Patricia Murphy – VP, IR Jim Kavanaugh – SVP and CFO

Katy Huberty - Morgan Stanley Toni Sacconaghi - Sanford C. Bernstein Wamsi Mohan - Bank of America Merrill Lynch Steve Milunovich - UBS Tien-tsin Huang - JPMorgan Chase Amit Daryanani - RBC Capital Markets Mark Moskowitz - Barclays David Grossman - Stifel Financial

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 any objections you may disconnect at this time. Now I would turn the meeting over to Ms. Patricia Murphy with IBM. Ma’am you may begin.

Thank you. This is Patricia Murphy, Vice President of Investor Relations for IBM, and I’d like to welcome you to our First Quarter Earnings Presentation. I’m here today with Jim Kavanaugh, IBM’s Senior Vice President and Chief Financial Officer. Before we get into the call I want to make you aware that the third party that host our event is having technical issue this afternoon. If you’re having trouble accessing the webcast, we provide an alternate link to the audio webcast just below as well as the PDF of the presentation that you can download and follow along with Jim’s comments. So with that I will get back to my standard opening comments. As usual, 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 also 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 website 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 the related GAAP measures in accordance with SEC rules. You’ll find the 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 Jim.

Thanks, Patricia, and thanks to all of you for joining us. As we wrapped up 2017 and in our Investor Briefing webcast in early March, we talked about the work we’ve done to reposition our business to lead in the high value segments of IT, our differentiated value proposition, and how our financial strategy and model is built to deliver value to our clients and our shareholders over the long term. We made progress in our financial performance in the second half of last year, and now our first quarter results demonstrate further progress toward our model. So, we’re clearly moving in the right direction. In the quarter, we delivered $19.1 billion of revenue, $2.3 billion of operating net income, and $2.45 of operating earnings per share. And with this start to the year, we continue to expect at least $13.80 of operating earnings per share in 2018. Our revenue in the quarter was up 5% year-to-year. Without the currency tailwind, our revenue was up modestly, though you’ll see on the chart constant currency rounds to flat. Now turning to profit, our operating gross profit was up 3%, with broad-based improvement in our year-to-year gross margin performance versus last quarter. Our operating net income was up 2% and earnings per share was up 4%. Those are inclusive of a year-to-year headwind from the actions we took in the first quarter to continue better positioning our business for the long-term. I’ll expand on this in a minute, but what you’ll see in the underlying operating dynamics is that we improved our gross margin trajectory, expanded our PTI margin and had solid growth in earnings per share. Looking at the year-to-year dynamics let me start with revenue. As I said, we’re up 5% at actual rates, with 6% growth in Cognitive Solutions, 4% in Global Business Services, 5% in Technology Services and Cloud Platforms and 8% in Systems. Let me add some color by segment, and from here on I’ll focus primarily on constant currency performance. Cognitive Solutions revenue was up 2% year-to-year, with continued strength in security software and industry platforms, and a return to growth in our analytics revenue. These Cognitive results contributed to growth in our total software revenue for this quarter, with strong transactional performance and continued growth in SaaS. In our services businesses, we had an improvement in our revenue trajectory from last quarter, driven by revenue from the run-out of our backlog. In addition, both segments grew signings this quarter, contributing to double-digit growth in total services signings, driven by cloud content. Our Systems revenue was up 4%, with very strong revenue growth again in IBM Z, and a second consecutive quarter of growth in Power. Our storage hardware revenue declined this quarter. We were disappointed in our storage performance and it contributed to a modest shortfall to our own expectations of IBM’s revenue growth in the quarter. Our first quarter results reflect much of the work we’ve done to reposition our portfolio and our skills to address the secular trends in the market, led by the phenomenon of data. We’ve been building new platforms and solutions, while modernizing existing ones, embedding cloud and AI into more of what we offer. And so, IBM is now a cognitive solutions and cloud platform company, focused on the high-value areas of IT. Our strategic imperatives revenue is an indication of our success in addressing these secular trends. Over the last twelve months, our strategic imperatives revenue of $37.7 billion represents 47% of revenue. Our strategic imperatives revenue in the first quarter was up 15% at actual rates, or 10% at constant currency, led by security which was up 60%, and cloud. Our cloud revenue is now $17.7 billion over the last year, which is up 22% as reported. Cloud growth in the quarter was driven by our as-a-Service offerings and we’re exiting the first quarter with an annual run rate of $10.7 billion, which is up 20% at constant currency. Our cloud success reflects our ability to help our clients run hybrid environments, with our one cloud architecture across public, private and multi-clouds. The continued scaling of our strategic imperatives, together with focus on efficiency and productivity is contributing to our improved margin trajectory. So bringing it all together, we grew revenue, operating net income and operating earnings per share and improved our year-to-year gross margin trajectory as compared to the fourth quarter. Before moving to our key financial metrics, we have a few significant items in our results this quarter, so I want to take a minute to walk through these. And I’ll start by reminding you of what we said 90 days ago in our discussion of our 2018 expectations. We said we expected to deliver between 17% and 18% of the full year earnings per share expectation in the first quarter. Our first quarter operating earnings per share of $2.45 is 17.8% of $13.80, so consistent with the range we