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What will happen to Nokia?

There is no shortage of information about what happens to companies in distress. The cause of distress varies widely and is often not well understood but the actions and symptoms of distress are very consistent. We can look at examples in each industry, even in each product category for a rich set of distressed company data.

For over a year I’ve been chronicling the decline of incumbents in the mobile phone industry. However, decline cannot continue indefinitely. At some point a company “exits” the industry. Either through a sale or divestiture or, rarely bankruptcy. The list of exits is already long. The length and the correlation between exit and the lack of recovery implies that Nokia will also exit.

But how, exactly?

Will Nokia be acquired? If so, then by whom? What other options exist? How can we analyze this?

The easiest way to guess is to look at what happened to other companies in similar circumstances. The clearest and easiest comparison to apply is Motorola. Motorola was at one time the largest phone vendor and it went through a violent decline. Like Nokia, it was diversified into networks and a few other businesses. Unlike Motorola it’s not an American company. This matters because American companies are more comfortable targets for corporate raiders. The legal and boardroom mechanics are not “better” or “easier” in the US than in Europe but they are more familiar to those who might engage in it.

So one avenue that Motorola traveled on was the intervention of activist investors who forced management change, affected strategy and pushed some tactical initiatives. This external pressure was successful in the case of Motorola. The company was split up, it was re-purposed and re-focused and, with a bit of good luck, was acquired.

The process however still took two years. In that time the company languished but stayed alive. Its headcount was reduced by nearly two thirds. It was in a precarious situation throughout. Its story is not over but ownership did change hands and those who took a risk with it while in distress managed to get a reward.

This example (and Sony’s acquisition of Sony Ericsson and HP’s acquisition of Palm) cannot apply to Nokia.  An activist investor is unlikely and the company has not yet made itself attractive to a buyer. So what would Nokia need to do to  be acquired?

The first step toward an acquisition will be divestiture of its Nokia Siemens venture. The second will be a spinoff or sale of its non-smart phone division. The third might be the allocation of its IP across these separate entities or in a separate holding.

As the company is broken up, value can be released. Investors will be able to value it better and make appropriate assessments of risk. Only at this point would an acquirer perhaps buy the “rump” Nokia smartphones group.

However, even this scenario is not without huge risks. By the time the split is completed, the operating companies could have deteriorated to such a degree that they are no longer viable. Timing is critical.

So if the smartphone group is isolated and made available, who could buy it? Microsoft is always cited as the primary buyer. I’ve been skeptical of this as Microsoft has found it difficult to make hardware work. It acquired Danger leading to Kin which failed. It has struggled with Xbox for a decade and has yet to recover all its costs for the effort. It has failed embarassingly with Zune. It also has shown no particular success with its original Surface table computer.

But management has re-committed itself to a new hardware effort with the new Surface. This renewed potential opens up the possibility of entering into the integration of a phone again into their business, and Nokia would be remarkably well positioned to help.

At this time, the possibility still seems remote. The company has dismissed speculation of building phones again and again. Unlike PCs, the phone platform is not yet mature and volumes and distribution are very different.

However, there is one other option.

Microsoft has historically “rescued” technology companies in distress with cash infusions for minority equity stakes. It injected some cash into Apple, Barnes & Noble and even Facebook. It did so not because they wanted to own these companies but because they wanted them to survive or thrive. The move acts as a signal to the industry, partners and developers. So what I see more likely than an acquisition is Microsoft capitalizing a spun-off Nokia Smartphones company in exchange for a small equity stake.

The valuation of this stake will be huge as I expect billions of dollars for single digit share ownership. However, Microsoft would not be doing it to get a return from those shares. It would probably later sell them at a loss. But it would be buying a strategic option whose value may be far greater.

  • http://post404.com/ Randall Arnold

    As usual, excellent analysis Horace.

  • obarthelemy

    I think MS is coming to realize that in the consumer space, people want/need simplicity, ie dealing with a single supplier, not a parts makers then an assembler then an OS supplier then an apps supplier then a content supplier then a cloud supplier.If I were them, I’d double down and do an Apple.

