Q2 2025 International Business Machines Corp Earnings Call
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 time.
Arvind: Finally, some comments made in this presentation may be considered forward-looking under the private Securities. Litigation Reform, Act of 1995, these statements involve factors that could cause our actual results to differ materially additional information about these factors is included in the company's SEC filings. So with that, I'll turn the call over to arvind.
Thank you for joining us today. In the second quarter, we delivered solid results across Revenue profit and cash exceeding, our expectations.
Or performance. This quarter was led by software and infrastructure as demand remains high for technology that improves productivity. Reduces costs and fuels innovation.
Arvind: While the operating environment remains Dynamic, these results, reflect the strength of our portfolio and the resiliency of our business model.
Arvind: Before I get deeper into the results, let me touch on the broader economic backdrop.
Arvind: I'll start by saying that we appreciate the administration's priority on economic growth and focused regulation which will strengthen the US competitive position.
Arvind: We believe this will result in long-term value creation and enable technology to contribute to economic growth.
Technology continues to serve as a key competitive Advantage, allowing businesses to scale Drive efficiencies and fuel growth. And we saw this play out in the quarter.
Arvind: While not a major factor overall. Geopolitical tensions are prompting. A few clients to move cautiously.
Arvind: US federal spending was also somewhat constrained in the first half, but we do not expect it to create long-term headwinds.
Let me now turn to our execution in the quarter.
Arvind: A strategy remains focused hybrid cloud and artificial intelligence.
Arvind: This strategy is built on 5 reinforced client Trust.
Arvind: Flexible and open platforms. Sustained. Innovation deep domain, expertise and a broad ecosystem.
Together, they form a flywheel for growth which again played out this quarter.
Arvind: In software, we continue to see momentum.
Including 14% growth in red hat.
Arvind: Hoshi cop is also off to a great start accelerating performance in our first full quarter since closing and seeing early wins with joint ansible and terraform products synergies.
Arvind: Infrastructure was up, 11% driven by a very strong start to z7.
Arvind: The new IBM Z is an embodiment of the hybrid cloud and AI capabilities we bring to clients.
Arvind: IBM Z continues to deliver on its core strengths, AI security and scalable capacity driving. Its enduring nature with clients,
Arvind: These results were balanced by Consulting performance, which continues to be impacted by the demand environment.
Arvind: AI remains a powerful driver of transformation for our clients and for IBM,
Arvind: We are Transforming Our Enterprise operations using technology and embedding AI across more than 70 workflows leveraging. Our own IBM software Solutions across hybrid Cloud Automation, and AI to drive competitive advantage.
Arvind: What differentiates IBM is the breadth of our AI offerings, with an Innovative technology stack and Consulting business has scaled and our client zero lens.
Arvind: Our gen AI book of business. Now stands at over 7.5 billion dollars, Inception to date with momentum accelerating quarter over quarter.
Arvind: We are seeing strong demand for our AI agents and assistance.
Real AI Granite models as well as at accelerating need for our consulting services to deploy AI.
Arvind: Just last week, IBM was recognized as an emerging leader in the first ever Gartner Emerging Market quadrant for Gen, AI Consulting, and implementation services.
Mizuho and Nestle while using our AI tools to unlock Data Drive Automation and reduce operational friction.
Arvind: As clients focus on scaling Ai and delivering Roi.
Our progress on internal productivity is fueling and accelerating our client engagements.
Arvind: We will expand our partner ecosystem to deliver AI at scale.
Arvind: this quarter, we announced new or deepen collaborations with Oracle Fox AWS Salesforce Microsoft, ey, faster and wpp
Arvind: Each is aimed at embedding Watson X into Core Business, workflows.
Arvind: I think 2025 we introduced new capabilities across our portfolio.
We launched new features for Wattson X orchestrate, which allows users to build custom AI agents in minutes with no coding required.
Arvind: There are now more than our 150 pre-built domain specific agents in our catalog.
Arvind: Spanning HR sales procurement and it.
Our partners are building on this as well. Integrating Agents from Oracle Salesforce, AWS and others.
and orchestrate supports, the full agent life cycle from building to managing and governing agents across business functions regardless of which AI models they are built with
Sap plans to deploy our high value automation portfolio, including Red Hat, ansible automation, platform and Hoshi cop terraform and Walt.
Arvind: Highlighting the opportunity we have in product synergies.
Arvind: Innovation also extends to infrastructure.
Arvind: This quarter, we launched z7 our most advanced Mainframe yet.
It features the new tm2 processor, delivering more than 450 billion. AI inference operations per day with millisecond latency.
That means AI models can run directly in transactional workloads with no external servers needed.
Speaker Change: The Spy accelerator which will be available in the fourth quarter will enable. What's the next code assistant for Z and what's an assistant for Z to run natively on z17?
As More than 70% of IBM, Z clients continue to expand or maintain capacity.
Or software stack is bringing even more Innovation to IBM Z including what's the next quarter assistant for Z? What's the next data concert and Hoshi cop, Walt?
Speaker Change: In July, we introduced power 11 to deliver the performance, resiliency and scalability.
