Nokia's Debt Ratings Put on Review for Upgrade Following Microsoft Deal
Fitch Ratings has placed Nokia's debt ratings on review for a possible upgrade following the sale of its handset division to Microsoft.
The review takes into account the significant improvement envisaged by Fitch in Nokia's operating and financial profile following the closure of the proposed deal, which is expected in Q114. A business that will incorporate the Nokia Solutions & Networks (NSN) equipment business, Nokia's patent portfolio and its locations based business, is currently performing profitably, generates positive free cash flow and is expected by Fitch to maintain a strong capital structure, including a significant net cash position. Management's desire to see the company return to investment grade supports an expectation that financial policy will evolve cautiously.
Removing Handsets Weakness
The sale of the D&S business brings to a close a period of extreme stress in the credit profile of the handset industry's former leading manufacturer - at one time responsible for close to 40% handset unit volumes on a consistent basis. The pace of industry change, the accelerated advent of the smartphone and dominance of Apple's iOS and Google's Android as the industry's leading operating systems have seen Nokia's handsets business increasingly marginalised. This business has recorded significant losses and driven material weakness in the company's cash flows.
NSN Underpins Credit Profile
The company's NSN equipment business, has proven increasingly resilient, posting positive (non-IFRS) operating income for the past five quarters and generating positive cash flow for the last seven quarters. The buyout of its joint venture partner closed in August 2013, and in Fitch's view was a credit positive given the strongly improved performance of this business. Performance is based on a strategic shift toward mobile networks and markets where management felt stronger margins could be generated. The key for management will be to stabilise revenue and share trends (which have been declining) while continuing to deliver margin and cash flow performance.
Pro-forma for the disposal the remaining business generated a non-IFRS operating margin of 8.5% in 2012 and 12.1% in H113, a performance underpinned by the NSN business. Combined with a commitment to a conservative balance sheet, this performance is consistent with a higher rating than the current 'BB-'. Where the rating settles will largely depend on Fitch's views of whether margin and cash flow can be sustained over the medium term, importantly taking into account prospects for NSN to maintain and improve market share in an extremely competitive equipment market.
Fitch expects that the closure of the disposal is at a minimum likely to lead to an affirmation of the current ratings at 'BB-' with a Stable Outlook or a potential one-notch upgrade. Post disposal, Nokia's credit profile will be driven predominantly by NSN. It will be important for Nokia to prove the sustainability of its current margin and cash flow profile amid an acutely competitive industry in order to achieve its longer-term ambition.