UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED JUNESEPTEMBER 30, 2020
000-55786
(Commission file number)
IBM CREDIT LLC
(Exact name of registrant as specified in its charter)
Delaware |
| 22-2351962 |
(State or Other Jurisdiction of | | (IRS employer identification number) |
| | |
One North Castle Drive, Armonk, New York |
| 10504 |
(Address of principal executive offices) | | (Zip Code) |
914-765-1900
(Registrant’s telephone number)
Securities registered pursuant to Section 12(b) of the Act:
None.
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐ |
| Accelerated filer ☐ |
| | |
Non-accelerated filer ☒ | | Smaller reporting company ☐ |
| | |
| | Emerging growth company ☐ |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
All of the limited liability company interests ("Interests") in the registrant are held by an affiliate of the registrant. NaN of the Interests are publicly traded.
REDUCED DISCLOSURE FORMAT
IBM Credit LLC, an indirect, wholly owned subsidiary of International Business Machines Corporation (IBM), meets the conditions set forth in General Instruction H(1)(a) and (b) of Form 10-Q and is therefore filing this form with the reduced disclosure format.
Index
2
Part I— Financial Information
Item 1. Consolidated Financial Statements:
IBM CREDIT LLC AND SUBSIDIARY COMPANIES
CONSOLIDATED INCOME STATEMENT
(UNAUDITED)
| | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended June 30, | | Six Months Ended June 30, | | Three Months Ended September 30, | | Nine Months Ended September 30, | ||||||||||||||||
(Dollars in millions) |
| 2020 |
| 2019 |
| 2020 |
| 2019 |
| 2020 |
| 2019 |
| 2020 |
| 2019 | ||||||||
Revenue | | |
|
| |
| | |
|
| |
| | |
|
| |
| | |
|
| |
|
Financing revenue | | $ | 225 | | $ | 339 | | $ | 503 | | $ | 743 | | $ | 214 | | $ | 305 | | $ | 717 | | $ | 1,048 |
Operating lease revenue | | | 54 | | | 70 | | | 112 | | | 149 | | | 52 | | | 67 | | | 165 | | | 216 |
Total revenue | | $ | 279 | | $ | 410 | | $ | 615 | | $ | 892 | | $ | 266 | | $ | 372 | | $ | 881 | | $ | 1,265 |
Financing cost (related party cost for the three and six months: $35 and $84 in 2020, $58 and $131 in 2019) | | $ | 73 | | $ | 137 | | $ | 178 | | $ | 297 | ||||||||||||
Financing cost (related party cost for the three and nine months: $32 and $116 in 2020, $58 and $189 in 2019) | | $ | 66 | | $ | 122 | | $ | 244 | | $ | 419 | ||||||||||||
Depreciation of equipment under operating lease | | | 28 | | | 43 | | | 59 | | | 88 | | | 27 | | | 39 | | | 86 | | | 127 |
Net margin | | $ | 177 | | $ | 230 | | $ | 378 | | $ | 507 | | $ | 174 | | $ | 212 | | $ | 552 | | $ | 719 |
Expense and other (income) | | | | | | | | | | | | | | | | | | | | | | | | |
Selling, general and administrative | | $ | 77 | | $ | 97 | | $ | 151 | | $ | 194 | | $ | 80 | | $ | 87 | | $ | 232 | | $ | 281 |
Provision for/(benefit from) credit losses | | | 27 | | | (8) | | | 45 | | | (4) | | | 4 | | | (1) | | | 49 | | | (4) |
Other (income) and expense | | | (31) | | | 5 | | | (51) | | | (13) | | | (17) | | | (5) | | | (68) | | | (18) |
Total expense and other (income) | | $ | 74 | | $ | 94 | | $ | 145 | | $ | 178 | | $ | 67 | | $ | 81 | | $ | 212 | | $ | 259 |
Income before income taxes | | $ | 104 | | $ | 136 | | $ | 232 | | $ | 330 | | $ | 107 | | $ | 131 | | $ | 339 | | $ | 460 |
Provision for income taxes | | | 15 | | | 23 | | | 2 | | | 173 | | | 21 | | | 22 | | | 23 | | | 195 |
Net income | | $ | 89 | | $ | 113 | | $ | 231 | | $ | 156 | | $ | 85 | | $ | 109 | | $ | 316 | | $ | 265 |
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
3
IBM CREDIT LLC AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
(UNAUDITED)
| | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended June 30, | | Six Months Ended June 30, | | | Three Months Ended September 30, | | Nine Months Ended September 30, | ||||||||||||||||
(Dollars in millions) |
| 2020 |
| 2019 |
| 2020 |
| 2019 | |
| 2020 |
| 2019 |
| 2020 |
| 2019 | ||||||||
Net income | | $ | 89 | | $ | 113 | | $ | 231 | | $ | 156 | | | $ | 85 | | $ | 109 | | $ | 316 | | $ | 265 |
Other comprehensive income/(loss), before tax: | | | | | | | | | | | | | | | | | | | | | | | | | |
Foreign currency translation | | | 36 | | | 16 | | | (120) | | | 20 | | | | 60 | | | (76) | | | (60) | | | (56) |
Retirement-related benefit plans (1) | | | 1 | | | 0 | | | 2 | | | 0 | | | | 1 | | | 0 | | | 3 | | | 1 |
Other comprehensive income/(loss), before tax | | | 37 | | | 17 | | | (118) | | | 20 | | | | 61 | | | (75) | | | (57) | | | (55) |
Income tax (expense)/benefit related to items of other comprehensive income | | | 14 | | | 2 | | | (3) | | | 5 | | | | 8 | | | (17) | | | 5 | | | (13) |
Other comprehensive income/(loss), net of tax | | $ | 52 | | $ | 19 | | $ | (121) | | $ | 25 | | | $ | 69 | | $ | (93) | | $ | (52) | | $ | (68) |
Total comprehensive income/(loss) | | $ | 141 | | $ | 132 | | $ | 109 | | $ | 181 | | | $ | 155 | | $ | 16 | | $ | 264 | | $ | 197 |
(1) | Amounts presented relate to multiple-employer plans. |
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
4
IBM CREDIT LLC AND SUBSIDIARY COMPANIES
CONSOLIDATED BALANCE SHEET
(UNAUDITED)
| | | | | | | |
| | At June 30, | | At December 31, | | ||
(Dollars in millions) |
| 2020 |
| 2019 | | ||
Assets: |
| |
| | |
| |
Cash and cash equivalents | | $ | 1,717 | | $ | 1,687 | |
Financing receivables | |
| 14,084 | | | 17,365 | |
(net of allowances of $182 in 2020 and $148 in 2019) | | | | | | | |
Equipment under operating leases | | | 154 | | | 212 | |
(net of accumulated depreciation of $216 in 2020 and $238 in 2019) | | | | | | | |
Financing receivables from IBM | |
| 3,735 | | | 3,870 | |
Receivables purchased/participated from IBM | |
| 4,362 | | | 4,359 | |
(net of allowances of $22 in 2020 and $8 in 2019) | | | | | | | |
Other receivables from IBM | | | 792 | | | 513 | |
Other assets | |
| 544 | | | 406 | |
Total assets | | $ | 25,389 | | $ | 28,412 | |
| | | | | | | |
Liabilities: | | | | | | | |
Accounts payable | | $ | 404 | | $ | 434 | |
Accounts payable to IBM | | | 931 | | | 336 | |
Debt | |
| 6,557 | | | 7,150 | |
Debt payable to IBM | |
| 14,308 | | | 16,945 | |
Taxes | |
| 600 | | | 637 | |
Other liabilities | |
| 245 | | | 224 | |
Total liabilities | | $ | 23,046 | | $ | 25,726 | |
Member’s interest: | |
| | | | | |
Member's interest | | | 2,496 | | | 2,601 | |
Retained earnings | | | — | | | 116 | |
Accumulated other comprehensive income/(loss) | |
| (153) | | | (31) | |
Total member's interest | | $ | 2,343 | | $ | 2,686 | |
Total liabilities and member’s interest | | $ | 25,389 | | $ | 28,412 | |
| | | | | | |
| | At September 30, | | At December 31, | ||
(Dollars in millions) |
| 2020 |
| 2019 | ||
Assets: |
| |
| | |
|
Cash and cash equivalents | | $ | 1,745 | | $ | 1,687 |
Financing receivables (net of allowances of $179 in 2020 and $148 in 2019) | |
| 12,264 | | | 17,365 |
Equipment under operating leases (net of accumulated depreciation of $186 in 2020 and $238 in 2019) | | | 130 | | | 212 |
Financing receivables from IBM | |
| 3,937 | | | 3,870 |
Receivables purchased/participated from IBM (net of allowances of $23 in 2020 and $8 in 2019) | |
| 4,207 | | | 4,359 |
Other receivables from IBM | | | 814 | | | 513 |
Other assets | |
| 529 | | | 406 |
Total assets | | $ | 23,626 | | $ | 28,412 |
| | | | | | |
Liabilities: | | | | | | |
Accounts payable | | $ | 236 | | $ | 434 |
Accounts payable to IBM | | | — | | | 336 |
Debt | |
| 6,422 | | | 7,150 |
Debt payable to IBM | |
| 13,871 | | | 16,945 |
Taxes | |
| 586 | | | 637 |
Other liabilities | |
| 237 | | | 224 |
Total liabilities | | $ | 21,353 | | $ | 25,726 |
Member’s interest: | |
| | | | |
Member's interest | | | 2,356 | | | 2,601 |
Retained earnings | | | — | | | 116 |
Accumulated other comprehensive income/(loss) | |
| (83) | | | (31) |
Total member's interest | | $ | 2,273 | | $ | 2,686 |
Total liabilities and member’s interest | | $ | 23,626 | | $ | 28,412 |
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
5
IBM CREDIT LLC AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(UNAUDITED)
| | | | | | | | | | | | | |
| | Six Months Ended June 30, | | | Nine Months Ended September 30, | ||||||||
(Dollars in millions) |
| 2020 |
| 2019 |
|
| 2020 |
| 2019 | ||||
Cash flows from operating activities: |
| |
|
| |
|
|
| |
|
| |
|
Net income | | $ | 231 | | $ | 156 | | | $ | 316 | | $ | 265 |
Adjustments to reconcile net income to cash provided by operating activities: | |
| | |
| | | |
| | |
| |
Provision for/(benefit from) credit losses | |
| 45 | |
| (4) | | |
| 49 | |
| (4) |
Depreciation | |
| 59 | |
| 88 | | |
| 86 | |
| 127 |
Deferred taxes | |
| (49) | |
| 27 | | |
| (75) | |
| 19 |
Net (gain)/loss on asset sales and other | |
| (55) | |
| (44) | | |
| (76) | |
| (61) |
Change in operating assets and liabilities: | |
| | |
| | | |
| | |
| |
Other assets/other liabilities | |
| (117) | |
| (198) | | |
| (303) | |
| (250) |
Net cash provided by operating activities | | $ | 115 | | $ | 26 | | ||||||
Net cash provided by/(used in) operating activities | | $ | (3) | | $ | 95 | |||||||
| | | | | | | | | | | | | |
Cash flows from investing activities: | |
| | |
| | | |
| | |
| |
Originations of financing receivables | | $ | (5,914) | | $ | (6,872) | | | $ | (8,991) | | $ | (10,167) |
Collection of financing receivables | |
| 7,202 | |
| 7,446 | | |
| 10,521 | |
| 10,823 |
Proceeds from sales of financing receivables | | | 715 | | | — | | | | 1,575 | | | — |
Short-term financing receivables - net (1) | |
| 1,575 | |
| 4,884 | | |
| 1,445 | |
| 7,242 |
Purchase of equipment under operating leases | |
| (23) | |
| (29) | | |
| (33) | |
| (43) |
Proceeds from disposition of equipment under operating lease | |
| 38 | |
| 32 | | |
| 56 | |
| 57 |
Other receivables from IBM - net | | | (296) | | | 1,697 | | | | (40) | | | 1,371 |
Other investing activities - net | |
| 42 | |
| 39 | | |
| (32) | |
| 91 |
Net cash provided by investing activities | | $ | 3,339 | | $ | 7,197 | | | $ | 4,501 | | $ | 9,374 |
| | | | | | | | | | | | | |
Cash flows from financing activities: | |
| | |
| | | |
| | |
| |
Proceeds from issuance of debt from IBM | | $ | 3,801 | | $ | 5,858 | | | $ | 4,735 | | $ | 7,007 |
Principal payments on debt from IBM | |
| (4,534) | |
| (5,903) | | |
| (6,316) | |
| (7,656) |
Proceeds from issuance of debt | |
| 419 | |
| 500 | | |
| 555 | |
| 739 |
Principal payments on debt | |
| (674) | |
| (431) | | |
| (921) | |
| (2,012) |
Short-term borrowings from/(repayments to) IBM - net (1) | |
| (1,723) | |
| (4,914) | | |
| (1,563) | |
| (3,782) |
Short-term borrowings/(repayments) - net (1) | |
| (293) | |
| (1,486) | | |
| (301) | |
| (2,312) |
Distributions to IBM | | | (411) | | | (942) | | | | (636) | | | (1,182) |
Net cash used in financing activities | | $ | (3,415) | | $ | (7,318) | | | $ | (4,447) | | $ | (9,199) |
| | | | | | | | | | | | | |
Effect of exchange rate changes on cash and cash equivalents | | $ | (9) | | $ | 0 | | | $ | 7 | | $ | (20) |
Net change in cash and cash equivalents | | $ | 30 | | $ | (96) | | | $ | 58 | | $ | 251 |
| | | | | | | | | | | | | |
Cash and cash equivalents at January 1 | |
| 1,687 | |
| 1,828 | | |
| 1,687 | |
| 1,828 |
Cash and cash equivalents at June 30 | | $ | 1,717 | | $ | 1,732 | | ||||||
Cash and cash equivalents at September 30 | | $ | 1,745 | | $ | 2,079 |
(1) | Short-term represents original maturities of 90 days or less. |
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
6
IBM CREDIT LLC AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF CHANGES IN MEMBER'S INTEREST
(UNAUDITED)
| | | | | | | | | | | | |
| | | | | | | | Accumulated | | | | |
| | | | | | | | Other | | Total | ||
| | Member's | | Retained | | Comprehensive | | Member’s | ||||
(Dollars in millions) |
| Interest |
| Earnings |
| Income/(Loss) |
| Interest | ||||
Member’s Interest, April 1, 2020 | | $ | 2,601 | | $ | 48 | | $ | (204) | | $ | 2,445 |
Net income plus other comprehensive income/(loss): | |
|
| | |
| | |
| | |
|
Net income | |
| | | | 89 | | | | | | 89 |
Other comprehensive income/(loss), net of tax | |
| | | | | | | 52 | | | 52 |
Total comprehensive income/(loss) | |
|
| | |
| | |
| | $ | 141 |
Contributions from IBM | | | — | | | | | | | | | — |
Distributions to IBM | | | (105) | | | (137) | | | | | | (242) |
Member’s Interest, June 30, 2020 | | $ | 2,496 | | $ | — | | $ | (153) | | $ | 2,343 |
| | | | | | | | | | | | |
| | | | | | | | Accumulated | | | | |
| | | | | | | | Other | | Total | ||
| | Member's | | Retained | | Comprehensive | | Member’s | ||||
(Dollars in millions) |
| Interest |
| Earnings |
| Income/(Loss) |
| Interest | ||||
Member’s Interest, July 1, 2020 | | $ | 2,496 | | $ | — | | $ | (153) | | $ | 2,343 |
Net income plus other comprehensive income/(loss): | |
|
| | |
| | |
| | |
|
Net income | |
| | | | 85 | | | | | | 85 |
Other comprehensive income/(loss), net of tax | |
| | | | | | | 69 | | | 69 |
Total comprehensive income/(loss) | |
|
| | |
| | |
| | $ | 155 |
Contributions from IBM | | | — | | | | | | | | | — |
Distributions to IBM | | | (140) | | | (85) | | | | | | (225) |
Member’s Interest, September 30, 2020 | | $ | 2,356 | | $ | — | | $ | (83) | | $ | 2,273 |
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
| | | | | | | | | | | | |
| | | | | | | | Accumulated | | | | |
| | | | | | | | Other | | Total | ||
| | Member's | | Retained | | Comprehensive | | Member’s | ||||
(Dollars in millions) |
| Interest |
| Earnings |
| Income/(Loss) |
| Interest | ||||
Member’s Interest, April 1, 2019 | | $ | 3,191 | | $ | — | | $ | (27) | | $ | 3,164 |
Net income plus other comprehensive income/(loss): | |
| | | | | | | | | | |
Net income | |
| | | | 113 | | | | | | 113 |
Other comprehensive income/(loss), net of tax | |
| | | | | | | 19 | | | 19 |
Total comprehensive income/(loss) | |
| | | | | | | | | $ | 132 |
Contributions from IBM | | | — | | | | | | | | | — |
Distributions to IBM | | | (459) | | | (113) | | | | | | (572) |
Member’s Interest, June 30, 2019 | | $ | 2,733 | | $ | — | | $ | (8) | | $ | 2,724 |
| | | | | | | | | | | | |
| | | | | | | | Accumulated | | | | |
| | | | | | | | Other | | Total | ||
| | Member's | | Retained | | Comprehensive | | Member’s | ||||
(Dollars in millions) |
| Interest |
| Earnings |
| Income/(Loss) |
| Interest | ||||
Member’s Interest, July 1, 2019 | | $ | 2,733 | | $ | — | | $ | (8) | | $ | 2,724 |
Net income plus other comprehensive income/(loss): | |
| | | | | | | | | | |
Net income | |
| | | | 109 | | | | | | 109 |
Other comprehensive income/(loss), net of tax | |
| | | | | | | (93) | | | (93) |
Total comprehensive income/(loss) | |
| | | | | | | | | $ | 16 |
Contributions from IBM | | | — | | | | | | | | | — |
Distributions to IBM | | | (132) | | | (109) | | | | | | (240) |
Member’s Interest, September 30, 2019 | | $ | 2,601 | | $ | — | | $ | (101) | | $ | 2,500 |
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
7
IBM CREDIT LLC AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF CHANGES IN MEMBER'S INTEREST – (CONTINUED)
(UNAUDITED)
| | | | | | | | | | | | |
| | | | | | | | Accumulated | | | | |
| | | | | | | Other | | Total | |||
| | Member's | | Retained | | Comprehensive | | Member’s | ||||
(Dollars in millions) | | Interest |
| Earnings |
| Income/(Loss) |
| Interest | ||||
Member’s Interest, January 1, 2020 | | $ | 2,601 | | $ | 116 | | $ | (31) | | $ | 2,686 |
Cumulative effect of change in accounting principle (1) | | | | | | (41) | | | | | | (41) |
Net income plus other comprehensive income/(loss): | | |
| | |
| | |
| | |
|
Net income | |
| | | | 231 | | |
| | | 231 |
Other comprehensive income/(loss), net of tax | |
|
| | |
| | | (121) | | | (121) |
Total comprehensive income/(loss) |
|
| | |
| | |
| | $ | 109 | |
Contributions from IBM | |
| — | | | | | | | | | — |
Distributions to IBM | | | (105) | | | (306) | | | | | | (411) |
Member’s Interest, June 30, 2020 | | $ | 2,496 | | $ | — | | $ | (153) | | $ | 2,343 |
| | | | | | | | | | | | |
| | | | | | | | Accumulated | | | | |
| | | | | | | Other | | Total | |||
| | Member's | | Retained | | Comprehensive | | Member’s | ||||
(Dollars in millions) | | Interest |
| Earnings |
| Income/(Loss) |
| Interest | ||||
Member’s Interest, January 1, 2020 | | $ | 2,601 | | $ | 116 | | $ | (31) | | $ | 2,686 |
Cumulative effect of change in accounting principle (1) | | | | | | (41) | | | | | | (41) |
Net income plus other comprehensive income/(loss): | | |
| | |
| | |
| | |
|
Net income | |
| | | | 316 | | |
| | | 316 |
Other comprehensive income/(loss), net of tax | |
|
| | |
| | | (52) | | | (52) |
Total comprehensive income/(loss) |
|
| | |
| | |
| | $ | 264 | |
Contributions from IBM | |
| — | | | | | | | | | — |
Distributions to IBM | | | (245) | | | (391) | | | | | | (636) |
Member’s Interest, September 30, 2020 | | $ | 2,356 | | $ | — | | $ | (83) | | $ | 2,273 |
(1)(1) Reflects the adoption of the FASB guidance on current expected credit losses. Refer to note 2, "Accounting Changes."
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
| | | | | | | | | | | | |
| | | | | | | | Accumulated | | | | |
| | | | | | | Other | | Total | |||
| | Member's | | Retained | | Comprehensive | | Member’s | ||||
(Dollars in millions) |
| Interest |
| Earnings |
| Income/(Loss) |
| Interest | ||||
Member’s Interest, January 1, 2019 | | $ | 3,216 | | $ | 238 | | $ | (33) | | $ | 3,420 |
Net income plus other comprehensive income/(loss): | |
| | | | | | | | | | |
Net income | |
| | | | 156 | | | | | | 156 |
Other comprehensive income/(loss), net of tax | |
| | | | | | | 25 | | | 25 |
Total comprehensive income/(loss) |
| | | | | | | | | $ | 181 | |
Contributions from IBM (1) | | | 64 | | | | | | | | | 64 |
Distributions to IBM | | | (547) | | | (395) | | | | | | (942) |
Member’s Interest, June 30, 2019 | | $ | 2,733 | | $ | — | | $ | (8) | | $ | 2,724 |
| | | | | | | | | | | | |
| | | | | | | | Accumulated | | | | |
| | | | | | | Other | | Total | |||
| | Member's | | Retained | | Comprehensive | | Member’s | ||||
(Dollars in millions) |
| Interest |
| Earnings |
| Income/(Loss) |
| Interest | ||||
Member’s Interest, January 1, 2019 | | $ | 3,216 | | $ | 238 | | $ | (33) | | $ | 3,420 |
Net income plus other comprehensive income/(loss): | |
| | | | | | | | | | |
Net income | |
| | | | 265 | | | | | | 265 |
Other comprehensive income/(loss), net of tax | |
| | | | | | | (68) | | | (68) |
Total comprehensive income/(loss) |
| | | | | | | | | $ | 197 | |
Contributions from IBM (1) | | | 64 | | | | | | | | | 64 |
Distributions to IBM | | | (679) | | | (503) | | | | | | (1,182) |
Member’s Interest, September 30, 2019 | | $ | 2,601 | | $ | — | | $ | (101) | | $ | 2,500 |
(1) In accordance with the previously executed Tax Sharing Agreement, $64 million was settled through a non-cash contribution. Refer to note 14, "Relationship with IBM and Related Party Transactions."
(Amounts may not add due to rounding.)
(The accompanying notes are an integral part of the financial statements.)
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Notes to Consolidated Financial Statements:
1. Basis of Presentation:
The accompanying Consolidated Financial Statements and footnotes of IBM Credit LLC (IBM Credit or the company) have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP). The financial statements and footnotes are unaudited. In the opinion of the company’s management, these statements include all adjustments, which are only of a normal recurring nature, necessary to present a fair statement of the company’s results of operations, financial position and cash flows.
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amount of assets, liabilities, revenue, costs, expenses and other comprehensive income/(loss) that are reported in the Consolidated Financial Statements and accompanying disclosures. These estimates are based on management’s best knowledge of current events, historical experience, actions that the company may undertake in the future and on various other assumptions that are believed to be reasonable under the circumstances. As a result, actual results may be different from these estimates.
