Welcome, and thank you for standing by. Today's conference is being recorded. Now I will turn the meeting over to Olympia McNerney, IBM's Global Head of Investor Relations. Olympia, you may begin.

Thank you. I'd like to welcome you to IBM's Second Quarter 2025 Earnings Presentation. I'm Olympia McNerney, and I'm here today with Arvind Krishna, IBM's Chairman, President and Chief Executive Officer; and Jim Kavanaugh, IBM's Senior Vice President and Chief Financial Officer. We'll post today's prepared remarks on the IBM investor website within a couple of hours, and a replay will be available by this time tomorrow. To provide additional information to our investors, our presentation includes certain non-GAAP measures. For example, all of our references to revenue and signings growth are at constant currency. We provided reconciliation charts for these and other non-GAAP financial measures at the end of the presentation, which is posted to our investor website. Finally, some comments made in this presentation may be considered forward-looking under the Private Securities Litigation Reform Act of 1995. These statements involve factors that could cause our actual results to differ materially. Additional information about these factors is included in the company's SEC filings. So with that, I'll turn the call over to Arvind.

Thank you for joining us today. In the second quarter, we delivered solid results across revenue, profit and cash, exceeding our expectations. Our performance this quarter was led by software and infrastructure as demand remains high for technology that improves productivity, reduces costs and fuels innovation. While the operating environment remains dynamic, these results reflect the strength of our portfolio and the resiliency of our business model. Before I get deeper into the results, let me touch on the broader economic backdrop. I'll start by saying that we appreciate the administration's priority on economic growth and focused regulation, which will strengthen the U.S. competitive position. We believe this will result in long-term value creation and enable technology to contribute to economic growth. Technology continues to serve as a key competitive advantage, allowing businesses to scale, drive efficiencies and fuel growth, and we saw this play out in the quarter. While not a major factor overall, geopolitical tensions are prompting a few clients to move cautiously. U.S. federal spending was also somewhat constrained in the first half, but we do not expect it to create long-term headwinds. Let me now turn to our execution in the quarter. Our strategy remains focused on hybrid cloud and artificial intelligence. This strategy is built on 5 reinforcing elements: client trust, flexible and open platforms, sustained innovation, deep domain expertise and a broad ecosystem. Together, they form a flywheel for growth, which again played out this quarter. In software, we continue to see momentum, including 14% growth in Red Hat. HashiCorp is also off to a great start, accelerating performance in our first full quarter since closing and seeing early wins with joint Ansible and Terraform product synergies. Infrastructure was up 11% driven by a very strong start to z17. The new IBM Z is an embodiment of the hybrid cloud and AI capabilities we bring to clients. IBM Z continues to deliver on its core strengths, AI, security and scalable capacity, driving its enduring nature with clients. These results were balanced by consulting performance, which continues to be impacted by the demand environment. AI remains a powerful driver of transformation for our clients and for IBM. We are transforming our enterprise operations using technology and embedding AI across more than 70 workflows, leveraging our own IBM software solutions across hybrid cloud, automation and AI to drive competitive advantage. What differentiates IBM is the breadth of our AI offerings with an innovative technology stack and consulting business at scale and our client zero lens. Our GenAI book of business now stands at over $7.5 billion inception-to-date with momentum accelerating quarter-over-quarter. We are seeing strong demand for our AI agents and assistants, RHEL AI, Granite models, as well as an accelerating need for our consulting services to deploy AI. Just last week, IBM was recognized as an emerging leader in the first-ever Gartner Emerging Market Quadrant for Gen AI Consulting & Implementation Services. Our client zero experience has resonated with companies like UPS, Verizon, Mizuho and Nestlé while using our AI tools to unlock data, drive automation and reduce operational friction. As clients focus on scaling AI and delivering ROI, our progress on internal productivity is fueling and accelerating our client engagements. We're also expanding our partner ecosystem to deliver AI at scale. This quarter, we announced new or deepened collaborations with Oracle, Box, AWS, Salesforce, Microsoft, EY, Finastra and WPP. Each is aimed at embedding watsonx into core business workflows. At Think 2025, we introduced new capabilities across our portfolio. We launched new features for watsonx Orchestrate, which allows users to build custom AI agents in minutes with no coding required. There are now more than 150 prebuilt, domain-specific agents in our catalog spanning HR, sales, procurement and IT. Our partners are building on this as well, integrating agents from Oracle, Salesforce, AWS and others. And Orchestrate supports the full agent life cycle from building to managing and governing agents across business functions regardless of which AI models they are built with. We expanded watsonx.data to enable our enterprise clients to get easy access and drive value from their trusted unstructured data. And our webMethods hybrid integration simplifies how clients' connect workflows, APIs and data across hybrid environments. As agentic AI matures, we believe it will power over 1 billion new applications and a massive expansion in code, driving a critical need for automation. Our automation portfolio is uniquely positioned to deliver these solutions to clients across hybrid cloud. SAP plans to deploy our high-value automation portfolio, including Red Hat Ansible automation platform, HashiCorp Terraform and Vault, highlighting the opportunity we have in product synergies. Innovation also extends to infrastructure. This quarter, we launched z17, our most advanced mainframe yet. It features the new Telum II processor delivering more than 450 billion AI inference operations per day with millisecond latency. That means AI models can run directly on transactional workloads with no external servers needed. The Spyre Accelerator, which will be available in the fourth quarter, will enable watsonx Code Assistant for Z and watsonx Assistant for Z to run natively on z17. As more than 70% of IBM Z clients continue to expand or maintain capacity, our software stack is bringing even more innovation to IBM Z, including watsonx Code Assistant for Z, watsonx.data, Concert and HashiCorp Vault. In July, we introduced Power11 to deliver the performance, resiliency and scalability enterprises need to run mission-critical, data-intensive workloads across hybrid environments. And we have announced RISE with SAP on Power11. In quantum, we achieved a major milestone with the deployment of IBM Quantum System Two in Japan in partnership with RIKEN. This marks the first installation outside the United States and underscores our commitment to global leadership in quantum computing. To complement our organic innovation, M&A remains important. We closed the acquisition of DataStax this quarter, adding real-time scalable data capabilities to support AI-driven applications. In closing, we remain focused on consistent execution and long-term growth. While the environment remains dynamic, we have a disciplined strategy and a durable business model. Given our first half performance, we continue to expect accelerating revenue growth to 5% plus and are raising our expectations for free cash flow to above $13.5 billion for the year. We are confident in our ability to deliver sustainable, profitable growth.