Speaker Change: Enterprises need to run Mission critical data intensive workloads, across hybrid environments.
And we have announced rise with sap on power 11.
Speaker Change: In Quantum, we achieved a major Milestone with the deployment of IBM, Quantum system 2 in Japan in partnership with ryken.
Speaker Change: This marks the first installation outside the United States and underscores our commitment to Global Leadership in Quantum computing.
Speaker Change: To complement our organic Innovation, m&a remains important.
We closed the acquisition of data structures quarter.
Adding real-time scalable data capabilities to support ai-driven applications.
In closing.
Speaker Change: We remain focused on consistent, execution, and long-term growth.
While the environment remains Dynamic, we have a disciplined strategy and a durable business model.
Speaker Change: given our first half of 4 performance, we continue to expect accelerating Revenue, growth to 5% Plus
Speaker Change: And are raising our expectations for free cash flow to above 13.5 billion for the year.
We are confident in our ability to deliver sustainable profitable growth.
Jim: Jim over to you.
Thanks Arvin in the second quarter, we delivered 17 billion dollars in Revenue.
Arvin: For 4.7 billion dollars of adjusted Ava.
Arvin: 3.2 billion dollars of operating pre-tax income.
Arvin: And operating earnings per share of $2.80.
Arvin: Our highest first half free, cash flow margin in many years.
Arvin: Our Revenue growth, mix and productivity drove, 200 basis points of adjusted. Ibaa margin expansion.
Arvin: 16% adjusted ebit of growth.
And 15% operating earnings per share growth.
Arvin: We exceeded our expectations on Revenue.
Arvin: Profitability, adjusted ibida and earnings per share. Highlighting the strengths of our portfolio and resiliency of our business model.
Arvin: Our revenue for the quarter, grew over 5% at constant currency.
Arvin: Software grew 8%. This quarter as we continue to benefit from our high-value annual recurring Revenue base of which grew to 22.7 billion dollars up 10% since last year.
Red hack growth accelerated, 1 Point sequentially to 14%.
Arvin: Fueled by another quarter of double digit, bookings, and demand for our hybrid Cloud Solutions.
Arvin: We gain market share across each of our key Solutions.
Arvin: Led by open shift growing Revenue. More than 20%.
Arvin: With ARR. Now, at 1.7 billion dollars.
Arvin: Automation grew 14% with Hashi Corp off to a strong start.
Arvin: We accelerated bookings growth in the first 4 quarter since closing.
Arvin: Fueled by IBM's Global go to market reach and deepening product and technology synergies that are unlocking new customer value.
Arvin: Data was up 7%, fueled by strength across our AI offerings.
And transaction processing Revenue declined, 2% in the quarter.
Arvin: Reflecting where we are at with our new z17 cycle as clients prioritize Hardware. Spend at the beginning of a new program as you can see in our strong IBM Z results.
Arvin: Infrastructure, Revenue, grew 11%, this quarter.
Arvin: With hybrid infrastructure up 19% and infrastructure support down 3%.
Arvin: Within hybrid, infrastructure, IBM Z was up, 67% reflecting early strength and our z7 program. As AI use cases are resonating strongly with clients.
The success of our launch highlights, the enduring nature of the IBM Z platform, through the value of our continued, Innovation around Ai workloads and the realization that hybrid cloud is the dominant architecture.
Arvin: Clients continue to invest in IBM Z because there Remains the backbone for Mission critical workloads offering unmatched reliability, scalability security and performance.
Arvin: while seamlessly integrating with hybrid cloud and AI strategies,
Arvin: Distributed infrastructure Revenue was down 17% with product cycle, Dynamics, impacting power.
Arvin: With the recent announcement of power 11 in July.
Arvin: Power 11 are Next Generation platform.
Features, advancements across the processor, Hardware architecture, and virtualization software stack.
Arvin: While storage was impacted by the new IBM. Z cycle as clients prioritize Hardware, spend our early strength in z17, and the growth in the install, myips capacity drives a long-term benefit. Given the 3 to 4X z-stack multiplier
Consulting Revenue was flat.
Arvin: Stabilizing in the first half and heading into the second. Half our backlog remains healthy, a 4% over last year despite the challenging pricing environment.
Arvin: In the quarter intelligent operations. Revenue grew 2% while strategy and Technology decline by 2%.
Arvin: The environment remains Dynamic with clients prioritizing cost efficient high impact technology Investments driving. Good Revenue growth in areas like business application transformation.
AI operations and Cloud platform engineering and leading to momentum in our Consulting generative AI book of business.
Arvin: At over 1 billion dollars in the quarter.
Their AI strategies is establishing Consulting as the Strategic partner of choice.
Arvin: And we are encouraged that through the first half. We are seeing a greater share of Genai signings tied to new projects.
Arvin: Delayed decision-making. Especially in discretionary projects, as well as prior year renewals impacted our in Period signings.
Arvin: However, we're seeing an improvement in strategic wins with new clients and expanding engagements with existing clients.
Arvin: Now turning to profitability.
Arvin: During the quarter, the strength of our portfolio mix and productivity execution, drove expansion of our operating gross profit. Margin of 230 basis points.
