Nokia Hit By Debt Ratings Downgrade on Weak Smartphone Performance
Nokia's debt ratings have been downgraded by the Moody's ratings agency, and confirmed as having a negative outlook.
Moody's says that the downgrade action concludes a review that was announced in July and incorporates the company's recent results and the financing arranged for the EUR1.7 billion acquisition of a 50% stake in NSN.
"We have downgraded Nokia's CFR mainly because we believe that the company continues to face challenges returning to sustainable profitability in its core smartphone and mobile phone operations and because we believe that it is unlikely to reach break even on a cash flow basis before well into 2014, at the earliest", says Roberto Pozzi, Moody's Vice President and lead analyst on Nokia.
Moody's said that Nokia's challenges are reflected in the ongoing negative operating margins and free cash flows in the first half of 2013. This is despite some evidence that the company and the Windows Phone are finding traction in their efforts to establish themselves as a third mobile operating system behind Apple's iOS and Google's Android.
Nokia is currently experiencing strong double digit volume growth rates -- it shipped 13.5 million smart devices in the first half of 2013 -- but from a very low base and therefore it has yet to see a sustainable ramp that could allow it to achieve break-even. In the second quarter of 2013, the smartphone business was still losing 14 euros for every 100 euros of sales.
Excluding the full consolidation of NSN, Nokia reported an non-IFRS (i.e., before restructuring expenses) operating loss of EUR25 million in the first half of 2013. Revenues in traditional mobile phones stabilised in 2012 but sharply declined again in Q1 and most of Q2, 2013. The Mobile Phones business segment was barely breaking even in Q2 2013, with a contribution margin of just 0.2%, down from 4.3% in Q2 2012.
Moody's believes that Nokia's traditional stronghold in mobile phones, particularly in emerging markets, will continue to reduce over time, despite the company's efforts to stem the decline with the launch of brand new products, and that the company will be even more reliant on the success of its smartphone business. In addition, Nokia's third business segment, HERE (including digital map data and related location-based content and services) is currently only marginally breaking even, however with improved results trajectory and strong sequential growth from Q1/13 to Q2/13.
On 7 August, Nokia announced that it had completed the acquisition of Siemens' 50% stake in Nokia Siemens Networks (which has since been renamed Nokia Solutions and Networks) for a consideration of EUR1.7 billion. NSN has also gone through a period of heavy restructuring measures that are proving successful, as evidenced by non-IFRS operating margins as high as 9.4% in the six months to 30 June 2013 and a strong cash flow performance. Funding the transaction will only moderately reduce Nokia's liquidity given the existing financing arrangements in place. In Moody's opinion, the fairly low purchase price -- at least based on NSN's recent financial performance -- the presence of a vendor note and possibility to optimize the group's liquidity after the acquisition closes, mitigate the effects on Nokia's financial and liquidity profile. If the current turnaround at NSN continues, Nokia's credit profile could actually benefit from retaining a less volatile and potentially more profitable business such as mobile networks. The outlook on NSN's B2 rating is positive.
The negative outlook reflects Moody's view that it may take longer than 18-24 months for the company to return to sustainable profitability and cash flow generation. The consumer mobile communication sector remains highly competitive and volatile, with significant challenges for manufacturers to manage short product cycles, volatile consumer preferences and disruptive technological innovation.
However, Moody's notes that Nokia has currently adequate liquidity to meet its significant debt maturities in 2014-15 and that it has still a significant positive net cash position also excluding NSN.