Table of Contents

PART I

Item 1. Business.

Overview

IBM Credit LLC (IBM Credit or the company), a Delaware limited liability company, is an indirect, wholly owned subsidiary of International Business Machines Corporation (IBM). All of the limited liability company interests in IBM Credit are owned by IBM GF International Holdings LLC, a Delaware limited liability company (the Member), which is also an indirect, wholly owned subsidiary of IBM. IBM Credit is engaged in providing financing solutions for information technology (IT) hardware, software and services.

IBM Credit was originally established as a subsidiary of IBM to provide financing solutions and remanufacturing and remarketing operations, in each case primarily for IBM products sold in the United States. Today, the company maintains a global organizational structure aligned with its operating segments, Client Financing and Commercial Financing. Client Financing primarily provides financing to end-user clients, which consist primarily of large, medium-sized and small corporations and other businesses, for their purchase of IBM products and services and original equipment manufacturers’ (OEM) IT products and services, in each case in order to finance clients’ total solution requirements. Client Financing also provides loans to IBM to finance the acquisition of IT assets used in client services contracts. The company believes the financing arrangements are predominantly for products and services that are critical to the end-user clients’ business operations. Commercial Financing provides working capital financing to suppliers, distributors, and resellers of IBM and OEM IT products and services. For information regarding the company’s operations by segment, see Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and note M, “Segment Information,” to the Consolidated Financial Statements.

IBM Credit has the benefit of both deep knowledge of the company’s and IBM’s client base and insight into the hardware, software and services traditionally financed. These factors allow the company to effectively manage two of the major risks associated with financing: credit and residual value. These risks and others are discussed more fully in Item 1A, “Risk Factors.” The company also maintains long-term relationships with its clients through various stages of the IT asset life cycle — including initial purchase, technology upgrades and end-of-lease asset disposition.

Organizational Structure

IBM Credit was incorporated in Delaware in 1981 as IBM Credit Corporation and was subsequently converted to a limited liability company and renamed IBM Credit LLC in 2003.

IBM Credit operates as part of IBM’s Global Financing (IGF) business segment. The IGF business segment encompasses two primary activities: IBM Credit’s financing business and IBM’s remanufacturing and remarketing business. The remanufacturing and remarketing business includes sales, marketing and inventory management of used IBM and OEM IT products, and is conducted by IBM subsidiaries that are not part of IBM Credit.

In 2016, IGF established new entities to separate certain assets and liabilities related to IBM Credit’s financing business from IBM in the majority of countries where IGF operates. In most countries in which IBM Credit’s financing business was operated as a division of the IBM legal entity, a subsidiary was formed that acquired the assets and liabilities related to the financing business from the existing IBM legal entity. The remanufacturing and remarketing business and related assets and liabilities remained in the existing IBM legal entity. In the few countries where the financing business was not considered material to IBM Credit on a consolidated basis, such operations remained in the existing IBM legal entity. These countries’ operating results are not reported as part of IBM Credit. In countries in which the financing business already operated in a separate legal entity and included the remanufacturing and remarketing business, such legal entity was transferred to IBM Credit. In connection with each such transfer, the legal entity divested its assets and liabilities related to the remanufacturing and remarketing business to IBM prior to its transfer to IBM Credit. In 2017, IBM Credit directly or indirectly acquired all of the foreign legal entities that operate the financing business, as referenced above, as part of a strategy to drive operational benefits by consolidating the financing business under IBM Credit.

The company divested its remanufacturing and remarketing business in the U.S. to IBM in 2016 to leverage IBM’s experience in product manufacturing, distribution, sales and service of IT equipment. The company concluded that the divestiture of the U.S. remanufacturing and remarketing business represented a significant strategic shift in the company’s operations and would have a material effect on its future financial results. As a result, the U.S. remanufacturing and remarketing business results are presented as discontinued operations for the historical periods included in the Consolidated Financial Statements. The foreign remanufacturing and remarketing business was divested by the foreign affiliates prior to the company acquiring the foreign affiliates, and is therefore not included in the company’s Consolidated Financial Statements. For additional information, see note N, “Discontinued Operations,” to the Consolidated Financial Statements.

Business Segments

The company’s two operating segments, Client Financing and Commercial Financing, are business units that offer financing solutions based upon the needs of the company’s clients. The segments represent components of the company for which separate financial information is available and utilized on a regular basis by the chief operating decision maker in determining how to allocate resources and evaluate performance.

Each segment’s business and the financing solutions that generate the segment’s revenue, results of operations and asset portfolio are discussed further in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and in note M, “Segment Information,” to the Consolidated Financial Statements.

Client Financing

The company provides leases and loan financing to end-user clients and acquires installment payment plans offered to end-user clients by IBM. End-user clients are primarily IBM clients who elect to finance their acquisition of IBM’s hardware, software, and services, as well as OEM IT hardware, software and services, to meet their total solution requirements. In addition, the company provides loans to IBM, primarily in support of IBM’s Technology Services & Cloud Platforms segment’s acquisition of IT assets, which are used in its external, revenue-producing services contracts.

Client Financing solutions are typically delivered as follows:

In certain countries, the leases and loans are originated by IBM directly to the end-user client, and the company purchases the receivables and related equipment from IBM. In addition, IBM Credit supports IBM’s client offerings of installment payment plans for hardware, software and services to the end-user by purchasing receivables related to such payment plans from IBM. For additional information, see note C, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements.

For IBM Total Solution Offerings in certain countries, as well as for certain government and other contracts, IBM Credit is not a party to IBM’s contract with the end-user client. Instead, IBM directly provides

the end-user client with the financing. IBM Credit acquires a participation interest from IBM that represents the financing portion of such payments and assumes the associated credit risk of IBM’s end-user client from IBM. For additional information, see note C, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements.

Client Financing solutions are typically marketed and sold by IBM Credit employees, primarily in cooperation with IBM and business partner sales teams during the product and services sales cycle. Client Financing solutions are generally offered at market rates that are competitive with what individual clients could obtain from other lenders. Client Financing solutions may also be offered at discounted rates, resulting from financing incentives provided by IBM, business partners or OEM IT providers through various financing incentive programs, allowing IBM Credit to realize a market yield. For additional information, see the “Financing Incentive Programs” section.

The company recovers the residual value of leased equipment by selling to IBM assets that have been returned from lease 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 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 company may also obtain guarantees from financial institutions of the future value of the equipment to be returned at the end of lease. Guarantees may be obtained for both IBM and OEM IT products. For additional information on the residual value of leased assets and the sale of equipment returned from lease to IBM, see note A, “Significant Accounting Policies,” and note C, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements.

Commercial Financing

IBM Credit provides working capital financing to suppliers (consisting of IBM and suppliers of OEM IT products and services), distributors (typically third parties that purchase IT products from suppliers and provide those products to resellers) and resellers. This financing may take the form of loans to distributors and resellers, which are generally unsecured obligations of the client, but may be collateralized by inventory or accounts receivable. This financing may also include factoring, in which IBM Credit purchases receivables from suppliers, distributors or resellers.

IBM Credit generally extends payment terms in the range of 30 to 90 days to distributors and resellers in respect of their inventory purchases, while providing early settlement to suppliers at the supplier’s election. Suppliers generally provide financing incentives to reduce their distributors’ or resellers’ cost of financing for this term. The extended payment terms and early settlement provide liquidity to these clients. Commercial Financing is also important to suppliers and distributors because it enables them to shed credit risk, which is assumed by IBM Credit. For certain creditworthy distributors or resellers, IBM Credit may, at its discretion, allow a further extension of the repayment period for an additional financing charge. In addition, IBM Credit purchases interests in certain of IBM’s trade accounts receivable at a discount and assumes the credit risk of the IBM client.

In 2019, the company will wind down the portion of its Commercial Financing operations that provides short-term working capital solutions for OEM IT suppliers, distributors and resellers. This wind-down will start in the second quarter and is expected to conclude by fourth-quarter 2019, as the receivables are collected in the normal course of business. The company will continue to provide differentiated end-to-end financing solutions, including commercial financing in support of IBM partner relationships.

Financial Regulation and Supervision

IBM Credit’s operations are subject to financial regulation, including licensing requirements and supervision, within and outside the U.S. Although IBM Credit operates in all 50 states and in certain U.S. territories, the company is only required to be licensed for the type of financing it provides in a very limited number of states or territories. The company believes it is in material compliance with all licensing requirements in these states and territories. None of the company’s lender licenses are consumer finance licenses, as the company does not extend credit to consumers. In certain of these jurisdictions, as a result of being licensed as a non-bank lender, the company is or may be subject to compliance examinations, audits or information requests, including with respect to client complaints, by the relevant licensing agency. With respect to the type of commercial financing activities conducted by IBM Credit, state and local laws in the U.S. generally regulate debt collection practices and creditors’ rights, establish maximum interest rates and other charges and prohibit discrimination in the extension of credit and related activities.

In addition to state and local laws, IBM Credit is subject to certain federal financial laws and regulations, including, for example, the Equal Credit Opportunity Act which, among other things, prohibits discrimination in the extension of credit and related activities.

IBM Credit’s financing business outside the U.S. is generally conducted through subsidiaries and is subject to local financial laws and regulations, including, in certain jurisdictions, reporting requirements and the requirement to maintain an anti-money laundering program. A limited number of IBM Credit’s foreign subsidiaries are authorized or licensed as banks, credit institutions or non-bank lenders that are subject to heightened regulation, including, for example, capital requirements and prudential supervision by local authorities. The company’s regulated subsidiaries in these countries are subject to periodic examinations related to their financing business.

IBM Credit monitors its financing operations for compliance with applicable laws and regulations. The company believes it is in material compliance with all licensing requirements as are necessary to conduct its financing business both within and outside the United States and is in material compliance with all laws and regulations applicable to its financing operations.

Portfolio Risk Management

IBM Credit conducts a credit evaluation of its clients prior to extending financing. The credit evaluation takes into account current information about the client, such as published credit ratings, financial statements, news reports and current market implied credit analysis, as well as the current economic environment, outstanding obligations to the company and prior collection history. In some cases, commercial factors, including IBM’s relationship with a client, are also considered in making origination and other business decisions. Counterparty risks are managed at an overall IBM level and all subsidiaries, including IBM Credit, operate within those policies, principles and delegations. When appropriate, actions are taken to mitigate credit risk, such as requiring the inclusion of covenants from the client to protect against credit deterioration during the life of the obligation and obtaining credit enhancements, such as payment guarantees and letters of credit. The company performs additional credit evaluations of its clients on a regular basis. For additional information, see note E, “Financing Receivables, Receivables Purchased/Participated from IBM,” to the Consolidated Financial Statements.

IBM Credit employs a rigorous process to optimize portfolio risk and to obtain additional credit capacity in support of new business opportunities. IBM Credit engages in portfolio risk mitigation by entering into various non-recourse and limited recourse agreements with third parties consisting primarily of domestic and foreign financial institutions including banks, commercial and vendor finance companies, equipment lessors, credit insurers and other specialty finance companies. Third party arrangements may be funded or unfunded and include participations, sales and assignments, factoring, credit insurance, and other credit risk mitigation structures under discretionary or committed facilities. In limited instances, the company sells financing receivables and operating leases (and related assets) to third parties.

Financing Incentive Programs

IBM and OEM IT suppliers from time to time sponsor financing incentive programs that allow the company to offer waived or reduced rate financing for marketing program offerings and sales promotions. Pursuant to these programs, IBM or OEM IT suppliers offer a discount to IBM Credit that enables the company to realize a market yield on any financing contract entered into either directly or indirectly under these incentive programs. Market yield is based on the credit quality of the client and the length of the contract.

The volume of financing incentive programs sponsored by IBM and OEM IT suppliers, and the split of those programs between leases and loans, may vary over time depending upon the marketing strategies of the respective supplier.

Client Services

Once a financing arrangement is in place, the company provides its clients with timely direct settlement of financial obligations with such clients’ suppliers. The company provides account management and client service and support throughout the financing relationship, including reminders for payment, processing of payments and handling of client billing questions. The company also provides end-of-lease options, including purchase, extension or return of leased equipment.

Relationship with IBM

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 and IBM Credit regarding support, borrowing, licensing, service and other arrangements. For additional information, see Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and note C, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements.

IBM Support Agreement

IBM Credit and IBM are parties to a support agreement, which became effective on May 2, 2017 (the Support Agreement). Pursuant to the Support Agreement, IBM has agreed with IBM Credit that IBM will:

In the event that IBM Credit’s leverage ratio as of the end of any fiscal quarter is higher than 11 to 1, then, upon demand by IBM Credit, IBM has agreed to make or cause to be made a capital contribution to IBM Credit in an amount sufficient to cause the 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.

IBM or IBM Credit may each terminate the Support Agreement upon giving the other party 30 days prior written notice, with a copy of such notice to each rating agency that is then rating any outstanding debt (with debt for purposes of this discussion defined as IBM Credit’s indebtedness for borrowed money that either (i) is rated by one or more rating agencies or (ii) is designated by the board of managers of IBM Credit as constituting debt for purposes of the Support Agreement). The Support Agreement may be modified or amended only by the written agreement of IBM and IBM Credit and upon 30 days prior written notice to each rating agency rating any outstanding debt. However, such termination, modification or amendment will not be effective with respect to any debt outstanding at the time of such termination, modification or amendment unless (a) such termination, modification or amendment is permitted under the documentation governing such debt, (b) all affected holders of such debt (or, in the case of debt incurred pursuant to documentation that permits the Support Agreement to be terminated, modified, or amended with the consent of less than all of the holders of such debt, the requisite holders of such debt) otherwise consent in writing or (c) with respect to debt that is rated by one or more rating agencies at the request of IBM or IBM Credit, each such rating agency confirms in writing that the rating assigned to such debt by such rating agency will not be withdrawn or reduced because of the proposed action.

Under the terms of the Support Agreement, the Support Agreement is not enforceable against IBM by anyone other than (a) IBM Credit or (b) if any case is commenced under the United States Bankruptcy Code (11 U.S.C. §§ 101 et seq.), or any successor statutory provisions (the Bankruptcy Code), in respect of IBM Credit, the debtor in possession or trustee appointed by the court having jurisdiction over such proceeding. In the event of (1) a breach by IBM in performing a provision of the Support Agreement and (2) the commencement of such a case under the Bankruptcy Code with respect to IBM Credit while any debt is outstanding, the remedies of a holder of debt shall include the right, if no proceeding on behalf of IBM Credit has already been commenced in such case, to file a petition in respect of IBM Credit thereunder with a view to the debtor in possession, or the trustee appointed by the court having jurisdiction over such proceeding, pursuing IBM Credit’s rights under the Support Agreement.

The Support Agreement is governed by and construed in accordance with the laws of the State of New York.

Borrowing Relationship

The company has credit facilities with IBM that allow the company to obtain short-term and long-term funding on an as-needed basis and the company seeks to substantially match fund the term, currency and interest rate variability of its debt against its underlying financing assets. The general terms of the loans under these credit facilities are set forth in standard intercompany loan agreements, which include standard default clauses (including failure to pay interest or principal when due, bankruptcy and ceasing to be a wholly owned subsidiary). The specific terms of any individual loan, including the interest rate and term applicable to each loan, are set forth in a loan confirmation statement that is issued at the time of each individual borrowing under the applicable credit facility. IBM Credit is entitled to prepay loans issued under these credit facilities from time to time, subject to payment of any agreed penalty or premium. Loans with IBM under such agreements are included in the Consolidated Statement of Financial Position as debt payable to IBM. Interest expense incurred on these borrowings from IBM is included in financing cost in the Consolidated Statement of Earnings. For additional information on short-term and long-term funding, see note G, “Borrowings,” to the Consolidated Financial Statements.

