Finding Value in Nokia: Why this Finnish Technology Giant Deserves a Second Look

Finding Value in Nokia: Why this Finnish Technology Giant Deserves a Second Look

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We recently highlighted Nokia (NOK) as a company which could benefit from the Windows 8 launch. But there is more to the Nokia story. Share price was up 12.2% on Wednesday, and 7.5% on Black Friday, before pulling back early this week. Rumors around Wall Street attribute the rally to strong Lumia sales in Germany.

My investment thesis for Nokia is complicated, but can be broken down into four main points. 1) Margin of Safety: Nokia’s impressive patent portfolio serves as a steady revenue source and significantly increases the liquidation value of the company, insuring shareholders against loss of capital due to share price depreciation. 2) Core Competencies: Nokia’s Mapping Technology segment and their Siemen’s Global Network segment show solid growth in profitability. 3)Emerging Markets: Nokia’s presence in emerging markets is growing through their feature phone line, Asha, which is especially popular in India and China. 4)Lumia/Windows Phone 8: Nokia has long been a niche player in the international smart phone market, but early sales seem to indicate aggressive pricing and innovative design of the Lumia 920 coupled with the long-awaited Windows Phone 8 mobile operating system will return Nokia to relevancy and profitability in the mobile phone market.  This return to profitability in their Mobile Phone Segment, coupled with the cost reductions in recent years, and the other factors previously mentioned, should return Nokia to profitability and cause the stock to appreciate significantly over the next year.

Nokia stock performance (last 30 days)

 

Margin of Safety:

Value Investors have always looked to invest in companies which possess a “Margin of Safety”, essentially a margin of safety is when for some reason the market price of a stock, is significantly below the intrinsic value of a company. This term explicitly differentiates between the price and value of a company. The price of a company refers to the current price shares are trading for on the stock market. The value of the company refers to the worth of the company as determined by one or more of various valuation methods. Nokia possesses this coveted margin of safety in the form of their patent portfolio.

Nokia owns approximately 18% of all necessary patents for LTE, which is used in iPhones, Android and BlackBerry. As a result, Nokia receives a commission from Apple (AAPL) on all iPhone sales. Nokia generates $646 million a year in patent revenue. This number is expected to grow as on November 28th, it was announced that Nokia won a patent dispute against Research in Motion (RIM), the manufacturer of BlackBerry. RIM will likely be forced to pay Nokia royalties on every BlackBerry sold. Android manufacturers will also likely settle with Nokia in the coming future, as they use the same technology that Apple does. This additional revenue, combined with Android’s projected market share of the growing smart phone market would value the revenue from Nokia’s patent portfolio well over $1 Billion. Intellectual Property Analyst Florian Mueller predicts that HTC will settle with Nokia and agree to pay licensing fees since HTC recently has settled with both Apple and Microsoft and Nokia has brought 32 cases of patent infringement against HTC, the first of which began in Germany on 11/21/12. If HTC pays Nokia even half of what they pay Microsoft (MSFT), then Nokia will generate over $800 million annually from HTC alone. Nokia’s dominance of the necessary patents for 4G is similar to the dominance Microsoft held on 2G/3G patents, which MSFT successfully converted to an estimated $3.2 Billion in annual patent revenue. Nokia reported total revenue of 38.6 Billion Euro’s last year. If their patent revenue increases to match the levels previously seen by MSFT, as Florian Mueller predicts, that would be an increase of 1.98 Billion Euros, or 5.1% of total revenue.

Nokia is finally seeing their massive expenditures in Research and Development pay off. In the last 11 years, Nokia has spent over 10 times what AAPL has spent on Research and Development. The estimated lifespan of Nokia’s patent portfolio is approximately 13.8 years. This means that Nokia will be generating revenue off of their patents for the next 13.8 years. Intellectual Property analysts Envision have valued the future cash flows generated from Nokia’s US patents at approximately 3.8 Billion dollars. The Wall Street Journal valued the entire patent portfolio at close to $6 Billion (including European patents). This would value Nokia’s patents at about 1.40 a share, or about 44% of current share price.

More importantly for Nokia shareholders however, is that based on the precedent transaction when Google (GOOG) bought Motorola Mobility’s patent portfolio, which controls 6% of all essential patents for 4G, for $12.5 Billion, Nokia’s patents alone are worth more than the current market value of the company. Nokia controls 18.9% of essential patents for 4G, a testament to the quality of their patents, and has the 2nd most mobile patents behind strategic partner MSFT with 15,897 US patents issued, and another 4,453 patents pending.  Nokia also has another 20,000 foreign patents. Nokia’s patent portfolio is demonstrably more valuable than Motorola’s $12.5 Billion patent portfolio. Analysts have argued that the patent market is cooling off and that Google grossly overpaid for Motorola’s patents. Nevertheless, even if Nokia were to sell its patents for the same amount, $12.5B, that would value Nokia’s patents at $3.37 a share. As a public company, Nokia’s board bears a fiduciary responsibility to the shareholders, the owners. Because of this duty to act in the best interests of the shareholders, before Nokia would be to declare bankruptcy, they would attempt to sell the company, or at least the patent portfolio. The value of Nokia’s intangible property would give Nokia a break-apart value greater than current market price. This gives investors a margin of safety, because investors can purchase the stock at current levels and still profit from the buy-out which would most likely result if the Lumia fails and Nokia becomes distressed.