provided. We said we expected an ongoing tax rate of 16% for the year, plus or minus two points, and that’s excluding discrete items. We also said that just like in each of the last two years, we anticipated discrete tax benefits in the first quarter, and we’d likely take actions that would offset some portion of the benefit. In the quarter, we took actions to continue the transformation of our business. These actions drove pre-tax charges of about $610 million, with the majority of this in SG&A, and some in cost. First, with the repositioning of our portfolio, we have emerged as a leader in the high value segments of the enterprise IT industry. This requires revitalization of our skills base and this quarter we took actions to further align our skills to these high value areas. And then second, we took actions that will better position our systems cost structure over the long term. In addition, we settled a number of US and foreign tax audits, which drove discrete non-cash, tax benefits of $810 million in the quarter. Let me remind you that this benefit reverses charges that were reflected in prior years. As always, we’ve included these charges and benefits in our operating results. Today we’ve laid out a year-to-year bridge of our operating earnings per share, isolating what I’ll call these significant items, so that you can better see the underlying dynamics of our business. Looking at the drivers of our $2.45 of operating earnings per share on a year-to-year basis, we had contribution from revenue growth at constant margin, as well as from operating leverage. The operating leverage was driven by pre-tax margin expansion, mitigated by a higher underlying tax rate year-to-year. A lower share count contributed to growth and then you can see the year-to-year impact of the significant actions, which was a headwind to our earnings per share growth. So this is a good start to the year, and as I said earlier, our underlying operating dynamics show an improved gross margin trajectory, expansion of our pre-tax margin and solid growth in our operating earnings per share. I want to mention one other item that we discussed in the context of our 2018 expectations. In January, we implemented two new accounting standards, revenue recognition and the presentation of pension costs. The net effect of the two was a modest reduction in our operating earnings per share in the first quarter, with effectively no impact year-to-year. Regarding the implications to revenue, adoption of the new revenue standard had a de minimis benefit to our revenue in the first quarter, and we expect any full-year contribution to be immaterial. So now let me talk about the key financial metrics for our operating performance, and show you the impact these significant items have on our results. As I said, our revenue was $19.1 billion, and the year-to-year performance is essentially all organic. From a geography perspective, revenue in the Americas was flat year-to-year. A decline in the US was offset by solid growth in Canada and Latin America, which was led by Brazil. Asia Pacific was also flat. This is a two-point improvement over the year-to-year performance in the fourth quarter. Our Europe revenue trajectory also improved and in fact, returned to growth. We had strong in France and Spain, and while Germany and the UK declined, they had marked improvement in their year-to-year trajectory. Looking at our margin performance globally, our operating gross margin was down 70 basis points, though that includes a 40-basis point impact associated with the significant item I just mentioned to improve our long-term Systems cost structure. This is good improvement in our year-to-year margin dynamics, driven by mix and productivity, led by services. Our operating expense was up 9%, driven by currency, and the actions to continue repositioning of our business. Without these, our expense was better by 1%, reflecting a high level of investment, and our continued focus on productivity. As we’ve discussed in the past, when currency helps the top line, it also hurts the expense line due to both translation and the impact of hedging losses. And so, in the first quarter, currency drove five of the nine points of expense growth. And then, a high level of workforce transformation activity drove another six points of expense growth. I’ll also mention that we had a lower level of IP income, which drove two points of expense growth. Our operating tax rate for the quarter reflects an underlying rate of 16%, as well as the discrete tax benefits of $810 million. The 16% is in line with the range we discussed in January and is up over a point year-to-year. The operating net income was up 2%, and operating earnings per share of $2.45 was better by 4% and those include the year-to-year impact of the significant items. Looking at the cash metrics, we generated $1.3 billion of free cash flow in the quarter and $13.3 billion over the last twelve months. That’s nearly 120% of GAAP net income. I’ll come back to the drivers of our cash performance after I walk through each of the segments. Now turning to our segments, Cognitive Solutions revenue was up 2%, as we continue to scale our new platforms and solutions and grow our SaaS offerings. Solutions Software revenue also grew 2% led by offerings in analytics and security. Within analytics, growth this quarter was driven by strong transactional performance. We saw broad-based growth across both our on-prem analytics platforms and our SaaS offerings, as clients look to use their data for competitive advantage. And so from a portfolio perspective, we had continued growth in offerings that allow our clients to better manage their data in hybrid environments like our Integrated Analytics Systems. We also had strong growth in our data science offerings, where we introduced new capabilities that allow data developers to leverage open-source tools in a secure, collaborative environment. You’ll remember last quarter we talked about the weakness in the data integration space due to new offerings introduced very late in the quarter. These new offerings are resonating with our clients and contributed to growth this quarter. Also within analytics, we continue to scale our industry platforms. Let me focus this quarter on Financial Services. Watson Financial Services had another strong quarter, led by Promontory’s Risk and Regulatory business, as well as our Financial