Services and Other Arrangements

The company sources a number of services from IBM, including functional support for collection administration, treasury, accounting, legal, tax, human resources, marketing and IT services. 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 intangibles in its business. Where practical, allocations of the expenses incurred by IBM in the provision of these functional support services are based upon direct usage. For the remainder, where possible, expenses are allocated on measurable non-financial drivers, such as number of employees. When a clear and measurable non-financial driver cannot be established, these expenses are allocated based on a measurable financial driver, such as net margin. Management believes that these allocation methods are reasonable. In addition, the company conducts its global operations primarily from IBM leased or IBM owned facilities for which IBM charges the company for occupancy

expenses based on square footage space usage with no fixed term commitment. For additional information regarding the historical allocation of expenses by IBM to the company, see note C, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements.

The company participates in the various IBM stock-based compensation plans, including awards of Restricted Stock Units and Performance Share Units. For additional information, see note C, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements.

The company participates in certain multiemployer retirement-related plans that are sponsored by IBM. Charges from IBM to the company in relation to these multiemployer plans (including non-pension, post-retirement benefits) are limited to service costs. The company is charged by IBM using an allocation method based on the number of employees. Contributions and any other types of costs for these multiemployer plans are the responsibility of IBM. In certain countries, the company participates in plans that are accounted for as multiple-employer plans. For these plans, the retirement-related plan obligation is owned by the company and is generally calculated using actuarial valuations. Under these plans, IBM manages the assets and allocates them to the company based on the company’s obligation. For additional information, see note L, “Retirement-Related Benefits,” to the Consolidated Financial Statements.

Expenses related to the services discussed above are included in Selling, General and Administrative (SG&A) expense in the Consolidated Statement of Earnings. It is not practical to estimate the actual costs that would have been incurred had IBM Credit been a separate company during the periods presented. These costs also 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 company also invests a portion of its excess cash in short-term interest-bearing accounts with IBM, which can be withdrawn upon demand. For additional information, see note C, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements.

Tax Sharing Agreement

The company’s U.S. federal and certain state and foreign operations are included in various IBM consolidated tax returns; 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 (Tax Sharing Agreement). Pursuant to the Tax Sharing Agreement, IBM charges the company for any taxes owed and reimburses the company for tax attributes generated. Such charges or reimbursements are based upon a calculation of the company’s relevant pro forma stand-alone tax return. For additional information, see note K, “Taxes,” to the Consolidated Financial Statements.

Competition

The company operates in a highly competitive environment, where financing for users of IBM hardware, software and services and OEM IT products and services is available through a variety of sources. The company’s strong relationship with IBM provides the company with access to capital and the ability to manage increased exposures, each of which generates a competitive advantage. The key competitive factors in Client Financing and Commercial Financing include interest rates charged, IT product experience, client service, contract flexibility, ease of doing business, global capabilities and residual values. In providing financing solutions to clients, the company competes with three types of companies: other captive financing entities of IT companies, non-captive financing entities and banks and financial institutions.

Employees and Related Workforce

At December 31, 2018, IBM Credit and its subsidiary companies employed approximately 2,500 people globally.

Geographic Results

The company reports revenue on a geographic basis within Item 7, “Management Discussion and Analysis of Financial Condition and Results of Operations.” The geographies include the Americas, Europe/Middle East/Africa (EMEA), and Asia Pacific. The company also provides information regarding total revenue and earning assets in the U.S. and foreign countries in note M, “Segment Information,” to the Consolidated Financial Statements.

Available Information

IBM Credit files reports with the Securities and Exchange Commission (SEC), including the annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and any other filings required by the SEC. The SEC maintains a website (www.sec.gov) that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC. In addition, IBM’s website (www.ibm.com/investor) contains a significant amount of information about IBM Credit, including the company’s annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as reasonably practicable after such material is electronically filed or furnished to the SEC. These materials are also available free of charge on or through IBM’s website.

Forward-looking and Cautionary Statements

Certain statements contained in this Annual Report on Form 10-K may constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 (Reform Act). Forward-looking statements are based on the company’s current assumptions regarding future business and financial performance. These statements by their nature address matters that are uncertain to different degrees. The company may also make forward-looking statements in other reports filed with the SEC and in materials delivered to lenders and in press releases. In addition, the company’s and IBM representatives may from time to time make oral forward-looking statements. Forward-looking statements provide current expectations of future events based on certain assumptions and include any statement that does not directly relate to any historical or current fact. Words such as “anticipates,” “believes,” “expects,” “estimates,” “intends,” “plans,” “projects” and similar expressions, may identify such forward-looking statements. Any forward-looking statement in this Form 10-K speaks only as of the date on which it is made. The company assumes no obligation to update or revise any forward-looking statements. In accordance with the Reform Act, set forth under Item 1A, “Risk Factors” in this Form 10-K are cautionary statements that accompany those forward-looking statements. Readers should carefully review such cautionary statements as they identify certain important factors that could cause actual results to differ materially from those in the forward-looking statements and from historical trends. Those cautionary statements are not exclusive and are in addition to other factors discussed elsewhere in this Form 10-K, in the company’s filings with the SEC or in materials incorporated therein by reference.

Item 1A. Risk Factors.

The Company’s Financial Condition is in Large Part Dependent upon IBM: A significant portion of IBM Credit’s financing business consists of financing associated with the sale of IBM’s products and services. 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. Participation rates reflect the propensity of IBM’s clients to finance their transactions through IBM Credit in lieu of paying IBM up-front cash or financing through a third party. As discussed on page 7 under “Financing Incentive Programs,” IBM Credit participates in certain marketing programs in conjunction with IBM that allow the company to offer financing to end-user clients, which provides IBM Credit with a competitive advantage in financing IBM’s offerings. Any change in these marketing programs or IBM’s distribution methods, or any reduction in the company’s ability to offer competitively priced financing to IBM end-user clients, could reduce the company’s participation rates in IBM’s product and service offerings, which could have a material adverse effect on the business, financial condition, results of operations and cash flows of the company. IBM also provides IBM Credit with other types of operational and administrative support, which are integral to the conduct of the company’s business. For additional information, see note C, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements. Any changes in the levels of support from IBM could also negatively impact the company’s results. Further, if there were significant changes in IBM’s liquidity or capital position, the quality of IBM’s offerings, transfers of ownership of IBM’s products or services, or other factors impacting IBM or its products, such changes could significantly affect IBM Credit’s financial condition and results of operations. In addition, IBM has one of the strongest brand names in the world, and its brand and overall reputation could be negatively impacted by many factors, including if IBM does not continue to be recognized for its industry-leading technology and solutions and as a cognitive leader. If negative perceptions tarnish IBM’s or IBM Credit’s brand image and reputation, IBM Credit’s ability to attract and retain customers and talent could be impacted. The success of IBM’s business and operations and demand for IBM products and services are subject to a number of risks, including, among others:

Additionally, the company’s credit ratings depend, in part, on the existence of the Support Agreement with IBM. If this arrangement, or replacement arrangements, if any, are modified, or if a credit rating of IBM is lowered, the company’s credit ratings could be negatively impacted, potentially leading to higher borrowing costs and negatively impacting the company’s ability to offer competitively priced financing to its clients, which could have a material adverse effect on the business, financial condition, results of operations and cash flows of the company.

