Microsoft’s Nokia Purchase Torches $16.6 Billion In Market Cap, Almost As Much As Ballmer’s Exit Added; Why Microsoft Had No Choice But To Purchase Nokia’s Handset Business; why Microsoft raced to Nokia deal

Microsoft’s Nokia Purchase Torches $16.6 Billion In Market Cap, Almost As Much As Ballmer’s Exit Added


posted yesterday

On the news that Microsoft will purchase substantial assets from Nokia, including its handset business and intellectual property, company investors have discarded its stock, sending it down 6 percent in regular trading. At current trade, that decline represents $16.6 billion in market capitalization, a stunning repudiation of the plan by investors. To put the decline in perspective, when current CEO Steve Ballmer announced that he will relinquish his role at Microsoft, the company picked up $18 billion in value.Therefore, investors are, wittingly or not, stating that the exit of Ballmer is roughly as good as the purchase of Nokia is bad. Not Microsoft’s best day.

Why the Nokia purchase? Essentially, Nokia became the de facto Windows Phone OEM, building almost 90 percent of handsets that the line shipped. Given that level of dominance, and the fact that Microsoft had granted it special leniency to enact user interface changes, Nokia was too free to change the face of Microsoft’s mobile platform.

So $7.2 billion later, Microsoft has control of its mobile platform and it has control over its mobile destiny. Why then would investors mock the deal?

Keep in mind that the purchase is functionally free for Microsoft. It can deploy foreign cash that it could not otherwise use to snag the firm, implying a firm savings over using domestic monies. That said, Nokia loses money, and it is likely that the Nokia assets that Microsoft purchased will also bleed cash.

However, I don’t think that a mild financial hangover is the ticket here. Instead, I think that Microsoft investors are betting against Nokia’s now ex-CEO Stephen Elop becoming Microsoft’s CEO. Call it pre-repudiation.


For Microsoft, Nokia Represents A Crossroads In Its Emerging Markets Strategy


posted yesterday

Microsoft’s acquisition of Nokia’s Devices & Services division for $7.2 billion is a bet on emerging markets and a continuation of Nokia’s emphasis on “connecting the next billion” users. In order to make that strategy pay off, Microsoft has to figure out how to thrive where Nokia floundered. Feature phones were a key part of Nokia’s strategy, especially in emerging markets like India, where it recently announced 2 billion downloads from the Nokia Apps store. As worldwide sales of smartphones start to overtake feature phones, however, it might be a smarter bet for Microsoft to concentrate on creating low-cost smartphones if it wants those next billion users to chose Windows Phone instead of Android.

One potential strategy is selling off Nokia’s feature phone business. According to the PowerPoint presentation Microsoft made to explain its rationale for the acquisition, the company said the deal could create cost synergies of $600 million within 18 months after its close. But as Juha-Pekka Helminen, former Director of Strategy at Nokia, noted on Twitter, consolidating marketing and sales and supply chains would not add up to $600 million. One way Microsoft can achieve those savings is by offloading Nokia’s feature phone business, which is in decline but still making money. This would also allow Microsoft to focus more resources on tripling its current smartphone market share from 4% to 15% within five years, a goal it laid out in its PowerPoint.

In Nokia’s press conference earlier today, CEO Stephen Elop said that the acquisition will allow Nokia’s device division to accelerate its growth. In return, Microsoft can extend its service offerings to a far wider group of people around the world, using Nokia’s devices as an “on-ramp” to Windows Phone. Feature phones are still important in emerging markets because they are the first (and, in some cases, only) point of entry to the Internet for many users. But the landscape is changing–last month, Gartner reported that in Q2 2013 smartphone sales exceeded feature phone salesfor the first time.

This was driven mainly by inexpensive Android-powered devices, which is troublesome news for Nokia. Nokia shipped just 61 million feature phones in Q2 2013, down from 83 million in the year ago quarter. But despite overwhelming competition from Android, sales of Nokia’s smartphones still managed to grow in that same timeframe, thanks to its broad portfolio of devices at different price points. Nokia’s Windows Phone-powered Lumia sales increased 112.7% in Q2 2013, according to Gartner.

