Five short years ago, Nokia shares traded near $40, as the company was hailed as the world's leading handset maker. On July 18, 2012, Nokia stock concluded its staggering collapse to touch the 52-week low at $1.66, before recovering sharply to $4, for a 140% gain over the past six months. This surge is largely due to surprisingly strong Holiday Sales for the Nokia (NOK) Lumia 920 handset that helped this company turn a small quarterly $255 million profit. Investors who hold Nokia stock implicitly argue that handset sales will expand upon last quarter's performance. I, however, would counter that Lumia 920 production is a consequence of 2012 Holiday Season demand, which will precede a sharp decline in sales throughout 2013. Conservative investors should quit while they are ahead, sell Nokia stock, and take profits.
The Consumer Electronics Ecosystem
In early 2011, Nokia and Microsoft (MSFT) detailed plans to build out a new ecosystem. The strategic partnership began as an implicit agreement to combine Microsoft software, cash, and marketing, alongside Nokia hardware to develop an ecosystem that directly competes against the Google (GOOG) Android and Apple (AAPL) iOS platforms. Within months of negotiating the deal, however, Microsoft effectively abandoned its half of the partnership. Microsoft, ever the turncoat, is licensing out Windows software to Samsung, Huawei Technologies. Outside of these partnerships, Microsoft has also taken the initiative to bring its own Surface tablet to market, while Silicon Valley insiders continue to speculate that a Microsoft smart phone is up for launch out of the bullpen. The Nokia - Microsoft relationship may be described as fractured, at best.
On January 3, research firm comScore released its latest report for November 2012 U.S. mobile market share. This report averages out data for the quarterly period between August and November 2012. The Google Android and Apple iOS operating systems control 54% and 35% of the smart phone market, respectively. Meanwhile, Samsung and Apple now sit atop the handset side of the ledger, as items one and two on this list. In fact, each separate wing of the Google Android - Apple iOS complex consolidated power over the prior quarter with gains in share. At the bottom of the heap, Research in Motion (RIMM) (BBRY) - BlackBerry, Microsoft - Windows, and the practically defunct Nokia - Symbian, are now left to war over a paltry 11% smart phone market share. Nokia is forced to forge ahead in this environment - without its own ecosystem to call home. Musician Stevie Wonder would dismiss Nokia as Microsoft's Part Time Lover.
Nokia Lumia Specifications
Nokia pitches the Lumia 920 as the premium Windows phone. This Lumia phone is "designed to wow," as it is manufactured in five separate colors including red, gold, and turquoise. This phone is notable for the picture clarity of its 8.7-megapixel PureView camera alongside the striking functionality of the Nokia Maps application. Qualcomm's (QCOM) popular Snapdragon dual-core processor is the engine driving the Lumia machine. Last spring, rapper Nicki Minaj headlined the Lumia 900 launch at Times Square in New York City. This marketing plan, alongside the design of this phone, indicates that Nokia executives are attempting to copy the Google - Apple playbook of performance, minimalism, and counter culture branding. At this junction in time, however, the easy money has already been made. Ironically, Nokia is part of the charge towards product commoditization that will drive down margins for all parties.
The mobile service provider business model subsidizes up-front hardware sales, in exchange for ongoing subscription revenue. AT&T (T) now offers the Lumia 920 handset for $99, if customers agree to the terms and conditions of a two-year service contract. The unlocked Lumia 920 retails for $449 at AT&T. Alternatively, AT&T sells service contract and unlocked Apple iPhone 5 handsets for $199 and $649 respectively. AT&T therefore saves $100 in up-front subsidies for every Lumia 920 sale that closes at the expense of the Apple iPhone 5. Certainly, AT&T executives will issue orders for retail personnel to meet aggressive Lumia sales quotas out on the floor. In the past, however, these very same incentives have done little to alter the dynamics of the smart phone market. Last year's Lumia 900 and Apple iPhone 4 both now sell for ninety-nine cents at AT&T.
Going forward, Nokia engineers must compete against fresh offerings from Samsung and Apple that will repeat this cycle. On January 30, Research in Motion brought it latest BlackBerry 10 operating system to market. Research in Motion is typically hailed by corporate and government leaders, who demand secure and functional technology. A recent deal between RIM and Visa (V) executives will transform BlackBerry 10 phones into virtual wallets. Research in Motion will work to expand sales through near-field communications, before rivals encroach upon this market. The smart phone market is quickly degenerating into a crowded game of musical chairs, where two winners take all. Without a blockbuster launch, Nokia and lesser players will be forced to preserve shareholder value through financial engineering. The Lumia, although a small win, is no blockbuster event.
The Bottom Line
On January 24, 2013, Nokia released its 2012 annual report. A quick review of the report indicates that Nokia financials have been deteriorating sharply over the past two years, before promptly reversing course in Q4 2012. This latest quarter may prove to mark the perfect storm of Holiday Season sales and Apple iPhone 5 supply chain inefficiencies, rather than the spearhead of a long-term trend towards sustained profitability. Nokia reported an operating profit of $596 million on $10.9 billion in fourth quarter revenue. For the year, however, Nokia posted $3.1 billion in losses on $41 billion in annual revenue. The prior year, in 2011, Nokia lost $1.5 billion. For the past two years, Nokia has effectively floated the note for survival, with the help of debt refinancing, real estate consolidation, and layoffs.
During this latest earnings report conference call, Nokia executives eliminated the dividend, while also warning of weakening smart phone sales going forward. Eliminating the dividend will preserve $1 billion worth of cash as shareholder equity. Over the next year, fading demand for the Lumia line will force asset write offs and tightening liquidity. Nokia, with its $15 billion Wall Street market capitalization, closed out its 2012 books with $40.7 billion in assets above $19.9 billion worth of liabilities on the balance sheet. Broken down further, Nokia's assets include $14 billion worth of investments and cash. In order to avoid a liquidity crisis, Nokia will be forced to aggressively sell off $2 billion worth of inventories, while also collecting $7.5 billion in receivables over the next eighteen months.
$4.9 billion in Nokia goodwill must be also written down to reflect a new paradigm. Mobile intangible asset valuations peaked last summer - with the $12.5 billion Google buyout of Motorola and bruising Apple versus Samsung patent infringement litigation. Earlier this month, the Federal Trade Commission ordered Google to provide competitor access to the former Motorola patents "on fair, reasonable, and nondiscriminatory terms." The collapse of the patent bubble means that Nokia business units are now even less attractive to prospective buyers.
Nokia stock is now a strong sell.