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Edited Transcript of 0992.HK earnings conference call or presentation 13-Aug-20 7:00am GMT

Q1 2021 Lenovo Group Ltd Earnings Call

BEIJING Aug 14, 2020 (Thomson StreetEvents) -- Edited Transcript of Lenovo Group Ltd earnings conference call or presentation Thursday, August 13, 2020 at 7:00:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Gianfranco Lanci

Lenovo Group Limited - Corporate President & COO

* Jenny Lai

Lenovo Group Limited - VP of IR

* Kirk B. Skaugen

Lenovo Group Limited - Executive VP & President of the Data Center Group

* Sergio Buniac

Motorola Mobility LLC - Chairman & President

* Wai Ming Wong

Lenovo Group Limited - Executive VP & CFO

* Yuanqing Yang

Lenovo Group Limited - Chairman & CEO

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Conference Call Participants

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* Albert Hung

JPMorgan Chase & Co, Research Division - Analyst

* Howard Kao

Morgan Stanley, Research Division - Research Associate

* Jerry Su

Crédit Suisse AG, Research Division - Director

* Sebastian Hou

CLSA Limited, Research Division - Research Analyst

* Seeching Yim

BOCOM International Securities Limited, Research Division - Research Analyst

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Presentation

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Jenny Lai, Lenovo Group Limited - VP of IR [1]

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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 COO, Mr. Gianfranco Lanci; Group CFO, Mr. Wong Wai Ming; President of Data Center Group, Mr. Kirk Skaugen; and President of Motor, Mr. Sergio Buniac. We will begin with a presentation shortly. And after that, we will open the call for questions. Without further do, let me turn the call over to Yuanqing. Yuanqing, please.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [2]

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Hello, everyone. Thank you for joining us today. Despite the COVID-19 pandemic and the geopolitical uncertainty, Lenovo delivered outstanding results in the first quarter of our fiscal year 2020/2021. In this challenging environment, our group revenue and profit both delivered strong growth. Revenue reached USD 13.3 billion, growing almost 7% year-on-year and achieved a double-digit growth without the currency exchange impact. Profit showed even stronger growth as pretax income was up 38% year-on-year, reaching USD 332 million. And the net income grew 31% year-on-year, reaching USD 213 million.

In our Intelligent Devices Group, PC and Smart Devices delivered another fantastic quarter. Revenue grew by double digits year-on-year to USD 10.6 billion. Pretax income reached USD 670 million, also up almost 28% year-on-year. We improved the industry-leading profitability by almost 1 point to a new record of 6.3%.

As I predicted last quarter, the PC market grew by double digits due to increased demand driven by work-from-home and e-learning, much more than the previous industry forecast of a market decline. Although supply shortage in Chromebook temporarily impacted our volume, we remained the leading company in PC and tablets. Particularly in the Consumer PC segment, our revenue saw strong growth of over 45% year-on-year. Volume also grew almost 32% year-on-year. Likewise, quickly adapting to consumers' new purchasing habits in laptop, our worldwide e-commerce revenue also delivered a strong growth of over 50% year-on-year. Driven by these successes, our PC and Smart Devices revenue in EMEA and China grew 30% and 18%, respectively. Our focus on high-growth and premium segments continues to drive results. We maintained a strong double-digit volume growth in Chromebook, Visuals, Thin & Light and Gaming.

Looking forward, we expect this strong PC tablet and the display demand will be a long-term trend. We will develop more innovative products to adapt to the new requirements of work-from-home and e-learning and further strengthen our global supply chain to meet the faster-growing demand. Meanwhile, we will continue to develop our e-commerce platform and the focus on high-growth segments to drive premium-to-market growth with leading profitability.

Although mobile business is still hit hard by COVID-19 and the foreign exchange rates, our revenue declined 27% year-on-year. The momentum has greatly improved. The quarter-to-quarter revenue increased 33%. Volume outgrew the market year-on-year in key markets like Latin America, North America and Europe. Particularly, we achieved a historical high market share in Latin America and North America.

Looking forward in mobile, we will continue to leverage our strong product portfolio, innovative technology, particularly in 5G, and expand the carrier range to resume profitable growth.

Our Data Center business revenue resumed hyper growth of almost 20%, and the profitability also improved year-on-year. Our Cloud Service Provider segment, what we have called the hyperscale in the past, grew more than 30% year-on-year, setting a new revenue record by capturing growing digital consumption due to the lockdown. Our customer base is also growing, thanks to our enhanced in-house design and manufacturing capabilities. Our Enterprise and SMB segment, formerly called non-hyperscale, delivered a year-on-year revenue growth of more than 9% led by double-digit revenue growth in high-growth segments such as Software-Defined Infrastructure, Service as well as High-Performance Computing.