Crimes portfolio. We’re seeing a real synergy opportunity in combining Promontory’s industry expertise with our AI technologies. Watson remains the AI platform for business, with continued strong demand for our offerings, particularly around virtual assistants, where conversation service usage increased triple digits year-to-year. In the first quarter, we introduced several new offerings to accelerate client journeys to AI, such as the enhanced Watson Assistant, with conversational offerings tailored to specific industries like automotive and hospitality. Orange Bank and AutoDesk are two examples of early adopters of our latest technology. And just last week, Forrester recognized IBM Watson Assistant as the only leader in its New Wave report on Conversational Computing Platforms. Security had great growth this quarter and we continued to gain share. We are well positioned in this market with our extensive security portfolio, which is enhanced with AI to address the needs of our clients. There is obviously a lot of demand here given the important of cyber security risks and data privacy concerns, especially in an environment where security talent is at a premium. We had good performance in areas like data security, with GDPR as a driver, endpoint management and orchestration. And we had strong revenue growth in our SaaS offerings in security, as we continue to increase our AI capabilities across the portfolio. We also continue to make progress in emerging areas like blockchain. We’ve grown to over 50 active blockchain networks since the release of our IBM Blockchain Platform in the third quarter last year. And last month, we announced a beta version of our IBM Blockchain Platform Starter Plan, designed for startups, developers and companies of any size that want to quickly stand up a blockchain network. In the first two weeks, we had over 750 networks provisioned. Turning to Transaction Processing Software, revenue was up 1%, so another good quarter. Growth was driven by Z middleware, as our clients continue to invest and growth their high value, mission-critical workloads on the Z platform. Looking at profit this quarter, pre-tax income for the segment grew 5% and pre-tax margin was roughly flat year-to-year, even with a nearly two-point impact from the workforce actions. Margins were driven by strong transactional performance in high-value areas, offset by ongoing investments into strategic areas and business mix. Moving on to Services, Global Business Services revenue was down 1% at constant currency, which is a modest improvement in trajectory from the fourth quarter and we again grew signings. Our strategic imperatives revenue reflects the on-going shifts to areas of higher client value, with growth across multiple areas like cloud and analytics. Turning to the lines of businesses, Consulting revenue grew for the third consecutive quarter and our backlog was up year-to-year. Revenue growth was led by strong double-digit growth in our Digital strategy and ix business, which implements end-to-end digital transformation strategies for our clients. GBS is uniquely positioned to bring together IBM’s first-mover advantage in the most promising, emerging technologies, like blockchain, with their industry expertise, to develop solutions which help clients unlock value. Looking at Application Management, our revenue was down 2% this quarter, a one-point sequential improvement from fourth quarter. Application Management signings grew at a double-digit rate, as we leverage our incumbency to help clients modernize their critical applications and migrate to the cloud. Turning to profit, GBS gross margin stabilized this quarter, a two-point improvement in trajectory from the fourth quarter. This includes about a half-a-point impact from currency. The improvement was driven by productivity, revenue mix and pricing improvements. Pre-tax margin was down three-and-a-half points year-to-year, including an impact of nearly two points from the workforce rebalancing charges. This reflects our ongoing investments in the next generation of offerings, skills and enablement, and the reshaping of our pyramids for each of our core service lines, which will drive operating leverage in the long-term. Turning to Technology Services and Cloud Platforms, we had good execution this quarter, with trajectory improvement in revenue and profit and strong double-digit growth in signings. Revenue of $8.6 billion this quarter was down 1%, representing a three-point improvement in year-to-year performance compared to last quarter. Signings grew double digits, as clients continue to recognize the long-term value of our offerings and capabilities. At this level of signings growth, the TS&CP backlog trajectory improved two points, with approximately 40% of that backlog now in key strategic workloads. Across the segment, the strategic imperatives revenue grew double digits, and the as-a-service exit run rate for the segment is now $7.4 billion. We’ve got a lot of momentum in our enterprise cloud value prop, and this quarter our cloud signings in Infrastructure Services grew over 40% year-to-year. Infrastructure Services revenue was flat, which is nearly a five-point improvement from the fourth quarter rate. This was driven by improved revenue from backlog realization, as expected. We are helping clients drive efficiencies and gain agility in their IT environments through hybrid cloud. Our clients entrust us with their mission-critical foundational systems and rely on us to navigate the complexities of disparate IT environments along with data and regulatory frameworks as they move to the cloud. Technical Support Services revenue declined 4%, due, in part, to the dynamics of our hardware product cycle. Within TSS, our core multi-vendor support offerings continued to grow. Integration Software grew 1%, with continued growth in SaaS across the portfolio, and the adoption of the new IBM Cloud Private offering, where we now have over 200 clients using the platform. The Integration Software portfolio remains essential to clients as they connect multiple environments through a single architecture. Turning to profit, gross profit margin for the segment was down 60 basis points year-to-year, a 140-basis point sequential improvement from fourth quarter driven by services where we had productivity and scale improvements, and a better mix within Integration Software. Pre-tax income margin