Company Reports

We trim our fair value estimate for Lenovo to HKD 13.50 per share from HKD 14.00, based on the mixed June-quarter results. On the positive side, June-quarter revenue of USD 15.4 billion was up 19.7% year on year. This was above our forecast of USD 14.6 billion, on robust PC and server sales, supporting our view that Lenovo is one of the beneficiaries of the computing demand. On the other hand, the firm's operating margin declined to 3.2% from 3.5% in the previous quarter, which makes us concerned that the robust revenue growth is not translating into sufficient profit growth. In particular, although server revenue rose about 25% sequentially, profitability did not improve substantially when we exclude the one-time charge recorded in the March quarter, which we believe is due to the rising research and development costs to accommodate the robust server demand and the low-margin nature of the business. As a result, we raise our revenue forecasts for this fiscal year and next to USD 65 billion and USD 73 billion, from USD 61.5 billion and USD 68.5 billion; but lower our operating margin assumptions to 3.6% and 4.1% from 3.9% and 4.5%, respectively. Despite lowering our earnings forecasts, we remain optimistic about Lenovo’s medium-term growth, driven by increasing PC replacement demand, and believe shares are undervalued.

Lenovo’s acquisition of IBM’s ThinkPad PC business in 2005 has helped propel the company to be a leader in the PC market with 24% global market share. The successful integration of the ThinkPad business has also enabled Lenovo to increase its commercial-related sales, which currently make up 60% of its PC sales, as well as stabilize its PC margins in recent years. We expect PC sales to continue to make up around 70% of overall sales, while the segment’s profit margins should remain stable, given less intense competition at the higher end of the PC market.

Lenovo announced a strategic collaboration with Alat, a wholly owned subsidiary of the Public Investment Fund, the sovereign wealth fund of the Kingdom of Saudi Arabia. The company will issue USD 2 billion of zero coupon convertible bonds to Alat, which will be convertible upon maturity in three years. If fully converted, there will be a dilution of 12.1% based on the conversion price of HKD 10.42 per share, which is approximately 10% below the closing price on May 29, 2024. We maintain our fair value estimate for Lenovo of HKD 14 per share for now, as we believe the benefits of the deal, such as interest savings and revenue growth potential, are largely offset by the dilution.

Lenovo reported its full fiscal year 2023/24 (ending March 2024) numbers on Thursday, which beat our expectations. March-quarter revenue and operating income of USD 13.8 billion and USD 489 million, respectively, exceeded our forecasts of USD 13.3 billion and USD 383 million as the intelligent devices group, which is mainly PCs, showed resilience despite the off-season. On the other hand, the infrastructure solutions group continued to post an operating loss due to a worse-than-expected product mix and high-cost structure, as Lenovo could not respond to the rapid shift in demand from general servers to artificial intelligence servers last year. However, it is encouraging that management is confident of winning future orders by leveraging the expanded product lineup. As a result, we increase our revenue forecasts for Lenovo by approximately 4% due to higher average selling price assumptions for PCs and server revenue growth assumptions. Accordingly, we revised our fair value estimate for Lenovo to HKD 14 from HKD 12. We believe that the strong recovery in PC shipments in 2025 stimulated by the rollout of AI PCs is not fully priced in.

Lenovo’s acquisition of IBM’s ThinkPad PC business in 2005 has helped propel the company to be a leader in the PC market with 24% global market share. The successful integration of the ThinkPad business has also enabled Lenovo to increase its commercial-related sales, which currently make up 60% of its PC sales, as well as stabilize its PC margins in recent years. We expect PC sales to continue to make up around 70% of overall sales, while the segment’s profit margins should remain stable, given less intense competition at the higher end of the PC market.

After fine-tuning Lenovo’s earnings forecasts, we keep our HKD 12 fair value estimate and believe shares are undervalued. While the timing of our forecasts for the infrastructure solutions group, or ISG, segment’s return to profitability has been delayed by a year to fiscal March 2026—due to sluggish recovery in server shipments and deteriorating product mix—we raise our operating margin assumption for the intelligent device group, or IDG, segment as we believe the PC product mix will improve more than we had previously expected over the next two years. As a result, we lower our forecast for Lenovo’s fiscal March 2025 operating income by 8%, but the revision to fiscal March 2026 is limited. We believe the market underestimates the pickup in replacement demand and product mix improvement starting in late 2024. Lenovo’s share price is down more than 20% from its recent peak earlier this year, mainly on concerns about rising geopolitical risks. As North America accounts for about 20%-25% of Lenovo’s PC shipments, we believe the current share price implies Lenovo will substantially lose market share in the United States, which we think is overly pessimistic.