Member’s interest in the Consolidated Balance Sheet represents the accumulation of the company’s net income over time and contributions from IBM and distributions to IBM. Distributions by the company to IBM are considered first to be a return of profit as reflected in retained earnings in the Consolidated Balance Sheet. Any amount distributed to IBM in excess of the company’s available balance in retained earnings is considered a return of a portion of Member’s interest as reflected in the Consolidated Balance Sheet.
Income tax expense is based on reported income before income taxes. Whereas the majority of non-U.S. entities are separate legal tax filers, the company’s U.S. federal and certain state and foreign operations are included in various IBM consolidated tax returns. In such cases, the income taxes for these entities are calculated using a separate return method modified to apply the benefits-for-loss approach, which is consistent with the company’s Tax Sharing Agreement with IBM. Under this approach, the provision for income taxes is computed as if the company filed tax returns on a separate tax return basis and is then adjusted, as necessary, to reflect IBM’s reimbursement for any tax benefits generated by the company.
The amount of restricted cash included in the Consolidated Balance Sheet and Consolidated Statement of Cash Flows is immaterial for the periods presented.
All significant intracompany transactions between IBM Credit’s businesses have been eliminated. All significant intercompany transactions between IBM Credit and IBM have been included in these Consolidated Financial Statements.
Interim results are not necessarily indicative of financial results for a full year. The information included in this Form 10-Q should be read in conjunction with the company’s 2019 Form 10-K.
Within the financial statements and tables presented, certain columns and rows may not add due to the use of rounded numbers for disclosure purposes. Percentages presented are calculated from the underlying whole-dollar amounts.
9
2. Accounting Changes:
New Standards to be Implemented
Any current pending standards to be implemented are either not applicable or not material to the company.
Standards Implemented
Reference Rate Reform
Standard/Description–Issuance date: March 2020. This guidance provides optional expedients and exceptions for applying GAAP to contract modifications, hedging relationships, and other transactions that reference London Interbank Offered Rate (LIBOR) or another reference rate expected to be discontinued, subject to meeting certain criteria.
Effective Date and Adoption Considerations–The guidance is effective as of March 12, 2020 through December 31, 2022.
Effect on Financial Statements or Other Significant Matters–The company made a policy election in the first quarter of 2020 to adopt the practical expedient which allows for the continuation of fair value hedge accounting for interest rate derivative contracts upon the transition from LIBOR to Secured Overnight Financing Rate (SOFR) or another reference rate alternative, without any impact to the Consolidated Income Statement. The company is continuing to evaluate the potential impact of the replacement of the LIBOR benchmark on its interest rate risk management activities.activities; however, it is not expected to have a material impact in the consolidated financial results.
Financial Instruments-Credit Losses
Standard/Description–Issuance date: June 2016, with amendments in 2018, 2019 and 2020. This changes the guidance for credit losses based on an expected loss model rather than an incurred loss model. It requires the consideration of all available relevant information when estimating expected credit losses, including past events, current conditions and forecasts and their implications for expected credit losses. It also expands the scope of financial instruments subject to impairment, including off-balance sheet commitments and residual value.
Effective Date and Adoption Considerations–The guidance was effective January 1, 2020, with one-year early adoption permitted. The company adopted the guidance as of the effective date using the transition methodology whereby prior comparative periods were not retrospectively presented in the Consolidated Financial Statements.
Effect on Financial Statements or Other Significant Matters–At January 1, 2020, an increase in the allowance for credit losses of $56 million was recorded for financing receivables (inclusive of its related off-balance sheet commitments). Additionally, net deferred taxes were reduced by $16 million in the Consolidated Balance Sheet, resulting in a cumulative-effect net decrease to retained earnings of $41 million. Refer to note 6, “Financing Receivables, Receivables Purchased/Participated from IBM,” and note 9, “Commitments,” for additional information.
3. Segments:
The company’s operations consist of 2 business segments: Client Financing and Commercial Financing. The segments represent components of the company for which separate financial information is available that is utilized on a regular basis by the chief operating decision maker in determining how to allocate resources and evaluate performance. The company is organized on the basis of its financing offerings. The company’s reportable segments are business units that offer different financing solutions based upon clients’ needs.
Client Financing provides leases and loan financing to end-user clients, acquires installment payment plans offered to end-user clients by IBM, and acquires participation interests in IBM financing receivables for which the company assumes the IBM client’s credit risk from IBM. End-user clients are primarily IBM clients that elect to finance their acquisition of IBM’s hardware, software, and services, as well as Original Equipment Manufacturer (OEM) IT hardware, software and services, to meet their total solution requirements. In addition, the company provides loans to IBM,
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software and services, to meet their total solution requirements. In addition, the company provides loans to IBM, primarily in support of IBM’s Global Technology Services segment’s acquisition of IT assets, which IBM uses in external, revenue-producing services contracts.
Commercial Financing provides working capital financing for suppliers, distributors and resellers of IBM and OEM IT products and services. The segment’s performance primarily reflects the wind down of OEM IT Commercial Financing operations which began in the second quarter of 2019.
The segment’s pre-tax income includes an allocation of interest expense and selling, general and administrative (SG&A) expense by the company to each of its operating segments. Interest expense is allocated based on the average assets in each segment. SG&A expense is allocated based on a measurable financial driver, such as net margin.
IBM Credit and its consolidated subsidiaries are reported by the company’s parent, IBM, as part of IBM’s Global Financing segment, which also includes IBM’s remanufacturing and remarketing business.
SEGMENT INFORMATION
| | | | | | | | | | | | | | | | | | |
| | Client | | Commercial | | Total | | Client | | Commercial | | Total | ||||||
(Dollars in millions) |
| Financing |
| Financing |
| Segments |
| Financing |
| Financing |
| Segments | ||||||
For the three months ended June 30, 2020: | | | | | | | | | | |||||||||
For the three months ended September 30, 2020: | | | | | | | | | | |||||||||
Total revenue |
| $ | 244 |
| $ | 35 |
| $ | 279 |
| $ | 234 |
| $ | 32 |
| $ | 266 |
Pre-tax income | |
| 86 | |
| 18 | |
| 104 | |
| 91 | |
| 16 | |
| 107 |
Depreciation of equipment under operating lease | |
| 28 | |
| — | |
| 28 | |
| 27 | |
| — | |
| 27 |
Interest expense | |
| 63 | |
| 9 | |
| 72 | |
| 54 | |
| 7 | |
| 61 |
Provision for/(benefit from) credit losses | |
| 27 | |
| (1) | |
| 27 | |
| 4 | |
| (1) | |
| 4 |
| | | | | | | | | | | | | | | | | | |
For the three months ended June 30, 2019: | | | | | | | | | | |||||||||
For the three months ended September 30, 2019: | | | | | | | | | | |||||||||
Total revenue |
| $ | 292 |
| $ | 118 |
| $ | 410 |
| $ | 292 |
| $ | 80 |
| $ | 372 |
Pre-tax income | |
| 96 | |
| 40 | |
| 136 | |
| 89 | | | 42 | | | 131 |
Depreciation of equipment under operating lease | |
| 43 | |
| — | |
| 43 | |
| 39 | | | — | | | 39 |
Interest expense | |
| 96 | |
| 39 | |
| 135 | |
| 96 | | | 20 | | | 115 |
Provision for/(benefit from) credit losses | |
| (5) | |
| (3) | |
| (8) | |
| 5 | | | (6) | | | (1) |
(Amounts may not add due to rounding.)
SEGMENT INFORMATION
| | | | | | | | | | | | | | | | | | |
| | Client | | Commercial | | Total | | Client | | Commercial | | Total | ||||||
(Dollars in millions) |
| Financing |
| Financing |
| Segments |
| Financing | | Financing | | Segments | ||||||
For the six months ended June 30, 2020: | | | | | | | | | | |||||||||
For the nine months ended September 30, 2020: | | | | | | | | | | |||||||||
Total revenue |
| $ | 522 | | $ | 93 |
| $ | 615 |
| $ | 757 | | $ | 125 | | $ | 881 |
Pre-tax income | |
| 182 | | | 50 | |
| 232 | |
| 274 | | | 66 | |
| 339 |
Depreciation of equipment under operating lease | |
| 59 | | | — | |
| 59 | |
| 86 | | | — | |
| 86 |
Interest expense | |
| 145 | | | 21 | |
| 166 | |
| 198 | | | 29 | |
| 227 |
Provision for/(benefit from) credit losses | |
| 45 | | | 0 | |
| 45 | |
| 50 | | | (1) | |
| 49 |
| | | | | | | | | | | | | | | | | | |
For the six months ended June 30, 2019: | | | | | | | | | | |||||||||
For the nine months ended September 30, 2019: | | | | | | | | | | |||||||||
Total revenue |
| $ | 614 | | $ | 278 | | $ | 892 |
| $ | 906 | | $ | 359 | | $ | 1,265 |
Pre-tax income | |
| 213 | | | 116 | | | 330 | |
| 303 | | | 158 | | | 460 |
Depreciation of equipment under operating lease | |
| 88 | | | — | | | 88 | |
| 127 | | | — | | | 127 |
Interest expense | |
| 193 | | | 92 | | | 285 | |
| 289 | | | 111 | | | 400 |
Provision for/(benefit from) credit losses | |
| (6) | | | 2 | | | (4) | |
| (1) | | | (4) | | | (4) |
(Amounts may not add due to rounding.)
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4. Divestiture:
In the first quarter of 2019, IBM sold certain commercial financing capabilities and assigned a number of its commercial financing contracts, excluding related receivables which were collected as they became due in the normal course of business, to a third party and recorded a pre-tax gain of $16 million.
5. Financial Assets and Liabilities:
Fair Value Measurements
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The company classifies certain assets and liabilities based on the following fair value hierarchy:
● | Level 1—Quoted prices (unadjusted) in active markets for identical assets or liabilities that can be accessed at the measurement date; |
● | Level 2—Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly; and |
● | Level 3—Unobservable inputs for the asset or liability. |
When available, the company uses unadjusted quoted market prices in active markets to measure the fair value and classifies such items as Level 1. If quoted market prices are not available, fair value is based upon internally developed models that use current market-based or independently sourced market parameters such as interest rates and currency rates. Items valued using internally generated models are classified according to the lowest level input or value driver that is significant to the valuation.
The determination of fair value considers various factors, including interest rate yield curves and time value underlying the financial instruments. For derivatives and debt securities, the company uses a discounted cash flow analysis using discount rates commensurate with the duration of the instrument.
In determining the fair value of financial instruments, the company considers certain market valuation adjustments to the “base valuations” calculated using the methodologies described below for several parameters that market participants would consider in determining fair value:
● | Counterparty credit risk adjustments are applied to financial instruments, taking into account the actual credit risk of a counterparty as observed in the credit default swap market to determine the true fair value of such an instrument. |
● | Credit risk adjustments are applied to reflect the company’s own credit risk when valuing all liabilities measured at fair value. The methodology is consistent with that applied in developing counterparty credit risk adjustments, but incorporates the company’s own credit risk as observed in the credit default swap market. |
The company holds investments in time deposits and certificates of deposit that are designated as available-for-sale. The primary objective of the company’s cash and debt investment portfolio is to maintain principal by investing in very liquid and highly rated investment grade securities.
Available-for-sale securities are measured for impairment on a recurring basis by comparing the security’s fair value with its amortized cost basis. Effective January 1, 2020 with the adoption of the new standard on credit losses, if the fair value of the security falls below its amortized cost basis, the change in fair value is recognized in the period the impairment is identified when the loss is due to credit factors. The change in fair value due to non-credit factors is recorded in other comprehensive income when the company does not intend to sell and has the ability to hold the investment. The company’s standard practice is to hold all of its debt security investments classified as available-for-sale until maturity. There were 0 impairments for credit losses or non-credit impairments for the three and sixnine months ended
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Juneended September 30, 2020. Prior to the adoption of the new standard, available-for-sale securities were measured for impairment using an other-than-temporary impairment model. NaN impairment was recorded for the three and sixnine months ended JuneSeptember 30, 2019.
The following table presents the company’s financial assets and financial liabilities that are measured at fair value on a recurring basis at JuneSeptember 30, 2020 and December 31, 2019.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Fair Value | | | | | | Fair Value | | | | | ||||||||||||||||
| | Hierarchy | | At June 30, 2020 | | At December 31, 2019 | | Hierarchy | | At September 30, 2020 | | At December 31, 2019 | ||||||||||||||||
(Dollars in millions) |
| Level |
| Assets |
| Liabilities |
| Assets |
| Liabilities |
| Level |
| Assets |
| Liabilities |
| Assets |
| Liabilities | ||||||||
Cash equivalents (1) | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Time deposits and certificates of deposit (2) | | 2 | | $ | 666 | | $ | N/A | | $ | 788 | | $ | N/A | | 2 | | $ | 706 | | $ | N/A | | $ | 788 | | $ | N/A |
Money market funds | | 1 | | | — | | | N/A | | | 5 | | | N/A | | 1 | | | — | | | N/A | | | 5 | | | N/A |
Total cash equivalents | | | | $ | 666 | | $ | N/A | | $ | 793 | | $ | N/A | | | | $ | 706 | | $ | N/A | | $ | 793 | | $ | N/A |
Derivatives designated as hedging instruments (3) | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Interest rate contracts with IBM | | 2 | | | 99 | | | — | | | 45 | | | — | | 2 | | | 73 | | | — | | | 45 | | | — |
Foreign exchange contracts with IBM | | 2 | | | 0 | | | 26 | | | — | | | 18 | | 2 | | | 3 | | | 36 | | | — | | | 18 |
Total | | | | $ | 765 | | $ | 26 | | $ | 838 | | $ | 18 | | | | $ | 783 | | $ | 36 | | $ | 838 | | $ | 18 |
(1) | Included within cash and cash equivalents in the Consolidated Balance Sheet. |
(2) | Available-for-sale securities with an amortized cost basis that approximates fair value. |
(3) | Included within other assets and other liabilities in the Consolidated Balance Sheet. |
N/A – not applicable
Financial Assets and Liabilities Not Measured at Fair Value
Short-Term Receivables and Payables
Short-term financing receivables are financial assets with carrying values that approximate fair value. Accounts payable, other accrued expenses and short-term debt (including debt payable to IBM) are financial liabilities with carrying values that approximate fair value. If measured at fair value in the financial statements, these financial instruments would be classified as Level 3 in the fair value hierarchy, except for short-term debt, which would be classified as Level 2.
Long-Term Receivables
Fair values are based on discounted future cash flows using current interest rates offered for similar loans to clients with similar credit ratings for the same remaining maturities. At JuneSeptember 30, 2020 and December 31, 2019, the difference between the carrying amount and estimated fair value for long-term receivables was immaterial. If measured at fair value in the financial statements, these financial instruments would be classified as Level 3 in the fair value hierarchy.
Long-Term Debt
Fair value of publicly traded long-term debt is based on quoted market prices for the identical liability when traded as an asset in an active market. For other long-term debt, which includes debt payable to IBM, for which a quoted market price is not available, an expected present value technique that uses rates currently available to the company for debt with similar terms and remaining maturities is used to estimate fair value. The carrying amount of long-term debt (including debt payable to IBM) was $14,682$14,281 million and $15,268 million, and the estimated fair value was $14,843$14,480 million and $15,409 million at JuneSeptember 30, 2020 and December 31, 2019, respectively. If measured at fair value in the financial statements, long-term debt (including the current portion) would be classified as Level 2 in the fair value hierarchy.
6. Financing Receivables, Receivables Purchased/Participated from IBM:
Financing receivables primarily consist of client loan and installment payment receivables (loans), investment in sales-type and direct financing leases and Commercial Financing receivables. Loans are provided primarily to clients to finance the purchase of hardware, software and services. Payment terms on these financing arrangements are generally for terms up to seven years. Investment in sales-type and direct financing leases relate principally to the company’sIBM’s Systems
13
Systems products and are for terms ranging generally from two to six years. Commercial Financing receivables relate primarily to working capital financing for dealers and remarketers of IBM products. Payment terms for working capital financing generally range from 30 to 90 days.
The company purchases interests in certain of IBM’s short-term receivables. These receivables are included within the Commercial Financing segment. The company also participates in receivables from IBM for certain long-term financing receivables generated from IBM’s Total Solution Offerings in certain countries as well as for certain government and other contracts. The company carries the credit risk of IBM’s clients for all purchased and participated receivables from IBM.
Loans, investment in sales-type and direct financing leases, and participated receivables from IBM are collectively referred to as Client Financing receivables and are included within the Client Financing segment.
Effective January 1, 2020, the company adopted the new accounting standard related to credit losses, using the transition methodology whereby prior comparative periods were not retrospectively presented in the Consolidated Financial Statements. Refer to note 2, “Accounting Changes,” for additional information. Under this new guidance, the amortized cost basis of a financial asset represents the original amount of the financing receivable (including residual value) adjusted for unearned income, deferred initial direct costs, cash collected, write-offs and any foreign exchange adjustments. The allowance for credit losses represents future expected credit losses over the life of the receivables based on past experience, current information and forward-looking economic considerations. Prior to the effective date, financing receivables were measured at recorded investment, which does not include residual value. As a result, all prior periods are presented at recorded investment, while current period information is presented at amortized cost. Additionally, current period information reflects updates to the portfolio segments, and other presentation changes within the following tables, as a result of the adoption of this new guidance.
A summary of the components of the company’s financing receivables and receivables purchased/participated from IBM is presented as follows:
| | | | | | | | | | | | | | | | | | | | | | | | |
| | Client Loan and | | | | | | | | | | Client Loan and | | | | | | | | | ||||
| | Installment | | | | | | | | | | Installment | | | | | | | | | ||||
| | Payment | | | | Commercial | | | | Payment | | | | Commercial | | | ||||||||
(Dollars in millions) | | Receivables | | Investment in | | Financing | | | | Receivables | | Investment in | | Financing | | | ||||||||
At June 30, 2020: |
| (Loans) |
| Leases |
| Receivables |
| Total | ||||||||||||||||
At September 30, 2020: |
| (Loans) |
| Leases |
| Receivables |
| Total | ||||||||||||||||
Financing receivables, gross | | $ | 8,603 | | $ | 3,661 | | $ | 2,031 | | $ | 14,296 | | $ | 7,780 | | $ | 2,863 | | $ | 1,845 | | $ | 12,488 |
Unearned income | | | (317) | | | (281) | | | (3) | | | (601) | | | (289) | | | (229) | | | (3) | | | (520) |
Deferred initial direct costs | | | 63 | | | 25 | | | — | | | 88 | | | 58 | | | 20 | | | — | | | 78 |
Residual value* | | | — | | | 483 | | | — | | | 483 | | | — | | | 398 | | | — | | | 398 |
Amortized cost | | $ | 8,349 | | $ | 3,888 | | $ | 2,029 | | $ | 14,266 | | $ | 7,549 | | $ | 3,052 | | $ | 1,843 | | $ | 12,443 |
Allowance for credit losses | | | (101) | | | (72) | | | (9) | | | (182) | | | (97) | | | (75) | | | (8) | | | (179) |
Total financing receivables, net | | $ | 8,248 | | $ | 3,816 | | $ | 2,020 | | $ | 14,084 | | $ | 7,452 | | $ | 2,977 | | $ | 1,835 | | $ | 12,264 |
* Includes guaranteed and unguaranteed residual value
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| | | | | | | | | | | | |
| | Client Loan and | | | | | | | | | ||
| | Installment | | | | | | | | | ||
| | Payment | | | | Commercial | | | ||||
(Dollars in millions) | | Receivables | | Investment in | | Financing | | | ||||
At December 31, 2019: |
| (Loans) |
| Leases |
| Receivables |
| Total | ||||
Financing receivables, gross | | $ | 9,566 | | $ | 4,626 | | $ | 3,400 | | $ | 17,592 |
Unearned income | | | (373) | | | (384) | | | (4) | | | (761) |
Deferred initial direct costs | | | 71 | | | 32 | | | — | | | 103 |
Recorded investment | | $ | 9,264 | | $ | 4,274 | | $ | 3,396 | | $ | 16,934 |
Allowance for credit losses | | | (82) | | | (56) | | | (9) | | | (148) |
Unguaranteed residual value | | | — | | | 531 | | | — | | | 531 |
Guaranteed residual value | | | — | | | 47 | | | — | | | 47 |
Total financing receivables, net | | $ | 9,181 | | $ | 4,796 | | $ | 3,387 | | $ | 17,365 |
| | | | | | | | | | | | |
|
| At June 30, | | At December 31, |
| At September 30, | | At December 31, | ||||
(Dollars in millions) |
| 2020 | | 2019 |
| 2020 | | 2019 | ||||
Short-term purchased receivables from IBM |
| $ | 50 | | $ | 56 |
| $ | 37 | | $ | 56 |
Allowance for credit losses | |
| 0 | |
| 0 | |
| (1) | |
| 0 |
Total short-term purchased receivables from IBM, net |
| $ | 50 | | $ | 56 |
| $ | 36 | | $ | 56 |
| | | | | | | | | | | | |
Long-term participated receivables from IBM |
| $ | 4,333 | | $ | 4,310 |
| $ | 4,193 | | $ | 4,310 |
Allowance for credit losses | |
| (21) | |
| (7) | |
| (22) | |
| (7) |
Total long-term participated receivables from IBM, net |
| $ | 4,312 | | $ | 4,303 |
| $ | 4,171 | | $ | 4,303 |
| | | | | | | | | | | | |
Total receivables purchased/participated from IBM, net |
| $ | 4,362 | | $ | 4,359 |
| $ | 4,207 | | $ | 4,359 |
The company has a long-standing practice of taking mitigation actions, in certain circumstances, to transfer credit risk to third parties.parties, with enhanced focus in this unprecedented environment of the COVID-19 pandemic. These actions may include credit insurance, financial guarantees, nonrecourse borrowings, transfers of receivables recorded as true sales in accordance with accounting guidance or sales of equipment under operating lease. Sale of receivables arrangements are also utilized in the normal course of business as part of the company’s cash and liquidity management.
Financing receivables pledged as collateral for borrowings were $758 million and $1,062 million at JuneDuring the three months ended September 30, 2020 and December 31, 2019, respectively.
In the second quarter of 2020, the company sold $711$854 million of Client Financing receivables, consisting of lease and loan receivables of $417$435 million and $294$419 million, respectively, approximatelyrespectively. At the time of sale, more than half of whichthe receivables sold were scheduled to be due within the next 12 months. For the nine months ended September 30, 2020, the company sold $1,565 million of financing receivables consisting of lease and loan receivables of $852 million and $713 million, respectively. The transfer of these receivables qualified as true sales and therefore reduced financing receivables, and resultedresulting in a benefit to cash flows from investing activities of $715 million.activities. The impact to the Consolidated Income Statement, including fees and net gain associated with the transfer of these receivables for the three and nine months ended September 30, 2020, was not material.
The company did not have any material financing receivables held for sale at Juneas of September 30, 2020 and December 31, 2019.
Financing receivables pledged as collateral for borrowings were $596 million and $1,062 million at September 30, 2020 and December 31, 2019, respectively.
Allowance for Credit Losses
Refer to note A, “Significant Accounting Policies,” in the company’s 2019 Annual Report for a full description of its accounting policies for financing receivables and related allowances. The descriptions below include any changes to those policies due to the new standard.
15
Effective with the adoption of the new credit losses standard, the company’s estimates of its allowances for expected credit losses include consideration of: past events, including any historical default, historical concessions and resulting troubled debt restructurings, current economic conditions, taking into account any non-freestanding mitigating credit enhancements, and certain forward-looking information, including reasonable and supportable forecasts.