was down three points year-to-year, where, similar to GBS, workforce rebalancing charges had a two-points impact. Adjusting for this, the pre-tax income margin dynamics were consistent with our gross margin dynamics. In Systems, revenue grew again this quarter as we modernized our systems for the most contemporary workloads. Performance was driven by both strong z14 momentum and growth in Power, mitigated by the decline in Storage. This quarter, IBM Z grew 54% year-to-year on more than 100% growth in shipped MIPS and margins expanded. The z14 adoption was again broad-based. We added new clients to the platform across several countries this quarter, including a services provider in Thailand who chose our LinuxONE for its blockchain solutions. So, we’re continuing to address the emerging workloads across the z platform like blockchain, but also machine learning, dev ops and payments. With new workload MIPS growing four times as fast as our traditional MIPS. And last week, we announced a new z14 designed specifically for cloud environments. Its industry standard, single-frame design allows for easy placement into public cloud data centers and private cloud deployments. These latest systems bring the power of IBM Z to an even broader set of clients. Overall, the mainframe continues to deliver a high value, secure and scalable platform that is critical in managing our clients’ complex environments. Power grew for the second consecutive quarter, with revenue up 3%, driven by our entry level portfolio and our cloud-enabled offerings. Power remains vital to many workloads, including artificial intelligence, high-performance computing, UNIX, and Linux, and we grew in all four this quarter. We started transitioning to POWER9 in the fourth quarter with the first installment of our supercomputers at US Department of Energy, and late this quarter, we started shipping our POWER9 entry systems designed for AIX, IBM I and Linux workloads. These cloud-ready systems provide leadership capabilities in advanced analytics, cloud environments and data intensive AI workloads. Storage hardware was down after four consecutive quarters of growth, driven by increasingly competitive environment and continued pricing pressures, though we expanded margins. We also had some sales execution challenges which impacted performance. Remember what we are talking about here is just the hardware element of storage. Clearly, we’ve seen some of the value shift to software. In this quarter, we had strong growth in Software Defined Storage and Cloud Object Storage, which are reported in Transaction Processing Software. Looking at profit for Systems, gross margin was down about four points year-to-year, including nearly a five-point impact for the charge I referenced earlier in Systems cost. Without that, gross margin expanded due to the relative strength in our higher margin business and cost efficiency actions. Pre-tax margin was roughly flat year-to-year, even with the impact associated with the significant items in cost and expense. So, in our underlying performance we expanded margins, while successfully delivering innovation in support of our clients evolving workload needs. Turning to cash flow and balance sheet, we had another strong quarter. We generated $2.2 billion of cash from operations, excluding our financing receivables and after investing another $900 million in capital expenditures, we generated $1.3 billion of free cash flow, which is up year-to-year. Our cash realization remains very strong at nearly 120% over the last 12 months. This performance puts us on track to achieve our full year expectation of free cash flow of approximately $12 billion. Our results in the quarter were driven by performance in working capital, partially mitigated by higher cash taxes and higher CapEx. Both headwinds, we talked about back in January. Looking at uses of cash in the quarter, we returned $2.2 billion to our shareholders, including $1.4 billion in dividends. We bought back almost 5 million shares and had $3 billion remaining in our buyback authorization at the end of the quarter. On the balance sheet highlights, you can see we ended the quarter with $13.2 billion in cash and total debt was $46.4 billion. About two-thirds of our total debt was in support of our financing business. Our financing leverage remains at 9 to 1, and the credit quality of our financing receivables is strong at 53% investment grade, that’s consistent with December and a point better than a year ago. So our balance sheet is strong, we’ve got flexibility we need and with a strong quarter in cash flow, we’re on track for the year. So let me make a few summary comments on the quarter and the year before we go to Q&A. We’ve been building and transforming our portfolio, our skills, our operating model, to address what our enterprise clients need and what they value. Our results over the few quarters reinforce that our clients value the integration of our innovative technologies together with our industry expertise to help them in their journey to AI, their journey to cloud. And they value our approach to the protection of their data and their privacy. In the first quarter we built on the progress we made in the second half of last year. We improved our year-to-year revenue trajectory in Cognitive Solutions in GBS, in Technology Services and Cloud Platforms. And we continued to grow our Systems revenue. We improved our year-to-year trajectory in operating gross margin, it’s better by 70 basis points compared to the fourth quarter performance and better by 110 basis points when you adjust for the actions we took. The margin trajectory improvement was broad-based with operating leverage coming from mix and from improved productivity. We continued our investments, in our one cloud architecture, in emerging areas like blockchain, and more broadly in skills and talent development. All together, we grew our revenue, operating net income, operating earnings per share and free cash flow. With this performance we continue to expect to delever at least $13.80 of operating earnings per share, with about 40% of that in the first half. To put that in perspective, that’s about a point ahead of our first half skew in 2017. And so, this was a good start to the year, and going forward, we’re focused on delivering consistent operational performance. And with that, let me turn it back to Patricia to kick off the Q&A.

