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LM Ericsson Took a Big Hit From the DOJ and SEC in the Third Quarter

By Anders Bylund - Oct 19, 2019 at 9:13AM

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That's the end of an expensive business ethics investigation that started way back in 2013.

Three months ago, shares of LM Ericsson (ERIC -0.93%) fell 12% due to an in-line second-quarter report that just wasn't strong enough to support a surging stock. That story was told in reverse this week. Ericsson's stock surged as much as 7.3% higher on Thursday, based on that morning's third-quarter report.

Let's have a look at the latest financial results from the Swedish maker of telecommunications equipment.

Ericsson's third-quarter results by the numbers

Metric

Q3 2019

Q3 2018

Change

Revenue

$5.95 billion

$6.01 billion

(1%)

Net Income

($0.7 million)

$0.3 million

N/A

GAAP Earnings per Share (diluted)

($0.20)

$0.09

N/A

Data source: LM Ericsson. GAAP = generally accepted accounting principles. Dollar amounts calculated from Swedish Crowns at the average exchange rates for each quarter, as presented by the Bank for International Settlements.

A gavel resting on a wooden stand. In the background, you see a large American flag.

Image source: Getty Images.

Unusual costs

The results seen above include a significant currency-exchange headwind, as the U.S. Dollar rose 7% year over year as compared to the Swedish Crown. Ericsson's revenues rose 6% in local currencies.

The negative bottom-line result included $1.2 billion of one-time charges related to an American investigation of Ericsson's business ethics. This review by the Securities Exchange Commission (SEC) and the U.S. Department of Justice (DOJ) was launched in 2013 and concerned the company's operations in China, Kuwait, Saudi Arabia, Vietnam, Indonesia, and Djibouti.

The investigation found numerous breaches of international trade laws and Ericsson's own ethics requirements. The company is currently working up ways to strengthen the failed internal controls that led to this huge financial penalty, and the individuals who were found to be responsible have already been fired. This process will continue, but the financial damage has already been done.

Looking ahead

Ericsson is enjoying a steady flow of orders for next-generation 5G wireless equipment. In particular, Ericsson's management expects large-scale 5G implementations in China to start next year. The company has focused on strengthening its market position in that key market, helped by the policy-powered absence of American rivals.

"Based on historic experience we expect to have challenging margins initially but positive margins over the lifespan of a contract," CEO Borje Ekholm wrote in a prepared statement. "We are disciplined in the deals we take and target opportunities where we have a clear competitive advantage through technology leadership, supported by our improved cost structure in hardware and software."

Wall Street analysts generally appreciated this report, showering Ericsson in upgrades and price-target increases. The stock doesn't look cheap today, trading at 44 times free cash flow and 1,500 times trailing earnings, but those metrics include this quarter's massive DOJ and SEC penalties. The forward price-to-earnings ratio stands at a more reasonable 18.4.

I like Ericsson's competitive position at the dawn of the 5G wireless era, and I think it could be a good buy if you have the patience to hold it for at least a couple of years.

Anders Bylund has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Telefonaktiebolaget LM Ericsson (publ) Stock Quote
Telefonaktiebolaget LM Ericsson (publ)
ERIC
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