Arvin: Adjusted IB. But a margin of 200 basis points. And operating pre-tax margin of 110 basis points ahead of our expectations and well above our model.
Arvin: Our productivity initiatives create a flywheel that allows us to invest back in our business.
Arvin: Both organically and inorganically, increase our financial flexibility, and deliver margin expansion as we saw this play out again in the quarter.
Arvin: We remain laser focused on driving efficiency and cost savings by leveraging technology and embedding AI in our workflows as well as optimizing our supply chain and Service delivery.
This quarter, we continue to optimize our supply chain, by shifting our distributed infrastructure manufacturing to an industry standard strategic partner.
Arvin: This is the next evolution of our supply chain transformation. As we pivot to a simpler more efficient process which helps us optimize cash conversion Cycles.
Arvin: Through the first half, we generated 4.8 billion dollars of free, cash flow.
Arvin: Up about million dollars year-over-year.
Arvin: In our highest first half free, cash flow, margin and reported history.
Arvin: The largest driver of this growth comes from adjusted ibida.
Arvin: Up, 1 billion dollars year-over-year.
Arvin: Is working capital.
Arvin: Given global trade Dynamics, we continue to prudently, protect our supply chain.
Arvin: Reflecting the confidence. We have in our new innovation Cycles across infrastructure.
Arvin: And as we have been discussing given the closing of Hashi, Corp acquisition.
Arvin: Foregone, interest income was another headwind.
Despite this.
Arvin: We are a few points ahead of our historical, tainment levels through the first half.
Arvin: Our strong liquidity position, solid investment grade balance sheet and discipline Capital allocation policy remain a focus for us.
We ended the quarter with cash of 15.5 billion dollars which is up over 700 million dollars from the end of 2024, including spending 7.8 billion dollars on Acquisitions in the first half.
Arvin: Driven largely by the closing of Hashi, Corp.
Arvin: Our debt balance ending, the quarter was 64.2 billion dollars including 11.7 billion dollars of debt for our financing business.
Arvin: With the receivables portfolio that is over. 75% investment grade.
Arvin: In addition, we returned 3.1 billion dollars to shareholders in the form of dividends in the first half.
Arvin: Now, let me talk about what we are seeing going forward.
Arvin: We delivered strong performance in the first half across Revenue, operating margin expansion profitability and earnings per share and free cash flow.
Arvin: the strength of our portfolio investment in Innovation and integrated value Drive, the durability of our Revenue performance and underpin, our confidence in accelerating Revenue, growth of 5%, Plus for the full year,
Arvin: And through the first half, given the strength in our underlying fundamentals, with our adjusted ibida. Up 14%, we are raising our free cash flow, guidance to above 13.5 billion dollars for 2025.
Arvin: As discussed at our investor day.
Arvin: Growth acceleration.
Arvin: Software is now about 45% of our business.
Arvin: With ARR growing 10%.
Arvin: Given the strength of our portfolio investment in Innovation and contribution from Acquisitions. We continue to expect software Revenue growth approaching double digits for the full year.
Arvin: Through the first half, we delivered above model, growth of 15% in automation.
Arvin: and in line model growth of 14% in red hat, in 7% in data, and these Trends should continue
Arvin: And we continue to expect Red Hat to grow in the mid-. Teens,
Arvin: While transaction processing was flat in the first half and below. Our model as clients prioritize spend on our high-value, innovation z17
Arvin: The strength of the new cycle provides future modernization value. Across disease stack.
Arvin: Given this Dynamic. We now expect low single digit growth in transaction processing for the year.
With our strong, start to z17 infrastructure, should contribute about 1 and a half points to IBM's Revenue growth this year.
and a Consulting while we are encouraged by our backlog, growing mid single digits and the continued progress in our Genai book of business,
Arvin: Given the current demand environment, we continue to be prudently cautious on consulting's growth contribution to IBM this year.
Arvin: As I mentioned earlier,
Arvin: We have been accelerating our productivity initiatives.
Which is fueling our flywheel for growth and margin expansion.
Arvin: We are early in this client zero Journey on scaling, AI internally to reinvent, the way we work, and our excited about the significant opportunities ahead of us.
Arvin: we exited 2024 at 3.5 billion dollars of annual run rate, savings achieved,
Arvin: And we now believe we can achieve approximately 4.5 billion dollars in annual run rate savings by the end of 2025.
Arvin: Through the first half of the Year, our operating pretext margins have expanded by 90 basis points.
Ahead of our model despite dilution from Hashi Corp.
Arvin: Given this performance and increased productivity savings. We are raising our expectations for IBM's full year. Operating pre-tax margin to expand by about a point.
Arvin: And our tax rate expectation. For the year, remains in the mid teens.
Arvin: As always the timing of discrete items can cause the rate to vary within the year.
For the third quarter, we are comfortable with consensus estimates for revenue and profitability.
Arvin: Let me conclude by saying we are pleased with our first half performance. Highlighting the resiliency of our business model
Arvin: Discipline strategy and growth opportunities ahead of us.
