Fitch Affirms IBM's IDR at 'AA-'; Outlook Stable.

NEW YORK -- Fitch Ratings, Inc. has affirmed International Business Machines Corporation's (IBM) ratings as follows:

--Issuer Default Rating (IDR) at 'AA-';

--Senior unsecured credit facility at 'AA-';

--Senior unsecured debt at 'AA-';

--Commercial paper (CP) program at 'F1+'.

In addition, Fitch has affirmed IBM International Finance N.V.'s IDR and CP program ratings at 'AA-' and 'F1+,' respectively.

Approximately $31.8 billion of debt is affected by Fitch's action, including IBM's nearly undrawn $10 billion credit facility. The Rating Outlook is Stable.

The ratings continue to reflect IBM's strong financial flexibility and liquidity supported by a significant cash position and consistent free cash flow, solid balance sheet despite significant debt funding requirements for the financing business, substantial recurring revenue from services, software and financing businesses, and a strong research and development program. Furthermore, IBM is well diversified from a geographic and product perspective, offering a full range of computer hardware, information technology (IT) services, software, and financing worldwide. IBM's diversity and degree of recurring revenue, which Fitch estimates accounts for more than 50% of total revenues, have historically mitigated the financial impact from volatility in IT end market demand. Also, Fitch recognizes IBM Global Financing's (IGF) solid long-term operating record and strategic advantages it provides in attracting and retaining customers by delivering total solutions to IBM's customers as well as the annuity-like revenue stream associated with multi-year leases.

Rating concerns center on inconsistent services contract signings, capital spending requirements for the more capital-intensive and volatile semiconductor unit, and on-going share repurchase programs. Additionally, Fitch continues to monitor the Securities and Exchange Commission's formal investigations relating to specific client transactions in 2000 and 2001 and IBM's disclosure regarding its plan to expense stock options in the first quarter of 2005. Specific to IGF, Fitch is concerned by an increasing propensity to finance software and services which may lead to higher credit risk over the long term, partially mitigated by IGF restricting this type of financing to customers with strong risk profiles.

For the purpose of financial evaluation, Fitch analyzes IBM's core business and financing activities separately since they are capitalized differently and have dissimilar cash flow characteristics. Although IGF contributed approximately 11% of IBM's pre-tax earnings in the second quarter of 2006, it constitutes the largest component of IBM's balance sheet, representing approximately 29% of total assets and 38% of total liabilities as of June 30, 2006.

At the end of the second quarter of 2006 ended June 30, 2006, IBM had $21.8 billion of total debt, down from $22.6 billion at year-end 2005, of which $21.3 billion, or approximately 98%, supported IGF's end-user and business-partner financing operations with the remaining $468 million of debt supporting IBM's core operations. IBM's core leverage (core debt to core operating EBITDA) was negligible as of June 30, 2006, compared with approximately 0.2 times (x) as of June 30, 2005 due to $2.8 billion of core debt. Core interest coverage (core operating EBITDA to core interest expense) remained strong at nearly 70x. Total leverage (total gross debt to total operating EBITDA) as of June 30, 2006 declined slightly to 1.2x compared with 1.3x for the year-ago period. Total interest coverage for the LTM ended June 30, 2006 remained solid at 22x.

IBM's liquidity remains strong with nearly $10 billion in cash and marketable securities as of June 30, 2006, a nearly undrawn five-year $10 billion credit facility expiring on June 28, 2011 and a $500 million committed trade receivables securitization facility that renews annually. Furthermore, IBM continues to achieve significant and consistent free cash flow, which averaged in excess of $5.7 billion annually over the last five years, excluding the cash flow effects from IGF finance receivables. The company's CP balance at the end of the second quarter of 2006 was slightly over $1 billion and approximately $1.7 billion of long-term debt matures in the second half of 2006 and $2.8 billion in 2007.

Although IBM continues to pursue an aggressive share repurchase program funded primarily with free cash flow, Fitch believes the repurchases are manageable. For 2005, the company's gross stock repurchases totaled approximately $7.7 billion; historically, the company's annual gross stock repurchases have been in excess of $6 billion. Fitch believes acquisitions and dividends will also continue to be significant uses of cash for IBM. For the LTM ended June 30, 2006, IBM acquired 16 companies at a net cash cost of approximately $1.2 billion (gross cost of $1.4 billion), the majority of which were in software (11), followed by IT services (4) and systems and technology (1). In the past five years ended Dec. 31, 2005, aggregate net cash payments for acquisitions total $9.1 billion. In the second quarter of 2006, IBM raised its annual dividend by 50%, increasing the total annual cash payment to shareholders to $1.8 billion from $1.2 billion based on the number of shares outstanding at the end of the second calendar quarter.

IGF is a strategic IBM business segment that is managed and measured as a standalone operation with independent performance objectives. The main purpose of IGF is to provide financial and capital management products and services for IBM customers and business partners. IGF also maintains an independent credit approval and underwriting process that determines transaction structure, pricing and estimated residual values. Over the past year, IGF continued its efforts to centralize and ensure the consistency of its overall credit process on a global basis. Fitch believes this effort is especially critical with regard to the financing of software and services, non-IT related equipment or assets and emerging market exposure. Fitch will continue to monitor the portfolio for increased risk.

IGF's operating performance over the past five years has been strong and is one of the best performers in Fitch's captive leasing company universe, as measured by return on equity (ROE) and return on assets (ROA). However, Fitch believes current return levels are likely unsustainable over the long-term and will return to management's ROE target of 16%-18% in light of higher borrowing costs and as overall returns realized from remarketing opportunities decline.

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site.