Pursuing scale in mobile devices weighs on Asus results

ASUS devices
Jack Narcotta, senior analyst at TBR, says success in premium PC markets has helped strengthen Asus overall gross margin, but an aggressive mobile strategy is thinning operating profits.

Global sales and marketing campaigns focused on two growing segments of the premium PC market — gaming PCs and thin-and-light notebooks — have amplified Asus’ brand in this lucrative segment, allowing it to buck the global trends of declining PC unit shipments and PC margin erosion. With PCs typically accounting for 60 percent to 65 percent of Asus’ overall revenue each quarter, and its overall PC product mix shifting to premium devices, the PC segment is fuel for Asus’ overall gross margin stability even as overall revenue growth remains elusive.

However, Asus’ aggressive mobile strategy — the company forecasts revenue from its Mobile segment will surpass its PC revenue in 2018 — is affecting its financial health. The operating expenses required for Asus to support expanding its smartphone presence into Brazil, China, the U.S. and Russia pose a significant threat to its operating profitability. Intense competition, particularly from Huawei and Samsung, in Asus’ core market is weakening demand for Asus’ smartphones, which TBR estimates contributed to Asus’ Mobile segment revenue decline of 26.5 percent in Q2 2016, to $522 million. Increased operating expenses, especially sales and marketing, to support the Mobile segment effected a 53 percent decline in Mobile operating income, robbing Asus of $28 million in overall operating income.

Asus’ revenue fell 10.2 percent in Q2 2016 to $2.9 billion, gross profit fell 16 percent to $388 million and operating income tumbled 24.2 percent to $116 million. Foreign exchange rates, particularly in APAC, contributed to the revenue decline, but lower ASPs in Asus’ PC segment were also a factor. Asus’ PC business remains among the healthiest in TBR’s devices ecosystem in margins, but thinning gross and operating profits will make it more vulnerable to changes in its target device markets.

Larger operating losses from Asus’ Mobile segment are offsetting its momentum in premium PC markets

Asus has proven adept at augmenting its go-to-market and product development strategies to shifts in the market as well as evolving its longer-term initiatives to ensure its brand and devices are viewed as influencers and innovators in the devices market. When the 2-in-1 PC market became saturated with competition and demand for Asus’ T100 PC slowed, Asus sensed opportunity in PC gaming and shifted its strategy 12 to 18 months ahead of its competitors, allowing it to stake large claims in APAC and EMEA gaming markets.

In Q2 2016 Asus stated its Republic of Gamers (ROG) PC gaming business grew 60 percent and forecasted 50 percent growth for the ROG brand in 3Q16. The positive ripple effect from the ROG brand has also helped raise awareness for Asus’ premium notebook PCs, especially its $999 ZenBook 3. Asus reported ZenBook 3 sales climbed 16 percent in Q2 2016 and forecasted a increase of 98 percent for the ZenBook 3 in 3Q16.

However, wider operating losses in Asus’ Mobile segment are squelching much of the momentum of its PC business, highlighting the challenges ahead for the company overall. Lower smartphone unit shipments and ASPs for Asus in Q2 2016 are clear indicators of more competitive markets, which will amplify the impact of the investments necessary for Asus to expand and operate its network of channel partners.

Asus is still able to use profits from its PC segment to bankroll its initiatives in mobile as well as in emerging technologies such as robotics, virtual reality and Internet of Things that promise to create new selling opportunities for Asus’ PC and mobile devices. Initiatives to expand Asus’ presence in smartphone price bands above $300 will help stabilize, if not improve, Asus’ overall gross margin, as TBR estimates the profile of the bulk of its mobile business mirrors its PC segment.

However, given the operating expenses required to support the volume-centric smartphone sales strategy necessary to gain scale outside its install base in Southeast Asia, TBR believes Asus risks falling into a prolonged period of operating loss it is not equipped to endure should its PC segment falter.

By Jack Narcotta, senior analyst at TBR