There have been many discussions and speculations regarding Nokia's (NYSE:NOK) patent portfolio. Over the years, the company has spent billions (more specifically, $65 billion in the last 20 years according to the company's latest annual report) of dollars for R&D activities in order to build a portfolio that is highly valuable. Currently, Nokia owns a lot of technologies that are crucial for building a mobile phone regardless of whether it's a feature phone or a smartphone. Around the world, almost every major phone company has to pay Nokia fees for the usage of its patented technologies. Without Nokia's technologies, it is nearly impossible to build a mobile phone, let alone a smartphone.
It is very difficult to value a company's patents. This is why a company's patent portfolio will not appear under "Assets" in the company's balance sheet. Also, it is difficult to look at the money spent on R&D activities to value a portfolio. After all, just because Nokia spent $65 billion on its patented technologies doesn't mean that the patent portfolio is worth $65 billion. This is almost never the case. One good way to measure the value of a company's patent portfolio is to treat it as a separate company and look at the income it generates from license fees and royalty payments.
I was digging through Nokia's latest 20-F form to see some more information regarding the company's patent portfolio in order to end some of the speculations and discussions. I found a lot of valuable information in the 284-page document. Here is a summary statement from the company's 20-F:
"We have built our IPR portfolio since the early 1990s. During the last two decades, we have invested approximately EUR 50 billion in research and development and have approximately 10 000 patent families. As a leading innovator in wireless technologies, we have built one of the mobile products market's strongest and broadest IPR portfolios, extending across all major cellular and mobile communications standards, software and services as well as hardware and user interface features and functionalities. We receive IPR income from certain handset and other vendors. IPR income is reported under Devices & Services Other."
Once Nokia signs a patent agreement or wins a court case against a company that wants to use its patented technologies, there are 2 types of revenues that get generated as a result. First, the company has to pay Nokia for all the past usage of its patented technologies, second, the company has to pay Nokia for all the future usage of these technologies. The first revenue is added to the income sheet as "non-recurring" and the second revenue is reported as "recurring" because royalty payments will continue to be collected as long as the company continues to use the patented technology in its products.
Also, keep in mind that Nokia Siemens Networks has access to many of Nokia's and Siemens' (SI) patented technologies through cross-licensing agreements between the two companies. If the partnership breaks up, the remaining partner will have to pay the leaving party license fees and royalty payments for its patented technologies.
Nokia shows 2 types of income tables for its devices and services segment. One of these tables will include the income from licensing the company's patented technologies, while the other will not. Therefore it is easy to figure out the quarterly income Nokia derives from its patent portfolio. In the company's 20-F it is said that Nokia's devices and services generated €15.87 billion in revenues, which translates into $20.63 billion. There is a note under the table which says that IPR income is included in this figure. Next, the company reports 2 more tables which state that the smartphones generated €5.45 billion ($7.08 billion) and the feature phones generated €9.44 billion ($12.27 billion) in revenues. These two tables have a note saying that these figures exclude IPR income. When we add these two revenue figures, we get a total of €14.89 billion which is $19.35 billion in revenues. The difference between the two figures (i.e., excluding IPR income vs. including IPR income) is $1.28 billion which is the exact amount generated by Nokia's devices and services segment from licensing fees and royalty payments. The company's 20-F reports that €50 million ($65 million) came from non-recurring payments and the rest of the money would be recurring payments. Then again, Nokia expects to pay other companies for using some of their patented technology and it has to spend money on legal costs for fighting to protect its patented technologies. Also, keep in mind that Nokia didn't report its patent income from Nokia Siemens Networks or its mapping segment called HERE. The figure I mentioned above only includes the company's mobile phones and smartphones segment.
Now, moving forward to the first quarter of 2013, the company announced €2.89 billion or $3.76 billion in revenues including the IPR income. Excluding the IPR income, it reports €2.75 billion or $3.57 billion in revenues. As a result, the company's devices and services segment generated $190 million in IPR income. Keep in mind that the IPR income depends on the number of phones sold by the vendors that are using Nokia's patented technologies. For example, as one of Nokia's patent clients, if Apple sells fewer phones in 2013 compared to 2012, the company will pay less to Nokia in royalty payments compared to 2012. Considering that first quarter is usually slow in mobile device sales regardless of company, I expect the remaining quarters to result in better IPR revenues for Nokia. Last year, in the first quarter, Nokia generated $299 million in patent fee and royalty payments.
In conclusion, while the exact number will depend on how well the smartphone industry performs as a whole, Nokia is expected generate between $800 million and $1.5 billion in patent license fees and royalty payments annually. Considering how IDC estimates that the smartphone industry is expected to double in size between now and 2017, this number can grow considerably. If we assign a P/E ratio of 10 to Nokia's patent portfolio, the patents under the mobile devices segment alone will be worth between $8 billion and $15 billion. On the other hand, looking at Nokia's current market price, investors of the company think that all of Nokia is worth that much. If Nokia can turn a profit this year, there will be a lot of upside for the company. Investors still don't realize how valuable Nokia is at the moment.
Disclosure: I am long NOK. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.