 

By: David Emami

 

This article is part 1 of 4.

1) Finding Value

2) Core Competencies

3) Emerging Markets

4) Lumia/Windows Phone 8 


 

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9 Responses to “Finding Value in Nokia: Why this Finnish Technology Giant Deserves a Second Look”

  1. Charles Rockefeller says:

    I am holding lots of NOK shares now. Thank you very much for the analysis !

  2. Sudhakar M says:

    Nokia has been being looted by dirty Microsoft and dirty Elop just to increase WP market share which has been less than 4% for past few years due to its ugly interface, features and applications.

    Microsoft forced Nokia to kill its Symbian and Meego and go only with Windows Phone OS. How can a hardware company go with only one OS ? A hardware company needs to offer its phones in all available and popular OS, just like how a software company offers its OS to as many hardware manufacturers as possible. How this simple thing is not going into Finnish people and govt and how they are believing Elop that a single OS can save Nokia ? I simply don't understand this. They must be knowing but pretending as if they dont know anything and letting Nokia looted by dirty Microsoft.

    Can Microsoft dare to sell its WP OS only through one hardware manufacturer, whether it is Nokia or Samsung or somebody else ? Surely not. Then, why should Nokia stick itself to only one OS that too very unproven, rejected by people by so many times. What is the fun here, Finnish Govt ? Act at-least now before it is too late, and make Nokia produce phones with all popular OS. Under Elop (and Microsoft), Nokia made more than $5 billion in loss and much more in market capitalization. Fire Elop and extract all this loss from him and from Microsoft.

    Finnish Govt, you should teach a lesson to those dirty Elop and Microsoft so that other people learn and don't attempt to do so in future.

    • David Emami says:

      While Nokia's choice to exclusively use Microsoft's operating system as opposed to using both Android and Windows like HTC is definitely a unique move, in the long run, it will likely benefit both companies. Without a doubt, one of them will end up benefiting more than the other, but at the very least, they are better off together than they were making individual forays into the smart phone market.

      Symbian was a very old operating system which needed to be completely overhauled. Nokia's Symbian had already been relegated to a niche player in the global smart phone market. As you mention, the Windows Phones had less than 4% market share. Both Microsoft and Nokia were increasingly desperate to break into the smart phone market, hence the joint agreement.

      Brief overview of the synergies created by the agreement:

      Intellectual Property- Microsoft and Nokia have the two largest patent portfolios in America with regards to smart phone technology. Both companies will benefit from access to the other companies patents.

      Cash Considerations – Nokia is aggressively expanding not only its Smart Devices segments but other operating segments as well. I believe (and this opinion is shared by Nokia's Board of Directors) that Elop has the strategic vision and management skills to lead Nokia's recovery. The only thing that can derail this recovery would be if Nokia was unable to finance the recovery. Microsoft paid Nokia over $1 Billion for Nokia agreeing to exclusively use Microsoft Windows in its smart phones. In addition to this initial investment, MSFT now has a considerable vested interest in seeing Nokia survive. Microsoft is a powerful ally.

      Marketing- Microsoft and Nokia have both marketed the Lumia/Windows 8 more aggressively than any new product in either company's history. Part of their marketing strategy involves a limited roll out with aggressive marketing prior to launch in each location. The combined resources of these two large companies are allowing this to be a large and innovative marketing campaign.

      Also from Rick Whiting: Nokia will provide mapping, location based services, hardware design, multiple language integration and imaging technology. Microsoft will run bing search, provide expertise in gaming, social media and advertising.
      - http://www.crn.com/news/mobility/229402003/micros

      Since the deal was announced, MSFT and NOK have grown the number of apps on windows mobile from about 7,000 to over 100,000.

      Nokia needed to latch itself to another company for survival and it actually originally considered Google, but opted for MSFT because they determined that a relationship with Android would have very little profit potential and they felt that Android was not innovative enough.

      Elop and Nokia are hoping that the close relationship between MSFT and NOK gives them a competitive advantage both from a cost efficiency perspective and allows them to develop superior hardware integration with Windows 8.

      Only time will tell if this strategy will ultimately be successful, but I believe that a joint-alliance was necessary to allow Nokia to survive in the smart phone market and given the circumstances, I believe MSFT was the right partner.

  3. FloridaTrader says:

    Thank you for the article Dave.

  4. Bob Martin says:

    Dave, you are right.

    Nokia will not go bankruptcy. Nokia will have positive result Q1/2012 at the latest. Nokia will have plenty on new smart phone during 2013.

    Nokia stock is LONG now. If someone wants to get rich you should buy the stock. Hurry hurry…before short players will buy the stocks. Short squeeze will start very soon!

  5. David Emami says:

    Thank you guys for the feedback.

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