Nokia’s Q3 sales decline shows it needs new markets well before 5G

While the markets saw some small green shoots in Ericsson’s third quarter results, it was harder to find any joy in Nokia’s figures (though the expectations did start higher).

In the quarter, sales fell by 7% year-on-year to €5.537bn, with the flagship business unit, Ultra Broadband Networks, taking a 17% hit. The Networks division as a whole, which accounts for over 90% of revenues, reported a 9% decline to €4.823bn, with its operating profit down 23% to €334m.

Nokia made a net loss of €192m, compared with a year-ago loss of €119m. This was partly because of a €141m impairment charge related to changes in its digital health business. Though this has often been held up as a strategic growth area, it has adjusted its long term cashflow projections and decided to reduce investment. “Going forward, Nokia Technologies aims to have a larger impact with consumers and the medical community through a more focused, more agile digital health business,” was the official line.

Nokia updated its forecast for the full year downwards in light of the Q3 showing, and now says revenues will decline by 4% to 5% compared to 2016, and then by 2% to 5% in 2018 too.

Only the small Technologies division – which houses licensing, R&D and new activities like healthcare – achieved an increase in sales, up 17%, but it accounts for only 8.7% of the total. About €474m of its revenue was related to patent and brand licensing, with €9m coming from digital health and digital media. (Nokia recently decided to scale back its virtual reality camera operations.)

CEO Rajeev Suri said: “The performance of our patent licensing business was the clear highlight of the quarter”, pointing to the recent favorable settlement with LG. He added: “With this fast and effective execution against our patent licensing strategy, we have approximately doubled our recurring licensing revenue from €578m in 2014. I am also particularly pleased that in 2017 the growth in patent licensing has helped to offset the sales decline on the Networks side.”

There were some other positives to be found. There was an improvement in Networks’ gross margin, which Suri called a “remarkable achievement in the context of a market that remains challenging”.

Most importantly, there was constant currency year-on-year growth in the Global Services and IP Routing businesses, which are both significant and strategic activities. The smaller Applications & Analytics unit reported its fifth consecutive quarter of order growth, “showing the progress we are making in our strategy to build a strong, standalone software business”, as Suri put it.

Despite these small comforts, the Q3 figures sparked a 16% fall in Nokia’s share price, and they also present a clear picture of the challenge facing all the mobile network vendors. Some of them are managing to innovate by moving into new digital businesses, or new vertical markets, which have higher growth rates than the core MNO network market.

But these new activities are usually early-stage, and a drop in the ocean of the revenue levels to which these vendors are accustomed. And as Nokia’s digital health and VR adjustments highlight, these digital extensions can be tough for large suppliers to get right.

The great hope for a revival in the core business is 5G – not just a radio upgrade but the shift to software-driven architectures and high levels of automation and density. But despite the much-touted early movers, in volume terms these next generation deployments are unlikely to reach much scale, or revenue to suppliers, until 2022 or later.

So Nokia is doing the right thing, moving more heavily into cable platforms, on-demand networks and what it calls adjacencies (mainly targeted vertical industrial markets including IoT services). But it will take years for these new activities to come anywhere close to mobile networks in revenue terms, even with the current depressed state of operator capex.

This forces Suri to bang the 5G drum, but given his company’s warning about continuing decline in 2018, this sounded very ‘always jam tomorrow, never jam today’ to investors.

Suri put on a brave 5G face though, saying: “As the market transitions to 5G, I believe that the benefits of our portfolio will become even more apparent given that 5G is about much more than radio. It requires cloud core, IP routing, transport of many kinds, fixed wireless access, software-defined networking and more – and Nokia is one of the very few companies that is able to meet all those needs.”

There were few positives to find in the current year though. Nokia cited “uncertainty related to the timing of completions and acceptances of certain projects” as well as “robust competition in China” in explaining the worse-than-expected performance.

Sales in China were down 20% compared to the year-ago quarter, while North America saw a 16% drop, and there were falls of 10% in Latin America and 7% in Europe. However, there were constant currency rises in Middle East and Africa, and Asia-Pacific outside China.

Nokia also pointed to “uncertainty related to potential mergers or acquisitions by our customers” as many large markets go through consolidation, including the US (Sprint and T-Mobile still expected to get together) and India.

And another issue seems to be the time taken to get some key products to market, which may suggest Nokia should be careful what it wishes for when talking up early 5G roll-outs. Suri said on the results call that “the R&D team in this business group has faced an extraordinarily high workload. Given this situation, we have seen some issues with the time taken to converge some products that have, unfortunately, impacted a small number of customers.”

Overall Nokia said that some additional investment will be required to maintain product leadership in mobile networks but it remains committed to its €1.2bn cost savings plan for full year 2018.

By contrast with the European majors, ZTE last week reported strong results for the first nine months of 2017, with sales up 7% year-on-year and net profit up nearly 37%.