Thanks, Arvind. In the second quarter, we delivered $17 billion in revenue, $4.7 billion of adjusted EBITDA, $3.2 billion of operating pretax income, and operating earnings per share of $2.80. Through the first half, we generated $4.8 billion of free cash flow, our highest first half free cash flow margin in many years. Our revenue growth, mix and productivity drove 200 basis points of adjusted EBITDA margin expansion, 16% adjusted EBITDA growth and 15% operating earnings per share growth. We exceeded our expectations on revenue, profitability, adjusted EBITDA and earnings per share, highlighting the strength of our portfolio and resiliency of our business model. Our revenue for the quarter grew over 5% at constant currency. Software grew 8% this quarter as we continue to benefit from our high-value annual recurring revenue base, of which grew to $22.7 billion, up 10% since last year. Red Hat growth accelerated 1 point sequentially to 14%, fueled by another quarter of double-digit bookings and demand for our hybrid cloud solutions. We gained market share across each of our key solutions, led by OpenShift growing revenue more than 20% with ARR now at $1.7 billion. Automation grew 14% with HashiCorp off to a strong start. We accelerated bookings growth in the first full quarter since closing, fueled by IBM's global go-to-market reach and deepening product and technology synergies that are unlocking new customer value. Data was up 7%, fueled by strength across our AI offerings. Transaction Processing revenue declined 2% in the quarter, reflecting where we are at with our new z17 cycle as clients prioritize hardware spend at the beginning of a new program, as you can see in our strong IBM Z results. Infrastructure revenue grew 11% this quarter, with Hybrid Infrastructure up 19% and Infrastructure Support down 3%. Within Hybrid Infrastructure, IBM Z was up 67%, reflecting early strength in our z17 program as AI use cases are resonating strongly with clients. The success of our launch highlights the enduring nature of the IBM Z platform through the value of our continued innovation around AI workloads and the realization that hybrid cloud is the dominant architecture. Clients continue to invest in IBM Z because it remains the backbone for mission-critical workloads, offering unmatched reliability, scalability, security and performance while seamlessly integrating with hybrid cloud and AI strategies. Distributed Infrastructure revenue was down 17% with product cycle dynamics impacting power with the recent announcement of Power11 in July. Power11, our next-generation platform, features advancements across the processor, hardware architecture, and virtualization software stack. While storage was impacted by the new IBM Z cycle as clients prioritized hardware spend, our early strength in z17 and the growth in the installed MIPS capacity drives a long-term benefit given the 3 to 4 times Z stack multiplier. Consulting revenue was flat, stabilizing in the first half, and heading into the second half, our backlog remains healthy, up 4% over last year despite the challenging pricing environment. In the quarter, Intelligent Operations revenue grew 2% while Strategy and Technology declined by 2%. The environment remains dynamic with clients prioritizing cost-efficient, high-impact technology investments, driving good revenue growth in areas like business application transformation, AI operations and cloud platform engineering, and leading to momentum in our Consulting generative AI book of business at over $1 billion in the quarter. This early momentum is important. Engaging with clients as they architect their AI strategies is establishing Consulting as the strategic partner of choice. And we are encouraged that through the first half, we are seeing a greater share of GenAI signings tied to new projects. Delayed decision-making, especially in discretionary projects, as well as prior year renewals impacted our in-period signings. However, we're seeing an improvement in strategic wins with new clients and expanding engagements with existing clients. Now turning to profitability. During the quarter, the strength of our portfolio mix and productivity execution drove expansion of our operating gross profit margin of 230 basis points, adjusted EBITDA margin of 200 basis points and operating pretax margin of 110 basis points, ahead of our expectations and well above our model. Our productivity initiatives create a flywheel that allows us to invest back in our business, both organically and inorganically, increase our financial flexibility, and deliver margin expansion as we saw this play out again in the quarter. We remain laser-focused on driving efficiency and cost savings by leveraging technology and embedding AI in our workflows as well as optimizing our supply chain and service