Lenovo’s acquisition of IBM’s ThinkPad PC business in 2005 has helped propel the company to be a leader in the PC market with 24% global market share. The successful integration of the ThinkPad business has also enabled Lenovo to increase its commercial-related sales, which currently make up 60% of its PC sales, as well as stabilize its PC margins in recent years. We expect PC sales to continue to make up around 70% of overall sales, while the segment’s profit margins should remain stable, given less intense competition at the higher end of the PC market.

We raise Lenovo’s fair value estimate to HKD 12 from HKD 10.50, based on better visibility of a recovery in PC demand beyond second-half 2024. While Lenovo’s September-quarter revenue of USD 14.4 billion and operating income of USD 5.1 billion were in line with our expectations of USD 14.2 billion and USD 5.0 billion, the operating margin of the intelligent device group, in which PCs account for 60% of revenue, improved to 7.4% from 6.3% in the previous quarter due to lower promotional expenses as inventory adjustments were completed. This operating margin is close to the historical high of 7.7%, indicating the product mix is better than in the past due to high-end PC demand and we expect the product mix to improve further as replacement demand picks up in second-half 2024. While we slightly lower our earnings forecasts for fiscal 2024 (ending March 2024) and 2025 due to the prolonged inventory correction and higher research and development expenses for servers, we raise our PC average selling price and operating margin assumptions from fiscal 2026, which is the reason for the increase in our fair value estimate. We believe Lenovo’s shares are undervalued as the market is less confident about the PC market recovery in the medium term.

Lenovo’s acquisition of IBM’s ThinkPad PC business in 2005 has helped propel the company to be a leader in the PC market with 24% global market share. The successful integration of the ThinkPad business has also enabled Lenovo to increase its commercial-related sales, which currently make up 60% of its PC sales, as well as stabilize its PC margins in recent years. We expect PC sales to continue to make up around 70% of overall sales, while the segment’s profit margins should remain stable, given less intense competition at the higher end of the PC market.

Although the weaker-than-expected loss at the server business disappointed the market, we believe Lenovo’s fundamentals are not as bad as the numbers look, and the PC business is in the recovery phase from the inventory adjustment, as we had expected. While we lower our operating income forecasts for fiscal 2023 (ending March 2024) and fiscal 2024 due to sluggish server demand, slightly lower margin for PCs, and higher financing costs due to higher interest rates, we raise our PC shipment assumptions from late 2024 onward as we are more confident that replacement demand will pick up. As a result, we maintain no-moat Lenovo’s fair value estimate of HKD 10.50 and believe its shares are undervalued.

Lenovo’s acquisition of IBM’s ThinkPad PC business in 2005 has helped propel the company to be a leader in the PC market with 24% global market share. The successful integration of the ThinkPad business has also enabled Lenovo to increase its commercial-related sales, which currently make up 60% of its PC sales, as well as stabilize its PC margins in recent years. We expect PC sales to continue to make up around 70% of overall sales, while the segment’s profit margins should remain stable, given less intense competition at the higher end of the PC market.

Despite Lenovo’s lower-than-expected profitability in the March quarter, we maintain our fair value estimate at HKD 10.50. We are somewhat disappointed that the operating margin of the IDG segment, which is mainly PCs, fell to 6.7% from 7.3% in the previous quarter, and the company expects an even lower profitability in the June quarter. However, we note that Lenovo has reduced its inventory by 15% from three months ago, suggesting that the lower profitability is due to the incentives paid by the company to prioritize inventory reduction in the off-season. As management expects the inventory digestion in the channel to be completed by the end of this quarter, we expect Lenovo’s profitability to improve from the September quarter.

Lenovo’s acquisition of IBM’s ThinkPad PC business in 2005 has helped propel the company to be a leader in the PC market with 24% global market share. The successful integration of the ThinkPad business has also enabled Lenovo to increase its commercial-related sales, which currently make up 60% of its PC sales, as well as stabilize its PC margins in recent years. We expect PC sales to continue to make up around 70% of overall sales, while the segment’s profit margins should remain stable, given less intense competition at the higher end of the PC market.