As part of the deal announced today, Microsoft acquired Nokia’s Asha brand outright. If Microsoft decides to hold onto Nokia’s feature phone business, it has to convince current feature phone users to stay within the Windows Phone ecosystem when they upgrade to smartphones instead of turning to Android. Not only that, but Microsoft must also now compete with its Windows Phone licensees, including Samsung and HTC–another reason why it might want to sell off Asha and Nokia’s other feature phone lines while they are still profitable in favor of focusing on inexpensive smartphones.

All major U.S. tech companies that sell both software and hardware–including Apple–have eventually turned to emerging markets for growth when their business in domestic and mature markets began to slow, so it’s unsurprising that Microsoft sees its acquisition of Nokia as a way to gain a bigger foothold around the world.

After the failure of Windows RT, Microsoft is banking its business on Windows 8 and Windows Phone. Acquiring Nokia’s D&S division gives Microsoft a chance to execute its strategy for both operating systems in a more vertically-integrated way similar to Apple’s business model for iOS devices. Microsoft currently makes a royalty gross margin of less than $10 per Windows Phone-based Nokia handset sold. After the acquisition, the company says that figure will increase to more than $40 per unit, which in turn will enable it to invest more in the Windows Phone ecosystem.

Selling off Nokia’s feature phone business would enable Microsoft to pour more resources into developing smartphones similar to the Lumia 625, its first affordable 4G handset. Lower-price points are attractive to people living in countries where smartphone adoption is still in its early stages, while 4G accessibility is a selling point for developed markets. By releasing more devices like the Lumia 625, Microsoft can apply a two-pronged strategy to expanding Windows Phone’s market share in a bid to challenge Android’s dominance.

Why Microsoft Had No Choice But To Purchase Nokia’s Handset Business


posted yesterday

The news that Microsoft has purchased substantial assets from Nokia came as a surprise, but perhaps it shouldn’t have. The underlying reason that Microsoft had little choice but to buy Nokia is plain: Nokia had too much control over the Windows Phone platform, and Microsoft could not afford to lose its primacy over its mobile efforts.

How did we end up in this situation? Simple: Microsoft granted Nokia special privileges to adapt Windows Phone to its own preference, and Nokia over time became the most popular Windows Phone manufacturer. Then it became essentially the only Windows Phone hardware company. This is where its rights to change Windows Phone came to bear as a problem for Microsoft: If Nokia were the only Windows Phone OEM that mattered, and it could change the operating system, Microsoft had little control over its own platform. Sure, it built the developer tools, but if it could not control the user experience, in a real way its mobile operating system was outside of its own control.

That was not acceptable. Microsoft claims that it wants to work with other hardware providers to build Windows Phone handsets. And HTC might stick around, but Microsoft has now cornered its own market, and that will limit external interest.

It cost Microsoft billions in cash, and likely a continued profit drip as Nokia, let’s be frank, loses money and it seems likely that the assets that were purchased won’t be cash-flow positive. But now, instead of losing control of its platform, Microsoft controls it in a way like never before. And like it never has with Windows, despite its efforts in that domain to tighten its grip with the Surface project.

Microsoft is a company that until eight minutes ago depended on external hardware providers to act as conduits for its software products. Surface was a first salvo against that past. Nokia as a purchase is its complete repudiation. Windows Phone could, if past trends persist, could ship 10 million units in the fourth quarter of 2013. Now, those will be Microsoft handsets (yes, the deal doesn’t close until 2014, but we’re speaking functionally, not pedantically).

The platform wars are now better defined: Apple, Google, and Microsoft control mobile software and hardware internally, which allows them to push their own services to mobile users. Mobile is the key future platform. Therefore, companies in tech can be cleaved into two camps: Those who have their own mobile platform, and those who have to schlep on the platforms of others.

Yahoo, for example, is a bet that the latter can work. Microsoft doesn’t seem to agree.

Project gold medal: why Microsoft raced to Nokia deal

September 4, 2013 – 9:59AM

Microsoft’s agreement to buy Nokia’s handset business, codenamed Project Gold Medal, was more of a sprint than a marathon.

Talks between the two companies began in February after both sides agreed a two-year-old collaboration on smartphone development wasn’t working, according to people familiar with the deal.

By July, Microsoft and Nokia, based near Helsinki, settled on the price and structure of a 5.44 billion euro ($8 billion) deal to buy the handset business and license its patents, the people said.

In contrast, Vodafone’s announced sale on September 2 of its 45 per cent stake in US mobile company Verizon Wireless for $US130 billion ($145 billion) followed years of talks with Verizon Communications.