Thank you, Jim. 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 slide deck that provide additional information on the quarter. And second, as always, I’d ask you to refrain from multi-part questions. So operator, let’s please open it up for questions.

[Operator Instructions] Our first question comes from Katy Huberty from Morgan Stanley. Your line is now open.

Jim as you noted Storage was the disappointment in the quarter, can you just talk a bit more about what drove the change in the pricing environment, your execution and some of the actions that you had to take to reposition that business. And then just more broadly can you talk about the expected pay back on the actions that you took in the quarter both in terms of the amount and timing of the return on the workforce rebalancing. Thank you.

Katy, thank you for the question. So we’ll go in two parts, let me address storage first. As I stated in the prepared remarks we were disappointed in our storage performance especially after four quarters of growth, our 1Q fell below our own expectations but I’ll tell you we have a great team with a proven track record. This is the same team that has proven that they’ve revitalized the portfolio in the past, took market share for four consecutive quarters and now we had an impact in the first quarter predominantly just due to execution of transactions at the end of the quarter. This market in storage is continued to be very competitive and very aggressive. It is a battle right now on market share, but we feel comfortable that we’ve got new portfolio offerings that are coming out later in the year, as we get through the latter half of second quarter and then to third quarter and fourth quarter and we’ve already taken significant actions on how our routes to market and our economic equation will all of our channel partners are put in place and with that great team that has executed in the past. We have all the confidence in the world that we can get our storage business back to where it needs to be as we move forward in the second half of 2018. Now let me talk about your second question because as you stated, there are lot of dynamics that have played out this quarter. Many of which we talked about 90 days ago, so let me spend a couple minutes to unpack this because I think we should spend our time on fundamental underlying business performance when you take a look at our significant items that I talked about. So in January during our guidance, we talked about we would have a tax discrete and in this quarter and as I stated, it was $810 million. As I stated, the largest driver of this was the conclusion of the 2013 and 2014 US IRS audit. And I’ll remind you this reverses provisions previously taking in our tax rate in prior years and it’s non-cash. So in addition to that, we took actions around continuing to reposition our business to revitalize our skill base, the higher value [indiscernible], our systems cost structure over the long-term and as we continue to look for ways to make a more variabilized [ph] model versus fixed cost model. So as always we included the charges and the benefits in our operating results. But in order to understand the underlying dynamics and some of you have given me very good advice, we put in place a year-to-year bridge of our operating’s earnings per share to show you the implication of the net effect of those two events on a year-to-year basis. And as you saw in the chart, it was a headwind to us of $0.05 that we owe, had overcome. So without those impacts we improved the trajectory of our gross margin, our gross margin was down 30 basis points in my books that’s stabilization, we expanded our pre-tax margin, we had solid earnings per share growth and free cash flow growth and we delivered what we said in the quarter. Now in turns of savings, just wrapping it up, as you see we took about $610 million action to continue repositioning our business, we expect that to deliver 2x the investment and maybe a little bit more, on an annualized basis and we expect about half of that to be driven in second half of 2013. So I’ll tell you when you cut through it and you look at that operating earnings per share bridge year-to-year, we are focused on delivering consistent, operational performance in this business to deliver value to our clients and our shareholders as we move forward.

Thanks Katy. Can we go to the next question please?

Our next question comes from Toni Sacconaghi from Bernstein.

So Jim, you had talked about growing revenues in the first quarter and you fell short of that this quarter with flat revenue growth. You highlighted storage was that really the only area of disappointment in where you thought you were 90 days ago and if we kind of look forward, I suppose critics could say, the IT spending environment is very robust, you’re benefiting from a mainframe cycle, comparisons are relatively easy, isn’t this about as good as it gets and when we look forward, should we be thinking about the high water mark for revenue growth being this quarter or what might change that?

Yes, Toni. Thanks for the question. Pretty long question I’ll try to make sure I can answer each component. First of all as you stated, we did post revenue growth $19.1 billion up 5% at actual rates up modestly at constant currency which is you saw in the chart rounds to flat. And as I stated upfront, being transparent we fell short to our own expectations and I talked about storage already and I’m not going to repeat that. We have confidence in the team, we have confidence in the portfolio and we know we’re going to get back on the field and turn that business back to growth as we get into second half, but let just play out a little of the dynamics of our first quarter in the profile of our revenue. We had strong growth and let’s start with the strategic imperatives which are the signpost, of us capturing the value in the secular shift so we can lead in the high value IT segments moving forward which are instrumental to our overall financial model. Our strategic imperatives were up 15% at actual rates and up 10% at constant currency and on a trailing 12 months we’re at $37.7 billion, 47% of IBM. That trajectory if you just play that out, says we’ll deliver our $40 billion signpost before the end of 2018. Now unpacking that strategic imperative let’s talk about the fundamental drivers of that. One, our Cloud business. Our Enterprise Cloud continues to resonate from a strategy value prop and we’re continuing to gain momentum. Over the last 12 months $17.7 billion of revenue up 22% at actual rates or as a service component underneath that, $10.7 billion that’s up $400 million on an annualized exit run rate just from three months ago and it’s up 20% overall. And security we have a leadership market share position, we’re taking share, we’re up 66%, $3.4 billion. So I would tell you the underlying dynamics of how we changed our portfolio, we’re capitalizing on those secular shifts and we’re gaining market share overall. Now with regards to IBM’s model as we talked about a month ago, when I spent time with you in Las Vegas at our Investor webcast. Our model is 1% to 3% low single-digit. We have a composition of our portfolio that delivers revenue contribution, operating leverage to deliver that investment thesis of being a high-value base company delivering profit at mid-single-digit and high single-digit earnings per share and delivering free cash flow to deliver 70% to 80% back to our shareholders. So we feel confident that we’ve got the right portfolio lineup, we’re well on pace to deliver that $40 billion earlier than 2018 and we’ve got the right team in place to go execute. And now, just concluding you asked about disappointments, obviously when you look at our performance we said what we were going to do, we returned cognitive solutions back to growth coming off of fourth quarter flat, it grew 2% at constant currency and we had a great software quarter, return in analytics back to growth, after last quarter we talked about 90 days ago we were disappointed. So great work on that team and we continue to add momentum with regards to our security business and our industry verticals. Our services business, we talked about 90 days and improved backlog trajectory run out and you could see in our first quarter that has played out. Great improvement TS & CP [indiscernible] constant currency to down 80 points at constant currency and we’re making very good progress, we delivered double-digit signings growth and our backlog improved in TS & CP. GBS, we made modest improvement and that would be the second area that we got to pick up the rate and pace in addition to storage, we did improve the trajectory from down two to down one, we improved our backlog by growing signings again, but our backlog is still down 5%, but our backlog trajectory run out still points to improve in trajectory throughout the year and it should enable us to get to revenue growth in the second half of the year, if we continue to drive the quoted signings, to fuel the backlog, to fuel the revenue, so there’s a lot packed in there but I appreciate the question, Toni. Thank you.

