Good news for Nokia (NOK) shareholders after the company reported its second quarter financial results. It announced that net sales for the period reached $9.2 billion, slightly higher than the $8.92 billion posted last quarter. On a year-on-year basis, this is a decline of 19%. This translates to loss per share of $0.09, behind analysts' expectations of loss per share of $0.10 and $0.11.
The results appear disappointing, but this should not surprise investors tracking the company. Last month, Nokia revised its expectations for the quarter. It cited higher restructuring charges amounting to 1.9 billion euros for the next two years. It further mentioned that competitive industry dynamics are negatively affecting its device and services segment. Thus, it expects its operating margins to be below its first quarter 2012 level of negative 3%.
On the average, Nokia is expected to post loss per share of $0.38, a decline of around 200% compared to the same period last year. This estimate seems overly bearish as analysts seem to have low expectations that its Lumia smartphones will deliver good news. Its loss per share is expected to narrow down to $0.04 next year. For the next five years, the company is forecasted to grow by 10% a year.
In the latest quarterly filing, Nokia reported better than expected sales in Lumia smartphone units. It sold 4 million units for the period, outselling the 2 million units sold in the previous quarter. This implies that the company is avoiding falling from the cliff. The weak first quarter 2012 results heightened fears that Nokia's cash burn is getting out of hand. Its current weak operating results signal that a transition to the smartphone age will be a slow and painful process. But, this gives me more reason to believe that Nokia can survive the transition.
The better than expected sales from Lumia could spell an end to a period of declining sales. For the last five quarters, Nokia has reported quarter on quarter slowdown of revenues. While management is doing its best to bring the company back to its feet, it admits that it has to compete head on with the market leaders. Moving forward, it is optimistic about Lumia's prospects. It sees that Microsoft (MSFT) Windows-based Lumia will halt market share gains of competitors Apple's (AAPL) iPhone and Google's (GOOG) Android licensed phones.
Based on the research firm International Data Corporation, Android-based Samsung (SSNLF.PK) phones and iPhone shipped almost half of global smartphone. Samsung extended its lead over Apple as it shipped more than 50 million units as consumers wait for the next iPhone model. Meanwhile, Nokia smartphone underwent another transition for the quarter. The demand for its legacy Symbian and Meego units has declined significantly. In terms of historical perspective, this is the biggest decline in shipments since 2005. Despite the decline, the company doubled its Lumia smartphone shipments from the previous quarter. The research firm cited that Lumia sales have remained steady despite the Windows Phone 8 announcement. It experienced strong traction in China and Latin America, a market where the Android dominates.
As mentioned above, the transition to smartphone will be a slow and long process. The silver lining is that volumes have stabilized on its lower-cost feature phones. Shipments were up by 2.4% year-on-year, albeit prices continue to decline. Moving forward, I expect that this segment to moderately decline. This is good as long as it provides additional source of cash flow to the company that will boost Nokia's transformation into a smartphone maker.
Tough Competition in the Smartphone Scene
While I am certain that Nokia will be able to withstand this phase, it does not mean that they are out of the woods. Global smartphone industry has experienced a decline. Total worldwide smartphone sales fell 39% to 10.2 million units. The decline is due to the slump in Europe and China offsetting the flat growth rate in North America.
Given the strong competition in the smartphone scene, the company has experienced decline in margins. Nokia's operating margins have declined from 15.9% in 2002 to negative 2.8% in 2011. Its gross margins are also getting a hit at 1.7% compared to 15.6% last year and 23% a year ago.
In contrast, Apple's operating margins have improved from flat 0.30% in 2002 to 31% in 2011. Its gross margins have also improved significantly from 27% in 2002 to 40% in 2011. Microsoft's Devices segment has also seen stable growth and margins. For the latest quarter, it has grown its operating income by 5% year-on year. This also translates to steady margins of 14%. Separately, Google's Motorola revenues have contributed $1.25 billion, or 10% of consolidated revenues. Despite this, it still reported an operating loss due to one-off expenses related to the acquisition. Going forward, it needs to launch blockbuster smartphones to improve its market share.
Finally, Research In Motion's (RIMM) operating margins have been erratic. Its operating margins went as much as 28% in 2008 to 8% in 2012. Research in Motion is also struggling to return to its historical profitable levels but I am not sure whether the Blackberry maker can survive in this tough environment.
It is important for Nokia to gain critical mass in market penetration. I believe that the only way to do this is through aggressive pricing. Thus, we expect that margins will be lower before returning to historical levels. I also believe that it should be able to differentiate its units from its competitors to gain further traction.
No Cash Burn This Quarter
The company's cash position is at $11.5 billion for the quarter with net cash at around $5.1 billion. It has operating cash flow of around $125 million, with the majority of its expenses mostly in restructuring charges. The company is also looking to sell some of its patents worth $6 billion, assuring investors that it can withstand stressed situations.
For the third quarter, Nokia said that operating margins will be the same as in the second quarter. It expects that it will also be a challenging quarter for its smartphone business from the transition. The competitive landscape appears tough and consumer demand is also expected to be lower from the uncertainties across global economies.
Management is effectively managing its financial position. The current quarter is a notable improvement after reported fears that the company is experiencing cash burn at an unprecedented rate. Going forward, it will still be a difficult journey for Nokia, and this will test investors' patience over the company.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.