What more could an investor want than to own stock in a company that grows fast and profitably, beating market expectations over and over again? For years Nokia (NOK1V), the Finnish manufacturer of mobile devices, fit this profile, becoming the darling of many fund managers and private investors, not just in Finland but globally.
Lately, however, the story has changed. Nokia has become a company of lost promise, and it is a textbook case of a firm whose best days are behind it. This can clearly be seen in the rise and fall of Nokia’s share price in the 2000s. The price has repeatedly perked up, reflecting investors' hopes of a new growth spurt in the company’s business, before ultimately dropping down again. Nokia’s share price has tumbled from a high of EUR 65 in June 2000 to just above EUR 4 in 2011, taking the company’s market value down from EUR 300 billion to less than EUR 20 billion.
Nokia's Lesson: Look at the Future, Not the Past
What could investors learn from Nokia’s example? First and foremost, Nokia should serve as a warning about how strongly their perceptions affect their decisions.
It is no wonder that Nokia built an almost cult image amongst investors. This image had roots in the history of the company and its home country, Finland. Nokia started its miraculous rise in the early 1990s during a devastating period in Finnish economic history. Its neighbouring Soviet Union had ceased to exist in 1991, slashing a quarter of Finland’s exports almost overnight. As Europe, the country’s main market for exports, fell into a recession, Finland’s GDP fell more than 10% and this Scandinavian country was desperate to find new sources of growth. Finland found its answer in Nokia, which had barely avoided bankruptcy after its plans to dominate European electronics markets had failed. With a new leadership, Nokia relentlessly focused all its resources on one set of products, mobile phones and networks, in 1993. The timing was perfect, as first Europe and then the rest of the world fell in love with mobile devices. In the following years Nokia grew at an astonishing pace, becoming Europe’s largest mobile handset maker in 1995 and surpassing Motorola in 1998 at the global level.
This success story gave Nokia added appeal, but the main attraction was its results. The company topped market expectations time and time again, achieving operating margins above 20% in its handset business while growing at a double-digit speed. It was no wonder that the company became the darling of growth-minded fund managers such as U.S.-based Janus, propelling its market value to proportions rarely seen in any country: At its height Nokia represented 70% of the market cap in the Finnish stock exchange.
After the stock market bubble burst in 2000, Nokia’s share price started its long spiral towards the bottom. Its business still grew, however, from sales of EUR 31.2 billion to more than EUR 55 billion in December 2008, and it was even able to maintain its high level of profitability through 2008 when operating margins dropped below 10% for the first time in years.
Nokia Underestimated Silicon Valley
Nokia’s fall started much earlier, however. Strategically, its major mistake has been to underestimate the importance of the U.S. market and developments in Silicon Valley. Nokia rose to prominence mainly through its willingness and ability to ride the emerging-markets boom, both by building massive production facilities in low-cost countries and selling its products to clients in those markets. However, Nokia did not realise early enough how big an impact touch-screen phones such as the iPhone would have, nor was it able to foresee the importance of attractive applications. It also did not anticipate how quickly Google’s operating system Android would change the mobile landscape. Instead, Nokia focused on growing in emerging markets, where its margins had already started to suffer from increasing competition by cheap local brands.
For investors, the realisation of the company’s dwindling competitive position--Morningstar stock analysts see the company having no economic moat left--has been a painful process. With hindsight, Nokia’s share price history shows how investors have built up new expectations over and over again, believing Nokia could yet again surprise the market. These hopes have not materialised, however, and since 2008 the stock has been in freefall.
In 2010 Nokia decided it had to change its management and strategy, and it hired Canadian Stephen Elop from Microsoft (MSFT) as its first non-Finnish CEO. Quickly afterwards Nokia announced it would abandon its Symbian operating system and use Microsoft Windows in its smartphones. Nokia’s first Windows models were sold in November 2011.
By now, most fund managers had lost faith in Nokia--and one, Harry Lange at U.S.-based Fidelity Magellan fund, likely lost his job because of his large bets in Nokia. At the Morningstar Investment Conference 2011 in Chicago, prominent international U.S. managers were quick to note they had dropped Nokia altogether from their portfolios. For value investors, this type of consensus could be a signal that Nokia is at last becoming an interesting proposal. Indeed, contrarian value-style managers at U.S.-based Dodge & Cox funds have bought shares that together represent more than 5% of Nokia’s votes. U.S.-based Capital Group also said in July 2011 that its funds had crossed the 5% mark. In Finland, several portfolio managers have been buying Nokia in late 2011 after selling the stock early in the year.
Elop has discussed Nokia's aims to overtake its competitors in the smartphone market, especially Android, trying to connect the company to its earlier image. However, 11 years after its share-price high, investors should finally be able to look at Nokia objectively. Morningstar’s equity analysts put Nokia’s fair value at EUR 9, more than 100% above its mid-November price but much lower than its share price prior to the financial crisis. In their opinion, Nokia still has a chance to become a big smartphone player if it can leverage its massive scale and broad distribution. But in any case, Nokia's miraculous success is likely over, because the market has become much more competitive. The fact that the market has finally come to understand the new realities is ultimately a good thing for long-term investors.