Downturn in Economic Environment Could Impact the Company’s Business: If there is a downturn in the economic environment, generally or specific to certain industries in which IBM Credit’s clients operate, clients may be unable to meet their debt obligations and they may not enter into new financing arrangements, which could negatively impact the company’s financial results.

Technology Sector Innovation Initiatives Could Impact Clients’ Propensity to Enter into Financing Arrangements: As IBM and other suppliers of technology transform their offerings and enter new market segments, some new offerings and delivery models may be less conducive to traditional financing than the historical offerings. While the company

makes efforts to adapt IBM Credit’s financing business and offerings to these changes, the company may not be successful and this could have negative impacts on the company’s financial results and long-term success.

The Company’s Reliance on Partner Relationships Could Impact Its Business: The company offers its solutions directly and through a variety of business partners, including suppliers, distributors and resellers of IT hardware, software and services. Changes in the business condition, financial or otherwise, of these parties could negatively impact the company and affect its ability to bring its solutions to market. If the company moves into new areas, partners may be unable to keep up with changes in IBM Credit’s offerings, and the company may be unable to recruit and enable appropriate partners. In addition, the failure of partners to comply with all applicable laws and regulations may prevent the company from working with them, which could negatively impact the company and affect its ability to bring solutions to market.

The Company’s Financial Performance Could be Impacted by Its Ability to Collect Receivables in a Timely Manner and Result in Incurring Potential Unexpected Credit Losses: Changes in the concentration of credit and the credit risk of IBM Credit’s clients can be impacted by global, country, industry and client specific economic conditions, which in turn may impact clients’ working capital and their ability to make scheduled payments on the company’s financing receivables. In addition, client allegations and disputes regarding product quality, service delivery concerns, amounts due to the company under Total Solution Offerings or other circumstances unique to the clients, may cause them to delay scheduled payments when due. IBM Credit’s ability to collect receivables and generate sufficient cash to meet its business obligations, including servicing its debt, can have a significant impact on the company’s business operations.

Additionally, the company’s client base includes a variety of enterprises, from small and medium businesses to the world’s largest organizations and governmental entities. The company performs ongoing credit evaluations of its clients’ financial conditions. These credit evaluations rely in part on third party information, including information provided by the company’s clients, and may not successfully detect and prevent fraud or misconduct by the company’s end-user clients or other third parties. Any such fraud or misconduct could have a significant impact on the company’s ability to collect receivables. If the company becomes aware of information related to the creditworthiness of a client, or if actual default rates on receivables in the future differ from those currently anticipated, the company may have to adjust its allowance for credit losses, which could affect the company’s financial position and results of operations.

Changes to Residual Value Could Adversely Affect the Profitability of the Company’s Lease Transactions: The recorded residual values of lease assets are estimated at the inception of a lease to be the expected fair value of the assets at the end of the lease term. The estimated residual value of leased equipment is based on a number of factors, including historical market sales prices, past remarketing experience, any known significant market or product trends and IBM’s remarketing plans. If residual values significantly decline or are incorrectly estimated, in each case due to economic factors, product quality issues, market or client behavior changes, fraud or misconduct by end-user clients or other third parties, unforeseen technology innovations or any other circumstances, it may lower financing margin and income or result in losses.

The Company’s Financial Performance Could be Impacted by Exposure to Currency and Financing Risks and Changes in Market Liquidity Conditions: The company derives a significant percentage of its revenues and costs from its operations in local currency environments, which are affected by changes in the relative values of the U.S. dollar and foreign currencies. Further, inherent in the company’s business are risks related to the interest rate and currency fluctuations on the associated debt and liabilities. Changes in interest rates or changes in the global economy (including currency fluctuations) could have a negative impact on both revenue and net margin. 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 employs several strategies to manage these risks, including the use of derivative financial instruments. However, there can be no assurance that the company’s efforts to manage its currency and financing risks will be successful. The company’s financial performance is exposed to a wide variety of industry sector dynamics worldwide that could impact IBM Credit’s ability to generate sufficient cash to service its debt. The company’s earnings and cash flows, as well as its access to funding, could be negatively impacted by changes in market liquidity conditions. For more information about the company’s liquidity position, see Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” in this Form 10-K.

IBM Credit’s ability to make payments on, or to refinance, its indebtedness and to fund the company’s operations depends on its ability to generate cash and its ability to access the capital markets. These factors, to a certain extent, are subject to general economic, financial, competitive, legislative, regulatory, capital market and other conditions that are beyond the company’s control. The availability and cost of financing is also influenced by the company’s credit ratings, which depend in part on the existence of the Support Agreement with IBM. If IBM Credit is unable to generate sufficient cash flows in the future to service its debt, the company may be required to refinance all or a portion of its existing debt or to obtain additional financing. There can be no assurance that any refinancing will be available or that additional financing could be obtained on acceptable terms. In the absence of other funding alternatives, a protracted period where the company could not access the capital markets would likely lead to a slowdown in originations. The inability to service or refinance the company’s existing debt, which has a dependency on IBM, or to obtain additional financing could have a material adverse effect on the financial position, liquidity, and results of operations of the company.

Certain of the Company’s Operations Are Subject to Financial Regulation, Supervision and Licensing under Various Laws and Regulations: The company is required to comply with a range of financial laws and regulations within and outside the U.S., which may be costly to adhere to and may affect both the results of its operations and its ability to service its earning assets. Compliance with these laws and regulations requires that the company maintain certain licenses and be subject to examinations or audits by supervisory authorities in certain jurisdictions in which it operates. Failure to comply with such laws and regulations in any particular jurisdiction could result in significant civil penalties and other sanctions, such as a revocation of the company’s license to do business in that jurisdiction. In the event the company were to become subject to any such sanctions, its business in the affected jurisdiction could be adversely affected, which in turn could have a material adverse effect on IBM Credit’s business prospects, results of operations or financial condition.

Due to the Company’s Global Presence, Its Business and Operations Could Be Impacted by Local Legal, Economic, Political and Health Conditions: The company is a global business, so changes in the laws or policies of the countries in which the company operates, or inadequate enforcement of laws or policies, could affect the company’s business and overall results of operations. Substantial revisions that U.S. and foreign governments are undertaking or considering in areas such as the regulation and supervision of financial institutions, including financing and leasing companies, may have an effect on the company’s structure, operations, sales, liquidity, capital requirements, effective tax rate and performance. The company’s results of operations could also be affected by economic and political changes around the world and by macroeconomic changes, including recessions, inflation, currency fluctuations between the U.S. dollar and foreign currencies and adverse changes in trade relationships between countries. Further, if the company expands its client base and the scope of its offerings, both within the U.S. and globally, the company may be impacted by additional regulatory or other risks, including compliance with U.S. and foreign financial industry laws and regulations, data privacy requirements, anti-money laundering laws, tax laws, anti-competition regulations, anti-corruption laws, import and trade restrictions and export requirements. In addition, any widespread outbreak of an illness, pandemic or other local or global health issue, natural disasters, climate change impacts, or uncertain political climates, international hostilities, or any terrorist activities, could negatively affect customer demand and the company’s operations. For example, the U.K. referendum to exit from the E.U., commonly referred to as “Brexit”, has caused global economic, trade and regulatory uncertainty. The company is actively monitoring and planning for Brexit.

