Lenovo Group Ltd S/Adr

Good morning and good evening. Welcome to Lenovo's earnings webcast. Thanks to everyone for joining us. This is Jenny Lai, Vice President of Investor Relations. Before we start, let me introduce our management team joining the call today. We have Lenovo's Chairman and CEO, Mr. Yang Yuanqing, Corporate President and CEO, Mr. Gianfranco Lenci, Group CFO, Mr. Wong Wai-Ming, President of Data Center Group, Mr. Kurt Skaugen, and President of Motorola, Mr. Sergio Buniyak. We will begin with a presentation shortly, and after that, we will open the call for questions. Without further ado, let me turn the call over to Yuanqing. Yuanqing, please.

Hello, everyone. Thank you for joining us today. Before we start, I want to share my heartfelt sympathy to those affected by the novel coronavirus. I also would like to express my deepest appreciation to all medical professionals for their dedication in fighting the diseases. Benovo also responded immediately to the outbreak. We have donated and installed all IT equipment necessary to construct the two new hospitals in Wuhan. Donation from Lenovo employees and the Lenovo Foundation has arrived at the places in need. We have also given away 100 activation keys of our remote office and online meeting solutions to hospitals and small and medium-sized businesses. which are heavily impacted by the epidemic. Although the outbreak happened around Chinese New Year, Lenovo reacted right away and worked day and night throughout the holiday to implement a series of measures to protect the safety and well-being of our employees. Thanks to our global manufacturing footprint, while our factories in China are some of the first ones to resume production in the industry, our factories outside of China continue to operate. While the demand in China is impacted temporarily, the demand from the rest of the world remains strong. which will help accelerate the recovery of our capacity in China. We have also been working closely with our supply chain partners to ensure normal operation. Now, let me turn to our quarterly earnings. Last quarter, despite the geopolitical uncertainties and the industry-wide supply shortages, We demonstrated our world-class operation and strategy execution capability in delivering record-setting performance. Both global revenue and pre-tax income reached all-time highs. Our global revenue was 14.1 billion US dollars. Pre-tax income grew by double digits year-on-year and reached $390 million. Net income also improved by double digits year-on-year to $258 million. These results would not be possible without our operational excellence, which allowed us to overcome the severe industry-wide CPU shortage we have quickly adjusted our product portfolio, converted every available supply to our product that meets our customers' requirements, and greatly reduced our finished goods inventory. So these efforts enabled our PC and smart device business to deliver all-time records in revenue, in pre-tax income, and in profit margins. In PC, we not only extended our clear number one position with record high shipments, but also outperformed the market year on year. Our strategy to focus on high growth and premium segments continues to deliver results. The volume in gaming, thin and light, visuals, workstations and Chromebooks continued to grow at higher double digits and significantly outgrew the market year on year. Innovation provides us another important growth driver at the recent Consumer Electronics Show. We demonstrated our leading technology in 5G and affordable with innovative products such as the world's first 5G PC and the Lenovo ThinkPad X1 Fold, which was named one of Time's 2019 Best Inventions. The ThinkBook Plus Notebook PC with e-ink display on top also received very positive feedback. Looking forward, while micro challenges may continue, with proven operational excellence and breakthrough innovation, we are confident that we will continue to drive premier-to-market growth in our PC business and industry-leading profitability. Our mobile business delivered its fifth consecutive profitable quarter In our stronghold, Latin America, our volume outgrew the market by 19 points while improving profitability. Going forward, our mobile business will continue to strengthen profitability while driving growth in new markets. Our new Motorola RAZR affordable has received greater responses from investors, media, and tech opinion leaders. We will build on this excitement to re-enter the premier segment. In data center, our server volume grew by 18% year-on-year, though data center revenue remained flat year-on-year as a sharp component price reduction resulted in erosion of average sales price. Profitability continued to improve year-on-year. Our now hyperscale business had its highest revenue in four years and grew nearly 16%. Especially in China, it was up almost 46% year-on-year. We continue to see strong over 40% year-on-year revenue growth in software-defined infrastructure and storage. Looking