Looking forward, we will drive long-term growth in our Cloud Service Provider segment as we add new customers and expand the share with existing customers by leveraging our unique strength in supply chain and the global footprint. For Enterprise and SMB, we will grow high-margin storage, service and software attach rates. We will also leverage our existing strength in public and private cloud to expand our edge computing business. While we further drive premium-to-market growth of this business, we will continue to focus on expense and cost management to improve profitability.

And our service-led Intelligent Transformation continued to show strong progress, thanks to our determined execution of the 3S strategy. Our smart IoT revenue grew 39% year-on-year, Smart Infrastructure was up 16% and the Smart Verticals delivered a strong growth of 65% year-on-year driven by Smart City solutions in China and the Smart Healthcare solutions in North America. In terms of services, our Attached Service; Managed Service, including fast-growing Device as a Service; and the Solutions, all realized a strong year-on-year growth of 30% or more, driving our overall Software & Services revenue to over USD 1 billion, growing 38% year-on-year, now accounting for around 7.6% of our total group revenue.

Our solid performance last quarter proves that Lenovo has quickly regained momentum from the impact of pandemic and captured the digitalization opportunities, accelerated by the new normal of remote working, e-learning and more.

In one aspect, this is thanks to our core competencies of operational excellence and global sourcing, local delivery approach. In another aspect, this is the result of our persistent execution of transformation strategy, guided by precise understanding of the technology and the industry trend. Through driving the service-led Intelligent Transformation, we will build the service and solution into our next core competence and extend our growth well into the future. Thank you.

Now let me turn it over to our CFO, Wai Ming. Wai Ming, please?

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Wai Ming Wong, Lenovo Group Limited - Executive VP & CFO [3]

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Thank you, Yuanqing. I will now take you through Lenovo's financial and operational performance in Q1 fiscal year 2021.

Next chart, please. For fiscal quarter 1, the group set a number of new performance records. Our profit attributable to equity holders increased by 31.2% to $213 million. Our group generated $13.3 billion revenue, up 7% year-on-year and 10% in constant currency. As we navigated the ongoing pandemic, our PCSD and DCG were able to capture the benefits from demand tailwinds. Both PCSD and DCG reported double-digit revenue growth. DCG's Cloud Service Provider, or hyperscale business, deliver its highest revenue in history. PCSD also reported a record-breaking pretax profit margin of 6.3%. On top of this bread-and-butter device business is high-margin Software & Services business grew by more than 4x of the group's average and emerged to be a key driver of our higher PTI margin.

The group pretax profit grew by 38% year-on-year to $332 million due partly to disciplined expense control. Our E to R ratio was reduced by 1.6 points to 12% in the quarter. Our basic earnings per share came in at USD 0.018, up 31% versus the prior year.

Next chart, please. In Q1, our cash flow generated from operations improved by $459 million year-on-year to $317 million. Our net debt level was reduced by $837 million year-on-year. The group successfully issued a 5-year note worth USD 1 billion in May 2020 to refinance our RMB 4 billion debt and repay short-term borrowings. Inventory days increased by 11 days year-on-year due to our strategic buy-ahead actions to secure critical costs, including CPUs. However, the strong order momentum has started to drive the days of inventory lower by 8 days quarter-on-quarter. We are comfortable with our inventory level in preparation for continued strength in our order pipeline.

Our account receivable was further reduced by $1.4 billion year-on-year to $7 billion. The receivable improved by 6 days year-on-year, thanks to a better efficiency in our factoring program.

Next chart, please. Our Intelligent Device Business Group consisting of PCSD and MBG, delivered yet another strong quarter with pretax profit, increasing 17% year-on-year to reach $620 million. Its revenue up a healthy 5% to USD 11.7 billion, driven by the strength in PCSD.

Next chart, please. In Q1, PCSD revenue grew by 10% year-on-year to USD 10.6 billion. Pretax margin expanded by 0.9 percentage points to an all-time high of 6.3%, while pretax profit increased by 28% year-on-year to $670 million. We saw better-than-expected demand and strong profitability throughout the quarter. We attribute such increase to the group's strong execution and multiple structural growth trends. For example, work-from-home demand has been a clear catalyst for Thin & Light notebook PC sales, while consumers are buying more gaming pieces to meet their play-from-home requirements.

