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NOKIA'S disappointing results last week have raised the spectre of two of the Finnish mobile phonemakers' biggest nightmares coming true: commoditisation of cheap mobile handsets and reluctance of consumers to pay for more advanced products.

Posted on: Monday, 21 July 2003, 06:00 CDT

NOKIA'S disappointing results last week have raised the spectre of two of the Finnish mobile phonemakers' biggest nightmares coming true: commoditisation of cheap mobile handsets and reluctance of consumers to pay for more advanced products.

Nokia reported a 28% decline in second-quarter net income to E624m ($699m Pounds 437m), partly as a result of a E399m restructuring charge for its networks division. Second-quarter sales rose 1% to E7.02bn. The results immediately wiped almost E12bn off the company's market value and were followed by a downgrade to neutral from overweight by JP Morgan.

With an overall share of roughly 39%, Nokia is far and away the market leader in mobile handsets but it faces pressure from both the top and lower ends of the market which could make it difficult to maintain high profit margins.

As it pushes into new mass markets such as China and India, it finds it must fight for market share with Far Eastern manufacturers making handsets designed to compete with Nokia at the low end of the market.

This kind of commoditisation, where mobile phones become relatively mature products differentiated only by individual design, is one of Nokia's greatest fears. It is why the company has always had a vested interest in incorporating the latest technologies into its handsets.

As long as product design is dependent on expertise in mobile technology, Nokia's Finnish research labs have the edge. If mobile phones become commoditised, Nokia is in danger of being crowded by electronics manufacturers such as Samsung and Sony, which have already made big inroads into the mobile phone sector, even in Nokia's home European market.

According to analysts at Nomura, Nokia is is now facing pricing pressure in developed markets as a result of increased competition and will have to earmark some of its increased marketing expenses announced last week to allow phones to be sold to end-users at reduced prices. However, Nomura believes Nokia is currently shielded from pricing pressure in China because the local manufacturers cannot afford an aggressive price war at the moment.

Despite Nokia's denials, a slower economy and reduced consumer confidence in developed markets mean end-users are currently less likely to upgrade to new phones. As older handsets have lower margins than the latest models, this will have a negative impact on Nokia.

Nokia's handset margin of 23.1% in the third quarter, which was beneath JP Morgan's estimate of 24%, was one reason for the downgrade. JP Morgan also predicts higher marketing expenses as Nokia tries to gain market share in India and China.

At the other end of the scale, the jury is still out on Nokia's road map for handsets offering new services such as mobile gaming and on 3G video phones. Without new applications such as video and gaming driving innovation, Nokia will find it hard to maintain its lead over rival consumer electronics manufacturers.

By contrast, the less robust Swedish telecoms equipment maker Ericsson, once Nokia's main rival in the handset market but now a network specialist, last week reported results ahead of expectation with a 7% increase in sales, despite a 9% negative currency effect and better-than-expected losses for the quarter.

tony glover

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