Arvind: Arvind. And I are now happy to take your questions Olympia. Let's get started.
Speaker Change: Thank you Jim. Before we begin the Q&A, I'd like to mention a couple of items. First supplemental information is provided at the end of the presentation and then second. As always, I'd ask you to refrain from multi-part questions, operator. Let's please open it up for questions.
Thank you. And at this time, we'll begin the question and answer session of the conference.
if you would like to ask a question,
Speaker Change: Please press star 1 on your telephone keypad.
Speaker Change: A confirmation tone will indicate that your line is in the question queue.
Speaker Change: You may press star 2 if you would like to remove your question from the queue.
For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys.
Speaker Change: In our first question comes from wamsi Mohan with Bank of America, please State your question.
Wamsi Mohan: Uh, yes, thank you so much. Uh, I was hoping you could double-click on the software Transit. It looks like organic growth decelerated in the quarter to maybe between 3 to 4%. Uh, could you confirm that? And that would imply, that it would be the third quarter of software organic growth deceleration but you just expressed confidence in in your uh approaching 10% guide. So
Wamsi Mohan: Uh, for the remainder of the Year. Thank you so much.
Wamsi Mohan: Okay, well, I'm see. Thank you for the question. Appreciate it. Let's get right to the heart of this. Um, you know, you dial back to how we opened up the year in January and then we built on that at our investor day in early February, we talked about 2025. We were entering from a position of strength in software. Why new innovation we're bringing a market. Strong recurring Revenue Base by the way. Now 23 billion dollars. Grown double digits, Red Hat momentum throughout the year and the opportunity around virtualization and others. Jenny I booked a business and the m&a growth synergies.
Halfway through the year. Right now, we actually feel even more confident about the year of approaching double digits. And let me just break this down, compared to the investor day model around each of our categories. 1 hybrid Cloud, we accelerated our red hat performance, first quarter or second quarter by an incremental point. Now, growing about 14 and a half percent. By the way, that's contributing about 3 and a half points of IB IBM's software, Revenue growth all organic, by the way,
Wamsi Mohan: Um, and we continue to see mid teens growth for the year and contributing about 3 and a half points. Why double digit growth again in annualized bookings?
Wamsi Mohan: Opportunities around virtualization, by the way, through the first 3 quarters, we now eclipsed million dollars worth of total bookings around virtualization, and we see that pipeline even accelerating faster in the second half and then you got Ai and application hybrid Cloud containerization, that's going to drive it. So we feel pretty good about redhead.
Wamsi Mohan: 2 automation our model and automation is low double digits.
Wamsi Mohan: We operated through the first half at 15% above model.
Wamsi Mohan: Now underneath that, we're contributing about 3 and a half points to that software growth, we're off to a great start in Hashi, Corp. As we talked about in the prepared remarks, we're very excited about the integrated value of that value proposition across IBM plus red hat. Plus Hashi Corp, we 2x the annual bookings in the first quarter underneath IBM. And oh, by the way, our pipeline in the second half is 3x last year across our entire automation portfolio with regards to Hashi Corp. So we actually expect automation to continue to accelerate throughout the year and we will be well above our model mid to high teens against that. Investor day model.
Wamsi Mohan: That's going to contribute about an incremental point of growth.
Wamsi Mohan: Third data.
Wamsi Mohan: Data. We continue to execute well on Genai momentum. Now, Inception of date, 1 and a half billion dollars worth of book of business on software. We're bringing new innovation to Market that we showcase that think we're building strong pipeline in the second half that we're confident on. And we have the m&a synergies that are going to play forward both in Automation and in data. So we expect that to deliver on model now you come to transaction processing.
Wamsi Mohan: Transaction processing flat through the first half. That's by the way, below our model, Miss single digit, right? That's about a 2-point impact through the first half to software's growth,
Wamsi Mohan: When you look at it, well, what are we seeing?
As as we always talk about transaction processing, runs Mission critical.
Software on top of our Mainframe platform, we run that Mainframe platform as a stack economic Play, 3 to 4 dollars of platform multiplier over the cycle.
We're off to the strongest ever first quarter start in the history of IBM around Mainframe in a launch quarter. We shipped over a 100% mips capacity into the marketplace on z17.
so, while that's having a near-term impact on transaction processing, you saw it down 2% in the quarter, clients rep, prioritize their spend to the hardware
Wamsi Mohan: Comfortable, with third quarter, guidance and third quarter guidance, already accelerates organic growth.
Speaker Change: Okay, operator. Let's take the next question.
Speaker Change: Your next question comes from. Ahmed darani with evercore isi, please State your question.
Ahmed Darani: Yep. Um, thanks a lot. Good afternoon everyone. Um, Urban I'm hoping you just spend a little bit of time. Talking about, you know, what are you hearing from your customers at this point given what seems to be a very volatile macro tape and maybe just talk about a few categories where you think customers want to spend more money. That prioritizes things that they might be deemphasized. Um, and then, you know, very specifically, I'd love to hear your thoughts on red hat. Um, given the strong trajectory, you guys are seeing how do you see virtualization starting to contribute to that growth? Uh, especially given the acquisition of broad by of VMware by broadcom, um, and the price increases in implementing. So, so, so touching. Those, I've been very, very, I've turned from being, I use the word cautious optimism. At the end of the first quarter, I would now turn my way all the way to optimism around, the macro environment. As you go around the globe. About first, start a geography, and then touch on some sector or client examples.
