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. Now I'll 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 want to welcome you to our Second Quarter 2019 Earnings Presentation. I’m here with Jim Kavanaugh, IBM’s Senior Vice President and Chief Financial Officer. We’ll post today’s prepared remarks on the IBM Investor website within a couple hours, and a replay will be available by this time tomorrow. Some comments made in this presentation may be considered forward-looking under the Private Securities Litigation Reform Act of 1995. Those 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. Our presentation also includes non-GAAP measures to provide additional information to investors. We’ve provided reconciliation charts at the end of the presentation and in the 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. In the second quarter, we delivered $19.2 billion of revenue, $2.8 billion of operating net income and $3.17 of operating earnings per share, which was up 3%. We expanded operating gross margin by 100 basis points, which is the largest increase in over five years and operating net income margin by 60 basis points. And we had solid free cash flow performance, with $12.7 billion of free cash flow over the last year. These results reflect improving fundamentals of our ongoing business. And now with this performance through the second quarter, we remain on track to deliver at least $13.90 of operating EPS and about $12 billion of free cash flow for the year. This excludes Red Hat and related activity, but we believe this remains a relevant perspective as it provides transparency into our underlying business performance and is on a base that’s consistent with our previous guidance and first half performance. But to be clear, Red Hat is not included in any of the operating results we're discussing today and we will update our full year expectations to include Red Hat during our Investor webcast on August 2. Over the last few quarters, we've talked about strong performance in the areas that help our clients with their digital transformations and journeys to cloud. This continued in the second quarter, as evidenced by strong revenue performance across the high-value segments of Cloud & Cognitive Software and Global Business Services. Our results also reflect significant actions we've taken to improve our position over time. For example, at the end of the second quarter, we completed the divestiture of select software assets that didn't leverage our integrated value proposition and we took workforce actions to continue to revitalize our skill…

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.

Yes, the phone lines are now open for questions. [Operator Instructions] The first question in queue is from Amit Daryanani of Evercore. Your line is now open.

Thanks a lot. I was wondering, Jim, since I know we'll touch on Red Hat and the aggregate IBM in more detail on August 2, perhaps we'd spend some time on the services business. And when I look at the trajectory of services, I think GBS was up 4% in the first half, GTS was down 3%. How do you see the services business transpire as we go forward through 2019? And finally, maybe help me understand, what changed in your perspective on the company’s services versus [Technical Difficulty] ago?

Okay. Thanks, Amit, and it's a very nice to hear from you again and welcome back. Let's talk about services and allow me to break it into two, because you're asking both the GTS side of the business and the GBS side of the business, because they have two fundamentals that are happening against each other. On one, we've been talking about -- let's talk about GTS first. We've been talking about the portfolio prioritization work that we've been doing about exiting lower-value content, which we've said all along would impact revenue in the near term, but result in higher margins in a better business profile going forward. And I think you're seeing that play out in our first half performance. Revenue in the second quarter, pretty consistent with the first quarter overall, but our margins, our operating leverage we are seeing substantial leverage in that business as we move forward because we said we were going to shift that business to higher value margin, profit and cash. And we were up 120 basis points, really led by that mix shift to getting away from lower-value content deemphasizing that, but also with our productivity initiatives which are executing well and delivering very good return on investment. Now with regards to GTS, what do we learn about the first half performance? And how does it impact the trajectory going into second half with regards to what did we learn? Well, I would tell you right now, based on where our backlog dynamics are and in particular, our backlog run-out, we see an inflection point as we enter the second half in GTS. We're coming off the first half down 3.5%. Most of that being driven by conscious strategy as I talked about, but now we're going to wrap on that strategy…

Thanks Amit. Ted, can we please take the next question?

Yes. The next question is from Matt Cabral with Credit Suisse. Your line is open.

Thank you. Really robust growth in cloud and data platforms in the quarter. You talked about that a little bit in your prepared remarks, just wondering if you could dig deeper on what drove the acceleration, and how we should think about some of the buckets underneath there and how they performed? And then just the sustainability of that strength going forward?

