Executive compensation

Compensation discussion and analysis

Section 1: Executive Compensation Summary

 

Trust and personal responsibility in all relationships-relationships with clients, partners, communities, fellow IBMers, and investors-is a core value at IBM. Investors should have as much trust in the integrity of a company's executive compensation process as clients do in the quality of its products. A breach of this trust is unacceptable.

As a part of maintaining this trust, we well understand the need for our investors-not only professional fund managers and institutional investor groups, but also millions of individual investors-to know how and why compensation decisions are made.

We have put tremendous effort and rigor into our executive compensation processes over many years, continually assessing and updating them. Investors-IBM's owners-want senior leaders to run the Company in a way that protects and grows their investment over the long term while appropriately managing risk. This is no simple task at any company, and at a company as large and complex as IBM, it is a particularly exciting leadership challenge. IBM holds a unique identity, based on talent, brand, global operating footprint, the size and scope of our business overall, and the size of each of our individual lines of business, with most large enough to be among the Fortune 150 biggest companies if they were stand-alone businesses. We are different from companies of comparable size and scale in that we operate our business lines as one integrated business in service of our clients, rather than a portfolio of component businesses. Our integrated model delivers great value to our investors and our clients, and demands a senior leadership team of unusual depth, agility and experience.

To that end, IBM's executive compensation practices are designed specifically to meet five key objectives:

With these goals in mind, IBM executives earn their compensation based on performance over three time frames:

 

Visual description of list found below

 
  1. Current Year-Salary and annual incentives that reflect actions and results over 12 months;
  2. Longer-term-A long-term incentive plan that reflects results over a minimum of three years, helping to ensure that current results remain sustainable; and
  3. Full Career-Deferrals, retention payments and retirement accumulations help ensure today's leaders stay with IBM until their working careers end.

The Company considered the results of the management Say on Pay proposal presented to the stockholders for approval in 2013. In light of the support the proposal received, the Company's compensation policies and decisions, explained in detail in this CD&A, continue to be focused on long-term financial performance to drive stockholder value. The Company has indicated that it will provide an advisory vote on executive compensation (Say on Pay) on an annual basis.

 

Compensation Elements for Senior Leaders-Focused on Performance

The annual compensation for IBM's Senior Executives (comprised of the Chairman and CEO and the Senior Vice Presidents (SVPs)) varies year to year based on business results and individual performance. For 2013, at target, 92% of Mrs. Rometty's compensation was performance based with 23% in annual incentive and 69% in long-term incentive elements; similarly, 88% of the SVP's total target compensation was performance based using the same elements. As reflected in the charts below, taking into consideration the actual salary, annual incentive payout and long-term incentive awards granted for 2013, 89% of Mrs. Rometty's total compensation was performance based, with 0% in annual performance based incentive and 89% in long-term elements; similarly, 84% of the SVPs' total compensation was performance based using the same elements. This ensures that the interests of Senior Executives are aligned with the long-term interests of stockholders and aligns compensation with our business performance.

 
2013 Chairman and CEO Compensation Mix
Describes compensation mix for Chairman and CEO 10% salary, 27% annual incentive, 63% performance shares.
2013 SVP Compensation Mix
Describes compensation mix for SVP 12% salary, 17% other stock-based grants, 71% performance share units.
Current Year's Performance: Salary and Annual Incentives

Salary.Senior Executives at IBM receive a small percentage of their overall compensation in salary. In 2013, for example, Mrs. Rometty earned 11% of her compensation in salary, and the SVPs earned an average of 16% of their compensation in salary.

Annual Incentive. The Chairman and CEO and SVPs are incented through a program that sets performance targets based on their role and scope. Actual payments are driven by business performance against revenue growth, operating net income, and free cash flow targets and individual performance, as reflected in the Personal Business Commitment review process described under "How and Why Compensation Decisions Are Made." Top performers typically earn the greatest payouts; median performers earn much smaller amounts; and the lowest performers earn no incentive payments at all. While the Company made solid progress in businesses that are powering IBM's future, in view of the Company's overall full year results, the Chairman and CEO, and her senior team recommended forgoing their annual incentive payout for 2013. The Executive Compensation and Management Resources Committee and the independent members of the IBM Board of Directors, as appropriate, accepted that recommendation and commended Mrs. Rometty and her senior team for their leadership and commitment to the Company's success over the longer term. Additional information about the Annual Incentive Program is outlined in Section 2 of this CD&A, "Setting Performance Targets for Incentive Compensation."

