Multinational Strategic Alliance – Lenovo acquisition of IBM PC

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Multinational Strategic Alliance

Lenovo acquisition of IBM PC

 

1.        Introduction

 

1.1    Corporate background of Lenovo

 

The predecessor of the Legend[1] Group Limited was setup as early as 1984 with the joint effort by eleven Chinese computer scientists in Beijing under the leadership of the legendary founder, Liu Chuanzhi, in the capital of China under the company name of the New Technology developer Inc (Lenovo.com.cn 2011). Starting from an agent for imported computer products in 1990 to a manufacturer and seller that possess its own brand, from Legend PC to its famous current brand name, Lenovo since its establishment has been taking aggressive strategies aiming at catching up its global competitors faced by the trend of internationalization. It had made itself known to the world not only by becoming the China’s largest personal computer maker and Olympic Top Sponsor but also by its strategic step in the late 2004 to buy the IBM’s PC division to become the world’s third largest PC giant (China Daily 2004) at that time[2]. With the vision of becoming one of the world’s great personal technology companies and the corporate culture under 4P’s as illustrated below, the company is advancing through its new own way, the Lenovo way to achieve what it has pledged.

 

l  We PLAN before we pledge.

l  We PERFORM as we promise.

l  We PRIORITIZE the company first.

l  We PRACTICE improving every day.

 

But considering that fact that many of the Chinese companies have been reportedly losing money in the foreign investment and expansion, with the analysis of the successful foreign expansion case of Lenovo this study will be focusing on providing theoretical support and pragmatic recommendations to the Chinese MNEs[3] in their internationalization process through multinational strategic alliance.

 

1.2    Case review of Lenovo’s strategic alliance with IBM

 

Preparation for the internationalization began before the acquisition with IBM as the Legend Group Limited in the early April formally changed the company’s English name to “Lenovo Group Limited” which allowed the corporate brand name to be use worldwide without the copyright restrictions that the company met using the name of “Legend” (Lenovo 2004- 2005 Annual Report). And announced on 7th December 2004 by IBM and Lenovo Group Limited, the latter would through a transaction totaled US $1.75 billion (US$1.25 billion in cash, equity) acquire IBM’s Personal Computing Division. This deal on paper seems to be benefiting to both parties of the partial acquisition. For Lenovo, there are four major benefits that it will enjoy. First of all it will have the annual PC revenue of about US $12 billion which will help enlarge Lenovo’s market by 4 times according to the released data of 2003 and it also will assist Lenovo the speed up the pace of its global strategy through the global presence and vast sale volume (about extra 11.9 million units that IBM PC originally had); and secondly, Lenovo will also combine the IBM PC’s powerful and global distribution and sales channels that extended over 160 countries and regions; thirdly also within the deal Lenovo will be entitled to use the brand of IBM within the next five years term under the licensing agreement and the permanent ownership of the well known “Think” family trademarks (Ibm.com 2004); The fourth benefit coming together with the acquisition is that within a long term, broad-based strategic alliance relationship, Lenovo will be provided with the warranty and maintenance services and preferred supplier of customer leasing and channel financing services (Lenovo 2004-2005 Annual Report). And when the actual landmark acquisition process came to a formal end in April of the next year which was 2005, by occupying an 8 percent of the global PC market by shipments, Lenovo became the third largest PC leader after Dell and HP which took up 16.4% and 13.9% respectively (Buetow 2005). On the other hand for IBM, it will gain 18.9% of the Lenovo’s equity stake and US 1.25 billion dollar cash, but it was believed that the major motive for IBM to give up the PC division was due to the company’s strategic consideration as the company had been aggressively repositioning the giant company be the world’s leading provider of innovation-enable solutions for the business of all sizes and from all industries in the fast changing information technology which required the company to be more flexible and more focusing on the creation of intellectual capital to the business clients according to Samuel J. Palmisano, IBM chairman and chief executive officer (Ibm.com 2004).