E-learning has emerged as a consistent driver for education sales across all regions. The e-commerce evolution is accelerating, pushing a growing number of transactions through Lenovo's online franchise. The group was able to capture these growth opportunities to achieve record high market share in the consumer PC segment for the quarter. Our team continued to execute its long-term focus on optimizing segment profitability and expanding sales in premium products.

Since the outbreak of the pandemic, the group has seen a surge in market interest in this service capability and continued to build a strong pipeline for new contracts for DaaS, which is a soft form for device-as-a-service, particularly from global leaders in the industry, including financial services, food delivery, airline and technology. The Software & Services business under the PCSD group has grown its revenue 4x faster than the PCSD average and carries the highest margin among all products.

Next chart, please. Thanks to new product launches and broader ranging with carriers, the MBG business groups delivered strong share gains and premium-to-market growth in both North America and Europe. In Latin America, in spite of MBG share gain of 1.8 points, this was not sufficient to completely mitigate the sharp decline of the region's smartphone market. As a consequence, MBG's revenue experienced a year-on-year drop of 27% to $1.1 billion. The losses before taxation dropped $55 million year-on-year to $50 million. However, the company took swift actions to control expenses, which helped to narrow its losses before taxation by $10 million quarter-on-quarter. The business has identified a strategy in place to further improve profitability, including an active 5G model launch schedule through the development of a 5G for all market strategy. Following our recently launched motorola edge+, the fastest 5G phone in the market, we will continue our innovations and product launches, including the Moto G 5G Plus model for the Motorola G franchise, which will soon be available in the market targeting the mainstream segment.

Next chart, please. In Q1, the DCG business was able to ride on strong cloud demand and grew its revenue by 19% year-on-year to $1.6 billion. DCG successfully capitalized on the surge of cloud demand and continue its segment expansion to set a new sales record in our Cloud Service Provider business, which provide hyperscale products to public cloud service providers. [Meanwhile] we're building on our continued investment to grow in-house design and manufacturing capability but we are also expanding DCG designs to include new platforms and higher-end solutions. We are excited about the growth outlook for this business segment. The Enterprise & SMB segment under DCG also experienced robust growth across multiple product categories, including software and services, hybrid cloud and high-performance computing. Revenue of the Enterprise & SMB segment increased by 9% year-on-year. Losses from DCG business extended by $7 million year-on-year but narrowed by $17 million quarter-on-quarter to $58 million. The annual comparison was negatively impacted by the lingering impact of COVID-19 and investment to further improve the group's long-term growth prospects in regional markets, including China.

Next chart, please. Looking forward, the dynamic shift in consumer behavior has created demand tailwinds for e-learning, work-from-home, play-from-home, cloud infrastructure and 5G. We are optimistic that these long-term structural trends could enlarge the addressable market for PCSD and cloud infrastructure as well as accelerate the development of 5G services. The group will continue to exercise prudent control on expenses to optimize its liquidity and financial health. Our PCSD business will continue to drive its premium-to-market revenue growth through investment in the high-growth and premium segments. We will continue to build capabilities to drive sales growth in the Software & Services business and expand e-commerce based on its well-established infrastructure.

For MBG business, the group will invest in product innovation, including offering new and differentiated 5G smartphones. It will seek to strengthen its competitiveness in target markets to grow at a premium to the market and improve long-term profitability.

In DCG business, the group aims to deliver premium-to-market growth and improve profitability. For its Cloud Service Provider business, the group will attract new customers and expand its wallet share with existing accounts by leveraging its unique strength in the global supply chain and worldwide reach while expanding its portfolio with new product solutions and platforms.

Lastly, in the Enterprise & SMB segment, the group will grow its high-margin service attach rate, upsell premier service and expand its hybrid cloud solutions. Thank you. And now we can take your questions.

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Jenny Lai, Lenovo Group Limited - VP of IR [4]

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Now we will open the line for questions, and this section will be in English only. (Operator Instructions) Operator, I'll now turn it over to you. Please give us your instruction.

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Questions and Answers

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Operator [1]

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(Operator Instructions) The first question comes from the line of Sebastian Hou from CLSA.

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Sebastian Hou, CLSA Limited, Research Division - Research Analyst [2]

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I have 2. First one is I'd like to ask about the server business. So first of all, I want to understand your -- the hyperscaler data center progress on the design win. I think the company talked about some potential wins with the U.S. side. So how is that progressing so far? And also, I wonder your potential market share gain in China, particularly considering some of your competitors or peers in China facing some sanction risk from the U.S. side. So that's the first part of the question.