Other Compensation. The SEC disclosure rules require that companies include certain items in the Summary Compensation Table column entitled "All Other Compensation." At IBM, many of these items are available to all employees. In fact, on average as of December 31, 2013, additional programs that are restricted to Senior Executive participation amount to less than 1.3% of their total compensation. IBM's security practices provide that all air travel by the Chairman and CEO, including personal travel, be on Company aircraft. IBM does not provide any tax assistance to Mrs. Rometty in connection with taxes incurred for personal travel by her on the corporate aircraft. While the cost of corporate aircraft usage varies year to year based on several external factors such as fuel costs, using corporate aircraft for all travel is a prudent step to ensure the safety of the Chairman and CEO given the breadth of IBM's operations in over 175 countries and the realities of security risks throughout the world. Given the personal travel security practice for the Chairman and CEO, family members periodically accompany her on the corporate aircraft. In accordance with tax requirements, income was imputed to Mrs. Rometty for personal travel by her family members on the corporate aircraft in 2013.

Longer-Term Performance: Long-Term Incentive Plan

Long-term incentive plans (LTIPs) have been a focal point for much of the discussion over executive compensation in the past several years. Well-designed LTIPs ensure that senior leaders hold a competitive stake in their company's financial future. At the same time, the size of the awards reflects the value that the company places on the individual executive at the time. Any gain the executives realize in the long run from the program depends on what they and their colleagues do to drive the financial performance of the company.

IBM has two senior leadership teams: the Performance Team and the Growth and Transformation Team (G&TT). The Performance Team consists of approximately 60 of our senior leaders who run IBM business units and geographies and includes the Chairman and CEO and each SVP. The team is accountable for business performance and the development of cross-unit strategies. In 2014, the G&TT was established, replacing the former Integration & Values Team (I&VT), to support a shift in focus from integration to growth and transformation. The G&TT, which includes all members of the Performance Team, consists of a select group of approximately 330 executives. This team is charged with supporting the Company's continued transformation through their leadership initiatives to engage their teams and promote innovation, speed and simplicity in service of our clients. Under IBM's LTIP, members of the G&TT may receive certain grants of IBM equity, as explained below.

Performance Share Unit (PSU) Grants. This portion of the LTIP focuses the G&TT on delivering business performance over three years against two key financial metrics which drive long-term stockholder value-operating earnings per share and free cash flow. Through this program, members of the G&TT are eligible to earn a target number of shares of IBM stock at the end of a three-year performance period. The award pays out at the end of the three years depending on how well the Company performed against targets set at the beginning of the three-year period. The payouts are made in shares of stock, so the value goes up or down based on stock price performance from the beginning of the grant. Additional information about PSUs is set forth in Section 2 of this CD&A, "Setting Performance Targets for Incentive Compensation."

In 2013, the long-term incentive grants to the Chairman and CEO and the other members of the Performance Team were comprised entirely of PSUs. At target, for Mrs. Rometty, this represents 69% of her total target compensation, and for the SVPs this represents 71% of their total target compensation. Taking into consideration the actual salary, annual incentive payout and long-term incentive award granted for 2013, the PSU grant represents 89% of Mrs. Rometty's total compensation, assuming future performance at target; similarly, PSU grants represent 84% of the SVPs' total compensation. In 2014, the annual long-term incentive grant for this group will again be entirely PSUs.

The Chairman and CEO may grant members of the G&TT additional performance shares (Performance Uplift) for delivering extraordinary results. Senior Executives are not eligible for the Performance Uplift.

Other Stock-Based Grants. The LTIP also provides for grants of other stock-based awards in addition to PSUs to focus senior leaders on delivering performance that increases the value of the Company through the growth of IBM's stock price over the long term. Although Senior Executives primarily receive only PSUs, other stock-based grants are occasionally made to this group and other executives. Other stock-based grants may include stock options, restricted stock, restricted stock units or any combination. These grants vest over time, typically over one to four years. As explained below in the "2013 and 2014 Compensation Decisions for Messrs. Loughridge, Kelly, Weber and Mills," Mr. Weber received a retention restricted stock unit award in 2013. The outstanding stock-based grants for the named executive officers are shown in the 2013 Outstanding Equity Awards at Fiscal Year-End Table in this Proxy Statement.

Full Career Performance: Retention, Pension and Savings

Retention of our key leaders for a full career is an important element of our total compensation strategy. This is accomplished through a combination of retention payments and retirement plans.

Retention Stock-Based Grants & Cash Awards. Periodically, the Chairman and CEO reviews outstanding stock-based awards for the members of the G&TT and other key executives. Depending on individual performance and the competitive environment for senior executive leadership talent, the Chairman and CEO may recommend that the Compensation Committee approve individual retention awards in the form of restricted stock units or cash, for certain executives. The retention restricted stock unit (RRSU) grants typically vest at the end of five years, and the cash awards have a clawback (i.e., repayment clause) if an executive leaves IBM before a specified date. These awards make it more difficult for other companies to recruit IBM's top talent.

