INTERNATIONAL BUSINESS MACHINES CORP - 10-Q Quarterly Report

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SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10 - Q

QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTER ENDED SEPTEMBER 30, 2002

1-2360
------
(Commission file number)

INTERNATIONAL BUSINESS MACHINES CORPORATION
(Exact name of registrant as specified in its charter)

New York 13-0871985
-------- ----------
(State of incorporation) (IRS employer identification number)

Armonk, New York 10504
---------------- -----
(Address of principal executive offices) (Zip Code)

914-499-1900
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(Registrant's telephone number)

Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section l3 or l5(d) of the Securities Exchange Act of
1934 during the preceding l2 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 /X/ No / /

The registrant has 1,690,087,776 shares of common stock outstanding at
September 30, 2002.

INDEX

PART I - FINANCIAL INFORMATION

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

INTERNATIONAL BUSINESS MACHINES CORPORATION
AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF EARNINGS
(UNAUDITED)

* Reclassified to conform with 2002 presentation.

(The accompanying notes are an integral part of the financial statements.)

-1-

INTERNATIONAL BUSINESS MACHINES CORPORATION
AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF EARNINGS - (CONTINUED)
(UNAUDITED)

* Reclassified to conform with 2002 presentation.

+ Does not total due to rounding.

(The accompanying notes are an integral part of the financial statements.)

-2-

INTERNATIONAL BUSINESS MACHINES CORPORATION
AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF FINANCIAL POSITION

ASSETS

* Reclassified to conform with 2002 presentation.

(The accompanying notes are an integral part of the financial statements.)

-3-

INTERNATIONAL BUSINESS MACHINES CORPORATION
AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF FINANCIAL POSITION - (CONTINUED)

LIABILITIES AND STOCKHOLDERS' EQUITY

* Reclassified to conform with 2002 presentation.

(The accompanying notes are an integral part of the financial statements.)

-4-

INTERNATIONAL BUSINESS MACHINES CORPORATION
AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, (UNAUDITED)

(The accompanying notes are an integral part of the financial statements.)

-5-

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. In the opinion of the management of International Business Machines
Corporation (the company), all adjustments, which are of a normal recurring
nature, necessary to a fair statement of the results for the unaudited three-
and nine-month periods have been made.

2. The following table summarizes Net income plus gains and losses not affecting
retained earnings.

* Reclassified to conform with 2002 presentation.

3. On June 3, 2002, the company signed an agreement with Hitachi to sell the
company's Hard Disk Drive (HDD) business. The estimated proceeds from the sale
are approximately $2 billion, 70 percent of which is due upon closing, and the
estimated loss on disposal is approximately $135 million, net of tax. The loss
on disposal is recorded in the Loss from discontinued operations in the
Consolidated Statement of Earnings. Adjustments to the estimated loss,
if any, will continue to be recorded through the date on which the transaction
closes, which is subject to regulatory approvals.

The HDD business is accounted for as a discontinued operation and
therefore, the results of operations and cash flows have been removed from the
company's results of continuing operations for all periods presented in this
document. The results from discontinued operations are discussed on page 25. The
financial results reported as discontinued operations include the external
original equipment manufacturer (OEM) hard disk drive business and certain
charges related to hard disk drives used in the company's e-server and e-storage
products that were recorded in the Technology segment. The discontinued
operations results do not reflect hard disk drive shipments to IBM internal
customers. The HDD business was part of the company's Technology external
reporting segment. The results of operations for HDD have been excluded from the
Segment Information exhibit.

-6-

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

In October 2002, the company announced certain restructuring actions
related to its discontinued HDD business. The company expects to record a charge
of up to approximately $250 million, net of tax, in discontinued operations
associated with these announced actions in the fourth quarter of 2002.

In addition, upon closing, it is anticipated that the company will incur
a significant U.S. tax charge in discontinued operations related to the
repatriation of divestiture proceeds from certain countries with low tax rates.
The company estimates that the charge will not exceed $300 million.

Summarized selected financial information for the discontinued operations
is as follows:

The assets and liabilities of discontinued operations are stated
separately as of September 30, 2002 on the Consolidated Statement of Financial
Position. The major asset and liability categories are as follows:

(Dollars in millions) At September 30,
2002
----------------
Inventories $ 456
Prepaid expenses and other current assets 21
Net plant, rental machines and other property 1,494
------
Assets of discontinued operations $1,971
======

Liabilities of discontinued operations $ 185
======

4. During the second quarter of 2002, the company executed several actions in
its Microelectronics Division. The Microelectronics Division is within the
company's Technology segment. These actions are the result of the company's
announced intentions to refocus and direct its microelectronics business to the
high-end foundry, ASICs and standard products, while creating a technology
services business. A major part of the actions relate to a significant reduction
in the company's manufacturing capacity for aluminum technology.

In addition, the company rebalanced both its workforce and leased space
resources primarily in response to the recent decline in corporate spending on
technology services.

-7-

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

The following table summarizes the significant components of these
actions:

+ Principally represents currency translation adjustments and
reclassification of non-currrent to current.
* Recorded in Accounts payable and accruals on the Consolidated Statement
of Financial Position.
** Recorded in Other liabilities on the Consolidated Statement of Financial
Position.

(A) This amount was recorded in Selling, general and administrative (SG&A)
expense in the second quarter of 2002 and primarily represents the abandonment
and loss on sale of certain capital assets during the second quarter 2002.

(B) This amount is comprised of costs incurred to remove abandoned capital
assets and the remaining lease payments for leased equipment that was abandoned
in the second quarter of 2002. The company expects to pay the removal costs by
June 30, 2003. The remaining lease payments will continue through 2005. These
amounts were recorded in SG&A expense in the second quarter of 2002.

-8-

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

(C) The company is subject to certain noncancelable purchase commitments. As a
result of the decision to significantly reduce aluminum capacity, the company no
longer has a need for certain materials subject to these agreements. The
required future payments for materials no longer needed under these contracts
are expected to be paid over two years. This amount was recorded in SG&A expense
in the second quarter of 2002.

(D) The workforce reductions represent 1,400 people of which approximately 91
percent left the business as of September 30, 2002. These amounts were recorded
in SG&A expense in the second quarter of 2002. The non-current portion of the
liability relates to terminated employees who were granted annual payments to
supplement their statutory or government pensions in certain countries. These
contractually required payments will continue until the former employee dies.

(E) The space accruals are for ongoing obligations to pay rent for vacant space
that could not be sublet or space that was sublet at rates lower than the
committed lease arrangements. The length of these obligations varies by lease
with the longest extending through 2006. These charges were recorded in Other
(income) and expense on the Consolidated Statement of Earnings in the second
quarter of 2002.

(F) As part of the company's strategic realignment of its Microelectronics
business to exit the manufacture and sale of certain products and component
technologies, the company signed an agreement in the second quarter of 2002
to sell its interconnect products operations in Endicott to Endicott
Interconnect Technologies, Inc. (EIT). As a result of this transaction, the
company incurred a $223 million loss on sale, primarily relating to the land,
buildings, machinery and equipment. This loss was recorded in Other (income)
and expense on the Consolidated Statement of Earnings in the second quarter
of 2002. The transaction closed in the fourth quarter of 2002. The company
entered into a limited supply agreement with EIT for future products, and it
will also lease back at fair market value rental rates approximately one
third of the Endicott campus' square footage for operations outside the
interconnect OEM business.

