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Introduction

While many an investor would swear on the big two smartphone giants Apple (NASDAQ:AAPL) and Samsung (OTC:SSNLF), let us not forget about the one time leader in the smartphone arena named Nokia (NYSE:NOK). In this article, I am going to focus on the company's ascent from ashes and the future ahead.

The bears surely will continue believing that a turnaround for Nokia is not possible. On the contrary, the company seems to be proving such people wrong. It is obvious that the turnaround will not happen in a day or two, but as we near the first anniversary of the Windows 8 handsets, Nokia appears to be on the right track.

The primary headwind that the company has faced in the recent past is the low sales of its feature phones - Nokia's major bread and butter of the past. Even in the last quarter, feature phones were a major drag on the Company's revenue with Nokia's feature phone sales falling 4% quarter-to-quarter in Q2 2013. However, it is important to note that the company has also realized this and is heavily shifting its focus to smartphones. Moreover, the feature phone market is also shrinking as consumers are shifting to low-end smartphones - a market place where Nokia is gradually establishing its presence.

Rise of the 3rd Ecosystem

While Google (NASDAQ:GOOG)'s Android and Apple's iOS retain the 1st and 2nd spot on the list of leading mobile operating systems, Microsoft (NASDAQ:MSFT)'s Windows platform - the Lumia line - is slowly gaining popularity. According to IDC, Windows Phone shipped 8.7 million units in Q2 2013, achieving a market share of 3.7% (up 77.6% year-to-year). Notably, this is still well behind Android's market share of 79.3% and iOS' market share of 13.2%.

Nonetheless, Windows' market share has been continuously rising in the last few quarters. Importantly, Nokia has become the only significant Windows Smartphone company, accounting for 81.6% of all Windows Phone shipments during Q2 2013. Given that Nokia is now the only hope for Microsoft to compete in the lucrative mobile operating system market, I expect Microsoft to lend complete support to Nokia in taking its smartphones forward.

Figure 1: Market share of smartphone operating systems (excluding Android and iOS)


(Click to enlarge)

Source: IDC

Nokia Siemens - a Key to Future Growth

On August 7, 2013, Nokia announced that it had completed the acquisition of Siemens' stake in the Nokia Siemens Networks. In accordance with this transaction, Nokia Siemens Networks was renamed Nokia Solutions and Networks, also referred to as NSN. Given that NSN is now a financially healthy subsidiary of Nokia, this now seems like a good long-term strategic move by Nokia.

Positively, NSN contributed net cash of EUR 1.4 billion as of end-Q2 2013 and reported a healthy operating margin of 11.8% during the same period. Many analysts and investors had shown doubts over the joint-venture back in 2006, when it was initiated. However, with recent contract wins in China, strong fundamentals and robust operating performances in the recent quarters, the venture seems to be more of a boon for Nokia. Moreover, Nokia appears to have gotten a great deal with the buyout of the Siemen's stake, as NSN is comparatively undervalued at this stage.

Slowly Moving Towards Profitability

Although the Company reported a negative profit margin in the last quarter, potential investors should see the improvement in such margins. Helped by the increased sales in its Lumia range, Nokia should continue to improve margins in the future as the company reduces the sale of its feature phones and increases sales of smartphones, especially Lumia. Positively, Lumia smartphones are gradually gaining traction, as evidenced by a 32% quarter-to-quarter increase in Lumia sales volumes in Q2 2013. Moreover, the overall profitability of the Nokia group will also be impacted by the NSN division.

Figure 2: Nokia's net profit margin is slowly moving towards the positive


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Source: Wikinvest

Partnerships

While companies like Apple make their own operating systems, Nokia has found the perfect partner in the form of Microsoft to supply the required operating system, allowing Nokia to solely focus on the hardware and other aspects of the phone.

Another headwind that Nokia had faced in the past was lack of support from carriers. That seems to be changing now. Recently, Telefonica (NYSE:TEF) announced a partnership with Microsoft for greater distribution of the Nokia's Lumia line. Moreover, other carriers such as Vodaphone (NASDAQ:VOD), China Mobile (NYSE:CHL), T-Mobile (NYSE:TMUS), and China Unicom (NYSE:CHU) have also showed renewed interest in working with Nokia. As the emerging markets start to garner a larger share of the smartphone market, deals with China Mobile (something that Apple is yet to accomplish) and China Unicom will become increasingly crucial.

Near-term Outlook

The company is expected to clock better numbers in the coming quarters given the launch of new Lumia models, in particular, Lumia 1020 and Lumia 625. With an estimated retail price of EUR 220 (before taxes and subsidies), the Nokia Lumia 625 is planned to commence sales in China, Europe, Asia Pacific, India, Middle East, Africa and Latin America in Q3 2013. Moreover, Nokia is also rumored to be planning a launch of a Windows RT tablet. Very recently, an online report on microsoft-news.com said that Nokia will release a Windows based tablet in September 2013. Further, Nokia's earnings are also expected to get a boost by increased contribution from NSN.

Stock Performance

Nokia's stocks had taken a serious beating between 2009 and 2012, where it continued to see new lows. However, the stock has been a strong performer in the last year. In fact, Nokia turns out to be the best performing stock in the last year, having provided a return of approximately 56%.


(Click to enlarge)

Source: Bloomberg

Make or Break for Investors

While many analyst and investors had considered Nokia to be dead, the company seems to have risen from the ashes like a phoenix with its Lumia line of smartphones.

Nokia has been proactive in the last year in releasing new phones with new features. The company has primarily targeted the low- to mid-range smartphone buyer, especially in the emerging markets. Going forward, the company is expected to reap benefits from its Windows-based smartphones.

Nokia is also supported by the improved support from carriers who seem to be positive about the company's future once more. Nokia is expected to benefit from the improved stability in its Networks business. Given that the negatives have been largely discounted for in the current low prices, I believe there is little downside left for the stock.

Whereas, given its upcoming range of Lumia phones and an increasing demand for Nokia's budgeted smartphones on the one hand, and company's focus on reducing cost and improving margins on the other hand, Nokia should soon return to profitability, thereby opening a huge upside potential at current stock prices. Therefore, Nokia stocks appear to be significantly undervalued.

Bottom Line

Nokia appears to be worthy investment; soon its investors will be very, very happy.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: Nokia Set To Make Investors Very Happy