 

1.3    Objective of report

 

u  To performance a theoretical review on the strategic alliance building

 

u  To analyze the case of the multinational strategic alliance between Lenovo and IBM PC

 

u  To provide suggestions to the future development of Lenovo

 

2.        Discussion and literature of multinational strategic alliance

 

2.1    Literature review

 

A strategic alliance could be referred as a long-term cooperative arrangement between two or more independent firms that engage in business activities for mutual economic gain (Tsang 1998). So that accordingly to this definition, the multinational strategic alliance could be referred as the cross boarder long-term cooperative relationship between the two or more companies from different countries. Like any other cooperation relationship, a strategic alliance relationship needs to generate benefits to the companies involved or at least the management teams of the both firms believe so when the decision is made to start up the strategic alliance relationship as it is common experience that a company would likely to collaborate aiming get something done with the assistance of another company if it would otherwise cost more to do so internally (Hyder & Abraha 2003, p.17) or it could have a better opportunity in term of generating more output for example by performing another job which the company is specialized in. This general understanding has been with the fact that during the two decades’ term from the 1979 to 1999, approximately more than 20% of the revenue earned by the Fortune 1000 companies sourced from the alliance activities compared to only no more than 5 percent 15 years before (Cyrus and Freidheim 1999, p.47). In term of the scope or content of the multinational strategic alliance, accordingly to Varadarajan & Cunningham (1995) a strategic alliance relationship could be a comprehensive cooperative arrangement covering all the functional departments or just a single functional area or may be somewhere between these two extremes. And in term of the timeframe of the strategic alliance, there is no exact time limit about how long the relationship needs to last but what matters is the cooperation between the two companies needs to be based on the intention of mutual benefits and continual development.

 

2.2    The motivations to set up a strategic alliance

 

With the fast economy and technological renovation, it is believed that the strategic alliance has increasingly become one of the most favorable strategies that the multinational enterprises would choose to cope with the changing environments with the trend of globalization and increasing uncertainties in the market.

 

2.2.1            Scare resources control

 

There is resource perspective that understand the business success as the maximizing the power over other interconnected organizations based on the exchange of resources (Pfeffer 1981), this perspective is also known as the Resource Dependency Theory. This theory is based on the fundamental assumption that power comes from the control of the particular resources which are critical to cope with the demands from the external environment (Pfeffer & Salancik 1978). This theory also claims that firms that do not have the important resources that are critical to their business operations will try to get access to other firms through building up relationships to obtain the desired resources. So that according to the Resource Dependency Theory, if companies that are not in control of the key needed resources that are critical to their business strategy especially when in many cases such resources are not accessible through the market, then it is necessary for them to seek building up long term cooperation relationship with those who have the resources and obviously a strategic alliance relationship is a usual and frequent way of achieving this goal.

 

2.2.2            Efficiency, cost minimization and asset specificity

 

Another theory that tries to explain the firms will come into the existence and adopt any business moves is the Transaction Cost Theory that claims that a firm is constructed in a particular set-up is because this set-up will be better than other form of organizing in term of efficiency and cost minimization (Williamson 1975). Another theory that we have discussed previously in the first study that also contributes to the Transaction Cost Theory is the Hennart (2009) optimal bundling mode that suggests that the form of bundling the different companies’ assets depends on the different transactional traits, and the form of bundling the asset whether through joint venture or wholly owned subsidiary should have been selected to minimize the total cost incurred for the final production of the desired services and products. So that according to the Transaction Cost Theory we can see that efficiency, cost minimization and asset specificity are the basis of choosing a form of cooperation between the different firms and when setting up strategic alliance is the optimal way in achieving efficiency, cost minimization there will be motives for companies to seek to build up such a long term cooperation relationship.

 

2.2.3            New skills and knowledge obtaining

 

According to Bronder and Prizi (1992), alliance could be build up as an avenue for learning and obtaining the new skills from the alliance partner especially when the new skills or management practices are tacit, collective and embedded deeply in the firms so that other forms of accessing to the skills may not be available. For example agreement for the strategic alliance may include the transfer of a certain skill or technology that is core to a company to the partner which may not happen in the normal cases because such skills may be the source of core competiveness to that firm but it is possible with a long term cooperation relationship built up within the agreement.

 

2.3    Problems that may happen in strategic alliance

 

2.3.1            High failure rate of strategic alliance

 

In contrast with the increasing popularity of setting up strategic alliance especially the cross border strategic alliance, one historical issue that surrounds the strategic alliance is the fact that the failure rate of the strategic alliance is very high all the time though it is believed that the failure rate is improving with help of the more matured management theories and practices and experiences in this field. Kok and Wideman (1998) and many other similar studies had found out that the failure rate of strategic alliances is somewhere around 50 percent to 60 percent resulting in great risks to the forming of strategic alliance. There are various factors that had been proved could be contributing to the failure of the strategic alliance. And one of the most usual problems that may lead to the failure of strategic alliance is that the deal later does not turn out to be beneficial to both parties. According to a study carried out by Harrigan Company, only approximately 45 percent of the strategic alliances made both partner happy while 12 percent strategic alliances made both party unhappy and the rest are strategic alliances in which a single party becomes unhappy with the deal (Underhill, 1996, p19).