forward, we will resume revenue growth in DCG. In our hyperscale business, we will expand our business with existing customers and continue to acquire new customers. In our non-hyperscale business, we will continue to drive a premier to market growth in servers, software-defined infrastructure, high-performance computing, storage, software and services, with increasing customer diversity and broader indirect channels. Our intelligent transformation continued to show strong momentum In smart IoT, revenue almost quadrupled year-on-year, driven by strong growth in AR, VR, smart home, and smart office. Smart infrastructure also grew more than 50% year-on-year, driven by software-defined and network functional virtualization. Smart vertical revenue doubled thanks to triple digital revenue growth in data intelligent business growth, smart healthcare, and smart education solutions. We have noticed accelerated demand in China for our remote office, online education, online healthcare, and other online services solution due to impact of the ongoing epidemic. Last but not least, as we mentioned last quarter, our software and services revenue continued its hyper growth and reached $1 billion in a quarter for the first time, up 41% year-on-year. Looking forward, since there is still much uncertainty around the novel coronavirus, We will actively manage this evolving situation through our geographic balance, operational excellence, and the solid strategy execution. We are confident in overcoming this challenge and to quickly resume to the normal. Thank you. Now let me turn it over to our CFO, Wei Ming. Wei Ming, please.

Thank you, Yuanqing. I will now take you through Lenovo's financial and operational performance in Q3 fiscal year 2020. Next chart, please. Let me share with you financial highlights. We are pleased to announce another record quarter for the group. Our third quarter revenue was $14.1 billion, a new record, and up 0.5% year-on-year, or nearly 2% in constant currency. Our business groups deliver exceptional execution against a backdrop of severe supply constraint. Gross profit increased 10% year-on-year, and gross profit margins expanded 1.5 percentage points to 16.1%, thanks to favorable sales mix. Our team efforts in driving continuous sales mix improvement paid off. The improvement of data-centered business was again in a positive profit catalyst. Our transformation actions had led to accelerated growth in high-margin software and services business, and in turn improved overall profitability. Operating expenses rose 10% to $1.8 billion, and the E2R ratio was 12.6%, up 1.1 percentage points year-on-year, driven by our continued investment in sales, marketing, research, and development. The group PDI increased 11% year-on-year, and PDI dollar is at an all-time high, Among all business groups, our PCSD business is the largest in the world, with the highest ever PDI margin, while MBG and DCG continue to improve their profitability. Our ability to set a new milestone in PDI demonstrated our ability to deliver strong margins and robust growth on earnings per share despite the supply constraint. Net profit attributable to equity holders was $258 million, up 11% year on year. Basic earnings per share came in at 2.16 US cents, up from 1.96 US cents last year. Next chart, please. In Q3, our cash generated in operation was $538 million, compared to $1.2 billion cash generated in the first half of the fiscal year. We made less cash from operations compared to the corresponding period last year, due to the two initiatives we took in the quarter. We have built some strategic position on critical parts, leading to a $206 million increase in total inventory year-on-year during the quarter, and our accounts receivable factoring volume dropped year-to-year. Next chart, please. Our Intelligent Device Business Group, consisting of PC and Smart Device Business Group and Mobile Business Group, achieved a record quarterly revenue thanks to the strong growth in premium segments within PCSD and the strength in the software and services business. but the all-time high pre-tax margin in PCSD and proper expansion in MBG allowed IBG to deliver a PDI of $687 million, up 17% year-on-year, and its PDI margin increased 0.8% more year-on-year to 5.5%. Next slide, please. In Q3, despite being hit by key component shortage, the PCSD business group revenue grew 3% year-on-year to a record of $11.1 billion. Our team continued to execute its strategy to capitalize on the high growth and premium segments growth potential. The revenue from premium products across workstation, thin and light, visual and gaming PC grew double digits year on year and now contribute more than half of PCSD's revenue. We are making important progress in our intelligent transformation by focusing on our software and services business with its revenue up by a strong double digit year on year and carried the highest margin profile among all products. Leveraging this strategic shift in sales mix, the PCSD business