Closed Retention Plan. In 1995, IBM created a new plan to help retain, for their full careers, the caliber of senior leaders needed to turn the Company around, preserve its long-term viability, and position it for growth in the future. To discourage these leaders from joining competitors, their benefits under this retention plan would be forfeited if they left IBM prior to age 60. The approach worked, as evidenced by the Company's historic turnaround in the late 1990s, and its current position of market leadership. Because its original purpose had been met, the plan was closed to new participants in 2004. Future accruals under the plan stopped on December 31, 2007, and the Retention Plan will not be replaced by any other plan.

Pension Plans. Prior to 2008, IBM's eligible Senior Executives and other IBM employees in the U.S. participated in pension plans. Future accruals under the pension plans stopped on December 31, 2007. The amount of the pension benefit under these plans is based on pay and service and is determined by the same formulas for executives and non-executives.

Savings Plan. IBM's Senior Executives are eligible to participate in the Company's savings plan just like any other IBM employee. Company contributions to the defined contribution plan comprise a significant portion of the "All Other Compensation" found in the Summary Compensation Table for the Chairman and CEO and other named executive officers. The money that U.S. executives save through the IBM 401(k) Plus Plan, as for all U.S. employees, is eligible for a Company match. Effective January 1, 2008, the 401(k) Plus Plan became the only tax-qualified retirement program available to IBM's U.S. employees for future deferrals and employer contributions. Under the provisions of the plan, provided that all eligibility requirements are met, IBM matches a participant's own contributions dollar-for-dollar up to 6% of eligible pay for those hired before January 1, 2005, and generally up to 5% for those hired on or after that date. In addition, provided that all eligibility requirements are met, IBM makes automatic contributions to a participant's 401(k) Plus Plan account-equal to 1%, 2% or 4% of a participant's eligible pay-depending on the participant's pension plan eligibility on December 31, 2007.

Effective January 1, 2013, Company contributions are made once annually at the end of the year for all participants employed on December 15 of each year. If a participant retires during the year, the individual will receive Company contributions upon retirement. Matching contributions and automatic contributions are made once a participant has completed the plan's sevice requirement, typically one year of service.

Deferred Savings Plan. In the U.S., the Department of Labor and Internal Revenue Service also permit employees who exceed certain income thresholds to defer, on a nonqualified basis, receipt of compensation they earn. This also allows IBM to delay paying these obligations and, until they come due and are paid, to retain the cash for operating purposes. In simple terms, this deferred compensation is money earned in the past but not yet paid out. IBM does not pay guaranteed, above-market or preferential earnings on deferred compensation. For executives with long and successful careers at IBM, the deferrals can accumulate to sizeable amounts over time. Amounts deferred into IBM's nonqualified plan, the IBM Excess 401(k) Plus Plan, are recordkeeping (notional) accounts and are not held in trust for the participants. Participants in the Excess 401(k) Plus Plan may invest their notional accounts in the primary investment options available to all employees through the 401(k) Plus Plan. Effective January 1, 2013, Company contributions are made once annually at the end of the year for all participants employed on December 15 of each year. If a participant retires during the year, the individual will receive Company contributions upon retirement. Once participants in the Excess 401(k) Plus Plan have completed one year of service, they are also eligible to receive Company matching and automatic contributions on eligible pay deferred into the Excess 401(k) Plus Plan and on money earned in excess of the Internal Revenue Code compensation limits. On an exceptional basis, pursuant to the terms of the Excess 401(k) Plus Plan, the Company may make a discretionary award to an executive that is credited to the executive's Excess 401(k) Plus Plan account.

 

How and Why Compensation Decisions Are Made

At any level, compensation reflects an employee's value to the business-market value of skills, individual contribution and business results. To be sure we appropriately assess the value of Senior Executives, IBM follows an evaluation process, described here in some detail:

 
1.Making Commitments

At the beginning of each year, all IBM employees, including the Chairman and CEO and SVPs, make a Personal Business Commitment (PBC) of the goals, both qualitative and quantitative, they seek to achieve that year in support of the business. These commitments are reviewed and approved by each individual's manager. The Chairman and CEO's commitments are reviewed directly by the Board of Directors. As part of this process, many factors are considered, including an understanding of the business risks associated with the commitments.

 
2.Determining Senior Vice Presidents (SVPs) Compensation
Evaluation of Results by the Chairman and CEO

Throughout the year, employees assess their progress against their PBCs. At year end, employees at all levels, including executives, work with their managers to evaluate their own results - not only with regard to their stated goals, but in relation to how well their peers and the entire Company performed.

The self-assessments of the SVPs are reviewed by the Senior Vice President of Human Resources (SVP HR) and the Chairman and CEO, who evaluate the information, along with the following:

Following this in-depth review and in consultation with the SVP HR, the Chairman and CEO makes compensation recommendations to the Compensation Committee based on an evaluation of each SVP's performance and expectations for the coming year.