delivery. This quarter, we continued to optimize our supply chain by shifting our Distributed Infrastructure manufacturing to an industry-standard strategic partner. This is the next evolution of our supply chain transformation as we pivot to a simpler, more efficient process, which helps us optimize cash conversion cycles. Through the first half, we generated $4.8 billion of free cash flow, up about $300 million year-over-year, resulting in our highest first half free cash flow margin in reported history. The largest driver of this growth comes from adjusted EBITDA, up $1 billion year-over-year. Partially offsetting this is working capital. Given global trade dynamics, we continue to prudently protect our supply chain, reflecting the confidence we have in our new innovation cycles across infrastructure. And as we have been discussing, given the closing of HashiCorp acquisition, foregone interest income was another headwind. Despite this, we are a few points ahead of our historical attainment levels through the first half. Our strong liquidity position, solid investment-grade balance sheet and disciplined capital allocation policy remain a focus for us. We ended the quarter with cash of $15.5 billion, which is up over $700 million from the end of 2024, including spending $7.8 billion on acquisitions in the first half, driven largely by the closing of HashiCorp. Our debt balance ending the quarter was $64.2 billion, including $11.7 billion of debt for our financing business, with a receivables portfolio that is over 75% investment grade. In addition, we returned $3.1 billion to shareholders in the form of dividends in the first half. Now let me talk about what we are seeing going forward. We delivered strong performance in the first half across revenue, operating margin expansion, profitability, and earnings per share and free cash flow. The strength of our portfolio, investment in innovation and integrated value drive the durability of our revenue performance and underpin our confidence in accelerating revenue growth of 5% plus for the full year. And through the first half, given the strength in our underlying fundamentals with our adjusted EBITDA up 14%, we are raising our free cash flow guidance to above $13.5 billion for 2025. As discussed at our Investor Day, our mix shift towards software is a key driver of our growth acceleration. Software is now about 45% of our business with ARR growing 10%. Given the strength of our portfolio, investment in innovation and contribution from acquisitions, we continue to expect software revenue growth approaching double digits for the full year. Through the first half, we delivered above-model growth of 15% in Automation and in-line model growth of 14% in Red Hat and 7% in Data, and these trends should continue. And we continue to expect Red Hat to grow in the mid-teens. While Transaction Processing was flat in the first half and below our model as clients prioritized spend on our high-value innovation z17, the strength of the new cycle provides future modernization value across the Z stack. Given this dynamic, we now expect low single-digit growth in Transaction Processing for the year. With our strong start to z17, Infrastructure should contribute about 1.5 points to IBM's revenue growth this year. And in Consulting, while we are encouraged by our backlog growing mid-single digits and the continued progress in our GenAI book of business, given the current demand environment, we continue to be prudently cautious on Consulting's growth contribution to IBM this year. As I mentioned earlier, we have been accelerating our productivity initiatives, which is fueling our flywheel for growth and margin expansion. We are early in this client zero journey on scaling AI internally to reinvent the way we work and are excited about the significant opportunities ahead of us. We exited 2024 at $3.5 billion of annual run rate savings achieved. And we now believe we can achieve approximately $4.5 billion in annual run rate savings by the end of 2025. Through the first half of the year, our operating pretax margins have expanded by 90 basis points, ahead of our model despite dilution from HashiCorp. Given this performance and increased productivity savings, we are raising our expectations for IBM's full year operating pretax margin to expand by about 1 point. And our tax rate expectation for the year remains in the mid-teens. As always, the timing of discrete items can cause the rate to vary within the year. For the third quarter, we are comfortable with consensus estimates for revenue and profitability. Let me conclude by saying we are pleased with our first half performance, highlighting the resiliency of our business model, disciplined strategy and growth opportunities ahead of us. Arvind and I are now happy to take your questions.

