Microsoft Corporation’s new Windows 10 operating system released on 29 July will not reverse declining PC sales, says Fitch Ratings.
Fitch believes that PC demand will remain structurally weak, exacerbated by users’ adoption of touch screen-enabled larger smartphones and tablets. Demand could fall further as vendors look to raise prices in Europe and Japan to offset the effects of a rising US dollar.
Microsoft’s decision to offer Windows 10 as a free upgrade is likely to shrink PC shipments further, unlike in the past – when a new Windows operating system incentivised consumers to buy new PCs. The free upgrade is likely to extend the PC replacement cycle, given that Windows 7 is compatible with Windows 10. However, Windows 10 should benefit sales in the hybrid laptop market which is still a niche area, with its new gesture- and voice-control features. Annual PC sales have been declining since 2012; and shipments will drop by the mid- to high-single digits to 300 million units in 2015, according to market forecasters.
Notably, too, we expect that Asian sales growth will no longer be strong enough to offset declining sales in the US and Europe. Tablets and smartphones present stronger competition for PCs in developing markets, as a smaller proportion of emerging-market consumers own more than one computing device. Steep declines in global PC shipments in 2015 are also due to a rising US dollar and temporary demand growth stimulated by Microsoft’s 2014 decision to end support for Windows XP.
The profitability of most PC vendors is likely to be hurt by shrinking sales; a market which is consolidating but still competitive; rising inventory levels; and unfavourable currency effects. Average operating margins for the top three PC vendors have halved to about 3%-5.5% since 2011-2012. Of the three, Lenovo has the best operating margin at 5.5%, and derives a large part of its profitability from the Chinese business PC market. The PC operating margin of the second-largest manufacturer, Hewlett Packard has narrowed to 3% (2011: 5.5%). This should expand, however, from expectations of higher-profit-margin product sales, market share gains and cost restructuring. Dell has stopped disclosing PC profitability following its leveraged buy-out in 2013.
We believe that PC market share will gradually consolidate among the top-three vendors, and could drive a modest expansion in profit margins. Market leaders are focusing on profitable growth and a richer sales mix of hybrids, thin and mobile products, the commercial market and services.
The big three firms have gradually gained market share, and now control about 51% versus 45% in 1Q14. Lenovo’s “protect and attack” strategy – whereby it focuses on protecting its Chinese market share while boosting its share in US and European markets – is bearing fruit. The company has increased its PC market share by 200bp to 19.5%, and has been the PC market leader for eight quarters.
