Late Monday evening Nokia (NOK) and Microsoft (MSFT) announced that Microsoft would be buying the handset division in a deal worth $7.2 billion. This figure also includes a 10-year license for Nokia's patents.
Although it was known that this deal was a possibility, it had been widely reported that the two parties had failed to come to an accord and it was off the table.
This deal follows swiftly on the heels of Nokia buying out the remaining 50% stake from Siemens Networks (SI) for $2.2 billion, widely reported as a bargain, to fully own the newly named NSN networks. In hindsight, these two deals were part of the same outcome, for Nokia to refocus in a new direction. This is something that is not uncommon in its long history, which began with rubber boot production in 1865. In the space of two months Nokia has become a major player in Networks and exited the handset business, by any measure a rapid course correction for such a large organization.
Generally this news has been received positively, at least from the Nokia perspective, with shares jumping as much as 48% pre-market and settling back to a 30% gain for the day. As a stockholder you should be very happy with the market's reaction.
The new Nokia is now comprised of NSN Networks, Here Mapping and a large and profitable patent portfolio that is currently generating over $500 million per year. Each of these three constituent parts are strong businesses, with NSN being the largest and most important of the three.
The financial outlook should improve dramatically. Expect to see a number of upgrades and changes from the ratings agencies. The credit default swaps have fallen by a record 330 basis points to 199, and the rating currently B1 by Moody's Investors Service, four levels below investment grade, should increase after the deal completes.
Without the handset business, Nokia has given up the opportunity for explosive growth and will emerge as a more stable company without the same risks attached. Some pundits have argued that the price paid undervalues the unit, and with recent quarterly growth they may have an argument. Nokia recently gained an 8.2% share in Europe, perhaps Nokia sold too soon, and six months to a year from now this unit could've been turned around. Nokia's board, with their inside information, were not confident of this outcome, perhaps they believed the dumb phone's falling sales were eroding too fast for the smartphone's sales to pick up the slack.
Going forward Nokia must be compared to its nearest rivals, Ericsson of Sweden (ERIC), Huawei and ZTE of China, and on current valuations the price looks competitive. Ericsson is the largest player in this market and has a current market cap of $40.95 Billion, Nokia, as of writing, is valued at $19 billion.
The valuation can be broken down as follows:
- NSN $8-16 billion
- Here Mapping $1.3 billion
- Patent portfolio $7.4 billion
These figures are taken from a recent valuation by JPMorgan. At the low end we reach a valuation of $16.7 billion and a high end of $24.7 billion. There is scope for varying valuations for both Here Mapping and the patent portfolio. The patents already generate significant income and once freed from the handset business it seems likely that Nokia will be even more aggressive in licensing its patents. With the continued growth in the smartphone market a couple of well-placed licenses could add significant additional revenue. Here Mapping, the smallest business unit, provides a vital service, as the Apple mapping debacle demonstrated. It has the potential to steadily increase profitability and would be a valuable asset if Nokia were to sell it.
At its current price Nokia is trading at fair value and once this deal closes there should be scope for the stock price to appreciate from its current value to over $6 per share. Nokia is no longer a potential 10-bagger, but it still holds possibilities for more modest gains.