Thank you, Jim. Before we begin the Q&A, I'd like to mention a couple of items. First, supplemental information is provided at the end of the presentation. And then second, as always, I'd ask you to refrain from multipart questions. Operator, let's please open it up for questions.

And our first question comes from Wamsi Mohan with Bank of America.

I was hoping you could double-click on the software trends. It looks like organic growth decelerated in the quarter to maybe between 3% to 4%. Could you confirm that? And that would imply that it would be the third quarter of software organic growth deceleration. But you just expressed confidence in your approaching 10% guide. So between Transaction Processing deceleration, maybe Red Hat maintaining it, what are some of the other puts and takes that we should be expecting in the business? And how much should we expect organic software growth to be for the remainder of the year?

Okay. Wamsi, thank you for the question. Appreciate it. Let's get right to the heart of this. You dial back to how we opened up the year in January and then we built on that at our Investor Day in early February. We talked about 2025; we were entering from a position of strength in Software. Why? New innovation we're bringing to market, strong recurring revenue base, by the way, now $23 billion, growing double digits, Red Hat momentum throughout the year and the opportunity around virtualization and others, GenAI book of business and the M&A growth synergies. Halfway through the year right now, we actually feel even more confident about the year of approaching double digits. And let me just break this down compared to the Investor Day model around each of our categories. One, Hybrid Cloud. We accelerated our Red Hat performance first quarter, second quarter by an incremental point, now growing about 14.5%. By the way, that's contributing about 3.5 points of IBM's Software revenue growth, all organic, by the way. And we continue to see mid-teens growth for the year contributing about 3.5 points. Why? Double-digit growth again in annualized bookings, opportunities around virtualization. By the way, through the first 3 quarters, we now eclipsed $300 million worth of total bookings around virtualization. And we see that pipeline even accelerating faster in the second half. And then you got AI and application, hybrid cloud containerization that's going to drive it. So we feel pretty good about Red Hat. Two, Automation. Our model on Automation is low double digits. We operated through the first half at 15% above model. Now underneath that, we're contributing about 3.5 points of that software growth. We're off to a great start in HashiCorp as we talked about in the prepared remarks. We're very excited about the integrated value of that value proposition across IBM, plus Red Hat, plus HashiCorp. We doubled our annual bookings in the first quarter underneath IBM. And oh, by the way, our pipeline in the second half is 3 times last year across our entire Automation portfolio with regards to HashiCorp. So we actually expect Automation to continue to accelerate throughout the year, and we will be well above our model, mid- to high teens, against that Investor Day model. That's going to contribute about an incremental point of growth. Third, Data. Data, we continue to execute well on GenAI momentum. Now inception-to-date, $1.5 billion worth of book of business on software. We're bringing new innovation to market that we showcased at Think. We're building a strong pipeline in the second half that we're confident on. And we have the M&A synergies that are going to play forward, both in Automation and in Data. So we expect that to deliver our model. Now you come to Transaction Processing. Transaction Processing, flat through the first half. That's, by the way, below our model, mid-single digit, right? That's about a 2-point impact to the first half to Software's growth. When you look at it, what are we seeing? As we always talk about, Transaction Processing runs mission-critical software on top of our mainframe platform. We run that mainframe platform as a stack economic play, $3 to $4, a platform multiplier over the cycle. We're off to the strongest-ever first quarter start in the history of IBM around mainframe in a launch quarter. We shipped over 100% MIPS capacity into the marketplace on z17. So while that's having a near-term impact on Transaction Processing, you saw it down 2% in the quarter, clients reprioritized their spend to the hardware. Now that will impact near term, but look at what happened on z16? Same thing happened in the second quarter last year. And what happened? We accelerated that growth. That's, that multiplier effect as we get more capacity in a marketplace. And we expect Transaction Processing now to be about low single digit. It will return to growth in the second half. So between accelerating growth continued on Red Hat, the Automation synergistic value on Hashi, Transaction Processing capitalizing on that multiplier effect of a very strong start on mainframe, we see that organic growth moving forward. And oh, by the way, we're comfortable with third quarter guidance, and third quarter guidance already accelerates organic growth.