 

 

2.3.2            Cultural differences and management conflicts

 

Another important reason that contributes not only the failure of strategic alliance but also contributes to other type of inter-company collaborations such as mergers and joint ventures is the overlook of the role of the “culture clash” that could have severe influence over the continual development of the cooperation. Corporate culture cover every little behavior and convention that make the employees believe this is the way that that do doing their work and how the jobs should be done so that if enough of small groups experience stereotyping, emotional conflict and behavioral disintegration, then the overall collaboration could be jeopardized (Li & Hambrick 2005, p810). And such conflicts could also be happening among the key senior management and key personnel that may directly result in very bad consequences to the mutual cooperation such as distrust relationship.

 

2.3.3            Limitation of learning capabilities

 

As mentioned above, alliance could be build up as an avenue for learning and obtaining the new skills from the alliance partner especially when the new skills or management practices are tacit, collective and embedded deeply in the firms, by acknowledging this fact we could also see that if the partners do not learn the skills as provided by another partner which could be detrimental to the continual strategic alliance. Studies have found out that the ability of a company to learn from the other company depends on the capacity to recognize the value of the new knowledge, assimilate it and apply it for commercial purposes (Lane & Lubatkin 1998). So that the limitation of the learning capability could influence the mutual learning of the both parties and could lead to failure of the strategic alliance because if both company could not learn from each and get adapted to each other in term of sharing of professional knowledge, then there is no way the synergy could happen to benefit the both parties.

 

2.3.4            Financial risks and branding compatibility

 

Other factors that could also pose risks and uncertainties to the strategic alliance include the financial risks and branding compatibility. In term of financial risks, when two company from different market enter into a strategic alliance relationship financial risks could happen as a company may need to enter into a new market that request for vast investment that could trigger financial risks. And what’s more when the two companies work together though usually there usually will be a test to the brands’ compatibility and complementarily (Parsa & Kwansa 2001, p.331) but still the branding compatibility may not be going as expected and there is chance that the strategic alliance could fail due to the incompatibility of the brands.

 

 

 

 

 

3.        Discussion of the best practices

 

 

Figure 1 Phases in forming alliances

Source: A.S.A.P. (Strategic Alliance Best Process Workbook)

In the “Strategci Alliance Best Process Workbook” which is produced by the Warren Company and A.S.AP. (Association of Strategic Alliance Professionals), the best practices of the formation, management and evolution of the key alliance relationships is shared. The book identifies six phases that make up a comprehensive strategic forming process as showed in figure above. The book also describes the features of a well-structured alliance which include strategic synergy, great chemistry, win-win, growth opportunity and so on (see appendix 1).

 

4.        Analysis of the multinational strategic alliance between IBM and Lenovo

 

4.1    Difficulties and challenges occurred in the strategic alliance

 

4.1.1            Low investor confidence

 

Though on the paper the strategic alliance between IBM and Lenovo seems to be perfect match according to some analysis, but on the day when Lenovo announced that it would join the deal worth USD 1.75 billion to buy the IBM PC division it Hong Kong share actually drop as much as 7.5% to HK dollar 2.475 (Ft.com 2004) indicating the investors’ worry about whether the company could get benefited from the deal. Such low investor confidence majorly comes from two kind worries: on one hand as mentioned above the overall failure rate of strategic alliances is somewhere around 50 percent to 60 percent resulting in great risks to the forming of strategic alliance, this had made the investors believe that there could be high chance of failure of the strategic alliance between IBM and Lenovo; on the other hand there had been analysis doubting Lenovo’s capability to manage a business which was three times of its original size and what’s more some analysts also warned the difficulties faced by Lenovo by retaining both IBM’s original customers and employees and customers from in China while it shift its business focus from China to the foreign market.

 

4.1.2            Unpleasant financial performance

 

As suggested by (Telecompaper.com 2005) by data in the 2005, next year after the announcement of the acquisition and establishment of the strategic alliance, the gross profit margin decreased from 15.33% in June to 14% in September and at the same time the net margin drop from 1.82 percent to 1.2 percent indicating a turning bad situation in the financial performance of the company after the acquisition. And in the mean time, Lenovo also lost the market share as suggested by the CEO of its global competitor Dell that since the Lenovo acquisition of IBM PC division Dell had been winning customers from Lenovo in the global market including China.