15
Collectively Evaluated Receivables
The company determines its allowance for credit losses based on 2 portfolio segments: Client Financing receivables and Commercial Financing receivables, and further segments the portfolio into 3 classes: Americas, Europe/Middle East/Africa (EMEA) and Asia Pacific.
For Client Financing receivables, the company uses a credit loss model to calculate allowances based on its internal loss experience and current conditions and forecasts by class of financing receivable. The company records an unallocated reserve that is calculated by applying a reserve rate to its portfolio, excluding accounts that have been individually evaluated and specifically reserved. This reserve rate is based upon credit rating, probability of default, term and loss history. The allowance is adjusted quarterly for expected recoveries of amounts that were previously written off or are expected to be written off. Recoveries cannot exceed the aggregated amount of the previous write-off or expected write-off.
Macroeconomic variables attributed to the expected credit losses for Client Financing receivables may vary by class of financing receivables based on historical experiences, portfolio composition and current environment. In addition to a qualitative review of credit risk factors across the portfolio, the company considers forward-looking macroeconomic variables such as gross domestic product, unemployment rates, equity prices and corporate profits when quantifying the impact of economic forecasts on its Client Financing receivables allowance for expected credit losses. The company also considers the impact of current conditions and economic forecasts relating to specific industries, geographical areas, and client-specific exposuresclient-credit ratings on the portfolio. Under this approach, forecasts of these variables over two years are considered reasonable and supportable. Beyond two years, the company reverts to long-term average loss experience. Forward-looking estimates require the use of judgment, particularly in times of economic uncertainty. Consistent with the first quarterhalf of 2020, withthe company continues to monitor the evolving global impacts from the COVID-19 pandemic as well as its impact on external economic models, which have been revised with increased frequency and with alternative scenarios.throughout the year. The company’s allowances at JuneSeptember 30, 2020, reflect the qualitative process described above. Any changes to economic models that occurred after the balance sheet date will be reflected in future periods.
The allowance for Commercial Financing receivables is estimated based on a combination of write-off history and current economic conditions, excluding any individually evaluated accounts.The Commercial Financing receivables portfolio segment is excluded from the tables in the sections below as the receivables are short term in nature and the current estimated risk of loss and resulting impact to the company’s financial results are not material.
At January 1, 2020, upon adoption of the new standard on credit losses, the company recorded an additional allowance for Client and Commercial Financing receivables (including related off-balance sheet commitments) of $56 million. This was primarily driven by an increase in the Client Financing receivables allowance. Refer to note 9, “Commitments,” for additional information regarding off-balance sheet commitments.
16
Client Financing Receivables
The following tables present the amortized cost basis or recorded investment for Client Financing receivables at JuneSeptember 30, 2020 and December 31, 2019, respectively, further segmented by 3 classes: Americas, Europe/Middle East/Africa (EMEA) and Asia Pacific.
| | | | | | | | | | | | | | | | | | | | | | | | |
(Dollars in millions) |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
At June 30, 2020: | | Americas | | EMEA | | Asia Pacific | | Total | ||||||||||||||||
At September 30, 2020: | | Americas | | EMEA | | Asia Pacific | | Total | ||||||||||||||||
Amortized cost | | $ | 8,948 | | $ | 4,759 | | $ | 2,863 | | $ | 16,570 | | $ | 7,536 | | $ | 4,614 | | $ | 2,644 | | $ | 14,794 |
| | | | | | | | | | | | | | | | | | | | | | | | |
Allowance for credit losses | |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| |
Beginning balance at December 31, 2019 | | $ | 98 | | $ | 36 | | $ | 11 | | $ | 146 | | $ | 98 | | $ | 36 | | $ | 11 | | $ | 146 |
Adjustment for adoption of new standard | | | 21 | | | 13 | | | 4 | | | 39 | | | 21 | | | 13 | | | 4 | | | 39 |
Beginning balance at January 1, 2020 | | $ | 120 | | $ | 50 | | $ | 16 | | $ | 185 | | $ | 120 | | $ | 50 | | $ | 16 | | $ | 185 |
Write-offs |
| $ | (15) |
| $ | (1) |
| $ | (1) |
| $ | (17) |
| $ | (23) |
| $ | (1) |
| $ | (2) |
| $ | (26) |
Recoveries |
|
| 0 |
|
| — |
|
| 2 |
|
| 2 |
|
| 0 |
|
| 0 |
|
| 2 |
|
| 2 |
Additions/(releases) |
|
| 28 |
|
| 9 |
|
| (1) |
|
| 37 |
|
| 33 |
|
| 9 |
|
| (1) |
|
| 41 |
Other* |
|
| (12) |
|
| 0 |
|
| 0 |
|
| (12) |
|
| (11) |
|
| 2 |
|
| 0 |
|
| (8) |
Ending balance at June 30, 2020 | | $ | 121 | | $ | 58 | | $ | 15 | | $ | 194 | ||||||||||||
Ending balance at September 30, 2020 | | $ | 119 | | $ | 60 | | $ | 15 | | $ | 194 |
* Primarily represents translation adjustments.
| | | | | | | | | | | | |
(Dollars in millions) |
| | |
| | |
| | |
| | |
At December 31, 2019: | | Americas | | EMEA | | Asia Pacific | | Total | ||||
Recorded investment | | | | | | | | | | | | |
Lease receivables | | $ | 3,160 |
| $ | 710 |
| $ | 404 |
| $ | 4,274 |
Loan receivables | |
| 6,173 |
|
| 2,415 |
|
| 676 |
|
| 9,264 |
Participated receivables from IBM | | | 717 | | | 1,671 | | | 1,922 | | | 4,310 |
Ending balance | | $ | 10,049 | | $ | 4,796 | | $ | 3,003 | | $ | 17,848 |
Recorded investment collectively evaluated for impairment | | $ | 9,957 | | $ | 4,770 | | $ | 2,993 | | $ | 17,720 |
Recorded investment individually evaluated for impairment | | $ | 92 | | $ | 26 | | $ | 10 | | $ | 128 |
| | | | | | | | | | | | |
Allowance for credit losses | |
|
| |
|
| |
|
| |
|
|
Beginning balance at January 1, 2019 | |
|
| |
|
| |
|
| |
|
|
Lease receivables | | $ | 38 |
| $ | 17 |
| $ | 10 |
| $ | 65 |
Loan receivables | |
| 66 |
|
| 28 |
|
| 5 |
|
| 98 |
Participated receivables from IBM |
|
| 3 |
|
| 8 |
|
| 3 |
|
| 14 |
Total | | $ | 107 | | $ | 53 | | $ | 17 | | $ | 177 |
Write-offs | | $ | (14) | | $ | (10) |
| $ | (4) |
| $ | (29) |
Recoveries | |
| 0 | |
| 0 |
|
| 0 |
|
| 1 |
Additions/(releases) | |
| 7 | |
| (6) |
|
| (2) |
|
| (2) |
Foreign currency translation adjustment | |
| (1) | |
| 0 |
|
| 0 |
|
| (1) |
Other | |
| 0 | |
| 0 |
|
| 0 |
|
| 0 |
Ending balance at December 31, 2019 | | $ | 98 | | $ | 36 | | $ | 11 | | $ | 146 |
Lease receivables | | $ | 27 | | $ | 21 | | $ | 8 | | $ | 56 |
Loan receivables | | $ | 68 | | $ | 12 | | $ | 2 | | $ | 82 |
Participated receivables from IBM | | $ | 3 | | $ | 3 | | $ | 1 | | $ | 7 |
| | | | | | | | | | | | |
Related allowance, collectively evaluated for impairment | | $ | 23 | | $ | 11 | | $ | 3 | | $ | 36 |
Related allowance, individually evaluated for impairment | | $ | 75 | | $ | 26 | | $ | 9 | | $ | 110 |
Write-offs of lease receivables and loan receivables were $17 million and $11 million, respectively, for the year ended December 31, 2019. Provisions for credit losses recorded for lease receivables and participated receivables from IBM were an addition of $5 million and a release of $6 million, respectively, for the year ended December 31, 2019.
17
Past Due Financing Receivables
The company considers a client’s financing receivable balance past due when any installment is aged over 90 days. The following tables summarize information about the amortized cost basis or recorded investment in Client Financing receivables, including amortized cost or recorded investment aged over 90 days and still accruing, billed invoices aged over 90 days and still accruing, and amortized cost or recorded investment not accruing.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | Amortized | | Billed | | Amortized | | | | | | | | Amortized | | Billed | | Amortized | ||||||
| | Total | | Amortized | | Cost | | Invoices | | Cost | | Total | | Amortized | | Cost | | Invoices | | Cost | ||||||||||
(Dollars in millions) | | Amortized | | Cost | | > 90 Days and | | > 90 Days and | | Not | | Amortized | | Cost | | > 90 Days and | | > 90 Days and | | Not | ||||||||||
At June 30, 2020: |
| Cost |
| > 90 Days (1) |
| Accruing (1) |
| Accruing |
| Accruing (2) | ||||||||||||||||||||
At September 30, 2020: |
| Cost |
| > 90 Days (1) |
| Accruing (1) |
| Accruing |
| Accruing (2) | ||||||||||||||||||||
Americas | | $ | 8,948 | | $ | 306 | | $ | 230 | | $ | 29 | | $ | 96 | | $ | 7,536 | | $ | 241 | | $ | 165 | | $ | 30 | | $ | 88 |
EMEA | |
| 4,759 | | | 93 | | | 30 | | | 4 | | | 68 | |
| 4,614 | | | 78 | | | 12 | | | 4 | | | 72 |
Asia Pacific | |
| 2,863 | | | 19 | | | 11 | | | 2 | | | 8 | |
| 2,644 | | | 15 | | | 7 | | | 4 | | | 8 |
Total client financing receivables |
| $ | 16,570 |
| $ | 418 |
| $ | 271 |
| $ | 35 |
| $ | 172 |
| $ | 14,794 |
| $ | 334 |
| $ | 184 |
| $ | 38 |
| $ | 168 |
(1) | At a contract level, which includes total billed and unbilled amounts for financing receivables aged greater than 90 days. |
(2) | Of the amortized cost not accruing, there was a related allowance of |
| | | | | | | | | | | | | | | |
| | | | | | | | Recorded | | Billed | | Recorded | |||
| | Total | | Recorded | | Investment | | Invoices | | Investment | |||||
(Dollars in millions) | | Recorded | | Investment | | > 90 Days and | | > 90 Days and | | Not | |||||
At December 31, 2019: |
| Investment |
| > 90 Days (1) |
| Accruing (1) |
| Accruing |
| Accruing (2) | |||||
Americas | | $ | 3,160 | | $ | 179 | | $ | 143 | | $ | 10 | | $ | 37 |
EMEA | |
| 710 | |
| 24 | |
| 11 | |
| 1 | |
| 16 |
Asia Pacific | |
| 404 | |
| 9 | |
| 2 | |
| 0 | |
| 7 |
Total lease receivables |
| $ | 4,274 |
| $ | 213 |
| $ | 156 |
| $ | 11 |
| $ | 59 |
| | | | | | | | | | | | | | | |
Americas |
| $ | 6,173 |
| $ | 107 |
| $ | 66 |
| $ | 10 |
| $ | 56 |
EMEA | |
| 2,415 | |
| 51 | |
| 3 | |
| 1 | |
| 51 |
Asia Pacific | |
| 676 | |
| 3 | |
| 1 | |
| 0 | |
| 2 |
Total loan receivables |
| $ | 9,264 |
| $ | 161 |
| $ | 69 |
| $ | 11 |
| $ | 110 |
| | | | | | | | | | | | | | | |
Americas |
| $ | 717 |
| $ | 8 |
| $ | 8 |
| $ | 1 |
| $ | 0 |
EMEA | |
| 1,671 | |
| 7 | |
| 7 | |
| 1 | |
| 1 |
Asia Pacific | |
| 1,922 | |
| 6 | |
| 5 | |
| 1 | |
| 1 |
Total participated receivables from IBM |
| $ | 4,310 |
| $ | 21 |
| $ | 20 |
| $ | 3 |
| $ | 2 |
| | | | | | | | | | | | | | | |
Total |
| $ | 17,848 |
| $ | 394 |
| $ | 245 |
| $ | 25 |
| $ | 171 |
(1) | At a contract level, which includes total billed and unbilled amounts for financing receivables aged greater than 90 days. |
(2) | Of the recorded investment not accruing, $128 million is individually evaluated for impairment with a related allowance of $110 million. Financing income recognized on these receivables was immaterial for the three and |
Credit Quality Indicators
The company’s credit quality indicators, which are based on rating agency data, publicly available information and information provided by customers, are reviewed periodically based on the relative level of risk. The resulting indicators are a numerical rating system that maps to Moody’s Investors Service credit ratings as shown below. The company uses information provided by Moody’s, where available, as one of many inputs in its determination of customer credit ratings. The credit quality of the customer is evaluated based on these indicators and is assigned the same risk rating whether the receivable is a lease, loan or participated from IBM.
18
The following tables present the amortized cost basis or recorded investment for Client Financing receivables by credit quality indicator at JuneSeptember 30, 2020 and December 31, 2019, respectively. Receivables with a credit quality indicator ranging from Aaa to Baa3 are considered investment grade. All others are considered non-investment grade. Effective January 1, 2020, under the new guidance for credit losses, the company discloses its credit quality by year of origination. Additionally, under the new guidance, the amortized cost is presented on a gross basis, whereas under the prior guidance, the company presented the recorded investment net of the allowance for credit losses. At JuneSeptember 30, 2020, the credit quality indicators reflect mitigating credit enhancement actions taken by the customercustomers which reduces the risk to the company.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | ||
(Dollars in millions) | | |
| | | | Americas |
| EMEA |
| Asia Pacific | | |
| | | | Americas |
| EMEA |
| Asia Pacific | ||||||||||||||||||||||||||||||||
At June 30, 2020 |
| | | |
| | | | Aaa – Baa3 |
| Ba1 – D |
| Aaa – Baa3 |
| Ba1 – D |
| Aaa – Baa3 |
| Ba1 – D | |||||||||||||||||||||||||||||||||||
At September 30, 2020 |
| | | |
| | | | Aaa – Baa3 |
| Ba1 – D |
| Aaa – Baa3 |
| Ba1 – D |
| Aaa – Baa3 |
| Ba1 – D | |||||||||||||||||||||||||||||||||||
Vintage year: | | | | | | | | | | |
| | |
| | |
| | |
| | |
| | |
| | | | | | | | | | |
| | |
| | |
| | |
| | |
| | |
| ||
2020 | | | | | | | | | | $ | 1,539 | | $ | 1,173 | | $ | 904 | | $ | 1,030 | | $ | 513 | | $ | 206 | | | | | | | | | | $ | 1,770 | | $ | 1,283 | | $ | 1,074 | | $ | 1,301 | | $ | 653 | | $ | 239 | ||
2019 | | | | | | | | | | | 2,054 | | | 1,175 | | | 882 | | | 810 | | | 659 | | | 235 | | | | | | | | | | | 1,322 | | | 752 | | | 644 | | | 592 | | | 551 | | | 142 | ||
2018 | | | | | | | | | | | 1,161 | | | 601 | | | 387 | | | 319 | | | 463 | | | 192 | | | | | | | | | | | 994 | | | 483 | | | 354 | | | 286 | | | 412 | | | 162 | ||
2017 | | | | | | | | | | | 575 | | | 254 | | | 104 | | | 165 | | | 240 | | | 68 | | | | | | | | | | | 418 | | | 191 | | | 89 | | | 142 | | | 199 | | | 58 | ||
2016 | | | | | | | | | | | 142 | | | 92 | | | 48 | | | 55 | | | 167 | | | 37 | | | | | | | | | | | 107 | | | 75 | | | 39 | | | 45 | | | 134 | | | 29 | ||
2015 and prior | | | | | | | | | | | 57 | | | 126 | | | 30 | | | 23 | | | 72 | | | 13 | | | | | | | | | | | 41 | | | 100 | | | 25 | | | 21 | | | 55 | | | 10 | ||
Total | | | | | | | | | | $ | 5,528 | | $ | 3,420 | | $ | 2,356 | | $ | 2,403 | | $ | 2,113 | | $ | 750 | | | | | | | | | | $ | 4,652 | | $ | 2,884 | | $ | 2,226 | | $ | 2,387 | | $ | 2,004 | | $ | 640 |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Lease Receivables | | Loan Receivables | | Participated Receivables from IBM | |||||||||||||||||||||
(Dollars in millions) | | | | | | | | Asia | | | | | | | | Asia | | | | | | | | Asia | |||
At December 31, 2019 |
| Americas |
| EMEA |
| Pacific |
| Americas |
| EMEA |
| Pacific |
| Americas |
| EMEA |
| Pacific | |||||||||
Credit Ratings: | |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| |
Aaa – Aa3 | | $ | 305 | | $ | 55 | | $ | 31 | | $ | 732 | | $ | 89 | | $ | 89 | | $ | 440 | | $ | 88 | | $ | 89 |
A1 – A3 | |
| 700 | |
| 88 | |
| 124 | |
| 1,166 | |
| 178 | |
| 237 | |
| 71 | |
| 271 | |
| 934 |
Baa1 – Baa3 | |
| 949 | |
| 153 | |
| 83 | |
| 1,756 | |
| 907 | |
| 107 | |
| 104 | |
| 762 | |
| 500 |
Ba1 – Ba2 | |
| 733 | |
| 206 | |
| 61 | |
| 1,461 | |
| 532 | |
| 159 | |
| 49 | |
| 442 | |
| 245 |
Ba3 – B1 | |
| 196 | |
| 137 | |
| 62 | |
| 444 | |
| 455 | |
| 46 | |
| 43 | |
| 88 | |
| 126 |
B2 – B3 | |
| 236 | |
| 45 | |
| 32 | |
| 513 | |
| 228 | |
| 33 | |
| 4 | |
| 18 | |
| 26 |
Caa – D | |
| 13 | |
| 5 | |
| 2 | |
| 32 | |
| 15 | |
| 3 | |
| 2 | |
| 0 | |
| 2 |
Total | | $ | 3,133 | | $ | 689 | | $ | 396 | | $ | 6,105 | | $ | 2,403 | | $ | 674 | | $ | 714 | | $ | 1,668 | | $ | 1,921 |
Troubled Debt Restructurings
The company did not have any significant troubled debt restructurings during the sixnine months ended JuneSeptember 30, 2020 or for the year ended December 31, 2019.
7. Leases
Accounting for Leasesleases as a Lessorlessor
The following table presents amounts included in the Consolidated Income Statement related to lessor activity:
| | | | | | | | | ||||
(Dollars in millions) | | | | | | | | | ||||
For the three months ended June 30: |
| 2020 | | 2019 | ||||||||
For the three months ended September 30: |
| 2020 | | 2019 | ||||||||
Financing lease revenue | | $ | 43 | | $ | 51 | | $ | 36 | | $ | 50 |
Operating lease revenue | | 54 | | 70 | | 52 | | 67 | ||||
Variable lease revenue | | | 1 | | | 2 | | | 5 | | | 6 |
Total lease revenue | | $ | 98 | | $ | 124 | | $ | 93 | | $ | 124 |
19
| | | | | | | | | ||||
(Dollars in millions) | | | | | | | | | ||||
For the six months ended June 30: |
| 2020 | | 2019 | ||||||||
For the nine months ended September 30: |
| 2020 | | 2019 | ||||||||
Financing lease revenue | | $ | 93 | | $ | 107 | | $ | 129 | | $ | 157 |
Operating lease revenue | | 112 | | 149 | | 165 | | 216 | ||||
Variable lease revenue | | | 12 | | | 12 | | | 17 | | | 19 |
Total lease revenue | | $ | 217 | | $ | 268 | | $ | 310 | | $ | 391 |
8. Borrowings:
Short-Term Debt
| | | | | | | | | | | | | | |
| | Balance | | Balance | | | Balance | | Balance | | ||||
(Dollars in millions) |
| 6/30/2020 |
| 12/31/2019 |
|
| 9/30/2020 |
| 12/31/2019 |
| ||||
Commercial paper | | $ | — | | $ | 304 | | | $ | — | | $ | 304 | |
Short-term loans | | | 77 | | | 49 | | | | 43 | | | 49 | |
Secured borrowings | | | 169 | | | 280 | | | | 72 | | | 280 | |
Debt | | $ | 245 | | $ | 633 | | | $ | 116 | | $ | 633 | |
Debt payable to IBM | |
| 5,938 | |
| 8,194 | | |
| 5,897 | |
| 8,194 | |
Total | | $ | 6,184 | | $ | 8,827 | | | $ | 6,012 | | $ | 8,827 | |
The weighted-average interest rate for commercial paper was 1.6 percent at December 31, 2019. The weighted-average interest rate for short-term loans was 3.13.7 percent and 5.2 percent at JuneSeptember 30, 2020 and December 31, 2019, respectively. The weighted-average interest rate for secured borrowings was 3.02.7 percent and 3.6 percent at JuneSeptember 30, 2020 and December 31, 2019, respectively. Short-term financing receivables pledged as collateral for short-term secured borrowings were $169$72 million at JuneSeptember 30, 2020 and $280 million at December 31, 2019. The weighted-average interest rate for debt payable to IBM was 0.30.4 percent and 1.6 percent at JuneSeptember 30, 2020 and December 31, 2019, respectively.
20
Long-Term Debt
| | | | | | | | | | | | | | | | |
|
| |
| Balance |
| Balance |
| |
| Balance |
| Balance | ||||
(Dollars in millions) |
| Maturities | | 6/30/2020 |
| 12/31/2019 |
| Maturities | | 9/30/2020 |
| 12/31/2019 | ||||
Long-term notes (weighted-average interest rate at June 30, 2020) | | | | | | | | | ||||||||
Long-term notes (weighted-average interest rate at September 30, 2020) | | | | | | | | | ||||||||
2.1% | | 2020 | | $ | 1,500 | | $ | 1,500 | | 2020 | | $ | 1,500 | | $ | 1,500 |
2.1% | | 2021 | | | 2,850 | | | 2,850 | ||||||||
1.9% | | 2021 | | | 2,850 | | | 2,850 | ||||||||
2.2% | | 2022 | | | 500 | | | 500 | | 2022 | | | 500 | | | 500 |
3.0% | | 2023 | | | 750 | | | 750 | | 2023 | | | 750 | | | 750 |
| | | | $ | 5,600 | | $ | 5,600 | | | | $ | 5,600 | | $ | 5,600 |
| | | | | | | | | | | | | | | | |
Long-term loans (4.2% weighted-average interest rate at June 30, 2020) | | 2020-2021 | | | 49 | | | 113 | ||||||||
Secured borrowings (4.1% weighted-average interest rate at June 30, 2020) | | 2020-2026 | | | 590 | | | 781 | ||||||||
Long-term loans (3.6% weighted-average interest rate at September 30, 2020) | | 2020-2024 | | | 120 | | | 113 | ||||||||
Secured borrowings (4.1% weighted-average interest rate at September 30, 2020) | | 2020-2026 | | | 524 | | | 781 | ||||||||
Long-term debt | | | | $ | 6,239 | | $ | 6,495 | | | | $ | 6,244 | | $ | 6,495 |
Less: net unamortized discount | | | | | 1 | | | 1 | | | | | 1 | | | 1 |
Less: net unamortized debt issuance costs | | | | | 3 | | | 5 | | | | | 2 | | | 5 |
Add: fair value adjustment* | | | | | 77 | | | 28 | | | | | 65 | | | 28 |
Debt | | | | $ | 6,312 | | $ | 6,517 | | | | $ | 6,307 | | $ | 6,517 |
Debt payable to IBM (1.4% weighted-average interest rate at June 30, 2020) | | | |
| 8,370 | |
| 8,751 | ||||||||
Debt payable to IBM (1.3% weighted-average interest rate at September 30, 2020) | | | |
| 7,975 | |
| 8,751 | ||||||||
Total | | | | $ | 14,682 | | $ | 15,268 | | | | $ | 14,281 | | $ | 15,268 |
* | The portion of the company's fixed-rate debt obligations that is hedged is reflected in the Consolidated Balance Sheet as an amount equal to the sum of the debt's carrying value and a fair value adjustment representing changes in the fair value of the hedged debt obligations attributable to movements in benchmark interest rates. |
The company utilizes certain of its financing receivables as collateral. Long-term financing receivables pledged as collateral for long-term secured borrowings were $590$524 million at JuneSeptember 30, 2020 and $781 million at December 31, 2019.