Evaluation of Results by the Compensation Committee

The Compensation Committee decides whether to approve or adjust the Chairman and CEO's recommendations for the SVPs.

The Committee evaluates all of the factors considered by the Chairman and CEO and reviews compensation summaries that tally the dollar value of all compensation and related programs, including salary, annual incentive, long-term compensation, deferred compensation, retention payments and pension benefits. These summaries provide the Committee with an understanding of how their decisions affect other compensation elements and the impact that separation of employment or retirement will have.

 
3. Determining Compensation for the Chairman and the CEO-Research, Recommendations and Review

The chair of the Compensation Committee works directly with the Committee's compensation consultant to provide a decision-making framework for use in making a recommendation for total compensation for the Chairman and CEO. This framework includes a self-evaluation of performance against commitments in the year, with a self-assessment of performance against the Company's stated strategic objectives. In addition to the above, the Committee also reviews an analysis of IBM's total performance over a multi-year period and a competitive benchmark analysis provided by the Committee's outside consultant, Semler Brossy.

The Compensation Committee separately reviews all relevant information and arrives at its recommendation for total compensation for the Chairman and CEO. In this work, the Committee is assisted by Semler Brossy.

The final pay recommendations for the Chairman and CEO are presented to the independent directors on IBM's Board for further review, discussion and final approval.

 
4. Ensuring Competitive Pay-Approach to Benchmarking

IBM participates in several executive compensation surveys that provide general trend information and details on levels of salary, target annual incentives and long-term incentives, the relative mix of short-and long-term incentives, and mix of cash and stock-based pay. Given the battle for talent that exists in our industry, the benchmark companies that are used by the Compensation Committee to guide its decision making have included a broad range of key information technology companies, to help us identify trends in the industry. We also include companies outside our industry, with stature, size and complexity that approximate our own, in recognition of the fact that competition for senior management talent is not limited to our industry. The surveys and benchmark data are supplemented by input from the Compensation Committee's outside consultant on factors such as recent market trends. The Committee reviews and approves this list annually.

The Compensation Committee re-examined the benchmark group for 2013. After reviewing the selection criteria for the benchmark group, the Committee determined that companies from the survey participants that meet the following criteria should be included in the 2013 benchmark group:

This group does not include companies that have participated in the U.S. Government's Troubled Asset Relief Program (TARP).

For the 2014 benchmark group, the Committee approved the same list of companies from 2013.

 
2013 and 2014 Benchmark Group
Accenture Dell Microsoft
Archer Daniels Midland Dow Chemical PepsiCo
AT&T EMC Pfizer
Boeing Ford United Technologies
Bunge General Electric UPS
Caterpillar Google Verizon
Chevron Hewlett-Packard Xerox
Cisco Systems Intel  
ConocoPhillips Johnson & Johnson

The data from these surveys and related sources form the primary external view of the market, and the Company's philosophy is to generally consider a range from the 50th to the 75th percentile of the market for cash and total compensation for IBM job roles compared to jobs of similar size and complexity at companies within our benchmark group. Data from companies at the 50th percentile of our benchmark group serves as the reference point for job roles in our lines of business. Revenue at the 50th percentile of this group is similar to revenue for most of our lines of business. Data at the 75th percentile of our benchmark group serves as the reference point for our enterprise-wide job roles. Revenue at the 75th percentile of this group is similar to revenue for IBM as a whole. For individual compensation decisions, the benchmark information is used together with an internal view of longer-term potential and individual performance relative to other executives. For the Company's Senior Executives, the Compensation Committee also takes into account long-term retention objectives, recognizing that their skills and experience are highly sought after by other companies and, in particular, by the Company's competitors. Because factors such as performance and retention, as well as size and complexity of the job role, are considered when compensation decisions are made, the cash and total compensation for an individual named executive officer may be higher or lower than the median of the relevant benchmark group.


5. Compensation Committee Consultant

The Committee enters into a consulting agreement with its outside compensation consultant on an annual basis. The Committee has retained Semler Brossy as its compensation consultant to advise the Committee on market practices and specific IBM policies and programs. Semler Brossy reports directly to the Compensation Committee Chairman and takes direction from the Committee. The consultant's work for the Committee includes data analyses, market assessments, and preparation of related reports. The work done by Semler Brossy for the Committee is documented in a formal agreement which is executed by the consultant and the Committee. Semler Brossy does not perform any other work for the Company. The Committee determined that Semler Brossy is free of conflicts of interest.


Chairman and CEO Compensation Decisions for 2013 and 2014

The Compensation Committee made recommendations for Mrs. Rometty's 2013 and 2014 compensation following the process and using the pay components that were previously described.

