Finnish telecom networking expert Nokia (NYSE:NOK) reported first-quarter results in the early hours of Thursday morning. Nokia shares fell as much as 13% on the Helsinki market and finished the day with a 9.7% loss there. Nokia's American depositary receipts largely followed suit, falling as much as 10% in the morning session. Alcatel-Lucent (NYSE:ALU), which Nokia is in the process of buying in an all-stock deal, also plunged 9% on Nokia's news.
How bad was the quarter? Let's have a look.
Nokia's sales increased 20% year-over-year, landing at $3.6 billion. Adjusted earnings rose to $0.06, a 25% gain from the year-ago period. Both of these figures were positive surprises, since the average Wall Street analyst would have settled for earnings of $0.05 per share on $3.4 billion in sales. So the simple, straight-up earnings and sales results shouldn't be dragging Nokia down today.
Like a bridge over troubled quarters
The real story isn't quite that simple, and there's trouble brewing among Nokia's three operating divisions. This quarter's strong overall results rested on more than double the sales and profits in the Nokia technologies segment. This technology developer, which makes money from licensing its patents around the networking world, may look like a world-beater today, but that impression won't last long.
You see, this quarter's unusual results came from a special situation. The rocketing growth rests on "non-recurring adjustments to accrued net sales from existing agreements, revenue share related to previously divested intellectual property rights, and intellectual property rights divested in the first quarter 2015. In addition, net sales and non-IFRS [international financial reporting standards] operating profit benefited from higher intellectual property licensing income from existing licensees"
In other words, most of these improvements sprang from unique adjustments that won't happen again -- or at least not often. It's a mirage that should drop away in the next quarter.
Meanwhile, the core networking division that accounts for 84% of Nokia's overall sales saw strong sales growth but its operating profits took a 61% year-over-year haircut. Nokia offered many detailed explanations for this swooning profitability, but it all boils down to one thing: The company just isn't executing like it used to.
Moreover, I think I smell some souring customer relationships here, since Nokia is hell-bent on tying its fortunes to a single hardware provider rather than shopping around for the best solutions at the lowest possible cost. The whole one-stop-shopping idea doesn't make sense to me in the network installation and management market.
Nokia CEO Rajeev Suri expects some of the troublesome market conditions to "ease" in the second half of 2015.
"I remain confident that our lean operating model, ongoing focus on cost management, and the current strength of our portfolio will enable us to meet our 2015 goals for Nokia Networks," Suri said in a press release.
He also underscored the benefits of the Alcatel-Lucent merger, and explained that the companies already are working to ensure minimal business disruption when the deal closes.
Are you sure?
However, since this is an all-stock transaction, the final acquisition price depends directly on Nokia's share prices. In other words, Alcatel-Lucent shareholders just saw their golden paycheck shrinking by about 10% overnight. And some of these investors were upset over Nokia's low bid before this report made it worse.
Odey Asset Management is Alcatel-Lucent's second-largest shareholder with a 5% stake in the company. The firm called the original $17.5 billion deal "unacceptable," because the agreed price tag is far too small.
And Odey is not alone. Alcatel-Lucent shares are currently trading at roughly 50% the price of a Nokia share. Since Nokia will exchange each Alcatel-Lucent share for 0.55 fresh Nokia stubs, that's 8% below the full value of Nokia's final bid. In other words, investor sentiment isn't exactly positive, and many Alcatel-Lucent shareholders seem worried that the buyout will fall apart.
So this first-quarter report is actually weaker than it looks, because the Nokia technologies boost won't last. Will it be enough to scuttle the pending deal? Maybe not, but maybe it would be for the best. Like I said when the merger was announced, Nokia is underpaying for Alcatel-Lucent, but I'm not sure why the Finns want to own it in the first place.
Nothing has changed, except the road to Mergerville suddenly gained a few additional roadblocks. I'm not at all convinced that this deal will happen, and Nokia may have damaged its own operations beyond repair by reaching for this strange combination.
Anders Bylund has no position in any stocks mentioned. The Motley Fool recommends and owns shares of Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.