Lenovo Group Limited (ADR) (NASDAQOTH:LNVGY.PK) group has seen astounding growth number in its PC business. It has passed Dell Inc. (NASDAQ:DELL) to become the number two PC company by volume last year, only behind Hewlett-Packard Company (NYSE:HPQ). Lenovo vaulted itself into this position by swallowing up competing PC makers, the largest of which was International Business Machines Corp. (NYSE:IBM)‘s ThinkPad division in 2005. Now, Lenovo seems to be looking up the food chain from consumers to enterprises by searching the market for a server manufacturer.
Lenovo’s game plan
Lonovo seems to want to copy and paste its dominance in the PC market into the more lucrative server market. Rumors have been swirling around that Lenovo Group Limited (ADR) (NASDAQOTH:LNVGY.PK) is in talks with IBM to purchase its low end server business. It does seem to fit the long term plans for both International Business Machines Corp. (NYSE:IBM) and Lenovo to sell off the division, but what will it mean for the competitive landscape? IBM is focusing on services and software that have higher margins and can help it on its path to earn $20 per share by 2015. Lenovo, on the other hand, is looking to establish a presence and name brand further up the value chain.
If IBM sells this service to Lenovo Group Limited (ADR) (NASDAQOTH:LNVGY.PK), we will probably see the same type of aggressive marketing by Lenovo as we have seen in the PC sector. Leonvo appears not to be in the business of margins at this time; at 2% operating margin, it’s a razor thin business. It looks like Lenovo wants to shake out its weaker competitors, much like what Wal-Mart Stores, Inc. (NYSE:WMT) is accused of whenever it enters a small town. If Dell and HP can’t compete on prices for the long-term in these markets, Lenovo will continue to gain market share. As it becomes the dominant player, it can then start to raise prices and worry about profitability.
Dell Inc. (NASDAQ:DELL) has been in talks to go private for most of this year. The PC and low-end corporate server maker has operating margins at 5.3% and pays out 11% of its earnings to support a 2.4% dividend. Dell Inc. (NASDAQ:DELL) has been slow to move into the corporate services and software market, and is hoping that going private will allow it to restructure faster.
Hewlett-Packard Company (NYSE:HPQ) has normalized operating margins of 5.7%, if we back out the major write-downs associated with botched acquisitions this past year. The current number one PC maker has been trying to move out of the commoditized PC business and into services and software (sounds familiar) to improve its margins, and move away from an industry with shrinking sales.
Both HP and Dell have to answer to investors and were not able to compete with China’s Lenovo on price in the PC market. When it comes to their bread and butter corporate clients, Lenovo will be just as ruthless on pricing. We can see in the chart above that both HP and Dell are losing their advantages to companies that compete on price, like Lenovo and Asus.