IBM Earnings Call: Software, AI and Cash Drive Outlook

International Business Machines Corporation ((IBM)) has held its Q4 earnings call. Read on for the main highlights of the call.

IBM Signals Confidence as Software and AI Strategy Drive Record Year

IBM’s latest earnings call carried a distinctly upbeat tone, with management emphasizing that its software-led transformation is now showing through in the numbers. Revenue growth hit the highest rate in years, margins expanded across the board, and free cash flow set a record, giving executives confidence to lay out ambitious targets through 2026. While they acknowledged headwinds in Red Hat, federal government deals, infrastructure cycles, and the near-term dilution from recent acquisitions, IBM argued that strong execution in software, GenAI, mainframes, and productivity savings more than offsets these pressures.

Record Revenue and Free Cash Flow Mark a Turning Point

IBM delivered 6% revenue growth for 2025, the strongest pace the company has seen in many years, underscoring that its shift toward software, hybrid cloud, and AI is gaining traction. Even more notable for investors, IBM generated $14.7 billion in free cash flow, up 16% year over year and the highest level in more than a decade. Management highlighted that this also represents the best free cash flow margin in the company’s reported history, giving IBM more flexibility to invest in growth, complete acquisitions, and return cash to shareholders.

Broad-Based Margin Expansion Underpins Profit Story

Profitability was a central highlight. Operating pretax margin expanded by roughly 100 basis points for the year, while adjusted EBITDA grew 17% year over year. Operating gross profit margin rose 170 basis points and adjusted EBITDA margin expanded 230 basis points, signaling stronger operating leverage as the mix shifts toward higher-margin software and services. IBM stressed that this margin expansion is not a one-off, but the result of structural changes, disciplined cost management, and scale benefits from its software and AI platforms.

Software Takes the Lead in IBM’s Transformation

Software has become the growth engine of IBM. It now represents about 45% of company revenue and grew 9% for the full year—its fastest annual software growth on record—accelerating to 11% in the fourth quarter. Annualized recurring revenue (ARR) reached $23.6 billion, more than $2 billion higher than a year ago. Organic ARR growth quickened to above 7%, and three of the four software sub-segments posted double-digit growth. Management presented this as tangible proof that IBM’s platform and subscription strategies are working, creating a more durable and predictable revenue base.

Data and Automation Outperform on GenAI Tailwinds

Within software, data and automation offerings were standout performers. In the fourth quarter, Data revenue climbed 19% and Automation advanced 14%. These gains were attributed to strong demand for GenAI capabilities, improved traction for IBM’s data platforms, and robust bookings, including record results for HashiCorp. The company underscored that data and automation are key beneficiaries of enterprise AI adoption, as clients modernize their data stacks and automate workflows to capture productivity gains.

Mainframe (IBM Z) Delivers Its Best Year in Decades

IBM’s mainframe franchise, often viewed as mature, had a breakout year powered by the Z17 cycle. Infrastructure revenue grew 17% in the fourth quarter, with hybrid infrastructure up 24%. IBM Z revenue surged 61% year over year in Q4, and Z achieved its highest annual revenue in roughly 20 years. The Z17 system, which IBM said can process about 50% more AI inferencing operations per day than Z16, is central to the company’s hybrid AI and mission-critical workloads strategy. Management framed Z’s performance as evidence that mainframes remain a strategic, not legacy, asset for large enterprises.

GenAI Book of Business Surpasses $12.5 Billion

IBM’s early bet on enterprise GenAI is building meaningful scale. The cumulative GenAI book of business exceeded $12.5 billion, with more than $2 billion tied to software and over $10.5 billion in consulting. The latest quarter saw the largest single-quarter increase so far. Consulting GenAI bookings grew substantially, and more than a quarter of IBM’s consulting backlog now includes GenAI. Management stressed that GenAI is no longer a pilot-stage story; it is translating into sizable, multi-year engagements across both software and services.

Productivity Gains and Disciplined Capital Allocation

The company is also leaning on productivity to drive margins and fund growth. IBM exited 2025 with an annual run-rate of $4.5 billion in productivity savings, far above its earlier $2 billion goal, and it targets an incremental $1 billion in 2026 to reach a $5.5 billion run-rate. Meanwhile, IBM continues to execute a disciplined M&A strategy, pointing to HashiCorp as turning accretive to EBITDA earlier than expected. The company returned $6.3 billion to shareholders over the year, balancing buybacks and dividends with ongoing M&A and internal investment.

Innovation, Quantum, and Strategic Tech Partnerships

Management highlighted ongoing innovation as another pillar of IBM’s strategy. The firm deployed its first 120-qubit Nighthawk quantum system for clients, positioning itself for the long-term quantum computing opportunity. Internally, Project Bob—a productivity initiative among more than 20,000 IBM developers—has delivered roughly 45% productivity gains, showing how IBM is using its own tools to drive efficiency. On the ecosystem front, IBM is deepening partnerships with major tech players including AMD, Anthropic, AWS, Microsoft, OpenAI, Oracle, NVIDIA, and Red Hat to strengthen its hybrid AI and cloud offerings and ensure broad customer reach.