The Compensation Committee noted the following as key points regarding Mrs. Rometty's performance against her Personal Business Commitments for 2013:

Note: Operating Earnings Per Share (Operating EPS), Operating Profit, Free Cash Flow, and Operating Net Income referenced above, and elsewhere in this Compensation Discussion and Analysis, are non-GAAP financial measures. For reconciliation and other information concerning these items, see Non-GAAP Supplemental Materials and related information in the Form 10-K submitted to the SEC on February 25, 2014.

While considerable progress was made on initiatives that will move IBM to higher value and power its future, in view of overall results, Mrs. Rometty and her senior team recommended forgoing their annual incentive payout for 2013. The Compensation Committee and the independent members of the IBM Board of Directors, as appropriate, accepted that recommendation and commended Mrs. Rometty and her senior team for their leadership and commitment to the Company's success over the longer term.

The Committee believes Mrs. Rometty performed well in shifting investments into key segments of the portfolio and advancing innovative solutions, creating a strong foundation for transformation in 2014. Based on the Committee's strong confidence in her leadership, the Committee recommended a 2014 long-term incentive award comprised entirely of 2014-2016 Performance Share Units valued at $12.75 million. The Committee's recommendations were approved by the independent directors on IBM's Board. The Committee chose the long-term incentive value for Mrs. Rometty in light of competitive benchmarks, the personal skill set she brings to the job, and the Committee's desire to ensure that she maintain her long-term focus.


2013 and 2014 Compensation Decisions for Messrs. Loughridge, Kelly, Weber and Mills

The Compensation Committee also made decisions for the following named executive officers, noting the key points below:


Mark Loughridge, Senior Vice President and Chief Financial Officer, Finance and Enterprise Transformation

In accordance with IBM's practice, the Compensation Committee approved Mr. Loughridge's compensation, which was ratified by the independent directors on IBM's Board.


John E. Kelly III, Senior Vice President and Director, Research

Robert C. Weber, Senior Vice President, Legal, Regulatory Affairs and General Counsel

Steven A. Mills, Senior Vice President and Group Executive, Software and Systems

As stated above, based on these results, the senior leaders recommended forgoing their annual incentive payouts. Following the process outlined above, the Compensation Committee approved the 2013 annual incentive payouts below for these named executive officers:


Name 2013 Annual Incentive Payouts
M. Loughridge $0
J.E. Kelly III 0
R.C. Weber 0
S.A. Mills 0

The Committee approved a Retention Restricted Stock Unit award for Mr. Weber, which was granted on January 2, 2013. Mr. Weber's award, valued at $1.5 million, vests on June 30, 2014, provided that he is an employee of the Company as of that date.

The Committee also approved the following compensation elements for 2014: base salary, annual incentive target and Performance Share Unit (PSU) grants under the Long-Term Performance Plan.

 
  2014 Cash (1) 2014 Long-Term Incentive Awards
Name Salary Rate Annual Incentive Target Performance Share Units (2)
J.E. Kelly III $651,000 $879,000 $4,000,000
R.C. Weber 650,000 878,000 3,500,000
S.A. Mills 745,000 1,005,000 5,000,000

(1) The 2014 salary rate will be effective July 1, 2014 and the 2014 annual incentive target is effective January 1, 2014.
(2) The PSUs will be granted on June 9, 2014 to the named executive officers, including the Chairman and CEO. The actual number of PSUs granted on this date will be determined by dividing the value shown above by a predetermined, formulaic planning price for the second quarter 2014. The performance period for the PSUs ends December 31, 2016, and the award will pay out in February 2017.

 

Senior Leadership Team-Personal Stake in IBM's Future through Stock Ownership Requirements

Investors want the leaders of their companies to act like owners. That alignment, we believe, works best when senior leaders have meaningful portions of their personal holdings invested in the stock of their company.

This is why IBM sets significant stock ownership requirements for the Company's Performance Team. The following table illustrates which equity holdings count towards stock ownership requirements:

 
Included Not Included
 

The Chairman and CEO and SVPs are all required to own IBM shares or equivalents worth three times their individual total target cash compensation within five years of hire or promotion. Unlike the majority of the Fortune 100 companies who establish ownership guidelines using a multiple of only base salary, IBM uses a multiple of base salary plus target annual incentive. As of December 31, 2013, as a group, the Chairman and CEO and SVPs owned approximately 1.0 million shares or equivalents valued at over $188 million; in fact, as of that date, this group held, on average, almost twice the amount of IBM shares or equivalents that the Company requires.

The remaining members of the Performance Team are required to hold IBM shares or equivalents worth one time their total target cash compensation within five years of hire or promotion. Those who have been in place for at least five years have met or exceeded their personal IBM ownership requirements.

