interview.jpgWhen Lenovo bought IBM's PC division in 2005, some observers in the west saw it as an ominous sign of China flexing its muscles in the US market.

Yesterday's revelation that Lenovo is negotiating to buy Packard Bell confirms the Chinese company's global ambitions, although this time the target is Europe.

Could this be another manufacturing sector that China is set to rapidly dominate? Not any time soon, although Lenovo is certainly emerging as a serious global contender.

Conditions in the PC business are particularly tough these days and Lenovo faces much the same challenges as its US and Japanese rivals. But it also faces some challenges of its own making:

  • Unlike in other industries, “Made in China” is not, by itself, a big competitive advantage in PC manufacturing — Fujitsu Siemens still makes PCs in high-cost Germany. Being able to rapidly configure and deliver products is important, however, and here Lenovo is still playing catch-up to its western rivals.

  • Lenovo is the only Chinese PC manufacturer with the scale to expand overseas. But its brand name is hardly known outside of China.
  • While its bold acquisition strategy has been widely applauded, the benefits of the IBM deal have to date been clouded by persistent losses and restructurings in the US.

Let's start with the last point. Here, Lenovo seems to be finally turning the corner. The US business has just reported its second straight profitable quarter as the measures taken to reduce overheads and head count in the US have begun to bite. Operating margins in the US have grown from just 1.6% to 3.4% — pitifully low by the standards of most industries, but pretty good for the anorexic PC business.

Lenovo also moved past Acer to regain third place in the global ranking of PC vendors with an 8% share of the worldwide PC market, according to Gartner Group.

amelio.jpgAre the improvements sustainable? To answer that and other questions, EngagingChina was fortunate enough to recently interview Bill Amelio, president and CEO of Lenovo, who says the HK-based company has indeed now reached a “tipping point”.

Amelio (pictured) joined Lenovo from Dell where since 2001 he served as senior vice president for AsiaPac, with responsibility for strategy and operations across the region. During his tenure, sales more than doubled in the region and service levels improved significantly.

That Asian experience clearly played a decisive roll in getting Amelio the top job at the Chinese PC maker.  Lenovo is not just another PC company.  For many, Lenovo is the torch-bearer for a new generation of Chinese multinationals that are out to challenge established western and Asian giants in a growing range of industries —  consumer electronics, car manufacturing, telecoms equipment and now computers.  Amelio's enthusiasm for the company is apparent.

Lenovo is a power-house in China, which is already the second largest PC market and some day it will be the number one.”

China continues to be Lenovo's most profitable market and the latest results show that unit shipments in China grew 30% year-over-year compared with 15% in the Americas.

So why did Lenovo feel it needed to go abroad when there is plenty of growth to be had at home? More specifically, why did it pay $1.75bn for a business that was losing money in the US? Amelio says:

In China, Lenovo has a great franchise and the company wanted to leverage it internationally. For example, it fulfils orders within eight days 95% of the time and no-one else can do that. Lenovo tried hard to go global but it was too difficult for a Chinese company. It didn't have any executives with global experience and it didn't have any with English language skills.

IBM's PC division, of course, had loads of English-speaking executives — too many to judge from the number of former IBMers that have been let go.

While the company promotes the idea of “one company, two cultures”, the marriage of a Chinese company with an American one has not been without its difficulties. Perhaps the most frequently reported, although hardly the most important, are the inevitable cultural differences facing Chinese executives working in an industry that is as American as apple pie — see this Time story for more on the cultural challenges.

Amelio downplays the clashes and says Lenovo is the IT industry's first true multinational and that is reflected all the way up to the top. “The chairman is based in New York, the CEO in Singapore and the CFO in HK”, he says.

Mary Ma, the CFO he was referring to, recently retired from Lenovo but she is widely credited with helping steer Lenovo's strategy culminating in its takeover of IBM's PC business.

IBM also had a good PC “franchise” in its ThinkPad line of notepad computers which are standard issue in a lot of US corporations. IBM invented the PC back in 2001 and it still commands a certain brand loyalty from corporate buyers in the US. Lenovo bought the rights to use IBM's branding for five years although it clearly wants to make a break with the past and the notebook range is now called  “Lenovo ThinkPad”.

At the time of the acquisition, IBM's PC business was losing money and facing tough price competition from market leaders Hewlett-Packard and Dell.

So, Amelio has spent the past two years restructuring the company in a bid to save the company $100m in the current fiscal year, which began on April 1.

Lenovo announced another round of cuts earlier this year, which will be felt hardest in Raleigh, North Carolina where roughly 20% of current jobs will be cut or relocated to emerging markets like China, India and eastern Europe.

The relocation is necessary because these are the countries where Lenovo's suppliers and manufacturing operations are based and they are also closer to the Lenovo's fastest-growing markets. “Restructuring is the natural fall-out of putting two companies together,” he says.

Last month, Lenovo announced it would spend $30m building advanced manufacturing facilities in Monterrey, Mexico and Himachal Pradesh, India to support customer requirements in these regions. It is looking for a similar regional facility in eastern Europe.

It already has manufacturing facilities in four Chinese locations — Beijing, Huiyang, Shanghai and Shenzhen — one in India and a new fulfilment centre in North Carolina, but it is clear that Lenovo has no plans to go back to the old IBM ways of manufacturing in the US.

Since taking over at Lenovo, Amelio has sought to cut costs while refocusing the company's sales operations on faster growing segments of the PC market including the “transactional” consumer and small business markets outside China.

The transactional or direct sales model was pioneered by Dell and while Lenovo has no plans to abandon its traditional large-account customers, Amelio says this is a slow growing business and so in markets like the US, the company needs to develop a new “hybrid” strategy to support IBM's traditional “relationship” business and new transactional customers.

Needless to say, it is in this transactional business which is driving growth for Lenovo. The company is investing in new IT systems and fulfilment centres to shake up its supply chain to better support the transactional model across all geographies.

We took the transaction model pioneered in China and introduced it in India where brand awareness shot up from just 1% to 75% in just 18 months. Now we have taken the model to HK and most recently Germany, where we have got 30% to 40% year-on-year growth. But to make the transaction business work you need a good supply chain”

EngagingChina plans to go into more detail about Lenovo's supply chain strategy in a subsequent article.

For Amelio, the biggest immediate challenge facing the company is to get its costs into line with its competitors. But he recognises that Lenovo needs to invest in its future and much of the $100m savings planned for this year will be reinvested in new facilities, R&D and promotional activities designed to build Lenovo into a truly global brand.

Gordon Orr, partner at McKinsey's Shanghai office, recently interviewed Lenovo's Mary Ma here (registration reqd).

More EngagingChina stories on Lenovo here.