20
The company’s indenture governing its debt securities contains significant covenants which obligate the company to promptly pay principal and interest, limit the aggregate amount of liens (other than permitted liens as such term is defined under the indenture) to 15 percent of the company’s consolidated net tangible assets, and restrict the company’s ability to merge or consolidate unless certain conditions are met.
Pre-swap annual contractual obligations of long-term debt and long-term debt payable to IBM outstanding at JuneSeptember 30, 2020, are as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | 2020 | | | | | | | | | | | | | 2025 and | | | | | 2020 | | | | | | | | | | | | | 2025 and | | | | ||||||
(Dollars in millions) |
| (Q3-Q4) |
| 2021 |
| 2022 |
| 2023 |
| 2024 |
| beyond |
| Total |
| (Q4) |
| 2021 |
| 2022 |
| 2023 |
| 2024 |
| beyond |
| Total | ||||||||||||||
Long-term debt | | $ | 1,702 | | $ | 3,135 | | $ | 609 | | $ | 786 | | $ | 5 | | $ | 0 | | $ | 6,239 | | $ | 1,587 | | $ | 3,142 | | $ | 643 | | $ | 790 | | $ | 82 | | $ | 0 | | $ | 6,244 |
Debt payable to IBM | |
| 2,297 | | | 2,832 | | | 2,113 | | | 786 | | | 267 | | | 75 | | | 8,370 | |
| 1,226 | | | 3,249 | | | 2,151 | | | 884 | | | 369 | | | 96 | | | 7,975 |
Total | | $ | 3,999 | | $ | 5,967 | | $ | 2,723 | | $ | 1,572 | | $ | 272 | | $ | 76 | | $ | 14,609 | | $ | 2,813 | | $ | 6,390 | | $ | 2,794 | | $ | 1,675 | | $ | 451 | | $ | 96 | | $ | 14,219 |
Interest on Debt
The company recognized interest expense of $72$61 million and $166$227 million for the three and sixnine months ended JuneSeptember 30, 2020, of which $35$32 million and $84$116 million was interest expense on debt payable to IBM, respectively. The company recognized interest expense of $135$115 million and $285$400 million for the three and sixnine months ended JuneSeptember 30, 2019, of which $58 million and $131$189 million was interest expense on debt payable to IBM, respectively.
21
Lines of Credit
On July 2, 2020, IBM and the company entered into a new $2.5 billion 364-day Credit Agreement to replace the existing $2.5 billion 364-day Credit Agreement, and also extended the maturity date of the existing $2.5 billion Three-Year Credit Agreement (together, the Credit Agreements). The new maturity dates for the 364-day and Three-Year Credit Agreements are July 1, 2021 and July 20, 2023, respectively. As of JuneSeptember 30, 2020, the company had 0 borrowings outstanding against the Credit Agreements.
The company’s Credit Agreements each contain significant debt covenants, which obligate the company to promptly pay principal and interest, limit the aggregate amount of secured indebtedness and sale and leaseback transactions to 10 percent of IBM’s consolidated net tangible assets, and restrict the ability of the company or IBM to merge or consolidate with a third party, unless certain conditions are met. The Credit Agreements also include several financial covenants, including that (i) IBM will not permit the consolidated net interest expense ratio, for any period of four consecutive fiscal quarters taken as a single accounting period, to be less than 2.20 to 1.0; (ii) the company will not permit its tangible net worth to be less than $50 million as of the end of the fiscal year and (iii) the company’s leverage ratio cannot be greater than 11 to 1 as of the last day of the fiscal quarter. The Credit Agreements each contain a cross default provision with respect to other defaulted indebtedness of at least $500 million.
The company is in compliance with its debt covenants, and provides periodic certifications to its lenders. The failure to comply with its debt covenants could constitute an event of default. If certain events of default were to occur, the principal and interest on the debt to which such event of default applied would become immediately due and payable. The Borrowers are also restricted from amending, modifying or terminating the Support Agreement in any manner materially adverse to the lenders. For additional information on the Support Agreement, see note 14, “Relationship with IBM and Related Party Transactions.”
9. Commitments:
The company’s extended lines of credit to third-party entities include unused amounts of $1.7 billion and $1.8 billion at both JuneSeptember 30, 2020 and December 31, 2019.2019, respectively. A portion of these amounts is available to the company’s business partners to support their working capital needs. In addition, the company has committed to provide future financing to its clients in connection with client purchase agreements for approximately $5.7$5.2 billion and $5.4 billion at JuneSeptember 30, 2020 and December 31, 2019, respectively. Effective January 1, 2020, the company adopted the new accounting standard on credit losses, which resulted in the recognition of a related allowance for non-cancellable off-balance sheet commitments. Refer to
21
note 2, “Accounting Changes,” for additional information. The allowance for these commitments is recorded in other liabilities in the Consolidated Balance Sheet and was not material at JuneSeptember 30, 2020. The company collectively evaluates the allowance for these arrangements using a provision methodology consistent with the portfolio of the commitments. Refer to note 6, “Financing Receivables, Receivables Purchased/Participated from IBM,” for additional information.
10. Contingencies:
The company is, or may be, involved, either as plaintiff or defendant, in a variety of ongoing claims, demands, suits, investigations, tax matters and proceedings that arise in the ordinary course of its business. Certain of these actions and proceedings are similar to suits filed against other financial institutions and captive finance companies. These may include collection and bankruptcy proceedings related to its leases and loans and proceedings concerning client allegations of wrongful repossession or defamation of credit.
The company reviews claims, suits, investigations and proceedings at least quarterly, and decisions are made with respect to recording or adjusting provisions and disclosing reasonably possible losses or range of losses (individually or in the aggregate). In addition, the company also discloses matters based on its consideration of other matters and qualitative factors, including the experience of other companies in the industry, and investor, client and employee relations considerations.
22
The company records a provision with respect to a claim, suit, investigation or proceeding when it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. Any recorded liabilities, including any changes to such liabilities for the quarter ended JuneSeptember 30, 2020 were not material to the Consolidated Financial Statements.
In accordance with the relevant accounting guidance, the company provides disclosures of matters for which the likelihood of material loss is at least reasonably possible. As of JuneSeptember 30, 2020, there were no such matters.
11. Equity Activity:
IBM Credit had 0 unrealized gains or (losses) on cash flow hedges and gains and losses on available-for-sale securities were immaterial during the periods presented in the following tables:
Reclassifications and Taxes Related to Items of Other Comprehensive Income
| | | | | | | | | | | | | | | | | | |
(Dollars in millions) | | Before Tax | | Tax (Expense)/ | | Net of Tax | | Before Tax | | Tax (Expense)/ | | Net of Tax | ||||||
For the three months ended June 30, 2020: |
| Amount |
| Benefit |
| Amount | ||||||||||||
For the three months ended September 30, 2020: |
| Amount |
| Benefit |
| Amount | ||||||||||||
Other comprehensive income/(loss): | | | |
| | | | | | | | |
| | | | | |
Foreign currency translation adjustments |
| $ | 36 | | $ | 14 | | $ | 51 |
| $ | 60 | | $ | 8 | | $ | 69 |
Retirement-related benefit plans (1): |
| | | | | | | | |
| | | | | | | | |
Net (losses)/gains arising during the period | | $ | — | | $ | — | | $ | — | | $ | — | | $ | — | | $ | — |
Curtailments and settlements | |
| 0 | | | 0 | | | 0 | |
| 0 | | | 0 | | | 0 |
Amortization of prior service (credits)/costs | |
| 0 | | | 0 | | | 0 | |
| 0 | | | 0 | | | 0 |
Amortization of net (gains)/losses | |
| 1 | | | 0 | | | 1 | |
| 1 | | | 0 | | | 1 |
Total retirement-related benefit plans |
| $ | 1 | | $ | 0 | | $ | 1 |
| $ | 1 | | $ | 0 | | $ | 1 |
Other comprehensive income/(loss) | | $ | 37 | | $ | 14 | | $ | 52 | | $ | 61 | | $ | 8 | | $ | 69 |
(1) | These accumulated other comprehensive income (AOCI) components are included in the computation of net periodic pension cost. (Refer to note 13, "Retirement-Related Benefits," for additional information.) |
22
Reclassifications and Taxes Related to Items of Other Comprehensive Income
| | | | | | | | | |
(Dollars in millions) | | Before Tax | | Tax (Expense)/ | | Net of Tax | |||
For the three months ended June 30, 2019: |
| Amount |
| Benefit |
| Amount | |||
Other comprehensive income/(loss): | | | | | | | | | |
Foreign currency translation adjustments | | $ | 16 | | $ | 2 | | $ | 19 |
Retirement-related benefit plans (1): | | | | | | | | | |
Net (losses)/gains arising during the period | | $ | — | | $ | 0 | | $ | 0 |
Curtailments and settlements | | | — | | | — | | | — |
Amortization of prior service (credits)/costs | | | 0 | | | 0 | | | 0 |
Amortization of net (gains)/losses | | | 0 | | | 0 | | | 0 |
Total retirement-related benefit plans | | $ | 0 | | $ | 0 | | $ | 0 |
Other comprehensive income/(loss) | | $ | 17 | | $ | 2 | | $ | 19 |
Reclassifications and Taxes Related to Items of Other Comprehensive Income
| | | | | | | | | |
(Dollars in millions) | | Before Tax | | Tax (Expense)/ | | Net of Tax | |||
For the six months ended June 30, 2020: |
| Amount |
| Benefit |
| Amount | |||
Other comprehensive income/(loss): | | | |
| | | | | |
Foreign currency translation adjustments | | $ | (120) |
| $ | (3) | | $ | (123) |
Retirement-related benefit plans (1): | | | | | | | | | |
Net (losses)/gains arising during the period | | $ | 0 |
| $ | 0 | | $ | 0 |
Curtailments and settlements | |
| 0 | | | 0 | | | 0 |
Amortization of prior service (credits)/costs | |
| 0 |
|
| 0 | |
| 0 |
Amortization of net (gains)/losses | |
| 2 | | | 0 | | | 2 |
Total retirement-related benefit plans | | $ | 2 | | $ | 0 | | $ | 2 |
Other comprehensive income/(loss) | | $ | (118) | | $ | (3) | | $ | (121) |
Reclassifications and Taxes Related to Items of Other Comprehensive Income
| | | | | | | | | | | | | | | | | | |
(Dollars in millions) | | Before Tax | | Tax (Expense)/ | | Net of Tax | | Before Tax | | Tax (Expense)/ | | Net of Tax | ||||||
For the six months ended June 30, 2019: |
| Amount |
| Benefit |
| Amount | ||||||||||||
For the three months ended September 30, 2019: |
| Amount |
| Benefit |
| Amount | ||||||||||||
Other comprehensive income/(loss): | | | |
| | | | | | | | | | | | | | |
Foreign currency translation adjustments | | $ | 20 |
| $ | 5 | | $ | 25 | | $ | (76) | | $ | (17) | | $ | (93) |
Retirement-related benefit plans (1): | | | | | | | | | | | | | | | | | | |
Net (losses)/gains arising during the period | | $ | 0 |
| $ | 0 | | $ | 0 | | $ | — | | $ | — | | $ | — |
Curtailments and settlements | |
| — |
|
| — | |
| — | | | — | | | — | | | — |
Amortization of prior service (credits)/costs | |
| 0 |
|
| 0 | |
| 0 | | | 0 | | | 0 | | | 0 |
Amortization of net (gains)/losses | |
| 1 | | | 0 | | | 1 | | | 0 | | | 0 | | | 0 |
Total retirement-related benefit plans | | $ | 0 | | $ | 0 | | $ | 0 | | $ | 0 | | $ | 0 | | $ | 0 |
Other comprehensive income/(loss) | | $ | 20 | | $ | 5 | | $ | 25 | | $ | (75) | | $ | (17) | | $ | (93) |
(1) | These AOCI components are included in the computation of net periodic pension cost. (Refer to note 13, "Retirement-Related Benefits," for additional information.) |
23
Reclassifications and Taxes Related to Items of Other Comprehensive Income
| | | | | | | | | |
(Dollars in millions) | | Before Tax | | Tax (Expense)/ | | Net of Tax | |||
For the nine months ended September 30, 2020: |
| Amount |
| Benefit |
| Amount | |||
Other comprehensive income/(loss): | | | |
| | | | | |
Foreign currency translation adjustments | | $ | (60) |
| $ | 6 | | $ | (54) |
Retirement-related benefit plans (1): | | | | | | | | | |
Net (losses)/gains arising during the period | | $ | 0 |
| $ | 0 | | $ | 0 |
Curtailments and settlements | |
| 0 | | | 0 | | | 0 |
Amortization of prior service (credits)/costs | |
| 0 |
|
| 0 | |
| 0 |
Amortization of net (gains)/losses | |
| 3 | | | 0 | | | 2 |
Total retirement-related benefit plans | �� | $ | 3 | | $ | 0 | | $ | 2 |
Other comprehensive income/(loss) | | $ | (57) | | $ | 5 | | $ | (52) |
(1) | These AOCI components are included in the computation of net periodic pension cost. (Refer to note 13, "Retirement-Related Benefits," for additional information.) |
Reclassifications and Taxes Related to Items of Other Comprehensive Income
| | | | | | | | | |
(Dollars in millions) | | Before Tax | | Tax (Expense)/ | | Net of Tax | |||
For the nine months ended September 30, 2019: |
| Amount |
| Benefit |
| Amount | |||
Other comprehensive income/(loss): | | | |
| | | | | |
Foreign currency translation adjustments | | $ | (56) |
| $ | (13) | | $ | (69) |
Retirement-related benefit plans (1): | | | | | | | | | |
Net (losses)/gains arising during the period | | $ | 0 |
| $ | 0 | | $ | 0 |
Curtailments and settlements | |
| — |
|
| — | |
| — |
Amortization of prior service (credits)/costs | |
| 0 |
|
| 0 | |
| 0 |
Amortization of net (gains)/losses | |
| 1 | | | 0 | | | 1 |
Total retirement-related benefit plans | | $ | 1 | | $ | 0 | | $ | 1 |
Other comprehensive income/(loss) | | $ | (55) | | $ | (13) | | $ | (68) |
(1) | These AOCI components are included in the computation of net periodic pension cost. (Refer to note 13, "Retirement-Related Benefits," for additional information.) |
24
Accumulated Other Comprehensive Income/(Loss) (net of tax)
| | | | | | | | | | | | | | | | | | |
| | | | | Net Change | | | | | | | | Net Change | | | | ||
| | Foreign | | Retirement- | | Accumulated | | Foreign | | Retirement- | | Accumulated | ||||||
| | Currency | | Related | | Other | | Currency | | Related | | Other | ||||||
| | Translation | | Benefit | | Comprehensive | | Translation | | Benefit | | Comprehensive | ||||||
(Dollars in millions) |
| Adjustments* |
| Plans |
| Income/(Loss) |
| Adjustments* |
| Plans |
| Income/(Loss) | ||||||
January 1, 2020 |
| $ | (12) |
| $ | (19) |
| $ | (31) |
| $ | (12) |
| $ | (19) |
| $ | (31) |
Other comprehensive income before reclassification | |
| (123) | |
| 0 | |
| (123) | |
| (54) | |
| 0 | |
| (54) |
Amount reclassified from accumulated other comprehensive income | |
| — | |
| 1 | |
| 1 | |
| — | |
| 2 | |
| 2 |
Total change for the period | |
| (123) | |
| 2 | |
| (121) | |
| (54) | |
| 2 | |
| (52) |
June 30, 2020 |
| $ | (135) |
| $ | (17) |
| $ | (153) | |||||||||
September 30, 2020 |
| $ | (67) |
| $ | (16) |
| $ | (83) |
* Foreign currency translation adjustments are presented gross except for any associated hedges which are presented net of tax.
| | | | | | | | | | | | | | | | | | |
| | | | | Net Change | | | | | | | | Net Change | | | | ||
| | Foreign | | Retirement- | | Accumulated | | Foreign | | Retirement- | | Accumulated | ||||||
| | Currency | | Related | | Other | | Currency | | Related | | Other | ||||||
| | Translation | | Benefit | | Comprehensive | | Translation | | Benefit | | Comprehensive | ||||||
(Dollars in millions) |
| Adjustments* |
| Plans |
| Income/(Loss) |
| Adjustments* |
| Plans |
| Income/(Loss) | ||||||
January 1, 2019 |
| $ | (23) | | $ | (10) |
| $ | (33) |
| $ | (23) | | $ | (10) |
| $ | (33) |
Other comprehensive income before reclassification | |
| 25 | | | 0 | | | 24 | |
| (69) | | | 0 | | | (69) |
Amount reclassified from accumulated other comprehensive income | |
| — | | | 1 | |
| 1 | |
| — | | | 1 | |
| 1 |
Total change for the period | |
| 25 | | | 0 | | | 25 | |
| (69) | | | 1 | | | (68) |
June 30, 2019 |
| $ | 1 | | $ | (9) | | $ | (8) | |||||||||
September 30, 2019 |
| $ | (92) | | $ | (9) | | $ | (101) |
* Foreign currency translation adjustments are presented gross except for any associated hedges which are presented net of tax.
12. Derivative Financial Instruments:
The company operates in multiple currencies and is a lender and issuer in the capital markets and a borrower from IBM. In the normal course of business, the company may be exposed to the impact of interest rate changes and foreign currency fluctuations. The company limits its exposure to core market risks by following established risk management policies and procedures, and through the use of match-funding with IBM and third parties. Although the company seeks to substantially match-fund the terms, currency and interest rate variability of its debt against its underlying financial assets, risks may arise between assets and the related liabilities used for funding. The company may also choose to mitigate any remaining exposure relating to interest rate changes and foreign currency fluctuations through the use of interest rate or foreign exchange derivatives.
Derivative assets and liabilities are recorded in other assets and other liabilities in the Consolidated Balance Sheet and are presented on a gross basis. The notional amounts of the derivative instruments do not necessarily represent amounts exchanged by the company with IBM and third parties, and are not necessarily a direct measure of the financial exposure. The company also enters into master netting agreements with certain counterparties that allow for netting of exposures in the event of default or breach. However, in the Consolidated Balance Sheet, the company does not offset derivative assets against liabilities in master netting arrangements. If derivatives exposures covered by a qualifying master netting agreement with IBM had been netted in the Consolidated Balance Sheet at JuneSeptember 30, 2020 and December 31, 2019, the total derivative asset and liability positions would each have been reduced by $26$36 million and $18 million, respectively.
Interest Rate Risk
Fixed and Variable Rate Borrowings
The company issues debt in the capital markets to fund its operations. Access to cost-effective financing can result in interest rate mismatches with the underlying assets. To manage these mismatches and to reduce overall interest cost, the company may enter into interest-rate swaps with IBM to convert specific fixed-rate debt issuances into variable-rate debt
2425
(i.e., fair value hedges) and to convert variable-rate debt issuances into fixed-rate debt (i.e., cash flow hedges). At JuneSeptember 30, 2020 and December 31, 2019, the total notional amount of the company's interest rate swap contracts with IBM was $2,550 million at both periods. The weighted average remaining maturity of these instruments at JuneSeptember 30, 2020 and December 31, 2019, was approximately 1.51.2 years and 2.0 years, respectively. These interest rate contracts were accounted for as fair value hedges. The company did not have any cash flow hedges relating to this program outstanding at JuneSeptember 30, 2020 and December 31, 2019.
Foreign Exchange Risk
Long-Term Investments in Foreign Subsidiaries (Net Investment)
The company enters into foreign exchange derivatives with IBM as a hedge of net investment of its foreign subsidiaries to reduce the volatility in member's interest caused by changes in foreign currency exchange rates in the functional currency of major foreign subsidiaries with respect to the U.S. dollar. At JuneSeptember 30, 2020 and December 31, 2019, the total notional amount of derivative contracts with IBM designated as net investment hedges was $948$870 million and $1,229 million, respectively. The weighted average remaining maturity of these instruments at JuneSeptember 30, 2020 and December 31, 2019, was 0.3 years and 0.2 years respectively.at both periods.
Foreign Currency Asset/Liability Management
The company enters into foreign exchange derivative contracts to manage foreign currency exposures associated with the company’s funding from IBM and third parties. These derivatives are not designated as hedges for accounting purposes. However, these derivatives represent economic hedges which provide an economic offset to the underlying foreign currency exposure. The terms of these derivative contracts are generally less than one year. The gains and losses recognized on economic hedges are recorded in other (income) and expense in the Consolidated Income Statement, and the associated cash flows are included in other investing activities - net, in the Consolidated Statement of Cash Flows.
There were 0 foreign exchange derivative contracts with third parties outstanding at JuneSeptember 30, 2020 and December 31, 2019.
The following tables provide a quantitative summary of the derivative instrument-related risk management activity at June 30, 2020 and December 31, 2019, as well as for the three and six months ended June 30, 2020 and 2019, respectively.
