Recession and Low-End Handsets Hit Nokia as Operating Profits Fall 71% Y/Y

Nokia has reported its results for the second quarter of 2009 and while the results are an improvement on the traditionally slow first quarter, they remain heavily depressed when compared to the same period last year. Revenues in the first quarter of 2009 fell by 27% year-on-year (y/y) to 9.3 billion euro from 12.7 billion euro in the first quarter of 2008. Handset sales fell by 33% to 6.2 billion euro. At 25% overall and 27.5% for the handset segment, the like-for-like period drop was not as marked, but remains significant as the recession continues to bite into handset sales (see World: 17 April 2009: Handset Market Hit as Nokia Profits Plunge 90% While Sony Ericsson Cuts 2,000 Jobs). Nokia Siemens Networks (NSN) also remains in the doldrums; the y/y drop in revenues accelerated from 12.2% to 21.3%. The fourth quarter had been a relatively successful one, maintaining the seasonal peak with the drop in revenues at only 5% y/y despite carriers announcing fairly widespread cutbacks as the recession played through into capital spending budgets (see World: 28 May 2009: Global Capex Tracker – May 2009). Nokia is seeking to acquire Nortel's networking business, which would boost this segment and bringing scaling benefits and other synergies. Nokia has signed a stalking horse agreement that could potentially net the business at a low price (see World: 16 July 2009: Nokia Siemens Signals Willingness to Up Nortel Bid But Warns on Costs).

Operating profits were slashed on an annual basis as NSN continued to lose money, but improved massively on a quarter-on-quarter (q/q) basis as adjustments to operations flowed through and capacity in the core devices segment was more in line with demand (see World: 26 March 2009: Nokia Cuts Handset Manufacturing Contracts with Sub-Contractors; 29 April 2009: Nokia Cuts 450 Jobs in Services Overhaul; and 18 March 2009: Nokia Cuts a Further 1,700 Jobs in Sales, Marketing, and R&D). Service remains a minor component of revenues with sales of 140 million euro, although Nokia notes that divestment of the security appliances business in April 2009 makes like-for-like comparisons difficult. Navteq continues to be a major cost centre as profitability remains distant despite firm improvements in revenues on the previous quarter.

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Outlook and Implications

Devices and Services

Nokia notes that despite the fall in sales, the industry as a whole has shrunk by 12% y/y to a volume of 268 million units, edging market share up from 37% in the previous quarter to 38%. This is still down from its peak of 40% a year ago as unit sales rose by 10.7% q/q, but were still down 15.4% y/y to 103.2 million units in the second quarter of 2009.

The fall in revenues in the core devices and services segment has been predicated by two major factors: device volumes of 103.2 million units are down by 15% y/y, though up 11% q/q; average selling prices continue to fall, hitting 62 euro, down from 65 euro in the first quarter and 74 euro a year ago. Nokia is trading largely in the low-cost, low-margin segment with its concomitant problems, despite Nokia's chief executive attempting to avoid this (see World: 2 January 2009: Nokia CEO to Focus On Profit over Sales Numbers—Report).

Geographic Performance

There are specific reasons for worry hidden in Nokia's geographically segmented performance, most notably the collapse in sales in Latin America and continued weakness in North America. Nokia has long struggled to tap the North American market and, despite specifically aiming to hit its stride here in 2008, continues to fail both to bring devices to market (especially with carrier support) and generate sales. North America should represent an opportunity to make high margin sales, but with the level of competition in the smartphone market extremely high with domestic players, including RIM, Apple and in some ways Google's Android platform, this attractive market is particularly difficult to penetrate. While this partly stems from a legacy of weakness in the CDMA market, Nokia has made a number of efforts to target the United States in particular, but has not met with unmitigated success, for example not gaining carrier support for key handsets and services (see United States: 18 February 2009: Nokia and Qualcomm Partner on Smartphones, Target North America; 2 January 2008: Nokia to Boost U.S. Product Line During 2008;8 March 2007: Nokia Reorganises in North America;and 3 March 2009: Nokia Pulls 5800 Handsets from U.S. Market).

Smartphone Wars

While Nokia is good at manufacturing handsets at a fairly low cost and is unlikely to suffer from the major profitability problems that beset Motorola as it moved what was essentially a high-cost manufactured product (the RAZR) into lower market segments, Nokia will still want to benefit from the higher margins in the upper tier market segments. However, as with its delayed moves into flip phones (which notably have higher manufacturing costs), it has been slow to adopt the slab touchscreen form factor that Apple popularised. The Korean vendors did well from the mass market last year, feeding off the iPhone's halo effect with features such as improved cameras that appealed to a broad segment of the market (see World: 23 January 2009: Nokia Loses Market Share as Global Handset Market Slows and Korean Vendors Gain). Nokia did eventually release the 5800 Music Express handset and is just bringing the N97 smartphone to market (announced some six months ago), but appears to lack the aesthetic design and end-to-end user experience factor that gives the iPhone its 'wow' factor (see World: 3 October 2008: Nokia Takes On the iPhone with Touchscreen Handset and 3 December 2009: Nokia Closes Symbian Acquisition, Releases New Services and Touchscreen Device). Nokia is still selling significant numbers of smartphones—converged device sales rose from 15.3 million units a year ago to 16.9 million for the second quarter. This includes 4.6 million N-Series devices, which compete most directly with the likes of the iPhone, Google Android and Windows Mobile Devices (and now the Palm Pre)—marginally down on 5 million in the previous quarter. It also includes 4.7 million E-Series devices that compete most directly with the RIM BlackBerry devices, which is well up from around 3 million in the previous quarter.