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Taking a cue from an article in businessinsider.com, Nokia (NOK) in its most recent 20F filing says the following under risk factors:

Other manufacturers also produce competing mobile products which are based on the Windows Phone operating system. We may face increased competition from other manufacturers, including Microsoft, who already produce or may produce competing Windows Phone based products. Increased competition within the Windows Phone ecosystem could result for instance in lower sales of our devices or lower potential for a profitable business model.

Now I am not sure if this clause is appearing for the first time in a SEC filing, but logic dictates this has always been a risk factor for Nokia from the start.

I was always wondering why Microsoft (MSFT) didn't make a phone of its own to begin with. I mean, what's wrong with making your own phones instead of licensing the software? Apple (AAPL) seems to be doing OK not licensing anything to third parties, why can't Microsoft do the same?

The answer is that it can. As to why it doesn't is another question. Several reasons might be:

1) Microsoft does not have a lot of experience in designing and manufacturing hardware. To this date it still does not make any PCs of its own.

Answer: So what? It's never too late to get in the business. Since anyone can make a smartphone these days, why not Microsoft?

2) Microsoft is making good money licensing the W8 phone operating system today, why spoil a good thing?

Microsoft is actually making no money at all today. If Nokia in the long run is successful in promoting Microsoft's smartphone platform, Microsoft will eventually make money, but even then not that much. According to another recent Nokia SEC filing:

The remaining minimum software royalty commitment payments from Nokia to Microsoft are expected to exceed the remaining platform support payments from Microsoft to Nokia by a total of approximately EUR 0.5 billion over the remaining life of the agreement.

However, in 2013 the amount of the platform support payments from Microsoft to Nokia is still expected to slightly exceed the total amount of the minimum software royalty commitment payments from Nokia to Microsoft.

So even in 2013, Microsoft will still be paying Nokia and in the end, Nokia expects to pay about $650 million in total to Microsoft. Big deal I say.

The more I think about it, the more that I think this move makes sense for Microsoft.

Having total control of the platform and following in Apple's footsteps, Microsoft can surely make a lot more money than what it expects to make off Nokia. Note that the W8 smartphone platform is not doing that great anyway as is.

So suppose that Microsoft decides to make a smartphone and it calls it the surface-phone or something, what are the implications for Microsoft?

Well if Microsoft follows and copies Apple's model, I think Microsoft will eventually make a lot of money. Maybe not the same amount of money Apple is making today, but longer term it will make good money having control over the entire process. And personally speaking, I think it's easier for Microsoft to do than most investors imagine.

Remember Apple didn't know anything about this business. In fact Apple was discouraged from getting in the phone business, because some people thought it was a lousy business and it would make no money. It's a good thing Steve Jobs didn't listen to them.

Bottom line

  • Given Microsoft's sudden urge to want to buy a piece of Dell (DELL) and get in the hardware business

  • Given that Apple got in this business without any prior experience

  • And given how much money Apple is able to make from controlling the entire processes, thus keeping all the profits that third parties would make ...

I see no reason why Microsoft can't do the same thing and copy what Apple is doing and make its own smartphone.

Recommendation

On the slightest news that Microsoft is going to make a smartphone of its own, buy Microsoft's stock at will. I think the stock will have tremendous upside potential.

Source: Should Microsoft Make A Smartphone?