By Matein Khalid: Chief Investment Officer and Partner at Asas Capital
Nokia has been my value darling de jour this summer but even I was stunned by the 10% rise in the shares after the blowout 2Q results on July 25th, mainly the revenue/earnings beat in the Networks division. IP routing, optics networks were on a roll as well as the mobile access business. Finland’s reinvented network infrastructure vendor is thus a prime candidate for a valuation rerating, especially as the seasonally strong 4Q vindicates the guidance.
Nokia (symbol NOK on the NYSE), the iconic mobile phone handset manufacturer in the 1990’s, was once ranked as among the most valuable companies in Europe. Nokia’s fall from grace was spectacular. It totally missed out on the smartphone revolution. Nokia once sold 50% of the world’s handsets – it now sells 1%. Nokia has now largely exited the handset business and is a supplier of telecom equipment (routers, switches, optics), software and networks/services to communications service providers (CSP’s or telecom operators in plain English) all over the world.
Nokia shares have been a lemon for investors since 2014, when it inked its ultimately doomed deal with Microsoft. In fact, Nokia was leprosy for almost two decades as its high on the ADR was $48 and now trades at a mere $5.65 after the 10% July 25th windfall. Nokia trades at a 12 times earnings, commands a mere $30 billion market cap and offers a 4% dividend yield. This is the first time I have even written about Nokia in the MENA financial press since 1998, when I had visited Helsinki in the winter of 1998 and gone gaga over Nokia. So why even bother now? As a “data dependent” dude, eight reasons.
One, Nokia missed the Street’s earnings and margins forecast in the first quarter. Yet the reason was not any loss of wireless market share to Samsung, Ericsson, XTE or Juniper but in the timing and revenue recognition of shipments.
Two, Nokia’s gross margins are highly correlated with the mix between hardware and software products. Nokia’s Networks and Software division plans to upgrade its 4G wireless software product suite and release its 5G software offering later in 2019. These developments in 2H 2019 are not remotely priced into Nokia shares at current levels.
Three, Nokia is a huge beneficiary of the new tech Cold War between America and China, which largely devastates Huawei’s ambition to be a major supplier of 5G network infrastructure products to US/European telecom operators, governments and corporates. Washington’s crackdown on Huawei, despite the tariff truce in Osaka, fundamentally changes the balance of power between global telecoms and network equipment suppliers. Nokia and Ericson are clear winners in the trade war as dozens of global telecoms will be forced to upgrade them as a primary base station/software/chipset supplier. This is particularly true as 5G software defines complex, critical communications networks in the West. The shift to 5G will enable billions of wireless devices to connect as robots, IOT, smart factories and autonomous vehicles become ubiquitous.
Four, the transition to 5G networks means a quantum increase in Nokia’s licensing and royalties revenues not priced into current share price valuations. Nokia trades just 10% above its five year valuation lows.
Five, Nokia’s ability to provide end to end networking solutions for global telecoms will enable it to be replaced as a primary vendor in nations like Britain, Australia, Japan, New Zealand and Canada, where governments share Washington’s concern with the Huawei’s links to the People’s Liberation Army intelligence services – after all, Huawei’s founder is an ex PLA officer and Chinese law requires the company to collaborate with Beijing’s spies at Guanbo.
Six, Nokia hails EU member from Finland and CEO Rajeev Suri is an ethnic Indian. This is important because geopolitics will play a critical role in global networking contract awards. I remember how China’s ZTE shares fell 50% after Congress crippled its US business overnight after the CIA confirmed it was selling telecom hardware to North Korea. This lesson will not be forgotten by the world’s telecom operators. Never allow America’s enemies into your communications networks or the Christians In Action (CIA) will destroy your business model. Huawei once sold more smartphone than Apple, generated more revenues than Microsoft yet Trump killed its 5G ambitions with his Executive Order.
Seven, 5G is one of the world’s most revolutionary, disruptive network technologies in history, global telecom’s biggest infrastructure upgrade challenge ever. AT&T and Vodafone have cancelled their 5G networking contracts with Huawei. This is the mother of all windfalls for Nokia (and, yes, Ericsson from Sweden, the Nordic nation that gave the world Abba, Volvo and bro Jonas Lindblad).
Eight, 5G will connect billions of wireless devices at incredible speeds and software defined, optimized complex networks will be the catalyst in its infrastructure rollout. 5G will have a longer build out cycle than previous wireless generations, more global users and a complex mesh network architecture. This trend directly feeds into Nokia’s competitive advantage and networking software DNA. Optimized networks, client data analytics, IOT connectivity all require 5G software intensive solutions, Nokia’s forte. Pricing power will then move from global telecom to the world’s only two major non-Chinese network equipment suppliers – the Nordic twins Nokia and Ericsson. I can envisage a world where Nokia’s revenues double from $24 billion in 2020 to $48 billion three years later – but then so will its stock price in Helsinki and New York.