The smartphone company, Nokia (NYSE: NOK), handed over its mobile phone business to Microsoft (NYSE: MSFT) on September 3rd, 2013 in exchange for $7.2 billion, including $2.2 billion for licensing the patent for a next 10-year period. As the patent license is non-exclusive, Nokia is, hereby, free to add more patents after the agreement gets confirmed on black and white and becomes a signed deal eventually.
After this deal, Nokia has now three more non-handset divisions that need to be taken care of - the networking equipment unit, navigation and technology patents.
Why did Nokia sell to Microsoft?
There are several reasons why the Finnish company sold its age-old handset unit to Microsoft. Firstly, Nokia had successfully tapped the business and its R&D in hand-held phones for 26 long years in a steady way. During last year, the market share of Nokia in the mobile phone sector experienced a downfall from approximately 80% to precisely 18%. The manufacturer dominated over the market for 14 long years until Samsung beat it. Secondly, by the time Nokia launched a Lumia smartphone in partnership with Microsoft in 2011, Apple's iOS and Google's Android had already occupied the lead position in the marketplace.
To be precise, the Finnish major could not co-ordinate well with the advancement in the technology and was lagging behind. Also, Nokia didn't have enough funds to counterbalance with the existing monetary scenario in the current mobile phone market. Lastly, Microsoft is toying with the idea to build up its own smartphone to be at par with others. Due to the partnership between Nokia and Microsoft, there was a lot of similarity between the phones of the two brands. The result of this duplication was the low market price they had to be traded at.
Was it a good deal for Nokia?
Well, the answer to this question is, indeed, a big YES. After the announcement of the sale, Nokia's shareholders were the happiest bunch of people around. The merger between Nokia and Microsoft was signed with the sole intention to triple the profit margin of the Finnish company to 12%. The net financial gains of the company, however, depend on how it monetizes its patent portfolio.
Nokia's non-handset divisions accounted for 75% of its fair value of $18 billion before the deal was agreed upon. This $18 billion included $1 billion for its handset division, including licensing patents. Clearly, the shareholders and the market participants were underestimating Nokia's handset business, which in-turn was pulling down its total market capitalization and value. Following the agreement, the shareholders saw a sharp rise in its share price (up by 36%). The inflow of money from Microsoft also helped Nokia recover the losses it incurred on some of its poor-performing handsets.
Why Nokia didn't 'sell' its patents?
Nokia has given an alternative to Microsoft to extend its patent's contract perpetually. Why so? Why didn't it just simply sell it to them? Well, the main cause of this, is, because Nokia envisioned the competitive advantage it could gain from not selling its patent business, and also because not a very handsome amount was offered for the same. Nokia's patent business, which is a collection of nearly 10,000 patents, has been valued at approximately $10 billion.
If Nokia would opt to sell its patent rights, it also would make the company vulnerable to lawsuits from hardware manufacturers for its network and IP mapping solutions. The intellectual property business has also given the company a free trial in the evolution of 4G networks across the globe. The gains it would receive through cost-cutting while developing new networks might eventually lead them to monopolize in the market.
Nokia does look a bit aloof without its mobile phone division since people are quite used to identifying Nokia as a mobile-selling company only. However, with the division's disposal, it is, still, financially a much stronger company. The non-handset division (excluding patents) accounts for approximately 75% of its total value, and a lot more can be calculated, if its currently owned patent unit is taken into consideration.
Nokia recently acquired a 50% stake of Siemens for $2.2 billion in their telecom infrastructure joint venture, which is now, famously, referred to as Nokia Solutions and Networks (NSN). The company managed to acquire this stake at 65% less than its fair value, and has put Nokia at an important platform pertaining to the 4G LTE (Long-Term Evolution) technology.
Reports show that the company holds close to 3000+ patents, accounting to 19% of the standard patents essential for LTE technology, under its patents division. This LTE technology, in turn, is preferred widely for 4G networks.
In addition to the above, in the year 2008, Nokia signed an agreement with Qualcomm, which gave Nokia access to another 11% essential LTE patents. Microsoft can now also exploit the market advantage of an unrivaled access to 30% essential LTE patents, along with Nokia. The patent business in totality generates a revenue of about 500 million Euros per annum to Nokia.
The company contributes to 85% of the mapping business market share in the automotive sector, and has unrestricted future growth possibilities. Another feature of the deal is that Microsoft will be paying Nokia to use its 'Here' mapping services in its products. Nokia has decided to take on its non-handset business as planned and has also declared that it will be open to explore 'new business opportunities.' A paradigm shift in the company is the transfer of 32,000 employees to Microsoft and a hunt for a new CEO for Nokia, as Stephen Elop has decided to remain with Microsoft. Though this Nokia sale has several emotional issues as well, yet there is always a blessing in disguise in every step. Let's hope the same for this alliance too.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Business relationship disclosure: The article has been written by Analysts at EurEx Consulting. EurEx Consulting is not receiving compensation for it (other than from Seeking Alpha). EurEx Consulting has no business relationship with any company whose stock is mentioned in this article.