Last year, I recommended a company that was facing a lot of skepticism from analysts, but was a leading player in its industry and had especially strong international operations. It also had a compelling valuation and one of its biggest competitors was plagued with major problems.
The company was Nokia (NYSE:NOK), and it was also featured in December as my top pick for 2007. Since the start of the year, Nokia shares have risen 67%. It has been a huge winner for us and it didn’t involve taking very much risk.
I’m not mentioning this to toot my own horn. (Well, okay, maybe a little bit...) I bring this up because I am seeing an almost identical situation unfolding with another stock in our model portfolio. I know it’s only September, but I already have a pretty good idea of what my favorite pick for 2008 will be.
Once again, I’m going back to Scandinavia and back to the telecom sector with Sweden’s Ericsson (NASDAQ:ERIC). But there are many more similarities than geography and industry affiliation. Let’s take a look at some of the things I said about Nokia last year and compare them to Ericsson’s situation today.
Widespread skepticism among analysts
The knock against Nokia was that cell phones were becoming a saturated market. The skeptics also said Nokia would face competition from cheap upstarts in countries like China. The argument was that most folks who can afford phones already have them, and those who don’t will probably end up buying cheaper ones than Nokia’s models.
Ericsson, in a slightly different way, is subject to similar skepticism. For example, analysts argue that Ericsson’s telecom gear is more expensive than that of some of its upstart competitors and is therefore vulnerable to competitive pricing pressure. This is a valid point, but I can’t imagine that the folks at Ericsson’s headquarters haven’t thought of all this and factored the issue of competition into the company’s business plan.
Strength in international markets
Ericsson, just like Nokia, has a dominant position globally and is especially strong in markets such as China and India.
An ailing competitor
Nokia’s big competitor, Motorola (MOT), has had trouble coming up with a worthy replacement to its one-hit-wonder Razr phone and activist investor Carl Icahn has been banging on the company’s door. In Ericsson’s case, the role of the struggling competitor is played by Alcatel-Lucent (NYSE:ALU), which just can’t seem to get out of its own way. It just issued its third profit warning this year and the stock tanked nearly 10% in one recent session. Meanwhile, Ericsson has been raising its outlook.
A compelling valuation
Even if you think my thesis about the Nokia-Ericsson similarity is a bunch of hooey, the valuation argument stands alone as reason enough to check out Ericsson shares. Ericsson is trading at 14 times earnings and pays a 2% dividend yield. It is debt free and consistently generates a healthy 20%-plus return-on-equity.
Like Nokia, Ericsson will continue to benefit from booming global growth in mobile phone usage. To be sure, these are no longer the hot growth names that they once were back in the 1990s TMT bubble. But it would be foolish to write them off completely just yet, especially at these valuations.