Second part -- second question I want to ask about, the device-as-a-service. So I wonder how's the implication here to the company's account receivable and factoring policy going forward. Would this change the AR working capital structurally if more business models change to DaaS?

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [3]

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Kirk, are you here?

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Kirk B. Skaugen, Lenovo Group Limited - Executive VP & President of the Data Center Group [4]

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Can you hear me okay?

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [5]

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Yes, now this time, yes. Yes.

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Kirk B. Skaugen, Lenovo Group Limited - Executive VP & President of the Data Center Group [6]

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Okay. Well, let me answer the first question. So relative to hyperscale demand, we're seeing growth worldwide. And that's both in the top 10 hyperscalers as well as in the next wave of hyperscalers. So let me cover both. Today, we're shipping to about 7 of the top 10 hyperscalers, and our demand is increasing across the board there. There's a few reasons why. First, we've gone into production on not just Intel-based solutions, but also AMD-based solutions, which has expanded our total available market opportunity. The second is we had design wins in the 4-socket and 8-socket space to, for example, run more enterprise workloads that are moved to the public cloud, for example, SAP HANA. And we've had a strong design win momentum and are now in production, which is helping the gross profit levels and profitability of that as well.

And then the third is that we're moving more of our -- both our design and our manufacturing in-house, which we've called ODM+. So we're able to support these hyperscalers in 180 markets in the world, but we're now doing our own design, both for -- in China, for China, but also outside China for outside of China requirements. And we have the ability now to manufacture worldwide, obviously, both in China but also in Mexico, Hungary and a number of our global factories.

So for all those reasons, we think that this 31% growth was significant, and we're expecting strong double-digit revenue growth on a yearly basis going forward with improving profitability both in the U.S. and, to answer your question, with China as well. Lastly, I would say, we did add a new sales force to cover the next wave, of more than 200 other next wave hyperscale customers, and that is also growing significantly for us as we do some custom designs for them as well. Thank you for the question. For DaaS...

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [7]

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Yes, regarding our China competition. So in our understanding, so all other Chinese players in the server and the data center space are not impacted by this kind of China-U. S. tensions. So they still can buy chips from Intel, from AMD and other vendors. So the competition is a sales competition. But we definitely are growing faster in China as well. We are significantly strengthening our resources in China because the market is growing fast. Regarding of the. DaaS, so I think probably Wai Ming should answer the question. So then if Gianfranco want to add some on that space.

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Wai Ming Wong, Lenovo Group Limited - Executive VP & CFO [8]

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Okay. So let me answer the, I think, the accounting issue. I think DaaS, in fact, actually, we offer our device together with a much higher service element and then sell it to the customers. Now I think the AR, we will not actually book the revenue on a higher contract value. I think we will only actually send the invoice for monthly or quarterly payments. And once we actually send the invoice, it will become an AR, and then we will do the factoring program wherever we have, I think, to actually get the cash. So that is the technical work. The question you asked about was the implication to DaaS as to AR versus our cash. I don't know whether that answers your question or not. It's not -- what I really want to say is it's not the entire contract value, we will book as revenue. I think the entire contract value represents the device together plus a higher service element, that is the entire contract value, that's spread through, say, 2 or 3 years, and then we build them every year. And the rest of the contract, in fact, actually go to -- in our balance sheet as deferred revenue. And the AR only represents, I think, the services that we deliver during the year or during the quarter or whatever.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [9]

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So Gianfranco, do you want to add something?

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Gianfranco Lanci, Lenovo Group Limited - Corporate President & COO [10]

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No, I think -- no, in the sense that we would we sell DaaS, as Wai Ming said, it's always hardware service and software together. Then I think we also use some external financing institution in order to secure the receivable, right? So I don't think we see any impact in terms of either receivable or -- accounts receivable or the factoring because it's just back-to-back with the financing institution.

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Operator [11]

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The next question comes from the line of Chris Yim from BOCOM International.

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Seeching Yim, BOCOM International Securities Limited, Research Division - Research Analyst [12]

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Right. And congrats on the good results. My first question is on the PC side. It appears you have stated that you're looking at the second quarter growing. And then to have a slowdown in December quarter, if demand was prudent. I was wondering what's the view now on the PC market over the next 6 months. That's the first part.

The second part is about your service revenue. I was wondering if you can roughly tell us what the service profit contribution is for you now since the service revenue has been growing. And for DaaS, from your commercial side of the business on the PC front, wonder if you can roughly tell us how many of your customers are choosing DaaS versus buying actual PCs. What's the portion now?