Okay, operator. Can we please go to the next question.

Our next question comes from Wamsi Mohan from Bank of America Merrill Lynch. Your line is now open.

Jim, you obviously had very strong revenue growth here in the quarter, but the PTI margins are really massed by the impact of these significant items you called out. Can you give us some color on – in the underlying businesses where you saw the most underlying improvement in PTI trends, if you exiled these significant items, some color and the confidence that you expect that this should improve materially from 2Q through the end of the year? And if I could just ask a clarifying question as well, what specifically were the significant items that impacted Cognitive PTI margins. It seemed that you called out the skill base trends for high value areas and Systems cost structure but not quite sure what specifically impacted Cognitive. Thank you.

Sure, thank you Wamsi and thank you for the complement. We’re pleased with our performance here in the first quarter and it’s first substantiation as we may continue progress in delivering consistency of operational performance I talked about in 2018, so let me first talk about the clarification question with regards to the significant items. As we talked about, we have repositioned our portfolio over the last couple of years, you know quite well we continue to create new offerings to address new value in the market from a client perspective and we’ll continue to adapt that overall and to compete in that light of business, we got to continuously revitalize our skill base and within parts of our cognitive solution portfolio in particular around areas of talent, collaboration and commerce we’re monitorizing [ph] our set of offerings to address shifts in client value and address shifts in consumption models. And we need to revitalize our skills to compete in that area, so in Cognitive Solutions that was predominantly a workforce remixing, we vitalizing charge that was taking to SG&A. Now let’s go to your overarching question and talk about what we see with regards to the fundamental trajectory of our business. And yes the question in terms of our pre-tax margins and how it’s distorted and that’s why I’m glad Katy asked that question upfront because I think we got to get clarity on the underlying dynamics and the fundamentals of our business existing first quarter, so let me just take a minute by each segment because I think each segment should be looked at little differently, from a gross profit margin perspective, it is very appropriate to look at your services based to businesses just given the overarching cost structure and how you drive utilization and return on investment in a cost of service delivery model. So in services I’ll talk gross margin, but I’ll start with Cognitive Solutions. Cognitive Solutions, our model is a model that looks at PTI margin expansion because our model is to deliver single-digit or mid single-digit revenue growth and mid single-digit pre-tax growth i.e. no operating leverage. And when you take a look at our first quarter performance all in printed charges we delivered revenue growth at actual rates at 6%, 2% in constant currency and we deliver pre-tax income at 5%. So we’re generated on that constant currency operating leverage and at actual rates, we delivered our model. Now that’s with all the charges in, excluding the charges we delivered 12% pre-tax income growth. So 2X the revenue growth, as we continue to generate significant value out of our high value base offerings and making great progress from where we were 90 days ago. Now let’s look at our services business, one in GBS. GBS, we improved the trajectory of our gross margin quarter-to-quarter by 200 basis points and that is all the great work that GBS teams are doing all around the world, around driving mix and value out of whole new set of offerings. Our SI business has greater margins than our core business and you know almost two-thirds of our GBS business is now in SI as we continue to generate momentum with double-digit growth. But also we’re seeing price margins in our signings every quarter going up two to three points. Now we got a lot of work to do and we’re driving that work around workforce optimization productivity. Mark talked about refining our skill pyramid and getting the utilization and infusing AI and automation to improve delivery to go realize those margins and we’re starting to see some improvement and we fully expect that trajectory to continue as we move into second half. Now TS & CP, TS & CP improved their gross margins which is the right way of looking at that business as we invest in our cloud to build out our leadership capability and we continue to drive the effective utilization of our GTS business, we improved our margins almost 150 basis points from fourth quarter. We printed down 60 basis points. So we made substantial trajectory improvement that is being driven based on continued scale efficiencies with our cloud momentum and as a service business, but it’s also being driven by the tough work in redesigning our delivery models, infusing automation, the IBM service platform with the Watson now covers over 1,250 clients and we’re scaling that every single day and we’re driving actions around our workforce optimization and structure. So great trajectory improvement in our GBS and our GTS and we fully expect that continue to move forward in second half and we expect our services margins to be accretive in the second half, not just talking about trajectory improvements. And then finally in Systems, our systems we repositioned our portfolio through continuous reinvention of our platforms and capitalizing on secular shifts and new workloads. We had good growth in the quarter, our margins were down but that was driven based on the charge we took to better position the long-term structure of our systems business ex-that charge our margins were up and they were up in almost every segment of that business, so thanks Wamsi for the question.

Okay, let’s go to next question please.

Our next question comes from Steve Milunovich from UBS. Your line is now open.

I just wanted you to indicate whether you expect to see and the 16% tax rate reported the balance of the year or rather you think there will be further discretes. And similarly are we done with workforce balancing charges for the year.