Cumulative Basis Adjustments for Fair Value Hedges
At JuneSeptember 30, 2020 and December 31, 2019, the following amounts were recorded in the Consolidated Balance Sheet related to cumulative basis adjustments for fair value hedges.
| | | | | | | | | | | | |
(Dollars in millions) |
| |
| |
| |
| | ||||
Line Item in the Consolidated Balance Sheet | | At June 30, | | At December 31, | | At September 30, | | At December 31, | ||||
in which the Hedged Item is Included: | | 2020 | | 2019 | | 2020 | | 2019 | ||||
Debt: | | | | | | | | | | | | |
Carrying amount of the hedged item | | $ | (2,625) | | $ | (2,574) | | $ | (2,613) | | $ | (2,574) |
Cumulative hedging adjustments included in the carrying amount - assets/(liabilities) | | | (77) | | | (28) | | | (65) | | | (28) |
2526
The Effect of Derivative Instruments in the Consolidated Income Statement
The total amounts of income and expense line items presented in the Consolidated Income Statement in which the effects of fair value hedges, net investment hedges and derivatives not designated as hedging instruments are recorded and the total effect of hedge activity on these income and expense line items, are as follows:
| | | | | | | | | | | | |
| | | | Gains/(Losses) of | ||||||||
(Dollars in millions) | | Total | | Total Hedge Activity | ||||||||
For the three months ended September 30: |
| 2020 |
| 2019 | | 2020 |
| 2019 | ||||
Financing cost | | $ | 66 |
| $ | 122 | | $ | 13 |
| $ | 9 |
| | | | | | | | | | | | | | | ||||||||||||
| | | | | | | | | | | | | Gain/(Loss) Recognized in Consolidated Income Statement | |||||||||||||
| | | | Gains/(Losses) of | | Consolidated | | Recognized on | | Attributable to Risk | ||||||||||||||||
(Dollars in millions) | | Total | | Total Hedge Activity | | Income Statement | | Derivatives | | Being Hedged (2) | ||||||||||||||||
For the three months ended June 30: |
| 2020 |
| 2019 | | 2020 |
| 2019 | ||||||||||||||||||
Financing cost | | $ | 73 |
| $ | 137 | | $ | 10 |
| $ | 2 | ||||||||||||||
For the three months ended September 30: |
| Line Item |
| 2020 |
| 2019 |
| 2020 |
| 2019 | ||||||||||||||||
Derivative instruments in fair value hedges (1): | | | | | | | | | | | | | | | ||||||||||||
Interest rate contracts with IBM | | Financing cost | | $ | 0 | | $ | 5 | | $ | 12 | | $ | (8) | ||||||||||||
| | | | | | | | | | | | | | | ||||||||||||
Total | | | | $ | 0 | | $ | 5 |
| $ | 12 |
| $ | (8) |
| | | | | | | | | | | | | | |
| | Gain/(Loss) Recognized in Consolidated Income Statement | ||||||||||||
| | Consolidated | | Recognized on | | Attributable to Risk | ||||||||
(Dollars in millions) | | Income Statement | | Derivatives | | Being Hedged (2) | ||||||||
For the three months ended June 30: |
| Line Item |
| 2020 |
| 2019 |
| 2020 |
| 2019 | ||||
Derivative instruments in fair value hedges (1): | | | | | | | | | | | | | | |
Interest rate contracts with IBM | | Financing cost | | $ | 8 | | $ | 32 | | $ | (1) | | $ | (37) |
| | | | | | | | | | | | | | |
Total | | | | $ | 8 | | $ | 32 |
| $ | (1) |
| $ | (37) |
| | | | | | | | | | | | | | | | | | | | | ||||||||||||||||||||
| | Gain/(Loss) Recognized in Consolidated Income Statement and Other Comprehensive Income | | | | | | | | | | | | | | | | | | | | | ||||||||||||||||||
| | | | | | | | Consolidated | | | | | | | | | | | | | | Gain/(Loss) Recognized in Consolidated Income Statement and Other Comprehensive Income | ||||||||||||||||||
| | | | | | | | Income | | Reclassified | | Amounts Excluded from | | | | | | | | Consolidated | | | | | | | | | | | | | ||||||||
(Dollars in millions) | | Recognized in OCI | | Statement | | from AOCI | | Effectiveness Testing (3) | | | | | | | | Income | | Reclassified | | Amounts Excluded from | ||||||||||||||||||||
For the three months ended June 30: |
| 2020 |
| 2019 |
| Line Item |
| 2020 |
| 2019 |
| 2020 |
| 2019 | ||||||||||||||||||||||||||
For the three months | | Recognized in OCI | | Statement | | from AOCI | | Effectiveness Testing (3) | ||||||||||||||||||||||||||||||||
ended September 30: |
| 2020 |
| 2019 |
| Line Item |
| 2020 |
| 2019 |
| 2020 |
| 2019 | ||||||||||||||||||||||||||
Derivative instruments in net investment hedges: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Foreign exchange contracts with IBM | | $ | (56) | | $ | (8) |
| Financing cost | | $ | — | | $ | — | | $ | 2 | | $ | 7 | | $ | (34) | | $ | 67 |
| Financing cost | | $ | — | | $ | — | | $ | 1 | | $ | 12 |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Total | | $ | (56) | | $ | (8) | | | | $ | — | | $ | — | | $ | 2 | | $ | 7 | | $ | (34) | | $ | 67 | | | | $ | — | | $ | — | | $ | 1 | | $ | 12 |
(1) | The amount includes changes in clean fair values of the derivative instruments in fair value hedging relationships and the periodic accrual for coupon payments required under these derivative contracts. |
(2) | The amount includes basis adjustments to the carrying value of the hedged item recorded during the period. |
(3) | The company's policy is to recognize all fair value changes in amounts excluded from effectiveness testing in net income each period. |
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | Gains/(Losses) of | | | | Gains/(Losses) of | ||||||||||||||||
(Dollars in millions) | | Total | | Total Hedge Activity | | Total | | Total Hedge Activity | ||||||||||||||||
For the six months ended June 30: |
| 2020 |
| 2019 | | 2020 |
| 2019 | ||||||||||||||||
For the nine months ended September 30: |
| 2020 |
| 2019 | | 2020 |
| 2019 | ||||||||||||||||
Financing cost | | $ | 178 |
| $ | 297 | | $ | 19 |
| $ | 7 | | $ | 244 |
| $ | 419 | | $ | 32 |
| $ | 16 |
2627
| | | | | | | | | | | | | | |
| | Gain/(Loss) Recognized in Consolidated Income Statement | ||||||||||||
| | Consolidated | | Recognized | | Attributable to Risk | ||||||||
(Dollars in millions) | | Income Statement | | on Derivatives | | Being Hedged (2) | ||||||||
For the six months ended June 30: |
| Line Item |
| 2020 |
| 2019 |
| 2020 |
| 2019 | ||||
Derivative instruments in fair value hedges (1): | | | | | | | | | | | | | | |
Interest rate contracts with IBM |
| Financing cost | | $ | 60 | | $ | 52 | | $ | (49) | | $ | (62) |
| | | | | | | | | | | | | | |
Total | | | | $ | 60 | | $ | 52 | | $ | (49) | | $ | (62) |
| | | | | | | | | | | | | | |
| | Gain/(Loss) Recognized in Consolidated Income Statement | ||||||||||||
| | Consolidated | | Recognized | | Attributable to Risk | ||||||||
(Dollars in millions) | | Income Statement | | on Derivatives | | Being Hedged (2) | ||||||||
For the nine months ended September 30: |
| Line Item |
| 2020 |
| 2019 |
| 2020 |
| 2019 | ||||
Derivative instruments in fair value hedges (1): | | | | | | | | | | | | | | |
Interest rate contracts with IBM |
| Financing cost | | $ | 60 | | $ | 57 | | $ | (37) | | $ | (70) |
| | | | | | | | | | | | | | |
Total | | | | $ | 60 | | $ | 57 | | $ | (37) | | $ | (70) |
| | | | | | | | | | | | | | | | | | | | | | | | ||||||||||||||||||||
| | Gain/(Loss) Recognized in Consolidated Income Statement and Other Comprehensive Income | | | | | | | | | | | | | | | | | | | | | |||||||||||||||||||||
| | | | | | | | | Consolidated | | | | | | | | | | | | | | | | Gain/(Loss) Recognized in Consolidated Income Statement and Other Comprehensive Income | ||||||||||||||||||
| | | | Income | | | | Amounts Excluded from | | | | | | | | Consolidated | | | | | | | | | | | | | |||||||||||||||
(Dollars in millions) | | Recognized in OCI | | Statement | | Reclassified from AOCI | | Effectiveness Testing (3) | | | | Income | | | | Amounts Excluded from | |||||||||||||||||||||||||||
For the six months ended June 30: |
| 2020 |
| 2019 |
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| Line Item |
| 2020 |
| 2019 |
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| 2020 |
| 2019 |
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For the nine months | | Recognized in OCI | | Statement | | Reclassified from AOCI | | Effectiveness Testing (3) | |||||||||||||||||||||||||||||||||||
ended September 30: |
| 2020 |
| 2019 |
| Line Item |
| 2020 |
| 2019 |
| 2020 |
| 2019 | |||||||||||||||||||||||||||||
Derivative instruments in net investment hedges: | | |
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Foreign exchange contracts with IBM | | $ | 11 | | $ | (18) | |
| Financing cost | | $ | — | | $ | — | | | $ | 9 | | $ | 17 | | | $ | (23) | | $ | 49 |
| Financing cost | | $ | — | | $ | — | | $ | 10 | | $ | 28 |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Total | | $ | 11 | | $ | (18) | |
|
| | $ | — | | $ | — | | | $ | 9 | | $ | 17 | | | $ | (23) | | $ | 49 |
|
| | $ | — | | $ | — | | $ | 10 | | $ | 28 |
(1) | The amount includes changes in clean fair values of the derivative instruments in fair value hedging relationships and the periodic accrual for coupon payments required under these derivative contracts. |
(2) | The amount includes basis adjustments to the carrying value of the hedged item recorded during the period. |
(3) | The company's policy is to recognize all fair value changes in amounts excluded from effectiveness testing in net income each period. |
For the three and sixnine months ended JuneSeptember 30, 2020 and 2019, there were no material gains or losses excluded from the assessment of hedge effectiveness (for fair value hedges); nor are there any anticipated in the normal course of business.
13. Retirement-Related Benefits:
IBM Credit employees are eligible to participate in IBM’s retirement plans. Retirement-related plans are accounted for as multiemployer, multiple-employer, or defined contribution plans as required by local regulations.
Multiemployer and Defined Contribution Plans:
IBM charges the company for multiemployer and defined contribution costs based on the number of employees. The charges are recorded in the company’s operating results in the Consolidated Income Statement. The amounts of (income) or expense attributed to the company by IBM for the three and sixnine months ended JuneSeptember 30, 2020 and 2019 were not material.
Charges from IBM to the company in relation to these plans (including non pension post retirement benefits) are limited to service costs and defined contribution cost. Contributions to multiemployer and defined contribution plans and any other types of cost are the responsibility of IBM.
Multiple-employer Plans:
For multiple-employer plans (mainly in Germany, Spain and Japan), assets and obligations are based on actuarial valuations or allocations and are recorded in the Consolidated Balance Sheet.
Any gains or losses recorded to AOCI in the three and sixnine months ended JuneSeptember 30, 2020 and 2019, were not material.
2728
Costs related to multiple-employer plans are recorded in the company’s Consolidated Income Statement. The total costs for multiple-employer plans for the three and sixnine months ended JuneSeptember 30, 2020 and 2019, were not material.
14. Relationship with IBM and Related Party Transactions:
IBM Credit is a captive finance company and an indirect, wholly owned subsidiary of IBM. IBM Credit generally conducts its financing activities with IBM on an arm’s-length basis, subject in certain cases, particularly with respect to originations, to commercial factors, including IBM’s relationship with a client. The following is a description of certain material relationships between IBM Credit and IBM, regarding support, operating, borrowing, licensing, service and other arrangements.
Support Agreement
Pursuant to a Support Agreement between IBM and IBM Credit, IBM has agreed to retain, directly or indirectly, beneficial ownership of at least 51 percent of the equity voting interests in the company at all times. IBM has also agreed to cause the company to have a minimum consolidated tangible net worth of at least $50 million on the last day of each of the company’s fiscal years (with consolidated tangible net worth for purposes of this discussion of the Support Agreement understood to mean (a) the total assets of IBM Credit and its consolidated subsidiaries less (b) the intangible assets and total liabilities of IBM Credit and its consolidated subsidiaries). IBM has also agreed to cause the company to maintain a leverage ratio not to exceed 11 to 1 for each of the company’s fiscal quarters. Leverage ratio for purposes of this discussion of the Support Agreement is understood to mean, for any calendar quarter, IBM Credit’s debt-to-equity ratio as reported in, and calculated in the manner set forth in, IBM Credit’s periodic report covering such fiscal quarter (refer to page 32 of this Form 10-Q).quarter. In the event that the company’s leverage ratio at the end of any fiscal quarter is higher than 11 to 1, then, upon demand by the company, IBM has agreed to make or cause to be made a capital contribution to the company in an amount sufficient to cause the company’s leverage ratio to not exceed 11 to 1. The Support Agreement is not a guarantee by IBM of any indebtedness, other obligation, or liability of any kind of IBM Credit.
Operating Relationship
The company originates financing with end-user clients, which are primarily IBM customers that elect to finance their acquisition of IBM’s hardware, software, and services. Where IBM Credit’s financing contract is bundled with IBM’s product and service contract to create a combined periodic payment schedule for the entire offering, the offering is termed a Total Solution Offering.
Within the Client Financing segment, the company participates in receivables from IBM for certain long-term financing receivables generated from IBM’s Total Solution Offerings in certain countries as well as for certain government and other contracts. The company carries the credit risk of IBM’s clients for all participated receivables from IBM. These receivables earned interest income of $54$55 million and $105$160 million in the three and sixnine months ended JuneSeptember 30, 2020, respectively, an increase of $7 million and an increase of $8$15 million as compared to the same periods in 2019, respectively. The interest income is included in the Consolidated Income Statement as financing revenue. For additional information, see note 6, “Financing Receivables, Receivables Purchased/Participated from IBM.”
In addition, within Client Financing, in certain countries, the company provides loans to IBM, primarily in support of IBM’s Global Technology Services segment’s acquisition of IT assets which it uses inused to support external, revenue-producing services contracts. This financing is included in the Consolidated Balance Sheet as financing receivables from IBM. For the three months ended JuneSeptember 30, 2020, the interest income earned from these receivables was $26$21 million, a decrease of $19 million as compared to the same period in 2019. For the sixnine months ended JuneSeptember 30, 2020, interest income earned was $60$81 million, a decrease of $29$48 million as compared to the same period in 2019. The declines in both periods were primarily driven by a decline in interest rates. The interest income is included in financing revenue in the Consolidated Income Statement. The amount of such financings outstanding was $3,735$3,937 million at JuneSeptember 30, 2020 and $3,870 million at December 31, 2019.
29
Within the Commercial Financing segment, the company purchases interests in certaintrade accounts receivable and other short-term receivables from IBM at a discount for which IBM Credit LLC assumes the associated credit risk of IBM’s clients. In the second quarter of 2019, the company suspended the program under which it purchases interests in IBM's trade accounts receivable. As a result,
28
forFor the three months ended JuneSeptember 30, 2020, finance income earned from these receivables was $2 million, a decrease of $6$2 million as compared to the same period in 2019. For the sixnine months ended JuneSeptember 30, 2020, finance income earned from these receivables was $6$7 million, a decrease of $17$19 million as compared to the same period in 2019.
In addition, within Commercial Financing, the company provides financing which includes an interest free period to suppliers, distributors and resellers of IBM products and services, which is funded by IBM. Fee income earned from these arrangements for the three months ended JuneSeptember 30, 2020 was $24$21 million, a decrease of $9$13 million as compared to the same period in 2019. Fee income earned for the sixnine months ended JuneSeptember 30, 2020 was $65$86 million, a decrease of $17$30 million as compared to the same period in 2019. These fees are included in financing revenue in the Consolidated Income Statement and are deferred and recognized over the term of the financing arrangement.
The company had 0 outstanding accounts payable to IBM at September 30, 2020 as compared to $336 million at December 31, 2019, which primarily relates to unsettled purchases of equipment or receivables/loans (for software and services) from IBM. These payables are settled on a net basis with receivables due from IBM related to amounts IBM collected from customers on the company’s behalf. In the third quarter of 2020, the account was in a receivable position and the net amount owed by IBM to IBM Credit is presented in other receivables from IBM in the Consolidated Balance Sheet. These accounts are non-interest bearing, short term in nature and expected to be settled in the normal course of business.
At September 30, 2020, other receivables from IBM of $792$814 million included $557 million of excess cash invested with IBM, and $513$251 million at June 30, 2020 andof receivables due from IBM primarily related to amounts IBM collected on the company’s behalf. At December 31, 2019, respectively, primarily relate to the investmentother receivables from IBM of a portion$513 million included $509 million of the company's excess cash invested with IBM. The company’s excess cash is invested with IBM in short-term interest bearing accounts, with IBM, which can be withdrawn upon demand and is presented in the investing section of the Consolidated Statement of Cash Flows. The company's investment of excessinterest income earned on cash invested with IBM was $781 million at June 30, 2020 and $509 million at December 31, 2019. Interest income earned from these investments was $1declined $5 million and $2 million in the three and six months ended June 30, 2020, respectively. Interest income earned for these investments was $7 million and $15$18 million for the three and sixnine months ended JuneSeptember 30, 2019, respectively.2020, respectively, as compared to the prior-year periods. The interest income is included in financing revenue in the Consolidated Income Statement.
Borrowing Relationship
The company has a credit facility with IBM that allows the company to obtain short- and long-term funding. These loans are included in the Consolidated Balance Sheet as debt payable to IBM. Interest expense incurred on loans from IBM was $35$32 million and $84$116 million for the three and sixnine months ended JuneSeptember 30, 2020, respectively, as compared to $58 million and $131$189 million for the three and sixnine months ended JuneSeptember 30, 2019, respectively. Interest expense is included in financing cost in the Consolidated Income Statement. For additional information on short-term and long-term funding, see note 8, “Borrowings.”
Services and Other Arrangements
The company sources a number of services from IBM, including functional support for treasury, accounting, legal, tax, human resources, marketing and IT. In certain instances, IBM acts as IBM Credit’s billing and collection agent and forwards the financing payments to IBM Credit. The company also has the right to use certain IBM intangible assets in its business. In addition, the company conducts its global operations primarily from IBM leased or IBM owned facilities. For these support services and occupancy expenses, IBM charged the company $38$37 million and $54$45 million in the three months ended JuneSeptember 30, 2020 and 2019, respectively, and $72$109 million and $102$147 million for the sixnine months ended JuneSeptember 30, 2020 and 2019, respectively.
The company participates in the various IBM stock-based compensation plans, including awards of Restricted Stock Units and Performance Share Units. In addition, the company participates in certain multiemployer retirement-related and defined contribution plans that are sponsored by IBM. Amounts charged by IBM to the company related to stock-basedstock-
30
based compensation, multiemployer retirement-related and defined contribution plans during the periods reported were not material.
Expenses related to the services discussed above are included in selling, general and administrative expense in the Consolidated Income Statement. These expenses may not be indicative of the expenses that IBM Credit will incur in the future, or would have incurred if the company had obtained these services from a third party.
The outstanding amount of accounts payable to IBM of $931 million at June 30, 2020 and $336 million at December 31, 2019 primarily relate to unsettled purchases of equipment or receivables/loans (for software and services) from IBM. This payable account is non-interest bearing, short term in nature and is expected to be settled in the normal course of business.
29
The company sells equipment returned from lease to IBM at cost, which approximates fair value. In addition, IBM may migrate a client to new technology. In the event this migration results in an early termination of a lease, IBM will purchase the returned equipment at a pre-negotiated price, which is a function of the discounted value of the scheduled future lease payments and the residual value. The company's net profit from sales of returned equipment to IBM was $19$4 million and $7$2 million for the three months ended JuneSeptember 30, 2020 and 2019, respectively. The company's net profit from sales of returned equipment to IBM was $21respectively, and $25 million and $9$11 million for the sixnine months ended JuneSeptember 30, 2020 and 2019, respectively. These sales are recorded net in other (income) and expense in the Consolidated Income Statement.
Tax Sharing Agreement
The company’s U.S. federal and certain state and foreign operations are included in various IBM consolidated tax returns; and, in such cases, IBM makes payments to tax authorities on the company’s behalf. IBM and the company maintain a Tax Sharing Agreement for any operations included in an IBM consolidated tax return, pursuant to which IBM charges the company for any taxes owed and reimburses the company for any tax attributes generated. Such charges or reimbursements are based upon a calculation of the company’s relevant pro forma stand-alone tax return.
3031
Item 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
FOR THE THREE AND SIXNINE MONTHS ENDED JUNESEPTEMBER 30,2020
Financial Results Summary — Three Months Ended JuneSeptember 30:
| | | | | | | | | |
|
| | |
| | |
| Yr.-to-Yr. |
|
| | | | | | | | Percent/ |
|
(Dollars in millions) | | | | | | | | Margin |
|
For the three months ended June 30: | | 2020 | | 2019 | | Change |
| ||
Revenue | | $ | 279 | | $ | 410 |
| (32.0) | % |
Net margin | | $ | 177 | | $ | 230 |
| (23.0) | % |
Net margin percentage | |
| 63.6 | % |
| 56.2 | % | 7.4 | pts. |
Total expense and other (income) | | $ | 74 | | $ | 94 |
| (21.9) | % |
Income before income taxes | | $ | 104 | | $ | 136 |
| (23.8) | % |
Provision for income taxes | | $ | 15 | | $ | 23 |
| (36.1) | % |
Net income | | $ | 89 | | $ | 113 |
| (21.2) | % |
Net income margin | | | 31.9 | % | | 27.6 | % | 4.3 | pts. |
| | | | | | | | | |
|
| | |
| | |
| Yr.-to-Yr. |
|
| | | | | | | | Percent/ |
|
(Dollars in millions) | | | | | | | | Margin |
|
For the three months ended September 30: | | 2020 | | 2019 | | Change |
| ||
Revenue | | $ | 266 | | $ | 372 |
| (28.6) | % |
Net margin | | $ | 174 | | $ | 212 |
| (18.0) | % |
Net margin percentage | |
| 65.3 | % |
| 56.9 | % | 8.4 | pts. |
Total expense and other (income) | | $ | 67 | | $ | 81 |
| (17.4) | % |
Income before income taxes | | $ | 107 | | $ | 131 |
| (18.3) | % |
Provision for income taxes | | $ | 21 | | $ | 22 |
| (3.4) | % |
Net income | | $ | 85 | | $ | 109 |
| (21.4) | % |
Net income margin | | | 32.1 | % | | 29.1 | % | 2.9 | pts. |
Financial Performance Summary — Three Months Ended JuneSeptember 30:
In the secondthird quarter of 2020, the company delivered revenue of $279$266 million and net income of $89$85 million, compared to revenue of $410$372 million and net income of $113$109 million in the same period of 2019.
Total revenue declined $131$106 million, or 32.028.6 percent, in the secondthird quarter of 2020 as compared to the same period in 2019, driven by a decrease in financing revenue of $115$91 million, or 33.829.9 percent, and by a decline in operating lease revenue of $16$15 million, or 23.222.4 percent. The decrease in financing revenue primarily reflects the company’s wind down of OEM IT Commercial Financing operations. The decline in operating lease revenue was due to aoperations and lower average asset balance when compared to the prior-year period.yields within Client Financing.
In the secondthird quarter of 2020, net margin, which is calculated as revenue minus financing cost and depreciation of equipment under operating lease, was $177$174 million, a decrease of 23.018.0 percent when compared to the same period in 2019. The decline in revenue was partially offset by decreases in financing cost and depreciation expense of $64$56 million and $14$12 million, respectively, when compared to the same period in the prior year. The decrease in financing cost was due to lower interest rates and a lower average debt balance. The decline in depreciation expense was driven by lower average operating lease asset balances. Net margin percentage of 63.665.3 percent in the secondthird quarter of 2020 increased 7.48.4 points as compared to the net margin percentage in the same period in 2019.
Total expense and other (income) of $74$67 million in the secondthird quarter of 2020 decreased $21$14 million, or 21.917.4 percent, compared to the same period in 2019.
Pre-tax income of $104$107 million in the secondthird quarter of 2020 decreased 23.818.3 percent as compared to the secondthird quarter of 2019. The pre-tax income margin in the secondthird quarter of 2020 of 37.240.1 percent increased on a year-to-year basis by 4.05.0 points.
The effective tax rate was 14.220.1 percent in the secondthird quarter of 2020, a decreasean increase of 2.83.1 points compared to the secondthird quarter of 2019.
Net income of $89$85 million decreased $24$23 million, or 21.221.4 percent, in the secondthird quarter of 2020 as compared to the same period in 2019. In the secondthird quarter of 2020, net income margin was 31.932.1 percent, an increase of 4.32.9 points on a year-to-year basis.
