Is This a Misstep for Nokia?

In a recent story, Nokia (NOK 2.03%) is rumored to have recommenced work on its own 10-inch tablet offering that will run on Microsoft's (MSFT -1.27%) Windows RT. The partnership between these two has been focused on Nokia's Lumia smartphone line, led by the flagship Lumia 920. Microsoft has kept the production of tablets using its operating system to itself through the Surface, which, to the surprise of some, has received some positive reviews.

Given the positive traction Surface has achieved, limited as it may be, Nokia has an argument for getting into the game. Conversely, some may think the company should remain focused on building its smartphone presence before tackling a new market segment. Ultimately, while I think there may be limited advantages to racing into the tablet market, it may be a strategic necessity.

The tablet market
Research firm IDC sees significant growth in the tablet market heading into the future; globally, the firm expects that tablet sales will reach 122.3 million units in 2012, 172.4 million in 2013, and 282.7 million by 2016. During the same period, the firm sees the Windows OS market share in tablets, which it expects to be 2.9% in 2012, to grow to 10.3% by 2016. That means Windows tablets will account for more than 29 million units by 2016. Given that some reports suggest that the margin Microsoft earns is better  than even those Apple (AAPL -1.22%) commands for iPads, this could be a significant source of revenue for the manufacturer.

While there is no guarantee that a Nokia tablet would command the same $315 margin (selling price less the component costs of the device) that the Surface enjoys -- placing it $19 per unit ahead of the iPad -- there is clearly money to be made. Likewise, there is no meaningful way to predict what percentage of the market Nokia would be able to capture from Microsoft, or what other players might enter the market. What can be said with great certainty is that competition is good for both consumers and, ultimately, for product development. Multiple Windows-based tablets will probably bolster sales in general.

Do it like Google
While not a perfect comparison, with Nokia being purely in the hardware space and Google (GOOGL -1.23%) being in the OS ecosystem space, Nokia might learn from the success that Google has achieved. The company's Nexus One smartphone was not a huge seller, but it achieved certain strategic ends, including getting enough positive reviews to make Android a more significant part of the conversation. Now, as Google releases the new Nexus 4, it has been well received  and is out of stock  in many places -- though this is related to supply issues as well as demand.

I am strongly of the belief that by dipping its toe in the water early with the Nexus One, Google was able to clear the way for its current success with the Nexus 7 tablet. The device has been one of the most popular 7-inch tablets on the market and is set to sell more than a million units this month,  according to some sources. Even as other manufacturers bring their own Android tablets to market, the Google option is doing well.

Even with minimal sales, Nokia would do well to establish itself in the tablet market for several reasons. First, it will improve the company's tarnished image by helping it face the world as a more comprehensive hardware company. There is, in my opinion, a certain psychological interplay at work here: "How good is Nokia at making smartphones on the Windows platform if it cannot also make a tablet?" While this may seem like a silly argument, I think it takes place below the surface, and Nokia needs the benefit of the doubt as it pushes its way back to relevance.

The RT pitfall
Perhaps the bigger misstep for Nokia, if it ever gets this far, is offering its tablet on the Windows RT platform instead of the full Windows 8 platform. With Microsoft preparing for the launch of the Surface Pro, the enhanced functionality will probably be worth the price. Running on a full version of Windows will allow the Surface Pro to be a true notebook replacement and could spell big numbers for Microsoft.

There is the possibility that Nokia will try to compete with the RT-based Surface on price, using its manufacturing might to undercut Microsoft, but I'm skeptical of this plan. If Windows-based tablets are to really carve out a niche, it will be for their productive capability relative to iOS and Android options. The price of new tech falls so fast these days that Nokia would be better off competing at the higher end of the capability spectrum rather than near its bottom.

Overall, it is a positive strategic decision for Nokia to get into the tablet segment to enhance its product line. While I question not going after the top of the Windows business, much may change during development. This news should be seen as a net positive for the company, particularly if it can position itself well upon completion.