Cybersecurity and Privacy Considerations Could Impact the Company’s Business: In the current environment, there are numerous and evolving risks to cybersecurity and privacy, including criminal hackers, hacktivists, state-sponsored intrusions, industrial espionage, employee malfeasance and human or technological error. Computer hackers and others routinely attempt to breach the security of technology systems, and to fraudulently induce employees, clients and others to disclose information or unwittingly provide access to systems or data. The risk of such attacks to the company includes attempted breaches not only of its own systems, but also those of its clients, contractors, business partners, vendors and other third parties. The systems utilized by the company involve the storage, processing and transmission of sensitive data, including proprietary or confidential data, regulated data, and personal information of employees, clients and others. Successful cybersecurity attacks, breaches, employee malfeasance, or human or technological error could result in, for example, unauthorized access to, disclosure, modification, misuse, loss, or destruction of company, client, or other third party data or systems; theft of sensitive, regulated, or confidential data including personal information and intellectual property; the loss of access to critical data or systems through ransomware, destructive attacks or other

means; and business delays, service or system disruptions or denial of service. In the event of such actions, the company, its clients, and other third parties could be exposed to potential liability, litigation, and regulatory or other government action, as well as the loss of existing or potential clients, damage to brand and reputation, and other financial loss. In addition, the cost and operational consequences of responding to cybersecurity incidents and implementing remediation measures could be significant.

The global regulatory environment with regard to cybersecurity, privacy and data protection issues is increasingly complex and may have impacts on the company’s business, including increased risk, cost and expanded compliance obligations. Specifically, the European Union’s Data Protection Regulation and an increased number of data protection laws around the globe could continue to result in increased compliance costs and risks as a result of (i) increased regulatory enforcement of General Data Protection Regulation (GDPR)  and other data protection rules and (ii) the trend of shifting and sharing data processing responsibilities from companies having direct relation with consumers to all companies in the data processing chain. IBM Credit has the ability to leverage IBM’s leading security technologies and solutions, as well as regulatory compliance practices, but as the cybersecurity and corresponding regulatory landscape evolves, the company could incur additional costs, or may also find it necessary to make further significant investments in the future to protect data and infrastructure. Cybersecurity risk to the company and its clients will also depend on factors, such as actions, practices and investments of clients, contractors, business partners, vendors and other third parties.

The Company Is Subject to Legal Proceedings and Investigatory Risks: As a global company with business operations, employees and clients in many countries, the company is or may become involved as a party and/or may be subject to a variety of claims, demands, suits, investigations, tax matters and proceedings that arise from time to time in the ordinary course of its business. The company believes that it has adopted appropriate risk management and compliance programs. Legal and compliance risks, however, will continue to exist and additional legal proceedings and other contingencies, the outcome of which cannot be predicted with certainty, may arise from time to time. Additional information on legal matters is included in note J,  “Contingencies and Commitments,” to the Consolidated Financial Statements.

Tax Matters Could Impact the Company’s Results of Operations and Financial Condition: The company is subject to income taxes in both the U.S. and numerous foreign jurisdictions. The company’s provision for income taxes and cash tax liability in the future could be negatively affected by numerous factors including, but not limited to, income before taxes being lower than anticipated in countries with lower statutory tax rates and higher than anticipated in countries with higher statutory tax rates, changes in the valuation of deferred tax assets and liabilities, and changes in tax laws, regulations, accounting principles or interpretations thereof, which could negatively impact the company’s results of operations and financial condition in future periods. The Organization for Economic Cooperation and Development (OECD) is issuing guidelines that are different, in some respects, than long-standing international tax principles. As countries unilaterally amend their tax laws to adopt certain parts of the OECD guidelines, this may increase tax uncertainty and may negatively impact the company’s income taxes. Local country, state, provincial or municipal taxation may also be subject to review and potential override by regional, federal, national or similar forms of government.

The company’s U.S. federal and certain state and foreign operations are included in various IBM consolidated tax returns and therefore are not directly subject to corporate income taxes but instead settle their tax liabilities with IBM. Any subsequent tax assessments or benefits resulting from tax examinations are the responsibility of IBM. For separate income tax return filings for jurisdictions that are not included in IBM’s tax return, the company is subject to the continuous examination of such income tax returns by tax authorities in those jurisdictions. The company regularly assesses the likelihood of adverse outcomes resulting from these examinations to determine the adequacy of its provision for income taxes. There can be no assurance that the outcomes from these continuous examinations will not have an adverse effect on the company’s provision for income taxes and cash tax liability.

The Company Could Be Impacted by Its Business with Government Clients: The company’s clients include numerous governmental entities and clients whose primary customers are government-owned entities. Some of the company’s agreements with these clients may be subject to periodic funding approval. Funding reductions or delays could negatively impact public sector demand for IBM’s products and services, and therefore, demand for the company’s financing offerings could be negatively impacted. Also, some agreements may contain provisions allowing the client to

terminate without cause or may provide for higher liability limits for certain losses. In addition, the company could be suspended or debarred as a governmental contractor and could incur civil and criminal fines and penalties, which could negatively impact the company’s results of operations, financial results and reputation.

The Company’s Use of Accounting Estimates Involves Judgment and Could Impact the Company’s Financial Results: The application of generally accepted accounting principles requires the company to make estimates and assumptions about certain items and future events that directly affect the company’s reported financial condition. In addition, adopting new accounting standards can also pose challenges to the company. The company’s most critical accounting estimates including the methods used by management to estimate the amount of uncollectible receivables are described in note A, “Significant Accounting Policies,” to the Consolidated Financial Statements. In addition, as discussed in note J, “Contingencies and Commitments,” to the Consolidated Financial Statements, the company makes certain estimates including decisions related to legal proceedings and reserves. These estimates and assumptions involve the use of judgment. As a result, actual financial results may differ.

Ineffective Internal Controls Could Impact the Company’s Business and Operating Results: The company’s internal controls over financial reporting may not prevent or detect misstatements because of its inherent limitations, including the possibility of human error, the circumvention or overriding of controls, or fraud. Even effective internal controls can provide only reasonable assurance with respect to the preparation and fair presentation of the financial statements. If the company fails to maintain the adequacy of its internal controls, including any failure to implement required new or improved controls, or if the company experiences difficulties in its implementation, the company’s business and operating results could be harmed and the company could fail to meet its financial reporting obligations.

Risks Related to the Company’s Securities: The company issues debt securities in the capital markets from time to time, with a variety of different maturities. The value of the company’s debt securities fluctuates based on many factors, including the methods employed for calculating principal and interest, the maturity of the securities, the aggregate principal amount of securities outstanding, the redemption features for the securities, the level, direction and volatility of interest rates, changes in exchange rates, exchange controls, governmental regulations and other factors over which the company has little or no control. The company’s ability to pay interest and repay the principal for its debt securities is dependent upon its ability to manage its business operations, as well as the other risks described under this Item 1A, “Risk Factors.” There can be no assurance that the company will be able to manage any of these risks successfully. In addition, changes by any rating agency to the company’s outlook or credit ratings can negatively impact the value and liquidity of the company’s debt securities. The company does not make a market in its debt securities and cannot provide any assurances with respect to the liquidity or value of such securities. Further, a secondary market may never develop or be maintained for any series of the debt securities. If a secondary market does develop, it may not continue or it may not be sufficiently liquid to allow bondholders to resell debt securities if or when desired or at a price that bondholders consider acceptable.

Item 1B. Unresolved Staff Comments.

Not applicable.

Item 2. Properties.

IBM Credit’s principal executive offices are located in an office building owned by IBM in Armonk, New York. The company is globally located and conducts its business primarily from IBM leased or IBM owned facilities around the world. IBM charges the company for the use of these facilities based on square footage space usage with no fixed term commitment. For additional information regarding the company’s shared facilities, see note C, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements.

Item 3. Legal Proceedings.

See note J, “Contingencies and Commitments,” to the Consolidated Financial Statements.

Item 4. Mine Safety Disclosures.

Not applicable.

PART II

Item 5. Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.

IBM Credit is a Delaware limited liability company and an indirect, wholly owned subsidiary of IBM. At December 31, 2018, all limited liability company interests in IBM Credit were owned by the Member, which is also an indirect, wholly owned subsidiary of IBM. The company has no other class of equity securities issued and outstanding. Dividends are declared and paid by IBM Credit as determined by its Board of Managers. The company paid $700 million in cash distributions to IBM during 2018.

