Nokia Oyj (NOKIA) Earnings Call Transcript
June 2, 2020
Earnings Call Speaker Segments
Okay. Good morning, everyone. And sorry for the slight technical issue that Facebook -- sorry, Facebook -- Webex refused to show my picture, my pretty picture for you, so you're going to only see Rajeev on the screen for now. And I will do it -- I'll conduct the Q&A via the phone. Thanks for joining a very packed 3-day conference of Bank of America. This is our annual tech conference, and we have over 140 companies presenting today. Because of the virus we had to change the format, and it laid out to our benefit just because we are -- you're going to be hearing today from the most senior executive teams of almost all the companies that will present their case, and we chose to open the conference with one of the most attractive trends that we have in tech right now, which is 5G. We hosted many calls on this topic. And today, I'm very pleased to host Nokia CEO, Rajeev Suri. Thanks, Rajeev, for joining us.
Thanks, Tal. Great to be here.
Thanks. And I want to -- we have about 30 minutes, and I want to ask you a few questions. I'll start with the very near-term because that's on everyone's mind, but then I'm going to try and ask you more generally on the opportunities and challenges of the company. So I want to start with COVID-19. A lot was discussed or talked or asked about the timing of 5G deployment. And I'm going to ask you a very -- I want to ask you a very short-term question, but also a longer-term question. In your view, what's the right timing to think about 5G deployments? Is COVID-19 delaying deployment? If not -- or if yes, what are the drivers to determine the right timing?
Yes. Thanks, Tal. So, well, no, I think, number one, we have a resilient customer base. The last 1.5 years was about 5G rollouts in lead countries that typically lead with next generation. So U.S., South Korea, Japan was trying to get in there, Saudi Arabia, a couple of the Nordic countries. And now this year, we see that going a lot more broader, Western Europe, other Nordic countries, more Middle Eastern countries adding to the mix. China, of course, and so I'd say that there are 75 operators that will roll out 5G in 2020 and then some 80 more on top of that next year. So next year is the big year for 5G. And this year, it's already moving.
What -- I'm going to ask you a question that we asked 2 years ago, and I think it's still relevant. What drives carriers to deploy 5G? What are the applications they are going after? Is it about revenue opportunity? Or is it just about the other carrier had done it, so competitive pressure?
I think it's competitive pressure. It's a lower total cost per bit. So your TCO reduces for production of video and high capacity traffic. The experience in South Korea showed that because they launched in April, they got their network to be mature at the end of second quarter last year. And then at the end of the year, they had 5 billion subscribers. They also launched some new services on the back of virtual reality services, gaming, multiscreen -- I mean cloud gaming, multiscreen type services, all those that require latency. So those are the sort of consumer applications. No rocket science, it's more VR, AR, stadium solutions, higher capacity situations. But then longer term, take a year, 2 years out, of course, the industrial opportunity starts to be meaningful, and you can do that through release 16 and 17 of 5G. When you can slice your networks and provide that like many MVNOs to a number of enterprises.
The devil's advocate is or says that Korea and Japan are very different markets, even in 4G and 3G. They've been using extensively data and gaming and other applications on 4G, where you didn't see the same kind of user behavior in Europe and U.S. How does their experience with 5G, how does it apply to the experience we're going to see in the U.S. or Europe? Do you think it's going to go through the same path or different kind of type of use cases for consumers?
I think South Korea is different, you're right because it tends to go very big in the initial rollout. So they have deployed meaningfully already. And then it's a different, more sort of educated, if you like, lead consumer-type market and they move quickly into new services. Having said that, we also know, over time, it does get replicated in other markets as well. So I think that cloud gaming will be somewhat universal, VR, AR applications will be broader. And of course, the total cost of ownership reduces meaningfully. The cost per bit is about 70% lower than it was in 4G. I mean fundamentally, 5G is about -- it's a technology that is being designed for connecting things. So there'll be a lot of consumer IoT. And that, I think, certainly will happen in U.S. and in Europe, smart meters, things, watches, all of them being sort of connected. Then the second opportunity is connecting machines in asset-intensive industries and, of course, connecting all of us people. So the capacity is much, much larger than 4G. The latency is a whole different ballgame that didn't exist in the same way in 4G down from 70, 80 milliseconds to eventually down to 1 millisecond. And then of course, you have instant responsiveness. So it's being conceived for different kinds of applications relative to 4G.
Got it. Rajeev, I want to ask you a bigger picture question, and that's about Nokia specifically. We understand, I think all of us, investors and analysts understand the opportunities. We are ahead of a giant cycle. We haven't seen spending in wireless in the last 4 years, which is unprecedented to have 4 years of -- or even 5 years of declining CapEx, and we are ahead of the change. How do you -- so the opportunity, the plus side of the equation is well-known and understood and Nokia is a major player in the space. How do you define the challenges? What are the strategic challenges for the companies -- for the company, and how do you address these challenges?
