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Saturday, 25 June 2016

Faith in Legend

Lenovo's M&A spree challenges investors’ faith

Lenovo prides itself on being a modern multinational, but its approach to divulging information remains frustratingly old-school. The Chinese group is buying Google’s Motorola phone business just a week after picking up IBM’s low-end server unit. Adding the two loss-making divisions to its portfolio will cost up to $5.2 billion in cash and stock. Though there’s some strategic logic, shareholders have little way of working out whether the deals stack up.

The Motorola deal is the most recent case in point. The largest-ever technology acquisition by a Chinese company involves Lenovo making an upfront payment of $660 million in cash and shares worth $750 million. The remaining $1.5 billion is in the form of a promissory note to be paid out three years from the closing date - as long as undisclosed terms are fulfilled. In return, Lenovo gets an orphan mobile phone maker with a shrinking market share that has accumulated pre-tax losses of more than $2 billion over the past two years.

Little wonder that investors, who wiped 8 percent off Lenovo’s market value on the news, are nervous. It’s only a week since the company bought IBM’s low-end server unit with equally scant detail about how it might restore the business to profitability. Lenovo is effectively asking its shareholders to rely on its track record in turning around ailing companies – a reputation it established by buying IBM’s personal computer business back in 2005.

The Motorola deal appears to be driven mainly by the desire to diversify. Though Lenovo is the world’s number three smartphone vendor by units, it sells 97 percent of its phones in China, according to Gartner. Motorola’s relationships with carriers – and its brand – could give Lenovo a boost in the United States. Yet Lenovo’s history is no guarantee of success. Fixing Motorola requires it to appeal to fickle Western consumers rather than selling to business customers.

Both recent purchases require approval from the Committee on Foreign Investment in the United States. Two high-profile deals could make Lenovo a target for politicians eager to stir up fears about Chinese acquisitions. But if Lenovo gets the green light, it will take more than vague promises to persuade investors its M&A spree makes sense.

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Context News

Lenovo said on Jan. 30 that it would to buy Google’s Motorola handset division for up to $2.9 billion, in what is China’s largest-ever tech deal.

The company said it will initially pay Google $660 million cash and shares with an aggregate value of $750 million. It will also issue a promissory note to pay the remaining $1.5 billion in cash three years from the anniversary of the deal closing.

The exact number of new shares issued will depend on Lenovo’s share price when the deal closes, but is limited to a minimum of 506 million shares and a maximum of 618 million shares. That will give Google a stake in the company of between 4.64 percent and 5.61 percent.

Lenovo’s shares closed down 8.2 percent at HK$10.06 on Jan. 30.

In a filing to the Hong Kong Stock Exchange, Lenovo said the Motorola business reported a loss before tax and extraordinary items of $1.2 billion in 2013, and $915 million in 2012.

On Jan. 23, Lenovo said it had agreed to buy IBM’s low-end server hardware and maintenance division for $2.07 billion in cash and 182 million Lenovo shares.

The company is the world’s third biggest smartphone seller, according to Gartner, with some 5 percent of global market share in the third quarter of 2013.

Lenovo’s chief financial officer Wong Waiming told a media briefing on Jan. 30 the Motorola acquisition would increase the company’s smartphone market share by 1.5 percent.

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