Item 6. Selected Financial Data.

IBM Credit has omitted this section pursuant to General Instruction I(2)(a) of Form 10-K.

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The “Management Discussion and Analysis of Results of Operations and Financial Condition” (Management Discussion and Analysis) is designed to provide readers with an overview of the business and a narrative on the company’s financial results and certain factors that may affect its future prospects from the perspective of the company’s management. The Management Discussion and Analysis presents an overview of the key performance drivers in 2018.

The Management Discussion and Analysis contains the results of operations for each reportable segment of the business and a discussion of the company’s financial position and cash flows. The summary of key financial information presented within the Management Discussion and Analysis should be read in conjunction with the Consolidated Financial Statements and notes thereto, and with Item 1A, “Risk Factors,” and “Forward-Looking and Cautionary Statements” included herein. Other key sections within the Management Discussion and Analysis include: “Liquidity and Capital Resources” and “Looking Forward.”

Overview

IBM Credit generates revenue from the financing activities of its two operating segments, Client Financing and Commercial Financing.

Client Financing generates revenue by providing leases and loan financing to end-user clients and IBM, as well as purchasing installment payment plans, leases, loans and participated receivables from IBM.

Lease and loan contracts between IBM Credit and end-user clients are included in the Consolidated Statement of Financial Position as net financing receivables or equipment under operating leases, and the revenue is included as financing revenue or operating lease revenue in the Consolidated Statement of Earnings.

In certain countries, IBM originates leases, loans and installment payment plans with its end-user clients and IBM Credit acquires the related receivables (and related assets underlying the leases) at a discounted purchase price under certain financing incentive programs. IBM Credit accounts for the acquisition of these receivables as a purchase of receivables. These receivables are included within net financing receivables in the Consolidated Statement of Financial Position. Income is recognized by the company over the term of the financing, and the income is recorded as financing revenue in the Consolidated Statement of Earnings.

For IBM Total Solution Offerings in certain countries, as well as for certain government and other contracts, IBM Credit is not a party to IBM’s contract with the end-user client. Instead, IBM directly provides the end-user client with the lease, loan or installment payment plan. IBM Credit acquires a participation interest in IBM receivables that represents the financing portion of such transactions and assumes the associated credit risk of the IBM end-user client from IBM. These participation interests are included in the Consolidated Statement of Financial Position as receivables

purchased/participated from IBM and the financing income earned from these receivables is included in financing revenue in the Consolidated Statement of Earnings.

In certain countries, the company provides loans to IBM, primarily in support of its Technology Services & Cloud Platforms segment’s acquisition of IT assets used in external, revenue-producing client services contracts. This financing is included in the Consolidated Statement of Financial Position as financing receivables from IBM. The financing income earned from these receivables is included in financing revenue in the Consolidated Statement of Earnings.

The company sells to IBM equipment returned from lease 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 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. Net gains on these transactions are recorded within the Client Financing segment as other (income) and expense in the Consolidated Statement of Earnings.

Commercial Financing provides working capital financing to suppliers, distributors and resellers of IT products and services where the company generally extends payment terms in the range of 30 to 90 days. A portion of the interest cost may include financing incentives from IBM or providers of OEM IT products and services to cover an interest-free period. Financing may take the form of loans to distributors and resellers, which are generally unsecured obligations of the clients, but may be collateralized by inventory or accounts receivable. Commercial Financing also includes factoring, in which IBM Credit purchases the receivable from suppliers, distributors or resellers. These financing transactions are included in the Consolidated Statement of Financial Position as net financing receivables and the financing income is included in financing revenue in the Consolidated Statement of Earnings. Income earned from financing incentives related to Commercial Financing is included in financing revenue in the Consolidated Statement of Earnings and is recognized over the term of the financing.

The company also purchases interests in certain of IBM’s trade accounts receivable at a discount and assumes the credit risk of IBM’s clients. These transactions are included in receivables purchased/participated from IBM in the Consolidated Statement of Financial Position and the financing income is included in financing revenue in the Consolidated Statement of Earnings. The discount is recognized as financing revenue over the term of the financing.

The company allocates interest expense and SG&A expense to each of its operating segments. Interest expense is allocated based on average assets in each segment. SG&A expense is allocated based on a measurable financial driver, such as net margin.

Key drivers of the company’s financial results include the overall health of the economy and its impact on corporate IT budgets, interest rates and originations. Financing originations, which determine the asset base of the annuity-like business, are also dependent upon the demand for IT products and services, IBM’s product cycles and services offerings and client participation rates. Participation rates reflect the propensity of clients to finance their transaction through the company in lieu of paying the supplier up-front with cash or financing through a third party. The economy can also impact the credit quality of the company’s receivables portfolio and therefore the level of provision for credit losses. Interest rates and the overall economy (including currency fluctuations) can affect both revenue and net margin. Interest rates directly impact the company by increasing or decreasing financing revenue and associated borrowing costs.

On December 31, 2016, the company divested the assets and liabilities of its U.S. remanufacturing and remarketing business to IBM. The operating results of this business are reported as discontinued operations in the Consolidated Financial Statements for 2016. For additional information, see note N, “Discontinued Operations,” to the Consolidated Financial Statements.

On December 22, 2017, the Tax Cuts and Jobs Act (U.S. tax reform) was enacted in the U.S. This resulted in the company recording a benefit of $162 million in the fourth quarter of 2017. For the full year 2018, the company recorded an additional benefit of $7 million. For additional information, see note K, “Taxes,” to the Consolidated Financial Statements.

Within the Management Discussion and Analysis, certain columns and rows and other figures may not add due to the use of rounded numbers for disclosure purposes. Percentages reported are calculated from the underlying whole-dollar numbers.

Year in Review

The following section provides a summary of the company’s consolidated financial results for 2018 as compared to 2017:

NM - Not meaningful

*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

*Average of the ending balance of Member’s interest for the last five quarters.

Financial Performance Summary for 2018 and 2017:

In 2018, the company delivered revenue of $1,779 million and net income of $597 million. In 2017, the company had revenue of $1,702 million, and net income of $750 million. In 2018, return on equity was 17.5 percent as compared to 22.2 percent in the prior year.

Total revenue increased $78 million, or 4.6 percent, in 2018 as compared to 2017, driven by an increase in financing revenue of $124 million, or 9.4 percent, partially offset by a decrease in operating lease revenue of $47 million, or 12.3 percent. The increase in financing revenue was due to an increase in yields on financing receivables and an increase in average asset balances. Yields from any category of assets are the company’s rate of return on such assets and are calculated by dividing income from such assets by average assets during the period. The decrease in operating lease revenue was mainly due to a decline in average assets during 2018 as a result of a decrease in originations and asset sales to third parties in the prior year.  

Client Financing revenue of $1,206 million in 2018 declined 3.4 percent as compared to 2017. The decline was driven by a decrease in operating lease revenues. Commercial Financing revenue of $574 million in 2018 increased 26.5 percent as compared to 2017. The increase in revenue was driven by increases in average assets and yields.

From a geographic perspective, revenue increased in the Americas and in EMEA, and declined in Asia Pacific as compared to 2017. Americas revenue of $1,018 million increased 8.5 percent in 2018 and EMEA revenue of $468 million increased 0.3 percent in 2018 compared to the prior year. Asia Pacific revenue of $294 million declined 1.0 percent in 2018 as compared to 2017.

Net margin, which is calculated as revenue less financing costs and depreciation of equipment under operating lease, was $1,083 million in 2018. Net margin decreased $26 million, or 2.3 percent, in 2018 as compared to 2017, driven by increases in financing cost, partially offset by the increase in revenue noted above. The increase in financing cost was due to increases in average interest rates and an increase in average borrowings as compared to 2017. Net margin percentage of 60.9 percent in 2018 decreased by 4.3 points compared to the prior year.

Total expense and other (income) of $352 million decreased $2 million, or 0.5 percent, in 2018 compared to $354 million in 2017. The year to year decrease in expense and other (income) was driven by a decrease in provisions for credit losses,  a reduction in SG&A and lower net losses from derivatives and foreign currency transactions, partially offset by a decrease in other income, primarily from lower sales of equipment upon early lease termination.

Pre-tax income of $731 million in 2018 decreased 3.2 percent as compared to the prior year. The decrease in pre-tax income was driven by the decline in net margin noted above. Pre-tax income margin percentage of 41.1 percent in 2018 decreased on a year-to-year basis by 3.3 points.

The provision for income taxes of $133 million increased $129 million in 2018 compared to 2017 primarily due to the enactment of U.S. tax reform resulting in a provisional net benefit of $162 million in the fourth quarter of 2017 as compared to a benefit of $7 million in 2018. The net benefit in both years was primarily the result of the re-measurement of deferred tax balances to the new U.S. federal tax rate as well as the U.S. transition tax and any foreign tax costs on undistributed foreign earnings. For additional information, see note K, “Taxes,” to the Consolidated Financial Statements.

Net income decreased $153 million in 2018 on a year-to-year basis. The decrease was primarily driven by the $162 million benefit associated with the enactment of U.S. tax reform in 2017 and declines in net margin due to increased financing cost. Return on equity in 2018 decreased by 4.7 points driven primarily by the decrease in net income year to year.

At December 31, 2018, the company continued to have the financial flexibility to support the business over the long term. Total assets of $39,497 million decreased $19 million from December 31, 2017 driven by a decrease in cash and cash equivalents of $852 million and a decrease in total financing receivables of $156 million, partially offset by other receivables from IBM which increased $995 million. Total liabilities of $36,076 million increased $122 million from December 31, 2017 driven by increases in accounts payable to IBM of $142 million and total debt of $57 million. Member’s interest of $3,420 million decreased $141 million from December 31, 2017.

The company’s debt-to-equity ratio was 8.9 to 1 at December 31, 2018 as compared to 8.6 to 1 at December 31, 2017. Total Member’s interest decreased 4.0 percent to $3,420 million, while debt of $30,534 million increased $57 million, or 0.2 percent.

The company generated $1,099 million in cash flow from operating activities in 2018, an increase of $64 million as compared to the prior year driven by a decrease in cash income tax payments. Net cash used in investing activities of $1,903 million in 2018 was $420 million higher as compared to 2017 primarily driven by an increase in the investment of excess cash with IBM. Net cash used by financing activities of $30 million increased $1,338 million as compared to the prior year source of cash of $1,308 million and was driven primarily by lower net debt issuances year to year.

Business Segments and Capabilities

IBM Credit and its subsidiary companies 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. The company’s operating segments, Client Financing and Commercial Financing, are business units that offer financing solutions based upon the needs of the company’s clients. 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 OEM IT hardware, software and services, to meet their total solution requirements. In addition, the company provides loans to IBM, primarily in support of IBM’s Technology Services & Cloud Platforms segment’s acquisition of IT assets, which are used in its external, revenue-producing services contracts. Commercial Financing provides working capital financing for suppliers, distributors and resellers of IBM and OEM IT products and services. In 2019, the company will wind down the portion of its Commercial Financing operations that provides short-term working capital solutions for OEM IT suppliers, distributors and resellers.  This wind-down will start in the second quarter and is expected to conclude by fourth-quarter 2019, as the receivables are collected in the normal course of business. The company will continue to provide differentiated end-to-end financing solutions, including commercial financing in support of IBM partner relationships. Commercial Financing also purchases interests in certain of IBM’s trade accounts receivable at a discount and assumes the credit risk of IBM’s client. The Client Financing and Commercial Financing business segments are described in more detail in Item 1, “Business.”

Results of Operations

Segment Details

The following is an analysis of the reportable segment results for the year ended December 31, 2018, as compared to the year ended December 31, 2017. The table below presents each reportable segment’s revenue, net margin, and pretax income results. Segment pre-tax income is the income before income taxes.

Client Financing

Client Financing revenue of $1,206 million in 2018 decreased by $42 million, or 3.4 percent, as compared to 2017. Operating lease revenue declined $47 million, or 12.3 percent mainly due to a decline in average assets during 2018 as a result of a decrease in originations and asset sales to third parties in the prior year. Financing revenue increased $4 million, or 0.5 percent and was driven by an increase in average assets, partially offset by a decline in yields from leases and loans. The decline in yields was mainly driven by declining average interest rates in 2018 due to the geographical mix of assets, predominately due to lower asset balances in Brazil.

Net margin decreased $94 million, or 12.2 percent, as compared to 2017. The decrease was driven by an increase in interest expense of $89 million due to rising interest rates and higher average debt balances in 2018 in support of a larger asset base when compared to the prior year period.

Pre-tax income decreased $84 million, or 14.6 percent, in 2018 as compared to 2017. The decrease was primarily driven by the decline in net margin of $94 million and a decrease in profit from equipment sales to IBM of $19 million, partially offset by lower SG&A expenses of $28 million, primarily due to a lower level of allocated expenses. The decrease in equipment sales to IBM was driven by a higher level of early lease terminations in the prior year as a result of client migration to IBM’s z14 mainframe.

Commercial Financing

Commercial Financing revenue of $574 million in 2018 increased $120 million, or 26.5 percent, as compared to 2017. The growth in revenue was driven by an increase in average financing receivable assets due to increased volumes, primarily with existing OEM IT suppliers and an increase in yields from these investments.

Net margin increased $68 million, or 20.2 percent, as compared to 2017. The increase was driven by an increase in revenue as noted above, partially offset by an increase in interest expense of $52 million. The increase in interest expense was due to rising interest rates and higher average debt balances in 2018 in support of a larger asset base when compared to the prior year period.

Pre-tax income increased $60 million, or 33.0 percent, as compared to 2017, driven primarily by the increase in net margin noted above and lower provisions for doubtful accounts of $19 million, partially offset by an increase in SG&A expense of $25 million.

Geographic Revenue

Americas revenue of $1,018 million increased $80 million, or 8.5 percent, in 2018 as compared to 2017, driven primarily by increases in financing revenue of $113 million due to improvements in commercial financing, partially offset by a decline in operating lease revenue of $33 million.

EMEA revenue of $468 million increased $1 million, or 0.3 percent, in 2018 as compared to 2017, driven primarily by increases in financing revenue of $7 million, partially offset by a decline in operating lease revenue of $5 million.

Asia Pacific revenue of $294 million decreased $3 million, or 1.0 percent, in 2018 as compared to 2017, driven primarily by a decline in operating lease revenue of $8 million.

Total Expense and Other (Income)

Total expense and other (income) of $352 million decreased $2 million, or 0.5 percent, in 2018 as compared to 2017. For additional information regarding total expense and other (income), see the following analysis by category.

Selling, General and Administrative

Total SG&A expense decreased $3 million, or 0.8 percent, as compared to 2017, due to a decrease in functional support services expense charged to the company by IBM of $14 million and a decrease in contracted services of $9 million, partially offset by an increase in SG&A-other expense of $20 million. The decline in contracted services expense was driven by higher charges in the prior year relating to the establishment of IBM Credit LLC. The increase in SG&A-other expense was driven by higher net employee compensation and increased spending on IT when compared to the prior year period. For additional information on support expenses charged by IBM, see note C, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements.