While Lenovo’s December quarter revenue was down 24% year over year due to weak PC shipments, we are encouraged that the company maintained solid profitability. The operating margin of 4.9% in the December quarter was only slightly lower than 5.0% in the September quarter and up from 4.6% in the year-ago quarter, due to the solid margin expansion in the server business and the company’s cost-saving initiatives, which are impressive in a challenging environment. We expect the March quarter to be the bottom of Lenovo’s fundamentals due to the low seasonality and expected restructuring, but we believe that most risk factors are already priced in. We maintain our fair value estimate of HKD 10.50, which corresponds to 11 times P/E and 3.2 times price/book on a fiscal 2022 basis.

Lenovo’s acquisition of IBM’s ThinkPad PC business in 2005 has helped propel the company to be a leader in the PC market with 24% global market share. The successful integration of the ThinkPad business has also enabled Lenovo to increase its commercial-related sales, which currently make up 60% of its PC sales, as well as stabilize its PC margins in recent years. We expect PC sales to continue to make up around 70% of overall sales, while the segment’s profit margins should remain stable, given less intense competition at the higher end of the PC market.

Despite the headwinds, Lenovo reported another impressive quarter. Although September quarter revenue was 4.4% down from the previous year, its operating income was up 4.2%, exceeding our expectations. While we cut Lenovo’s fair value estimate to HKD 10.50 from HKD 12.60 due to the stronger U.S. dollar and lower PC shipment outlook, we believe the market is underestimating the resilience of Lenovo’s business portfolio. We acknowledge Lenovo’s shares lack a catalyst for the meantime as the recovery of PC demand will likely be slower than for other IT products. However, we view most risk factors are priced in as Lenovo’s price/earnings and price/book ratios are at the bottom of its historical range.

Lenovo’s acquisition of IBM’s ThinkPad PC business in 2005 has helped propel the company to be a leader in the PC market with 24% global market share. The successful integration of the ThinkPad business has also enabled Lenovo to increase its commercial-related sales, which currently make up 60% of its PC sales, as well as stabilize its PC margins in recent years. We expect PC sales to continue to make up around 70% of overall sales, while the segment’s profit margins should remain stable, given less intense competition at the higher end of the PC market.

Despite the worsening economic outlook, no-moat Lenovo again reported a solid quarter. While we estimate Lenovo’s PC shipment for the quarter ended June dropped more than 10%, the intelligence device group’s revenue was only 2.7% down from the previous year and the operating margin of 7.5% was unchanged. We believe Lenovo was able to maintain PC profitability by expanding sales in the premium segment, and similarly, mobile sales were 21% up from the previous year, driven by the average selling price, or ASP, increase due to the 5G rollout, mitigating the decline in PC revenue. In addition, the infrastructure solutions group achieved solid revenue growth and recorded a profit for three consecutive quarters. Overall, we believe Lenovo’s June quarter numbers show the company is able to minimize the impact of a challenging environment with its resilient business portfolio and operational capabilities. We fine-tuned Lenovo’s earnings forecasts and kept its HKD 12.60 fair value estimate. While we believe Lenovo’s shares are undervalued, we think the bottoming-out of PC demand is necessary for its shares to rebound.

Lenovo’s acquisition of IBM’s ThinkPad PC business in 2005 has helped propel the company to be a leader in the PC market with 24% global market share. The successful integration of the ThinkPad business has also enabled Lenovo to increase its commercial-related sales, which currently make up 60% of its PC sales, as well as stabilize its PC margins in recent years. We expect PC sales to continue to make up around 70% of overall sales, while the segment’s profit margins should remain stable, given less intense competition at the higher end of the PC market.

Based on Lenovo’s solid profitability in the March quarter, we retain our view that the company’s profitability would not deteriorate as much as the market is factoring in. In the short term, we expect weaker PC shipments to be partially mitigated by the better product mix, underpinned by the recovery of commercial PC demand and solid demand for high-end consumer PCs such as gaming PCs. In the longer term, we believe better-than-expected sales of servers and smartphones would support Lenovo’s margin recovery. While we incorporate the near-term headwinds into our numbers, overall, we broadly maintain our earnings forecasts for the next five years, as well as our fair value estimate of HKD 12.60. Although lacking near-term catalysts, we believe Lenovo’s shares are undervalued as they currently trade at 2.2 times price/book and 6 times 2023 price/earnings, which are both at the bottom of the historical range.