With the consumer technology world and Wall Street focused on the latest devices from Apple (AAPL) and competitors such as BlackBerry (BBRY) and Samsung (GM:SSNLF), the former behemoth of the mobile device space, Nokia (NOK), has been largely ignored and its stock has languished.
Indeed, since registering an 11-month peak of $4.70 in mid-January, Nokia's shares have tumbled by nearly 31%. This should not come as much of a surprise: astute investors will recall that it was in mid-January that Nokia announced earnings two weeks earlier than expected, saying that it would be suspending its dividend following yet another quarterly loss.
To compound matters, Stoxx Ltd., which maintains the Euro STOXX 50 index, which is meant to represent 50 largest companies in the Eurozone by market capitalization, announced that it was removing Nokia from that index, prompting institutional funds that mirrored the STOXX 50 to unload their holdings of Nokia.
The further stumble in the shares of Espoo based Nokia seem reasonable. After all, some of the "buy" case for Nokia was predicated on it being a European giant that maintained large reserves of cash and paid good dividends to investors. What's more, a stock's case for being a "value" play is weakened considerably if it isn't even paying a dividend.
Not helping matters was the negative press around Microsoft's (MSFT) travails with Windows 8 and, by extension, its mobile platform, Windows Phone. Bulletin boards and financial talk shows asked: did Nokia make an error by backing Windows Phone? Not surprisingly, rumors abounded and were later denied that Nokia was now open to Google's (GOOG) Android platform.
Despite all of this, Nokia has hardly been a "dog" stock. In fact, since falling to a low of $1.69 in July last year, Nokia's shares have essentially doubled. Even after accounting for the recent sell-off. Nokia is set to report on April 18 (or earlier based on history), possibly with a lower operating margin of between -6% to +2% compared with the most recent quarter. In anticipation of this, the question that needs to be asked is, "Does Nokia deserve a place in your portfolio?"
Here is the case for maintaining a position in Nokia:
- Improving Operating Results. In its latest reporting quarter (Q4-2012), Nokia reported an operating profit of EUR439 (USD563) million, compared with an operating loss of EUR576 (USD739) million in the preceding quarter and a loss of EUR954 (USD1223) million in the same quarter a year earlier. Nokia is in a transition period so by any realistic assessment, this may represent the beginning of a robust turnaround. To wit, even accounting for one-offs, Nokia's results were solid: its operating profits in Q4-2012 were a third higher than the preceding quarter's and 714% higher than a year earlier.
- Declining Write-offs. Any purported turnaround only matters to the extent that the heavy lifting to rationalize operations for sustainability is already well underway. This is nowhere more evident than in the declining magnitude of Nokia's operating "exclusions." Specifically, in its most recent quarter, Nokia excluded just EUR196 (USD251) million compared with EUR654 (USD839) million in the preceding quarter and EUR1.43 (USD1.83) billion a year earlier. This means that, going forward, investors can expect "cleaner" operating results, which has been an issue so far in estimating its performance and has probably resulted in investors shying away from the stock. To illustrate, the range of analysts' profit forecasts for Nokia's full-year performance ranges from a loss of $0.23 to a profit of $0.25.
- Improving Market Share. Nokia reported a 4% rise in mobile device shipments worldwide in its latest quarter compared with the preceding quarter, with shipments more than doubling in the U.S. market. Meanwhile, a Microsoft executive recently announced that Windows Phone had shipped more devices than Blackberry had in 26 markets and more than Apple in 7, quoting data from IDC. Nokia is the dominant player for Windows Phone, accounting for around three-fourths of shipments, so any overall improvement in Windows Phone redounds to Nokia's benefit. Encouragingly, Windows Phone managed to trump Apple in large emerging markets such as India, Russia, Argentina and South Africa. Global Smartphone shipments will experience slower growth in 2013, thanks to already very high market penetration rates in developed markets. Consequently, a strong presence in emerging markets is vital and Nokia is well positioned in that regard, particularly with its newer low-cost yet feature-rich handsets selling for as little as EUR15 (USD19.23). While neither Microsoft nor Nokia have released figures out of China, it's worth pointing out that its high-end Lumia 920 handsets were very popular when introduced; and,
- Not All That Expensive. Eschewing Price-Earnings ratios in favor of Price-to-Sales since Nokia has trailing losses shows that Nokia has a relatively favorable valuation. To wit, Nokia is currently trading at a Price-to-Sales of 0.31x, compared with 0.68x for BlackBerry. This suggests that investors may have gotten too far ahead in buying up BlackBerry shares, especially considering that BlackBerry currently has a subscriber base of just 76 million. In contrast, Nokia ships over 80 million handsets a quarter. While this comparison is not perfect, it does suggest that Nokia has greater room to expand its operating margins than BlackBerry does. Moreover, as investors come to the realization that BlackBerry may be too highly priced, they may rotate into Nokia, particularly given its recent decline.
Ultimately, given the dominant and established positions of Android's various OEMs and the iPhone, any bet on Nokia is a bet on which company finishes as a strong third. Right now, BlackBerry is positioned favorably, thanks to its loyal base of subscribers in developed markets and generally positive media coverage of its latest devices such as the Z10.
However, the long game favors Nokia, particularly as it continues to move ahead in emerging markets and at the value-end of the phone market - despite stiff competition from Chinese manufacturers. What's more, establishing an early foothold in emerging markets creates opportunities for Nokia down the road. As its customers' income improves, Nokia can leverage brand loyalty and migrate customers from entry-level devices with lower margins to mid-to-high-end devices with much higher margins.
Revenue improvement emanating from these developments as well as stabilization in its core operating expenses should enable Nokia to reverse its losses and double its share price from current levels. We therefore see NOK at its current level as a buying opportunity.
Additional disclosure: Black Coral Research is not a registered investment advisor or broker/dealer. Readers are advised that the material contained herein should be used solely for informational purposes. Investing involves risk, including the loss of principal. Readers are solely responsible for their own investment decisions.