Some thoughts on Nokia

(Image by Brett Ryder. "The curse of the alien boss," The Economist. August 5, 2010)

The above pic comes from an article in The Economist and refers to Nokia's history. At one time, Nokia used to make rubber boots. In fact, the pre-cursor to the Nokia Corporation started off in 1867 as a forestry company. Nokia has gone through many changes over its 100+ year life. The question now is whether it can adapt and maintain, or possibly strengthen, its market position. Nokia is on my watchlist and I've been following it closely of late.

An Unusual Pick for a New CEO

Nokia recently replaced its CEO with a US-based Canadian, Stephen Elop. The media keeps suggesting he is linked with Microsoft—his most recent position was a short stint heading Microsoft's Business division, which includes the important MS Office product—but I think his real skills were developed during his career at Juniper, an Internet networking equipment manufacturer, and Macromedia, an Internet multimedia software company. He only worked at Microsoft for 20 months and don't think he had much impact or became part of the culture. (On a side note, Stephen Elop graduated from the same university and completed the same program I did, albeit in different decades. I have never encountered anyone from my program occupying high level corporate positions. Good luck to Stephen Elop :) )

It remains to be seen if the new CEO, Stephen Elop, can turn around Nokia. One big change, apart from recruiting the first non-Finnish CEO, is the fact that the new CEO at least has some engineering background. On top of completing a degree in computer engineering and management, he appears to have overseen Juniper Networks (COO position) and was influential with the services-focus at Macromedia (short CEO position). The prior CEO, who ran Nokia during the crucial 2006-2010 period when Apple entered the market and Nokia starting going downhill, comes from a financial/legal background. Who knows if Stephen Elop will succeed but whatever happens, I think Nokia did the right thing in seeking a more engineering/technology-oriented CEO.

An Insider's Look at Nokia

A few weeks ago, I read an interesting interview from The Register, where a former Nokia executive was interviewed. The former exec wrote a scating no-holds-barred book on Nokia and its shortcomings. If you are interested in Nokia, you should check out the interview. I don't agree with everything the author says—I think the author is too design-focused and probably too influenced by Apple's business model—but he does raise interesting points. Some of his suggestions, such as getting rid of 300 to 500 middle managers and senior management, are way too radical but it's interesting to observe the problems he identifies.

Articles like these, from insiders, are a good source for determining the culture of the company and understanding what may be wrong with it. The Register also had a follow-up article with reader's letters that may be insightful.

Interestingly, the author suggests that Nokia shouldn't hire an external, non-Finnish, CEO because the company's culture is essentially Finnish. But Nokia obviously didn't follow that suggestion.

Erosion of Nokia's Market Share

If one wants to know why Nokia shares are down around 66% in the last few years, they just need to look at the following chart from Horace Dediu. It is a plot of "available profit" (industry profit not counting losses) for the leading mobile phone manufacturers.

(source: From blog post, "Can Android Change the Distribution of Profit Among Phone Vendors?" by Horace Dediu. September 21, 2010)

Pretty obvious to everyone now but basically, Apple stole Nokia's crown. Nokia used to earn around 60% of the industry's profits in 2007 but it is now down to roughly 20%. This is what happens when a company misses emerging product markets, such as smartphones in this case.

This chart is also a good example of how the top company tends to earn outsized profit. Depending on how you count, Apple has less than 20% of the mobile phone market (not shown on graph) but it earns more than 40% of its profit. This is quite common in many industries, especially in non-commoditized markets, and is one reason you should try to own the leaders (such as Coca-Cola/Pepsi, Diageo, Google, P&G, and so forth).

What is most revealing to me is how some of the impressions I had of the lower-end competitors were completely wrong. For instance, I thought Korean manufacturers, such as LG and Samsung, were starting to dominate the market but they obviously are not. LG, in particular, seems to have completely fallen off a cliff and although Samsung is strong, it hasn't gained share. Others, such as Sony Ericsson and HTC, appear to derive very little profit and will probably drop out of the game soon (or be stuck as minor players, similar to no-name colas against Coca-Cola/Pepsi).

Note that this chart plots positive profit and not market share based on units shipped. So Motorola looks like it is a minor player when in fact it isn't as bad as the chart implies. Nevertheless, the fact that Motorola's profits are so small likely means that its life will get more and more difficult over time. The less profit a company earns, the less it can devote to, what Peter Drucker would say are the only functions of a business, design and marketing. Motorola's mobile phone division is about to be spun off and I wonder if it can gain any traction.

RIM is in an interesting spot. Based on the chart, it is one of the few that has gained share over time. But it faces a unique set of problems. It is dominant in the corporate world but hasn't had much success penetrating the consumer market.

Benefits Possessed by Nokia

One of the reasons I am attracted to Nokia is because, some say that it has good distribution systems and low cost of manufacturing. I have to do more research on this but if that is true then Nokia will probably weather declining prices better than the competition. Like in most markets, as products become commoditized, economies of scale start to matter more and more. Right now, Nokia has the largest global market share (in terms of unit shipments; not shown on graph).

Nokia is also attractive because it dominates emerging markets. Although profits and margins are tiny in those countries, if it can solidify its position, I can see it capturing consumers and benefitting as they get richer over the next few decades. That's still a long way away but that's something other mobile phone manufactuers don't have. Quoting an article in The Economist, "Nokia has a better chance of producing a successful smartphone than Apple does of penetrating the Chinese and Indian markets." The question is, can it?