Our challenges has been about getting this adequate competitiveness in 5G as 5G starts to take off. But we're addressing that meaningfully, right, through our ReefShark system-on-chip programs. So we've got now that under good control. So that was challenge number one. And I think we've now said that we'll have greater than 35% of SoC in our 5G deployments by the end of this year and we already got to 10% at the end of Q4 last year, more than 70% at the end of Q1. And then it goes to 70% the following year in 2021 and then 100% 2022. Putting us in a very good position at the start of 2021. That was the number one challenge. The other is to pursue our diversification in enterprise and software, which is working out pretty well, and we just need that to continue. And then I would say the third opportunity is to be able to drive this virtuous cycle of 5G. 5G starts with transport first. It then goes to radio, it then moves to core and it then goes to software. Nokia Software, so applications and all of those monetization engines that you need for 5G, which is different from 4G and then goes to Fixed Wireless Access, and then you go to more radio by way of capacity, and that's sort of the virtuous cycle and Nokia needs to be able to take advantage of that in the world of 5G, because 5G is changing network architecture across all of these domains.
China is expected to be the strongest market for 5G in the near term. Why are you pulling out of the region?
So number one, we are going to be in Greater China, Taiwan as well as Mainland as well as Hong Kong. So we are in China. We're not pulling out. We are trying to change our business mix in China towards those higher-margin products and services and also towards those products that use less working capital. So we can generate more cash flow out of that. Now China, we talk about the market being large in volume. Sure, but what is addressable to partners? What is addressable to partners is 10% of that market, right? And so 10% of that market is, by way of number of sites, is equal to 3 or 4 operators in a large European country. So it's not that large volume. So if you look at the addressable volume share, it's much, much smaller than the overall volume there. Then if you look at the value share, i.e. the revenue that's addressable, it is half of that addressable volume share. And then if you look at the profit share, we have calculated this a number of times, it's miniscule. The profit share of China 5G radio is very, very small as a proportion of the global profit available for 5G radio.
And do you think that there is any risk that you lose the benefits of early learning from -- in China?
No, we do not, because we are in many of the other advanced markets. So we are the only player providing to all of the operators in South Korea, all of the operators in Japan, all of the operators in Saudi Arabia, all of the operators in the U.S., and these are the lead markets. So what does that mean? By way of experience, that means you're getting experience in millimeter wave in the U.S. in 5G. And it's only U.S. that's doing millimeter wave. So we've got that experience. We're getting experience in mid-band, 3.5 and 2.6, 2.6 with the new T-Mobile and Sprint and then 3.5 in the rest of the world. Then you have low band. Again, low band is only meaningfully being deployed in the U.S. with 850, 900, 700. So the reality is whether it's low-band spectrum, high-band spectrum or mid-band spectrum, Nokia is already doing deployments in our 21 networks that have been launched. So we have that. There are a tiny bit of features that happen to be first in China, but we've also got experience of that. So if you think about China Unicom, China Telecom doing sharing of network deployment, that's happening in Japan too with SoftBank, KDDI. So we have analyzed all those features. We've looked at all the markets, we've looked at the frequency variants, and we are in all the early markets with regard to these things.
Got it. A few more questions on markets. I want to talk about the U.S. How do you describe your position in U.S.? The early -- the first contract kind of the Verizon thing went to Ericsson and Samsung. What's going to happen with the next cycle? Meaning AT&T, Sprint, T-Mobile. How is your -- how do you describe your position there? And then do you have already any evidence that you can sustain market share within these customers?
So what we did not participate in was Verizon 5G TF. That was not 5G NR. That was a specific variant that they use Fixed Wireless Access. And we wanted to focus on the one that will go commercial globally, which is 5G NR. And even for Verizon, it's 5G NR now. So we are with Verizon. We are supplying to Verizon. We are a 5G supplier to Verizon in millimeter wave, and we're already supplying to them. We've gone commercial and gone live with them. We are with AT&T. We are with T-Mobile. We are with Sprint. So we have a strong position. We're also with U.S. Cellular and other smaller operators because we have a number of other smaller operators as well that we supply to. So overall, we are still in a leadership position in U.S. and I think we're moving from what operators are doing at this point in time. And of course, now that the uncertainty is over with T-Mobile and they can focus on deployment in the mid-band, 2.6 gig spectrum, others will move into low band. And at some point, mid-band will be available for the rest of the U.S. operators, and then that will be a second wave that's yet to come for others. But we are there in all of the spectrum variants so far. So far, so good. We had lost some share, tiny bit of territory earlier on in 4G, but in 5G since we have converted all of our 4G base and footprint to 5G in North America.