Okay Matt. Thank you very much. Yes, we're obviously very pleased with our Cloud & Cognitive Software business here in the second quarter. And most importantly, as you all know quite well we'll spend a lot more time on August 2nd talking about IBM plus Red Hat and how we're better together and how it's going to change the cloud landscape in this $1 trillion hybrid cloud market. Red Hat will be part of this segment overall in Cloud & Cognitive Software. But if you look at the second quarter, I think there's a perfect instantiation of where client demand is going. And when you got a differentiated value propositions and strong portfolio and offerings and a lineup and you execute well, you start seeing the leverage in acceleration and that's what we got out of the quarter. We're helping our clients as they move their hybrid cloud applications to the cloud and also on data and AI. So, cloud and data platform, strong growth, up 7%, strong adoption in our ICP IBM Cloud Private, up 50% quarter-over-quarter in adoption rates. But we're also seeing very good growth in our integration offerings and our hybrid cloud data platforms that are driving both our data, our analytics, and our AI capability going forward. But also across the other platform Cognitive Applications, we saw a good growth of 5% driven by a very good quarter in our integrated security software and services business as we launched new offerings around identity management, around threat management. And we've got a very differentiated value proposition and we're executing well, but we also had very good growth across in some industry verticals led by supply chain in IoT; offerings around Maximo, which we've got a very strong incumbency with our clients in delivering value and also in weather. Weather has consistently driven good growth for us. And I would tell you this quarter the Weather app in India became the number one downloaded app for the first time ever in India and that couples with already being number one downloaded app in the United States here. So, we're seeing good growth across many of our verticals and across our cloud and data platform and this really establishes the foundation and we couldn't be more excited with Red Hat coming onboard July 8th.

Thanks, Matt. Can we please take the next question?

Yes. The next question in queue is from Wamsi Mohan from Bank of Merrill Lynch. Your line is now open.

Yes. Thank you. Jim, can you talk about the overall enterprise demand environment as we look into the back half of the year, given some of the global uncertainties around?

Wamsi, we lost you there. Wamsi? Operator, it sounds like we lost him. Can we please go to the next question?

Yes. The next question is from Toni Sacconaghi from Bernstein. Your line is now open.

Yes. Thank you. Jim, I'm wondering if you can talk a little bit more about GBS particularly on the profitability side. That business includes tech support services, which historically have had extremely high margins. And if you back that out, it's pointing the infrastructure and cloud services margins that are probably pretty close to zero. You have peers like DXC who have double-digit margins in that business, peers like Accenture who have double-digit margins in that business. So one, can you address why the margin gap is so significant? And two, I heard your earlier comments about an inflection point, but I struggle a little bit given that signings are down 17% in the first half. Your backlog is down 4%, which I think is the worst in the last 20 years year-over-year. And so if I look at leading indicators, they actually don't look really good from a revenue perspective. Going forward, I realize your comps get a lot easier, but is -- are you really seeing an inflection? And what's the disconnect between the backlog and signings data that we're seeing and your optimism? And how do margins improve when the business is de-scaling?

Okay, Tony, thank you for your questions, multiple part. Lot packed in there, but let me just try to hit some of these head on. First of all, when you look at our GTS segment, it fits into the overarching integrated value of the IBM portfolio. There's components within our TSS segment that play to our Systems platforms in our business and drive tremendous integrated value. And our Infrastructure Services segment, obviously, plays a tremendous value to IBM's integrated model with their deep client relationships where we leverage the value of incumbency and we actually drive as channel high-value software and hardware into those businesses. So I'm not going to talk about the individual profitability of those two pieces, because we manage this as an integrated play across IBM. But what I will talk about and I did see your report is that I view this as we have tremendous headroom to grow our margins, which is what we are maniacally focused on in this business about selling high-value, which is part of our conscious strategy of exiting and deemphasizing our low-value third-party OEM; and by the way in the first half you see how that has played out in our results. Our margins are up very strong, 120 basis points, and our pre-tax margins x the charges, so you can look at it on a sustainable basis going forward are up in the second quarter, and they're up through the first half. And I didn't even talk about the level of cash contribution that this business now is spewing off. So we are very pleased with the business model, the trajectory and the value of what GTS brings to us. And I would agree with you completely, that we got headroom and that's what the teams focused on driving…

Thanks. Ted, can we please go to the next question?

