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There have been a lot of rumors recently about Nokia (NYSE:NOK) being bought by Microsoft (NASDAQ:MSFT), by a private equity firm, going bankrupt or in a partnership with Microsoft to bid for Research in Motion (RIMM). While no one can tell what will happen, lets try to see what could make sense.

Ten years ago Nokia had almost no competition. Everybody wanted a Nokia and its business was growing every year, leading the company to increase its operations in order to satisfy demand. Back then, Apple (NASDAQ:AAPL) made computers and Google (NASDAQ:GOOG) was a search engine. Nokia was dominating the market without any serious competition.

Until the iPhone was introduced, Nokia managed to keep things going simply by upgrading both its software and hardware, and without any real innovation, failing to anticipate the industry change that Apple created. They probably thought that they were number one and things would continue that way if they just kept upgrading their products, taking them not to see a new market that was right before their eyes. Even Google saw that Apple had created that new market and created the Android, an operating system for smartphones with an enormous success and who took the market share that should have been Nokia's.

So, at the beginning of 2011, Nokia finally acknowledged that it was behind the competition and that it had been developing an operating system (Symbian) that had almost no future, taking them to partner with Microsoft. This was the end of Nokia as we knew it and the beginning of a new company.

Chart forNokia Corporation

Just a short comment on Nokia share performance: It's interesting that back then, Nokia was trading at above $7 and we just only knew that there was a partnership. No clue about the new products and if the Windows Phone would be any good. Today the reviews about the Lumia have been good and the stock is below $3. Wonder what the market was expecting back then...

But lets continue. The partnership was and is great in one thing: they both need each other to succeed. Microsoft doesn't understand about making mobile phones but wants to have a relevant position in the market. Nokia knows how to make good phones but its software is outdated. Good hardware without good software wont take Nokia anywhere and good software without having a good device to carry it is worthless.

 Q1 2012Q4 2011Q1 2011
Revenue millions$7,354$10,005$10,399
Operating Income millions($1,340)$136$439
Net Income millions($929)($1072)$344

So the transformation that begun at Nokia last year is still going. It's pretty normal that we're seeing this kind of results when the new products are still coming to the market and the company is shrinking to its new levels of demand. It's simply impossible in the short-term for a company to replace its outgoing technology for a new one without affecting its sales. Also, there is now competition that wasn't around ten years ago so historical levels of market share shouldn't be compared.

Nokia is adjusting to its new reality, not going bankrupt. All this transformation costs money, but it's fundamental for the future of the company and it will still take some time for the results to appear.

So, from all of the rumors that have been around recently, I only believe in the possibility of Nokia being bought by Microsoft.

 End of first quarter
Cash and short-term investments millions$10,065
Long-term debt millions$3,874
Total equity millions$10,892

It would make sense and cost very little for Microsoft to buy Nokia given that they would save on what they pay them to use the Windows Phone, and Nokia itself has a lot of cash on its balance sheet. And this without even considering the potential value of their patent portfolio.

But ultimately I believe that Nokia will recover alone. Its future is on Microsoft hands but without a significant premium, Nokia shareholders would probably reject the offer so things will probably keep on going naturally. They both need each other.

Source: Will Nokia Recover Or Be Bought?