Nokia’s codename in the talks was Nurmi, named after Paavo Johannes Nurmi, the nine-time gold medal runner known as the “the Flying Finn.” Microsoft was dubbed Edwin Moses, for the American track-and-field athlete who won two gold medals in the hurdles.

Nokia’s board met more than 50 times to deliberate on a sale, a process described as a soul-searching exercise by the people, who asked not to be identified.

Timed to follow last month’s announcement that Microsoft chief executive Steve Ballmer would retire, the Nokia deal is intended to set up the US company for a renewed assault on the smartphone and tablet markets, the people said.

Once the world’s most dominant technology firm, Microsoft under Ballmer has lagged behind Google and Applein fast-growing mobile devices, amid contraction in the personal-computer market it helped invent.

“Microsoft realised that it wouldn’t be possible to succeed without controlling the entire value chain,” said Francisco Jeronimo, research director for European mobile devices at research firm IDC in London. “Nokia has realised that it needed a stronger ally with the financial muscle to continue driving its Lumia smartphones.”

Microsoft investors signalled unhappiness with the deal yesterday, pushing the firm’s stock down 4.6 per cent to $US31.88, eliminating about $US13 billion in market value. Nokia shares soared 34 per cent to 3.97 euros, valuing the firm at about 15 billion euros.

Discussions began in earnest after a meeting between Ballmer and Risto Siilasmaa, the Finnish company’s chairman, at the Mobile World Congress in Barcelona in February.

The venue was fitting; Nokia CEO Stephen Elop introduced the companies’ partnership at the 2011 edition of the Congress, which has since become a showcase for flashy announcements from more successful device-makers like Samsung Electronics.

The executives felt the collaboration hadn’t delivered on its promise, the people said, citing duplication of efforts on marketing and on encouraging developers to write applications for Microsoft’s Windows Phone software. The companies also run parallel mapping platforms.

Ballmer, who had initiated the talks, felt that Microsoft needed to own a branded consumer device, said a person with direct knowledge of the situation.

Microsoft’s heavily marketed Surface tablet computer has so far been a flop, resulting in a $US900 million write-down on the value of unsold devices.

With key issues in the Microsoft deal worked out by mid-summer, the companies and advisers spent August hammering out details, the people said. Due diligence for Microsoft, which has never had a large-scale hardware business apart from the Xbox gaming console, was complex, they added.

Nokia Siemens, which builds networking gear for telecommunications operators, will account for the core of the new-look Nokia now that it is exiting the handset business, which as recently as 2007 had nearly 40 per cent of the global market for mobile phones.

The decision to abandon the devices business was an emotional one for Nokia’s board, whose chairman and vice chairman are Finns, the people said. The phones are a source of national pride and at one point were carried by 90 per cent of Finns.

After introducing its first handsets three decades ago, Nokia emerged as Finland’s first major global corporation and symbolised the country’s transformation into a technology-driven economy.

“There is clearly of course some emotion attached to this, me being a Finn and all that,” Nokia chief financial officer Timo Ihamuotila said in a Bloomberg Television interview.

For Microsoft, taking full control of Nokia’s devices business may not be enough to make headway in the mobile sector. Windows Phone had a 3.7 per cent share of the smartphone market in the second quarter, according to IDC, compared with 79 per cent for Google’s Android.

Meanwhile, Microsoft is keeping an eye on BlackBerry, the people said. The Canadian manufacturer has said it’s seeking a buyer, and its strong presence in the enterprise market could still attract interest from Microsoft, they said.

The Microsoft-Nokia transaction caps a frenetic summer for telecommunications, technology and media bankers. In addition to the Vodafone-Verizon transaction, where both Goldman and JPMorgan had roles, in July Publicis Groupe and Omnicom Group agreed to merge into the world’s largest advertising agency.

Their involvement with Microsoft and Nokia will secure the positions of Goldman Sachs and JPMorgan atop the closely-watched league tables for merger advice in the TMT sector.

Goldman Sachs has advised on about 40 deals valued at about $US263 billion so far this year, according to data compiled by Bloomberg, ahead of JPMorgan with about 34 deals worth $US230 billion.


Monday, September 2, 2013 — Tweet this article

Early this morning Microsoft acquired Nokia for €3.79 billion (plus €1.65 billion for patents). It is a deal that makes no sense.