    • http://post404.com/ Randall Arnold

      Depends on the consumer.

    • Walt French

      I agree but the primary motivation for MSoft should be the fact that their arms-length model doesn’t work in the face of extremely rapid change. Witness the Xoom, which failed due to the complexity of independently developing an appropriate Android version, Flash, the nVidia Tegra2 CPU and the rest of the new hardware technology.

      This might be fine when you put out bids to a dozen shops for off-the-shelf, well-specc’d parts, but not in Smartphones in 2012.

      To the point of misaligned incentives, Nokia’s role vis-à-vis Microsoft’s is a wonderful example. How much would an informed CEO of Nokia have paid for full forward compatibility of the Lumia line? Did Elop have a choice? Microsoft’s famous patience apparently serves Nokia very ill here, as Horace’s scenario highlights: the smartphone business is barely a business any more.

    • Relayman5C

      In my world, simplicity is going to Verizon and seeing what they sell. I assume that Verizon has done quality assurance on everything that they sell. Until the iPhone came out, Verizon even controlled the UI and the features of every phone except perhaps Blackberries. So I really don’t need Microsoft to build the phone; I just need them to get Verizon’s approval.

      • obarthelemy

        There are plenty of good phones *not* on verizon (the iphone was not there for the longest time). And most of the work operators do on phones is to remove / lock features that compete with their own paying stuff. This is kinda like saying you won’t buy a teddy bear until Disneyworld sell it.

    • Relayman5C

      Microsoft’s biggest problem is understanding that Apple is going to refresh their products about once per year. Microsoft is still in the mindset that a refresh every four to six years is acceptable (look at XBox 360 for an excellent example) although I admin that Windows Phone 8 may be released only 2.5 years after Windows Phone 7.

      • obarthelemy

        I think MS are aware that the console market and the mobile market are not quite the same.

      • Tatil_S

        God forbid MS should do anything different than Sony’s business plan for consoles.

  • http://twitter.com/WalterMilliken Walter Milliken

    I am not certain MS has “rescued” companies because they wanted them to survive, particularly.

    In Apple’s case, yes, Microsoft *needed* a semi-viable competitor in the desktop OS market to help fend off the anti-trust case. There may also have been some personal connections between Gates and Jobs that helped there, I don’t know. But Apple was the only company with any significant desktop market traction that wasn’t Windows. “See, we’re not monopolists! We’re supporting a competitor!” Or propping up a strawman threat as a political tactic…. If Gates could have foreseen Apple actually becoming a serious competitor again, much less putting Microsoft in jeopardy, I don’t think he would have helped.

    The Facebook investment I saw as MS getting their foot in the door in case they might someday either want to acquire it, or influence its behavior.

    I see the Barnes and Noble investment as a means for MS to control the crucial college bookstore PC market, and also as a means to bring another Win8RT device with some built-in traction to market (and deny the Nook to the Android camp). I wouldn’t be surprised if MS saw Amazon as a long-term threat like Google, and is thus working to undermine it.

    • ravi kiran

      Well, wake up! It was no charity. Microsoft wanted Apple to survive, for its Office business. And it forced Apple to use IE as Macs default browser, for which Steve Jobs was booed rightly. Those were the days when Jobs was still considered human!

    • http://pulse.yahoo.com/_5BHLNE6HC75ETNMNDKEEKLMF3M Steve Pederson

      Just want to chime in on the MS investment in Apple. I don’t think MS cared a whit about keeping Apple alive–they saw Apple barely relevant–nor about the anti-trust concerns. MS’s #1 concern was the internet and the netscape browser becoming the new Windows. Apple’s #1 concern was that MS would kill the Mac by discontinuing Office. MS also got what google and its partners can not, an Apple willing to settle all of its IP claims. But for MS, strategically it was all about Netscape and making IE the default mac browser. Note that agreeing to keep making office wasn’t a huge sacrifice… Office for Mac is quite profitable, had just become small potatoes.

      You have to understand that MS saw Netscape browser + Java + Larry’s Ellison’s network computer as an existential threat. Killing it was the focus on the company. And kill it they did.