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Net cash provided byfrom operating activities was a use of $31cash of $118 million in the secondthird quarter of 2020 increased by $93 million when compared to a source of cash of $70 million in the prior-year period,third quarter of 2019. The year-to-year change of $187 million was primarily driven by lowerhigher net cash payments to IBM related to outstanding accounts payable. Net cash provided by investing activities of $983$1,161 million in the secondthird quarter of 2020 decreased by $4,641$1,017 million when compared to the prior-year period, primarily driven by a decrease in cash provided by short-term financing receivables which reflects the wind down of OEM IT Commercial financing operations in the prior year, partially offset by aproceeds on the sale of financing receivables.receivables in the current year. Net cash used in financing activities of $910$1,032 million in the secondthird quarter of 2020 was lower by $4,498$849 million when compared to the prior-year period, primarily driven by lower net settlements of debt.
Financial Results Summary — Six—Nine Months Ended JuneSeptember 30:
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
| | | | | | | | Percent/ |
|
(Dollars in millions) | | | | | | | | Margin |
|
For the six months ended June 30: |
| 2020 |
| 2019 |
| Change |
| ||
Revenue | | $ | 615 | | $ | 892 |
| (31.0) | % |
Net margin | | $ | 378 | | $ | 507 |
| (25.5) | % |
Net margin percentage | |
| 61.4 | % |
| 56.9 | % | 4.5 | pts. |
Total expense and other (income) | | $ | 145 | | $ | 178 |
| (18.1) | % |
Income before income taxes | | $ | 232 | | $ | 330 |
| (29.5) | % |
Provision for income taxes | | $ | 2 | | $ | 173 |
| (98.9) | % |
Net income | | $ | 231 | | $ | 156 |
| 47.4 | % |
Net income margin | | | 37.5 | % | | 17.5 | % | 19.9 | pts. |
| | | | | | | | | |
| | | | | | | | Yr.-to-Date |
|
| | At June 30, | | At December 31, | | Percent | | ||
(Dollars in millions) | | 2020 |
| 2019 |
| Change | | ||
Assets | | $ | 25,389 | | $ | 28,412 |
| (10.6) | % |
Liabilities | | $ | 23,046 | | $ | 25,726 |
| (10.4) | % |
Member’s interest | | $ | 2,343 | | $ | 2,686 |
| (12.8) | % |
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
| | | | | | | | Percent/ |
|
(Dollars in millions) | | | | | | | | Margin |
|
For the nine months ended September 30: |
| 2020 |
| 2019 |
| Change |
| ||
Revenue | | $ | 881 | | $ | 1,265 |
| (30.3) | % |
Net margin | | $ | 552 | | $ | 719 |
| (23.3) | % |
Net margin percentage | |
| 62.6 | % |
| 56.9 | % | 5.7 | pts. |
Total expense and other (income) | | $ | 212 | | $ | 259 |
| (17.9) | % |
Income before income taxes | | $ | 339 | | $ | 460 |
| (26.3) | % |
Provision for income taxes | | $ | 23 | | $ | 195 |
| (88.1) | % |
Net income | | $ | 316 | | $ | 265 |
| 19.2 | % |
Net income margin | | | 35.8 | % | | 21.0 | % | 14.9 | pts. |
| | | | | | | | | |
| | | | | | | | Yr.-to-Date |
|
| | At September 30, | | At December 31, | | Percent | | ||
(Dollars in millions) | | 2020 |
| 2019 |
| Change | | ||
Assets | | $ | 23,626 | | $ | 28,412 |
| (16.8) | % |
Liabilities | | $ | 21,353 | | $ | 25,726 |
| (17.0) | % |
Member’s interest | | $ | 2,273 | | $ | 2,686 |
| (15.4) | % |
Debt-to-Equity
| | | | | |
| | At June 30, | | At December 31, |
|
|
| 2020 |
| 2019 | |
Debt-to-equity ratio* |
| 8.9 | x | 9.0 | x |
| | | | | |
| | At September 30, | | At December 31, |
|
|
| 2020 |
| 2019 | |
Debt-to-equity ratio* |
| 8.9 | x | 9.0 | x |
* | The debt-to-equity ratio is calculated by dividing the total amount of debt outstanding by the total amount of member’s interest in the company at the end of the reporting period presented. |
Return on Equity
| | | | | | | | | | | | | | |
| | Three Months Ended | |
| Six Months Ended |
| ||||||||
| | June 30, | |
| June 30, |
| ||||||||
(Dollars in millions) | | 2020 | | 2019 | | | 2020 | | 2019 | | ||||
Net income | | $ | 89 | | $ | 113 | | | $ | 231 | | $ | 156 | |
Annualized net income (1) | | $ | 356 | | $ | 452 | | | $ | 461 | | $ | 313 | |
Average equity (2)* | | $ | 2,394 | | $ | 2,944 | | | $ | 2,491 | | $ | 3,103 | |
Return on equity (1)/(2) | |
| 14.9 | % |
| 15.4 | % | |
| 18.5 | % |
| 10.1 | % |
| | | | | | | | | | | | | | |
| | Three Months Ended | |
| Nine Months Ended |
| ||||||||
| | September 30, | |
| September 30, |
| ||||||||
(Dollars in millions) | | 2020 | | 2019 | | | 2020 | | 2019 | | ||||
Net income | | $ | 85 | | $ | 109 | | | $ | 316 | | $ | 265 | |
Annualized net income (1) | | $ | 341 | | $ | 434 | | | $ | 421 | | $ | 353 | |
Average equity (2)* | | $ | 2,308 | | $ | 2,612 | | | $ | 2,437 | | $ | 2,952 | |
Return on equity (1)/(2) | |
| 14.8 | % |
| 16.6 | % | |
| 17.3 | % |
| 12.0 | % |
* Average of the ending member's interest for the last two quarters and threefour quarters, for the three and sixnine months ended JuneSeptember 30, respectively.
Financial Performance Summary — Six—Nine Months Ended JuneSeptember 30:
In the first sixnine months of 2020, the company delivered revenue of $615$881 million and net income of $231$316 million. In the first sixnine months of 2019, the company had revenue of $892$1,265 million and net income of $156$265 million.
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Total revenue declined $277$383 million, or 31.030.3 percent, in the first sixnine months of 2020 as compared to 2019, driven by a decrease in financing revenue of $240$332 million, or 32.331.6 percent, and by a decline in operating lease revenue of $36$51 million, or 24.523.8 percent. The decline in financing revenue primarily reflects the wind down of OEM IT Commercial Financing operations. The decline in operating lease revenue was due to a lower average asset balance compared to the same period in the prior year.
Net margin in the first sixnine months of 2020 was $378$552 million, a decrease of 25.523.3 percent when compared to the same period in 2019. The decline in revenue was partially offset by decreases in financing cost and depreciation expense of $119$175 million and $29$41 million, respectively, when compared to the same period in the prior year. The decrease in financing cost was due to a lower average debt balance and lower interest rates. The decline in depreciation expense was driven by lower average operating lease asset balances. Net margin of 61.462.6 percent in the first sixnine months of 2020 increased 4.55.7 points as compared to the same period in 2019.
Total expense and other (income) of $145$212 million in the first sixnine months of 2020 decreased $32$46 million, or 18.117.9 percent, compared to the same period in 2019.
Pre-tax income of $232$339 million in the first sixnine months of 2020 decreased 29.526.3 percent as compared to the first sixnine months of 2019. The pre-tax income margin in the first sixnine months of 2020 of 37.838.5 percent increased year to year by 0.82.1 points.
The effective tax rate was 0.86.9 percent in the first sixnine months of 2020, a decrease of 51.735.6 points compared to the first sixnine months of 2019. The year-to-year change in the effective tax rate was primarily driven by a $40 million discrete tax benefit in the first quarter of 2020, attributable to a valuation allowance release on deferred tax assets, as compared to additional tax expense of $116 million in the first quarter of 2019 related to U.S. tax reform.
Net income of $231$316 million increased 47.419.2 percent in the first sixnine months of 2020 as compared to the same period in 2019. In the first sixnine months of 2020, net income margin of 37.535.8 percent increased 19.914.9 points on a year-to-year basis.
Net cash provided byfrom operating activities was a use of $115cash of $3 million in the first sixnine months of 2020 increased by $89 million whenas compared to a source of cash of $95 million in the first sixnine months of 2019, primarily driven by lower net cash payments to IBM related to accounts payable and lower net cash income tax payments.2019. Net cash provided by investing activities of $3,339$4,501 million in the first sixnine months of 2020 decreased by $3,857$4,874 million when compared to the prior-year period, primarily driven by a decrease in cash provided by short term financing receivables, which reflects the wind down of OEM IT Commercial financing operations in 2019, and a reduction toin the cash invested with IBM in the prior year, partially offset by aproceeds from the sale of financing receivables.receivables in the current year. Net cash used in financing activities of $3,415$4,447 million in the first sixnine months of 2020 was lower by $3,903$4,752 million when compared to the prior-year period, primarily driven by lower net settlements of debt.
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SecondThird Quarter and First SixNine Months in Review
Results of Operations
Segment Details
The following is an analysis of the reportable segment results for the secondthird quarter and first sixnine months of 2020 versus the secondthird quarter and first sixnine months of 2019. The table below presents each reportable segment’s revenue, net margin, and pre-tax income results.
| | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | Yr.-to-Yr. |
| | | | | | | | | | Yr.-to-Yr. |
|
| | Three Months Ended | | | Percent/ |
| | Six Months Ended | | | Percent/ |
| ||||||||||
| | June 30, | | | Margin |
| | June 30, | | | Margin |
| ||||||||||
(Dollars in millions) |
| 2020 |
| | 2019 |
| | Change |
|
| 2020 |
| | 2019 |
| | Change |
| ||||
Client Financing | | |
|
| | |
|
| |
| | | |
|
| | |
|
| |
| |
Revenue | | $ | 244 | | | $ | 292 |
| | (16.5) | % | | $ | 522 | | | $ | 614 |
| | (14.9) | % |
Net margin | |
| 151 | | |
| 151 |
| | (0.1) | % | |
| 306 | | |
| 321 |
| | (4.4) | % |
Net margin percentage | |
| 61.9 | % | |
| 51.7 | % | | 10.2 | pts. | |
| 58.7 | % | |
| 52.2 | % | | 6.4 | pts. |
Pre-tax income | | $ | 86 | | | $ | 96 |
| | (10.4) | % | | $ | 182 | | | $ | 213 |
| | (14.5) | % |
Pre-tax margin | |
| 35.3 | % | |
| 32.9 | % | | 2.4 | pts. | |
| 34.9 | % | |
| 34.7 | % | | 0.2 | pts. |
Commercial Financing | |
| | | |
| |
| | | | |
| | | |
| |
| | | |
Revenue | | $ | 35 | | | $ | 118 |
| | (70.1) | % | | $ | 93 | | | $ | 278 |
| | (66.6) | % |
Net margin | |
| 27 | | |
| 79 |
| | (66.5) | % | |
| 72 | | |
| 187 |
| | (61.7) | % |
Net margin percentage | |
| 75.3 | % | |
| 67.3 | % | | 8.0 | pts. | |
| 76.9 | % | |
| 67.1 | % | | 9.8 | pts. |
Pre-tax income | | $ | 18 | | | $ | 40 |
| | (55.7) | % | | $ | 50 | | | $ | 116 |
| | (56.9) | % |
Pre-tax margin | |
| 50.7 | % | |
| 34.2 | % | ��� | 16.5 | pts. | |
| 53.8 | % | |
| 41.8 | % | | 12.0 | pts. |
Total Segments | |
| | | |
| |
| | | | |
| | | |
| |
| | | |
Revenue | | $ | 279 | | | $ | 410 |
| | (32.0) | % | | $ | 615 | | | $ | 892 |
| | (31.0) | % |
Net margin | |
| 177 | | |
| 230 |
| | (23.0) | % | |
| 378 | | |
| 507 |
| | (25.5) | % |
Net margin percentage | |
| 63.6 | % | |
| 56.2 | % | | 7.4 | pts. | |
| 61.4 | % | |
| 56.9 | % | | 4.5 | pts. |
Pre-tax income | | $ | 104 | | | $ | 136 |
| | (23.8) | % | | $ | 232 | | | $ | 330 |
| | (29.5) | % |
Pre-tax margin | |
| 37.2 | % | |
| 33.2 | % | | 4.0 | pts. | |
| 37.8 | % | |
| 36.9 | % | | 0.8 | pts. |
| | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | Yr.-to-Yr. |
| | | | | | | | | | Yr.-to-Yr. |
|
| | Three Months Ended | | | Percent/ |
| | Nine Months Ended | | | Percent/ |
| ||||||||||
| | September 30, | | | Margin |
| | September 30, | | | Margin |
| ||||||||||
(Dollars in millions) |
| 2020 |
| | 2019 |
| | Change |
|
| 2020 |
| | 2019 |
| | Change |
| ||||
Client Financing | | |
|
| | |
|
| |
| | | |
|
| | |
|
| |
| |
Revenue | | $ | 234 | | | $ | 292 |
| | (19.8) | % | | $ | 757 | | | $ | 906 |
| | (16.5) | % |
Net margin | |
| 149 | | |
| 151 |
| | (1.3) | % | |
| 456 | | |
| 472 |
| | (3.4) | % |
Net margin percentage | |
| 63.7 | % | |
| 51.8 | % | | 11.9 | pts. | |
| 60.2 | % | |
| 52.1 | % | | 8.1 | pts. |
Pre-tax income | | $ | 91 | | | $ | 89 |
| | 1.7 | % | | $ | 274 | | | $ | 303 |
| | (9.7) | % |
Pre-tax margin | |
| 38.7 | % | |
| 30.5 | % | | 8.2 | pts. | |
| 36.2 | % | |
| 33.4 | % | | 2.7 | pts. |
Commercial Financing | |
| | | |
| |
| | | | |
| | | |
| |
| | | |
Revenue | | $ | 32 | | | $ | 80 |
| | (60.5) | % | | $ | 125 | | | $ | 359 |
| | (65.2) | % |
Net margin | |
| 25 | | |
| 61 |
| | (59.5) | % | |
| 96 | | |
| 247 |
| | (61.1) | % |
Net margin percentage | |
| 77.2 | % | |
| 75.4 | % | | 1.8 | pts. | |
| 77.0 | % | |
| 69.0 | % | | 8.0 | pts. |
Pre-tax income | | $ | 16 | | | $ | 42 |
| | (61.2) | % | | $ | 66 | | | $ | 158 |
| | (58.3) | % |
Pre-tax margin | |
| 50.8 | % | |
| 51.7 | % | | (0.9) | pts. | |
| 52.7 | % | |
| 43.9 | % | | 8.7 | pts. |
Total Segments | |
| | | |
| |
| | | | |
| | | |
| |
| | | |
Revenue | | $ | 266 | | | $ | 372 |
| | (28.6) | % | | $ | 881 | | | $ | 1,265 |
| | (30.3) | % |
Net margin | |
| 174 | | |
| 212 |
| | (18.0) | % | |
| 552 | | |
| 719 |
| | (23.3) | % |
Net margin percentage | |
| 65.3 | % | |
| 56.9 | % | | 8.4 | pts. | |
| 62.6 | % | |
| 56.9 | % | | 5.7 | pts. |
Pre-tax income | | $ | 107 | | | $ | 131 |
| | (18.3) | % | | $ | 339 | | | $ | 460 |
| | (26.3) | % |
Pre-tax margin | |
| 40.1 | % | |
| 35.1 | % | | 5.0 | pts. | |
| 38.5 | % | |
| 36.4 | % | | 2.1 | pts. |
Client Financing
Client Financing revenue of $244$234 million in the secondthird quarter of 2020 declined $48$58 million, or 16.519.8 percent, as compared to the same period in 2019. The decline was driven by lower yields and a decline in operating lease revenue of $16$15 million. Client Financing revenue of $522$757 million in the first sixnine months of 2020 declined $92$149 million, or 14.916.5 percent, as compared to the same period in 2019, primarily driven by lower yields and a decline in operating lease revenue of $36$51 million.
Net margin was essentially flatdecreased $2 million, or 1.3 percent in the secondthird quarter as compared to the prior-year period and decreased $14 million, or 4.4 percent, for the six months ended June 30,of 2020 as compared to the prior-year period. The decreasesame period in net2019. Net margin fordecreased $16 million, or 3.4 percent in the six-monthfirst nine months of 2020 as compared to the same period wasin 2019, driven by thea decline in revenue, partially offset by decreasesa decrease in interest expense of $90 million, and a decrease in depreciation expense of $48 million and $29 million, respectively.$41 million. The decrease in interest expense was mainly due to lower interest rates compared to the prior-year period.
Pre-tax income decreased $10increased $1 million, or 10.41.7 percent and decreased $31 million, or 14.5 percent,in the third quarter of 2020 as compared to the prior-yearsame period forin 2019. Pre-tax income decreased $29 million, or 9.7 percent in the three- and six-month periods ended June 30,first nine months of 2020 respectively. The year-to-year decrease for the three-month period wasas compared to 2019, driven by higher provisions for credit losses of $32$50 million and a decline in net margin, partially offset by an increase in gains on sale of equipment of $18 million. The year-to-year decrease for the six-month period was driven by a decline in net margin and higher provisions for credit losses of $51 million, partially offset by an increase in gains on sale of equipment of $24$28 million.
3435
Commercial Financing
Commercial Financing revenue of $35$32 million in the secondthird quarter of 2020 declined $83$49 million, or 70.160.5 percent, as compared to the same period in 2019. Commercial Financing revenue of $93$125 million in the first sixnine months of 2020 declined $185$234 million, or 66.665.2 percent, as compared to the same period in 2019. The decline in both periods primarily reflects the wind down of OEM IT Commercial Financing operations.
Net margin decreased $53$36 million, or 66.559.5 percent, and decreased $115$151 million, or 61.761.1 percent, as compared to the prior-year period, for the three- and six-monthnine-month periods ended June September 30, 2020, respectively. The decreases in both periods were driven by declines in revenue, partially offset by decreases in interest expense. The decreases in interest expense were due to a lower average debt balance and lower interest rates in the current-year periods.
Pre-tax income in the secondthird quarter of 2020 decreased $22$25 million, or 55.761.2 percent, as compared to the same period in 2019. The year-to-year decrease was driven by a lower net margin, partially offset by lower SG&A expenses of $23$14 million. For the first sixnine months of 2020, pre-tax income decreased $66$92 million, or 56.958.3 percent, as compared to the same period in 2019. The year-to-year decrease was driven by a lower net margin and a prior-year divestiture gain of $16 million, partially offset by lower SG&A expenses of $46$60 million. The decline in SG&A expense for the three and six months ended June 30, 2020both periods is in line with the wind down of OEM IT Commercial Financing operations.
Geographic Revenue
The following provides revenue performance by geography.
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the three months ended June 30: |
| 2020 |
| 2019 |
| Change |
| ||
Revenue | | $ | 279 | | $ | 410 |
| (32.0) | % |
Geographies | |
| | |
| |
| | |
Americas | | $ | 169 | | $ | 238 |
| (29.2) | % |
Europe/Middle East/Africa (EMEA) | |
| 60 | |
| 100 |
| (40.1) | |
Asia Pacific | |
| 50 | |
| 71 |
| (30.1) | |
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the three months ended September 30: |
| 2020 |
| 2019 |
| Change |
| ||
Revenue | | $ | 266 | | $ | 372 |
| (28.6) | % |
Geographies | |
| | |
| |
| | |
Americas | | $ | 156 | | $ | 229 |
| (32.0) | % |
Europe/Middle East/Africa (EMEA) | |
| 62 | |
| 80 |
| (22.9) | |
Asia Pacific | |
| 48 | |
| 63 |
| (23.1) | |
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the six months ended June 30: |
| 2020 |
| 2019 |
| Change |
| ||
Revenue | | $ | 615 | | $ | 892 |
| (31.0) | % |
Geographies | |
| | |
| |
| | |
Americas | | $ | 375 | | $ | 519 |
| (27.8) | % |
Europe/Middle East/Africa (EMEA) | |
| 135 | |
| 227 |
| (40.5) | |
Asia Pacific | |
| 106 | |
| 146 |
| (27.5) | |
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the nine months ended September 30: |
| 2020 |
| 2019 |
| Change |
| ||
Revenue | | $ | 881 | | $ | 1,265 |
| (30.3) | % |
Geographies | |
| | |
| |
| | |
Americas | | $ | 531 | | $ | 749 |
| (29.1) | % |
Europe/Middle East/Africa (EMEA) | |
| 197 | |
| 307 |
| (35.9) | |
Asia Pacific | |
| 154 | |
| 209 |
| (26.1) | |
Americas revenue of $169$156 million decreased $70$74 million, or 29.232.0 percent, in the secondthird quarter of 2020 compared to the same period in 2019, driven by declines in financing revenue of $67$69 million. EMEA revenue of $60$62 million declined $40$18 million, or 40.122.9 percent, in the secondthird quarter of 2020 compared to the same period in 2019, driven by declines in financing revenue of $33$12 million. Asia Pacific revenue of $50$48 million decreased $21$15 million, or 30.123.1 percent, in the secondthird quarter of 2020 when compared to the same period in 2019, driven by declines in financing revenue of $14$10 million, as well as declines in operating lease revenue of $7$5 million.
Americas revenue of $375$531 million decreased $145$218 million, or 27.829.1 percent, in the first sixnine months of 2020 compared to the first sixnine months of the prior year, driven by declines in financing revenue of $138$207 million. EMEA revenue of $135$197 million declined $92$110 million, or 40.535.9 percent, driven by declines in financing revenue of $77$89 million. Asia Pacific revenue of $106$154 million decreased $40$55 million, or 27.526.1 percent, driven by declines in financing revenue of $25$35 million, as well as declines in operating lease revenue of $15$19 million.
3536
The declinesdecline in financing revenue across all geographies for the three and sixnine months ended JuneSeptember 30, 2020, primarily reflectreflects the wind down of OEM IT Commercial Financing operations.operations and includes lower yields in Americas.
Expense
Total Expense and Other (Income)
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
| | | | | | | | Percent/ |
|
(Dollars in millions) | | | | | | | | Margin |
|
For the three months ended June 30: |
| 2020 |
| 2019 |
| Change |
| ||
Total expense and other (income) |
| |
|
| |
|
|
| |
Selling, general and administrative | | $ | 77 | | $ | 97 |
| (20.3) | % |
Provisions for/(benefit from) credit losses | |
| 27 | |
| (8) |
| NM | |
Other (income) and expense | |
| (31) | |
| 5 |
| NM | |
Total expense and other (income) | | $ | 74 | | $ | 94 |
| (21.9) | % |
Total expense-to-revenue ratio | |
| 26.4 | % | | 23.0 | % | 3.4 | pts. |
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
| | | | | | | | Percent/ |
|
(Dollars in millions) | | | | | | | | Margin |
|
For the three months ended September 30: |
| 2020 |
| 2019 |
| Change |
| ||
Total expense and other (income) |
| |
|
| |
|
|
| |
Selling, general and administrative | | $ | 80 | | $ | 87 |
| (7.3) | % |
Provisions for/(benefit from) credit losses | |
| 4 | |
| (1) |
| nm | |
Other (income) and expense | |
| (17) | |
| (5) |
| 234.0 | |
Total expense and other (income) | | $ | 67 | | $ | 81 |
| (17.4) | % |
Total expense-to-revenue ratio | |
| 25.1 | % | | 21.7 | % | 3.4 | pts. |
NMnm - Not Meaningfulnot meaningful
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
| | | | | | | | Percent/ |
|
(Dollars in millions) | | | | | | | | Margin |
|
For the six months ended June 30: |
| 2020 |
| 2019 |
| Change |
| ||
Total expense and other (income) |
| |
|
| |
|
|
| |
Selling, general and administrative | | $ | 151 | | $ | 194 |
| (22.1) | % |
Provisions for credit losses | |
| 45 | |
| (4) |
| NM | |
Other (income) and expense | |
| (51) | |
| (13) |
| 294.0 | |
Total expense and other (income) | | $ | 145 | | $ | 178 |
| (18.1) | % |
Total expense-to-revenue ratio | |
| 23.6 | % |
| 19.9 | % | 3.7 | pts. |
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
| | | | | | | | Percent/ |
|
(Dollars in millions) | | | | | | | | Margin |
|
For the nine months ended September 30: |
| 2020 |
| 2019 |
| Change |
| ||
Total expense and other (income) |
| |
|
| |
|
|
| |
Selling, general and administrative | | $ | 232 | | $ | 281 |
| (17.6) | % |
Provisions for/(benefit from) credit losses | |
| 49 | |
| (4) |
| nm | |
Other (income) and expense | |
| (68) | |
| (18) |
| 276.9 | |
Total expense and other (income) | | $ | 212 | | $ | 259 |
| (17.9) | % |
Total expense-to-revenue ratio | |
| 24.1 | % |
| 20.5 | % | 3.6 | pts. |
NMnm - Not Meaningfulnot meaningful
Total expense and other (income) of $74$67 million decreased $21$14 million, or 21.917.4 percent, in the secondthird quarter of 2020 as compared to the same period in 2019. For the sixnine months ended JuneSeptember 30, 2020, total expense and other (income) of $145$212 million decreased $32$46 million, or 18.117.9 percent, as compared to the prior-year period. For additional information regarding total expense and other (income), see the following analyses by category.