Provision for Credit Losses

Provisions for credit losses decreased $6 million, or 42.1 percent, as compared to 2017, due to lower reserve requirements on short-term purchased receivables from IBM, reflecting the return of receivables to IBM per the terms of the factoring agreement. This was offset by higher specific reserve requirements in the Americas and EMEA in the current year. For additional information on provisions for credit losses, see note E, “Financing Receivables, Receivables Purchased/Participated from IBM,” to the Consolidated Financial Statements.

Other (Income) and Expense

NM - Not meaningful

Total other (income) and expense was $31 million in income, a decrease of $8 million in 2018 as compared to 2017. Other (income) and expense includes gains on derivative instruments of $7 million, offset by foreign currency transaction losses of $10 million in 2018. The losses on derivative instruments of $240 million in the prior year period were offset by gains from foreign currency transactions of $214 million. For additional information on currency impacts and derivative instruments, see note D, “Financial Instruments,” to the Consolidated Financial Statements. The decrease in gains on sale of equipment was driven by a higher level of early lease terminations in the prior year as a result of client migration to IBM’s z14 mainframe.

Income Taxes

The effective tax rate for 2018 was 18.3 percent, an increase of 17.6 points, as compared to 2017. In 2018, the accounting for impacts of U.S. tax reform was completed and the effects of measurement period adjustments were recognized as a net full-year 2018 benefit of $7 million, or (1.0) point. This is compared to a benefit of $162 million, or

21.4 points, in 2017 due to the impact of the enactment of U.S. tax reform, a year-to-year decrease of 20.4 points. Without these impacts, the tax rate for 2018 would have been 19.2 percent, compared to a 2017 rate of 22.1 percent. The year-to-year decrease of 2.8 points was primarily driven by the following factors:

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 direct financing 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 trade accounts receivable and IBM receivables that have been participated to IBM Credit. Financing receivables from IBM include loan financing to IBM’s Technology Services & Cloud Platforms’ segment. For additional information relating to financing activities with IBM, see note C, “Relationship with IBM and Related Party Transactions.”

Total assets of $39,497 million at December 31, 2018, decreased $19 million (including a decrease of $889 million from currency), as compared to year-end 2017, driven by:

At December 31, 2018, substantially all Client Financing and Commercial Financing assets were IT related assets, and approximately 55 percent of the company’s total asset portfolio, excluding financing receivables from IBM and receivables purchased from IBM, was with investment grade clients with no direct exposure to consumers. This investment grade percentage is based on the credit ratings of the companies in the portfolio. Additionally, the company takes actions to transfer exposure to third parties. On that basis, the investment grade content would increase by 16 points to 72 percent.

Total liabilities of $36,076 million at December 31, 2018, increased $122 million (including a decrease of $529 million from currency), as compared to year-end 2017 primarily driven by:

Total Member’s interest of $3,420 million at December 31, 2018 decreased $141 million as compared to December 31, 2017, as a result of:

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. Management believes that the estimated values of financing asset originations disclosed in the table below provide insight into the potential future cash flows and earnings of the company.

The Client Financing origination values presented below exclude the company’s loans to IBM’s Technology Services & Cloud Platforms segment, which are executed under a loan facility and are not considered originations.

Originations

For the year ended December 31, 2018, the company originated $14,300 million of Client Financing leases and loans, as compared to $13,191 million for the year ending December 31, 2017. The year-to-year increase of $1,108 million was driven by higher installment payment plan originations for IBM software and services. For the year ending December 31, 2018, the company originated $70,138 million of Commercial Financing receivables as compared to $63,019 million for the year ending December 31, 2017. The year-to-year increase of $7,119 million was driven by higher OEM IT originations, primarily with existing OEM suppliers.

Segment Assets

Total Client Financing assets of $22,533 million at December 31, 2018 decreased $347 million as compared to year-end 2017. The decrease in Client Financing assets was driven primarily by a decrease in direct financing leases, partially offset by an increase in receivables purchased/participated from IBM.

The Client Financing receivables portfolio at December 31, 2018 represented the following industry profile: Financial (33 percent), Government (14 percent), Manufacturing (14 percent), Services (13 percent), Retail (7 percent), Communications (7 percent), Healthcare (6 percent) and Other (6 percent). The receivables portfolio at December 31, 2017 represented the following industry profile: Financial (33 percent), Government (15 percent), Manufacturing (13 percent), Services (13 percent), Retail (8 percent), Communications (6 percent), Healthcare (6 percent) and Other (6 percent).

Total Commercial Financing assets of $12,743 million at December 31, 2018 increased $176 million as compared to year-end 2017. The increase was driven by new originations exceeding cash collections, partially offset by a decrease in receivables purchased/participated from IBM. The growth in originations was primarily driven by increased volumes with existing OEM IT suppliers. The reduction in purchased receivables from IBM was due to a decrease in purchased interests in certain of IBM’s trade accounts receivable.

For additional information relating to financing receivables with IBM, see note C, “Relationship with IBM and Related Party Transactions,” to the Consolidated Financial Statements. For additional information on the company’s debt, see note G, “Borrowings,” to the Consolidated Financial Statements.

Financing Receivables and Allowances

The following table presents net financing receivables excluding residual values and the allowance for credit losses, as well as loan financing to IBM’s Technology Services & Cloud Platforms segment, which the company considers collectable and without third party risk.

Roll Forward of Financing Receivables Allowance for Credit Losses

(Dollars in millions)

*    Represents reserved receivables that were written off during the period.

**  Primarily represents translation adjustments.

The allowance for credit losses on financing receivables at December 31, 2018 was $192 million, or 0.6 percent of gross financing receivables. At December 31, 2017, the allowance for credit losses on financing receivables was $213 million, or 0.7 percent of gross financing receivables.

Specific reserves increased $14 million to $121 million at December 31, 2018 as compared to December 31, 2017, due to higher reserve requirements in the Americas and EMEA, partially offset by write-offs.

Unallocated reserves were $71 million at December 31, 2018, a decrease of $35 million as compared to December 31, 2017, primarily due to lower general reserve requirements in the U.S. and a decrease in reserve requirements for short-term receivables purchased from IBM.

Bad debt expense was $9 million in 2018 as compared to $15 million in 2017. The year-to-year decrease in bad debt expense was due to lower reserve requirements on short-term receivables purchased from IBM, partially offset by higher specific reserve requirements in the Americas and 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 termination of a lease, 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 December 31, 2018 and 2017. 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 December 31, 2018 is expected to be returned to the company. In addition to the unguaranteed residual value, on a limited basis, IBM Credit will obtain guarantees from a third party for the future value of the equipment to be returned at end of lease. While primarily focused on IBM products, guarantees are also obtained for certain OEM IT products. These third-party guarantees are included in minimum lease payments as provided for by accounting standards in the determination of lease classifications for the covered equipment and provide protection against risk of loss arising from declines in equipment values for these assets.

The residual value guarantee increases the minimum lease payments that are utilized in determining the classification of a lease as a direct financing lease or operating lease. The aggregate incremental asset value of direct financing leases of IBM equipment with residual value guarantees was $223 million in 2018 and $698 million in 2017, decreasing on a year-to-year basis primarily as a result of the IBM mainframe product announcement in 2017. In addition, the company obtains guarantees from third parties for direct financing leases of OEM IT products. The aggregate incremental asset value of these leases was $163 million in 2018 and $153 million in 2017. The associated aggregate guaranteed future values at the scheduled end of lease of both IBM and OEM IT equipment were $17 million and $43 million for the financing transactions originated in 2018 and 2017, respectively. The cost of guarantees was $2 million and $4 million for the years ended December 31, 2018 and 2017, respectively.

Unguaranteed Residual Value

*Operating lease residual value at January 1, 2018 was recast to conform with current year methodology.

Consolidated Fourth-Quarter Financial Results