Thanks Steve for the question. As we discussed 90 days ago, we said that we would expect into 2018 that our ongoing underlying operating tax rate will be in the range of 16% plus or minus two points before discrete. I would tell you that still remains today, we executed on what we disclosed 90 days ago but expected tax discrete in the first quarter. But as you know these tax discretes by definition they’re unknown in timing and in scope. And we’re continuing to drive the tax optimization as you would expect of us because it’s a critical element of our underlying operating leverage in our company and our financial strategy, but right now I would fully expect 16% plus or minus 2% and as we move forward. And one last thing consistent to what I said 90 days ago is that on a full year basis, all in, we still expect tax to be a headwind.

Okay, good. Let’s go to the next question please.

Our next question comes from Tien-tsin Huang from JPMorgan. Your line is now open. Tien-tsin Huang: Just wanted to dig into the Services a bit, with the signings that was encouraging. It sounds like signings were double-digit in some key areas including app [ph] and maintenance. It sounds like you mentioned price margin was also [indiscernible]. So I’m just trying to reconcile the signings commentary with the actions to reposition, the workforce rebalancing which I presume will include services headcounts. So are you going to see any negative revenue impact from the actions on the services side, again just trying to reconcile the actions and the potential revenue loss with the strong signings and what it means for the outlook? It got to make sense.

Tien-tsin, thank you very much. Yes we were definitely pleased with our signings performance in the quarter as I indicated, we delivered over $9 billion of signings up double-digits and up across each of our businesses and that has positioned our backlog now at $120 billion and that’s up 4% and I would argue 4% at actual rates is right way looking at backlog because that’s what’s going to play out as time goes on at current spot rates. So we’re pleased with that overall, but the underpinnings when you get underneath signings and backlog. In GTS, we grew signings 20% year-over-year with over 40% in cloud and in our infrastructure services our outsourcing business backlog is now about a point better than where it was a quarter ago and we improved our overarching GTS backlog quarter-to-quarter and as I talked about March 8 at the Investor Day webcast. Remember we’ve kind of held our outsourcing backlog pretty consistent over a decade and now we change and capitalize on the secular shifts and about 40% of that underlying backlog now sits in strategic imperative areas of which cloud makes up the biggest piece and the other important point around signings I will talk about is, when you look at the good growth in signings we had in the first quarter, over 40% of that was driven by cloud based signings. So we’re capitalizing or winning and we’re improving the trajectory of our business. Now let me talk a little bit about margin because I spent on the last answer. The substantial trajectory improvement we saw quarter-over-quarter 200 basis points in GBS and 150 basis points in TS & CP. The way I like to look at these margins as we spent the last two earnings calls, I look at the fundamental drivers of how you operate that business both from a human capital base perspective you got to drive scale efficiency, you got to drive mix through value and price, you got to drive productivity, your fundamental human capital and then as you get operating leverage, you should be able to get, growth through operating leverage. So [technical difficultly] work to do going forward but based on the trajectory and the actions we took to reposition our business that makes me comfortable stating that in the second half our services margins will be accretive.

Thanks Tien-tsin. Let’s go to the next question please.

Our next question comes from Amit Daryanani from RBC Capital Markets. Your line is now open.

I guess Jim if I get maths right, adjusted [indiscernible] one time items gross margin were down 30 basis points in the March quarter. could you just walk me through what do you think are the top [indiscernible] things levers that can help you grow from gross margins declining in Q1 to essentially achieving a stabilization for calendar 2018 that should have implied margins [indiscernible] go up for the next three quarters including Q3 where I think it compared to get [indiscernible]. So what are the [technical difficulty] that give you confidence margins can improve for the remainder of the year?

So let’s talk about this. So again guidance of maintaining at least the $13.80 and as we talked about, there is always many scenarios – team, we drive them like crazy here in a very sharp period of time to get ready for this call, but we look at the trajectory of our business, we look at all of your operational indices and that positions how we can triangulate around the guidance that we give externally across our financial model strategy we talked about in Investor Day. Revenue contribution that is growth mix scale and around operating leverage that is productivity and that is as we get that growth what’s that operating leverage we’re going to get on human capital. So it positions both top line and around margin, so let me just give you a perspective of what we see underpinning the $13.80 in terms of gross margin. 1Q as you talked about we printed all in down 70 basis points. If you exclude the significant items so that you can understand the underlying trajectory of our business going forward our margins were down 30 basis points, that’s coming off fourth quarter being 140, in my book that’s stabilization that’s what we guided to in first quarter and that’s what we delivered. Now with that trajectory improvement that we saw being base of a cost continuing to get scale, continue to get improvements and productivity which we miss by the way, if you remember our discussions 90 days ago and around mix, we do see that trajectory improvement to move forward, but our full year guidance only requires stabilization of margin. And the actions we took in the first quarter I will tell you positions us better than what I said here 90 days ago. On how we can deliver the fundamental dynamics across multiple scenarios of delivering at least at $13.80 and if you play out those drivers since you asked. First, we’re going to continue to invest capital to build out our enterprise cloud and build on that momentum and as a service and we’re going to continue getting scale efficiencies. We made significant investments historically that is been a headwind to us and we are minimizing that headwind every single quarter as we get scale efficiencies and I expect that to continue. Second as I just talked about the increased yield and services productivity, we expect that to play out. Workforce optimization, mix of higher value and capturing price, infusing AI and automation on our deliver platforms. We expect that to play out and deliver significantly in the second half. Now both of these pieces, the efficiency and the productivity and scale out are required because we all know as we enter the second half we have a significant headwind on mix because we’re not counting on more than a typical mainframe cycle. Our mainframe, we’re very pleased with the performance so far program the date, were above our prior program, we’re capitalizing on secular shifts with the value of our pervasive encryption and blockchain, but it would not be prudent right now to predict or to predicate our $13.80 guidance on breaking a mainframe cycle so that mixed headwind is facing us in the latter half of 3Q and 4Q and we need to overcome it with the scale out efficiencies and with the increased productivity and based on the actions we took in the first quarter, to better reposition our business for the long-term. I feel more confident than I did 90 days ago.