Speaker Change: Um, I think Japan is reindeer and they are committed to economic growth for their nation that implies. That Japan is digitizing at rates. We have not seen and digitizing is through the use of Technology.
If you go across South Asia, they're all booming in real. In real terms, South Asia is growing at north of 10% because when you think about 6 7% GDP growth in India combined with 6% inflation that means that actual rates their economies are growing at 10 to 12%.
Speaker Change: The Middle East.
Speaker Change: Especially Saudi and UAE.
Speaker Change: Their booming, in terms of flowering all of their, uh, profits back into their economies and they're trying to create now Diversified economies, or which technology forms a strong piece.
People have talked a lot about Europe, but Europe has remained, remarkably resilient as a technology consumer. I believe the reason for that is that when they look at the concerns around Supply chains, they look at the issues around cyber and the look at their labor demographics. Technology offers them an actual answer against all of those headwinds
Speaker Change: We come into North America. And every company is now convinced that technology forms the basis of how do you scale Revenue?
Speaker Change: While not spending that much on capex and that much on labor expenses. So as you've gone around the globe, those form the backdrops for why Enterprise technology is going to remain a strong grower somewhere in the 567% range is from what we can see. Then if I touch on it in a more, uh, client plans. Um, if I think about a bank in Western Europe, they strongly motivated to begin to use AI on how to improve their customer experience, and how to improve their internal risk profiles.
Speaker Change: If I look at Telecom, uh, here in the United States, they're looking deeply at how they can have a software defined backbone for their very high. Throughput Network backbones in order to give themselves more flexibility in how traffic gets routed and to be able to leverage the rate of advancement that comes in standard servers and software.
Speaker Change: Uh, you you asked me about red hat. So how much if you allow me? I'll go a little bit broader than the virtualization question first.
Speaker Change: Red Hat Linux. The core original product of red hat is growing in the high single digits, because of extreme demand around people deploying red hat. In order to be able to leverage AI as well. Not just the standard server footprint, which normally I would tell you, it gives you 6 7% but additional workloads is adding a couple of percent um that uh you're asking about if we look at open shift, it's actually a platform answer. So people are looking for what platform do we use for containers? And what platform do we use for virtualization?
Speaker Change: there were
Speaker Change: 3 or 4 answers in each category. If I look at 2 of the 3 competitors on, on the containerization side, they've taken themselves out of the market in Practical terms. So, if people are wanting a container platform that goes across public clouds and on premise, I will tell you that we are the leading answer for that and every analyst, as an industry, analyst will tell you that.
Speaker Change: Across containerization virtualization. And then by default we tend to win those that has accelerated the open shift, uh, piece. And last but not least, as we have brought hashiko in and the number shows through in the Hashi. Cop, uh, product family. But the combination with ansible is very powerful and is going to boost ansible as well going forward. So I hope this gives you a bit of color both on the macro and on red hat.
Operator, let's take the next question.
Your next question comes from Ben reitzes with Melius research, please State your question.
Ben Reitzes: Hey guys. Thanks. Um I wanted to take kind of like the opposite tack of the first question and um
Ben Reitzes: Ask why, why not? Um, you know what is causing you not to raise guidance? If you feel better about the economy and uh uh it looks like free cash flow is above. Um, your pace. Uh, it looks like you're already at 5% plus constant currency, I know that includes an acquisition. And, um, it looks like TPP and a bunch of others are May accelerate. So just wondering, you know, is it conservative to say that you're comfortable with the street for the 3Q when all that is looking actually better and you're already at your 5% plus and already ahead of pace on free cash flow. Thanks a lot.
Speaker Change: Thanks. Ben. I appreciate the question overall. Um, let's just ground us.
Speaker Change: In what we're actually saying both in the prepared remarks. And here tonight you know coming off of a first half which we feel very good and pleased about our performance and I think it talks to how we have fundamentally change and reposition this company.
Speaker Change: Around a portfolio, a business model, and an execution engine, that actually reflects itself in the Diversified business model and a durable and resilient business model. So, today number 1, We Beat Street expectations and our own expectations in the quarter on Revenue.
On operating margin on profitability on earnings, on free cash flow. And what are we saying about the full year here? Now tonight number 1 since January the average analyst estimates have taken up the IBM Revenue by well in excess of a billion dollars.
Speaker Change: We've been taking up the year already. We live in an actual world. Yes, FX is moving our way but also in the quarter, our $400 million beat about 375 million of that was pure business. Performance and constant currency. So by definition, we have confidence entering the second quarter and I'll come back to revenue.
Speaker Change: But we're also then, number 2.
Speaker Change: We are taking up the year on our productivity initiative.
