17 April 2009

NOK: Financial Analysis through March 2009

Nokia Corp. (NYSE: NOK) has announced earnings of €0.03 per share, on an IFRS basis, for the first quarter of fiscal 2009.  This post provides the GCFR analysis of the financial statements.

Headquartered in Espoo, Finland, Nokia is a leading global manufacturer of mobile phones and network infrastructure.  Nokia shipped 468 million mobile devices in 2008, which was, according to company estimates, about 39 percent of these devices sold worldwide.  Nokia claims to have been the worldwide market share leader since 1998.  However, Nokia's share of the North American market is more limited, according to Fortune Magazine

Nokia's rivals include Samsung (SEO: 005930), Motorola (NYSE: MOT), LG Electronics (SEO: 066570) and Sony Ericsson.  At the high end, Nokia also faces competition from Apple's (NASDAQ: AAPL) iPhone and Research in Motion's (NASDAQ: RIMM) Blackberry.  Nokia responded to Apple by establishing its own online music service.

Nokia's hand-held product line ranges from modest phones with tight profit margins to units that are stylish, feature-laden, and expensive.  The market for these devices, which until recently had been growing at a rapid pace, is highly competitive, and product development cycles are short.  The relative fortunes of the various manufacturers can change rapidly in this environment (cf., Motorola).

In February 2009, Nokia decided to use chips made by Qualcomm (NASDAQ: QCOM) in its 3G phones.  When these two companies resolved a long-running patent dispute last summer, Nokia paid Qualcomm €1.7 billion.

To better compete in the network infrastructure market, Nokia and Siemens (NYSE: SI) formed a 50/50 partnership in April 2007.  The new company was named, with little imagination, NokiaSiemens Networks.  NSN had sales of €15.3 billion in 2008 (about 30 percent of Nokia's total annual revenue), and NSN's results are fully consolidated into Nokia's financial statements.  This presents a comparability challenge because Nokia's financial statements before April 2007 don't include the businesses the German powerhouse contributed to the partnership.

Three months ago, the results from the fourth quarter of 2008 caused the GCFR Overall gauge of Nokia to drop 11 points to 42.  The Cash Management and Growth gauges were especially weak at the end of the year, with Growth sinking to zero of the 25 possible points.  The contrarian Value gauge, which tends to move in the opposite direction of the share price, was boosted by the 59 percent decline in Nokia's ADR price during 2008.  The fourth-quarter evaluation was explained fully in this analysis report.   [Subsequent tweaks to our gauges resulted in minor alterations to the scores].

Now, with the data from the March 2009 quarter, our gauges display the following scores:

Before we examine the factors that affected each gauge, we will compare the latest quarterly Income Statement to our previously announced expectations

Nokia's financial statements are prepared in accordance with International Financial Reporting Standards (IFRS), rather than U.S. Generally Accepted Accounting Principles (GAAP).  The Euro (€) is the currency used in these statements.  Also, Nokia isn't required to file 10-Q and 10-K reports with the SEC

Please note that the presentation format below, which we use for all analyses, may differ in material respects from company-used formats and terminology.  A common difference is the classification of income and expenses as Operating and Non-Operating. The standardization is simply for convenience and to facilitate cross-company comparisons.


Assuming significant declines both in the number of mobile devices sold and in the average sale price per unit, we expected total Revenue would be down 24 percent from the year-earlier quarter.  Revenue actually fell by 27 percent.  Looked at another way, Revenue in the quarter was 3.6 percent below our estimate.

On the other hand, the Gross Margin wasn't quite as bad as we predicted.  We estimated that the margin would drop from 36 percent of Revenue in March 2008 to 30 percent.  However, the margin only fell to 31.3 percent.  The latter figure translates into a Cost of Goods Sold (CGS) of 68.7 percent of Revenue.

Research and Development (R&D) expenses were 16.2 percent of Revenue, which was much more than our 12.9 percent estimate.  However, the reported R&D figure includes an €142 million expense for Amortization of acquired intangible assets.  With this special charge excluded, the R&D ratio would be 14.6 percent.

