Sell Lenovo, An Over-Leveraged Tariff Target

Summary

• The recent margin improvement may have come from excessive advance sales to their channel partners, over and above eventual retail demand.
• Lenovo as the only pure Chinese manufacturer is likely to suffer the most from Trump's tariffs, and North America is 25% of revenue.
• In Q1, all of Lenovo's profit came from one-off gains. The core operations are getting closer to breakeven, but they are far from generating the cash flow needed to reduce their liabilities.
• Both DVMT and HPQ look better value and avoid LNVGY's China risk.
• The recent rally appears to be driven by short covering and panic rather than any rational hope that Lenovo can de-gear and create value.

Lenovo (OTCPK:LNVGY) (992 HK) overspent trying to diversify away from Laptops etc. and is now struggling to service its $10.8bn of net liabilities. The original Thinkpad purchase from IBM was a success, but it is hard to say the same about the deals with Motorola, Panasonic (PCRFY).

The PC market may be seeing some uplift in volume demand, but it remains extremely competitive and it is unrealistic to expect that Lenovo has any long-term margin advantage. Their mobile business continues to struggle and even a retreat to Latin America is fraught with problems, given the economic environment in Brazil and Argentina.

Even the data center business, their champion for future growth, is simply a commercial hardware business with no deferred revenue. It looks as if Lenovo is less "Swallowing the fish" and rather more choking on costs while hoping for a reprieve.

Growth and margin improvement appear to come from sales to channel partners. This may be over and above retail sales in the same period.

At their recent results, Lenovo talked about a return to growth and margin improvement. However, a close inspection reveals that a) receivables grew faster than sales and b) receivables spiked in the last month of the quarter. The best interpretation is that Lenovo is filling its distribution chain to get ahead of possible tariffs. The worst is that they were desperate to show growth and persuaded their wholesalers to over order.

Round three tariffs appear to specifically target Lenovo

If the Trump round three tariffs are imposed, Lenovo is in the direct firing line. It is the only PC maker that is totally China dependent and with such low margins, has little or no ability to absorb the extra costs. Dell (DVMT) and HPQ can both source ex China and so

Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.