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Could you envisage writing a bear note on a company but conveniently excluding from your analysis their most profitable division? Could you imagine questioning whether the cash flow and the cash position is potentially an issue for a listed company, but exclude their most cash generative business from your analysis? It sounds ridiculous that such research could be published.

Unbelievably the above just happened with the latest August 27th sell side bear attack on Nokia (NOK) which called into question the company's cash profile and net cash position. Somehow this negative analysis completely excluded NSN. The latest report by a sell side firm is summarized here. How or why NSN would be excluded when it is fully owned by Nokia as from July 16th, 2013 is beyond me. The only reason I can think of is that the analyst has not gotten round to updating the Nokia model for the NSN deal and might even be inclined to await Nokia's presentation of the consolidated results.

This is akin to writing a bear note on Apple (AAPL) but ignoring the iPhone, or Micron (MU) but ignoring Elpida (ELPDF.PK).

Sell side research based on incomplete analysis that calls into question a company's cash flows and cash position does a disservice to investors who might be turned off looking into the investment case of Nokia. To present such obviously incomplete analysis and make conclusions that will influence investors is an analogy for many of the misgivings people have about the way the sell side operates. It also gives credence to other more innovative ways to collect and extract insight on industries and businesses such as Seeking Alpha.

How can the sell side pen a bearish note on Nokia addressing the company's cash flows and cash position but just conveniently exclude NSN? NSN is a division which is 100% owned by Nokia as from July 16th 2013, generated E1.36bn of cash flow in 2012 and had over E1bn of net cash on its' balance sheet. It is a major generator of cash flows going forward and impossible to disentangle from an analysis of the balance sheet or the cash flows of Nokia.

That is perhaps the whole point, the investment case has shifted post the acquisition of NSN and evidently the sell side bears have not caught up. They still focus on the notion of 'core' Nokia when in fact now every division is part of the 'core.' This very cheap acquisition of NSN has shifted the cash profile of Nokia regardless of whether there is a turnaround in the Devices and Services division.

The sell side bears are behind the curve. Five weeks after the full completion of the NSN deal they are still writing bear notes on Nokia focusing on the so called 'core' group and excluding a wholly owned division that is a significant cash generator.

Investors who look through the fear mongering and negative spin will see the inherent value in the stock. So far this is something only one major institution to its credit really has done; Dodge and Cox has built an 8% stake in Nokia. The market is still positioned negatively in this name after five years of business under performance and is missing the very real signs of a business turnaround. The market will likely wait for the numbers (profits and cash) to confirm the turnaround (something I expect in H1 14) however by then the stock will have already moved significantly higher.

Risk reward is the main point to consider. I don't claim to have a crystal ball that can tell us how the smart phone space will transpire. However I am sure that the risk reward around the Nokia Devices & Services business mustering any counter attack in the smart phone space is highly favorable for an investor.

At the current market cap of only E11bn, the Devices and Services division (including the patents) is ascribed a negative value. Assuming NSN is worth 0.7x Sales equates to a value of E8.5bn. Consider Ericsson's (ERIC) market cap as a sanity check given it is E30bn and only has twice the sales base and reported a similar Q2 operating margin as NSN.

Nokia's HERE division is worth E1bn assuming a similar market cap as TomTom (TMOAF.PK) but offers significant upside as maps become the next platform for e-commerce. Assuming Nokia's net cash position declines to E2bn at Q3 from E4.1bn in Q2 (given the E1.7bn NSN deal as well as incremental cash burn due to supporting product launches), the combined value of Nokia's Net Cash, HERE division and NSN division is in line with the current market cap of Nokia.

That means investors get the patent portfolio, which generates over E500m of income per annum and the Devices and Services division for zero. Also do note Xiaomi, a 3 year old Android Manufacturer in China just received a $10bn equity value at its latest round of financing. The company is only three years old, is forecast to sell 20m units this year and has nowhere near the brand equity of Nokia.

There are several other bear noises that emanate from the sell side naysayers that are worth addressing as a means to clarify the picture for investors.

Nokia can't compete at the high end is a bear point often heard. Regardless of a subjective view as to whether or not they can compete at the high end, it is the low to mid end range where all the excitement is happening in the smart phone space. Backward looking sell side bears are still fixated on the high end, ignoring the fact that it is the low to mid end smart phone segment that is exploding. This is where Nokia is perfectly positioned. Nokia's smart phone ASP in Q2 was E157 vs. Apple at $581; they are in different market segments. Nokia's lower ASP is positive as it positions the company to capture the growth in the low to mid end segment, yet the company still offers smart phones across the price spectrum.

Unbelievably, I have even heard a bear claim that Symbian falling out of the numbers is a negative. Symbian was explicitly abandoned as a platform in 2012 and that is common knowledge. Equally another bear point articulated is that the margins in NSN have peaked. Given the company explicitly guides to a 7% margin and themselves note the 11.8% margin reported last quarter as unsustainable, this is all known.

In terms of skepticism on Windows Phone traction, as a reminder in Q3 2012 Lumia sold 2.9m units. This means that for Q3 2013 the YoY volume growth will likely be over 200%. Their U.S. volume might even double QoQ. How can a product line growing volumes at 200% YoY not be considered to be getting traction?

Another bear point have heard that does not make sense is the fact that Microsoft (MSFT) payments are a future liability. The fact is those payments are volume dependent, as such the more Lumia phones sold the more Microsoft is paid. The obvious corollary of these higher volumes is that Nokia will be booking higher sales and cash flows.

In terms of the balance sheet, the company will have about E2bn of net cash at Q3 2013 and so far in H1 2013 net cash was reduced by around E300m. Given restructuring charges in NSN as well as Devices and Services are falling off in 2014, the cash burn picture is set to improve. The one risk that I am wary of is the concern around feature phones because consumers are shifting towards smart phones. However with the expected profits and cash from smart phones and NSN in 2014, a further feature phones restructuring can easily be absorbed. Additionally Nokia noted that it has an additional E2.25bn of undrawn credit facilities; giving it current liquidity of over E4bn, against forecast cash burn in 2013 of approximately E600m. 2013 is also a year when the restructuring charges are significant and the Windows Phone platform is being supported through many launches.

As such if Devices and Services does reclaim some lost ground through the Nokia-Windows Phone tie up, there is significant upside in the stock price. The market is ignoring many positives that I will be fleshing out in a future article; however suffice to say that the sell side is playing catch up with where the business is currently. So much so they haven't even factored the new cash profile of Nokia post NSN into their financial models. Come on sell side bears, you can do better than that!

Source: Nokia: Sell Side Bears Don't Play Fair