What Is the Impact on Nokia’s Margins From Smartphones?

| About: Nokia Corporation (NOK)

Rising competition in the handset market, lower phone prices, and rising R&D expenses have chipped away at Nokia’s (NYSE:NOK) profit margins in recent years. Nokia competes with Research in Motion (RIMM), Apple (NASDAQ:AAPL), Motorola (MOT), Samsung (OTC:SSNLF) and Google’s (NASDAQ:GOOG) Android devices in the smartphone segment and a host of players in the basic handset business.

From 2007 to 2009, Nokia’s EBIT margin (a measure for profitability) for mobile phones declined from 20% to around 13% on a firm wide basis.[1] We expect this trend to continue over our forecast period, slipping to around 7.5% by 2016. However several items might turn margins around including new initiatives like its online app store called Ovi, an upgraded operating system (OS) and its push into smartphones.

The average Trefis member forecast suggests that emerging market profit margins will remain flat rather than decline steadily as we forecast, implying around 25% upside to our price estimate of $12.44 for Nokia’s stock, which is about 21% above the current market price of $10.31. We also pose the question of the corresponding impact on unit sales from its smartphone strategy below.

Symbian, Ovi Help Smartphone Sales

If Nokia can deliver on its improved Symbian operating system and the Ovi app store, we believe this will facilitate Nokia’ already strong push into the smartphone market. By upgrading its OS and providing more apps, games and services, this attracts new smartphone customers and help retains current ones.

According to IDC research, Nokia’s smartphones shipments grew 61% year-on-year in Q3 of 2010.[2] In an earlier article, we explained how emerging markets account for a major portion of Nokia’s smartphone sales, and how increasing sales can create potential upside to its margins.

By looking at the forecasts among Trefis users, a consensus is forming that Nokia’s emerging market profit margins will be supported by a greater mix of smartphone sales. Some think this implies that Nokia will lose market share on the low-end segment and erode its handset sales though we have not seen data to support this.

Above, the average forecast of Trefis members for mobile phones EBIT margin for emerging markets indicates that margins will stay flat at around 12.5%, compared to the baseline Trefis estimate of a decrease from 10.5% in 2010 to 7.5% during the same period. This translates to around 25% upside to our price estimate.

We realize that there will likely be an impact on unit sales as well and want to see more data before adjusting our estimates.

We include the chart below so that the reader can adjust market share data for emerging markets to see how this factor alone impacts our price estimates. To see the combined impact – higher EBIT margins and adjusted unit sales – please visit our site below.

Notes:

  1. Reported by Nokia’s in its SEC filings
  2. IDC press release: Top 5 Mobile Phone Vendors in Q3, 2010

Disclosure: No position