IBM Meeting Market Standards for Executive Compensation

We recognize that the issue of executive pay is critical to stockholders and to members of the public whose hopes for the future rest substantially on trust in the conduct of those who lead our corporations. Simply put, those who profit disproportionately to the value they create for stockholders and society, or the value they provide to clients, are breaking faith with all who would do business with them, and all who would risk their hard-earned savings in the future of an enterprise.

We have provided the information in these pages precisely because IBM works to preserve that faith. We know that striking a balance between stockholders' concepts of fairness and the incentives needed to attract and retain a stellar executive team will always require sound judgment and careful thought. Business, markets, and people are too dynamic for mere formulaic solutions. The numbers can best be understood when the process behind them is transparent.

IBM's business has always been to help our clients succeed through innovative solutions. Our stockholders deserve no less. We welcome this discussion.

Section 2: Additional Information

Compensation Program as it Relates to Risk

IBM management, the Compensation Committee and the Committee's outside consultant review IBM's compensation policies and practices, with a focus on incentive programs, to ensure that they do not encourage excessive risk taking. This review includes the cash incentive programs and the LTIP that cover all executives and employees. Based on this comprehensive review, we concluded that our compensation program does not encourage excessive risk taking for the following reasons:

We are confident that our compensation program is aligned with the interests of our stockholders, rewards for performance, and is an example of the strong pay practice emphasized by expert commentators on this topic.


Elements of Compensation Programs and Linkage to Objectives

To supplement the discussion in Section 1, the following is a description of the Company's compensation elements and the objectives they are designed to support. As noted in Section 1: Executive Compensation Summary, IBM's compensation practices are designed to meet five key objectives.

In total, these elements support the objective to balance rewards between short-term results and the long-term strategic decisions needed to ensure sustained business performance over time.

 
Compensation Element/Eligibility Description Linkage to Compensation Objectives
Current Year Performance
Salary

All executives including those executives listed in the proxy statement tables (Named Executive Officers or NEOs)
Salary is a market-competitive, fixed level of compensation. Attract and retain highly qualified leaders

Motivate high business performance
Annual Incentive

All executives, including NEOs
Combined with salary, the target level of annual incentive provides a market- competitive total cash opportunity.

Actual annual incentive payout depends on individual and Company performance.

Lowest performers receive no incentive payment.
Attract and retain highly qualified leaders

Motivate high business performance

Vary compensation based on individual and team performance
 
Compensation Element/Eligibility Description Linkage to Compensation Objectives
Long-Term Incentive Plan
Performance Share Units (PSUs)

Approximately 530 executives based on job scope, including NEOs
Equity grant value based on individual performance and retention objectives for each executive.

Grant value is converted to the number of shares granted by dividing the planned value by the predetermined, formulaic planning price* in effect for the quarter.

Number of shares granted is adjusted up or down at the end of the three-year performance period based on Company performance against operating earnings per share and free cash flow targets.

Encourages sustained, long-term growth by linking a portion of compensation to the long-term Company performance.

Paid in IBM shares upon completion of the three-year performance period, linking the compensation value further to the long-term performance of IBM.
Align executive and stockholder interests

Attract and retain highly qualified leaders

Motivate high business performance
Performance Uplift

Select members of the G&TT (excluding the Chairman and CEO and SVPs)
Equity award decided annually by the Chairman and CEO and delivered to select executives in PSUs.

Selective recognition of those members of the G&TT who have demonstrated extraordinary results in supporting the Company's continued transformation by promoting innovation, speed and simplicity in service of our clients.

Receiving an uplift award one year does not guarantee awards in subsequent years.
Motivate high business performance

Vary compensation based on individual and team performance
Annual Stock-Based Grant

All executives
Annual equity grants may be made in the form of restricted stock units (RSUs) or stock options, or some combination.

The amount of an annual grant is dependent on the level of the executive and individual performance, with lowest performers receiving no grant.

Planned grant value is converted to the number of shares granted by dividing the planned value by the predetermined, formulaic planning price* in effect for the quarter and, for stock option grants, the respective Black-Scholes valuation factor.

Awards generally vest over a 1 to 4 year period.
Align executive and stockholder interests

Attract and retain highly qualified leaders

Motivate high business performance

Vary compensation based on individual and team performance

* IBM's planning price is computed each quarter using a consistent statistical forecasting procedure based on historical IBM stock price data. IBM uses the quarterly planning price to aid in establishing the overall size of the equity plan and to give more consistency across equity grants made at different points in the quarter.

