Lenovo Earnings: PC Shipments To Return to a Growth Trajectory in Late 2023; Shares Undervalued

Despite Lenovo’s 00992 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.

Although we expect PC shipments to decline 12% in calendar year 2023, management’s outlook supports our view that PC shipments will improve in the second half of this year, and we believe they will return to a year-over-year growth trajectory in the December quarter. Looking ahead, we forecast a steady low- to mid-single-digit growth in 2024 and 2025 as replacement demand picks up for both consumer and commercial PCs. On the consumer side, we expect replacement demand for Chromebooks purchased by students during the pandemic to emerge, and on the commercial side, replacement should begin in late 2024 as Windows 10 support will be completed in late 2025. We believe this replacement demand will help improve the product mix, which should be positive for Lenovo’s operating margin. While a recovery in Lenovo’s share price may take some time as we need to wait for PC demand to stabilize, we believe that the share price decline due to a temporary deterioration in margins provides an attractive entry point. Lenovo’s shares are currently trading at only about 8 times fiscal 2023 P/E, even after lowering our earnings forecasts.