NOK's Struggles Unveiled: Analyzing the Impact of AT&T's $14 Billion Snub

In December, Swedish telecommunications giant Ericsson (ERIC) won a $14 billion contract to revamp AT&T Inc.’s (T) wireless network, outpacing long-time competitor Nokia Oyj (NOK).

Within the agreement, Ericsson is expected to construct an open network capable of obtaining supply from multiple vendors, signifying a pivotal industrial transition. The conditions of the contract permit T to freely select its antenna and infrastructure suppliers going forward, mitigating the inflexibility of a single-vendor lock-in. The allocated budget will span over five years, with the primary aim of enhancing T's 5G technology infrastructure.

Ericsson currently supplies two-thirds of T's network, while NOK caters to the remaining portion. T's choice dealt a significant blow to NOK, whose shares took a harrowing 10% dip on the Helsinki stock exchange following the announcement.

NOK maintains a comprehensive partnership with T, supplying products and services across wireless, wireline, and other network technologies. This mirrors NOK's similar collaborations with other major network operators in North America.

Analysts caution that setbacks faced by NOK could compel the firm to divest sections of its business. These segments might operate more efficiently under local entities that possess superior proficiency in maneuvering through the vast U.S. market. This prediction arises from worries that interpersonal issues undermined NOK's previous bid.

Danske Bank analyst Sami Sarkamies said, "We don't think the decision came down to nitty-gritty product features such as fan-based cooling, rather it has been more about top-level relationships, credibility, and corporate image in the eyes of the customer."

The transition to open-source technology is set to expose NOK to intensified competition from its competitors in the lucrative U.S. marketplace, an area currently recognized as the globe's most valued telecom market. The largest expenditure in this territory is by T.

The contract with T now grants Ericsson a critical early-adopter lead over its adversaries. The Swedish corporation pioneers as the inaugural globally recognized vendor to integrate open RAN with a major operator into an existing network.

Citi analyst Andrew Gardiner said, "Nokia had been the primary share gainer within the RAN market for the past two years, following the decline after it lost significant share at Verizon in 2019. The loss of share at a second North American customer, particularly given Nokia's legacy in that market, is a considerable blow."

In light of T’s plans to undertake an O-RAN deployment, co-working with other vendors for the coming five years, NOK anticipates a decline in revenue generated from T in the Mobile Networks section for the next two to three years. As of 2023, T accounted for approximately 5% to 8% of the net sales within Mobile Networks.

In response to the anticipated change in revenue, NOK aims to reduce its gross cost basis by between €800 million and €1.20 billion by the end of 2026 compared to 2023, assuming consistent variable pay during both periods. This ambitious target equates to a 10% to 15% reduction in personnel expenses.

NOK has put forth an aggressive strategy to implement this program swiftly, with plans in place to save at least €400 million within 2024 and a further €300 million in 2025. The effects of this cost-cutting endeavor could result in a leaner organization consisting of around 72,000 to 77,000 employees, compared to the current strength of 86,000 employees.

The action to reduce the cost base is expected to mitigate the impact of T’s decision partially. NOK expects Mobile Networks to remain profitable over the coming years, but this decision would delay the timeline of achieving a double-digit operating margin by up to two years.

Consequently, by 2026, the Finnish telecom equipment provider NOK anticipates a 13% dip in its overall comparable operating margin target from the prior estimation of at least 14%.

NOK's Mobile Network division is witnessing a declining trend in 2023, expecting the market environment for this segment to remain bearish in the near future. This anticipated weakness in Mobile Networks is predicted to impact NOK’s operating profits negatively.

Challenges also extend to 5G deployment slowdowns in India. While 5G technology boasts transformative potentials like rapid video downloads and high-speed autonomous vehicles, NOK has encountered investment deceleration from mobile network operators this year due to global economic downturns.

NOK had initially envisioned its 5G rollout in India as compensation for North American telecom operators' mitigated spending this year. However, reality fell short of these expectations.

