4 Risks to Our Nokia Estimates Pre-Earnings
Nokia (NYSE:NOK) stock has taken a beating in the last few months, and its stock has declined from more than $10 at the beginning of the year to around $5.50. In a recent note we looked on why our estimates are well ahead of the markets, which are based on in it righting its smartphone strategy and defending its profit margin decline. However a flurry of bad news including the announcement of updated revenue guidance for the full year 2011 in May 31st, recent smartphone price cuts in Europe, and ratings downgrade by credit rating agencies are weighing on the stock. Nokia has found itself in a difficult situation leading investors to believe competitive edge to Google (NASDAQ: GOOG) Android, Apple (NASDAQ:AAPL) iOS and Research in Motion (NASDAQ:RIMM) BlackBerry OS in the smartphone operating system market.
We currently maintain $9.20 price estimate for Nokia stock, implying an upside of around 65% over market price.
Below we look at the 4 key drivers that impact Nokia’s stock value.
Summary of key drivers
1. Nokia emerging markets mobile phone prices: Nokia has continued to slash its mobile phone prices in emerging markets as Nokia mobile phones become a commodity. The average pricing has declined from 94 Euros in 2005 to 56 Euros in 2010.
2. Nokia mobile phone market share in emerging markets: Nokia has found the going tough in emerging markets with low cost Asian mobile phone vendors snatching share from Nokia. Its markets shared has declined from 45% in 2008 to around 32% in 2010.
3. Nokia mobile phone EBIT margin for emerging markets: Nokia’s operating margins have been in free fall over the last few years, primarily due to continuous mobile phones price cuts strategy employed by the company. Its margins have declined from about 20% in 2007 to 11% in 2010 and are expected to decline to around 5% by 2011.
4. Nokia market share in developed markets: Nokia’s situation is no better in developed markets. Its market share in developed markets has declined from around 29% in 2007 to 25% in 2010.
40% downside scenario – $5.60 price estimate
1. Increasing competition forces price cuts (-10%): Nokia not only faces challenges from low cost Asian vendors like ZTE, Micromax and Spice but also from Google’s Android-based smartphones. Android has started to gain presence in Asia, and the only resort left for Nokia would be to slash prices further.
In the scenario where Nokia’s average pricing in the emerging markets declines at a faster rate to reach around 20 EUR by the end of Trefis forecast period, there could be a downside of 10-15% to our price estimate for Nokia stock.
2. Low cost iPhone another threat in emerging markets (-10%): In addition to the above, Apple could threaten Nokia in emerging markets if it comes up with a low cost iPhone specifically for emerging markets. Speculation is rife that this could happen when Apple release its next version of iPhone in September this year.
In the scenario where competition eats away Nokia’s market share, and its share in emerging markets declines to around 8% by the end of Trefis forecast period, there could be a downside of about 10% to our price estimate for nokia stock.
3. Operating margins decline (-10%): Although we expect a steep operating margins decline in 2011, we expect it to stabilize beyond 2011 as the transition to Microsoft’s (NASDAQ:MSFT) Windows Phone 7 could produce cost savings for Nokia. Management has mentioned that the partnership with Microsoft is intended to reduce Nokia’s devices and services expenses by 1 billion Euros by 2013 from 5.65 billion Euros in 2010. [1] However, if Nokia can’t bring about these cost savings, we could see margins pinched further.
In the scenario Nokia’s operating margins continue its historical path of decline to reach around 1% by the end of Trefis forecast period, there could be a downside of 10% to our price estimate for Nokia stock.
4. Struggle in developed markets (-10%): Nokia’s market share in developed markets, especially the U.S. continues. It continues to sell most of its smartphones as unsubsidized in the U.S. market making it hard to gain market share with average prices over $500 in the U.S.
The recent price cuts across its product portfolio in Europe were considered a desperate attempt by Nokia to remain competitive. [2] In the scenario where its situation doesn’t improve, and its market share continue to decline to around 6% by the end of Trefis forecast period, there could be a downside of around 10% to our estimate for Nokia stock.
See our complete analysis for Nokia stock here
Notes:- Nokia Q1 2011 earnings conference call transcript, April 21st 2011 [↩]
- Nokia cuts smartphone prices, Reuters, July 5th, 2011 [↩]