Speaker Change: We exited last year, we talked about 3 and a half billion dollars of productivity that we've been able to fundamentally drive out of this business. This is what Arvin keeps talking about this productivity mindset, that we spent time with all of you at our think conference about reimagining and Reinventing how we run our company. How do we leverage technology digitization? Embed AI across our workflows. We are seeing extreme pain, penetration around that and that's giving us guidance and confidence to raise that to 4 and a half billion that flows to operating margin. We're taking our operating margins up from a half a point to now roughly a point. We're taking our adjusted ibida up because it's all high quality earnings profit, that adjusted e, but is now going to be low, teens growth, by the way, dollarize that that's over 2 billion dollars, year-to-year growth in adjusted ibida. And then we're falling at all the way down through.
Speaker Change: To cash flow, high quality sustainable, cash flow generation. Now, with all that said,
Speaker Change: we got a half a year to go free cash flow. We got 2/3 of our free cash flow to go.
Speaker Change: Revenue, we still got, you know, 40 billion dollars worth of Revenue to go.
Have upside and conservativism. Absolutely, but that's what you would expect of us.
Speaker Change: Operator, let's take the next question.
Speaker Change: Your next question comes from Jim Schneider, with Goldman Sachs Asset Management. Please State your question,
Jim Schneider: Uh good afternoon, thanks for taking my question. Uh, I was wondering, you know if you step back and look at the holistic software portfolio, there are a lot of questions on what we're doing for this year, but maybe, you know, going forward heading into 2026 giving the impact of, uh, some of the businesses and positive head Tailwind you, uh, you talked about, do you think there's potential for, uh, improving both organic and overall software growth heading into 2026, from the current, uh, 10% levels this year? I mean, I wonder if you think that's possible and then maybe secondarily if you could just address, uh, the Consulting business and you know, what you're seeing right now in terms of the, uh, the duration of the bookings, you're you're seeing, and whether there's any kind of, uh, you know, change in the time to commencement of some of the Consulting contracts, you're signing. Thank you.
Uh Jim. Thanks for the question though. I did, I think count 3 Parts in there? Let me address the first part on the software macro, going into 26, and then I'll give it over to our Jim Jim Kavanagh for some of the details there and on Consulting. So
I think the question you're asking is 1 that we spend a lot of time on and 1 that I'm incredibly confident about. If I look at the underlying, macros all the parts, we talked about red hat. I see them maintaining themselves into 2026. This is not a unique to this quarter or a month and so I would expect to see that same growth carry on their
Jim Schneider: If I look at automation, that is really driven by the complexity of our clients technology environments, and then them wanting to run them at extremely high resilience. They want to run them at much lower, labor, cost expense and the amount of computers that are environments is increasing. So the need technology, we label that automation to go run all that.
Jim Schneider: We can see that the, uh, desire to unlock value, from all of the data to unlock data for AI, as well as to deploy AI inside the Enterprise, which is where we are. Focused, is going to only accelerate.
Jim Schneider: Not decrease.
So all those 3 parts of the portfolio, I would give you equal or higher growth rates going into 2026.
Jim Schneider: Now you come to TP and Jim addressed that TP tends to be slightly lagging with the capacity that is being deployed on mainframes.
Jim Schneider: As the capacity gets deployed, I would fully expect TP to return to its long-term model which is in between low and mid single digits. So if you put all that together and then if you add what other m&a, we might do. Because since it raise that, let me just you just organic and inorganic.
Jim Schneider: I'm very optimistic about the current m&a environment. Of course, all Regulators will always watch for misbehavior, and for areas where they see too much consolidation. That said what we've seen over the last 4 months has made us optimistic, that we are now in a rational regulation environment where m&a that make sense will get approved in reasonable time frames. So with that Jim, let me give it to you.
Jim Schneider: Yeah, Jim. Thank you for the question overall. Just let me uh, put a bow on arvin's point about software and bring it up a level to IBM and then that will lead right into your Consulting question if I remember the question overall, but when you look at it first of all way too early, we have a lot of work to do team is extremely focused on discipline execution here in delivering and unlocking client value with all the new investments in innovation in the second half this year. When you look at 26 at a big picture, I'll reiterate what we said in investor day, we feel good about the software portfolio in Arvin just gave you some of the uh key kpis underneath that about how we feel.
Red hat and Hoshi together. So that synergistic play of m&a is going to play out in 26 3, the integrated value of that multiplier effect of having a Mainframe platform.
Jim Schneider: We have taken up the year on infra on Mainframe. We see a very strong start and that 3 to 4 dollar platform. Multiplier plays out in 26 and 27. And then finally Consulting backlog 32 billion dollars which leads me to your last question. And let me take a little bit of a moment to talk about this because there's been a lot of competitors that have come out already in the marketplace, in our Consulting, overall Revenue was flat. We stabilized coming off of fourth quarter down 1,
I would tell you, we're still operating as we send prepared remarks in a very Dynamic environment.
Jim Schneider: Clients are rep. Prioritizing that spending they're focused on cost efficiency and deploying Genai to really drive, not only the operating leverage in their own business. But the arvin's point leveraging technology for what it's done for a century and that is create scale and create new businesses and new markets and opportunities and we're capitalizing on that,
Jim Schneider: But even with that Dynamic environment, I might surprise you right now, but we're actually seeing some good green shoots.