What about competition with Huawei and Chinese vendors in Europe? On one hand, you and Ericsson are very careful not to give us hopes that you can gain market share. On the other hand, we read the newspaper, and we see the political pressure. Where is the balance between carriers that like Huawei and governments that may be afraid of Huawei. How do you see it playing out from a market share perspective?
Well, number one, first of all, our priority is to be there for our customers because we can't call what will happen from the standpoint of governments, banning or not banning. And thus far, overall, I would say that it's been more similar than different, but we continue to monitor the situation closely. And maybe this time around, there could be some important differences with what we've seen play out with the new order from the U.S. We win, we lose some, but on the whole, our 5G weighted win rate is more than 100%, excluding China, which means we have substantially covered -- converted all of our 4G base to 5G. Recently, we announced some deals. Vodafone Hutchison Australia was a 100% win, both in 5G as well as transport and 4G, and that was not our footprint. That was not a Nokia customer in radio. We took that away from another supplier. Same in Bell Canada, where we were able to substantially increase our share. And then you had also in Japan with SoftBank, where we were able to substantially increase our share at the expense of others. So we win some, we lose some. But at this point in time, it's hard to call where this will end up. I think we just want to be there for our customers. Of course, we are monitoring it and maybe this time, things are a little bit different.
Got it. I want to shift gear to 2 important topics. The first one is open RAN. How much of a risk does this pose in your view to revenues and margins? Or not?
So first of all, I'll give you some strengths that Nokia has here. So number one, we're a leader in vRAN, because vRAN is the precursor to, eventually going to open RAN. And we already have 1 commercial 5G network that's actually on vRAN. We've also been out of the large suppliers, the first mover in OpenNESS. It's also evidenced by our work in Rakuten in Japan and the vRAN comment I made. And then also, we've joined the ORAN coalition that was announced a week or so ago. And then compared to the smaller players, which is where people perceive the competition could come from, remember one thing, the feature parity will be very important between 4G and 5G. And so people like us do thousands of features. We don't do tens of features compared to what the -- some of the smaller players do. Because Verizons, AT&T, et cetera, when they go into vRAN and open RAN, they want you to carry the 4G to 5G to the first-generation 5G to the next-generation 5G feature set. Then I would say also we have experience with similar transition core networks. And then I'll summarize what does it mean for us. So number one, it would mean more software and services, which is also something that we saw in the core network transition. Number two, remember, there will be some new network elements. So the baseband and the RF unit will break into RIC, which is Radio Intelligent Controller, and then there'll be a radio unit, a centralized unit and a distributed unit. So there'll be more network elements and especially this RIC is a new network element. There is the opportunity of as a service business model with this transition that is a positive. The other positive is it will reduce swap costs, which is a big industry headwind because then you do not have the swap because you can mix and match suppliers. And then, of course, there's an adjacent new opportunity that emerges with all of this, which is Edge Cloud. So we've been through a transition like that. What it will result in is that we'll sell less general purpose hardware, but we will sell still custom silicon because you'll need that for the radio units. And there will be new network elements. And the business overall become more software and services, but hardware has not totally gone away because you can't take the radio unit and virtualize that because that's out of the feed.
I have another kind of question on -- strategic question I'm getting from investors, which is what is the value of being a diversified vendor, meaning most -- I assume that most big carriers are choosing equipment for every domain separately, routing, optical radio. Certain markets have greater challenges than others. And the question is, why do you see -- or do you see -- I'll ask you the question, do you see still value in being in offering a platform, in offering multiple domains, in addressing multiple domains? Or do you think there will be value in trying to focus more and just stick to a fewer number of areas with maybe where you can dedicate more resources to these areas?
See, the -- where we saw some financial pressure in the last couple of years was not in the other areas that we acquired, right? So if you look at routing, optical, enterprise, Nokia Software, core, they had one of their best deals ever in 2019, including going back to the legacy companies. The issue was really in mobile access and radio profitability given the rationalization that we had to do between Alcatel-Lucent and Nokia Radio and given the migration of features that we had to do in, given the headwind that, that provided on our radio R&D such that we got a little bit delayed off the mark with more FPGA and less SoC. So the complementary parts of the transaction actually had a fantastic run. It is the overlap part that struggled a bit more. So I think to conclude from that, that maybe we got distracted from this complementary part is not correct because you have to go to the specific root cause of what exactly happened where? And so why do I believe in having the broad portfolio? And I'm not saying that an operator buys end-to-end in 1 fell swoop. I'm not saying that they have 1 RFQ for the whole thing, and they'll buy it. By the way, Enterprises buy like this. So the fact that I see Enterprise is a massive private wireless 4G and 5G opportunity over the next 10 years, they buy like this because they don't fuss with breaking the RFQ into multiple pieces. The other thing is that increasingly, we see that -- this is more relevant to 5G, like I said at the beginning of the conversation, that a virtuous cycle that we see is more in 5G because it starts with transport, which is why we saw momentum in routing and optical, we became #1 now in edge routing. And it goes to radio, then it moves around the cycle. So we will now see the benefit of more upsell and cross-sell in 5G relative to 4G a lot more. And then of course, there's the concept of strategic relevance that you are a lot more strategically relevant to the operators when you have a broad portfolio, which we see evidenced in our customer perceived index scores, value index scores where they say that you are a lot more relevant than sort of isolated players that have just radio or routing or optical. So we see the potential of upsell and cross-sell. We see the opportunity. And increasingly, these things are starting to be bought together. So earlier, packet core and voice core used to be bought separately. Increasingly, those RFQs are coming together. Packet core and voice core is coming together. Especially when you can guarantee performance. And increasingly, we see that even radio and core is coming together, including packet core. So these domains are coming together. So if you look at our deals in 5G, we have 70 deals, many of them, approximately half, have multi-business group components within those deals.