Yes. Katy Huberty from Morgan Stanley. Your line is now open.

Yes, thank you. Jim, this is the second quarter of strong gross margin expansion. I know, there is a number of factors helping you on that front. But if you isolate the cloud business, is it fair to say that you have escaped velocity, meaning cloud margins are improving sequentially with scale every quarter? Or should we think about cloud still having some lumpiness and seasonality around margins?

Thank you, Katy. Yes, very good question overall. Last year, we talked about in the beginning of 2018, how we were investing significantly in building out our cloud architecture. In fact, our capital spend last year was up 70% as we built out six new MZR's around the world in which today our cloud architecture is very competitive and it covers 95%-plus of the demand from a cloud market overall. But as we talk about throughout 2018, and now definitely into the first half of 2019, we are seeing continued scale efficiencies around our cloud as we generate more and more scale, as we're starting to drive the utilization around our cloud pods around the world and as we've – obviously, leveraging the differentiated value proposition and growing our cloud business, which is now $19.5 billion over a trailing 12 months. So we feel pretty good. And you see that play out in our GTS segment, which is consistently been accelerating their year-over-year margins up 110 basis points in the first quarter and up 120 basis points in the second quarter. And as you all know, that's well in excess to their model, but my answer to the last question, we believe we've got a lot of headroom.

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

Yes. The next question is from Tien-Tsin Huang with JPMorgan. Your line is now open.

Tien-Tsin are you on mute?

…transactional sales. How did that -- or transaction activity how did that perform versus planned versus the first quarter? Curious if it had any positive contributions to segment and obviously gross margin as well? Thanks. A – Jim Kavanaugh: Thanks, Tien-Tsin. I appreciate the question, because obviously given a seasonality of our business, as you all know, the transactional component is a very important part of our second quarter and also fourth quarter, overall. But let me put it in perspective. 90 days ago, we sat here and we talked about coming off of first quarter, that we were going to grow sequentially $900 million to $1 billion of revenue and that was going to be driven off of the back of our transactional-related business. We actually delivered at the high-end of that coming in at roughly the $19.2 billion overall. But the underpinnings are a little different. To the earlier question, we had very strong growth in our Cloud & Cognitive Software segment that was pervasive across each of our platforms and that was mainly driven by leveraging our differentiated value proposition and strength of our offering portfolio and accelerating that through the transactional component. So I would tell you from 90 days ago, we actually executed better in the software space. Now on the flip side, our hardware base of business, which carries tremendous value from a platform perspective. As you all know, we are in the back end of our mainframe cycle. We're eight quarters in to arguably one of the most successful mainframe programs that we've had to-date and that's driven by the differentiated value proposition and our ability to continue building out and enduring platform. 90 days ago, compared to where we ended up today, we fell a little short on our Systems hardware and where we're at. Now, as you heard in the prepared remarks, we have invested and you've seen in our development expense, overall in the first half, which has been up. We had been investing in driving the teams very hard, because as we all know, the Systems segment follows innovation cycles. And as we said in the prepared remarks, we are going to come out with new innovation on our high-end mainframe and our high-end storage later in 2019.

Thanks, Tien-Tsin. Can we go to the next question please?

Yes. Wamsi Mohan from Bank of America. Your line is now open.

