When Nokia (NYSE:NOK) posted highly disappointing third-quarter results and issued a downbeat outlook, the stock fell sharply.
The company has a history of alternating between posting exceptional 5G sales quarterly and then lowering expectations. After shares bounced back by 4.45% in the last week, what should investors do?
Nokia Stock Hurt by Weak Q3 Results
Nokia reported net sales falling by 7% in the third quarter. Mobile Access and optical Networks margins expanded but also underperformed due to lower network deployment services. Free cash flow continued to improve and suggests that despite the lowered outlook, it will eventually reinstate its dividend.
For 2020, Nokia forecast non-IFRS EPS of EUR 0.23, down from EUR 0.25 previously. Operating margins will be 9%, down from the previous 9.5% guidance. In 2021, it now forecasts a non-IFRS operating margin of 7-10%.
Given that Nokia will update its long-term outlook on March 18, 2021, investors could speculate on the recent bounce from the bottom. If markets guess that Nokia takes Huawei’s 5G business away, then Nokia has a good chance of beating expectations in the next quarter and 2021.
Business Restructuring
Nokia announced new business groups to improve accountability and improve transparency. Veteran investors should interpret the business restructuring as nothing more than rearranging chairs on a deck.
The company is running the risk of adding executive layers and unnecessary management costs. So, the mobile networks division will consist of the mobile network product, network deployment, technical support services, and related network management. Net sales from this unit accounted for around EUR 10 billion.
Intellectual property (IP) and fixed networks are the second business group. Nokia will include IP routing, fixed networks, and optical networks in this unit. Investors may forgive Nokia for posting tepid results in optical. For example, Ciena (NYSE:CIEN) stock fell from $60 in September to below $40 after its quarterly earnings report. Conversely, a cyclical rebound in demand could drive a bounce in shares of both companies next.
Opportunity
Losing business to Samsung as Verizon (NYSE:VZ) lessens its Nokia hardware in 5G is a negative blow. But Nokia must adapt to the growing margin pressures ahead in two ways.
First, it must cut costs and improve profitability. Second, it must win big contracts from telecom firms worldwide. As hardware prices fall, Nokia needs to get leaner so it does not lose deals as it did with Verizon.
On its conference call, CEO Pekka Lundmark said:
… the other parts of mobile access global services, which had a difficult quarter with a year on year sales down significantly. Margins were negatively impacted by a large provision for a poor project that was contracted several years ago, without that the impact actually the profitability of global services would have been quite strong in the quarter.
The CEO admitted that deployment in North America fell substantially after the company relied on one customer: Verizon. This suggests that Nokia must work aggressively to get more contracts in the region and to grow globally. The coronavirus hurt its Latin America and the Asia Pacific regions, too. Nokia needs to cut operating and staff costs to maintain its profitability in those regions.
Valuation
On Wall Street, the average price target is $4.41 (according to Tipranks). Half of the analysts rate the stock as a “buy” while the other half think it’s a stock to “hold.”
Nokia scores well on many metrics with a fair value of $4.83.
As shown above, Nokia is worth $4.83, suggesting an upside of 37%. Investors buying Nokia get good value and quality at the expense of low growth expectations.
The sentiment score of 66/100 is indicative of the stock underperformance post-earnings. If investors were to accumulate and share outperformed the index, the sentiment score would rise.
Nokia is a long-term value idea for patient investors. The 5G upgrade cycle among telecom firms and smartphone makers will continue for several years. Nokia’s revenue is bound to grow in that time.
On the date of publication, Chris Lau held a LONG position in NOK.
