Things aren’t going well for Nokia. The company, which for years was the market leader in mobile phones, has now focused on building mobile networks. It’s a specialised market with little competition and high margins. Nevertheless, Nokia is not doing well; the company is said to be looking for a structural and strategic solution. In the United States, people are calling to invest in, or take over Nokia. Is that going to happen?
In October of last year, Nokia already announced that things were not going well. That margins are under considerable pressure and that no dividend would be paid out for the time being. Something that is disastrous for a listed company. The company then lost more than 30 percent of its value on the stock exchange. It’s not all that easy to reconcile why Nokia is doing so badly. If you look at the market conditions, it should be going very well. Nokia’s CEO, Rajeev Suri, has in the meantime been replaced by Pekka Lundmark.
Consolidation in the mobile network market
In recent years there has been a hard consolidation in the market for mobile networks. Something in which Nokia itself has participated. As a result, there are only three companies left that can supply equipment for mobile networks: Nokia, Ericsson and Huawei.
If you had to gamble, you would rather expect Huawei to be in trouble. Huawei is accused by the Americans of espionage, and they have banned all products and solutions of the brand. Also, American companies are, in principle, not allowed to do business with Huawei. The Americans are trying to get their allies to follow suit. Some European countries have decided to limit Huawei equipment when building new 5G networks.
At this moment, many telecom providers are planning or even rolling out their new 5G network. In countries where Huawei is currently under pressure, it is likely that telecom providers will opt for Ericsson or Nokia. Ericsson seems to have a small preference among providers.
Ericsson currently has 78 contracts for the provision of 5G networks, 24 of which are already on the air. Nokia currently has 66 contracts for 5G networks and 19 airborne networks. Unfortunately, Huawei does not publish figures on 5G contracts but has recently announced that it has an agreement with 91 unique telecom providers. This could be for multiple networks. For example, Vodafone is active in more than 20 countries, each with its own network. Huawei is, therefore, clearly at the forefront of this market. The reason that Huawei is so popular has to do with the fact that the company is at the forefront of innovation. In recent years, Huawei has invested heavily in research and development, enabling it to offer higher speeds than its competitors and also at lower prices.
Nokia’s challenges: focus, cost, culture and innovation
If we compare the financial figures of Nokia and Ericsson, we quickly see that the operating margin varies considerably. Nokia retains only 2.1 percent of every euro that comes in, while Ericsson’s operating margin in 2019 was below the line at 4.6 percent. It should be noted that Ericsson’s operating margin is actually 9.7 percent, but due to restructuring and a fine from the U.S. that has dropped to 4.6 percent.
The investments Nokia and Ericsson make in R&D do not avoid each other enormously, as does the number of employees. Huawei does invest a lot more in R&D. As a result, it has continued with its 5G portfolio and can offer more for less money. The differences between Nokia’s and Ericsson’s products are more difficult to interpret, except that providers choose Ericsson more often. This is mainly due to Ericsson’s sharper focus on building radio access network (RAN) equipment and increasing profitability. Ultimately, the only way they can distinguish themselves from each other is through innovation and efficiency.
Company cultures clash
The only question is where things go so terribly wrong at Nokia. If we may believe the sources close to the company, the answer lies in the acquisition of Alcatel Lucent in 2016. The previous CEO of Nokia, Rajeev Suri, saw the opportunity to take over competitor Alcatel Lucent, which should lead to economies of scale, cost savings and a significant increase in market share. Nokia also saw an opportunity to broaden its focus by offering not only the radio access network, but the complete network. The equipment of Alcatel Lucent comes in handy here.
On paper, it was also a very good takeover. What Nokia supposedly was wrong about is the cultural difference between the two companies. Alcatel (French) and Lucent (American) had merged in 2006 and already had the necessary problems to work well together. The French and Americans both have a very different company culture. At the time of the acquisition of Alcatel Lucent by Nokia, these differences surfaced again. Now there was a difference between Nokia and Alcatel Lucent, but at the same time, the frustrations between Alcatel and Lucent would reappear. Nokia would have had great difficulty in merging the company cultures.
Nokia lost a lot of time to get everything right. The company only focused on saving costs, increasing efficiency, reorganising and solving the problems in the company culture. With the reorganisations, thousands of people have lost their jobs. Because Nokia was busy with those processes and employees were potentially uncertain about their future at the company, Nokia was much less innovative. In the end, the acquisition would have led to less innovation instead of more. Something that also became clear in October when Nokia had to discontinue dividend payments and revise expectations from 5G agreements.
Nokia explores strategic options, is now a prey for acquisition or activist shareholders
Meanwhile, Bloomberg has reported that Nokia is considering its strategic options. The new CEO will have to lead the company in calmer, more profitable and better waters. The question is, however, which direction Nokia will move in. The company still has the necessary options, but there is not much time left.
The most obvious option for Nokia, just like Ericsson, is to focus much more on the radio access network, by only offering the antennas and layout of the mobile masts and not trying to offer a complete end-to-end solution with all the network equipment behind it. For the core network and data management systems, Nokia also has to compete with many more parties. If Nokia were to opt for this, it could divest and sell certain divisions, and the proceeds could then be used to invest in RAN.
We also read here and there that Nokia could merge with Ericsson to once again achieve economies of scale. This does not seem a realistic idea to us, Nokia would make the same mistake. It would again not integrate companies, and that would be at the expense of innovation. In addition, the merger will not be quickly approved by the authorities. Then another player will disappear. Also, countries like Finland and Sweden will undoubtedly fear a negative effect on employment.
Will Nokia become American?
Finally, there is the option that Nokia will be taken over. With a market cap of about 20 billion euros, it would be a substantial takeover, but for some companies or investors this should not be a problem. Whether Nokia itself will actively look for acquisition candidates is not clear, we consider that chance to be small. On the other hand, in American politics, people are concerned that something needs to be done about Huawei’s dominance in this market. Several politicians have already suggested to invest in Nokia and/or Ericsson. Then a takeover of Nokia by an American party is not a strange idea anymore. Certainly not if the politicians would support this with subsidies, tax rebates and the like. For Nokia, it will not be an obvious option, but if the shareholders can make a lot of money with it, anything is possible.
Are activist shareholders lying in wait?
Finally, we do not rule out that Nokia will soon have to deal with an activist shareholder. In a market with so few players, so much knowledge and skill at Nokia, we think there is a very good chance that Nokia is undervalued. That, with the right leadership, focus and investments, there should be much more return from Nokia. If Nokia would only focus on RAN, the necessary divisions could also be divested and sold. This attractiveness for activist shareholders means that the new CEO has little time to fix things.
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