      And while I don’t know the details, I do note that to this day there aren’t any IP suits between Apple and MS.

  • Glimmerman

    I think an important factor in considering a Microsoft-Nokia tie up may be Stephen Elop, Nokia CEO and former Microsoft executive. He well knew MS’s technology roadmap (such as it is) when he left for Nokia two years ago, he dumped Symbian in favor of Windows, and he no doubt has continued to talk to his former colleagues. If anybody could shape up Nokia to be an appealing target for MS, it would be Elop.

    • http://chipotle.tumblr.com/ Watts

      My impression — as a former Nokia engineer, albeit off here in Silicon Valley and somewhat removed from Nokia’s power center — is that Elop did *not* come to Nokia with a plan to move them to Windows Phone. He only made the decision to go outside the company after deciding, rightly or wrongly, that the MeeGo effort wasn’t going to deliver a viable product fast enough. A long article on this subject about a year ago in BusinessWeek revealed that Nokia was seriously considering Android as the outside platform to go to, not Windows Phone, and I feel fairly confident that Android was originally their first choice, as it would have let them leverage UI/engineering work they were doing with Qt. The dealbreaker is that Google told them they couldn’t integrate Nokia services with Android to the degree they wanted to and still use the Android brand, and — again, whether it was right or wrong — that wasn’t a path Elop wanted to go down.

      It’s my personal take (from outside Nokia for a year and a half now, mind you) that Elop may have made a crucial mistake in so publicly throwing Symbian under the bus. Getting rid of it was absolutely the right thing to do — despite what Symbian’s cheerleaders would like to believe, that thing wasn’t ever gonna be modernized (to call the development toolchain unnecessarily arcane, even using Qt at the end of 2010, is an understatement) — but giving people a reason not to buy your products before you have the replacements on shelves is a bad, bad idea.

      • Tatil_S

        I hear the analysis that Elop announced the end of Symbian too early, but wouldn’t you feel more betrayed as a customer or developer if you worked on Symbian apps for another six months or bought a top of the line Symbian phone six months later with the expectation that it would be upgradable to whatever the next version would look like and then Nokia pulled the rug and made the announcement then? It is also quite unlikely that Nokia could keep such a decision (and Windows Phone development) a secret for very long even if it wanted to. Then there is the urgency problem. I doubt many Nokia staff and managers believed that they needed to abandon Symbian. Without such a stark public announcement, the internal dissent would slow WP development even more.

      • ThingOnASpring

        Don’t shit where you eat – at least not while you are still eating :-)

      • http://chipotle.tumblr.com/ Watts

        Well, I think the correct course would be to avoid giving the feeling that they were pulling the rug out from Symbian at all. We all knew Symbian was going away in the long run–MeeGo would have been pushing it down the value chain from the top. (The diehard Symbian fans were and remain, as near as I can tell, people outside the company who have never tried to develop for Symbian. :) ) If Nokia had managed to give the impression that this was still *effectively* the plan except with Windows Phone rather than MeeGo, it might have avoided at least some of the angst.

      • Sander van der Wal

        From the third party developer standpoint, the problem was not that Symbian was thrown under a bus, the problem was that Qt was thrown under a bus, by not porting it to Windws Phone.

        People were starting to use Qt instead of the Symbian API, because it was finally getting into a usable state. Imagine what woud have happened if Nokia had dumped Qt after their ecosystem had invested real money in it. You do not get a viable ecosystem by pulling a stunt like that.

      • Insider

        Totally agree with you mate and I’ve worked/ seen the company as well.

  • http://www.worldofphones.net adityasinghvi

    Interesting viewpoint…

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  • mark212

    if MSFT buys any hardware manufacturer, I think it’s HTC instead of Nokia.

  • http://twitter.com/gassee Jean-Louis Gassée

    Microsoft’s 1997 “investment” in Apple included a discrete settlement for an iP dispute.

    • claimchowder

      Excuse moi, but are you THE Jean-Louis Gassée who used to work at NeXT? :)

      • markrogo

        He’s >the< Jean-Louis Gassee. You might want to re-check his CV, however.

