IBM 2008 Annual Report Download - page 51

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Management Discussion
INTERNATIONAL BUSINESS MACHINES CORPORATION and Subsidiary Companies
will cause a corresponding decrease or increase, respectively, in the
PPP’s PBO of an estimated $. billion based upon December ,
 data. Page  presents the PPP’s PBO and plan assets as of
December , .
The expected long-term return on plan assets is used in calculat-
ing the net periodic pension (income)/cost. The differences between
the actual return on plan assets and expected long-term return on
plan assets are recognized over five years in the expected return on
plan assets line within net periodic pension cost/(income) and also as
a component of gains/losses in accumulated gains and (losses) not
affecting retained earnings, which is recognized over the service lives
of the employees in the plan, provided such amounts exceed certain
thresholds which are based upon the obligation or the value of plan
assets, as provided by accounting standards.
To the extent the outlook for long-term returns changes such that
management changes its expected long-term return on plan assets
assumption, each  basis point increase or decrease in the expected
long-term return on PPP plan assets assumption will have an estimated
decrease or increase, respectively, of $ million on the following
year’s pre-tax net periodic pension cost/(income) (based upon the
PPP’s plan assets at December ,  and assuming no contribu-
tions are made in ). As presented on page , the company did
not change its expected long-term return on plan assets assumption
on December , .
The company may voluntarily make contributions or be required,
by law, to make contributions to its pension plans. Actual return on
pension plan assets that differ from the expected long-term return on
plan asset assumptions, may result in more or less future contribu-
tions than is planned by management.
Impacts of these types of changes on the company’s defined benefit
pension plans in other countries worldwide will vary depending upon
the status of each respective plan.
Revenue Recognition
Application of the various accounting principles in GAAP related to
the measurement and recognition of revenue requires the company
to make judgments and estimates. Specifically, complex arrangements
with nonstandard terms and conditions may require significant con-
tract interpretation to determine the appropriate accounting, including
whether the deliverables specified in a multiple element arrangement
should be treated as separate units of accounting. Other significant
judgments include determining whether IBM or a reseller is acting as
the principal in a transaction and whether separate contracts are
considered part of one arrangement.
Revenue recognition is also impacted by the company’s ability
to estimate sales incentives, expected returns and allowances for
uncollectible receivables. The company considers various factors,
including a review of specific transactions, the credit-worthiness of
the customers, historical experience and market and economic condi-
tions when calculating these provisions and allowances. Estimates are
evaluated each quarter to assess the adequacy of the estimates. If
these estimates were changed by  percent in , net income would
be impacted by $ million (excluding Global Financing receivables
reserves discussed on pages  and ).
Costs to Complete Service Contracts
The company enters into numerous service contracts through its GTS
and GBS businesses. During the contractual period, revenue, cost
and profits may be impacted by estimates of the ultimate profitability
of each contract, especially contracts for which the company uses the
percentage-of-completion (POC) method of accounting. If at any
time these estimates indicate the POC contract will be unprofitable,
the entire estimated loss for the remainder of the contract is recorded
immediately in cost. The company performs ongoing profitability
analyses of its services contracts in order to determine whether the
latest estimates require updating. Key factors reviewed by the company
to estimate the future costs to complete each contract are future labor
costs, future product costs and productivity efficiencies. Contract loss
provisions recorded as a component of other accrued expenses and
liabilities are approximately $ million and $ million at December
,  and December , , respectively.
Income Taxes
The company is subject to income taxes in the U.S. and numerous
foreign jurisdictions. Significant judgments are required in determin-
ing the consolidated provision for income taxes.
During the ordinary course of business, there are many transac-
tions and calculations for which the ultimate tax determination is
uncertain. As a result, the company recognizes tax liabilities based on
estimates of whether additional taxes and interest will be due. These
tax liabilities are recognized when, despite the company’s belief that
its tax return positions are supportable, the company believes that
certain positions may not be fully sustained upon review by tax
authorities. The company believes that its accruals for tax liabilities
are adequate for all open audit years based on its assessment of many
factors including past experience and interpretations of tax law. This
assessment relies on estimates and assumptions and may involve a
series of complex judgments about future events. To the extent that
the final tax outcome of these matters is different than the amounts
recorded, such differences will impact income tax expense in the
period in which such determination is made.
Significant judgment is also required in determining any valuation
allowance recorded against deferred tax assets. In assessing the need for
a valuation allowance, management considers all available evidence for
each jurisdiction including past operating results, estimates of future