Thanks Amit. Let’s go to the next question please.

Our next question comes from Mark Moskowitz from Barclays. Your line is now open.

Just continuing that thread in terms of trying to understand how the revenue component would help drive that margin expansion of the overall equation. Is there any – you can give us in terms of how we should think about the legacy outsourcing business that IBM almost three and five and seven-year outsourcing deals that were consummated before IBM became a bigger and better cloud vendor in the last couple of years. Is there any sort of cycle forthcoming whereas those deals unwind we could see conversion or transition to more like cloud like workloads for those customer and therefore you achieve better scale at your 58 data centers, is that since like it happened this year or it’s something more 2019 or 2020?

Thank you, Mark. I appreciate the question. I would tell you we’re seeing that already. I mean the secular shifts that have happened in the market place and are happening and will continue to happen are right in front of us and that’s why I thought it was very interesting and why we shared some of the signpost data about our outsourcing composition and our backlog and how we’ve been able to maintain it over a decade long period while continuing to capture those secular shifts in cloud. Today as we exit first quarter total backlog of $120 billion, our outsourcing backlog is somewhere around that $80 billion number and within that our shift to cloud is somewhere in the neighborhood of 25% to 30% already that is providing us tremendous scale efficiency as we leverage in the 58 and actually I think now we’re north of 60 cloud data centers around the world and we’ll continue to differentiate ourselves as we move forward. So we have been focused, I think it’s in attestation to the value of incumbency, the value of trust and we talked about the differentiators about our innovated technology, about our deep industry expertise and about the trust and security of our clients, our GTS business are managing the critical workflows and critical business processes of our clients and as they looked for efficiency in delivering a new model around cloud, we’re actually capitalizing on that as we move forward. So not only it would help our revenue, it will help at the end of the day our margin and our scale efficiencies as we go forward.

Okay, we’ve covered a lot of topics today and we’re going a little long, so I’m going to take one last question, please.

Our last question comes from David Grossman from Stifel Financial. Your line is now open.

So Jim, I’m wondering if you could just follow-up few of the earlier questions, you did a good job of explaining the dynamics by business unit that said, we have this issue of comping [ph] the mainframe cycle later this year and you just stated, we probably should count on it elongated cycle. So are the improving service metrics that you shared sufficient to give you more confidence that these businesses will be sufficiently position to offset those headwinds that will be created by the anniversary cycle whenever it may happen and then just secondly, a point of clarification. Should we expect the margin benefits from the significant items to benefit both the second half of this year and the first half of next year on a year-over-year basis?

Okay, David. Thank you very much for your question. So let me address the second one first because I think that’s a short answer. As I stated both in the prepared remarks and the Q&A we expect the annualized savings to be 2X the investment we’d get about half in the second half so obviously yes that also strategically positions us for the first half plus going forward into 2019 because remember we took these actions to better reposition our business for the long-term and what’s required to continue to generate and create client value and shareholder value as we move forward, so that’s the first question. The second, that’s why I specifically with regards to your wrap around fourth quarter mainframe etc. that’s why I specifically walked through the margin dynamics of what we see playing out throughout the year. We realize and I think it’s prudent based on what we’ve done with our guidance of at least $13.80 we know we got a mixed headwind. Now believe we got in entire mainframe team in 170 countries around the world that are driving like crazy to deliver the value to our clients to make this a secular shift versus cyclical, we’ll put that aside for right now that’s for tomorrow, as we go drive the operational execution being 17 days already into the second quarter. But we do see scaled efficiencies based on the momentum trajectory of our cloud business and as the service, we see productivity played out very nicely for us in the first quarter and with the actions we took in the first quarter, it positions us for the second half as we move forward to get our services business to accretive margins to help us overall and lastly, when you take a look at it, we return our cognitive solutions back to revenue growth to our top line that carries high profit, high value based activity, we expect that trajectory to continue and again that backlog run out is playing out and we got to just continue to drive the signings, to few of that backlog to get revenue on the second half and we feel comfortable with that. Now with that, let me wrap up the call. By again saying, we’re very pleased with the start of the year. We gave you guidance 90 days ago. We said we’d deliver at least $13.80, 17% to 18% we delivered at the high end of that earnings per share guidance of 17% to 18%. We made substantial progress across many parts of our business. We took significant actions to reposition the long-term position of our company and we are on track to deliver our full year objectives of at least $13.80 and deliver revenue growth at current spot rates, stable margins which is all we need to deliver that $13.80 and free cash flow of at least $12 billion. The first quarter was in [indiscernible] of that, we delivered revenue growth, we delivered operating profit growth, we delivered free cash flow growth, we delivered earnings per share growth, all in. and that positions us now as we’re focused, as I’ve started this call on delivering consistent operational execution in this business as we move forward. So thank you all for joining the call.

Operator, let me turn it back to you to wrap it up.

Thank you for participating on today’s call. The conference has now ended. You may disconnect at this time. End