Jim Schneider: 1. I would put it in 4 buckets, backlog.
2 Jenni 3, our strategic Partnerships and 4, the fundamentals of our business, read that productivity backlog, 32 billion at spot rates which is what's going to play out over the history of of that backlog up over 8%.
Jim Schneider: Stable erosion and Jim to your question our duration is actually down 6 months from last year so we're seeing much more higher Revenue, realization higher quality overall and our trailing 12 month book. The bill is 1.14. Now our signings in the quarter before, it's someone else asked the question we were down 18%.
Jim Schneider: that was entirely driven by last year's large, early renewals
Jim Schneider: As we've talked about over the years, I've been very clear, all signings are not the same.
Jim Schneider: Renewals by definition, our low to no Revenue realization, they're typically revenue and margin compression and that's what's playing out here in the first half underneath that though. Our net new business penetration was up 13% year to year.
Jim Schneider: And in the first half up, 7 points, read that 200 plus new clients, we acquired already in our Consulting business year-over-year and that's fueling actually an accelerated backlog in the second half on what that backlog runout looks like in the second half but again as you all know that's only about 70% of the revenue in the second half we still have to sell and Bill new business, starting in July, through the rest of the year, but encouraging green shoots Genai 6 billion. Plus, by the way, 17% of our backlog. Now,
Jim Schneider: Growing substantially over 20% of our bookings and for the first time in the second quarter we eclipsed 10% of our Revenue. Now coming out of Genai at by the way over a 3-point margin differential strategic Partnerships, great momentum and sap, Microsoft AWS, Paulo Alto. By the way we have a lot of Headroom and productivity and business model. Our margins are up over 200 basis points to the first half.
Jim Schneider: So while a lot of green shoots, I think the Ben's question, we're we're prudently costes in this environment. And by the way, at those green shoots play out in the second half its upside to our guide.
Jim Schneider: Great operator. Let's take the next question.
Your next question comes from Eric Woodring with Morgan Stanley. Please State your question,
Eric Woodring: Hey guys, thank you so much for uh, for taking my question. Um, you know, or I wanted to direct this, um, to you and it kind of builds off of what Jim was just talking about, you know, it's been, I think only 6 quarters, you've reached a 7 and a half billion dollar cumulative, AI book of business. Um, incredibly impressive in such a short period of time, and I'm just wondering if you could provide us with some color on how that's impacting customer spend in the non AI Parts uh of IBM. And and really what I'm trying to understand is
Eric Woodring: Um I'm going to sort of maybe uh dive down to the components of what is called a full AI stack to answer your question.
Eric Woodring: So, let's look at it across Hardware, which includes semiconductors then, look at it in the enabling software layers.
Eric Woodring: In software applications, which actually leverage AI to make themselves much better. And then finally into Consulting,
Eric Woodring: So, if you look at it first from the semiconductors and the infrastructure level, I would tell you that this is completely incremental. And you can see that in the market, when you look at, uh, CPU versus GPU, the CPU rates maintain. Yes. Who they are. Provided by changes all the time for the total volume of servers is not decreasing. So that tells you,
That is maintained.
Eric Woodring: What could happen, but I would put that in the very tiny percentages or maybe 1 2 3%, is that people will put a little bit, more pricing pressure on the item, they believed to be commodity versus the items. They believed to be high Innovation, but that is just the way technology is always played out.
Eric Woodring: That is where you seeing it and you can see that reflected in the market right now. Next when you get to the enabling software layers, that is purely incremental. There is no cannibalization there with alternate forms of technology.
Eric Woodring: I will tell you that the cannibalization is going to come from the fourth part. People are looking at their own internal labor expenses, and people are looking at their third-party labor expenses and they're looking to decrease those to make room for what they're doing around.
My software when you look at AI coming into software products, whether it's ours, for example, in our case, in apio in Hoshi, in turbonomic. So the known direct AI products, it actually makes those products better and compete better against others. So it's not a cannibalization because that would apply to ourselves. That is more a market share question that it takes market, share from those who are unable to do that. And you can also see that play out in the market with other players.
Eric Woodring: If I look at Consulting,
Eric Woodring: yes, there is a big piece of the AI book of business, which is coming because people are directing their dollars towards that kind of Consulting as opposed to alternate forms of Consulting. And that is why it's really important to be focused on what we call transformative projects, which includes AI. But also includes some of our partners with the cloud Partners or sap or Oracle or polar Alto Etc because that kind of project is far more robust and less likely to be cannibalized but some other parts of custom application development do tend to get cannibalized towards AI. So hopefully that gives you some color.
Eric Woodring: On both parts of your question. Why? Where are clients prioritizing? And also where is incremental?
Speaker Change: Operator, let's take the next question.
Your next question comes from Brian Essex with JP Morgan, please State your question.
