Lenovo Eyes IBM Servers, Jumps In Japan

| About: Lenovo Group (LNVGF)

After more than a half year of silence, Lenovo's (OTCPK:LNVGF) dream to buy the low-end server business of IBM (NYSE:IBM) is suddenly back in the headlines, in a development that I predicted quite a while ago based on the fact that both sides really want to do this deal. The first time around saw the talks founder and ultimately stall due to disagreement on price. But such a deal makes so much sense for both sides that it's almost inevitable that it will happen, which leads me to believe that we could see announcement of a preliminary agreement sometime in the first or second quarter. Meantime, Lenovo is also seeing a positive development on the Japan front, where its 3-year-old PC joint venture with local partner NEC (Tokyo: 6701) is doing better than expected.

Both of these signs look positive for Lenovo as we head into the Year of the Horse, though it's also interesting to note that neither has much significance for the company's bid to move higher up the value chain. Lenovo's talkative chairman Yang Yuanqing has said on numerous recent occasions that he no longer sees his rivals as PC makers like Hewlett-Packard (NYSE:HPQ) and Dell (NASDAQ:DELL), but instead is focused on more cutting-edge companies like Apple (NASDAQ:AAPL) and Samsung (OTC:SSNLF). But both of these positive news bits look much more aimed at boosting Lenovo's competitiveness with the PC companies than with Apple or Samsung.

All that said, I still have to commend Lenovo for its dogged pursuit of the IBM server deal, which first splashed into the headlines about a year ago. I wrote about the deal as recently as June, when I speculated that Lenovo's plan for a major bond issue might be aimed at financing the IBM purchase, even though talks had broken down at that point. Now media are saying that Lenovo is still pursuing a deal (Chinese article), and Lenovo issued its own statement confirming it is in talks with an unnamed third party for a potential acquisition. (company announcement)

The reports point out that another company vying for the IBM server unit is Dell, whose recent privatization could give it the freedom it needs to pursue an aggressive bid. Dell, IBM and HP are currently the world 3 top server makers, so a combination of Dell's and IBM's businesses would create a potent player in the market. Of course, anti-trust concerns from such a tie-up could also lead IBM to decide that Lenovo is a better option, which would maintain the current state of competition.

Reports last year said that IBM was seeking up to $6 billion for the server unit, and that Lenovo had balked at the high price. But with Dell now in the process, perhaps we could see the price reach that level or even higher, which could make it quite a costly deal for Lenovo. Still, the business is a good strategic fit for Lenovo, since such servers would complement its existing PC product lines. Look for a sale of the unit to happen soon, with Lenovo as the most likely winner.

Meantime, Lenovo is saying separately that it has revised some conditions relating to its joint venture with NEC to accommodate a recent spike in sales for the tie-up. (company announcement) The pair formed the venture in 2011, when Lenovo took over operations of NEC's dwindling Japanese-based PC business.

This latest announcement indicates the venture is getting stronger demand from Japanese customers than previously anticipated, in a sign that the company is retaining local customers 3 years after Lenovo took over the operation. It's hard to say if the strong demand will continue based on this simple announcement, but the development certainly looks positive for Lenovo as it tries to consolidate its place as the world's largest PC maker.

Bottom line: Lenovo is likely to win the bidding for IBM's low-end server business in a deal that could be valued at $6 billion or more.

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