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Introduction

In an earlier article I presented an argument which doubted the revival chances of Nokia (NYSE:NOK). This article presents a more quantitative probing of Nokia as a potential bargain at the present prices. It examines Nokia from a balance sheet perspective by calculating the value of the assets of the company relative to its share price. If company value measures derive purely from a balance sheet perspective and are very low compared with the share price, it means that every investor has to pay highly to expect a future increase in sales. On the other hand, if the measures of the company value derive purely from a balance sheet perspective, making up a significant percentage of the share price, then you can comfortably place a bet on that company. In this case, even if the future sales projections go wrong, the assets on the balance sheet will not allow the price to fall by much.

Analysis

The earnings number of Nokia paint a gloomy picture. Overall the company has been declining in almost every metric. The earnings have declined every year. Nokia has not even reduced operating expenses by much and the interest expenses have actually gone up.

2008

2009

2010

2011

2012

Revenue or Sales or Top line

$ 50,830

$ 40,984

$ 42,446

$ 38,659

$ 30,176

Total Operating Expenses

$ 12,436

$ 12,067

$ 10,747

$ 12,392

$ 10,693

Interest Paid or Interest Expense

$ 185

$ 265

$ 285

$ 102

$ 340

Income before tax

$ 4,982

$ 962

$ 1,786

$ -1,198

$ -2,644

Provision for Income taxes

$ 1,083

$ 702

-$ 443

$ 290

$ 1,145

PAT or Net Income

$ 3,998

$ 891

$ 1,850

$ -1,164

-$ 3,106

Earnings per Share

$ 1.07

$ 0.24

$ 0.50

-$ 0.31

-$ 0.84

While earnings have been negative from 2011, Cash flow from operations also became negative last year.

2008

2009

2010

2011

2012

Cash flow from operating (NASDAQ:CFO)

$ 3,205.00

$ 3,247

$ 4,774

$ 1,137

$ -354

Stock Price

$ 13.00

$ 15.65

$ 8.34

$ 5.47

$ 3.90

Due to these numbers, Nokia is currently selling at a low Price to Sales (0.4 compared to 1.6 industry average) Price to Book (1.3 compared to 2.2 average) ratio (Price to Earnings is currently negative thus not a meaningful comparison to the industry average). Such low multiples also make an investor wonder if the stock is sufficiently cheap now for me to buy it as a bargain.

An investor can hope that he is right about the future products of Nokia and the market consensus is wrong. Such analysis focuses on the income statement, the earnings projection and how well the products of the pipeline of Nokia would do. Given the dismal earnings numbers of Nokia (as presented earlier) an investor has to be very confident about an upturn in the prospects of the company.

However, another way of evaluating a stock selling at low multiples is to look at it from a balance sheet perspective. The balance sheet represents a snapshot of the business on a particular day, the money invested in the business, cash in the company coffers, inventories, fixed assets and all the liabilities, which are the claims of the lenders on these assets. As the income and cash flow numbers of Nokia have taken a beating, the numbers in the balance sheet have also shrunk over the period of five years. However, some balance sheet numbers have improved as shown.

Break up of capital invested in business:

2008

2009

2010

2011

2012

Net Fixed Assets

5.28%

5.22%

4.99%

5.02%

4.78%

Net Working Capital

10.40%

23.57%

24.55%

22.13%

20.81%

Cash on balance sheet

17.23%

25.75%

32.34%

30.11%

33.09%

Non Operating Assets

32.90%

28.70%

25.62%

24.67%

25.51%

Essentially, the numbers show that Nokia is getting better in percentage terms in managing its assets. This is also reflected in the improvement of the fixed asset turnover ratio. Moreover, the percentage share of cash on the balance sheet and working capital has improved.

2008

2009

2010

2011

2012

Fixed Asset Turnover Ratio

24.26

21.95

21.72

21.25

21.09

Because the percentage of cash and the working capital on the balance sheet have been increasing continuously over the last five years, the company will reach a point when the liquidation value will be more than its capitalization value. The liquidation value of the company is simply the dollar amount which the stock owners will get on the current date if the business was to close its operations. One harsh way of measuring liquidation value is to assume that all fixed assets and inventories would be worth zero in a fire sale, and only the cash on the balance sheet will be valuable. Thus the value of the company will be cash on the balance sheet minus all liabilities, divided by the number of shares outstanding (since the lenders have to be paid back). Such a metric for Nokia presents the following picture.

2008

2009

2010

2011

2012

(Cash + Liquid Assets - All Liabilities)/ Number of Shares Outstanding

-$ 0.39

-$ 0.08

-$ 0.14

-$ 0.11

-$ 0.33

Percentage of share price accounted by above value

-1.22%

-0.61%

-0.91%

-1.29%

-6.10%

The number is negative (and was negative throughout last five years), which should not come as a surprise as this is the case for most listed companies. Occasionally you do find a company whose value as represented by the above metric is less than the stock price. Thus Nokia is not a bargain, as measured by this, admittedly, very strict criterion.

Another way of measuring liquidation value is by assuming that in a fire sale the inventories of Nokia would be sold for the value that is currently represented on the balance sheet (instead of assuming it would not be sold for anything in the previous calculation). So you can sell your inventories, pay the lenders with the money and distribute the remaining cash (if any) to the shareholders. Such calculations for the last five years are shown and this fire sale value was worth 0.12% of share price somewhere in 2010.

2008

2009

2010

2011

2012

Net Net Working Capital (Current Assets - All Liabilities)/ Number of shares Outstanding

-$ 0.02

$ 0.01

$ 0.03

$ 0.01

-$ 0.03

Percentage of share price accounted by above value

-0.04%

0.03%

0.12%

0.07%

-0.34%

Nokia would only have been a bargain if either of the liquidation value (per share) reached a percentage number close to 70% or 80% of share price.

The fact that it is nowhere close to being a bargain may force the reader to ask why I even bother mentioning it in the first place. While it definitely would have been interesting if the stock price was close to its liquidation value (as in that case it would have been a screaming buy), the fact that the stock price is nowhere close to being a bargain from this perspective is also worth mentioning.

Final Words

All the analysts who are betting that the next product of Nokia will do this, that or the other; need I remind you that from a balance sheet perspective Nokia is not worth much. In other words, you are betting too heavily on the future success of Nokia's products. If the liquidation values were even 40% or 60%, an investor could have taken comfort in the reasoning that even if a few more products fail in the market, there is some cushion provided by the cash and current assets on the balance sheet. That is not the case and given how dynamic Nokia's particular sector is, no one would deny that there is a good chance that its next few products may fail miserably. (Check out Part 2 of this article here.)

Source: Think Twice Before Betting On Nokia At Current Price - Part 1