Nokia sees light at end of 5G tunnel

Nokia warned investors that it would not complete its transition to more profitable 5G products until 2022 but expects its mobile market share to remain stable outside China this year despite headwinds that include the recent outbreak of coronavirus.

The Finnish equipment giant last year blamed a fall in profitability on its decision to use more expensive components in its 5G products. Nokia hoped the customizable chips would give it the edge in the nascent 5G market but is now shifting production to "system-on-a-chip" (SoC) hardware that should boost margins and competitiveness.

Those now account for about one tenth of product shipments and the share is expected to hit 35% this year and 70% in 2021 before older products are entirely phased out in 2022, said CEO Rajeev Suri on a phone call with reporters this morning.

In the spirit of complete transparency, Nokia said it would provide regular quarterly updates on progress as well as details of its "win rate" in 5G. Outside China, that is currently more than 100%, Suri told reporters -- meaning Nokia has secured 5G business with nearly all its 4G customers and some operators it did not previously serve. Including China, the figure drops to the "mid-90%" range, said the company in its latest earnings statement.

Suri acknowledged there had been some loss of market share in 2019, with Nokia claiming about 27% of 4G and 5G radio access networks outside China at the end of the year. However, it aims to finish 2020 with the same share of business and has promised to provide updates on this new key performance indicator in all quarterly earnings reports this year.

Nokia has witnessed fierce competition from Ericsson, which says it is prepared to accept 5G contracts that are initially less profitable as it tries to grow its market share, especially in China. Nokia's 5G cost issues mean it cannot easily compete on price without sacrificing margins.

Kristian Pullola, Nokia's chief financial officer, said competition was not the only profitability issue in the Chinese 5G market. "The level of upfront investment has been going up and up as we go from 2G to 3G to 4G to 5G, and the time you have to recoup that investment has been shrinking," he told Light Reading during a phone call earlier today.

Chinese operators have yet to award large-scale 5G contracts and the expectation is that most of the work will go to Huawei and ZTE, the country's homegrown vendors. "The final position in 5G will become clear only in time," said Suri.

Ignoring China, the good news for Nokia is that profitability should improve as its product overhaul progresses. "Increased levels of SoC improve the cost structure at our end," said Pullola. "Assuming that is the only thing that changes, that cost position improves. That should translate into improved profitability."

While the transition will clearly not happen overnight, investors took heart from Nokia's latest earnings update for the December-ending quarter, which showed a marked improvement in profitability -- thanks to other cost-cutting activities -- compared with the year-earlier period.

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Light Reading.

Nokia's share price opened 6% higher in Helsinki after the company reported a 45% year-on-year increase in fourth-quarter operating profit, to €803 million ($884 million), despite a 1% fall in net sales, to around €6.9 billion ($7.6 billion), on a like-for-like basis. The company's operating margin rose 3.6 percentage points, to 11.6%.

Amid 5G difficulties, Nokia has been slashing costs in its networks, licensing and software divisions. At the all-important networks unit, which is responsible for nearly 80% of revenues, Nokia cut overall R&D as well as SG&A (sales, goods and administrative) costs despite funneling more into 5G development.

Executives are looking to reduce annual costs by roughly €500 million ($550 million) between 2018 and 2020, having lowered the target from a previous figure of €700 million ($770 million) in October because of the need to support the struggling 5G business. Nokia has been cutting jobs in several countries but has not provided an update on overall staff numbers since the publication of its annual report for 2018, when it said the average number of employees that year was 103,083.

Coronavirus and other concerns
Nokia does not expect the broader addressable market outside China to grow this year and today highlighted several major challenges for the sector, including merger uncertainty in the US, regulatory pressure on India's operators and the spread of coronavirus in recent weeks.

The disease, it warned in its earnings report, could lead to supply chain disruption. "It is not possible to assess if it will have a material impact or not, but we are working together with suppliers to mitigate the situation," Pullola told reporters this morning.

While the industry's attention is focused on 5G, Nokia continued to make good progress in other areas, boasting a much broader range of interests than Swedish rival Ericsson.

On the networks side, the IP routing and optical businesses flagged sales improvements for the recent quarter and full year. Nokia's push into the enterprise market is also paying off, with sales to companies outside the mainstream telecom market up 35% for the fourth quarter, to €499 million ($549 million), compared with the year-earlier period.

Cost challenges spurred Nokia to freeze dividend payments last year and it does not plan a resumption until its net cash position hits the €2 billion ($2.2 billion) mark. The figure improved by €1.4 billion ($1.5 billion) in the fourth quarter, to €1.7 billion ($1.9 billion), but seasonality factors mean it is unlikely to reach €2 billion until the final quarter of this year, Suri told reporters.

After opening 6% higher, Nokia's share price was trading up just 3% when this story was published, at about €3.73. It remains 30% lower than at this time last year.

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— Iain Morris, International Editor, Light Reading

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