group set a record PDI margin of 6.2% in Q3 and reinforced its leadership position not only in the PC shipments but also profitability. Next chart, please. MBG also suffered from a supply constraint resulting in a year-on-year revenue decline of 17%. its focused strategy to invest and develop the business in regions where it has competitive advantages remain effective, helping MBG deliver positive PDI for the fifth consecutive quarter. Latin America remained a stronghold and MBG's margin further expanded in this region. The MBG business is accelerating its innovation by launching attractive new products, including the recently announced foldable smartphone, the Razr. this product has earned positive customer reviews and will start contributing to the business revenue as well as providing an opportunity to upsell and re-enter the premium segment. Next slide, please. In data center group, the business momentum is improving. Our server shipments grew 18% year on year, although revenue growth was again constrained by low average selling prices, a lingering problem caused by the significant correction in commodity prices. Our DCG revenue was $1.6 billion, largely flat year-on-year. Our non-hyperscale business reported its highest quarterly revenue in four years, representing double-digit year-on-year growth. We've delivered strong growth in data center infrastructure, software-defined infrastructure, storage, and software and services. Our DCG operation in China sees the opportunity to broaden its sales calculation product portfolio The storage revenue grew at a strong double-digit rate thanks to the NetApp joint venture and new product growth in entry and mid-range flasher rates. Our software-defined infrastructure product performance helped win market share and achieve strong double-digit revenue growth. For hyperscale business, the annual revenue comparison was most difficult for the period under review and therefore its revenue was still down year-on-year. The price erosion will come to an anniversary after this quarter, implying easier base of comparison going forward. Our DCG strategy is to balance between future investment and profitability. In Q3, the business further narrowed its losses by US$8 million year-on-year to US$47 million. Looking forward, macro risk factors, especially novel coronavirus outbreak, could bring short-term volatility. The unfortunate health crisis could lead to meaningful disruption in China's demand and supply chain. For us, the delay in employees returning to work had had the biggest impact on our business. The majority of our factories in China have reopened and are now operational, albeit on a limited basis due to transportation and travel limitations. Our suppliers and logistics service across the country also affected. Given the situation remains extremely dynamic, it is difficult to provide an accurate estimation of the full financial impact. Nevertheless, we believe this is a one-off event and our priority is to work with our supply chain to regain 100% capacity as soon as possible. We have contingency plans in place and will leverage our global manufacturing capabilities and strategic supplier partnerships. We expect a rebound of demand in China after stabilization of the health crisis, but the demand from the rest of the world remains strong, will help accelerate the recovery of our business in China. Further, our demand drivers could also emerge to bode well for our businesses. For example, our PCSD and DCG businesses are well poised to benefit from the trend of remote education, remote work, home entertainment, and remote health consultancy. We are confident of driving long-term profitable growth when we aim to deliver a premium to market growth on the group top slide. For PCST, our goal is to continuously deliver industry-leading profitability and increase the sales in high growth and premium segments as well as accelerating our software and services expansion to sustain premium to market revenue growth. For mobile, we will continue to deliver innovative new products Together with the launch of our 5G services, we look for potential growth opportunities by building more profitable core markets. For data center business, our journey to improvement has just begun. The trend of data growth is expected to accelerate following the development of more products and applications featuring new technologies including 5G. Lenovo will tap into this opportunity to drive growth in multiple segments including enterprise server, software defined infrastructure, storage and software and services. For hybrid scale business, the group will leverage its differentiated in-house design and in manufacturing capability to broaden its customer base. We are going to increase our pocket share within existing customers by expanding product coverage from service to storage. We expect an improvement of hyperscale business and better profitability when the new share winds are fully operational. Thank you. And now we can take your questions.