Arvind, I'm hoping you just spend a little bit of time talking about what are you hearing from your customers at this point given what seems to be a very volatile macro tape? And maybe just talk about a few categories where you think customers want to spend more money, they're prioritizing, versus things that they might be deemphasizing a bit. And then very specifically, I'd love to hear your thoughts around Red Hat. Given the strong trajectory you guys are seeing, how do you see virtualization starting to contribute to that growth, especially given the acquisition of VMware by Broadcom and the price increases.

Thank you, Amit. I've shifted from cautious optimism at the end of the first quarter to full optimism regarding the macro environment. As I look around the globe, I'll first discuss geography and then provide some sector or client examples. Japan is reindustrializing and is dedicated to economic growth, which means they are digitizing at unprecedented rates through technology. In South Asia, economies are thriving, with growth exceeding 10% in real terms; India's GDP growth of 6% combined with 6% inflation translates to actual growth of 10% to 12%. The Middle East, particularly Saudi Arabia and the UAE, is investing their profits back into their economies to create diversified economies that heavily feature technology. Europe, often seen as struggling, has remained remarkably resilient in technology consumption, driven by concerns around supply chains and cybersecurity, with technology providing real solutions to these challenges. In North America, companies recognize that technology is essential for scaling revenue without significantly increasing capital expenditures or labor costs. These factors contribute to our expectation that enterprise technology will continue to grow at a rate of 5% to 7%. From a client perspective, a bank in Western Europe is eager to implement AI to enhance customer experience and internal risk assessments. In the United States, telecom companies are focused on developing a software-defined backbone for their high-throughput networks to improve flexibility in traffic management and capitalize on advancements in standard servers and software. Regarding Red Hat, if I may expand beyond just virtualization, the original Red Hat Linux product is seeing high single-digit growth due to strong demand as organizations deploy Red Hat to leverage AI along with the standard server capabilities, which typically yields 6% to 7% growth. Additional workloads are driving further growth. In terms of OpenShift, it serves as a platform solution; companies are assessing which platform to utilize for containers and virtualization. There were several options, but two of the top three competitors in containerization have withdrawn from the market, positioning us as the leading choice for a container platform across both public cloud and on-premise environments, as confirmed by industry analysts. In virtualization, while there are some choices, many clients prefer a unified solution for both containerization and virtualization, which tends to lead us to victory in those scenarios. This has accelerated the growth of OpenShift. Lastly, our integration with HashiCorp, along with the numbers showing benefits from the HashiCorp product line, combined with Ansible, creates a powerful synergy that will enhance Ansible's growth moving forward. I hope this provides insight into both the macro environment and Red Hat.

