Investors are not particularly happy with Nokia's (NYSE:NOK) Q1 2013 earnings results; the stock fell more than 11% after the earnings release, and although it has slightly recovered since then, Nokia stock is still down almost than 18% this year. The negative sentiment after the earnings release is mostly due to the poor performance of Nokia's feature phones segment. However, I believe that investors are wrong to focus solely on the decline in feature phone sales while ignoring the impressive Lumia sales. I explain my reasoning below.
Mobile Phone Segment
Nokia reported in its Q1 results that its Mobile Phones shipment volume dropped 30% sequentially and 21% Y/Y to 55.8 million units. Nokia's Asha full touch smartphone sales almost halved quarter-on-quarter to 5 million units. However, the poor sales in the Mobile Phones segment shouldn't come as a shock to investors. It's widely known that the feature phones market is in a secular decline; the latest IDC mobile phone tracker report suggests that Q1 2013 was the first quarter during which smartphones out-shipped feature phones, and this trend is only expected to grow stronger in the future. With the advent of low-cost Chinese and Indian OEMs, the price of entry level smartphones is dropping daily and is close to reaching a point where there is no price incentive of buying a feature phone over a cheap Android based smartphone. Nokia's latest results support this view: "Our Mobile Phones volumes declined across our portfolio, most notably for our non-full touch devices that we sell to our customers for above EUR 30," Nokia's Q1 earnings report states. This refers to the QWERTY keyboard based Asha devices that run on Java. It is not surprising that Indian and Chinese consumers find no charm in buying such a device when they can buy a Micromax or ZTE smartphone with the support of the Android ecosystem at the same price. In addition to secularly losing market share to low cost Android smartphones, Nokia's Asha smartphones have a new competitor in Samsung's recently launched Rex lineup which targets the same market segment. And with Samsung's mammoth marketing budget, it's easy to see the Korean giant snatching market share from Asha smartphones.
Despite the unfavorable environment in the Mobile Phones segment, I can see the situation improving for Nokia, at least temporarily. One of the reasons Nokia feature phones have become unfavorable with customers is that the Asha and feature phones lineup is getting old and is due a refresh. CEO Stephen Elop reiterated this point many times in the earnings call that Nokia would strive to innovate and "constantly renew" its Mobile Phones portfolio, and I believe that a refreshed lineup combined with increased marketing efforts would help arrest the decline in this segment in the coming quarters.
In response to a question on the earnings call, Elop claimed that the poor performance of the Mobile Phones segment had more to do with the tough competition from low priced smartphones from Chinese OEMs than Samsung's Rex series. This means that if Nokia is able to offer fairly decent Windows Phones at lower price points, it could attract and retain many customers who would otherwise purchase cheap Android smartphones rather than a feature phone or a Java based Asha phone without a strong ecosystem. With the wider availability of Lumia 520, 620 and further low priced Windows Phones, Nokia can gain from the rapid shift towards smartphones from feature phones in Q2 and beyond.
Despite all the doom and gloom around the Mobile Phones segment, Nokia investors should be heartened to finally see Lumia phones gain traction. Q1 results showed that shipments of Nokia Lumia phones grew 27% sequentially to 5.6 million units for the quarter. There is even more good news: Nokia forecasted that Lumia smartphone sales are expected to grow more than 27% sequentially in Q2, implying shipments of more than 7.1 million Lumia units during the second quarter which would be an impressive achievement.
To put the Lumia sales in perspective, let's compare it with competitors'. Apple's (NASDAQ:AAPL) latest results showed that the smartphone giant's iPhone sales declined 22% sequentially. Similarly, Blackberry (NASDAQ:BBRY) phone shipments declined 13% quarter-on-quarter to 6 million devices in Q4 2013 which ended at the start of March. I understand that comparing Nokia's latest results to Blackberry's is not the best comparison since Blackberry has just launched its BB10 platform and its latest results do not include the Z10 sales in the US. However, you can see that Nokia already has a wide range of Windows Phones available globally at various price points to target different customer segments. On the other hand, Blackberry is still in the process of launching the Q10. More variety could give Nokia the advantage in targeting customers who are looking for an alternative to the iOS and Android phones.
The latest data from Kantar Worldpanel ComTech is also bullish for Microsoft (NASDAQ:MSFT) and Nokia. Kantar reports that for three months ending March 2013, Windows Phone's market share in the US grew to 5.6%, which is up 3.7% from a year ago, outpacing Android whose market share grew by 1.7% during the period. As a result, Nokia's market share in the US increased to 4% from just 1% a year ago. Why is Windows Phone's market share growing? Kantar's surveys suggest that Microsoft's operating system appeals a little more to first time smartphone purchasers than iOS does. Kantar analyst Mary-Ann Parlato notes that half of American mobile phone users are still using feature phones; therefore Windows Phones' attractiveness to first time smartphone users will help further increase its market share in the US. This is very good news for Microsoft as well as for Nokia, as statistics from AdDuplex show that Nokia owns 80% of market share amongst Windows Phone manufacturers.
While Nokia's Mobile Phone shipments in the latest earnings result were very disappointing, I believe that investors are wrong to focus too much on a segment that will have a relatively small role in the company's long term future. Ultimately, Nokia's future depends on the success of its Lumia smartphones, and Elop's guidance of at least 7.1 million Lumia device shipments in Q2 2013 is a sign that Nokia's transition into the smartphone industry is well on track. Moreover, the recent report from Kantar suggests that Windows Phone and Nokia are doing well in the US market which is an excellent sign given that the US has always been one of Nokia's weakest markets. Of course, the risk remains that Nokia could miss its own guidance, or that Lumia's growth could slow down in the second half of the year, but for now, things are looking good for Nokia.
Business relationship disclosure: This article was written by Dividend Pros' analyst covering technology.