Yes. Thanks for squeezing me in again. Apologies, I guess, I might have been routed through Huawei network before. Jim, can you talk a little bit about the overall enterprise demand environment as you look into the back half of the year, there are a lot of macro issues around trade, Brexit, China. Just wondering what you're seeing through a broader macro lens. And more specifically, some of the workforce rebalancing was targeted towards Cloud & Cognitive. Obviously, you've demonstrated some really strong growth over there in the quarter. So curious, what specifically you're doing in that segment around the workforce rebalancing? Thank you.

Okay, Wamsi, I'm glad you got back in. Thank you. Obviously, all of us, we operate in 170 countries around the world. We are constantly monitoring information around market dynamics and in particular around the client buying behavior, which I think is at the core of your question. Now, we would tell you, the IT industry is still growing in excess of GDP. And in particular, as you see play out in our results, around key high-value areas data and AI, cloud, security, digital where there's tremendous value proposition to allow our clients to differentiate their competitive positioning as they move along their digital reinvention journeys to the cloud and journey to cognitive enterprise and we see that continuing to play out. Now, with that said, the IT industry is always been predicated in my mind on effective balance between leveraging technology for growth and leveraging technology for productivity, and at certain times, things change and that balance changes. And I would tell you today what we're seeing on client buying behaviors is a slight shift more and more to productivity, to quick payback ROI. And more importantly, as the CFO, I could tell you directly in uncertain times, you want predictability. And our value equations really played to that especially in our software part of our portfolio and our services. But I would tell you, when you look across the world, we had pretty good growth around both major markets and around components of emerging markets. U.K. Canada, Japan, Spain grew very nicely and consistently. And from an industry perspective, we're seeing pretty good pervasive growth still in insurance, in financial markets, in health care, life sciences, education, on travel transportation, but we see pretty good perspective overall.

Thanks. Ted, can we please take one last question?

Yes. The last question is from David Grossman with Stifel Financial. Your line is now open.

Thank you. Jim maybe you can just touch on free cash flow and free cash flow conversion. I think in your prepared remarks, you've mentioned a couple of items. One was the gain on sale of the software assets. The other was the real estate gain. Are there any other known headwinds or tailwinds that we should keep in mind that may impact the comparison next year excluding obviously any impact from Red Hat?

Yeah. Thank you, David. I appreciate the question, because free cash flow is obviously front and center right now with all of us around continuing to shift this business model to higher value. We're very excited about the Red Hat acquisition. We do think it's a game-changer where we're going with regards to helping our clients in Chapter 2 and we're also prudently driving the financial discipline and manage it -- management in this company around delevering the company and around getting back to our targeted leverage ratios within a couple of years. But if you take a look at free cash flow, first of all, we're very pleased in the first half. We delivered over $4 billion of free cash flow in the first half. That's up $900 million driven by continued working capital efficiency, offset by operating profit here in the first half, but we got very good, sound capital management. And we talked about a couple of those components in the prepared remarks as you called out. Now, with the Red Hat acquisition, we're going to talk much more about this on August 2nd and put it in perspective of why we're better between IBM and Red Hat together and share with our investors our business profile, our synergies, our capabilities, our financial model and the investment thesis going forward. So, we look forward to talking to all of you in about 10 days from now plus or minus as we move forward. And we'll give some discussion about guidance on free cash flow as we forward. So with that said, I just want to make a few comments to wrap up the call. Our performance this quarter, I think is a great basis from, which to move forward in the future. We set the foundation and now one that includes Red Hat effective July 8th. On August 2nd, as I just said in the last question we're going to host our Investor webcast. We'll talk about how IBM is addressing what we call chapter two of our clients' digital reinventions. We'll have several of our senior leaders lay out our strategy and show how IBM plus Red Hat is ideally positioned to address the opportunity ahead of us. And then I'll wrap up with our financial view of IBM and also not only talk about 2019, but more importantly, give a perspective about where this business is going in the medium-term as we move forward. So as always, thank you for joining us today and we look forward to continue the dialogue in early August.

Thanks. Ted, let me turn it back to you to wrap up the call.

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