I wanted to ask a different question and find out why you're not raising guidance if you have a more positive outlook on the economy. It seems like your free cash flow is exceeding expectations and you're already over 5% in constant currency, even accounting for an acquisition. With TPP and several other factors possibly accelerating, is it safe to say that you're comfortable with the analysts for the third quarter, considering everything looks better and you're already doing well with free cash flow?

Thank you for the question, Ben. It's important to clarify what we're discussing, both in our prepared remarks and tonight. We're coming off a first half that we feel very positive about. Our performance reflects a significant transformation and repositioning of the company around a diversified business model and a resilient execution strategy. In this quarter, we exceeded both Street expectations and our own on revenue, operating margin, profitability, earnings, and free cash flow. For the full year, since January, average analyst estimates for IBM revenue have increased by over $1 billion. We've already made adjustments to our projections. While foreign exchange is positively impacting us, approximately $375 million of our $400 million beat this quarter was due to strong business performance in constant currency. We’re entering the second quarter with confidence. Moreover, on productivity initiatives, we concluded last year expecting to generate $3.5 billion in productivity, which Arvind has frequently mentioned. We’re reimagining our operations by leveraging technology and AI integration. As a result, we’ve increased our productivity forecast to $4.5 billion, which will positively affect our operating margin. We’re raising our operating margin outlook from 0.5 points to roughly 1 point, and adjusted EBITDA is set for low teens growth, translating to over $2 billion year-over-year growth in adjusted EBITDA. This generates high-quality, sustainable cash flow. However, there's still half a year left. We have two-thirds of our free cash flow still to realize and $40 billion in revenue potential ahead of us. We feel confident about our position and the strength of our Software portfolio, which has a $23 billion annuity revenue stream. We've also increased our Infrastructure outlook for the year; this is not merely a pull ahead or mainframe cyclical demand—it's a full-year adjustment. Therefore, I'm even more confident than I was 90 days ago. While we acknowledge there are areas of upside and some conservatism, that's expected from us.

I was wondering if you step back and look at the holistic software portfolio, there were a lot of questions on what we're doing for this year. But maybe going forward, heading into 2026, given the impact of some of the businesses and positive tailwinds you talked about, do you think there is potential for improving both organic and overall software growth heading into 2026 from the current 10% levels this year? I wonder if you think that's possible. And then maybe secondarily, if you could just address the consulting business and what you're seeing right now in terms of the duration of the bookings you're seeing and whether there's any kind of change in the time to commencement of some of the consulting contracts you're signing.

Jim, thank you for your question, which I believe had three parts. Let me first discuss the software macro outlook for 2026, and then I’ll pass it to Jim Kavanaugh for more details on that and on Consulting. The question you're raising is one we focus on significantly, and I’m very confident in our position. Evaluating the underlying macros, especially regarding Red Hat, I expect them to sustain through 2026. This isn’t just a trend for this quarter or month, and I anticipate continued growth in that area. Looking at Automation, its demand stems from the increasing complexity in our clients' technology environments and their need for high reliability while managing lower labor costs. As the computing needs evolve, so does the demand for our Automation technologies. The drive to leverage data for AI and to implement AI within enterprises is set to accelerate, not diminish. I foresee that all three segments of our portfolio will experience equal or greater growth going into 2026. Regarding TP, as Jim mentioned, it typically lags behind the deployment of mainframe capacity. As that capacity continues to be deployed, I fully expect TP to revert to its long-term growth model, which falls within low to mid-single digits. When considering all these factors alongside potential M&A activity, I remain optimistic about the current M&A landscape. Although regulators are vigilant about consolidation, the situation over the past four months has led us to believe we are in a rational regulatory environment where sensible M&A opportunities will receive timely approvals. With that, Jim, I’ll turn it over to you.

