for those parts of the core to grow. We will get to that part of the cycle when it grows. So then from the high-level math you did, we said that strategic imperatives would be 40%, we're obviously there, but 40 billion at least by 2018 and we're still on track to get there, in fact we're a little bit ahead of track. Now when those two lines cross, I don’t know, I think that the investment community has been keen for us to stay on that solid double digit growth path and the strategic imperatives, there have been concerns every quarter about whether or not we're flowing down, but we just grew 13% on our toughest compare of the year last year because we did '17 in the first. So I think that the cross over point, I think is a mathematical exercise, what I'm looking that is, are the strategic imperatives and the growth we're getting out of those continuing to put us and keep us on the track to that 40 billion.

Thank you. Next question is from Keith Bachman with BMO. Your line is open.

I wanted to ask you, is pruning still on the table? What I mean by that is, if I think about the revenue growth the core actually decelerated this core compared to say the last three quarters. And if I look at some of the areas like GBS you have application maintenance that’s combined with BPO that’s over a 50% of the business and well under company profit levels. And I'm just trying to understand specifically focused on GBS, is how you improve revenue growth, but should you improve revenue growth or is there more pruning that you can do as it relates to the total IBM portfolio, but particularly within GBS.

Sure Keith, so I think, I look at our portfolio and as you know we talked about this and we have been pretty clear that, we look at our portfolio through the eyes of value. And I think the portfolio, not solely through the eyes of growth, value and -- no value or a limited value without growth is obvious that we wouldn’t -- we would have a -- we would be thinking about whether or not that fits. But the portfolio we have today, I view as high value. The AMS business as you pointed out, it's a high value business. Now the revenue is pretty stable, but it serves a really important need with our client base, it allows us based on how we do it with our industry focus, it allows us to drive value for our client. So I think of pruning is something you do when you don’t see an opportunity for differentiation, when you don’t see a longer term opportunity for value, and I look at the portfolio now and I think there is -- I think we have a very high value portfolio and I think that GBS, large GBS, all of it plays a critical rolled in that, I don’t see a pruning opportunity here.

Thank you. Our last question is from Jim Suva with Citi. Your line is open.

I think there is no question about the success in the strategic imperatives, how you are ramping those. The biggest question on many of the follow up calls, well maybe I'll give it one more shot, [indiscernible], the investment you are putting forth in the degradation to gross margins, when are we going to see them stabilized or do you have line of sight to that? It just seems like when you give up an invest, at some point, you want to progress the fruits of those efforts and it went out time and time again, so I’ll ask kind of one more time, do you see stabilization, and if so, when?

Yes, sure Jim. So again -- and you know this is actually, it's an interesting question because -- it's an interesting timing of this question because I want to make sure that everybody understands that as we head now into the rest of this year and one of our focus item as it's always has been, but now the timing is right, is to get the returns for our investments. It's something if you were to pull 100 IBM executives, it's something that they would all say is, now it's time to get the returns. So we have driven very heavy investments that has impacted our margins. But the investment is not the only opportunity, only lever we have to improve margins, we have a lot of opportunity in our services business and in our delivery model and how we drive margin. So yes it is time for us to get the returns we have invested quite heavily. The strategy is right, we hear it from our clients every day, the places that we are moving them to and the work we do in the core is highly, highly valuable to them. So I think now, the short hand in that is yes, now it's time. And with that I’ll wrap up the call by saying, we have been making significant investments and now we've added, by the way, a ton of capabilities to the IBM company. We started new businesses, we made new markets, we've changed, as we always do, industries and professions and we'll continue to do that. But now it's with the business positioned very well for the long term, in terms of capabilities. Always opportunity to add a little bit here or there, but with the business positioned well for the long term, now it is time to focus on improving the returns on those investments. So thank you very much for joining the call today.

And Sam, I’ll turn it back to you to close the call please.

Thank you for participating on today's call. The conference is now ended. You may disconnect at this time.