 
Compensation Element/Eligibility Description Linkage to Compensation Objectives
Retention, Pension & Savings
Retention Stock-Based Grants & Cash Awards

Select executives determined each year, including some NEOs
Periodically, management reviews the retention strategy for high-performing executives and may make retention equity grants with a vesting provision or cash payments with a clawback to select executives. Align executive and stockholder interests

Retain highly qualified leaders
Pension and Savings Plans

All executives, including NEOs
Like all IBM employees, executives participate in the local pension and savings plans sponsored by IBM in their country under the same terms and conditions as all employees. Attract and retain highly qualified leaders
Other Executive Retention Programs

Select executives, including NEOs hired prior to May 1, 2004
Separate plans established more than 13 years ago in some countries (including the U.S.) to encourage full-career retention of key executives.

Important during a time of significant business transformation for IBM; the programs are now closed.

Accrual of future benefits under the retention plan stopped in the U.S. on December 31, 2007.
Attract and retain highly qualified leaders
Excess 401(k) Plus Plan

U.S. employees with compensation expected to exceed applicable IRS limits, including NEOs
Established in accordance with U.S. Department of Labor and Internal Revenue Service guidelines to provide employees with the ability to save for use after their career by deferring compensation in excess of limits applicable to 401(k) plans.

Prior to January 1, 2008, cash and equity could be deferred under the plan. Effective January 1, 2008, equity deferral elections can no longer be made under the plan.
Align executive and stockholder interests

Attract and retain highly qualified leaders

Setting Performance Targets for Incentive Compensation

Compensation of our senior leaders is highly linked with Company performance against four key metrics, consistent with our overall financial model:

  1. Revenue Growth
  2. Operating Net Income
  3. Operating EPS
  4. Free Cash Flow

These metrics and their weightings align with IBM's financial model and are designed to appropriately balance both short- and long-term objectives. Targets are set for both the annual and long-term incentive programs at aggressive levels each year to motivate a high degree of business performance with emphasis on longer-term financial objectives. These targets, individually and together, are designed to be challenging to attain and are set within the parameters of our long-term financial model with profit expansion and growth objectives aligned with our disclosed financial roadmap to 2015. As part of IBM's ongoing management system, targets are evaluated to ensure they do not include an inappropriate amount of risk.

Apart from the linkage to its long-term financial model, IBM is not disclosing specific targets under the annual and long-term plans because it would signal IBM's strategic focus areas and impair IBM's ability to leverage these areas for competitive advantage. For example, disclosure of our free cash flow targets would provide insight into timing of large capital investments or acquisitions. Knowledge of the targets could also be used by competitors to take advantage of insight into specific areas to target the recruitment of key skills from IBM. Disclosing the specific targets and metrics used in the qualitative assessment made by the Chairman and CEO would give our competitors our insight to key market dynamics and areas that could be used against IBM competitively by industry consultants or competitors targeting existing customers.

Our financial model is well communicated to investors, and our performance targets are based on this model. We also describe the performance relative to the pre-set objectives in our discussion of named executive officer compensation decisions. Finally, outlined below is a description of the specific metrics and weightings for the Annual Incentive and the Performance Share Unit Programs.


Annual Incentive Program

The Company sets business objectives at the beginning of each year that are reviewed by the Board of Directors. These objectives translate to targets for the Company and for each business unit for purposes of determining the target funding of the Annual Incentive Program. Performance against business objectives determines the actual total funding pool for the year which can vary from 0% to 200% of total target incentives for all executives. At the end of the year, management assesses the financial performance for the Company based on performance against financial metrics. Each year the Compensation Committee and the Board of Directors review IBM's annual business objectives and set the metrics and weightings for the annual program reflecting current business priorities. The metrics and weightings for 2013 and 2014 are listed below.

 
Financial Metric 2013 and 2014
Weighting in Overall Score
Operating Net Income 60%
Revenue Growth 20%
Free Cash Flow 20%

Overall funding for the Annual Incentive Program, which covers approximately 5,200 executives, is based on the performance results against these targets and may be adjusted for extraordinary events if deemed appropriate by the Chairman and CEO and Compensation Committee. This adjustment can be either up or down. For example, adjustments are usually made for large divestitures and acquisitions. In 2013, no adjustments for extraordinary events were made. In addition, the Chairman and CEO can recommend an adjustment, up or down, to the overall funding of the program based on factors beyond IBM's financial performance, such as client satisfaction, market share growth and workforce development, among others. For 2013, the Compensation Committee approved a downward adjustment to the score based on the review of factors beyond IBM's financial performance. The Compensation Committee reviews the financial scoring and qualitative adjustments and approves the Annual Incentive Program funding level. Once the total pool funding level has been approved, a lower-performing executive will receive as little as zero payout and the most exceptional performers are capped at three times their individual target incentive (payouts at this level are rare and only possible when IBM's performance has also been exceptional).


