Nokia Faces NSN Conundrum As Siemens Readies To Exit
Siemens seems to be increasing its efforts at finding a suitable buyer for its wireless infrastructure joint venture with Nokia (NYSE:NOK), Nokia Siemens Networks. The German company has reportedly approached a number of private equity players, including Blackstone, TPG and KKR, to see if they would like to buy out either the joint venture completely or possibly only its stake in the company. [1] The talks seem to have followed after a recently amended shareholder agreement allowed both Nokia and Siemens the freedom to do as they wish with their stake without the fear of being vetoed by the other party.
Siemens, which has only a non-controlling stake in the JV, has been looking to shed its non-core assets in recent years, and exiting the joint venture fits in well with that strategy. Nokia, on the other hand, faces a tricky situation and may not want to sell out completely given its controlling stake in the venture that is undergoing a successful turnaround in operations currently.
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Nokia’s dilemma
The joint venture has been the lone bright spot for the handset maker over the past year as its smartphone sales plummeted amid a tough transition to Windows Phone. Due to the ongoing restructuring process as well as the transition to 4G LTE taking place in many parts of the world, the venture has managed to not only return to operating profitability in the last few quarters but has also generated cash for six quarters in a row. At a time when Nokia is conserving cash by suspending dividend payouts and leasing its headquarters instead of owning it, NSN is proving highly valuable with its steady cash flows despite not being a core asset. Last quarter, for example, the company managed to generate cash solely because of NSN’s performance. While NSN generated more than 230 million euros in free cash flow last quarter, Nokia Group, as a whole, could manage less than 90 million Euros.
As a result, we estimate that NSN is Nokia’s biggest value contributor currently, accounting for almost 40% of our $5 price estimate for the company. This essentially means that Nokia won’t part with such a valuable asset easily. It would look for an enterprise value of around $6 billion for its half of NSN to cash out or reduce its stake in the company. However, given that NSN hasn’t been profitable on an ongoing basis, it might be tough for the JV to command a good valuation right now. And Nokia won’t likely settle for anything less considering the ongoing turnaround at NSN and valuable cash flows it is generating. Therefore, while Nokia will eventually look to exit the JV considering it is not its core focus, we don’t see this happening until the handset business has sufficiently turned around and NSN has achieved sustained profitability for a few quarters. Until these two conditions are met, we expect Nokia to look for a partner to replace or acquire a part of Siemens’ stake in NSN.
NSN’s turnaround
The likelihood of NSN sustaining profitability is reasonably good. Over the past year, Nokia Siemens Networks has increasingly shown signs of turning the corner as a result of an ongoing restructuring that has not only helped improve its operating margins but also restored focus on its wireless business. As a result, NSN has fast emerged as the leader in the ongoing 4G LTE transition around the world and is taking share away from competitors. As of the third quarter of last year, NSN had succeeded in increasing its market share to about 20% share of the wireless infrastructure industry, only 2% behind #2 player, Huawei. [2] It now expects to reclaim its #2 spot behind Ericsson by the end of 2013. Most of these gains should come on 4G LTE – a market NSN managed to capture almost 22% of in Q3 2012, up from 13% the previous year.
Apart from revenue share gains, NSN is also benefiting from the streamlining of operations and the ongoing job cuts. By the end of 2013, NSN aims to cut around 17,000 jobs and achieve a total of $1.35 billion in savings as part of the restructuring initiative announced in late 2011. Simultaneously, NSN has been selling off non-core assets and increasing focus on wireless broadband which has strong long-term growth trends as opposed to the relatively stagnant landline market. As a result of the reshuffle, NSN has performed really well recently, returning to operating profitability in Q4 2012 and managing to turn a small profit in a seasonally weak Q1 as well. We estimate NSN’s EBITDA margins in 2012 to have doubled over the previous year. This is a big positive sign that the company’s cost-cutting initiatives are taking hold – a trend we expect to continue in the coming years as well.
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Notes:- Siemens Eyes Network Deal, WSJ, June 14th, 2013 [↩]
- Nokia Siemens gains market share in telecom equipment: Dell’Oro, November 13th, 2012 [↩]