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Better Execution Needed to Move NOK Stock Higher

Nokia (NYSE:NOK) showed some progress in its second-quarter report last week. It even briefly boosted NOK stock: shares climbed 10% after Thursday’s release. But in the last week, Nokia stock already has given back roughly half those gains.

Better Execution Still Needed to Move NOK Stock Higher

Source: Shutterstock

It’s not terribly hard to see why that is. Traders responded well to the company’s headline beat. But investors are more cautious, and with good reason. The Q2 report follows a first quarter release that was much weaker (NOK stock actually fell 10% after that report). Full-year guidance was reaffirmed — and so were the risks to that guidance.

More broadly, as I detailed in June, Nokia has disappointed several times before. The 5G opportunity might be different, but investors would be forgiven for not wholly trusting the company just yet.

Q2 and First Half Nokia Earnings

Traders likely focused on the headline numbers here, which look strong, at least relative to expectations. Adjusted EPS of €0.05 came in €0.02 ahead of consensus. The top-line performance was more impressive: revenue rose 7.2%, about five points better than the Street projected.

But that beat doesn’t necessarily suggest that Nokia stock is getting back to growth. The company explained a soft Q1 as driven in part by contracts which were signed in the quarter, but didn’t contribute to revenue until Q2. That timing — somewhat — explains the difference in how the two quarters were viewed.

Taking the first half as a whole, the news hardly seems spectacular. Revenue, in constant currency, grew just 2% year-over-year. Adjusted operating profit fell 32%. And Nokia burned a whopping €2.5 billion (about US$2.75 billion) in cash. The performance so far doesn’t necessarily suggest that Nokia has turned the corner.

Optimism Toward NOK Stock

That said, Nokia stock probably deserved some gains after the quarter — if only due to a sort of relief rally. After Q1, it seemed unlikely that Nokia would meet its full-year EPS guidance. The consensus estimate was below the low end of the company’s range. The Q2 beat gets Nokia back on track toward at least clipping the low end of the range.

That’s important for two reasons. First, it re-establishes some level of credibility for Nokia. Again, this is a company that has disappointed repeatedly. It sold its phone business to Microsoft (NASDAQ:MSFT) for US$7 billion in cash, which turned out to be a great deal (and a disaster for Microsoft). Six years later, NOK stock trades basically where it did after it soared on that deal.

In early 2016, Nokia took control of Alcatel-Lucent via tender offer in a supposedly transformative acquisition. Nokia stock has declined since that deal was closed (and since it was announced the year before).

The opportunity now comes from enormous cost-cutting — some €500 million in savings next year — and 5G. Nokia needs to capitalize this time, and Q2 is a modest step in that journey.

Secondly, it’s 2020 earnings that really matter for Nokia. Thanks in part to those cost cuts, Nokia is projecting a big step up in profits next year. Adjusted EPS is guided to rise from €0.25-€0.29 this year to €0.37-€0.42 next year. The 2020 target makes NOK look cheap: about 12.5x earnings at the midpoint of that guidance.

Basically, if Nokia hits next year’s target, Nokia stock is going to rise. If it doesn’t, NOK at best stays dead money. The company still wrote in its release that guidance “puts significant pressure on execution in the second half.” But Q2’s performance at least gives the company a chance of reaching its guidance for this year. That’s a step in the right direction for the company, and a reason to see a bounce in the stock.

Will 5G Boost Nokia Stock?

There’s one more piece of good news worth highlighting. Again, cost cuts should help margins and 5G should drive growth. The question is whether, with China’s Huawei facing security concerns, Nokia can outperform rival Ericsson (NASDAQ:ERIC) in 5G. Early returns look good.

In fact, CEO Rajeev Suri said on the Q2 conference call that of the existing Nokia 4G LTE customers who have chosen a 5G supplier, every one of them has chosen Nokia. That suggests early strength in 5G — and a nice base for growth going forward. It’s another reason to see the report as bullish for NOK stock.

Personally, I’m not quite ready to jump on board. One quarter doesn’t change execution concerns, particularly with the company itself still saying guidance is at risk. With the exception of Cisco Systems (NASDAQ:CSCO), the networking space has been a difficult one for companies and investors (Juniper Networks (NYSE:JNPR), for instance has traded sideways for years now). 5G growth is important, but it’s going to be offset by 4G losses.

There’s still a lot left for Nokia to prove. But give credit where credit is due: the company at least took a solid step forward last week.

As of this writing, Vince Martin has no positions in any securities mentioned.

Article printed from InvestorPlace Media, https://investorplace.com/2019/08/better-execution-needed-move-nok-stock-higher/.

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