While industry observers love to pontificate about mergers and acquisitions, the reality is that most ideas are value-destroying. It is far better to form an alliance or partnership; most of the benefits, none of the costs.

A partnership similar, in fact, to the one formed just two years ago between Microsoft and Nokia.

From Microsoft’s perspective, that was a brilliant deal; Matt Drance characterized it as “Microsoft Buys Nokia for $0B,” and he wasn’t far off. The premier pre-iPhone phone maker, with what was even then one of the best supply chains, distribution networks, and brands in the world would be exclusively devoted to Windows Phone.

There is nothing further to be gained by an acquisition.

Moreover, the fact Steve Ballmer is stepping down makes a deal of this magnitude hugely problematic. Guy English has already characterized Ballmer’s disastrous reorganization as a straitjacket for the next CEO; adding on a mobile phone business that Microsoft probably should abandon is like attaching an anchor to said straitjacket and tossing the patient into the ocean. It will be that much more difficult for the next CEO to look at Windows Phone rationally.

So that brings us to the Nokia perspective. I have argued that Stephen Elop made a massive strategic error by choosing Windows Phone over Android; coming from Microsoft, he failed to appreciate that Nokia’s differentiation lay not in software, but in everything else in the value chain. It would have been to Nokia’s benefit to have everyone running Android, including themselves. Everyone would have the same OS, the same apps, may the best industrial design, distribution, and supply chain win.

Elop threw it all away.

Today no one cares about Nokia’s industrial design, distribution, or supply chain, because their devices lack an app ecosystem, the price of entry into smartphones. Perhaps even now, Nokia was considering going to Android, or maybe even going out of business.

And thus I believe we’ve arrived at the rationale for this deal.

I theorize that Nokia was either going to switch to Android or was on the verge of going bankrupt. (I suspect the latter: part of the deal included €1.5 billion in financing available to Nokia immediately, and the fact Microsoft had to take Asha but not the brand or maps suggests they were trying to keep the price as low as possible). And, had Nokia abandoned Windows Phone, then Windows Phone would be dead.

Windows Phone has already been largely abandoned by other OEMs; Samsung and HTC make warmed-over versions of 6-month old Android hardware, and that’s really about it. Of course that will now stop, Microsoft’s protestations to the contrary, but regardless, without Nokia it would be over.

And so, I would argue that this deal is not unlike the Motorola one, where I believe Google had its hand forced by Motorola’s threat to sue other Android OEM’s for all they were worth.1 Microsoft felt they didn’t have a choice.

The tragedy in the deal, as I hinted at earlier, is that I think Microsoft ought to abandon Windows Phone. The war is over, and iOS and Android won. It would be far better for Microsoft to focus on serving and co-opting those devices, instead of shooting the most promising parts of their business in the foot for the sake of a platform that is never going to make it.

At the very least, it shouldn’t have been Ballmer’s decision to make.

Microsoft and Nokia: The Math Behind the Deal
By MICHAEL COMEAU  SEP 03, 2013 11:15 AM
Some simple math shows why this deal makes more sense than you think.

This morning, Microsoft (NASDAQ:MSFT) announced that it would pay  EUR 5.44 billion, or $7.17 billion, in cash to buy Nokia’s (NYSE:NOK) devices and services business and license Nokia’s patents and mapping services.
The question, of course, is, why?
Well, Microsoft spells it out plainly in the press release:

Microsoft aims to accelerate the growth of its share and profit in mobile devices through faster innovation, increased synergies, and unified branding and marketing.

But the bigger news, which isn’t receiving enough attention, is Microsoft’s disclosure of a dark truth about its Windows Phone business: In its current state, it is never going to make any money.
Way back in June 2010, I wrote an article entitled Microsoft’s Mobile Mathematics, within which I did some rough eighth-grade math to determine how much money the company can make in smartphones.

Figuring out a royalty rate for smartphones using Microsoft operating systems is much trickier, but I’ll use a range between $20 and $30 as a very rough guesstimate here. Windows PC royalties are thought to be about $65 per unit, and netbooks about half that. I’d imagine thatGoogle’s (NASDAQ:GOOG) free Android giveaway could make it hard for Microsoft to get anywhere near top dollar.