(G) As part of the strategic realignment of the company's Microelectronics
business, the company agreed to sell certain assets and liabilities comprising
its Mylex business to LSI Logic Corporation and the company sold part of its
wireless phone chipset operations to TriQuint Semiconductor, Inc. in June 2002.
The Mylex transaction was completed in August 2002. The loss of $74 million for
the Mylex transaction and the realized gain of $(11) million for the chipset
sale were recorded in Other (income) and expense on the Consolidated Statement
of Earnings in the second quarter of 2002.

(H) The majority of the workforce reductions relate to the company's Global
Services business. The workforce reductions represent 14,213 people of which
approximately 85 percent left the company as of September 30, 2002. See D above
for information on the non-current portion of the liability. These charges were
included in SG&A expense on the Consolidated Statement of Earnings in the second
quarter of 2002.

(I) The space accruals are for ongoing obligations to pay rent for vacant space
that could not be sublet or space that was sublet at rates lower than the
committed lease arrangements. This space

-9-

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

relates primarily to workforce dynamics in the Global Services business and the
downturn in corporate technology spending on services. The length of these
obligations varies by lease with the longest extending through 2009. These
charges were recorded in Other (income) and expense on the Consolidated
Statement of Earnings in the second quarter of 2002.

The following table provides the liability balances for actions that the
company took through 1993 and special actions in 1999. The second quarter 2002
actions discussed above are not included below but are presented in the table
above.

(a) Workforce accruals relate to terminated employees who are no longer working
for the company, but who were granted annual payments to supplement their state
pensions in certain countries. These contractually required payments will
continue until the former employee dies.

(b) Space accruals are for ongoing obligations to pay rent for vacant space that
could not be sublet or space that was sublet at rates lower than the committed
lease arrangement. The length of these obligations varies by lease with the
longest extending through 2012.

(c) Principally represents reclassification of non-current to current and
currency translation adjustments.

5. In July 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards Board (SFAS) No. 142, "Goodwill and
Other Intangible Assets." This standard eliminates the amortization of goodwill,
requires annual impairment testing of goodwill and introduces the concept of
indefinite life intangible assets. The new standard also prohibits the
amortization of goodwill associated with business combinations that close after
June 30, 2001. The company completed the required initial transition impairment
test as of January 2002 and determined that its goodwill is not impaired.

-10-

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

The changes in the carrying amount of goodwill, by external reporting
segment, for the period ended September 30, 2002, are as follows:

(*) In accordance with SFAS No. 141, "Business Combinations," the unamortized
balance for acquired assembled workforce, which had been recognized as an
intangible asset separate from goodwill, has been reclassified to goodwill
effective January 1, 2002.

There were no goodwill impairment losses recorded during the period.

The following table presents the 2001 quarter-to-date and 2001
year-to-date results of operations reformatted to exclude goodwill amortization.
These adjusted 2001 results are presented as required by SFAS 142 to allow a
comparison between 2002 actual results and the adjusted 2001 results whereby
both sets of results exclude goodwill amortization. The first table includes
income from continuing operations and earnings per share from continuing
operations. The second table presents the same data for the total company
including both continuing operations and discontinued operations.

2001 ADJUSTED TO REMOVE GOODWILL AMORTIZATION
CONTINUING OPERATIONS

* Does not total due to rounding.

-11-

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

2001 ADJUSTED TO REMOVE GOODWILL AMORTIZATION
TOTAL OPERATIONS

* Does not total due to rounding

SFAS No. 141 specifies certain criteria for identifying, valuing and
recording intangible assets separate from goodwill. SFAS No. 142 also
prescribes the disclosure requirements for intangible assets that meet these
criteria. The following schedule details the company's intangible asset balances
by major asset class:

(a) Other intangibles are primarily contract-related assets such as employee
agreements and leasehold interests.

The net carrying amount of intangible assets decreased $29 million and
$115 million for the third quarter of 2002 and first nine months of 2002,
respectively. The decreases were due to the amortization of existing intangible
asset balances, partially offset by identified intangible assets recorded as a
result of several acquisitions. The decrease for the first nine months of 2002
also included write-offs of intangibles associated with divestitures in the
second quarter.

-12-

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

The aggregate amortization expense was $38 million for the third quarter
of 2002 and $118 million for the first nine months of 2002.

The future amortization expense for each of the five succeeding years
relating to intangible assets currently recorded in the Consolidated Statement
of Financial Position is estimated to be the following at December 31:

2002 fourth quarter $ 39 million
2003 $145 million
2004 $108 million
2005 $ 48 million
2006 $ 23 million
2007 $ 0 million

In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB
Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical
Corrections," effective May 15, 2002. SFAS No. 145 eliminates the requirement
that gains and losses from the extinguishment of debt be aggregated and
classified as an extraordinary item, net of tax, and makes certain other
technical corrections. SFAS No. 145 did not have a material effect on the
financial statements.

In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." SFAS No. 146 supersedes EITF No.
94-3, "Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (Including Certain Costs Associated with a
Restructuring)," and requires that a liability for a cost associated with an
exit or disposal activity be recognized when the liability is incurred. Such
liabilities should be recorded at fair value and updated for any changes in the
fair value each period. A notable change from EITF 94-3 involves one-time
employee termination costs whereby the employee to be terminated is required to
render service between the notification date and the date the employee will be
terminated in order to receive any termination benefits. For these situations
whereby the required post-notification service period extends beyond the minimum
retention period required by local law (e.g., 60 days in the United States), the
fair value liability will be amortized over the service period. This change is
effective for new exit or disposal activities initiated after December 31, 2002.
Had SFAS No. 146 been effective during the second quarter of 2002, a portion of
the pre-tax employee termination costs listed in the table on page 8 would have
been amortized beyond June 30, 2002 until the respective employees were
terminated. The impact of SFAS No. 146 on the company's future financial
statements will depend upon the timing of and facts underlying any future
one-time workforce reduction actions.

6. The tables on pages 43 through 46 of this Form 10-Q reflect the results of
the company's segments consistent with its management system used by the
company's chief operating decision maker. These results are not necessarily a
depiction that is in conformity with generally accepted accounting
principles, e.g., employee retirement plan costs are developed using
actuarial assumptions on a country-by-country basis and allocated to the
segments based on headcount. A different result could occur for any segment
if actuarial assumptions unique to each segment were used. Performance
measurement is based on income from continuing operations before income taxes
(pre-tax income). These results are used, in part, by management, both in
evaluating the performance of, and in allocating resources to, each of the
segments.

-13-

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

On June 3, 2002, the company signed an agreement with Hitachi for the
sale of the company's HDD business. As a result, amounts disclosed in the
company's segment disclosure for all periods presented exclude the results of
the HDD business. Please see page 25 for a discussion of the company's results
of discontinued operations.