Thank you for the question, Jim. I'd like to summarize Arvind's insights on Software and relate it back to IBM, which connects to your Consulting question. Firstly, it is still early, and we have significant work ahead. Our team is highly focused on disciplined execution and creating client value through our investments in innovation for the latter half of this year. Looking at 2026 from a broader perspective, we are optimistic about our Software portfolio, as Arvind highlighted some key performance indicators that give us confidence. The major drivers include our GeneAI ventures, where we've surpassed a $7.5 billion business that is increasingly integrated across our Software and Consulting offerings. Additionally, our growth synergies from mergers and acquisitions are exciting as we've proactively accelerated some initiatives this year. The portfolio we've acquired promises synergistic value for automation, which aligns with the robust second half pipeline. Our integrated mainframe platform will also contribute positively, creating a multiplier effect that we expect to see in 2026 and 2027. Finally, our Consulting backlog stands at $32 billion. In terms of revenue, we've stabilized with a slight decline, yet clients are re-evaluating their spending priorities, focusing on cost efficiency and implementing GenAI, which drives operational leverage. Despite the evolving environment, we are observing encouraging signs in several areas: our backlog has increased by over 8%, and our new business penetration rose by 13% year-over-year. We have acquired over 200 new clients in Consulting, which is fostering a robust backlog. Although signings were down 18% due to last year's significant renewals, our net new business is soon set to boost our backlog further. GenAI has grown to contribute over 20% of our bookings and has returned over 10% of our revenue in the last quarter, showing a marked margin advantage. Our strategic partnerships, particularly with SAP, Microsoft, AWS, and Palo Alto, are also thriving, and we see ample growth potential. Moreover, our margins have improved by over 200 basis points in the first half. While we are recognizing these positive signs, we remain cautiously optimistic, and if these trends continue into the second half, they could enhance our projections.

Your next question comes from Erik Woodring with Morgan Stanley.

Arvind, I wanted to direct this to you. It kind of builds off of what Jim was just talking about. It's been, I think, only 6 quarters, you've reached a $7.5 billion cumulative AI book of business. Incredibly impressive in such a short period of time. And I'm just wondering if you could provide us with some color on how that's impacting customer spend in the non-AI parts of IBM. And really, what I'm trying to understand is how are customers prioritizing AI over non-AI? Is there cannibalization in other areas of client spend or is it incremental to client spend? And how might that change as you look at these engagements out over the next, call it, 1 to 3 years? Does it become more incremental? Just would love some flavor on incrementalism versus cannibalization.

Thanks, Erik, for the question. I'm going to sort of maybe dive down to the components of what is called a full AI stack to answer your question. So let's look at it across hardware, which includes semiconductors, then look at it in the enabling software layers, in software applications, which actually leverage AI to make themselves much better and then finally into Consulting. So if you look at it first from the semiconductors and the infrastructure level, I would tell you that this is completely incremental. And you can see that in the market when you look at CPU versus GPU, the CPU rates maintain. Yes, who they are provided by changes all the time, but the total volume of servers is not decreasing. So that tells you that is maintained. What could happen, but I would put that in the very tiny percentages of maybe 1%, 2%, 3%, is that people will put a little bit more pricing pressure on the item they believe to be commodity versus the item they believe to be high innovation. But that is just the way technology has always played out. That is where you're seeing it, and you can see that reflected in the market right now. Next, when you get to the enabling software layers, that is purely incremental. There is no cannibalization there with alternate forms of technology. I will tell you that the cannibalization is going to come from the fourth part. People are looking at their own internal labor expenses, and people are looking at their third-party labor expenses, and they're looking to decrease those to make room for what they're doing around software. When you look at AI coming into software products, whether it's ours, for example, in Apptio, in Hashi, in Turbonomic, so the known direct AI products, it actually makes those products better and compete better against others. So it's not a cannibalization because that would apply to ourselves. That is more a market share question that it takes market share from those who are unable to do that. And you can also see that play out in the market with other players. If I look at Consulting, yes, there is a big piece of the AI book of business which is coming because people are directing their dollars towards that kind of consulting as opposed to alternate forms of consulting. And that is why it's really important to be focused on what we call transformative projects, which includes AI but also includes some of our partners, be it the cloud partners or SAP or Oracle or Palo Alto, et cetera, because that kind of project is far more robust and less likely to be cannibalized. But some other parts of customer application development do tend to get cannibalized towards AI. So hopefully, that gives you some color on both parts of your question, where are clients prioritizing and also where it's incremental.

