Why Nokia's Turnaround Is Inevitable: Diversification On All Fronts
By The Wall Street Fox → Wednesday, July 31, 2013
Ever since Nokia (NOK) divorced Symbian, rejected Android (GOOG), and married Microsoft (MSFT), the company's performance and stock price have declined considerably. But over the past eight to twelve months, the company has gone from being written off for dead, to just barely surviving on life support…with A LOT of machines attached. While Nokia is barely moving the needle, with Q2 2013 US sales being nothing short of pathetic, the company continues to trudge on with support from Microsoft and countless mobile operators. Because of Nokia's diversification, including both their business operations and revenue streams, and their consumer product offerings, I believe it's only a matter of time before Nokia walks out of the hospital on both feet.
Mobile Phone Divisions
Possibly the greatest advantage Nokia has taken from their in-house restructuring and partnership with Microsoft is the ability to develop a phone from the drawing board to the production line in a matter of months, down from up to 22 months for Symbian models. Cutting phone development time in half and focusing on hardware (rather than both Symbian OS and hardware) has allowed Nokia to release more than 8 different Lumia models running Windows 8 (10+ if you include variants for mobile operators), and more than 5 feature phone Asha models since September of 2012. When compared to Apple's (AAPL) single iPhone 5 release in the same time frame, it is evident that Nokia has a clear sense of urgency.
While many bears make the argument that this broad range of products being released in such a short time frame is extremely confusing to the consumer, and brings down the average selling price, I would argue that Nokia has strategically priced each phone and packed them with specific features to directly aim each model at different consumers and marketplaces. The low priced models allow price sensitive consumers around the world to experience the Windows Smartphone experience with the low priced Lumia 500/600 range, while the mid to high priced models attract consumers who want better tech specs, a sleeker design, and a superior camera. Nokia is beginning to create excitement with their product offerings, more recently with the slimmed down Lumia 925, and with the jaw dropping camera quality on the Lumia 1020 (have you zoomed in on these pictures?). While the ASPs are falling, Nokia's product mix continues to shift on a regular basis, which will continue to see the ASP rise and drop. However, I'm less concerned about the ASPs and more concerned about Nokia's smart phone volume. With the Lumia 520 clearly being the driver of Lumia sales, it is heartening to know that Nokia sees this trend and is continuing to create low to mid priced Lumia phones. The Lumia 625 will be the next low budget phone that will drive Windows Phone sales.
Nokia's feature phone and Asha series continues to be the real driver behind Nokia's volume of mobile shipments, accounting for 53.7 million units in Q2 of 2013. These entry level phones tout extremely long battery life and are able to access social media which is ideal for emerging markets that tend to have high poverty rates and limited access to electricity.
Sales of Nokia's feature phone and Asha series continue to decline rapidly, more than 20% YoY, and although the latest Asha 501 and Nokia 105 began shipping towards the end of the quarter, I don't see this trend stopping any time soon. At the same time, the Lumia range saw sales increase by 85% YoY to 7.4 million units, primarily driven by the low cost 520 series, and with the recently announced low cost 4.7' screen Lumia 625, I don't see this trend stopping anytime soon. Nokia may not be able to close the gap between their declining feature phone sales and increasing Lumia Smartphone sales as soon as investors may want, but with new Lumia devices being strategically launched left and right, and Nokia's continuing ability to steal BlackBerry's core customers, they inevitably will. But if Nokia's Asha phone series acts as a true stepping stone to the low cost Lumias for customers, especially in India and China where Nokia's brand presence is huge, this gap will be closed sooner rather than later.
One of the most compelling cases to be long Nokia is the need for a third mobile operating system from the point of view of mobile operators. With Windows Phone now holding a solid third place over BlackBerry (BBRY), it seems clear that carriers around the world will begin to promote Windows Phone. A third ecosystem gives mobile carriers more diversification and increases their leverage with Apple and Android manufacturers, allowing for a more competitive marketplace. Promotional ads from carriers and increased subsidies for Windows operated phones will help boost sales for Nokia and give the operating system more exposure. Recent developments include Russian operators dropping the iPhone in favor of windows, and a more streamlined advertising campaign between Nokia, Microsoft, and AT&T in the US. Of course, with Nokia owning a commanding 85% market share in Windows Phone, they stand to benefit from free advertising and promotional efforts launched by mobile carriers across the globe.
Nokia Siemens Networks
NSN, now fully owned by Nokia after being bought out for $2.2 billion, continues to be a financially healthy subsidiary of Nokia. NSN added $1.8 billion to Nokia's net cash position at the end of Q2, and the company's operating margin stood at a healthy 11.8%. This joint venture, which was started back in 2006, has raised eyebrows for many Nokia investors, but with recent contract wins in China, solid fundamentals, and consistent operating performance quarter over quarter, the venture is finally beginning to pay off for Nokia.
The buyout of Siemens' stake in NSN was considerably low, and many consider it a steal. Bears believe that Nokia was able to catch such a great deal because the business and the telecom industry itself is not an attractive one. With no potential suitors, including a failed attempt with a private equity firm, Siemens was forced to divest its company at a discount to Nokia. Bulls argue that Nokia's purchase of Siemens' stake shows how comfortable the company is with its current cash position and that the subsidiary of Nokia may eventually hold an IPO and add significant value to Nokia shareholders. One thing is certain, when compared to peers such as Ericsson (ERIC) and Huawei, NSN is undervalued.
Nokia's mapping division Here continues to hang over the heads of many long term Nokia investors who saw it being acquired from Navteq in 2008 for $8.1 billion. The service adds significant value to Nokia Lumia users. The mapping service works offline on phones, has a strong worldwide presence, and is far more accurate than other mapping programs. While the business accounted for only 4% of Nokia's revenue in Q2 2013, the division has gained a strong presence in cars, continues to sign agreements with companies such as Ersi and governments, and is at the foundation of building up an app ecosystem for the Lumia range and differentiating Nokia's smartphones from other Windows Phone manufacturers. Nokia's mapping services clearly hold value, but for now it remains to be seen how well and to what extent Nokia can monetize this service. The company just recently announced plans to sell the Here Transit app on the Windows market place to non Lumia phones but this is incremental at best. But with the social mapping service Waze recently being bought for more than a billion dollars, there is clearly a want and need for dependable, accurate mapping systems, and Nokia has it, albeit not one that is worth as much as they paid for.
Over the past two decades, Nokia has poured more than $60 billion into research and development. Nokia's patent portfolio is massive, holding more than 20,000 patents in the U.S. and Europe. Nokia's high quality patents have reaped hundreds of millions of dollars in annual royalties for Nokia, and their strong position in 4G/LTE patents will help add to Nokia's cash position as the technology is continually deployed world wide. Currently Nokia receives royalties from BlackBerry, Apple, HTC and others. Nokia's investments in Pelican Imaging and Graphene are two exciting projects that may bear fruit for Nokia in years to come, though some expect to see the impressive Pelican imaging technology in a Nokia smart phone by 2014.
The knife has fallen and it's not too late to pick this turnaround up. YTD, Nokia is down 3.5%. The company is down 20% since I first bought 50 shares of Nokia for $5.10 in April of 2012. Since April of 2012, Nokia has introduced a plethora of new phones, bought out Siemens in its stake for NSN, and is on the verge of reporting underlying profitability. To think that this stock will remain in the low $4.00 range is foolish. With faster product development, the upcoming introduction of a new 6'' screen Lumia, the inevitable release of a Nokia tablet, and the continued growth in Windows Phone, I believe for long-term investors, this diversified technology company is a steal at these levels.