 

4.1.3            Culture differences

 

As pointed out by Hofstede (1991) that in a high power-distance countries, there is strong dependence on the autocratic leadership and hierarchic and centralized organization structure. And in China, a high power-distance country, the business is managed in such a way is characterized by centralized power and personalized leadership which is different from that in the west. This different could be seen in the differences in the selection of communication channel. In China, formal downward communication channel widely used to transmit the decision, policy and plan made by the senior management usually the management level would not expect the lower executive staffs to give any “ideas” even in term of giving advices about the management’s decision and policies and those who doubt the viability of the company’s decisions would be considered as not loyal to the company. But in contrast, in the west especially in the United States, employees are encouraged to express their opinion and have their voice heard and even participate in the decision making process that may have closed relationship with their job and thus formal and informal upward communication is welcome from the perspective of the management. So that there had been an expected cultural clash between the two different corporate cultures, this was also confirmed by Lenovo’s vice president of HR department in Beijing, Qian Jian, as he said that “Americans like to talk, Chinese people like to listen. At first we wondered why they kept talking when they had nothing to say, but we have learnt to be more direct when we have a problem and the Americans are learning to listen”. It would be seen that though the vice president was optimistic about culture differences, but when the result of the cultures differences still need to be check, it does has threats over the strategic alliance.

 

4.1.4            Brand confusion

 

As stated in the deal Lenovo will be entitled to use the brand of IBM within the next five years term under the licensing agreement and the permanent ownership of the well known “Think” family trademarks, Lenovo will be able to use the IBM and Lenovo brands at the same time through co-branding which could be defined as the combination of two individual brands to create a single, unique product (Kotler & Pfoertsch 2010). One obvious negative effects of co-branding partnership is that consumers may be confused by the co-brand product about the value proposition of the participating brands (Norris 1992, p.25). As we know IBM as a brand has long been established as a world-wide brand as well as the Think family trademarks, but Lenovo was still unknown in the global market due to the little global presence compared to its competitor Dell or HP. The combination of these two to promote the future Lenovo products could in a certain period of time cause consumer confusion of what the brand is and inconsistent brand image to the consumers. As pointed out by Burt (2005) that the new Lenovo had a strong IBM presence together with the brand confusion in the market. So the brand equity of IBM in the PC market would certainly get damaged soon after the deal. The key problem was that Lenovo was yet to prove its capability to manage the large business and perform like a global PC leader to compete with HP and Dell to meet the expectation of consumers to the IBM brand.

 

 

4.2    Measures that had been adopted by Lenovo to cope with the problems 500

 

4.2.1            Cost control and reduction measures

 

After the acquisition Lenovo has invested heavily on the construction of its global R&D team which consists more than 2,000 talents and this R&D team bears the company’s strategic intentions to improve the customer experience of the new Lenovo products under the co-brand of Lenovo and IBM and also another strategic goal of the R&D team is to suppress the total cost of the ownership. In year 2006, the new Lenovo had proposed an organizational restructuring program which was carried out in accordance with the global business norms. For instance in beginning of the year, Lenovo declared a plan to cut about 1,000 jobs and reorganize the various units in order to make more business sense (Gu & Ratliff 2006, p.183). With the cost reduction and restructuring of the corporate organization, Lenovo managed to improve its financial performance three years after the deal in 2007 and increase the investors’ confidence on the new Lenovo. As shown in the figure below, the share price of Lenovo in the Hong Kong market had raised back since the severe drop in 2004 indicating also a rebound of the investors’ confidence in the company’s profitability and business success.

 

Figure 2 The historical trend of the Lenovo share price in Hong Kong

Source: Thomson Datastream

 

4.2.2            Capital operation

 

To deal with the financial risks, mostly due to the great cash paid to IMB as agreed in the deal and in order to maintain a healthy financial situation to comfort the investors and shareholders, soon after the acquisition with IBM PC division, Lenovo had started the capital operation to attract new investment to offset the influences by the large cash outflow paid to the IBM according to the deal. And 17th May 2005, Lenovo announced the new that it had gained a US 350 million strategic investment by three leading private equity firm in the US: Texas Pacific Group, General Atlantic LLC and Newbridge Capital LLC soon after the shareholders passed the resolution to approve the issue of the convertible preferred shares and warrants to the three firms. This in-time capital injection had brought confidence to the market to remove the investors concerns over the financial deficiencies. And since then the financial situation has been kept in a healthy status and provide great helps to the company’s strategic movements.