And my second question is on the financial side. I was wondering, the OpEx reduction, cost savings this quarter. I'm wondering if you can give us a little bit more color on where it came from. And also whether that is sustainable as your revenue scale perhaps continue to grow, whether we can maintain an EBITDA ratio of about 12%. What's the outlook there? And then second part is on the cash flow, any changes in how you position your cash and spend your cash as now the operating cash flow seems to be continuously improving.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [13]

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So Gianfranco, could you please answer the PC and the DaaS issue. Then the rest of the questions will be answered by Wai Ming.

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Gianfranco Lanci, Lenovo Group Limited - Corporate President & COO [14]

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On this year, I think looking at this quarter, even -- let's say, looking at the rest of our financial year, I think we don't see any slowdown in the sense that, [kindly speaking,] this quarter in terms of demand is even better than the last quarter. And we already see even the following quarter or in Q4 calendar year or Q3, same trend. And I would expect that even Q1. Frankly speaking, I think that until the first half of next year, I don't really see the PC going down. And this is due to that learning-from-home, working-from-home, playing-from-home. And it's really, I think, a change in terms of rather than 1 or 2 PC per home or per house, it's 1 PC per person. And this is becoming -- so it's also the TAM, the overall TAM is growing worldwide, which means that also the replacement will continue to top. Not only we also see a lot of people that year of their PC is maybe 3, 4 years old. They were used to work with PC maybe 1 hour per day, 2 hours per day. Now the number of hours per day, even in talking with Microsoft, is becoming much bigger. And they start to realize that the PC they have is not good enough. So it's not only people buying new PC, but it's also people replacing PC.

And then there are big education deal, big education deal in U.S., big education deal in Japan, a bigger education deal in Europe that we didn't supply yet. So this is why when I look at the trend, I think we should continue to see between single to double-digit growth for the next -- at least over the next 3 quarters.

On DaaS, what was the question?

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [15]

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So which customer will choose DaaS, which customers prefer to buy PC? So I think that's the question.

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Gianfranco Lanci, Lenovo Group Limited - Corporate President & COO [16]

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Let's say, when we talk about that DaaS, I think it's mainly Fortune 500 companies, or big companies. We have been closing a very, very large deal last quarter with one of the largest IT company in the world, frankly, [in India]. We also did, I don't know, we have -- the quarter before, it was with major airlines. So we really see a larger corporation, I would say, mainly Fortune 500 -- 1000, that are moving from CapEx to OpEx in terms of DaaS. And then as I said before, we offer not only the ARPU, hardware plus service plus software campaign. So the total value is usually in the range of 25%, 30% bigger than just the ARPU figure And as I said, it doesn't have any implication in terms of receivables and in terms of inventory because we use our external financing institution to cover it. We are also building up -- it's already running in a few countries, DaaS for SMB, I would say, not real, yet, not medium business because we start to realize that the demand is also coming from that. But for the same reason, with COVID and with the virus, people they need to [data to] expand their installed base or give PC to their employees. And I think it's a little bit like cars. I mean, today, most of the people are not buying car anymore. They buy car with a rent fee, and so between the medium business and a very large business, this is also what's happening in PC. And the pipeline as we said, the pipeline we see today, it's really, really big.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [17]

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Thank you, Gianfranco. So I want to echo Gianfranco's comment on PC market outlook. So definitely, we are more optimistic than before now. So I think COVID-19 impact to PC industry is definitely positive. So as Gianfranco said, so that will drive PC from 1 per family to 1 per person -- so 1 unit per person. So that way, we'll significantly enlarge the PC TAM from today around 260 million, 270 million, to more than 300 million. So that's our strong belief. So if you look at the recent situation, you can believe that. So actually, the growth is not driven by the emerging markets recently. It's driven by mature markets. So U.S., Europe, Japan, so the growth is higher in those markets even with 70%, 80% PC penetration rate. So there's still a need for more PC.

So I think this is just the first wave. So definitely, this trend will shift to emerging markets over time because it will prove the PC is an essential product for those people who need it to work from home and for kids who need it to study from home or take e-learning program. So that's our strong belief. Okay. So Wai Ming, could you please answer the remaining question, service profitability, OpEx reduction, cash flow?

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Wai Ming Wong, Lenovo Group Limited - Executive VP & CFO [18]

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Okay. So thanks, YY. So I think in terms of the service profit contribution to the group, I think it's roughly around, I think, the group profit of account for around 15%. I just want to make sure that you do not misunderstood that 15% because this is really the service element that account for around 30% of group profit. But in terms of profit margin, it is about, I would say, double, I think -- the gross profit margin of services is at least double or probably a little bit more than double than our hardware...

