Lenovo's Profits Could Explode as It Looks to the U.S. for Growth

In 2013, Chinese company Lenovo Group (NASDAQOTH: LNVGY  ) surpassed Hewlett-Packard (NYSE: HPQ  ) as the world's largest PC manufacturer, claiming a 17.7% share at the end of Lenovo's fiscal year in March. Recent numbers from Gartner show that Lenovo has solidified this lead during the second calendar quarter, increasing its global market share by 2.5 percentage points to 19.2%, well ahead of HP's 17.7% share.

Much of Lenovo's success has been due to its 35% market share in China, but the company is rapidly gaining share in other regions as well. According to Gartner, Lenovo rose to the No. 3 spot in the U.S. PC market during the second quarter, increasing its unit shipments by more than 20% year-over-year. This growth outside of China is significant not only because it allows Lenovo to continue to grow revenue even as the global PC market remains weak, but it represents a big opportunity for the company to expand its margins as well.

Expanding beyond China
Lenovo derives a significant portion of its revenue and most of its operating profit from China. Here is Lenovo's geographical revenue and operating profit breakdown for its most recent fiscal year:

Region

Revenue (Million USD)

Operating Profit (Million USD)

Operating Margin

China

$14,725

$788

5.4%

Asia-Pacific

$6,163

$109

1.8%

Europe, Middle East, Africa

$9,581

$188

2%

Americas

$8,238

$69

0.8%

Source: Lenovo

These numbers include products other than PCs, such as tablets and smart phones, but roughly 80% of Lenovo's revenue was from desktops and laptops during the last fiscal year.

Overall, Lenovo had an operating margin of 2.7% during its last fiscal year. That's not surprising given the low-margin nature of the PC industry. HP managed a 3.5% operating margin for its PC segment during the second quarter, for example. But Lenovo's operating margins outside of China are far lower, particularly in the Americas. Lenovo has the benefit of scale in China, where it dominates the PC industry, but in other regions it lacks the same benefit.

Lenovo's opportunity
Lenovo has gotten more serious about expanding beyond China in the past few years, and as its market share increases in other regions, operating margin will likely rise as well. Last year, the company opened a manufacturing facility in North Carolina, reversing the trend that has been sending PC manufacturing jobs overseas for the past decade. It's somewhat ironic that it was a Chinese company that brought PC manufacturing jobs back to the United States, but irony aside, the facility gives Lenovo the ability to be more flexible and offer better customer service in the United States.

Lenovo is still a long ways from overtaking HP or Dell in the United States, which had market shares of 27.7% and 26% during the second quarter respectively. But as Lenovo grows its presence in the Americas, profits are capable of growing far faster than revenue. If Lenovo can achieve operating margins of 3% in its non-China markets, the company would earn nearly as much operating profit from non-China markets as it does from China based on last year's revenue. Coupled with continued double-digit revenue growth in non-China regions, and profits could rise significantly in coming years.

Lenovo trades at about 18 times earnings, and that seems fairly attractive for a company capable of growing profits by double-digit percentages going forward. Along with PCs, Lenovo is also buying IBM's x86 server business and smartphone company Motorola from Google, and those represent further opportunities for the company to grow.

The biggest risk for Lenovo going forward is the fact that it's a Chinese company. Other Chinese technology companies, such as Huawei, have come under scrutiny in the United States as the U.S. and China accuse each other of various acts of cyber espionage. Lenovo could face an image problem as it attempts to expand in the United States, and that could limit its ability to grow. However, its manufacturing plant in North Carolina should ease these concerns to some degree.

The bottom line
Lenovo is increasingly focusing on markets outside of China, and the ability to both win market share and increase margins in other regions represents a big opportunity for the company to significantly grow profits. Coupled with the company's server and smart phone ambitions, and Lenovo's growth story may be only beginning. At 18 times earnings, Lenovo seems to offer growth at a reasonable price, a rarity these days as the bull market rages on.

Leaked: Apple's next smart device (warning, it may shock you)
Apple recently recruited a secret-development "dream team" to guarantee its newest smart device was kept hidden from the public for as long as possible. But the secret is out, and some early viewers are claiming its everyday impact could trump the iPod, iPhone, and the iPad. In fact, ABI Research predicts 485 million of this type of device will be sold per year. But one small company makes Apple's gadget possible. And its stock price has nearly unlimited room to run for early in-the-know investors. To be one of them, and see Apple's newest smart gizmo, just click here!


Read/Post Comments (0) | Recommend This Article (2)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

Be the first one to comment on this article.

DocumentId: 3029713, ~/Articles/ArticleHandler.aspx, 7/29/2014 5:09:38 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement