Market Woes Drag Vendors Down

Amid lingering concern about Nokia's all-stock bid for Alcatel-Lucent, shares in Western vendors have taken a pounding after some disappointing results.

Iain Morris, International Editor

May 1, 2015

6 Min Read
Market Woes Drag Vendors Down

What price to be a fly on the wall in some of the telecom vendor community's most influential boardrooms today after a brutal end to the first quarter of 2015?

Following the publication of its first-quarter financials on Thursday, Nokia Corp. (NYSE: NOK) saw its share price close down 10.7%. (See Nokia Slumps on Networks Malaise.)

It's not alone. The share price of Alcatel-Lucent (NYSE: ALU), the company Nokia hopes to subsume, lost 9.7% of its value on the Paris exchange. (See Nokia's Suri Defends AlcaLu Deal Against Critics and Nokia & Alcatel-Lucent: What's Going On?)

There's more. Sweden's Ericsson, which had suffered a similar drop after reporting declining profits last week, has continued to flounder. Its stock lost 2.9% of its value in Stockholm on the day of Nokia's earnings update. (See Ericsson Sinks on North American Slowdown.)

These are indisputably tough times for the equipment titans of the Western world, but is the market overreacting?

At least one analyst thinks the punishment meted out to Nokia was unwarranted. In a research note sent late Thursday, Michael Genovese of MKM Partners described the negative reaction to Nokia's earnings update as "overdone," lauding growth in revenues and the performance of the company's mapping and licensing businesses during the first three months of the year.

"GMs [gross margins] missed … due to … lower software and systems integration sales, upfront costs for LTE builds in China and increasing competition in the market," added Genovese. "Mix and Chinese LTE profitability should improve later in the year. Additionally, the merger with ALU [Alcatel-Lucent] should help address some of the competitive environment-related issues over time."

It is worth noting that Ericsson AB (Nasdaq: ERIC) also reported sales growth in the January-to-March quarter but struggled to maintain profitability because of restructuring costs. Flattered by foreign exchange movements, Ericsson's sales fell in constant-currency terms, unlike Nokia's. Yet the Swedish player blamed its setback on a slowdown in North America, where Nokia flourished (albeit due partly to its takeover of SAC Wireless last year). By contrast, Ericsson's Asia business was a high flyer. "It's a long time since we've seen that level of growth in any region," said CEO Hans Vestberg about the improvement in India. (See Ericsson Sinks on North American Slowdown.)

Investors might also take heart from comments made by Nokia's senior executives during yesterday's earnings call. The January-to-March quarter in 2014 was an unusually strong one for software sales, said CFO Timo Ihamuotila, making a year-on-year comparison look unfavorable. Nokia won a major systems integration deal in the first quarter that should bolster results over the rest of the year, according to CEO Rajeev Suri.

Moreover, as Genovese has intimated, the margin impact of entry deals in China's 4G market may be a short-term one, as deployments gather pace. "The situation will ease in the second half of the year," said Suri.

Want to know more about 4G LTE? Check out our dedicated 4G LTE content channel here on Light Reading.

On the other hand, some analysts seemed perplexed about the sudden intensification of "competitive dynamics" that Suri held partly responsible for Nokia's margin squeeze. Was there an insinuation that Suri had been remiss in not alerting the investment community to this development at an earlier stage? "You have to give it a period of observation to know it's a trend," insisted Nokia's boss. "Based on what I see, I now think it's worth pointing out that competitive intensity has increased."

Next page: Merger misgivings

Merger misgivings
Mergers, of course, are often conceived as a way of easing competition, but not everyone is convinced a tie-up between Nokia and Alcatel-Lucent will have the desired effect.

Ratings agency Fitch Ratings Ltd. is one commentator that has questioned the merits of the deal on this basis. "In a global industry such as telecom equipment, we believe a vendor with the scale and presence to match the market leaders could introduce further competitive intensity in what has always been a price-sensitive market," it said in a statement published last week.

In addition, the diversification provided by HERE, Nokia's mapping division, may be cold comfort given Nokia's apparent interest in selling this business. Nokia Technologies, which looks after intellectual property rights, had a strong quarter but seems heavily reliant on Microsoft Corp. (Nasdaq: MSFT) following Nokia's sale of its devices business to the software giant in April last year. During the earnings call, Ihamuotila was asked how Technologies would be affected by the disappearance of one of its smartphone licensees, but squirmed out of providing a clear answer. (See Nokia Makes €15.6B Bid for Alcatel-Lucent and Nokia Puts HERE Up for Sale.)

Alcatel-Lucent's forthcoming earnings announcement -- scheduled for May 7 -- may be an awkward experience for Nokia. Should its rival and takeover target report a stronger set of results than either Nokia or Ericsson, there could be further rumblings of discontent from investors. Odey Asset Management, Alcatel-Lucent's second-biggest shareholder, was earlier this week reported to have described Nokia's €15.6 billion ($17.6 billion) all-stock offer as "unacceptable," arguing that it massively undervalues the French player. Because there is no cash component to the bid, the recent fall in Nokia's share price will have made it seem like an even worse deal from Odey's perspective.

Despite efficiency improvements and success at parts of its IP core-networks business, Alcatel-Lucent has continued to struggle, reporting a 6% year-on-year fall in revenues in the October-to-December 2014 quarter. With 40% of its revenues coming from North America, it remains heavily exposed to the slowdown that Ericsson complained about in that market. Having also boasted of 4G wins in China earlier this year, it may feel a similar impact to Nokia of entry deals with Chinese operators. (See Alcatel-Lucent Reports Marginal Progress and AlcaLu Lands 'Top 3' 4G Deal at China Telecom.)

Should Alcatel-Lucent disappoint, shares in Nokia could take a further hit (as, indeed, might Ericsson's). As a number of critics have cruelly noted, an alliance between two losers is unlikely to produce a winner. That certainly appears to be an overly harsh assessment of Nokia and Alcatel-Lucent, but it is not entirely unfounded. Suri was at great pains to defend his takeover move during yesterday's earnings call. He may have more convincing to do in the months ahead. (See Nokia's Suri Defends AlcaLu Deal Against Critics.)

— Iain Morris, Circle me on Google+ Follow me on TwitterVisit my LinkedIn profile, News Editor, Light Reading

Read more about:


About the Author(s)

Iain Morris

International Editor, Light Reading

Iain Morris joined Light Reading as News Editor at the start of 2015 -- and we mean, right at the start. His friends and family were still singing Auld Lang Syne as Iain started sourcing New Year's Eve UK mobile network congestion statistics. Prior to boosting Light Reading's UK-based editorial team numbers (he is based in London, south of the river), Iain was a successful freelance writer and editor who had been covering the telecoms sector for the past 15 years. His work has appeared in publications including The Economist (classy!) and The Observer, besides a variety of trade and business journals. He was previously the lead telecoms analyst for the Economist Intelligence Unit, and before that worked as a features editor at Telecommunications magazine. Iain started out in telecoms as an editor at consulting and market-research company Analysys (now Analysys Mason).

Subscribe and receive the latest news from the industry.
Join 62,000+ members. Yes it's completely free.

You May Also Like