Jan. 24 (Bloomberg) -- Lenovo Group Ltd., which agreed to buy International Business Machines Corp.’s low-end server unit yesterday, beat out prospective bidder Fujitsu Ltd. because that company would have needed several more weeks to conduct due diligence, a person with knowledge of the negotiations said.
Fujitsu expressed a willingness to pay more than the $2.3 billion Lenovo offered, though it wasn’t yet ready to make a firm bid, said the person, who asked not to be named because the talks were private. Dell Inc., seen as a third potential bidder, was never serious about making an offer, the person said.
IBM, eager to sell the server division amid slumping demand for computer hardware, wanted to complete the deal quickly -- rather than waiting additional time for Fujitsu to finish its review, the person said. Holding out for a better deal could have backfired, especially since the business has been hurting IBM’s performance, said Laurence Balter, chief market strategist at Oracle Investment Research in Maui, Hawaii.
“The longer they waited, the more painful it would be to hold on to that unit,” Balter said in an interview. “The more doors they knock on, the lower the price is going to be.”
Lenovo Chief Executive Officer Yang Yuanqing said he and IBM CEO Ginni Rometty first initiated talks about the server assets one year ago. The time it took to reach agreement is comparable to the length of negotiations for the company’s purchase of IBM’s PC unit, Yang said in an interview yesterday. IBM sold its PC unit to Lenovo in 2005 for $1.25 billion.
Lenovo’s offer was bolstered because it had been pursuing the bid for a year and the company showed patience to get its desired price for the business. When IBM wouldn’t meet Lenovo CFO Wong Wai Ming’s target during talks in the U.S. in April and May, he abruptly got on a plane and flew back to Asia.
“We looked at the assets in the early part of last year, and then the process stopped,” Wong said in an interview yesterday. “Obviously there was some difference in opinion. IBM knew we were interested in the assets and they had made a strategic decision to dispose. We continued to have some contact together.”
Walking away and waiting paid off for Lenovo.
Over the next six months, the situation turned sharply in Lenovo’s favor largely because of IBM’s declining outlook in a key market: Lenovo’s home base of China. IBM’s China sales fell 23 percent in the fourth quarter, following a similar performance in the third quarter, with the largest declines coming in hardware, the company announced this week.
“IBM is losing market share in China’s market and I do not believe they will get it back in the future, as the government and state owned enterprises will buy more local brands like Lenovo,” said Kai Qian, a Beijing-based analyst at China International Capital Corp. “This situation helped prompt IBM to sell the business, and for Lenovo it’s a good time to negotiate with IBM.”
Lenovo’s talks with IBM resumed in November, Wong said.
The $2.3 billion price Lenovo ended up getting was below the bottom end of the range of $2.5 billion to $4.5 billion discussed in the first round of talks.
In addition, the final agreement was broader in scope than the initial discussions, Wong said. The final package included the x86 servers as well as System x, BladeCenter and Flex System blade servers and switches. The agreement also allows Lenovo to assume related customer service and maintenance operations, the companies said yesterday.
Fujitsu had only expressed interest in the server business after the earlier talks between IBM and Lenovo broke down, the person familiar with the matter said. When Lenovo rekindled negotiations in November, it was already months ahead of Fujitsu in the process, culminating in yesterday’s announcement. IBM was concerned that if it waited for Fujitsu and that deal fell through, it would have less leverage going back to Lenovo, the person said.
Brion Tingler, a spokesman for Beijing-based Lenovo, declined to comment on other suitors or competing bids, as did IBM’s Jeff Cross, Dell’s David Frink and Fujitsu’s Sean Nemoto.
While the deal with Lenovo is likely to draw a national-security review by the U.S. government, IBM and Lenovo expect to clear regulatory hurdles. That confidence bolstered IBM’s attitude that Lenovo’s offer was more of a sure thing than Fujitsu’s, the person said. Still, the companies expect regulators to ask for concessions before approving the transaction, and that may include sending some government work to rival companies, according to the person.
“We’re quite confident of a positive outcome,” Christopher Padilla, IBM’s vice president for government programs, said in an interview yesterday. The two companies have been through the process before with the sale of the PC business to Lenovo in 2005. That transaction was cleared after a monthlong investigation.
Fujitsu could have used IBM’s servers, which run on Intel Corp.’s x86 chip technology, to bolster its own x86 lineup. IBM was the third-largest seller of x86 servers in the third quarter, trailing Hewlett-Packard Co. and Dell, according to IDC. It sold $1.21 billion worth of the machines in the period, accounting for 13 percent of the industry’s $9.52 billion total.
While IBM shopped the server division to Dell, that company didn’t want to make a bid, the person said. Dell is struggling with its own sales slump and went private last year after a $24.9 billion buyout.
Under the agreement announced yesterday, Lenovo is offering about $2 billion of cash, with the rest coming in stock. Lenovo also will help resell some IBM equipment. That could give the Armonk, New York-based company fresh inroads into China, a market where it’s seen sales slip, Mark Moskowitz, an analyst at JPMorgan Chase & Co., said in a report.
“Given IBM’s recent weakness in China, we believe Lenovo’s presence in the region could help IBM regain momentum there,” he said.