Red Hat Growth Slows Amid Federal Deal and Mix Issues

Not all segments fired on all cylinders. Red Hat’s growth slowed to 8% in the fourth quarter, held back by the wrap-up of last year’s elevated consumption-based services and delays in U.S. federal bookings tied to the government shutdown. Red Hat Enterprise Linux grew only at a mid-single-digit rate, below prior expectations. While IBM still views Red Hat as central to its hybrid cloud strategy, management acknowledged that the unit is facing near-term pressure, particularly where large public-sector deals are concerned.

Consulting Signings Soft Despite Solid Backlog

IBM’s consulting business posted only 1% revenue growth in the fourth quarter, and overall signings fell versus last year’s record levels. Annual contract value bookings were in the single digits, again impacted by federal sector delays. Despite this slowdown, the consulting backlog remains sizeable at about $32 billion, and the company highlighted growing GenAI content within that backlog. Management suggested that the softness in signings is more timing-related than structural, though investors will be watching to see if growth reaccelerates as federal demand normalizes.

Acquisition-Driven Dilution: Confluent and HashiCorp

IBM flagged meaningful near-term earnings dilution from its M&A strategy. The acquisition of Confluent is expected to create roughly $600 million of dilution in 2026, largely due to stock-based compensation and interest costs. The company also absorbed more than $300 million of dilution from the HashiCorp deal in 2025. However, IBM expects Confluent to be accretive to adjusted EBITDA in its first full year and accretive to free cash flow in year two, with an anticipated $500 million run-rate of operational synergies by 2027. Management framed these deals as strategic moves to deepen IBM’s position in data, automation, and event streaming, even at the cost of short-term margin pressure.

Infrastructure Facing Product-Cycle and Market Headwinds

Looking ahead, IBM expects its infrastructure segment to decline modestly in 2026. Management guided to low-single-digit revenue contraction for infrastructure, equating to about a half-point drag on overall IBM growth. Distributed infrastructure revenue was flat in the fourth quarter, while infrastructure support declined 2%. These trends reflect normal product cycle dynamics and pockets of market softness, particularly in traditional server and support offerings, even as IBM Z remains strong. Investors should expect infrastructure to be a relative headwind versus the faster-growing software and consulting businesses.

Cost Pressures and Leverage Remain on the Radar

IBM acknowledged that higher capital expenditures, rising cash taxes, and increased net interest expense will partially offset adjusted EBITDA growth. The company ended the year with $61.3 billion in total debt, including $15.1 billion tied to its financing business. While management said leverage is being actively managed, the absolute debt level remains significant, especially as interest costs rise. This makes ongoing free cash flow generation and disciplined capital allocation crucial to maintaining flexibility for investment, acquisitions, and shareholder returns.

Memory Pricing Volatility Clouds Parts of Infrastructure

A more technical but important headwind involves memory pricing and server supply dynamics. Spot DRAM prices and strong demand for high-bandwidth memory in AI servers are causing volatility in memory costs, which could dampen server refresh cycles. IBM expects these conditions to persist for at least a couple of years, pressuring parts of its infrastructure and Linux server markets. While this is not central to IBM’s software story, it adds another layer of uncertainty to the hardware side of the business.

Forward Guidance: Sustained Growth, Higher Margins, and Strong Cash

Looking to 2026, IBM guided to sustaining 5%+ constant-currency revenue growth, with free cash flow rising by around $1.0 billion to roughly $15.7 billion. The main growth driver is expected to be high-single-digit adjusted EBITDA expansion. Management forecasts software to accelerate to about 10% growth, supported by the $23.6 billion ARR base and organic growth above 7%. Consulting is projected to grow in the low- to mid-single digits, underpinned by a $32 billion backlog and increasing GenAI content, while infrastructure is expected to decline low-single digits despite continued strength in IBM Z. IBM aims for about 100 basis points of operating pretax margin expansion, an operating tax rate in the mid-teens, and reiterated its productivity targets, including $5.5 billion of annualized savings by 2026. The company also baked in roughly $600 million of 2026 dilution from Confluent, while emphasizing that the deal should quickly become accretive on an EBITDA and cash flow basis.

IBM’s earnings call painted a picture of a company firmly in transition, with software, AI, and mainframes driving robust growth and profitability against a backdrop of more traditional infrastructure and consulting softness. Record free cash flow, broad-based margin expansion, and a large and growing GenAI book of business underpin management’s confidence in sustaining mid-single-digit revenue growth and further margin gains. While near-term pressures from Red Hat deceleration, federal deal delays, memory pricing, and acquisition-driven dilution will test execution, IBM’s strong operating momentum and clear capital allocation priorities suggest its transformation story still has room to run for investors focused on the medium term.