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Gianfranco Lanci, Lenovo Group Limited - Corporate President & COO [19]

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Or more than. It's almost 3x, Wai Ming.

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Wai Ming Wong, Lenovo Group Limited - Executive VP & CFO [20]

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So it's more than that because it's -- so that -- so it's -- one is an absolute dollar, the other is the margin. So in terms of operating expenses, I think, clearly, we've been actively taking actions. I think some of those are structural. For example, reducing head count, moving head count from high-cost jurisdiction to lower-cost jurisdiction. I think definitely those are sustainable. Some of those expenses are actually reduced as a result of, I think, the strengthening of the market, for example, in MBG, where our 2 main markets today in Q1, still at least, subject to lockdown. And therefore, I think we actually, I think, optimized or reduced our advertising spending. Those expenses, as and when business returns, obviously, go up. But there is a high proportion of our expenses really taking out from our structure, and those will be sustainable.

On the cash flow, I think where the improvement? I think the improvement, I think, is coming out from, I think, 2 or 3 areas. I think the fundamental one is really the operational profit of the group actually improved significantly, I think, over the last year. That actually account for, I think, one source of the improvement in cash. I think the second one is the better utilization, I think, of the factoring program. I think if you actually participated in our earnings call over the last few quarters, I think last year, in the beginning of last year, I think we actually changed the service provider. I think in the first quarter last year, I think, there is some sort of transition. And I think over the last few quarters, we continue to see improvement. And therefore, you actually see a steady improvement, I think, of our cash position and, hence, [our company sits] well. We actually see that there will be more opportunities for us, I think, to further improve our cash flow position. I think that really come out from managing -- better managing of our inventory, better managing of our account payable as well as receivables. Okay. I think back to you, Yuanqing.

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Operator [21]

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The next question comes from the line of Howard Kao from Morgan Stanley.

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Howard Kao, Morgan Stanley, Research Division - Research Associate [22]

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Congratulations on the quarter. So 2 questions. My first question is still on the PC side. Regarding Y-o-Y your statement about how the PC market will expand from 260 to 270 million units to upwards of 300 million plus, how long will that take, do you think, across how many years or quarters? And the additional PCs above the 260 million to 270 million today, do you have a rough sense of what you think will be from e-learning or from work-from-home or from -- what that breakdown might look like? So that's my first question.

Second question is on the data center side, just for a more near-term outlook going into the second half, any view or color on trajectory into Q3 and Q4, particularly the breakdown between cloud and enterprise?

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [23]

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So in my view, the PC TAM increase to 300 million should be very quick, so probably next year. So probably -- so Gianfranco, can give your opinion as well?

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Gianfranco Lanci, Lenovo Group Limited - Corporate President & COO [24]

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Well, I think, as I said, if I look at the current quarter and also the Q4 calendar year, Q1 next year, in my opinion, we can probably reach something in the range of 300 million within the first half of next year because we really see the growth quarter-by-quarter. And I think -- only last quarter, if I'm not wrong, market compared to the year before has been growing in the range of 6 million to 7 million, right? So fourth quarter at 7 million, it's already 30 million. And we see this quarter and next quarter, it's probably growing even faster. So I think 30 million, for sure, within the first half of next year should be achievable. On the street, I would say, probably 20%, 25% is going to be Chromebook and the rest is between consumer. Consumer, I mean, traditional consumer, including gaming. So average good AUR, not only entry and for bigger [bids] and some commercial. But I would say 70% is traditional PC, 30% can be Chromebook or WinBook. So really, solution for education. In the 70% traditional PC, I would say, a big portion is consumer, including gaming, and there is probably another 20%, 30% portion of the 70% that is going to be SMB or commercial.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [25]

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Yes. But meanwhile, so Gianfranco, so actually, so our -- last quarter, so AUR is better than previous year. So our revenue growth was higher than our volume growth. So that's another point I wish analysts could pay attention to.

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Gianfranco Lanci, Lenovo Group Limited - Corporate President & COO [26]

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And this is due to gaming growth.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [27]

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Yes. Even with the higher growth in Chromebook, so we still manage a higher AUR than previous year.