Selling, General and Administrative
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the three months ended June 30: |
| 2020 |
| 2019 |
| Change |
| ||
Selling, general and administrative expense: |
| |
|
| | |
|
| |
Selling, general and administrative - other | | $ | 36 | | $ | 38 |
| (5.0) | % |
Contracted services | |
| 4 | |
| 5 |
| (27.5) | |
Functional support services and other related party expenses | |
| 38 | |
| 54 |
| (30.2) | |
Total selling, general and administrative expense | | $ | 77 | | $ | 97 |
| (20.3) | % |
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the three months ended September 30: |
| 2020 |
| 2019 |
| Change |
| ||
Selling, general and administrative expense: |
| |
|
| | |
|
| |
Selling, general and administrative - other | | $ | 39 | | $ | 38 |
| 2.5 | % |
Contracted services | |
| 5 | |
| 4 |
| 30.2 | |
Functional support services and other related party expenses | |
| 37 | |
| 45 |
| (18.4) | |
Total selling, general and administrative expense | | $ | 80 | | $ | 87 |
| (7.3) | % |
3637
Selling, General and Administrative
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the six months ended June 30: |
| 2020 |
| 2019 |
| Change |
| ||
Selling, general and administrative expense: |
| |
|
| |
|
|
| |
Selling, general and administrative - other | | $ | 72 | | $ | 84 |
| (14.5) | % |
Contracted services | |
| 7 | |
| 9 |
| (14.5) | |
Functional support services and other related party expenses | |
| 72 | |
| 102 |
| (29.1) | |
Total selling, general and administrative expense | | $ | 151 | | $ | 194 |
| (22.1) | % |
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the nine months ended September 30: |
| 2020 |
| 2019 |
| Change |
| ||
Selling, general and administrative expense: |
| |
|
| |
|
|
| |
Selling, general and administrative - other | | $ | 110 | | $ | 122 |
| (9.5) | % |
Contracted services | |
| 12 | |
| 12 |
| (1.4) | |
Functional support services and other related party expenses | |
| 109 | |
| 147 |
| (25.6) | |
Total selling, general and administrative expense | | $ | 232 | | $ | 281 |
| (17.6) | % |
Total SG&A expense decreased $20$6 million or 20.37.3 percent in the secondthird quarter of 2020 as compared to the secondthird quarter of 2019. Functional2019, driven by a decline in functional support services decreased $16 million and other SG&A decreased $2 million, when compared to the prior-year period.of $8 million. Total SG&A expense decreased $43$49 million, or 22.117.6 percent, in the first sixnine months of 2020 as compared to the prior-year period, driven by a decline in functional support services and other SG&A of $30$38 million and $12 million, respectively. The declines in functional support services and other SG&A in both periods reflectrespectively, which primarily reflects the wind down of OEM IT Commercial Financing operations. For additional information on functional support services, see note 14, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements.
Provision for Credit Losses
Provisions for credit losses increased $34$4 million and $49$53 million for the three- and six-monthnine-month periods ended JuneSeptember 30, 2020, respectively, as compared to the prior-year periods. The increase in the secondthird quarter of 2020 was primarily driven by higher specific and unallocated reserves in Americas. The increase for the first sixnine months of 2020 was primarily driven by higher unallocated and specific reserves in Americas and higher unallocated reserves in EMEA. For additional information on provisions for credit losses, see note 6, “Financing Receivables, Receivables Purchased/Participated from IBM,” to the Consolidated Financial Statements.
Other (Income) and Expense
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the three months ended June 30: |
| 2020 |
| 2019 |
| Change | | ||
Other (income) and expense: |
| |
|
| |
|
|
| |
Foreign currency transaction (gains)/losses | | $ | 2 | | $ | 0 |
| NM | |
(Gains)/losses on sale of equipment upon lease termination | |
| (30) | |
| (12) |
| 150.2 | % |
Other expense and (income) | |
| (3) | |
| 17 |
| NM | |
Total other (income) and expense | | $ | (31) | | $ | 5 |
| NM | % |
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the three months ended September 30: |
| 2020 |
| 2019 |
| Change | | ||
Other (income) and expense: |
| |
|
| |
|
|
| |
Foreign currency transaction (gains)/losses | | $ | (1) | | $ | 2 |
| nm | |
(Gains)/losses on sale of equipment upon lease termination | |
| (13) | |
| (9) |
| 45.2 | % |
Other expense and (income) | |
| (3) | |
| 2 |
| nm | |
Total other (income) and expense | | $ | (17) | | $ | (5) |
| 234.0 | % |
NMnm - Not Meaningfulnot meaningful
Other (Income) and Expense
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the six months ended June 30: |
| 2020 |
| 2019 |
| Change |
| ||
Other (income) and expense: |
| |
|
| |
|
|
| |
Foreign currency transaction (gains)/losses | | $ | (8) | | $ | 1 |
| NM | |
(Gains)/losses on sale of equipment upon lease termination | |
| (44) | |
| (19) |
| 127.0 | % |
Other expense and (income) | |
| 0 | |
| 5 |
| (90.8) | |
Total other (income) and expense | | $ | (51) | | $ | (13) |
| 294.0 | % |
| | | | | | | | | |
| | | | | | | | Yr.-to-Yr. |
|
(Dollars in millions) | | | | | | | | Percent |
|
For the nine months ended September 30: |
| 2020 |
| 2019 |
| Change |
| ||
Other (income) and expense: |
| |
|
| |
|
|
| |
Foreign currency transaction (gains)/losses | | $ | (9) | | $ | 2 |
| nm | |
(Gains)/losses on sale of equipment upon lease termination | |
| (56) | |
| (28) |
| 101.1 | % |
Other expense and (income) | |
| (3) | |
| 8 |
| nm | |
Total other (income) and expense | | $ | (68) | | $ | (18) |
| 276.9 | % |
NMnm - Not Meaningfulnot meaningful
3738
Other (income) and expense was $31$17 million of income in the secondthird quarter of 2020, as compared to $5 million of expenseincome in the same period of 2019. Other (income) and expense was $51$68 million of income in the first sixnine months of 2020 as compared to $13$18 million of income in the same period of 2019. The year-to-year improvement for the three and six months ended June 30, 2020, was2019, driven primarily driven by higher gains from sales of equipment returned from lease and was in line with the wind down of OEM IT Commercial Financing operations. For the six-month period ended June 30, 2020, the year-to-year improvement was partially offset by a pre-tax gain of $16 million from divested commercial financing capabilities in the prior year.lease.
Taxes
For the three months ended JuneSeptember 30, 2020, the company recorded a provision for income taxes of $15$21 million and an effective tax rate of 14.220.1 percent compared to a provision of $23$22 million and an effective tax rate of 17.0 percent for the three months ended JuneSeptember 30, 2019. For the six-monthnine-month period ended JuneSeptember 30, 2020, the company reported a provision for income taxes of $2$23 million and an effective tax rate of 0.86.9 percent compared to a provision of $173$195 million and an effective tax rate of 52.542.4 percent for the same period in 2019. The year-to-year change in the effective tax rate for the six-monthnine-month period ended JuneSeptember 30, 2020 was primarily driven by a $40 million discrete tax benefit in the first quarter of 2020, attributable to a valuation allowance release on deferred tax assets, as compared to an additional tax expense of $116 million in the first quarter of 2019 related to U.S. tax reform.
The company is subject to taxation in the U.S. and various state and foreign jurisdictions. With respect to the company’s U.S. federal and certain state and foreign operations that are included in applicable IBM consolidated tax returns, pursuant to the Tax Sharing Agreement between IBM and the company, any subsequent changes to the company’s income tax liability as a result of valuation allowances and tax examinations are the responsibility of IBM. Therefore, any recognition and subsequent changes in assessment about the sustainability of related tax positions, including interest and penalties, are the responsibility of IBM. As such, there have been no uncertain tax liabilities recorded in the Consolidated Financial Statements for entities that file as part of IBM’s consolidated tax filings as the company bears no risk associated with any subsequent change in the sustainability of uncertain tax positions.
For the company’s separate income tax return filings, the company is generally no longer subject to tax examinations for years prior to 2014. The open years contain matters that could be subject to differing interpretations of applicable tax laws and regulations as it relates to the amount and/or timing of income, deductions and tax credits. Although the outcome of tax audits is always uncertain, the company believes that adequate amounts of tax and interest have been provided for any adjustments that are expected to result for these years.
The amount of unrecognized tax benefits at JuneSeptember 30, 2020 of $10 million remained unchanged when compared to December 31, 2019.
If the company’s provision for income taxes had been prepared using the separate return method without modification for the benefits-for-loss approach, total taxes included in net income reported would have been $14$11 million and $19$30 million higher in the three and sixnine months ended JuneSeptember 30, 2020, as compared to $11$9 million and $24$33 million higher in the three and sixnine months ended JuneSeptember 30, 2019, respectively, due to the “Global Intangible Low-Taxed Income” provision. For additional information, see note 1, “Basis of Presentation.”
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Financial Position Summary
The company’s primary use of funds is to originate financing receivables and operating leases with end-users, suppliers, distributors, resellers and IBM. Financing receivables consist of sales-type leases and loans to end-user clients, purchases of installment payment plans from IBM and working capital financing to suppliers, distributors and resellers. Operating leases are for IBM and OEM IT products. Receivables purchased/participated from IBM include purchased interests in certain of IBM’s short-term receivables and IBM receivables that have been participated to IBM Credit. Financing receivables from IBM include loan financing to IBM’s Global Technology Services segment. For additional information relating to financing activities with IBM, see note 14, “Relationship with IBM and Related Party Transactions.”
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Total assets of $25,389$23,626 million at JuneSeptember 30, 2020 declined $3,023$4,785 million (including a decrease of $415$33 million from currency) as compared to year-end 2019, primarily driven by:
● | A decline in total financing receivables of |
At JuneSeptember 30, 2020 substantially all Client Financing and Commercial Financing assets were IT related and approximately 58 percent of the total portfolio, excluding financing receivables from IBM and receivables purchased from IBM, was with investment grade clients with no exposure to consumers, a decrease of 27 points year to year.year, and flat compared to June 30, 2020. The reduction in investment grade year to year was driven primarily by rating changes within the existing portfolio of clients. IBM Credit continues to apply its rigorous credit policies, particularly in industries and countries disrupted by COVID-19, as it relates to the origination of new business. This investment grade percentage is based on the credit ratings of the companies in the portfolio and reflect mitigating credit enhancement actions taken by the customer, which reduces the risk to the company.
The company has a long-standing practice of taking mitigation actions, in certain circumstances, to transfer credit risk to third parties.parties, with enhanced focus in this unprecedented environment of the COVID-19 pandemic. These actions may include credit insurance, financial guarantees, nonrecourse borrowings, transfers of receivables recorded as true sales in accordance with accounting guidance or sales of equipment under operating lease.
Total liabilities of $23,046$21,353 million at JuneSeptember 30, 2020 decreased $2,680$4,373 million (including a decrease of $298$13 million from currency), as compared to year-end 2019, primarily driven by:
● | A decrease in total debt of |
● |
Total member’s interest of $2,343$2,273 million at JuneSeptember 30, 2020 declined by $342$413 million as compared to year-end 2019, primarily driven by:
● | Cash distributions to IBM of |
● | Foreign currency translation loss of |
● | Adoption of the guidance on current expected credit losses of $41 million; partially offset by |
● | Net income for the first |
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Originations of Financing Receivables and Operating Leases
Originations are management’s estimate of the gross additions for Client Financing and Commercial Financing assets. There are no industry standards or requirements governing the reporting of financing asset originations. The company believes that the estimated values of financing asset originations disclosed in the table below provide insight into the
40
potential future cash flows and earnings of the company. This insight is used by management as a tool to monitor business performance and is viewed as useful decision-making information for users of the financial statements.
The Client Financing origination values presented below include participations and exclude the company’s loans to IBM’s Global Technology Services segment, which are executed under a loan facility and are not considered originations.
Originations
| | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | |
|
| | Three Months Ended | | Yr.-to-Yr. |
| | Six Months Ended | | Yr.-to-Yr. | |
| ||||||||
| | June 30, | | Percent |
| | June 30, | | Percent | | | ||||||||
(Dollars in millions) |
| 2020 |
| 2019 |
| Change |
|
| 2020 |
| 2019 |
| Change | |
| ||||
Client Financing | | $ | 3,470 | | $ | 3,010 |
| 15.3 | % |
| $ | 6,571 | | $ | 6,028 |
| 9.0 | % | |
Commercial Financing | |
| 3,140 | |
| 9,045 |
| (65.3) | % |
|
| 6,374 | |
| 26,436 |
| (75.9) | % | |
Total originations | | $ | 6,610 | | $ | 12,054 |
| (45.2) | % |
| $ | 12,945 | | $ | 32,463 |
| (60.1) | % | |
| | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | |
| | Three Months Ended | | Yr.-to-Yr. |
| | Nine Months Ended | | Yr.-to-Yr. | | ||||||||
| | September 30, | | Percent |
| | September 30, | | Percent | | ||||||||
(Dollars in millions) |
| 2020 |
| 2019 |
| Change |
|
| 2020 |
| 2019 |
| Change | | ||||
Client Financing | | $ | 2,521 | | $ | 2,887 |
| (12.7) | % |
| $ | 9,091 | | $ | 8,915 |
| 2.0 | % |
Commercial Financing | |
| 3,119 | |
| 4,474 |
| (30.3) | % |
|
| 9,491 | |
| 30,910 |
| (69.3) | % |
Total originations | | $ | 5,639 | | $ | 7,361 |
| (23.4) | % |
| $ | 18,582 | | $ | 39,825 |
| (53.3) | % |
In the secondthird quarter of 2020, the company originated $3,470$2,521 million of Client Financing receivables as compared to $3,010$2,887 million in the secondthird quarter of 2019. The company originated $6,571$9,091 million of Client Financing receivables in the first sixnine months of 2020 as compared to $6,028$8,915 million in the first sixnine months of 2019. The increasesdecrease of $460 million and $543$366 million in the secondthird quarter andended September 30, 2020 was driven by a decrease in OEM volumes, as compared to the same period in the prior year. The increase of $176 million in the first sixnine months ended JuneSeptember 30, 2020, respectively, werewas driven by higher lease and services volumes partially offset by decreases in OEM volumes, as compared to the same periods in the prior year. The higher lease volumes in the current year are driven by higher participation in IBM Z and reflects IBM’s Systems performance in relation to their product cycle.
In the secondthird quarter of 2020, the company originated $3,140$3,119 million of Commercial Financing receivables as compared to $9,045$4,474 million in the secondthird quarter of 2019. The company originated $6,374$9,491 million of Commercial Financing receivables in the first sixnine months of 2020 as compared to $26,436$30,910 million in the first sixnine months of 2019. The decreases of $5,905$1,355 million and $20,062$21,419 million in the secondthird quarter and first sixnine months, respectively, as compared to the same periods in the prior year, primarily reflect the wind down of OEM IT Commercial Financing operations.
Segment Assets
| | | | | | | | | |
| | | | | | | | | |
| | | | | | | | Yr.-to-Date | |
(Dollars in millions) | | At June 30, | | At December 31, | | Percent | | ||
Client Financing |
| 2020 |
| 2019 |
| Change | | ||
Financing receivables, net | | $ | 12,064 | | $ | 13,978 |
| (13.7) | % |
Equipment under operating leases, net | |
| 154 | |
| 212 |
| (27.3) | |
Financing receivables from IBM | |
| 3,735 | |
| 3,870 |
| (3.5) | |
Receivables participated from IBM, net | |
| 4,312 | |
| 4,303 |
| 0.2 | |
Total assets | | $ | 20,266 | | $ | 22,362 |
| (9.4) | % |
| | | | | | | | | |
| | | | | | | | | |
| | | | | | | | Yr.-to-Date | |
(Dollars in millions) | | At September 30, | | At December 31, | | Percent | | ||
Client Financing |
| 2020 |
| 2019 |
| Change | | ||
Financing receivables, net | | $ | 10,429 | | $ | 13,978 |
| (25.4) | % |
Equipment under operating leases, net | |
| 130 | |
| 212 |
| (38.8) | |
Financing receivables from IBM | |
| 3,937 | |
| 3,870 |
| 1.8 | |
Receivables participated from IBM, net | |
| 4,171 | |
| 4,303 |
| (3.1) | |
Total assets | | $ | 18,667 | | $ | 22,362 |
| (16.5) | % |
| | | | | | | | | |
| | | | | | | | Yr.-to-Date | |
(Dollars in millions) | | At June 30, | | At December 31, | | Percent | | ||
Commercial Financing |
| 2020 |
| 2019 |
| Change | | ||
Financing receivables, net | | $ | 2,020 | | $ | 3,387 |
| (40.4) | % |
Receivables purchased from IBM, net | |
| 50 | |
| 56 |
| (10.8) | |
Total assets | | $ | 2,070 | | $ | 3,443 |
| (39.9) | % |
| | | | | | | | | |
| | | | | | | | Yr.-to-Date | |
(Dollars in millions) | | At September 30, | | At December 31, | | Percent | | ||
Commercial Financing |
| 2020 |
| 2019 |
| Change | | ||
Financing receivables, net | | $ | 1,835 | | $ | 3,387 |
| (45.8) | % |
Receivables purchased from IBM, net | |
| 36 | |
| 56 |
| (35.3) | |
Total assets | | $ | 1,871 | | $ | 3,443 |
| (45.7) | % |
The decrease in Client Financing assets of $2,096$3,695 million at JuneSeptember 30, 2020 as compared to December 31, 2019 was driven by cash collections of financing receivables in excess of new originations, as a result of higher year-end balances, and by the company’s sale of certain financing receivables for the nine months ended September 30, 2020. For additional information on the sale of receivables, see note 6, “Financing Receivables, Receivables Purchased/Participated from IBM.”
4041
and by the company’s sale of certain financing receivables in the second quarter of 2020. For additional information on the sale of receivables, see note 6, “Financing Receivables, Receivables Purchased/Participated from IBM.”
The Client Financing receivables portfolio at JuneSeptember 30, 2020 represented the following industry profile: Financial (35 percent), Manufacturing (16 percent), Government (13 percent), Services (12 percent), Retail (7 percent), Communications (6 percent), Other (6 percent), and Healthcare (5 percent).
The Client Financing receivables portfolio at December 31, 2019 represented the following industry profile: Financial (36 percent), Manufacturing (15 percent), Government (13 percent), Services (11 percent), Retail (7 percent), Communications (6 percent), Healthcare (6 percent) and Other (5 percent).
The decrease in Commercial Financing assets of $1,373$1,572 million at JuneSeptember 30, 2020 as compared to December 31, 2019, was primarily driven by cashseasonality resulting from collections of financing receivables in excess of new originations, as a result of higher year-end balances.
The assets of the company were financed with $20,865$20,294 million of total debt at JuneSeptember 30, 2020, as compared to $24,095 million of debt at December 31, 2019.
Financing Receivables and Allowances
The following table presents financing receivables excluding miscellaneous receivables and loan financing to IBM’s Global Technology Services segment which the company considers collectablecollectible and without third-party risk.
| | | | | | | | |
| | At June 30, | | | At December 31, | | ||
(Dollars in millions) |
| 2020 |
| | 2019 |
| ||
Amortized cost/Recorded investment (1)(2) | | $ | 18,650 | | | $ | 21,301 | |
Specific allowance for credit losses | |
| 124 | | |
| 114 | |
Unallocated allowance for credit losses | |
| 79 | | |
| 42 | |
Total allowance for credit losses | |
| 203 | | |
| 155 | |
Net financing receivables | | $ | 18,447 | | | $ | 21,145 | |
Allowance for credit losses coverage | |
| 1.1 | % | |
| 0.7 | % |
| | | | | | | | |
| | At September 30, | | | At December 31, | | ||
(Dollars in millions) |
| 2020 |
| | 2019 |
| ||
Amortized cost/Recorded investment (1)(2) | | $ | 16,673 | | | $ | 21,301 | |
Specific allowance for credit losses | |
| 122 | | |
| 114 | |
Unallocated allowance for credit losses | |
| 81 | | |
| 42 | |
Total allowance for credit losses | |
| 202 | | |
| 155 | |
Net financing receivables | | $ | 16,471 | | | $ | 21,145 | |
Allowance for credit losses coverage | |
| 1.2 | % | |
| 0.7 | % |
(1) | Prior to the January 1, 2020 adoption of the guidance on current expected credit losses, presentation was recorded investment, subsequent to adoption presentation is amortized cost. |
(2) | The amortized cost basis of a financial asset represents the original amount of the financing receivable (including residual value), adjusted for unearned income, deferred initial direct costs, cash collected, write-offs and any foreign exchange adjustments. Recorded investment excluded residual value. |
Upon the adoption of the guidance on current expected credit losses, the percentage of financing receivables reserved increased from 0.7 percent at December 31, 2019, to 0.9 percent at January 1, 2020, primarily driven by a 75.3 percent increase in unallocated reserves. The percentage of financing receivables reserved increased from 0.9 percent at January 1, 2020, to 1.11.2 percent at JuneSeptember 30, 2020, which included an increase in unallocated reserves of 8.7 percent. Specific reserves increased 8.9 percent from $114 million at December 31, 2019, to $124 million at June 30, 2020.and an overall decline in financing receivables.
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Roll Forward of Financing Receivables Allowance for Credit Losses
(Dollars in millions)
| | | | | | | | | | | | | |
January 1, 2020 * |
| Additions / (Releases) ** |
| Write-offs *** |
| Other + |
| June 30, 2020 | |||||
$ | 193 | | $ | 37 | | $ | (17) | | $ | (10) | | $ | 203 |
| | | | | | | | | | | | | |
January 1, 2020 * |
| Additions / (Releases) ** |
| Write-offs *** |
| Other + |
| September 30, 2020 | |||||
$ | 193 | | $ | 41 | | $ | (27) | | $ | (5) | | $ | 202 |
* | Opening balance does not equal the allowance at December 31, 2019 due to the adoption of the guidance on current expected credit losses. Refer to note 2, “Accounting Changes,” for additional information. |
**Additions for Allowance for Credit Losses are charged to expense.
*** | Refer to note A, “Significant Accounting Policies,” in the company’s 2019 Form 10-K for additional information regarding allowance for credit loss write-offs. |
+ | Primarily represents translation adjustments. |
Expected credit loss expense (including impacts from off-balance sheet commitments which are recorded in other liabilities) was an addition of $27$4 million for the three months ended JuneSeptember 30, 2020 as compared to a release of $8$1 million for the same period in 2019. The increase was primarily driven by higher specific and unallocated reserves in Americas in the secondthird quarter.