7. On October 1, 2002, the company purchased PricewaterhouseCoopers' (PwC)
global business consulting and technology services unit, PwC Consulting (PwCC),
for approximately $3.5 billion. Approximately $2.9 billion of the purchase price
was paid in cash, $0.3 billion in restricted common stock and $0.3 billion in
notes convertible into restricted shares of IBM common stock. According to
PwCC's most recent audited financial statements, fiscal year ended June 30, 2002
total revenue was $6.7 billion, which includes $1.5 billion of reimbursable
expenses and subcontractor costs. The incremental future annual revenue for IBM
as a result of this acquisition may be more or less than this amount based upon
the impact of synergies, continuing business relationships, and general market
conditions.

In connection with the acquisition, the company incurred $187 million of
pre-tax one-time compensation costs as of October 1, 2002, for certain PwCC
partners and employees. This amount relates to restricted stock awards and the
compensation element of the convertible notes issued as part of the deal
proceeds and will be recorded in the fourth quarter of 2002. The amount to be
recorded as compensation expense for the convertible notes equals the difference
between the fair value and face value of the notes. This incremental value is
deemed to be compensation expense by the accounting rules.

ITEM 2.

MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002

Despite the difficult economy and spending environments, IBM generated,
on a continuing operations basis, $19.8 billion of revenue, $0.99 of diluted
earnings per share, and strong cash flows during the 2002 third quarter. Other
highlights of the quarter include:

o Agreement signed to purchase PwCC; completed on October 1

o Expected key market share gains

o The impact of continued discipline and focus on cost containment and
expense reduction, including the benefits from the 2002 second quarter
productivity actions

o Some customer signing deferrals and a lengthening of the sales cycle

The company's discontinued HDD business lost $0.22 per diluted share on
$498 million of revenue. These results reflect continued industry pressure and
increased estimated loss on sale of the HDD business.

While the economic and political environments are less than certain, the
company is executing on its current and long term strategies. The end result is
a leaner IBM that is a leader in providing business value, infrastructure, and
technology -- built on customer insight, solutions and research and development.

-14-

RESULTS OF CONTINUING OPERATIONS

* Reclassified to conform with 2002 presentation.

The average number of common shares outstanding assuming dilution
decreased from third-quarter 2001 to third -quarter 2002 and for the first nine
months of 2001 to the first nine months of 2002 by 56.1 million and by 43.9
million, respectively, primarily as a result of the company's share repurchase
program. The average number of shares assuming dilution was 1,711.7 million in
the third quarter of 2002 and 1,731.7 million for the first nine months of 2002.
There were 1,690.1 million shares outstanding at September 30, 2002.

On June 3, 2002, the company signed an agreement with Hitachi for the
sale of the company's HDD business. As a result, amounts disclosed in this
Results of Continuing Operations section for all periods presented exclude the
results of the HDD business. Please see page 25 for a discussion of the
company's results of discontinued operations.

Revenue for the three months ended September 30, 2002 was flat (down 2
percent at constant currency) from the same period last year. Global Services
revenue including maintenance increased 2.4 percent (flat at constant currency)
in the third quarter to $8.9 billion. The company signed $9.0 billion in
services contracts in the quarter.

Hardware revenue decreased 1.0 percent (2 percent at constant currency)
to $6.8 billion from the 2001 third quarter. The revenue decline was primarily
driven by iSeries and zSeries servers, storage systems products and personal
computers. Although revenue declined for these products in the third quarter of
2002 compared to the third quarter of 2001, the percent of revenue decline in
the third quarter was less than the year-to-year declines in the first two
quarters of 2002. These declines were partially offset by higher revenue for the
xSeries and pSeries servers, and technology products.

-15-

RESULTS OF CONTINUING OPERATIONS - (CONTINUED)

Software revenue decreased 2.9 percent (5 percent at constant currency)
to $3.1 billion from the third quarter of 2001. Middleware revenue, which
comprises approximately 80 percent of the company's software revenue, declined 2
percent (5 percent at constant currency) and operating systems software revenue
was flat (down 2 percent at constant currency).

Global Financing revenue decreased 3.2 percent (4 percent at constant
currency) in the third quarter to $795 million. Revenue from Enterprise
Investments/Other area, which includes industry-specific IT solutions, increased
5.5 percent (1 percent at constant currency).

In the Americas, third-quarter revenue was $9.0 billion, a decrease of
1.5 percent (flat at constant currency) from the same period last year. Revenue
from Europe/Middle East/Africa was $5.7 billion, up 0.6 percent (down 8 percent
at constant currency) . Asia-Pacific revenue increased 3.4 percent (2 percent at
constant currency) to $4.3 billion. OEM revenue across all geographies was $867
million, a 0.8 percent increase (1 percent at constant currency) compared with
the third quarter of 2001.

The company's total gross profit margin was 36.9 percent in the third
quarter of 2002, as compared to 37.6 percent in 2001. The decrease was primarily
driven by a lower Global Services margin partially offset by improved margins in
Software and Global Financing year-over-year.

Third-quarter expense and other income was $4.9 billion, down 2.1 percent
from the third quarter of 2001. Selling, general and administrative expense and
research, development and engineering expense decreased 2.4 percent and 3.1
percent, respectively. Lower intellectual property and custom development income
was partially offset by a benefit from other income and expense and lower
interest expense.

The second quarter 2002 Microelectronics and productivity actions are
expected to reduce cost and expense by an incremental $900 million, pre-tax, in
2003 as compared to 2002. This year-to-year $900 million improvement may be
offset by other events such as the year-to-year impact of reducing the expected
return on pension plan assets discussed on page 24. Approximately half of these
incremental cost and expense reductions are estimated to benefit the Global
Services segment, approximately 25 percent for the Technology segment and
approximately 20 percent for the Enterprise Server segment.

The company's tax rate in the third quarter was 29.5 percent compared
with 28.9 percent in the third quarter of 2001.

GLOBAL SERVICES

-16-

RESULTS OF CONTINUING OPERATIONS - (CONTINUED)

Global Services revenue, including maintenance, increased 2.4 percent
(flat at constant currency) and was flat (flat at constant currency),
respectively, in the third quarter and first nine months of 2002, when compared
with the same periods of 2001. Global Services revenue, excluding maintenance,
increased 2.3 percent (flat at constant currency) and declined 0.7 percent (flat
at constant currency), respectively, for the third quarter and first nine months
of 2002 versus comparable periods of last year. Maintenance revenue increased
3.3 percent (1 percent at constant currency) and 1.1 percent (1 percent at
constant currency), respectively, for the third quarter and first nine months of
2002 when compared with the same periods in 2001.

Strategic Outsourcing Services (SO) revenue increased in both the third
quarter and first nine months of 2002 versus last year. SO remains attractive to
customers in both strong and weak economies as customers focus on cost
reductions. Integrated Technology Services (ITS) revenue, excluding maintenance,
increased in both the third quarter and first nine months of 2002 versus the
same periods last year. These increases were partly due to increased deployments
of network hardware. Business Consulting Services (BCS), formerly Business
Innovation Services, revenue declined in both the third quarter and first nine
months of 2002 versus the same periods in 2001 reflecting the continued industry
pressure on consulting services. BCS in the Americas geography, however, had
revenue growth for the first time in five quarters.

