Nokia: Cash Burn Problems Could Lead To 'Bailout'
May 23, 2012
According to a recent Reuters poll, equity analysts expect that Nokia ( NOK) will burn cash of $2.5 billion over the next three quarters. This will be a repeat of what happened in the last five quarters where it lost $2.1 billion of its cash reserves. Given this rate of cash burn, the company's ability to repay its shorter-term bond could be a big issue to this ailing company.
The credit ratings agencies have already downgraded Nokia to "junk" status and gave the company a negative outlook. Although the company is sitting on a pile of cash, it said that the cash burn is accelerating faster than expected. Before the credit agencies fix their rating, it needed to stabilize the sales of its Devices and Services, improve its operating margins and reduce cash burn significantly.
The unimpressive sales efforts of Lumia in both Europe and emerging markets did not help. Nokia could not compete with inexpensive Google ( GOOG) Android-run phones mostly subsidized by Chinese telecoms. Its bread and butter business, the cheap phone segment, has posted negative results for the last quarters. Consumers have shifted to low-priced smartphones running the Android operating system from the feature phones that Nokia sells.
It is clear that the company is looking to move its smartphones into the market as quickly as possible. The only way it could really survive is to compete head on with the leaders Apple ( AAPL) iPhone, Samsung, LG and Google's Android. The recent Google's acquisition of Motorola Mobility (NYSE:[url=http://seekingalpha.com/symbol/mmi]MMI)[/url] will definitely add pressure in the competitive landscape of the smartphone market.
The recent Gartner market share research places Samsung at the top of the worldwide global phone market share of 20.7% while Nokia fell to 19.8%. Apple's iPhone climbed to 29% as it continues to lead the way among smartphone vendors. It is crucial for Nokia to improve its market share on the next quarterly research report as it will show whether Lumia has gained traction in the market.
Is the issue of cash burn real?
As of the latest quarter, it ended with a net cash balance of $5.14 billion. This is significantly lower than the $6 billion net cash it reported in the last quarter of 2011. The reason is that the company has reported a net loss of $2.2 billion over the last five quarters. Sales have been averaging at $9 billion per quarter, although recently it reported quarterly sales of $7 billion. This is a decline of 26% quarter on quarter.
The average working capital requirement is between $500 million to $1 billion per quarter and capital spending is at $200 million to $500 million. At the low end of my estimates, it seems that the company's cash balance is equivalent to seven quarters worth of spending. It has a maturing bond obligation of $1.59 billion in 2014. Unless sales of its Lumia pick up speed, Nokia may be standing on a real burning platform.
Surprisingly another competitor and also struggling smartphone maker Research in Motion ( RIMM) has been staying afloat. It generates quarterly cash of $1.8 billion to $2.9 billion. This is despite sales falling as much as 20% quarter on quarter. Research in Motion has managed to keep expenses low to provide cushion for the company.
Waiting for the turnaround
It took some time before Nokia was able to launch its smartphone Lumia. It announced that it has forged with Microsoft ( MSFT) February 2011. It was not until November last year that they launched the product. Investors are somewhat worried that the timing of their launch may be a little too late.
For the first quarter, Nokia sold 2 million of the Lumia Series. Although Lumia sales are growing, the cost of transition to the smart devices will yield to a loss for the Smart devices unit. Moreover its outlook for its Devices & Services is bearish given the competitive dynamics I have mentioned above. Moving forward it appears that there is no relief for Nokia in the succeeding quarters.
Is Microsoft the likely "White Knight" for Nokia?
Given the cash burn that the company is experiencing now, it may need a 'bailout' from the bigger companies. There is speculation that Microsoft will have to infuse cash for its struggling partner. Microsoft has cash in excess of $60 billion, which can be used to acquire Nokia valued at $10.38 billion. Assuming that Microsoft will buy Nokia, it could acquire it for 87% of its book value.
Its phone patent portfolio appears very rich and could attract a lot of buyers. It has less reliance on the fair, reasonable and non-discriminatory - FRAND - patents that most phone makers like Samsung and Motorola have. Nokia's collection of non-FRAND patents makes it a viable threat to another non-FRAND powerhouse Apple. In short, it would not be difficult to raise cash from other players if it wants the assets that Nokia has.
Statistically Cheap but needs catalysts
The company has negative per share earnings. It has a five-year average price earnings ratio of 4.2 times. If it returns to profitability at an average per share earnings of $0.90, it could easily double from the current levels. However, it needs to prove to investors that things are starting to turn around and it will record a comeback in terms of historical profitability.
In contrast, competitors such as Apple and Research in Motion are trading at 13 times and five times 2012 earnings respectively. In my view, the premium valuation of Apple is warranted given its increasing worldwide global market share. It would be take time before the market will be convinced that the move to the Windows platform is management's best decision. For now, Nokia will need to address the cash burn issue or else it badly needs a bailout.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. |
