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Nokia's Rumored Phone Surfaces

By Jamal Carnette, CFA - Sep 13, 2015 at 8:46AM

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According to Chinese website CNMO, the Nokia phone exists.

Over a year ago, Nokia (NOK -3.57%) effectively exited the device market when its devices and services business sale to Microsoft closed for roughly $7.2 billion. Nokia's high-end Lumia line and low-end, developing-market Asha line, along with Nokia President Stephen Elop and Nokia's manufacturing plants, supply chains, and employees were included in the deal. Although Elop has now left the company, Microsoft is still battling to capture market share for its Windows Phone OS in what's increasingly becoming a duopoly between Apple's iOS and Google's Android.

For many observers, it was thought the post-buyout Nokia wouldn't return to the device business. First, the deal dictated that Nokia was unable to produce phones until 2016. But even if it could enter the market, investors should ask whether devices are the best use of its talent. After dominating the handset market with nearly 50% market share in 2007, the company found itself unable to match the ascendance of Apple and Samsung, which both pushed past Nokia in 2011 -- the company continued to see its market share erode before selling to business to Microsoft.

However, it appears Nokia is interested in entering devices after all. Late last year, the company announced it was manufacturing a tablet using Android's operating system to be sold in the increasingly important Chinese market. The big question was: Will Nokia follow that with a smartphone offering? And the answer is yes ... and no.

The picture gets clearer
Earlier this year, Ina Fried, senior editor for Re/code, wrote an article detailing Nokia's planned smartphone business model, which is remarkably similar to its N1 tablet plans: Design the product and license the Nokia brand to another company that will manufacture, market, and sell the product. This has the benefit of lower costs for Nokia, but marketing and selling are important parts of assuring a product's success, not to mention licensing limits the potential profit per unit sold for Nokia.

That Re/code article goes into great detail and quotes unnamed "sources briefed on Nokia's plans," but it does name a former executive, Richard Kerris, now a consultant, stopping short of providing direct details as to Nokia's smartphone but playing up Nokia's upcoming device plans. Very quickly thereafter, Nokia issued a statement clarifying its position, and mostly confirmed Fried's report -- Nokia would look into brand licensing and not manufacture or sell the handsets.

However, the big question is: What operating system will Nokia (or, those who license Nokia's name) choose? If a leak to China's Mobile News (by way of Engadget) is correct, it seems the next Nokia phone will run Android's operating system. In fact, the device looks similar to a smaller version of its N1 tablet that runs Android as well.

Considering this device, like its N1 tablet forebear, appears to be directed at the Chinese market, going with Android is a smart choice. Using Kantar Worldpanel's data for Urban China, Android commands a massive 79.1% market share. Windows Phone, on the other hand, has a 1.5% market share in the Middle Kingdom.

Of course, Nokia could go OS-agnostic and make models for both Android and Windows Phone, but would Microsoft even want a Nokia-licensed partnership, part deux? On one hand, Microsoft could benefit from another device maker manufacturing its OS, but another Nokia-branded Windows Phone could be confusing and cut into Microsoft's monetization plans for its $7.2 billion investment. While it's true Microsoft cannot use the Nokia name for new Lumias and Asha phones, any future Nokia phones may be confusing to buyers as to their identities are still closely intertwined.

Meanwhile, back in the core business...
Oddly enough, Nokia's return to phones -- even in the rather limited capacity it appears to be doing -- seems contrary to its moves post-device divestment. Many expected a strong focus on its core networks business. Recently, the company announced its intentions to buy French competitor Alcatel-Lucent for $17 billion. In addition, the company sold its second-largest business -- its HERE maps service -- to automakers BMW, Audi, and Daimler for $3 billion to raise capital and increase focus.

For Nokia investors, devices may be more interesting to talk about, but it appears the biggest risk (and potential reward) is its core business of network equipment. The Alcatel investment is a massive undertaking that increases its addressable market by 50%, but also comes fraught with risks. Investors should focus on its Alcatel-Lucent deal more than its licensed-device plans.

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