Last year, Microsoft (MSFT) came knocking on Nokia's (NOK) door and offered to purchase its Devices and Services Division for 5.44 billion euros. The deal was formally announced in September, but negotiations between the two companies started as early as January. At the Extraordinary General Meeting on November 19th 2013, the deal was emphatically approved with more than 99% of the votes in support of the transaction, which is expected to close some time this quarter. Since the announcement, shares of NOK and MSFT have rallied 100% and 10% respectively. In preparing investors for the release of its Q4 2013 and fiscal 2013 financial results on January 23rd, Nokia published the following statement:
Nokia currently has three continuing businesses: Nokia Solutions & Networks (NSN), HERE and Advanced Technologies. Reflecting this composition, Nokia will publish financial information for all three businesses in next week's report. Specifically, Nokia will report financial information for a total of four reportable segments - Mobile Broadband and Global Services within NSN, HERE, and Advanced Technologies - and, additionally, separate information for Discontinued Operations.
The writers at WMPoweruser suggest the fact that Nokia is counting the D&S Division as "Discontinued Operations" is a foreshadow of the closing of the Microsoft-Nokia deal in the upcoming week. That may or may not be true. Nokia is reporting Q4 results, a period in which it still owned and ran the D&S Division. The way I see it, the new presentation format is probably getting revamped to provide improved guidance for future quarters. Furthermore, having recently acquired the non-controlling stake from Siemens (SI), Q4 is projected to be a strong quarter as the effects of cost cuts at NSN continue to strengthen. Thus the earnings release next week presents the perfect opportunity for Nokia to showcase its true earnings power, ex-D&S Division.
Although Nokia has received blessings for the deal from the U.S., EU, and India, it is still seeking regulatory approval from the Chinese government. The major roadblock for Chinese approval stems from local manufacturers that worry Nokia will raise licensing fees for its patented technologies once it frees itself from the handset business. This fear is very real in light of the fact that Nokia has stated it will start aggressively monetizing its extensive IP portfolio, and that companies will no longer have the possibility to counter-sue or negotiate a cross licensing agreement with Nokia. One such party feeling the full blunt of this is HTC Corporation. Nokia has gotten favorable rulings in the UK and German courts, and has more than 50 other patent assertions against HTC in 7 different countries. Samsung (OTC:SSNLF), another handset manufacturer that relies heavily on Google's (GOOG) Android operating system, was smart enough to avoid a lengthy legal battle and agreed to binding arbitration with Nokia. Microsoft already brings in a substantial amount of cash from Android (approximately $2 billion per year). If Nokia can extract royalty from the Android OS, shareholders will be handsomely rewarded and we might see the return of a dividend from the company. For additional discussion and analyses on Nokia's patent portfolio and what it is worth, I refer you to the recent Seeking Alpha articles here and here.
Upcoming Nokia Phones Don't Interest Me Anymore
In the last month, I have come across countless articles on upcoming Nokia devices such as the Nokia "Normandy" and other large screen devices that are rumored to be unveiled at this year's Mobile World Congress. The Normandy device is what Nokia diehards have been clamoring for: a Nokia device that runs Android. It is a phone that bridges the budget Asha series with the low-end Lumias. As much as I want to get excited about this, I just cannot muster any form of enthusiasm. As a Nokia investor, all I can ask is, "so what?" In my opinion, this device is at least two years too late. In all likelihood, the phone will never see the light of day once the D&S Division is transferred to Microsoft.
I have also deleted my Google notifications on "Nokia Lumia 1020" and "Nokia Lumia 1520". These are irrelevant in the wake of the Microsoft-Nokia transaction. Instead, I spend my time parsing through Foss Patents and learning about how Nokia is about to crush HTC in court. This battle could be the tip of the iceberg for extracting value from Google's Android mobile platform. The NSN website is also a good source of information as it provides new contract wins for the NSN division which, surprisingly, does not appear on the Nokia website.
Is It A Win-Win Transaction?
Right from the start, I had strongly believed that the Nokia-Microsoft deal was beneficial to both parties. Nokia sheds its deadweight money-losing D&S division while Microsoft takes one step closer to mimicking Apple's (AAPL) winning vertical integration model. To see whether others agreed with my opinion, I looked at the short interest for both NOK and MSFT since the proposal. I could have also looked at their stock prices for comparison, but that is skewed by an equity market that is near record highs. Also, during my time of investing in Nokia, I have come to realize that shorts are astute calculators that bear down to simple mathematics and statistics.
On August 30, 2013, short interest on NOK on the NYSE alone was 222 million. By December 31, 2013, short interest had substantially decreased to approximately 20 million, a greater-than-90% decrease. Interestingly, this does not hold true for MSFT. Short interest was at 64 million shares before the announcement, and had increased to 73 million shares by the end of last year. It would appear that the shorts are not in favor of the Microsoft-Nokia deal from the former's perspective. So, is the joke on Microsoft? To be fair, there are other uncertainties that are holding back the software giant, such as its search for a new CEO and whether the XBox One can compete with Sony's Playstation 4.
Nokia Needs Additional Catalysts
Looking at a multi-year chart of NOK, it is obvious that shares are encountering strong resistance at the $8.20 area, which had served as support in 2010 and 2011. Thus it is not surprising that the stock price is consolidating around the $8 level. If Nokia releases strong numbers and guidance next week, especially from the NSN Division, we could see share price break through the $8.20 resistance and hit $10. The actual closing of the Microsoft-Nokia deal may also act as a catalyst as a large infusion of cash is expected from the event. Using the cash from the sale of the D&S Division, Nokia can elect to reward shareholders by reinstating the dividend that was scrapped in 2013. Another catalyst which could help propel the stock higher is the announcement of a new CEO. This could be a defining moment as the company prepares life without handsets to focus on networking and location services. As discussed above, further progress in patent licensing can also propel NOK share price to a new multi-year high.
Although the D&S Division will be reported as a discontinued operation, it will be interesting to see whether the unit can achieve profitability in the seasonally strong Q4. Using the latest data from AdDuplex, Nokiapoweruser estimates that 10.6 million Lumias might have been sold. If true, this would represent an astounding 20% growth over Q3 wherein 8.8 million Lumias were sold. Microsoft investors should be extremely pleased with this double-digit growth, which signals that the company is on track to achieve non-GAAP profitability by 2015.
As for Nokia, I will be watching the $8.20-$8.30 level closely. If any of the aforementioned catalyst help NOK break above this level, I will be buying additional shares for a quick ride to $10.