      • claimchowder

        Oops, you’re right. Looks like I was still half asleep and confused JLG with Bertrand Serlet :D.

      • exNeXT

        Those French guys, they’re all alike :-)

      • Nangka
    • http://www.asymco.com Horace Dediu

      Indeed it was, but it was still couched as an investment where shares changed hands. I believe Microsoft is capable of couching a “platform support payment” as an investment as well.

  • http://nl.linkedin.com/in/kerryritz kerryritz

    There are two companies that have both a networks business and handset business: Huawei and ZTE. Huawei is increasingly trying to move up the value chain into managed services. ZTE is selling inexpensive radio network solutions. And, since nokia’s presence in the US is small, the US government is unlikely to try to block a merger with Huawei.

  • KirkBurgess

    Regarding your suggestion that the dumb phone segment may be sold, does this not hold any value to the smartphone segment due to the massive distribution channels of Nokias dumb phones?

    • http://www.asymco.com Horace Dediu

      Perhaps but my instinct tells me that no acquirer would want to touch that business with a ten foot pole. Private equity, maybe.

      • KirkBurgess

        Any idea what the approximate build cost difference is between Nokias average dumb phone and the cheapest smartphone?

        If they could convert all those developing country dumb phone sales to low end smartphones, it could potentially reverse their fortunes – but im guessing the build cost is too high?

        The Windows Phone choice, along with its relativly high minimum spec requirements mean a higher build cost than if they had chosen Android.

      • http://www.asymco.com Horace Dediu

        Stephen Elop quoted in a Finnish paper today (translated via Google translate and my edits).
        “The past year and a half have had situations where we might [have done] some things differently if we had known [things were] changing so rapidly, even faster than anyone could have predicted.
        “One example of this is the Android phones prices in rapid decline in market such as China. It has happened so quickly that Nokia’s situation has become more difficult in the short term, but we continue to refine our strategy. Each time the future is difficult to predict, the situation is difficult.

      • nuttmedia

        Yikes. With a free OS, Google has obliterated Microsoft’s business model, and sealed the fate of those wedded to it.

      • KirkBurgess

        That doesn’t sound good.

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  • Relentlessfocus

    I’ll take a different approach. True, Microsoft has not been successful with hardware just as Nokia hasn’t been successful with software. IF Microsoft has decided that the Apple model is necessary to create a platform and sell large numbers of phones then their weakness would be hardware and Nokia’s strength has always been in producing lust worthy high end hardware, the current 800s and 900s being no exception. Using that logic buying Nokia would bring some much needed hardware expertise in-house. With Balmer at the helm, who knows.

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  • Habeeb Hashim

    Does MS have the luxury of “bailing out” yet another tech company for just a small share to be sold later at a loss? You stated in an earlier artlcle that they are looking at lower cash flows due to lower realised values in software. So I think any investment would has to involve more than just a minority share. If Google can buy a hardware company (maybe it was for the patents only), then surely, MS may have learnt enough by now to sucessfully run Nokia as well. Besides, its not like the other OEM WinPho7 phones are selling like hot cakes. Nothing much to lose by shafting the phone OEMs with their own branded phones I say.

    • http://www.asymco.com Horace Dediu

      Microsoft holds tens of billions of dollars offshore which it cannot easily repatriate. I believe that partly motivated the acquisition of Skype, based in Europe.

      • Habeeb Hashim

        So here we are… re-reading your article after a year. Excellent as always. But MS saw the writing on the wall and knows it needs a hardware arm to be vertically integrated. I think its a good move for them. Pity about the Nokia brand though.

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  • Megat Reeve

    what will be the possibilities of Apple acquire Microsoft-Nokia in plan to dominate the Phone Market? Apple could kill two bird with one stone~

  • Megat Reeve

    what will be the possibilities of Apple acquire Microsoft-Nokia in plan to dominate the Phone Market? Apple could kill two bird with one stone~

    • raiii

      time is nit far when people will discus . once apple was most valuable company than they launched i phone 5(i phone 4s xl)