FOOL ON THE HILL
An Investment Opinion
Revisiting Nokia's Successful Quarter Bill Mann (TMF Otter)
October 22, 1999
Nokia Corp. (NYSE: NOK), the world's largest manufacturer of cellular phones, announced its third quarter results on Thursday, highlighted by 45% growth in sales and 38% growth in net income over the same quarter in 1998. Jorma Ollila, the Nokia CEO, stated in the company's quarterly conference call that he expected the company's annual growth rate to exceed 40% for the fiscal year 1999.
That's a pretty astounding rate of growth for any company, much less one with a market cap in excess of $110 billion dollars. But Nokia is not just any company, it is the leader in wireless communications, with an $18 billion per year business in mobile phones, switching networks, base stations and software, composing nearly 30% of the total wireless market. "Nokia" has become synonymous with mobile phone in several parts of the world, as it has increasingly dominated the industry, quickly pushing to marginalize rivals Ericsson, Motorola, and others. In a high-margin business that is expected to exceed 1 billion unit sales in the next three years, Nokia is in the enviable position of the race being its to lose.
Nokia is a case study of the ability of a strong management team to add value to a corporation. In the mid-1990s, the company was rudderless, featuring an unwieldy collection of loosely connected products including PC's, optical fiber, televisions, and telecommunications equipment. In addition, Nokia's status as a company from Finland -- a country with the same population as Kentucky, ravaged by recession and suffering from a brain drain -- limited the talent base from which the company could easily draw. The market reflected the uncertainty about the company's ability to compete, cutting the company's market cap in half in 1995 to under $10 billion.
I would note that in 1995 the mobile phone revolution was already well underway; in fact it was a point in time in which the sight of a cellular phone was already commonplace. So although Nokia has definitively benefited from the rapid market increase for cellular, more impressive, in a maturing market, is how the company managed to grow so quickly to dominate all of the other manufacturers. The company, although it had in place some cutting edge technology, has in many ways had to play catch up with its competition.
How has Nokia done it? By shedding the majority of its businesses and taking dead reckoning upon the mobile communications market. After the company's market mauling in 1995, it restructured and elected to forgo much of its existing product lines and write down millions of in-process research and development and asset base. In place of these components the company, which was one of the three developers of the Global Standard for Mobile Communications (GSM), put its full efforts into cellular. A significant portion of Nokia's growth can be traced to the global acceptance of GSM, which standardized many of the functions needed for international roaming, call forwarding, and other new wireless applications. (As an aside, one of the few places where GSM has not been implemented is the United States, which has no set standard but largely uses AMPS, an analog protocol.)
But although Nokia's growth is deeply tied to the worldwide acceptance of GSM, the company quickly recognized that there were significant opportunities to be had using other protocols, including CDMA and TDMA, which are more data friendly than GSM and thus better positioned to capture the wireless Internet market. Nokia has remained nimble by keeping its hand in several cookie jars. Wired produced a significant description of the technical side of Nokia's business in its September 1999 issue. Of special note are the company's plans for wireless Internet and Wireless Application Protocol (WAP), which will allow electronic components to communicate with one another within 10 meters.
But how has a company tucked away in the Arctic put itself at the center of the wireless world? A company that just five years ago was mired in a crisis of confidence and unclear mandates? The answer, as espoused in the Wired article, may have something to do with a special creativity and symbiotic relationship with technology the Finns seem to possess, as manifested in their significant contributions such as Linux, Internet Relay Chat (IRC), and GSM. But just as importantly, Nokia's new management team, brought in after the reorganization in 1995, opened up the company's management system and expanded its R&D.
Currently, 15,000 of Nokia's 53,000 employees work in R&D. These employees are expected not just to produce new ideas, but when they do, to develop a business model and move to a business unit to help turn the idea into reality. This model is similar to Microsoft's module concept, in which any employee may propose an idea to a higher up, complete with a resource allocation and a return on investment. Once approval is granted, the employee becomes responsible to implement the plan, and maintains responsibility for success or failure thereof.
Such free movement of thought and concept has allowed Nokia's employees an innovative freedom that is lacking in many companies. We often hear the apocryphal stories of ideas coming from Comsat, AT&T, and Xerox labs that went on to become billion dollar ideas for someone else. A common complaint from those who developed these technologies was that the corporate structure inhibited the company's ability to take advantage of technologies outside of current product mixes. Not so for Nokia.
I find Nokia to be an essentially Foolish company. It has consistently regenerated its products over the last five years, refusing to pigeonhole itself into any one technology. At the same time, however, it has had consistently high gross and net margins over the last three years, with the last quarter's coming in at 37% and 18%, respectively.
-Nokia's 3rd Quarter earnings Press Release