Moreover, in the fiscal third-quarter report, NOK reported a 20.2% year-over-year decline in sales, reaching €4.98 billion ($5.49 billion) and a sharp 69% drop in profits, totaling €133 million ($146.65 million). These weaker-than-expected figures may potentially incite the telecom titan to decrease its workforce by approximately 14,000 personnel.

However, NOK is implementing various strategies to enhance the resilience of its operations and augment profitability. It also aims to capitalize on rapidly growing markets like Cloud RAN, O-RAN, Enterprise, and Defense.

By 2024, NOK projects a modest increase in revenue generated from its Cloud and Network services, which is anticipated to be driven by the stable rollout of 5G core technology and solid performance in the enterprise sector. The company is prioritizing the integration of SaaS and Network as Code solutions to fortify its business model. Its commitment to digital operations, AI, analytics, security, private wireless, and 5G core technologies will likely escalate its prospects.

In addition, NOK also foresees mid-single-digit growth in net sales accompanied by a consistent operating profit in their Infrastructure division for 2024. This positive trajectory is upheld by impressive performance in optical networks and secure enterprise agreements relating to IP networks.

The injection of government funding expected in the latter half of 2024 will likely stimulate a revival in fixed networks. With these favorable conditions, the Network Infrastructure division is projected to achieve an operating margin ranging between 12% and 15% by fiscal 2026.

In Mobile Networks, NOK is confident about outpacing market growth in 2026, with a comparable operating margin expected between 6% and 9%. The company has reaffirmed its revenue guidance, with a forecast indicating growth exceeding the average market rate in 2026. Moreover, the projected free cash flow remains unchanged and is anticipated to convert 55% to 85% from the comparable operating profit.

Analysts expect NOK’s revenue and EPS for the current fiscal year ending December 2023 to decline 6.4% and 21.9% year-over-year to $25.39 billion and $0.37, respectively.

Bottom Line

NOK’s diverse business segments cater to separate customer demographics with specialized research and development needs, susceptibility to market shifts, and variable target profit margins. To foster growth and strategic agility, NOK plans to accord greater autonomy to its business units in terms of investment choices, growth schemas, portfolio supervision, and strategic affiliations.

In addition to refining its operating model, NOK intends to share cash flow and area-specific sales data for every business group. This increased transparency will offer investors a more detailed understanding of the financial performance of each segment.

Despite the recent developments being less than positive, NOK's Mobile Networks sector has achieved notable progression in the past years, expanding its RAN market share and reinforcing technological advantages.

Management remains confident that the company possesses an apt strategy to generate shareholder value in the future through opportunities to increase market share, diversify operations, and enhance profitability.

Mobile Networks play an indispensable role in envisioning a universally connected future. Significant investments are necessary for networks with exponentially improved capacities to realize potential revolutions in cloud computing and artificial intelligence. Undeterred, NOK continues to finance its research and development initiatives and fabricate superior products for its clientele.

Moreover, NOK has garnered a significant advantage by inking several noteworthy contracts. The most significant among these is a contract with Deutsche Telekom, Europe's leading telecommunications operator and the primary stakeholder of T-Mobile USA. This strategic move marks a turning point for NOK, re-establishing its partnership with Deutsche Telekom after a lapse since 2017. As part of this renegotiation, notably, Ericsson failed to secure its participation, positioning NOK as the exclusive contractor.

NOK’s valuation appears reasonable, with the stock trading at 9x consensus 2023 earnings and 8.8x 2024 earnings, which could entice investors to allocate their funds to the stock.

However, investors should take note that NOK shares demonstrated an underwhelming performance throughout 2023, exhibiting a roughly 27% decline year-to-date, in glaring contrast with the broader S&P 500's gain of about 24% within the same period.

The shares, currently trading below their 50-,100-, and 200-day moving averages, have mostly been traded below the $5 mark.

The difficulty beleaguering NOK shares, however, lies in the lack of potential growth, especially as estimates continue to dwindle. This will perpetuate the scenario where shares remain in a value trap, mirroring the trend experienced in 2023.

Considering the overall scenario, it would be wise for investors to wait for a better entry point in the stock.