The company's third quarter 2002 services signings were $9.0 billion, a
15 percent decline from the second-quarter 2002. The signings for shorter term
contracts remained flat sequentially despite a difficult quarter. During the
quarter, customers deferred signing longer term contracts mostly due to
increased customer internal review and analysis. Backlog estimates are subject
to change and are affected by currency assumptions used in the company's plans,
changes in the scope of contracts - mainly long-term contracts - and periodic
revalidations. The estimated Global Services backlog including SO, BCS, and ITS
was $103 billion at the end of the third quarter of 2002, versus $106 billion at
the end of the second quarter of 2002.

Global Services gross profit dollars declined 4.6 percent and 3.9
percent, respectively, for the third quarter and first nine months of 2002
versus the same periods last year. The gross profit margin declined 1.9
percentage points and 0.9 percentage points, respectively, for the third quarter
and first nine months of 2002 when compared with year-ago periods. These
declines were attributable to market conditions, particularly in the
Telecommunications and Financial Sectors, and the consulting and systems
integration business. These declines were partially offset by lower labor and
parts costs for maintenance.

The company's purchase of PwC Consulting is a strategic decision that
will enable the company to provide superior business value to customers through
integration of technology and business process insight. Approximately 1,100
partners joined IBM as a result of the acquisition. The company has mobilized a
sizable team to work towards a rapid integration that is targeted for completion
in the first quarter of 2003.

This acquisition may reduce the company's fourth quarter 2002 earnings by
up to an estimated $750 million, pre-tax, for items such as transition charges
associated with integration and restructuring, as well as one-time compensation
costs discussed on page 14. Additionally, approximately 15 percent of this
amount relates to ongoing operations including the amortization of intangibles.

-17-

RESULTS OF CONTINUING OPERATIONS - (CONTINUED)

HARDWARE

Revenue from hardware decreased 1.0 percent (2 percent at constant
currency) and 14.4 percent (14 percent at constant currency), respectively, for
the third quarter and first nine months of 2002, versus the same periods in
2001.

Enterprise Systems revenue decreased in both the third quarter and first
nine months of 2002 versus the same periods last year. Revenue from Enterprise
Systems was again affected by the economic uncertainties and the elongated sales
cycle experienced in the first half of 2002. Revenue from zSeries mainframes
declined in both the third quarter and first nine months of 2002 versus the same
periods of last year. Although revenue declined, the total deliveries of zSeries
computing power as measured in MIPS (millions of instructions per second)
increased 7 percent in the third quarter of 2002 compared with the third quarter
of 2001. Revenue from the pSeries UNIX servers increased in the third quarter
and declined for the first nine months of 2002 versus the comparable periods of
2001. The pSeries third quarter revenue growth was driven by high-end pSeries
server products. Revenue from iSeries servers decreased in the third quarter and
first nine months of 2002 versus year-ago periods due to weak volumes across all
products. The xSeries server revenue increased for the third quarter and first
nine months of 2002 versus the same periods of 2001 due to growth in sales of
high-end xSeries servers.

In storage, revenue declined in the third quarter and the first nine
months of 2002 versus the same periods of last year. The company experienced the
same weaknesses in this business consistent with general industry trends. Tape
storage products experienced revenue declines in both the third quarter and
first nine months of 2002 versus the same periods in 2001. Disk storage revenue
increased in the third quarter of 2002 and declined for the first nine months of
2002 versus the comparable periods of 2001. Disk storage prices have fallen
significantly from the third quarter of 2001 but stabilized in the third quarter
of 2002 versus the second quarter of 2002.

Personal and Printing Systems revenue decreased in both the third quarter
and first nine months of 2002 versus the same periods in 2001 primarily due to
lower revenue from personal computers consistent with industry declines . The
personal computer revenue decline continues to reflect weakness in demand and
continued price pressures. The company continued to improve on executing its
strategies for personal computers as plant and field inventories were lower as
well as channel inventory and expense declined.

The Technology segment no longer includes HDDs and is comprised mainly of
the company's Microelectronics Division for all periods presented. Technology
revenue increased in the third quarter and declined for the first nine months of
2002 versus the comparable periods of

-18-

RESULTS OF CONTINUING OPERATIONS - (CONTINUED)

2001. The revenue increase in the third quarter was driven by OEM logic revenue
growth. The company executed major actions during the second quarter of 2002 in
its Microelectronics business, including a significant reduction in the
manufacturing capacity of aluminum-based components and products. The company
estimates that such actions will reduce next year's depreciation expense by
approximately $140 million. These actions are described fully on pages 7 through
10 and the lower depreciation is included in the savings discussed on page 16.
The company is also improving utilization of its copper facilities as the new
300 millimeter plant is in test production and on schedule. The company
estimates that the 300 millimeter plant and related capacity will increase next
year's depreciation by $240 million.

Hardware gross profit dollars for the third quarter and first nine months
of 2002 decreased 1.6 percent and 28.8 percent, respectively, from comparable
periods in 2001. The hardware gross profit margin decreased 0.2 percentage
points and 5.1 percentage points, respectively, from the prior year periods. The
decrease in gross profit dollars and margins for the first nine months of 2002
was driven by Microelectronics products as well as lower Enterprise Systems
margins. In addition, personal computers gross profit margin declined slightly
due to a greater percentage of revenue being derived from desktop and low-end
mobile products.

SOFTWARE

Revenue from software for the third quarter decreased 2.9 percent (5
percent at constant currency) and increased 1.3 percent (1 percent at constant
currency) for the first nine months of 2002 compared with the same periods of
2001. Despite declining revenue, the company expects to gain market share this
quarter in an extremely difficult software market. The sales cycles lengthened
as a result of longer decision making by customers. In general, the size of the
individual software transactions declined. The company's middleware products
(which comprise data management, transaction processing, Tivoli systems
management, and Lotus Notes messaging and collaboration across both IBM and
non-IBM platforms) revenue declined 2 percent (5 percent at constant currency)
for the third quarter of 2002 and increased 4 percent (4 percent at constant
currency) for the first nine months of 2002 versus the same periods last year.
In the third quarter of 2002, WebSphere revenue increased as a result of growth
in business integration, portals and application server licenses. This increase
was more than offset by lower revenue associated with Tivoli system management
products and Lotus products. The increase in revenue for the first nine months
of 2002 was primarily driven by the Informix acquisition which occurred in the
third quarter of 2001 partially offset by lower revenue from Tivoli and Lotus
products.

-19-

RESULTS OF CONTINUING OPERATIONS - (CONTINUED)

Operating systems software revenue was flat (down 2 percent at constant
currency) in the third quarter and declined 5 percent (4 percent at constant
currency) for the first nine months of 2002, when compared with prior year
periods. In the third quarter of 2002, zSeries software products revenue
increased and was offset by lower revenue from iSeries software products. The
decline in the first nine months revenue was primarily associated with lower
sales from iSeries and pSeries software products primarily as a result of lower
hardware volumes for these servers.

Software gross profit dollars were flat for the third quarter of 2002 and
increased 3.7 per cent for the first nine months of 2002 versus the same periods
in 2001. The gross profit margin improved 2.4 percentage points and 1.9
percentage points, respectively, for the third quarter and first nine months of
2002 compared with the same periods in 2001. The improvements in gross profit
dollars and gross profit margins were primarily driven by lower support and
services costs.

GLOBAL FINANCING

Global Financing revenue decreased 3.2 percent (4 percent at constant
currency) and 3.8 percent (3 percent at constant currency), respectively, for
the third quarter and first nine months of 2002, when compared with the same
periods of 2001. The decreases in revenue were primarily driven by a
declining asset base and lower interest rates. The declining asset base was
due to declines in financing originations.

For the three months ended September 30, 2002, the company originated
financings of $8.2 billion, a 5.8 percent decrease from $8.7 billion in the
second quarter of 2002. The decrease in financings was due to decreases in
demand for IT equipment caused by the current economic environment.

Global Financing gross profit dollars increased 6.7 percent and 11.4
percent, respectively, for the third quarter and first nine months of 2002,
versus the same periods last year. The gross profit margins improved 5.2
percentage points and 7.7 percentage points, respectively, for the third quarter
and first nine months of 2002 compared with the same periods of 2001. These
increases were primarily driven by improved yields.

-20-

RESULTS OF CONTINUING OPERATIONS - (CONTINUED)

ENTERPRISE INVESTMENTS/OTHER

Revenue from Enterprise Investments/Other increased 5.5 percent (1
percent at constant currency) and decreased 11.4 percent (11 percent at constant
currency), respectively, for the third quarter and first nine months of 2002,
versus comparable periods in 2001. The increase in third quarter revenue was
primarily driven by Computer Aided Three-Dimensional Interactive Applications
(CATIA) products partially offset by lower revenue associated with document
processors. The revenue decline for the first nine months of 2002 was primarily
driven by lower revenue from document processors partially offset by increased
revenue from CATIA products.

The Enterprise Investments/Other gross profit dollars increased 3.0
percent and declined 6.3 percent, respectively, in the third quarter and first
nine months of 2002 versus the prior-year periods. The gross profit margin
declined 0.6 percentage points and increased 2.6 percentage points,
respectively, for the third quarter and first nine months of 2002 versus the
same periods in 2001. CATIA gross margin percentages are generally higher than
the gross margin percentages of document processors. The gross margin dollar and
percentage trends described above are directly correlated to the mix of CATIA
volumes versus document processor product volumes cited in the previous
paragraph.

EXPENSE AND OTHER INCOME

-21-

RESULTS OF CONTINUING OPERATIONS - (CONTINUED)

SG&A expense decreased 2.4 percent and increased 7.7 percent,
respectively, in the third quarter and first nine months of 2002 versus the same
periods in 2001.

The decrease in SG&A expense in the third quarter was driven by a decline
in workforce rebalancing expense of $89 million to $16 million versus the third
quarter of 2001. In addition, the benefit of the new goodwill accounting rule
lowered expense by $63 million in the third quarter of 2002 versus the third
quarter of 2001. These declines were partially offset by an increase in the
provision for doubtful accounts of $79 million to $181 million in the third
quarter of 2002 versus the same period last year. The increase is reflective of
the challenges faced by certain customers in today's economic environment,
especially those in the telecommunications sector. The company also continues to
benefit from the company's continuing e-business transformation and productivity
enhancements.

The first nine months of 2002 increase in SG&A expense was primarily due
to the Microelectronics and productivity actions taken in the second quarter of
2002 amounting to $1,250 million. These actions are described on pages 7 through
10. In addition, the provision for doubtful accounts increased $182 million to
$483 million versus the same period last year. These increases were partially
offset by the benefit of the new goodwill accounting rule of $196 million. The
company also continues to benefit from the company's continuing e-business
transformation and productivity enhancements.

Research, development and engineering (RD&E) expense decreased 3.1
percent and 5.3 percent, respectively, for the third quarter and first nine
months of 2002, when compared with the same periods of 2001. These declines in
RD&E expense were driven primarily by savings associated with the second quarter
2002 productivity actions and a focus on discretionary spending.

Intellectual property and custom development income decreased 41.4
percent and 23.8 percent, respectively, for the third quarter and first nine
months of 2002 versus the same periods of 2001.

Sales and other transfers of intellectual property can vary period to
period. These transactions often require an extended period of negotiations and
contract/license drafting and administration prior to finalization and
recognition in the financial statements. The decrease in third quarter 2002 as
well as the first nine months of 2002 versus the same periods in 2001, was
primarily due to a greater number of larger dollar Sales and other transfers
during the prior year

-22-

RESULTS OF CONTINUING OPERATIONS - (CONTINUED)

periods. The amount of income from licensing/royalty-based fee transactions has
been declining and this trend may continue.

Third quarter 2002 Other (income) and expense was income of $83 million
as compared with expense of $29 million in the third quarter 2001. This change
was primarily a result of a decline in equity write-downs of $146 million to $10
million and an increase in net gains from certain real estate activities of $44
million (primarily a land sale in Japan) to $53 million. These benefits were
partially offset by a decline in foreign currency transaction gains of $31
million to $15 million and a decline in interest income of $14 million to $27
million versus the same period of 2001. The first nine months of 2002 Other
(income) and expense was an expense of $111 million versus a benefit to expense
of $164 million in the first nine months of 2001. This change was primarily
driven by increased expense of $523 million due to the Microelectronics and
productivity actions taken in the second quarter of 2002, partially offset by a
$242 million change in net realized gains/(losses) from sales and other
temporary declines in market value of securities and other investments from a
charge of $240 million in the first nine months of 2001 to a gain of $2 million
in the 2002 comparable period.

Interest expense excluding interest classified as Cost of Financing in
the Consolidated Statement of Earnings declined 36.3 percent and 46.5 percent,
respectively, for the third quarter and first nine months of 2002, when compared
with the same periods in 2001. These declines were a result of reduced levels of
debt and lower interest rates.

Interest on total borrowings of the company and its subsidiaries, which
includes Global Financing interest classified as Cost of Financing in the
Consolidated Statement of Earnings was $208 million and $626 million for the
third quarter and first nine months of 2002, respectively. Of these amounts, the
company capitalized $13 million for the third quarter and $32 million for the
first nine months of 2002.

The following table provides the continuing operations pre-tax
(income)/cost for retirement-related plans for the third quarter of 2002 and
2001 and the first nine months of 2002 and 2001. (Income)/cost amounts are
included as a reduction from/addition to, respectively, the company's cost and
expense amounts on the Consolidated Statement of Earnings.

Retirement-Related Benefits

Included in the amounts above, the company realized income of
approximately $282 million and $359 million due to the funded status of its
defined benefits pension plans for the quarter

-23-

RESULTS OF CONTINUING OPERATIONS - (CONTINUED)

ended September 30, 2002 and 2001, respectively. The comparable amount for the
first nine months of 2002 and 2001 was income of approximately $838 million and
$1,081 million, respectively. The declines in the income were primarily a result
of the change in the expected long-term rate of return on plan assets from 10
percent to 9.5 percent for the U.S. plan and similar changes made for certain
non-U.S. Plans, as discussed below.

At the beginning of 2002, the company reduced its expected long-term rate
of return on the IBM Personal Pension Plan (PPP) assets assumption from 10.0
percent to 9.5 percent. This change and the impact of 2002 changes in the
expected long-term rate of return on plan assets for certain non-U.S. Plans is
expected to reduce 2002 full year net retirement plan income by approximately
pre-tax $350 million.

The company annually sets its discount rate assumption for
retirement-related benefits accounting to reflect the rates available on
high-quality, fixed-income debt instruments. Using this process, the company
changed its discount rate assumption for the PPP from 7.25 percent to 7.00
percent, effective December 31, 2001. This change is not expected to have a
material effect on the company's 2002 results of operations.

Future effects of retirement-related plans on the operating results of
the company depend on economic conditions, employee demographics, mortality
rates and investment performance. However, given the current market trends
and historical trends, the company expects to reduce its expected U.S.
long-term return assumption for 2003 to between 8 percent and 8.5 percent
depending upon fourth quarter market performance and future market outlook at
year end. This change along with other actuarial assumption changes will
reduce pre-tax income by an estimated $700 million in 2003. In addition, as a
result of the stock markets' downturn in 2002 and the corresponding drop in
value of the PPP's assets, the company expects to start contributing to the
PPP. As of quarter-end, the company's working assumption is that it would
contribute $1.5 billion to the PPP. Outside the U.S., the company is planning
to make contributions similar to levels it has made in the past few years. The
company's funding plans are not final and are dependent on market conditions
and other factors.

The company's effective tax rate on continuing operations for the third
quarter of 2002 was 29.5 percent versus 28.9 percent for the same period in
2001. The effective tax rate on continuing operations for the first nine months
of 2002 was 28.9 percent versus 29.0 percent for the comparable period in 2001.
The 2002 year-to-date effective tax rate was lower than the 2002 third quarter
rate as a result of the tax effect of the second quarter Microelectronics
actions. The company's effective tax rate may change period to period based on
nonrecurring events as well as recurring factors including the geographical mix
of income before taxes, the timing and amount of foreign dividends, state and
local taxes, and the interaction of various global tax strategies. In the
normal course of business, the company expects that the effective tax rate will
approximate 30 percent.

-24-

RESULTS OF DISCONTINUED OPERATIONS

See pages 6 and 7 for a discussion of the company's divestiture of the
HDD business. Revenue from discontinued operations decreased 22.9 percent to
$498 million and decreased 33.9 percent to $1,398 million for the third quarter
and first nine months of 2002, respectively, when compared with the same periods
of 2001. The decreases were primarily due to volume declines in the desktop and
server categories as well as general industry price declines across all product
lines.

The loss from discontinued operations in the third-quarter 2002 was $381
million as compared with a loss of $118 million in the third quarter of 2001.
Included in the third-quarter 2002 loss was the operational loss due to lower
volumes and average selling price of the HDD products and approximately $107
million, net of tax, of additional estimated loss on disposal of the HDD
business. The change in the estimated loss on disposal versus the previous
quarter's estimate was primarily driven by the inclusion of additional HDD
related fixed assets in the scope of the sale as well as HDD capital additions
made by the company in the ordinary course of business. Consistent with the
terms of the sale agreement, as amended, the company will not receive any
additional consideration for these assets.

The loss from discontinued operations for the first nine months of 2002
was $862 million versus $191 million for the first nine months of 2001.
Included in the 2002 nine month loss was the operational loss due to lower
volumes and average selling price of the HDD products, approximately $135
million, net of tax, of an estimated loss on disposal of the HDD business, a
$191 million, net of tax, increase for inventory write-offs as compared to
the first nine months of 2001, a $114 million, net of tax, increase for
certain actions taken by the company in the second quarter of 2002, and $89
million, net of tax, of increases in warranty costs as compared to the first
nine months of 2001. The increase in inventory write-offs was especially
pronounced for the older products after the Hitachi transaction was announced
and led the company to a strategic decision to cease reworking and selling
efforts for some of the company's older HDD products. The written off
inventory is expected to be physically disposed of prior to closing.

The second quarter actions primarily include charges for the abandonment
and associated removal costs for machinery, equipment and tooling that are no
longer needed by the company and will not be purchased by Hitachi.

The discontinued operations effective tax rate for the third quarter of
2002 was 12.4 percent versus 18.1 percent for the same period in 2001. The
discontinued operations effective tax rate for the first nine months of 2002 was
24.1 percent versus 5.4 percent for the comparable period in 2001. The
discontinued operations effective tax rate is primarily dependent on the mix of
losses in countries with low tax rates.

-25-

FINANCIAL CONDITION

Investments included expenditures for continuing operations of $3,967
million for Research, development and engineering, including software
development that was capitalized on the Consolidated Statement of Financial
Position and $3,450 million for Plant, rental machines and other property. In
addition, the company repurchased $4,138 million of its common shares. The
company had $5,222 million in Cash and cash equivalents and Marketable
securities at September 30, 2002.

CASH FLOW

Cash flows from operating activities in the first nine months of 2002
increased $350 million from the comparable 2001 period. This primarily resulted
from the monetizing of interest rate swaps associated with the company's debt
portfolio, in response to recent interest rate market dynamics. This transaction
had no impact on 2002 net income. This increase was partially offset by
payments associated with the second quarter Microelectronics and productivity
actions.

Cash flows used in investing activities decreased $1,600 million from the
comparable 2001 period. The decrease primarily resulted from lower capital
spending. In addition, the company acquired the database software business of
the Informix Corporation during the third quarter of 2001.

Cash flows used in financing activities in the first nine months of 2002
increased $2,583 million from the comparable 2001 period due primarily to a
decrease in debt financing.

WORKING CAPITAL

-26-

FINANCIAL CONDITION - (CONTINUED)

Current assets decreased $5,145 million from year-end 2001 primarily due
to decreases of $1,171 million in Cash and cash equivalents and Marketable
securities, $2,814 million in Accounts receivable ($2,200 million in
Short-term financing receivables, $652 million in Notes and accounts
receivable and an increase of $38 million in Other accounts receivable), $880
million in Inventories, $154 million in Prepaid expenses and other current
assets, $87 million in Deferred taxes and $39 million in Intangible assets.
The net decrease in Cash and cash equivalents and Marketable securities, as
compared with year-end 2001, was primarily due to the reduction of debt
(primarily non-global financing debt), payments associated with the
second-quarter productivity actions, partially offset by the monetizing of
interest rate swaps. The decline in accounts receivable was attributable to
lower revenue volumes in the first nine months of 2002 and an increase in
collections of its accounts receivable balances. Current liabilities
decreased $4,880 million from year-end 2001 with declines of $3,217 million
in Short-term debt and $811 million in Taxes payable, which decline is
consistent with prior year's trends.

INVESTMENTS

During the first nine months of 2002, the company invested $3,450 million
in Plant, rental machines and other property, a decrease of $706 million from
the comparable 2001 period. The company invested in its services business,
primarily from the acquisition of capital assets associated with the management
of customers' information technology through its Outsourcing Services business,
as well as in manufacturing capacity for the 300 mm copper chip-making
facilities in Microelectronics.

In addition to software development expense included in Research,
development and engineering expense, the company capitalized $420 million of
software costs from continuing operations during the first nine months of
2002, a decrease of $66 million from the comparable period in 2001.
Amortization of capitalized software costs from continuing operations was
$506 million during the first nine months of 2002, an increase of $50 million
from the comparable 2001 period.

Investments and sundry assets were $17,289 million at September 30, 2002,
an increase of $1,821 million from year-end 2001 primarily due to increased
pension assets.

On April 30, 2002, the Board of Directors increased the authorized amount
of IBM common shares that the company may repurchase in the open market by an
additional $3.5 billion. The company's total remaining authorized amount as of
September 30, 2002 is $3,938 million of IBM common shares.

-27-

FINANCIAL CONDITION - (CONTINUED)

DEBT AND EQUITY

The company's debt level of $25,744 million is almost entirely (94
percent) the result of the company's Global Financing business. The Global
Financing business provides financing primarily to the company's customers and
business partners. Using the typical financing business model, Global Financing
funds its operations primarily through borrowings. It uses a debt to equity
ratio of approximately 7 to 1. Global Financing generates income by charging its
customers a higher interest rate than the interest expense on its borrowings.

GLOBAL FINANCING ASSETS AND DEBT
(DOLLARS IN MILLIONS)

* As of September 30, 2002.

The company's operations are essentially self-funding except for the
company's Global Financing business which leverages assets.

The company's funding requirements are continually monitored and
strategies are executed to manage the company's overall asset and liability
profile. Additionally, the company maintains sufficient flexibility to access
global funding sources as needed. The company's total debt decreased $1,407
million from year end 2001 to $25,744 million at September 30, 2002. Based upon
the company's two different capital structures as previously discussed in this
section, the analysis of this change and certain ratios are discussed below on
both a Global Financing and a non-global financing basis.

-28-

FINANCIAL CONDITION - (CONTINUED)

GLOBAL FINANCING

* Global Financing debt includes debt of the company and of Global Financing
units that support the Global Financing business.

(1) Financing assets are net of an allowance for receivable losses of $959
million at September 30, 2002 and $691 million at December 31, 2001. The reserve
coverage at September 30, 2002 was 3.7 percent versus 2.4 percent at December
31, 2001. The increase in coverage was due to increased provisions for specific
accounts.

(2) Financing assets include residual values of $1,030 million at September 30,
2002 and $1,125 million at December 31, 2001. The decrease in residual values
was consistent with the overall decline in leased assets caused by the current
economic environment.

The Global Financing segment is a financial services business and is,
therefore, more debt dependent than the company's other businesses. In the third
quarter of 2002, the Global Financing debt to equity ratio was 6.8x, which is
within management's acceptable target range.

NON-GLOBAL FINANCING

* Non-global financing debt is the company's total external debt less the Global
Financing debt described in the Global Financing table above.

The non-global financing debt/capitalization ratio may rise in fourth-
quarter 2002 due, in part, to potential transactions discussed in the liquidity
section on pages 30 and 31. The company expects this ratio to return to current
levels over time.

Global Financing provides financing predominately for the company's
external customers but also provides financing for the company including the
funding to support the Global Services business' long-term customer services
contracts. All of these financing arrangements are at arms-length rates based
upon market conditions. The company manages and measures the

-29-

FINANCIAL CONDITION - (CONTINUED)

Global Financing business as if it approximates a stand-alone business that
includes both the external financing and company financing described above.
Accordingly, the Global Financing debt above and Global Financing Cost of
global financing below support both of these Global Financing activities.

All intercompany transactions are eliminated in the Consolidated
Statement of Earnings and therefore, the financing revenue associated with the
financing provided by Global Financing to the company is eliminated in
consolidation. Accordingly, the interest expense from the company's external
borrowings that supports such financing revenue is classified in the Interest
expense caption of the Consolidated Statement of Earnings as opposed to the Cost
of global financing caption. The reconciliation of these amounts is as follows:

Stockholders' equity decreased $1,522 million from December 31, 2001,
primarily due to the company's ongoing stock repurchase program. A review of the
company's debt and equity should also consider other contractual obligations and
commitments. These amounts are summarized in one table below to facilitate a
reader's review.

CONTRACTUAL OBLIGATIONS

COMMITMENTS

* Excludes net unamortized discount and SFAS No. 133 fair value adjustments.

-30-

FINANCIAL CONDITION - (CONTINUED)

LIQUIDITY

The company maintains a global credit facility totaling $12.0 billion
in committed credit lines, including an $8.0 billion five-year facility
(which expires May 30, 2006) and a $4.0 billion 364-day facility (which
expires May 30, 2003), as part of its ongoing efforts to ensure appropriate
levels of liquidity. As of September 30, 2002, amounts unused and available
under these facilities were $11,844 million. In addition, at September 30,
2002, the company had in place other lines of credit, most of which were
uncommitted, of $8,405 million. The amount unused and available under these
primarily uncommitted facilities at September 30, 2002, was $6,074 million.

The company expects to receive the initial proceeds from the HDD
transaction of over $1.0 billion, subject to regulatory approval, in the
fourth quarter of 2002. The company disbursed approximately $2.9 billion in
cash for the PwC Consulting business in the fourth quarter of 2002. In
addition, the company is considering starting to fund the PPP as discussed on
page 24. The company expects to manage the excess cash outflows over inflows
for these events, and to the extent that the timing of these cash receipts
and disbursements do not coincide, by temporarily increasing non-global
financing borrowings.

The major rating agencies' ratings of the company's debt securities at
September 30, 2002, appear in the table below and remain unchanged from December
31, 2001.

Standard Moody's
And Investors
Poor's Service Fitch,Inc.
------ ------- ----------

Senior long-term debt A+ A1 AA-
Commercial paper A-1 Prime-1 F-1+

CURRENCY RATE FLUCTUATIONS

Changes in the relative values of non-U.S. currencies to the U.S. dollar
affect the company's results. At September 30, 2002, currency changes resulted
in assets and liabilities denominated in local currencies being translated into
more dollars than at year-end 2001. The currency rate changes had a favorable
effect on revenue growth of approximately 2 percentage points in the third
quarter of 2002 and an unfavorable effect on revenue growth of approximately 3
percentage points in the third quarter of 2001.

For non-U.S. subsidiaries and branches that operate in U.S. dollars or
whose economic environment is highly inflationary, translation adjustments are
reflected in results of operations, as required by SFAS No. 52, "Foreign
Currency Translation." Generally, the company manages currency risk in these
entities by linking prices and contracts to U.S. dollars and selectively
entering into foreign currency hedge contracts.

The company uses a variety of financial hedging instruments to limit
specific currency risks related to financing transactions and other foreign
currency-based transactions. Further discussion of currency and hedging appears
in note k, "Derivatives and Hedging Transactions," on pages 85 through 87 of the
2001 Annual Report.

-31-

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. These statements involve a number of risks, uncertainties and other
factors that could cause actual results to differ materially, including the
company's failure to continue to develop and market new and innovative products
and services and to keep pace with technological change; competitive pressures;
failure to obtain or protect intellectual property rights; quarterly
fluctuations in revenues and volatility of stock prices; the company's ability
to attract and retain key personnel; currency and customer financing risks;
dependence on certain suppliers; changes in the financial or business condition
of the company's distributors or resellers; the company's ability to
successfully manage acquisitions and alliances; legal, political and economic
changes and other risks, uncertainties and factors discussed elsewhere in this
Form 10-Q, in the company's other filings with the Securities and Exchange
Commission or in materials incorporated therein by reference.

ITEM 4. CONTROLS AND PROCEDURES

Based on their evaluation of the company's disclosure controls and
procedures as of a date within 90 days of the filing of this Report, the Chief
Executive Officer and Chief Financial Officer have concluded that such controls
and procedures are effective.

There were no significant changes in the company's internal controls or
in other factors that could significantly affect such controls subsequent to the
date of their evaluation.

PART II - OTHER INFORMATION

ITEM 5. OTHER INFORMATION

The Audit Committee of the Board of Directors approved the categories
of all non-audit services performed by the company's independent accountants
during the period covered by this report.

ITEM 6(a). EXHIBITS

EXHIBIT NUMBER

3 The By-laws of IBM as amended through September 1, 2002.

11 Statement re: computation of per share earnings.

12 Statement re: computation of ratios.

99.1 Certification by CEO pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

99.2 Certification by CFO pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

-32-

ITEM 6(b). REPORTS ON FORM 8-K

The company filed a Form 8-K on July 1, 2002, to incorporate by reference
into Registration Statement No. 333-37034 on Form S-3, effective June 20, 2000,
the Selling Agent Agreement dated June 28, 2002, among International Business
Machines Corporation, ABN AMRO Financial Services, Inc., A.G. Edwards & Sons,
Inc., Edward Jones & Co., L.P., Fidelity Capital Markets, a division of National
Financial Services LLC, Merrill Lynch, Pierce, Fenner & Smith Incorporated,
Morgan Stanley & Co. Incorporated, Prudential Securities, Salomon Smith Barney
Inc., Charles Schwab & Co., Inc., and UBS PaineWebber Inc. In addition, the Form
of Master Note and the resolution of the IBM Board of Directors dated April 30,
2002 were also filed. No financial statements were filed with this Form 8-K.

The company filed a Form 8-K on July 9, 2002, publishing quarterly
consolidated financial results for 2001 and the first quarter of 2002 as a
result of the company's decision to sell its disk drive operations to Hitachi,
Ltd. which under generally accepted accounting principles will be accounted for
as discontinued operations. These financial results from prior periods were
presented to conform with this accounting treatment. In addition, segment
pre-tax income from continuing operations results were provided for the same
periods in this Form 8-K.

The company filed a Form 8-K on July 17, 2002, with respect to the
company's financial results for the periods ended June 30, 2002, and included
the unaudited Consolidated Statement of Earnings, Consolidated Statement of
Financial Position and Segment Data for the periods ended June 30, 2002. In
addition, IBM's Chief Financial Officer, John R. Joyce's second-quarter earnings
presentation to security analysts on Wednesday, July 17, 2002, was filed as
Attachment II of the Form 8-K.

The company filed a Form 8-K on July 30, 2002, with respect to the
company's press release dated July 30, 2002, regarding a definitive agreement
between IBM and PricewaterhouseCoopers, whereby IBM will acquire
PricewaterhouseCoopers' global business consulting and technology services unit
for approximately $3.5 billion in cash and stock. No financial statements were
filed with this 8-K.

The company filed a Form 8-K on August 13, 2002, submitting the
Statements under Oath of the Principal Executive Office and the Principal
Financial Officer in accordance with the Securities and Exchange Commission's
June 27, 2002 Order requiring the filing of sworn statements pursuant to Section
21 (a) (1) of the Securities Exchange Act of 1934.

The company filed a Form 8-K on August 28, 2002, publishing consolidated
financial earnings results for 2001 through 1997 as a result of the company's
decision to sell its disk drive operations to Hitachi, Ltd. which under
generally accepted accounting principles will be accounted for as discontinued
operations. These financial results from prior periods were presented to conform
with this accounting treatment. In addition, the Computation of Ratio of Income
from Continuing Operations to Fixed Charges is also presented for the same
periods in this Form 8-K.

The company filed a Form 8-K on September 9, 2002, to incorporate by
reference into Registration Statement No. 333-37034 on Form S-3, effective June
20, 2000, the Underwriting Agreement dated September 5, 2002, among
International Business Machines Corporation,

-33-

ITEM 6(b). REPORTS ON FORM 8-K - (CONTINUED)

Deutsche Bank Securities Inc., Banc Of America Securities LLC, Banc One Capital
Markets, Inc. and Salomon Smith Barney Inc. In addition, the Form of
$1,100,000,000 Floating Notes due 2004 was also filed. The Underwriting
Agreement dated September 5, 2002, among International Business Machines
Corporation, J.P. Morgan Securities Inc., Morgan Stanley & Co. Incorporated, ABN
AMRO Incorporated, Banc of America Securities LLC, Banc One Capital Markets,
Inc., Barclays Capital Inc., BNP Paribas Securities Corp., Credit Suisse First
Boston Corporation, Deutsche Bank Securities Inc., Dresdner Kleinwort
Wasserstein - Grantchester, Inc., Goldman Sachs & Co., HSBC Securities (USA)
Inc., ING Financial Markets LLC, Lehman Brothers Inc., The Royal Bank of
Scotland plc, Salomon Smith Barney Inc., UBS Warburg LLC, Utendahl Capital
Partners, L.P. and The Williams Capital Group, L.P. was also filed along with
the Form of $600,000,000 4.25 percent Notes due 2009 in this Form 8-K.

SIGNATURE

Pursuant to the requirements 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.

International Business Machines Corporation
-------------------------------------------
(Registrant)

Date: November 4, 2002
- ----------------------

By:

/s/ Robert F. Woods
---------------------------------
Robert F. Woods
Vice President and Controller

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CERTIFICATION PURSUANT TO RULE 13A-14 OR 15D-14 OF THE SECURITIES
EXCHANGE ACT OF 1934, AS ADOPTED PURSUANT TO SECTION 302 OF THE
SARBANES-OXLEY ACT OF 2002

I, Samuel J. Palmisano, certify that:

1. I have reviewed this quarterly report on Form 10-Q of International Business
Machines Corporation;

2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;

3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;

4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

a. designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;

b. evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and

c. presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;

5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):

a. all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal
controls; and

b. any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and

6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.

Dated: October 23, 2002

By: /s/ Samuel J. Palmisano
-----------------------
Samuel J. Palmisano
President and Chief
Executive Officer

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CERTIFICATION PURSUANT TO RULE 13A-14 OR 15D-14 OF THE SECURITIES
EXCHANGE ACT OF 1934, AS ADOPTED PURSUANT TO SECTION 302 OF THE
SARBANES-OXLEY ACT OF 2002

I, John R. Joyce, certify that:

1. I have reviewed this quarterly report on Form 10-Q of International Business
Machines Corporation;

2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;

3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;

4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

a. designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;

b. evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and

c. presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;

5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):

a. all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal
controls; and

b. any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and

6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.

Dated: October 23, 2002

By: /s/ John R Joyce
-----------------------
John R. Joyce
Senior Vice President,
Chief Financial Officer

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