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Gianfranco Lanci, Lenovo Group Limited - Corporate President & COO [28]

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It's coming from gaming and Thin & Light.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [29]

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Yes, gaming and Thin & Light. So -- yes, so other consumer products are growing faster as well. So education and consumer PC, particularly consumer PC in the high end. So regarding of the data centers, Kirk, can you give outlook on the market?

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Kirk B. Skaugen, Lenovo Group Limited - Executive VP & President of the Data Center Group [30]

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Sure. So again, I think we set a new revenue record this quarter with a 31% growth. I think interesting to note, this is the first quarter in Lenovo, and probably IBM, prior to that history where our hyperscaler Cloud Service Provider business is larger than our Enterprise & SMB business, I think that will continue. You know it's a very kind of cyclical but lumpy market. So we think it will maintain strong double-digit revenue growth for the year, but it probably will reset to a more sustainable level in the second half. That's our prediction. But our goal is to continue to grow at a premium-to-market. If we look at Enterprise & SMB, per IDC, we've now had 3 consecutive quarters of premium-to-market, and I expect that to happen this quarter as well, which would make it our fourth consecutive quarter. So regardless of what the market does, we believe we're well positioned because we're attaching more premium services and more professional services. With our joint venture with NetApp, we're attaching more storage. We have a number of new enterprise software contracts with some of the largest software companies in the world. So we're improving our software attach.

And our HPC business continues to grow. As you saw, we expanded our #1 position in global supercomputers as well and are continuing to win some large supercomputing deals around the world as people look for vaccine, research in COVID and this kind of thing. So I would say that Cloud Service Provider business will grow faster than Enterprise & SMB. We're probably less susceptible than our competitors to a softening SMB market just based on the history of our account base. And our goal is to continue to grow at a significant premium-to-market in both Cloud Service Provider and the Enterprise & SMB segment while improving profitability. Thank you.

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Operator [31]

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Your next question comes from the line of Jerry Su from Crédit Suisse.

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Jerry Su, Crédit Suisse AG, Research Division - Director [32]

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My first question is regarding -- I think in your prepared remarks and also the supply chain, we are seeing the PC industry is still facing some component shortage. I would like to know from Lenovo's perspective, which area are you facing more constraint? And how is this impacting the past quarter and also the next few quarters of your PC shipment?

The second question is on the channel inventory side. Can you give us some color about the channel inventory on the PC? Are we seeing more restocking demand? Or is the channel inventory still lean and then consumers are still quite eager to buy PC during the COVID outbreak?

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [33]

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So Gianfranco?

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Gianfranco Lanci, Lenovo Group Limited - Corporate President & COO [34]

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Okay. Let me start from there, from the shortage. I think when we look at shortage and mainly coming from, I would say, 2 major -- 2 components. One is display. I would say, any kind of display. And the other one is IC. In the form that we have been able to manage quite relatively well some CPU shortage, some other things. But main shortage is LCD and IC. IC for LCD, IC for motherboard. Is there a major impact on our shipment? I would say, not really in the sense that it is slowing down a little bit, the lead time of the product but not really a big impact in terms of shipments or in terms of order loading. I think we will see some good improvement on the IC in the next couple of quarters. Display, I think we also want to see some improvement, but it probably is going to take a little bit longer because they need to move production. They need to change production from the TV to notebook display or even to monitor display.

Channel inventory, frankly speaking, is probably even lower than what we did simply because I see the order loading is soft since the lead time, in certain cases, it's getting a little bit longer. As I said, we normally closed the quarter with 1 million, 1.5 million of orders, not shipped. Last quarter, we were in the range of 4 million to 5 million, and we will continue to have 4 million to 5 million despite the very good growth. So channel inventory is a problem and it's not enough. And they should talk with the channel. They are even complaining a little bit because it is not enough. We really don't see any channel inventory issue anywhere in the world. I speak from our side, but also relatively speaking also from competition because competition is more or less in the same situation in terms of shipment.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [35]

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Yes. So we have a very strong demand of order load. We -- a big portion of that, we cannot ship last quarter. So we think the current quarter is a similar situation. So we are trying to drive more supply, particularly on the display, on the IC. So that's -- we don't have a big channel inventory issue. That's the answer.

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Gianfranco Lanci, Lenovo Group Limited - Corporate President & COO [36]

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No. I think it's the other way around.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [37]

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Yes. It's the other way around. Yes. Sure.

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Operator [38]

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The next question comes from the line of Albert Hung from JPMorgan.