So here are the best- and worst-case scenarios laid out using these criteria:
Best Case: 600 million smartphone units, 25% market share, $30 royalty rate = $4.5 billion.
Worst Case: 400 million smartphone units, 10% market share, $20 royalty rate = $800 million.
The good news is that software-derived revenue can be extremely high margin, and both numbers could be boosted by ancillary businesses like apps and mobile search. There’s also a strategic benefit to keeping customers away from the iPhone and Android ecosystems.
The bad news is that even a few billion dollars in high-margin revenue isn’t all that much for a company as big as Microsoft.

As it turns out, the reality was much worse than even my worst case scenario. Note that at the time, these guesstimates were for 2014.
Smartphone growth has outpaced expectations, but Microsoft has not built meaningful market share and its royalty rates are at rock-bottom levels.
As of Q2, Microsoft had 3.3% smartphone market share, in third place behind Google Android and Apple (NASDAQ:AAPL) iOS.

Additionally, we learned this morning that Microsoft is making almost no money from its Windows Phone. In its investor presentation, Microsoft disclosed that under its current partnership agreement with Nokia, it was making a gross margin of less than $10 per unit while spending what was probably a lot of money on marketing.

This was an unsustainable arrangement.
As of April 2013, Gartner forecast global smartphone shipments of 1 billion in 2013. At 3.3% of the market with a $10 per unit (rounding it to $10 to keep it simple) gross profit, Microsoft could be expected to generate $330 million in gross profit from Windows Phone royalties this calendar year.
Heck, bump the market share number up to 5% and it still does not come remotely close to moving the needle, as Microsoft had $14.3 billion in gross profit last quarter. When factoring marketing and development costs into the equation, Windows Phone almost certainly loses money.
With the Nokia deal, Microsoft aims to bump that gross profit per unit number to over $40.
Assuming that a combined Microsoft/Nokia would help build market share through a more concentrated marketing effort and better hardware/software/app integration, the company at least gets a chance at building meaningful profitability in smartphones.
So while there are an awful lot of naysayers out there hating on this deal — Microsoft’s stock has now given back all of the gains from the Steve Ballmer retirement announcement — the company has no choice. It has to go for the whole enchilada because $10 per unit will never pay the bills.
However, this deal is no obvious home run. In fact, it may not be the best way, but simply the least worst way, to move forward.
Let’s break it down.
Nokia accounts for about 80% of Windows Phone shipments, with other suppliers like Samsung (OTCMKTS:SSNLF) and HTC (TPE:2498) accounting for the remainder.
Since Microsoft is more or less choosing itself over its hardware partners, the Windows Phone platform could lose third-party support, and this would hurt its growth, which is currently the fastest in the industry (largely the product of growing off of a small base).
And the smartphone market, while growing rapidly (+46.5% in Q2), is actually a fairly rough environment in which to compete. Even Apple, while better than average in this regard, is seeing falling average selling prices, and the leading Android phonemakers Samsung, HTC, and Motorola are all struggling with rampant competition.

Twitter: @Minyanville

About bambooinnovator
Kee Koon Boon (“KB”) is the co-founder and director of HERO Investment Management which provides specialized fund management and investment advisory services to the ARCHEA Asia HERO Innovators Fund (, the only Asian SMID-cap tech-focused fund in the industry. KB is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst in the Asian capital markets who started his career at a boutique hedge fund in Singapore where he was with the firm since 2002 and was also part of the core investment committee in significantly outperforming the index in the 10-year-plus-old flagship Asian fund. He was also the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. Prior to setting up the H.E.R.O. Innovators Fund, KB was the Chief Investment Officer & CEO of a Singapore Registered Fund Management Company (RFMC) where he is responsible for listed Asian equity investments. KB had taught accounting at the Singapore Management University (SMU) as a faculty member and also pioneered the 15-week course on Accounting Fraud in Asia as an official module at SMU. KB remains grateful and honored to be invited by Singapore’s financial regulator Monetary Authority of Singapore (MAS) to present to their top management team about implementing a world’s first fact-based forward-looking fraud detection framework to bring about benefits for the capital markets in Singapore and for the public and investment community. KB also served the community in sharing his insights in writing articles about value investing and corporate governance in the media that include Business Times, Straits Times, Jakarta Post, Manual of Ideas, Investopedia, TedXWallStreet. He had also presented in top investment, banking and finance conferences in America, Italy, Sydney, Cape Town, HK, China. He has trained CEOs, entrepreneurs, CFOs, management executives in business strategy & business model innovation in Singapore, HK and China.

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s

%d bloggers like this: