Why Nokia's a Buy The cellphone leader has hit the rails, but there's still plenty of hope for the Finnish line. And that's a great opportunity for investors. By Janice Revell
Every cellphone user has experienced the annoyance at one point or another. The cellular connection is suddenly "dropped," mid-sentence, on your important phone call, and seemingly for no reason at all. That must be something like the frustration that shareholders of Nokia (NOK, $14) feel�all the time. The world's largest manufacturer of mobile phones seems to be in a perpetual state of dropped when it comes to its stock price. The troubles began in April, when the Finnish company announced that its first-quarter sales had fallen from the previous year and that market share had slipped�despite the fact that the overall market for cellphones was growing at a red-hot pace. Just a few days later the company issued more bad news, warning that second-quarter earnings were likely to fall short of analysts' estimates. The market's reaction was swift and severe: By mid-May, the share price for Nokia, which trades on the NYSE as an ADR, had nose-dived by about 40%, to a 14-month low. It has barely recovered since then.
To be sure, there are good reasons many investors remain spooked about Nokia. There's the company's recent decline in global market share for wireless phones, for example, which industry researchers say fell from about 35.2% to 29.7% during the first quarter of 2004. (Nokia itself puts its market share at 32%, still a hefty decline.) Revenues have stagnated as a result. Analysts expect the company to bring in sales of about $35 billion in 2004, virtually unchanged from last year's performance.
A key contributor to Nokia's sagging share has been its reluctance to produce the clamshell-style flip-top phones that have become increasingly popular with consumers and are offered by its two largest rivals, Motorola and Samsung. Until very recently the company had clung to its traditional (and clunkier) candy-bar-shaped design.
It's a strategy that served the company very well in the past: Just as a car manufacturer can reap enormous cost advantages by producing multiple models from the same basic chassis, Nokia has likewise been able to keep production costs low by cranking out a huge volume of phones, all of which are variants of the same basic candy bar. But as consumer tastes have evolved, the strategy has backfired. Clamshells now account for about 30% of all new cellular phones sold�more than double their share a decade ago�according to Mark Davies Jones, an analyst with J.P. Morgan Chase.
Skeptics also contend that Nokia has placed way too much emphasis on selling low-priced, entry-level phones and hasn't devoted enough attention to developing higher-margin products for the mid- and high-end segments of the marketplace, to which an increasing number of European and U.S. consumers are now migrating. Meanwhile, to halt its market share slide, Nokia has been cutting prices of late. The upshot has been to lower average selling prices and, more important, operating margins in the mobile-handset business. The latter fell in the first quarter to 26%, from 29% the year before.
In short, there are good reasons for Nokia's stock drop: In the parlance of cellphones, the company seems to have been in a long drift "out of range."
All of which makes the following argument surprising: The sharp selloff in Nokia stock is a serious overreaction. At the current share price, Nokia trades at a multiple of about 16 times this year's projected earnings and 14 times estimated 2005 earnings, well below the level of both of its major competitors. And that's just one reason many observers say Nokia represents a real buying opportunity for investors right now. "They have a ton of cash, a very good brand name, and they're a powerhouse in this space," says Ed Snyder, co-founder of Charter Equity Research in San Francisco, which focuses exclusively on the wireless industry. "There's little doubt they're going to bounce back."