Speaker Change: Hi, good afternoon. Thank you for taking the question, uh, I guess Arvin for you. Um, appreciate your public sector related comments at the beginning of the call, and it seems like we're starting to see a more aggressive competitive stance regarding, um, you know, it investment from the current Administration. Um, I guess based on conversations you may have had, could you frame out how you think IBM is positioned to address the the shift in spending priorities of the administration or public sector in general and how much visibility do you have there? Thank you. Yeah. Uh, thanks Brian. Look um,
Speaker Change: I'll use about Federal as opposed to public sector because just because in some of our, uh, written documents public includes Healthcare and life sciences and others. So I'll use about Federal and government to to be more precise in what this is.
Speaker Change: From my conversations, uh, direct as well as public statements, from various members of the administration, they had a very strong focus in the first 6 months to focus on cost cutting and efficiency to get to what they believed was the right size.
Speaker Change: They have been very, very clear, their focus is now shifting to number 1, we need to modernize the agencies and how they leverage technology to provide a better service to Citizens and to leverage technology to also reduce waste as opposed to uh just cost cutting.
2.
I was very pleased to see the
Speaker Change: AI action plan that came out this morning. They are very clear, that AI has to be used by government agencies against the goals, are just laid out.
Speaker Change: Having with a number of agencies on leveraging, our capabilities across both software as well as Consulting to help them. Uh, go on their paths towards modernization towards better services, for Citizens towards reducing waste uh towards more effective overall systems kind of
Speaker Change: Coming all the way into the 21st century. I'm actually quite enthused by their ability to begin to make progress in the next few months. So that's kind of what we are observing. And so the visibility I would tell you
when they are willing to make time and they're willing to meet as a highest levels in the various agencies, that's a positive statement that they are serious about it and they do take us and the visibility I get then is that I think we are a credible player because of our track record and having delivered for the government in the past many years.
Speaker Change: Operator, let's take 1 last question.
Thank you. And our last question comes from Matt Swanson with RBC. Please State your question.
Matt Swanson: All right. Yeah, thanks for taking my question. Um our I want to double click, I think on the 1 and a half billion of software bookings in the Jai space and specifically on some of these Watson X products that data the governance, um, and orchestrate. So I guess 1 would be if you're starting to see any of these really differentiate themselves in terms of customer demand and then specifically on the orchestrate layer that seems to be a space that a lot.
Matt Swanson: Companies have started to talk about whether it be model, orchestration, or agentic orchestration. If you can just talk a little more about your right to win in that space and how you're positioned?
Matt Swanson: Matt, thanks for the question first.
I have been really pleased by both the uptake and the overall adoption of our gen AI products.
Matt Swanson: We, we put most of them under the Wattson, X umbrella, so that's kind of where they show up in our internals.
first, there's a few that you did not mention that I think are
Matt Swanson: very unique to us both because of the knowledge, we have as well as the capabilities that our Engineers bring to the table. So what's the next code assistant on Z, which helps people modernize their Mainframe environment helps, you understand? And if you want translate, your Cobalt code into Java is really taken off and has got very wide adoption.
We thought people would use it to just modernize Cobalt to Java but actually in the vast majority of the cases people are also using it to understand the tens of millions of lines of code that they have and then decide what makes sense to modernize versus what makes sense to keep now that you can document it and know what it does.
The second 1, that is very exciting that we're bringing out in this, uh, third quarter is the WhatsApp assistant, was he, which helps you have an AI administrator that manages your Mainframe environment? In addition to the people, you have who manage it. So these are I think some of the unique to us.
Matt Swanson: If I think about what's next AI people need an AI runtime whether that's going to come from real AI or what's an ex AI as a place that they can get the models. And we are very focused on domain specific smaller models as opposed to the very, very large models.
Matt Swanson: And that becomes a carrier for those. I think you're going to see a lot more of those under the rail Ai and open shift, AI umbrella because that is where some of those capabilities are going to migrate. People need to get their data ready for AI. So, that's where, what's the next data? Uh, place and we believe with the upcoming integration of the data Stacks capabilities into that, that will then become an even stronger offering the last part of your question and not to, uh, avoid your asking, what gives us the right to win in orchestrate look, IBM has always been about being in a heterogeneous space so it cannot be about, just our own agents of which we have about 70 to 80 of them. It cannot be about the spoke agents only because we believe many of our clients are going to build bespoke agents that are unique to them. We also integrate in about 70 Agents from third parties,
Start coming there.
Matt Swanson: This is going to be 1 based on how easy is it. If it is only about your own agent, I actually think that those are our partners. Those are not people. We compete with and plenty are going to focus primarily on their own agents. Great.
Then there are going to be agents that come from different places and people want their own best 4 agents. That is the client where we are going to win an orchestrate and that is what our Pipeline and our early discussions with clients show. And that is what distinguishes us from those who are kind of focused on primarily their own agents.
So, uh,
Matt Swanson: To close the call out.
Matt Swanson: We're off to a great start in the first half, our portfolio strength, the resilience of our business model, reinforces our confidence, in our growth trajectory
I look forward to sharing our progress with you as you move through the rest of the year.
Speaker Change: Thank you Arvin. Operator, let me turn it back to you to close out the call.
Speaker Change: Thank you for participating on today's call. The conference is now ended. You may disconnect at this time.