I guess, Arvind, for you, I appreciate your public sector-related comments at the beginning of the call. And it seems like we're starting to see a more aggressive competitive stance regarding IT investment from the current administration. I guess based on conversations you may have had, could you frame out how you think IBM is positioned to address the shift in spending priorities of the administration or public sector in general? And how much visibility do you have there?

Thank you, Brian. I prefer to use the term federal instead of public sector for clarity, as our public documents also cover health care and life sciences. From my discussions and public statements from different members of the administration, there's a strong emphasis in the first six months on cost-cutting and efficiency to achieve what they consider the right size. They've been very clear that their focus is now shifting toward modernizing agencies and utilizing technology to enhance services for citizens and minimize waste rather than just cutting costs. I was pleased to see the AI action plan released this morning, indicating that government agencies must use AI in alignment with these goals. While these conversations are ongoing, we're engaging with several agencies to leverage our Software and Consulting capabilities to help them modernize, improve citizen services, reduce waste, and develop more effective systems, evolving into the 21st century. I'm optimistic about their progress in the coming months. When they take time to meet with us at the highest levels, it signals that they are serious about these initiatives, and I believe we have established credibility due to our successful track record in serving the government over the years.

Arvind, I wanted to double-click, I think, on the $1.5 billion of software bookings in the GenAI space, and specifically on some of these watsonx products, the data, the governance and Orchestrate. So I guess one would be, are you starting to see any of these really differentiate themselves in terms of customer demand? And then specifically on the Orchestrate layer, that seems to be a space that a lot of companies have started to talk about, whether it be model orchestration or agentic orchestration. If you could just talk a little more about your right to win in that space and how you're positioned.

Matt, thanks for the question. First, I have been really pleased by both the uptake and the overall adoption of our GenAI products. We put most of them under the watsonx umbrella, so that's kind of where they show up in our internals. First, there's a few that you did not mention that I think are very unique to us, both because of the knowledge we have as well as the capabilities that our engineers bring to the table. The watsonx Code Assistant on Z, which helps people modernize their mainframe environment, helps you understand, and if you want, translate your COBOL code into Java, is really taken up and has got very wide adoption. We thought people would use it to just modernize COBOL to Java. But actually, in the vast majority of the cases, people are also using it to understand the tens of millions of lines of code that they have and then decide what makes sense to modernize versus what makes sense to keep now that you can document it and know what it does. The second one that is very exciting that we're bringing out in the third quarter is the watsonx Assistant for Z, which helps you have an AI administrator that manages your mainframe environment in addition to the people you have who manage it. So these are, I think, somewhat unique to us. If I think about watsonx AI, people need an AI runtime, whether that's going to come from RHEL AI or watsonx AI as a place that they can get the models, and we are very focused on domain-specific smaller models as opposed to the very, very large models, and that becomes a carrier for those. I think you're going to see a lot more of those under the RHEL AI and OpenShift AI umbrella because that is where some of those capabilities are going to migrate. People need to get their data ready for AI, so that's where watsonx.data plays. And we believe with the upcoming integration of the DataStax capabilities into that, that will then become an even stronger offering. The last part of your question and not to avoid your asking, what gives us the right to win in Orchestrate? Look, IBM has always been about being in a heterogeneous space. So it cannot be about just our own agents, of which we have about 70 to 80 of them. It cannot be about bespoke agents only because we believe many of our clients are going to build bespoke agents that are unique to them. We also integrate in about 70 agents from third parties that come in there. This is going to be won based on how easy it is. If it is only about your own agent, I actually think that those are our partners; those are not people we compete with. And plenty are going to focus primarily on their own agents. Great. Then there are going to be agents that come from different places, and people want their own bespoke agents. That is the client where we are going to win in Orchestrate, and that is what our pipeline and our early discussions with clients show. And that is what distinguishes us from those who are kind of focused on primarily their own agents. So look, to close the call out, we are off to a great start in the first half. Our portfolio strength, the resilience of our business model reinforces our confidence in our growth trajectory. I look forward to sharing our progress with you as we move through the rest of the year.

Thank you, Arvind. Operator, let me turn it back to you to close out the call.

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