 

 

4.2.3            Building up a global company

 

In order to perform a further integration of the IBM’s PC business within the company and provide support to the desktop business which was faced with severe competitive pressure, at the same time when Lenovo decided to cut about 1,000 jobs it also announced to the public another decision to move the corporate headquarters from New York to Raleigh, North Carolina where the ThinkPad group was located (Infoworld.com 2006). On the other hand, changes had also been performed in the configuration of the management team in the high level. In the end of 2005, Lenovo Group Limited had announced that the board director has appointed William J. Amelio as President and Chief Executive Officer (CEO) to lead the company’s future development in hope of a better integration of the Chinese corporate culture and the western style culture in term of leadership and other management methods to cope with the culture clashes (Lenovo.com 2005). What’s more, Lenovo also changed the official language in the company from Chinese to English to remove the obstacles within the company in term of communication and information exchanges.

 

5.        Conclusion and evaluation of the methods adopted

 

With various methods adopted to restructure the company in term of physical setting as well as corporate cultures and other invisible settings, though it is yet to say whether such techniques are effective or not because we still need some time to see the long term result of the methods. But one significant and cheering fact that in the fourth quarter of 2007, Lenovo the first time managed to make a turnaround by making a quarter net profits of $60 million compared to a loss of $116 million in the same period of the previous year (Crn.com 2007). This is a milestone that Lenovo has reached, despite of the fact that greater and further efforts are still needed by the management of Lenovo to keep improving the company in term of both financial performance and business strategy as the company is still faced strong competition from the global competitors such as Dell, HP and the raising Apple. What’ more in some key performance index compared to the industrial level, Lenovo is still lower than the industrial average and so that much more effort and improvement is still needed. But still, the strong bound back had shown that the company is managing the business in a healthy direction and this help keep the confidences from the investors. But in some aspects, the changes did not go as well as expected. For example, when the PC industry fell in turmoil in the US, Lenovo had replaced William Amelio by reinstate Liu and Yang, who held the CEO from 2001 to 2004 indicating that the American CEO didn’t get along very well with the company (Businessweek.com 2009). And in another case the Chinese also experience difficulties in an English working environment in term of communication.

 

6.        Recommendation

 

Though the recent data shows again that the company has not keep the trend of growing in term of profit generation, and Lenovo is losing its customer by the hyper competition in the PC market as squeezed by the Dell, Apple and HP. But in term of the strategic alliance, in conclusion based on the analysis provided above it is faire to say that the strategic alliance has gained a phrased success. In order to ensure that the success could be maintained in the future in a long term’s perspective, here two major recommendations are provided:

 

Firstly, culture clashes is still the major challenges that the company has to deal with carefully and if not dealt with well it could render the effort obsolete and cause the final failure of the strategic alliance. This does not based on the study result that usually there is a high failure rate in the strategic alliance building, but it is also based on the recent issues that raised in the company as we can see that CEO has been replaced the employees are struggling to work in an English environment. So the first advice will be to help both the Chinese and the US staff to get along with each well and work together as a team to achieve the goals set by the management. This could be achieved by encourage horizontal and upstream communications in term of both formal ways and informal ways. And also the senior management should guild such communication activities and handles the problems that may appear.

 

The second recommendation is about the strategic consideration. As known to others, IBM computers and laptops have been famous for its high quality in meeting the need of daily and especially business needs which had help the IBM to price a high level to get a sound profit. But now as what I have observed, such advantage has been losing to the competitors and which is also the one of the motives why IBM would want to sell the business. So it is advisable for Lenovo to obtain the IBM’s technology advantages but the future is still on Lenovo management’s hand to decide which way they would like to choose. In my understanding, with the mature of the PC market, there are two ways that the company could choose. The first way is to control the cost and adopt a similar low cost way that Dell has done now, with the help of the existing good distribution channel that IBM has built, it is possible to gain a market share with Dell. The second way would be to create its own competiveness by releasing its own special product that can’t be followed by competitors. But this requires large amount of investment in R&D and may not be successful with great risks. And Lenovo has to make the changes anyway. To advance, or to die, the future is simple as this.

Appendix 1 Features of a well-structured alliance

 

 

 

Source: A.S.A.P. (Strategic Alliance Best Process Workbook)

 

 

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[1] Legend Group Limited changed its English company name to Lenovo effected from April 1st 2004

[2] The ranking has dropped to the 4th right now

[3] Multinational Enterprises

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