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Albert Hung, JPMorgan Chase & Co, Research Division - Analyst [39]

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My first question is on server. The revenue actually grew 20% year-on-year last quarter. But if we look at the bottom line, actually, it did not improve. So could you share some color, some -- why the earnings improvement is quite limited last quarter? And when could we see the inflection point of the server profit? And my second question is on mobile. When would you expect a meaningful recovery in demand? And they say, if the volume is back to, say, 9 million above, could we extend this bad turnaround in this business in second half?

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [40]

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Okay. So Kirk, go ahead.

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Kirk B. Skaugen, Lenovo Group Limited - Executive VP & President of the Data Center Group [41]

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Sure. So I think a few things. Number one, we're continuing to invest as a -- for a premium growth to market. So we did make some significant investments, particularly in China. As we look to grow our professional services business, we announced, for example, a major smart city initiative with [Meishan] this quarter. But we are making investments that we believe will result in long-term growth at a premium to market in a very critical market for us, China. The profit comparison year-on-year, I think, partly is due to a mix shift between SMB moving to some hyperscale business, particularly in this COVID situation. So that mix shift, I think, did impact margins somewhat. Having said that, we've been driving a number of expense initiatives and recently announced, for example, some moves, as Wai Ming said, from high-cost geography to low-cost geography as well as some reduction in force in other parts of the world. So those major expense actions were really -- we're not seeing this quarter, and will start take into effect dramatically next quarter, which will, again, help improve the profitability.

So our goal, to be very clear, is in hyperscale. We think our profitability will continue to improve. If you just look at that segment because we're shipping storage, not just server; we're shipping AMD, not just Intel; and now we're ramping not just commodity 2-socket systems but actually 4-second and 8-socket class systems across a number of players; as well as growing our next wave business, not just the Tier 1 business, which tends to be a bit more profitable. And then those expense actions will kick in beginning this next quarter -- the quarter we're in right now, rather.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [42]

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Yes. So the market is quickly shifting from a traditional enterprise and SMB market to a cloud service provider market. So we have to adapt to this change quickly. So definitely, one important fact to address this change is we need to strengthen our in-house design and manufacturing capability. So only with that capability, we can better address the cloud service provider market, so with better profitability. Now we have invested significantly in this space. So if we can address this market better than our competition, better than before, so we think we can have -- we can also have the better profitability in traditional enterprise and SMB market as well. So that will be Lenovo's strategy.

From [wide gap] where-- I think Lenovo has been a very unique company in the data center market. So as you can see, so we have a very balanced business in both Enterprise & SMB and Cloud Service Provider. But meanwhile, we are trying to build the different core competence in each of these 2 markets to compete.

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Jenny Lai, Lenovo Group Limited - VP of IR [43]

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Thank you. Due to limited time, we are now...

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [44]

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No. No. Sorry. So Jenny, we need Buniac to answer the second question, mobile.

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Sergio Buniac, Motorola Mobility LLC - Chairman & President [45]

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So we are seeing a good recovery in the market. If you compare already April to June, our activation grew almost by 100%. So through the quarter, we saw recovery. We expect the recovery to continue this quarter and extending into the next -- second half of our fiscal year. In July and August, quarter-to-date, our activation sellout is almost flat, like it's 0.5% year-over-year, that shows the market is recovering, and I believe we are recovering a little faster than the market. So I believe the market is going to see a good recovery, and we expect to still recover premium-to-market in the next 2, 3 quarters at least. And also there are more 5G launch upcoming. The mix is like 5% lower, but in the next 2 to 3 months, as 5G starts deploying, we also see an improvement in the mix, especially for the last quarter of the calendar year.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [46]

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So yes. So I want to echo to Buniac's point. So although last quarter, our MBG business declined, but we see the momentum is getting stronger. So in our key markets, Latin America and North America, we both outgrew the market. And as I said, a record market share -- delivered a record market share. So even in Europe, so we see the very strong year-on-year growth in premium-to-market. So -- and also based on our activation -- the smartphone activation rate, so we see a growth recovery of the market. So in Latin America and North America, almost back to the normal. So if you consider year-on-year, so we are confident. So we will quickly recover this business in current quarter and the future. So we want to drive profitable growth in this business.

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Jenny Lai, Lenovo Group Limited - VP of IR [47]

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Thank you, YY. And thank you, Sergio. Due to limited time, we would like to conclude the call now. And there are still quite a lot of questions in the pipeline. Please feel free to contact me directly. And the replay of this webcast will be available in the next couple of hours on our Investor Relations website. Thank you again for joining us. Thank you. Bye-bye now.

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Yuanqing Yang, Lenovo Group Limited - Chairman & CEO [48]

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Thank you. Bye-bye.