We expected Sales, General, and Administrative (SG&A) expenses would be 12.6 percent of Revenue.  SG&A was actually 13.4 percent in the first quarter.

"Other" operating expenses were €88 million less than the estimate we made by averaging the quarterly charges in 2008.

Lower Revenue and greater-than-expected R&D expenses were the main reasons Operating Income fell significantly short of our hardly sunny estimate.  Operating Income was 96 percent less than in the first quarter of 2008.

Since Nokia increased its Debt level rather substantially, the net Interest expense was greater than historical trends would have suggested.

It seems bizarre that an income tax benefit of €16 million was the sole reason Net Income before Minority Interests was positive.  And, Minority Interests contributed essentially all of the three Euro cents per share of profit attributable to the equity holders of the parent company.

Net Income was 90 percent below earnings in the March 2008 quarter.  Net Income fell short of our prediction by 41 percent.

Cash ManagementMarch 2009
3 months prior
12 months prior
Current Ratio1.3
 2.3 years
1.4 years
0.2 years
29.4 days
32.2 days
24.0 days
Finished Goods/Inventory
Days of Sales Outstanding (DSO)74.7 days
74.3 days
55.0 days
Working Capital/Invested Capital 47.4%
Cash Conversion Cycle Time
40.6 days
35.9 days
30.5 days
Gauge Score (0 to 25)

The two debt-related measures are up substantially, but they aren't anywhere near worrisome levels.  The expanded Inventory relative to last year's level is confirmation of the soft sales environment, but we note the improvement from the fourth quarter of 2008.  We wish Nokia would report the proportion of Inventory made up of Finished Goods.  The increase in Days of Sales Outstanding, which is reflected in the rising the Cash Conversion Cycle Time, suggests poorer cash efficiency.

GrowthMarch 20093 months prior
12 months prior
Revenue growth-12.1%
Revenue/Assets 125%
CFO growth
Net Income growth -61%
Gauge Score (0 to 25)0
Growth rates are trailing four quarters compared to four previous quarters.

The Growth figures are uniformly awful.

ProfitabilityMarch 20093 months prior
12 months prior
Operating Expenses/Revenue 91.4%
ROIC 26.5%
FCF/Invested Capital15.0%
Accrual Ratio
Gauge Score (0 to 25)10

Operating Expenses as a percentage of Revenue are up sharply.  While ROIC has dropped, it is still impressive.  FCF/Invested Capital has become far more pedestrian relative to historic levels.  The rising Accrual Ratio is a significant concern, as it suggests poorer earnings quality.

ValueMarch 20093 months prior
12 months prior
P/E 15.0
P/E to S&P 500 average P/E 82%80%96%
Price/Revenue 0.9
Enterprise Value/Cash Flow 15.2
Gauge Score (0 to 25)17

The price of Nokia ADRs dropped 25 percent, from $15.60 to $11.67, in the first quarter of 2009.  This would ordinarily lift the contrarian Value gauge.  However, the decline in earnings and cash flow balanced things out.

Nokia's valuation ratios can be compared with other companies in the Communications Equipment industry.

OverallMarch 20093 months prior
12 months prior
Gauge Score (0 to 100)43

In the first quarter of 2009, 14 percent fewer mobile devices were sold worldwide.  Nokia sold 19 percent fewer devices during this period.  This substandard performance reduced the company's share of the mobile device market from 39 to 37 percent.

The average sales price for Nokia's mobile devices fell by 8.5 percent.

Nokia's Revenue in the first quarter was down 27 percent relative to the year-earlier period.  This was a little worse than we anticipated.  Operating Income fell by 96 percent.   Net Income, as weak as it was, was due in large part to a tax benefit and minority interests.

Cash Flow from Operations in the first quarter of 2009 was 64 percent below the level in the March 2008 quarter.  CFO was 83 percent less than in the March 2007 period.

Our gauges, however, have stabilized.  To be sure, the significant share price decline provided substantial support for the double-weighted and contrarian Value gauge.

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