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Expected credit loss expense (including impacts from off-balance sheet commitments which are recorded in other liabilities) was an addition of $45$49 million for the sixnine months ended JuneSeptember 30, 2020 as compared to a release of $4 million for the same period in 2019. The increase was primarily driven by higher unallocated and specific reserves in Americas and higher unallocated reserves in EMEA in the current-year period.EMEA.
Residual Value
Residual value is a risk of the company’s business, and management of this risk is dependent upon the ability to accurately project future equipment values at lease inception. The company has insight into product plans and cycles for IBM products and closely monitors OEM IT product announcements. Based upon this product information, the company continually monitors projections of future equipment values and compares them with the residual values reflected in the portfolio.
The company optimizes the recovery of residual values by extending lease arrangements with current clients. Assets returned from lease are sold to IBM at cost, which approximates fair value. In addition, IBM may migrate a client to new technology. In the event this migration results in an early lease termination, IBM will purchase the returned equipment from the company at a pre-negotiated price, which is a function of the discounted value of the scheduled future lease payments and the residual value.
The following table presents the recorded amount of unguaranteed residual value for direct financing and operating leases at JuneSeptember 30, 2020 and December 31, 2019. In addition, the table presents the residual value as a percentage of the related original amount financed and a run out of when the unguaranteed residual value assigned to equipment on leases at JuneSeptember 30, 2020 and December 31, 2019, is expected to be returned to the company.
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Unguaranteed Residual Value
| | | | | | | | | | | | | | | | | | |
| | At | | At | | Estimated Run Out of June 30, 2020 Balance | ||||||||||||
| | December 31, | | June 30, | | | | | | | | | | | 2023 and | |||
(Dollars in millions) |
| 2019 |
| 2020 |
| 2020 |
| 2021 |
| 2022 |
| Beyond | ||||||
Sales-type and direct financing leases | | $ | 531 | | $ | 451 | | $ | 43 | | $ | 105 | | $ | 154 | | $ | 150 |
Operating leases | |
| 84 | |
| 68 | |
| 41 | |
| 20 | |
| 4 | |
| 3 |
Total unguaranteed residual value | | $ | 615 | | $ | 519 | | $ | 83 | | $ | 125 | | $ | 158 | | $ | 152 |
Related original amount financed | | $ | 9,048 | | $ | 7,615 | |
|
| |
|
| |
|
| |
|
|
Percentage | |
| 6.8 | % |
| 6.8 | % |
|
| |
|
| |
|
| |
|
|
| | | | | | | | | | | | | | | | | | |
| | At | | At | | Estimated Run Out of September 30, 2020 Balance | ||||||||||||
| | December 31, | | September 30, | | | | | | | | | | | 2023 and | |||
(Dollars in millions) |
| 2019 |
| 2020 |
| 2020 |
| 2021 |
| 2022 |
| Beyond | ||||||
Sales-type and direct financing leases | | $ | 531 | | $ | 376 | | $ | 23 | | $ | 79 | | $ | 130 | | $ | 144 |
Operating leases | |
| 84 | |
| 60 | |
| 34 | |
| 19 | |
| 4 | |
| 3 |
Total unguaranteed residual value | | $ | 615 | | $ | 436 | | $ | 56 | | $ | 98 | | $ | 135 | | $ | 147 |
Related original amount financed | | $ | 9,048 | | $ | 6,664 | |
|
| |
|
| |
|
| |
|
|
Percentage | |
| 6.8 | % |
| 6.5 | % |
|
| |
|
| |
|
| |
|
|
Liquidity and Capital Resources
IBM Credit funds current and future obligations through the generation of cash flows from operations and its access to the short- and long-term capital markets, as well as the support given by IBM’s overall liquidity position and access to capital markets. The debt used to fund the company’s financing assets at JuneSeptember 30, 2020 was primarily comprised of loans from IBM.
At JuneSeptember 30, 2020, the debt-to-equity ratio was 8.9 to 1 as compared to 9.0 to 1 at December 31, 2019. Refer to the company’s debt-to-equity ratio on page 46 for additional information.
The company made cash distributions to IBM of $242$225 million and $411$636 million, respectively for the three and sixnine months ended JuneSeptember 30, 2020. The future amount of total debt and contributions from and distributions to IBM may vary as the company continues to manage leverage to the targeted debt-to-equity ratio of 9 to 1. The company’s actual debt-to-equity ratio may vary based on several factors, including differences between management’s expectations and actual results of operations.
In 2017, the company established a commercial paper program under which the company is permitted to issue unsecured commercial paper notes from time to time, up to a maximum aggregate amount outstanding at any one time of $5 billion. At JuneSeptember 30, 2020, there was no commercial paper outstanding.
43
On July 2, 2020, IBM and the company entered into a new $2.5 billion 364-day Credit Agreement to replace the existing $2.5 billion 364-day Credit Agreement, and also extended the maturity date of the existing $2.5 billion Three-Year Credit Agreement (together, the Credit Agreements). The new maturity dates for the 364-day and Three-Year Credit Agreements are July 1, 2021 and July 20, 2023, respectively. As of JuneSeptember 30, 2020, the company had no borrowings outstanding against the Credit Agreements.
InAs part of the second quarter of 2020, the companycompany’s cash and liquidity management, IBM Credit sold $711$854 million and $1,565 million of Client Financing receivables which qualified as true sales for the three and resultednine months ended September 30, 2020, resulting in a benefit to cash flows from investing activities of $715$860 million and $1,575 million for the three and sixnine months ended JuneSeptember 30, 2020.2020, respectively.
The major rating agencies’ ratings on the company’s debt securities at JuneSeptember 30, 2020 appear in the following table and remain unchanged from December 31, 2019.
| | | | |
|
| STANDARD |
| MOODY’S |
| | AND | | INVESTORS |
| | POOR’S | | SERVICE |
Long-term debt |
| A |
| A2 |
Commercial paper |
| A-1 |
| Prime-1 |
IBM and IBM Credit LLC remain committed to a target leverage profile consistent with a mid to high single A credit rating within a couple of years.
43
IBM Credit will continue with a disciplined financial policy and is committed to maintaining strong investment grade credit ratings. The company does not have “ratings trigger” provisions in its debt covenants or documentation, which would allow the holders to declare an event of default and seek to accelerate payments thereunder in the event of a change in credit rating.
In July 2017, the UK's Financial Conduct Authority, which regulates the London Interbank Offered Rate (LIBOR), announced that it intends to phase out LIBOR by the end of 2021. Various central bank committees and working groups continue to discuss replacement of benchmark rates, the process for amending existing LIBOR-based contracts, and the potential economic impacts of different alternatives. The Alternative Reference Rates Committee has identified the Secured Overnight Financing Rate (SOFR) as its preferred alternative rate for USD LIBOR. SOFR is a measure of the cost of borrowing cash overnight, collateralized by U.S. Treasury securities, and is based on directly observable U.S. Treasury-backed repurchase transactions. The use of LIBOR is primarily within the company's Commercial Financing segment where agreements are short term in nature and generally range from 30 to 90 days. The company continues to evaluate the potential impact of the replacement of the LIBOR benchmark interest rate, including risk management, internal operational readiness and monitoring the FASB standard-setting process for additional updates to address financial reporting issues that might arise in connection with transition from LIBOR to a new benchmark rate. However, it is not expected to have a material impact in the consolidated financial results.
In the normal course of business, the company may be exposed to the impact of foreign currency fluctuations and interest rate changes. Although the company seeks to substantially match-fund the term, currency and interest rate variability of its debt against its underlying financing assets, risks may arise from a mismatch between assets and the related liabilities used for funding. The company also employs a rigorous process to optimize portfolio risk management. Portfolio risks include credit and residual value risk. For additional information on the management of these risks by the company, see note A, “Significant Accounting Policies,” and note D, “Financial Instruments,” to the Consolidated Financial Statements in the company’s 2019 Form 10-K filed with the SEC on February 28, 2020.
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Cash Flow and Liquidity Trends
| | | | | | | |
(Dollars in millions) | | | | | | | |
For the six months ended June 30: |
| 2020 |
| 2019 | | ||
Net cash provided by operating activities | | $ | 115 | | $ | 26 | |
Net cash provided by investing activities | | | 3,339 | | | 7,197 | |
Net cash used in financing activities | | | (3,415) | | | (7,318) | |
| | | | | | | |
At June 30: |
| 2020 |
| 2019 | | ||
Cash and cash equivalents | | $ | 1,717 | | $ | 1,732 | |
Cash invested with IBM, available on-demand (1) | | | 781 | | | 327 | |
Committed credit facilities (2) | | | 5,000 | | | 5,000 | |
| | | | | | |
(Dollars in millions) | | | | | | |
For the nine months ended September 30: |
| 2020 |
| 2019 | ||
Net cash provided by/(used in) operating activities | | $ | (3) | | $ | 95 |
Net cash provided by investing activities | | | 4,501 | | | 9,374 |
Net cash used in financing activities | | | (4,447) | | | (9,199) |
| | | | | | |
At September 30: |
| 2020 |
| 2019 | ||
Cash and cash equivalents | | $ | 1,745 | | $ | 2,079 |
Cash invested with IBM, available on-demand (1) | | | 557 | | | 601 |
Committed credit facilities (2) | | | 5,000 | | | 5,000 |
(1) | Excess cash is periodically invested in interest bearing, on-demand accounts with IBM and is presented in other receivables from IBM in the Consolidated Balance Sheet and the Consolidated Statement of Cash Flows. For additional information, see note 14, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements. |
(2) | The Credit Agreements were entered into and amended on July 2, 2020. |
Net cash provided byfrom operating activities was a use of cash of $3 million in the first sixnine months of 2020 increased by $89 million as compared to a source of cash of $95 million in the first sixnine months of 2019 primarily driven by lower net cash payments to IBM related to accounts payable and lower net cash income tax payments.2019.
Net cash provided by investing activities in the first sixnine months of 2020 decreased by $3,857$4,874 million as compared to the first sixnine months of 2019 primarily driven by the following factors:
● |
44
● | A decrease in cash provided by other receivables with IBM of |
● | Proceeds from the sale of financing receivables of |
Net cash used in financing activities in the first sixnine months of 2020 was lower by $3,903$4,752 million as compared to the first sixnine months of 2019 primarily driven by the following factors:
● | A decrease in net cash used in debt transactions of |
● | A decrease in net cash distributions to IBM of |
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Debt
| | | | | | |
| | At June 30, | | At December 31, | ||
(Dollars in millions) | | 2020 | | 2019 | ||
Short-term debt |
| |
|
| |
|
Debt | | $ | 245 | | $ | 633 |
Debt payable to IBM | |
| 5,938 | |
| 8,194 |
Total short-term debt | | $ | 6,184 | | $ | 8,827 |
| | | | | | |
Long-term debt | |
| | |
|
|
Debt | | $ | 6,312 | | $ | 6,517 |
Debt payable to IBM | |
| 8,370 | |
| 8,751 |
Total long-term debt | | $ | 14,682 | | $ | 15,268 |
Total debt | | $ | 20,865 | | $ | 24,095 |
| | | | | | |
| | At September 30, | | At December 31, | ||
(Dollars in millions) | | 2020 | | 2019 | ||
Short-term debt |
| |
|
| |
|
Debt | | $ | 116 | | $ | 633 |
Debt payable to IBM | |
| 5,897 | |
| 8,194 |
Total short-term debt | | $ | 6,012 | | $ | 8,827 |
| | | | | | |
Long-term debt | |
| | |
|
|
Debt | | $ | 6,307 | | $ | 6,517 |
Debt payable to IBM | |
| 7,975 | |
| 8,751 |
Total long-term debt | | $ | 14,281 | | $ | 15,268 |
Total debt | | $ | 20,294 | | $ | 24,095 |
Total debt changes generally correspond with the level of Client Financing and Commercial Financing receivables, the level of cash and cash equivalents, the change in payables to IBM and external parties and the change in net investment from IBM. The decrease in total debt during the first sixnine months of 2020 was primarily due to lower funding
requirements associated with financing receivables.
The company utilizes certain of its financing receivables as collateral for non-recourse borrowings. Financing receivables pledged as collateral for these borrowings was $758$596 million at JuneSeptember 30, 2020 and $1,062 million at December 31, 2019.
For additional information on the company’s debt and debt payable to IBM, see note 8, “Borrowings,” to the Consolidated Financial Statements.
The company’s interest rate and foreign currency rate risk management policies and procedures are discussed in note 12, “Derivative Financial Instruments.”
Interest on Debt
The company recognized interest expense of $72$61 million and $166$227 million for the three and sixnine months ended JuneSeptember 30, 2020, respectively, of which $35$32 million and $84$116 million was interest expense on debt payable to IBM in each of those periods, respectively. The company recognized interest expense of $135$115 million and $285$400 million for the three and sixnine months ended 2019, respectively, of which $58 million and $131$189 million was interest expense on debt payable to IBM in each of those periods, respectively.
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The decrease in interest expense in the secondthird quarter and first sixnine months of 2020 as compared to the same periods in 2019 was driven by a lower average debt balance and a decrease in interest rates on both internal and external borrowings. Interest expense is presented in cost of financing in the Consolidated Income Statement.
For additional information on interest expense, see note 8, “Borrowings,” to the Consolidated Financial Statements.
Debt-to-Equity
The debt-to-equity ratio as reported in the following table is the ratio of total debt to total member’s interest.
| | | | | |
| | At June 30, | | At December 31, |
|
|
| 2020 |
| 2019 | |
Debt-to-equity ratio* |
| 8.9 | x | 9.0 | x |
| | | | | |
| | At September 30, | | At December 31, |
|
|
| 2020 |
| 2019 | |
Debt-to-equity ratio* |
| 8.9 | x | 9.0 | x |
* | The debt-to-equity ratio is calculated by dividing the total amount of debt outstanding by the total amount of member’s interest in the company at the end of the reporting period presented. |
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The company’s debt-to-equity ratio was 8.9 to 1 at JuneSeptember 30, 2020, as compared to the debt-to-equity ratio of 99.0 to 1 at December 31, 2019. Total member’s interest of $2,343$2,273 million declined by $342$413 million, or 12.815.4 percent, while total debt of $20,865$20,294 million, decreased by $3,230$3,801 million, or 13.415.8 percent. The debt-to-equity ratio may vary based on several factors, including differences between management’s expectations and actual results of operations.
Looking Forward
In 2017, IBM Global Financing’s legal entity structure was reorganized globally to consolidate Client Financing and Commercial Financing under IBM Credit which drives operational benefits. The company has access to the short- and long-term debt markets as an issuer in the capital markets and as a borrower from IBM. In 2020, the company made distributions to IBM of $411$636 million. The company will continue to target a debt-to-equity ratio of 99.0 to 1. The company’s actual debt-to-equity ratio may vary based on several factors, including differences between management’s expectations and actual results of operations. The future amount of total debt and contributions from and distributions to IBM may vary as the company continues to manage leverage to the targeted debt-to-equity ratio. Absent other funding alternatives, a protracted period where the company or IBM could not access the capital markets would likely lead to a slowdown in originations. Financing originations, which determine the asset base of the company’s annuity-like business, are also dependent upon the demand for IT products and services as well as client participation rates.
The company’s financial position provides flexibility and funding capacity which enables the company to be well positioned in the current environment. As a captive finance company, the company’s financing assets result primarily from the financing of IBM products and services. Substantially all of the company’s financing assets are IT-related, which provide a stable base of business. The company’s financing offerings are competitive and available to clients as a result of factors including the company’s borrowing cost, financing incentive programs and access to the capital markets.
In 2019, the company wound down the OEM IT portion of its Commercial Financing operations and continues to provide differentiated end-to-end financing solutions, including commercial financing in support of IBM partner relationships.
IBM Credit has policies in place designed to manage the risks involved in financing, including credit losses, residual values, liquidity, currency and interest rates.rates, with enhanced focus in this unprecedented environment of the COVID-19 pandemic. These policies may also include credit insurance, financial guarantees, nonrecourse borrowings, transfers of receivables recorded as true sales in accordance with accounting guidance or sales of equipment under operating lease. Sales of receivables arrangements are also utilized in the normal course of business as part of the company’s cash and liquidity management. In the second quarter ofnine months ended September 30, 2020, the company sold $711$1,565 million of Client Financing receivables which qualified as true sales.
In addition, IBM Credit has historically been able to manage residual value risk both through insight into IBM’s product cycles and monitoring of OEM IT product announcements. Interest rates and the overall economy (including currency fluctuations) will have an effect on both revenue and net margin. Interest rates directly impact the company by increasing or decreasing the financing revenue and associated borrowing costs. The
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company’s interest rate risk management policy, combined with its pricing strategy, should mitigate margin erosion due to changes in interest rates.
On March 11, 2020, the World Health Organization (WHO) declared the novel coronavirus (COVID-19) a global pandemic. This resulted in significant governmental measures being initiated around the globe, including travel bans and border closings, shelter-in-place orders, closures of non-essential businesses and social distancing requirements in efforts to slow down and control the spread of the virus.
The health of the company’s employees, clients, business partners and community remain its primary focus. The company is actively engaged to ensure its preparedness plans and response activities are aligned with recommendations of the WHO, the U.S. Centers for Disease Control and Prevention and governmental regulations.
The COVID-19 pandemic is an unprecedented, global challenge and it has placed every company in uncharted waters. The long-term economic effects of the pandemic remain unknown.
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Financing originations, which determine the company’s financing asset base, are impacted by IBM’s product and services sales volumes and IBM Credit’s participation rates in those sales. IBM and IBM Credit’s client profile and annuity base provide some level of stability, not only in revenue, but also in profit and cash as the company manages through these challenging times. While Client Financing originations volumes have increased inIn the three and six months ended June 30,third quarter of 2020, this quarter IBM experienced some disruptions in transactional performance and volume reductions.delays in some services projects which is reflected within the company’s financing originations along with product cycle dynamics within IBM’s Systems segment.
The current environment and macroeconomic uncertainty could impact the credit quality of the company’s receivables portfolio and the level of provision for credit losses. IBM Credit has applied, and will continue to apply its rigorous credit policies, particularly in industries and countries disrupted by COVID-19 as it relates to the origination of new business and the evaluation of the existing portfolio. The company will continue to take risk mitigation actions when necessary. The balance sheet remains strong with solid liquidity and access to the short- and long-term capital markets, as well as the support given by IBM’s overall liquidity position and access to capital markets. See note 14, “Relationship with IBM and Related Party Transactions,” for details on material arrangements between IBM Credit and IBM regarding support, operating, borrowing, licensing, service and other relationships.
For the period ended JuneSeptember 30, 2020, the company assessed certain accounting-related matters that generally require consideration of current information reasonably available and utilized forecasted financial data to help assess future impacts to IBMthe company as a result of the COVID-19 pandemic. The accounting matters assessed included but were not limited to, the allowances for credit losses, net investments in sales-type or direct financing leases and any significant lease modifications. These assessments did not result in any material impacts to the consolidated financial results as of and for the quarter ended JuneSeptember 30, 2020. IBM Credit will continue to assess these matters in future periods. While the company’s geographically diverse client base, product and client knowledge, and strategy to substantially match-fund the term, currency and interest rate variability of its debt to the underlying financing assets should enable prudent management of the business going forward, there can be no assurance that impacts will not be material to the consolidated financial results in future periods given the inherent uncertainty as it relates to the magnitude and/or duration of the pandemic.
On October 8, 2020, IBM announced a plan to separate the managed infrastructure services unit of its Global Technology Services segment into a new public company with an estimated completion by the end of 2021. IBM Credit will continue to monitor the progression of this spin-off and its impact to the company.
Forward-looking and Cautionary Statements
Except for the historical information and discussions contained herein, statements contained in this Form 10-Q may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based on the company’s current assumptions regarding future business and financial performance. These statements involve a number of risks, uncertainties and other factors that could cause actual results to differ materially, including, but not limited to, the following: the company’s financial condition being in large part dependent upon IBM; the impact on the company of IBM's proposed separation of the managed infrastructure services unit of its Global Technology Services segment; a downturn in the economic environment; innovations in the technology sector impacting clients’ propensity to enter in financing arrangements; the company’s reliance on partner relationships; client credit risk and an inability to collect receivables in a timely manner, which could impact financial results; changes to residual value, which could affect the profitability of lease transactions; impact of exposure to currency and financing risks and changes in market liquidity conditions; changes in financial regulation, supervision and licensing laws and regulations; changes in
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local legal, economic, political and health conditions; cybersecurity and data privacy considerations; risks from legal proceedings and investigatory risks; adverse effects from tax matters; impacts of business with government clients; the company’s use of accounting estimates; ineffective internal controls; and other risks, uncertainties and factors discussed in Item 1A, “Risk Factors” in the company’s Annual Report Form 10-K filed on February 28, 2020 with the SEC or in materials incorporated therein or herein by reference. Except as required by law, the company assumes no obligation to update or revise any forward-looking statements.
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Item 4. Controls and Procedures
The company’s management evaluated, with the participation of the Chairman and President, and the Vice President of Finance, the effectiveness of the company’s disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the Chairman and President, and the Vice President of Finance have concluded that the company’s disclosure controls and procedures were effective as of the end of the period covered by this report. There has been no change in the company’s internal control over financial reporting that occurred during the quarter covered by this report that has materially affected, or is reasonably likely to materially affect, the company’s internal control over financial reporting.
Part II. Other Information
Item 1. Legal Proceedings
Refer to note 10, “Contingencies,” on page 22 of this Form 10-Q.
Item 5. Other Information
On July 27, 2020, the company entered into the Second Amended and Restated Limited Liability Company Agreement with IBM GF International Holdings LLC, the sole equity member of the company, to clarify that, in accordance with Section 18-113 of the Delaware Limited Liability Company Act (i) for any action or transaction contemplated or governed by the agreement, an electronic transmission is equivalent to a written document, and (ii) whenever the agreement requires or permits a signature, the signature may be a manual, facsimile, conformed or electronic signature.
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Item 6. Exhibits
Exhibit Number |
| Description |
|
| |
| | |
31.1 | | |
| | |
31.2 | | |
| | |
32.1 | | |
| | |
32.2 | | |
| | |
101.INS | | XBRL Instance Document - the instance document does not appear on the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document. |
| | |
101.SCH | | XBRL Taxonomy Extension Schema Document. |
| | |
101.CAL | | XBRL Taxonomy Extension Calculation Linkbase Document. |
| | |
101.DEF | | XBRL Taxonomy Extension Definition Linkbase Document. |
| | |
101.LAB | | XBRL Taxonomy Extension Label Linkbase Document. |
| | |
101.PRE | | XBRL Taxonomy Extension Presentation Linkbase Document. |
| | |
104 | | Cover Page Interactive Data File - the cover page interactive data file does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document. |
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SIGNATURE
Pursuant to the requirements of Section 12 of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| IBM CREDIT LLC | |||
| (Registrant) | |||
| | | ||
Date: |
| | | |
| | | ||
| By: | /s/ Adam Wilson | ||
| | Adam Wilson | ||
| | Vice President, Finance |
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