Performance Share Unit Program

Operating EPS and free cash flow targets for the Performance Share Unit program are set at the beginning of each three-year performance period, taking into account the Company's financial model shared with investors, including the impact our share buyback program has on operating EPS. At the end of the three years, the score is calculated based on results against the predetermined targets, with the following weights:

 
Financial Metric 2013
Weighting in
Overall Score
2014
Weighting in
Overall Score
Operating Earnings Per Share 80% 70%
Free Cash Flow 20% 30%

Adjustments can be made for extraordinary events if deemed appropriate by the Chairman and CEO and the Compensation Committee-for example, large divestitures. In 2013, no adjustments were made.

The Compensation Committee approves the determination of actual performance relative to pre-established targets, and the number of Performance Share Units is adjusted up or down based on the approved actual performance from 0% to 150%. There is no discretionary adjustment to the Performance Share Unit program score.

For 2014, the weighting on free cash flow has increased to 30%. This change strengthens the alignment with the importance of free cash flow.

 

Equity Award Practices

Under IBM's long-standing practices and policies, all equity awards are approved before or on the date of grant. The exercise price of at-the-money stock options is the average of the high and low market price on the date of grant or, in the case of premium-priced stock options, 10% above that average.

The approval process specifies the individual receiving the grant, the number of units or the value of the award, the exercise price or formula for determining the exercise price, and the date of grant. All equity awards for Senior Executives are approved by the Compensation Committee. All equity awards for employees other than Senior Executives are approved by Senior Executives pursuant to a series of delegations that were approved by the Compensation Committee, and the grants made pursuant to these delegations are reviewed periodically with the Committee.

Equity awards granted as part of annual total compensation for senior leaders and other employees are made on specific cycle dates scheduled in advance. IBM's policy for new hires and promotions requires approval of any awards before or on the grant date, which is typically the date of the promotion or hire.

 

Ethical Conduct

Every executive is held accountable to comply with IBM's high ethical standards: IBM's Values, including "Trust and Personal Responsibility in all Relationships," and IBM's Business Conduct Guidelines. This responsibility is reflected in each executive's Personal Business Commitments, and is reinforced through each executive's annual certification to the IBM Business Conduct Guidelines. An executive's compensation is tied to compliance with these standards; compliance is also a condition of IBM employment for each executive. Annual cash incentive payments are also conditioned on compliance with these Guidelines.

The Company's equity plans and agreements have a clawback provision-awards may be cancelled and certain gains repaid if an employee engages in activity that is detrimental to the Company, such as violating the Company's Business Conduct Guidelines, disclosing confidential information, or performing services for a competitor. To further reinforce our commitment to ethical conduct, the Excess 401(k) Plus Plan allows the clawback of Company contributions made after March 2010 if a participant engages in activity that is detrimental to the Company.

In addition, approximately 2,000 of our key executives (including each of the named executive officers) have agreed to a non-competition, non-solicitation agreement that prevents them from working for certain competitors within 12 months of leaving IBM or soliciting employees within two years of leaving IBM.

The Committee has also implemented the following policy for the clawback of cash incentive payments in the event an executive officer's conduct leads to a restatement of the Company's financial results:

To the extent permitted by governing law, the Company will seek to recoup any bonus or incentive paid to any executive officer if (i) the amount of such payment was based on the achievement of certain financial results that were subsequently the subject of a restatement, (ii) the Board determines that such officer engaged in misconduct that resulted in the obligation to restate, and (iii) a lower payment would have been made to the officer based upon the restated financial results.

 

Hedging Practices

The Company does not allow any member of the G&TT, including any named executive officer, to hedge the economic risk of their ownership of IBM securities, which includes entering into any derivative transaction on IBM stock (e.g., any short-sale, forward, option, collar, etc.).

 

Tax Considerations

Section 162(m) of the U.S. Internal Revenue Code of 1986, as amended, limits deductibility of compensation in excess of $1 million paid to the Company's CEO and to each of the other three highest-paid executive officers (not including the Company's chief financial officer) unless this compensation qualifies as "performance-based." Based on the applicable tax regulations, taxable compensation derived from certain stock appreciation rights and from the exercise of stock options by Senior Executives under the Company's Long-Term Performance Plans should qualify as performance-based. The IBM Excess 401(k) Plus Plan permits an executive officer who is subject to Section 162(m) and whose salary is above $1 million to defer payment of a sufficient amount of the salary to bring it below the Section 162(m) limit. In 1999, the Company's stockholders approved the terms under which the Company's annual and long-term performance incentive awards should qualify as performance-based. In 2004 and 2009, as required by the Internal Revenue Code, the stockholders approved the material terms of the performance criteria under which long-term performance incentive awards should qualify as performance-based. In this Proxy Statement, stockholders are being asked again to approve the material terms of the performance criteria for the long-term performance incentive awards. These terms do not preclude the Committee from making any payments or granting any awards, whether or not such payments or awards qualify for tax deductibility under Section 162(m), which may be appropriate to retain and motivate key executives.