Got it. I want to ask you a few questions I'm getting from the audience through the chat room. And I encourage everyone to send these questions. What are your thoughts on industry consolidation? What are the considerations, financial, strategic, logistics and geopolitical perspectives?
Industry consolidation, I think that -- well, much of that has happened and Nokia has driven that almost single-handedly, right? So 10 years ago. I think 2007, there used to be 10 players. Now we have 3 scale players. And I think that when it comes to wireless, in particular, this is probably the configuration because market forces are increasingly going to determine more consolidation of share to the large 3 players.
And I ask you -- sorry. I think the question -- if I understand the question, the question is, do you think that someone like Cisco, someone like -- any other big player, do you think that radio could still be a stand-alone feature in the network or optical stand-alone feature? Or does -- is there a need to take what you have done in the last 10 years and make it even the next step and the next step and create much bigger telecom equipment company?
Well, we'll never say never, but I don't think I see that in the foreseeable future.
Got it. Okay. Another question I got was -- I'm reading the questions as is. So are you behind on 5G software versus Ericsson and Huawei? And are your base stations software upgradable to 5G?
Our base stations, yes, they are upgradable to 5G. And our 4G network performance has been very good, evidenced by external scores and network performance figures. So whenever there's network performance competition, we turn out to be on top, whether that's RootMetrics or Ookla or Tutela. And I say that because all of these networks are non-stand-alone networks. Your 5G performance is going to be boosted by our 4G performance. Then in terms of are we behind. We were behind in the FPGA to SoC transition. And now we have -- we are catching up very fast, and we're well on our way, and that program is going pretty well. In terms of software, when it comes down to the key critical features that are required for going commercial, that's when the rubber hits the road, can you go commercial when there are critical features required. And those ones are stand-alone 5G, dynamic spectrum sharing. We will be on time when it comes to commercial deployments and interoperability device testing with Qualcomm chipset and ultimately to be ready for the commercial devices, whichever they will be. So we're on time for all of these commercial features. We probably have in the order of a couple of months in some areas, but the catch-up is happening very fast because we also see that some of our competitors are actually going the other way in terms of some delays and our catch-up continues.
You recently highlighted -- this is my question. You recently highlighted momentum in Nokia Software and Nokia Enterprise. What is driving the growth? And how sustainable is it?
Yes, Nokia Software has been a good new story, especially of late, and we've seen broad-based trends. I think we've done a few things right. We deployed a real software sales force. We did this transition already a couple of years ago where we changed all the people and said we need people that can sell software and not come from a hardware background. And can sell that to CIOs and CMOs because they are the buyers. And the other thing we did was common software foundation. We have a common software foundation for all of our elements in Nokia Software and we rewrote those applications to be cloud native, which means that gives you a running head start. It allows you to improve your margins. It allows you to quickly come up with new products and services, et cetera. So that is sustainable. I'm very confident that, that business will do well. And then at some point, we will start to turn it into a recurring revenue based opportunity as well. And then Nokia Enterprise, the same thing. I think it was 2019 that I set up a business group focused on this. The growth doubled from the previous year, which was about 9% in 2018 and then grew to about 18%. In Q4 last year, we grew at 33% levels. And in Q1, we grew 18%. I see a massive opportunity in private wireless. We are not going to bury the ocean at Nokia. We are not looking at going to tens of thousands of enterprises. Our focus is on top 4,000 enterprises. We build large networks. And that's what we want to do. We have chosen a few resilient mission-critical verticals: transportation, energy, public sector, web scale, manufacturing and logistics. And so far, so good. It's growing very well, and it will be sustainable. I expect it to be a double-digit growth business.
Got it. Rajeev, before we finish, I want to ask you about margins. First, just the industry is very consolidated. If you look at the radio, the RAN industry, there are only 3 big players. One of them is limited, cannot sell in the U.S. and the other 2 are global. There's no -- there are few other smaller players, but they are very, very small in the market. Why is the margin structure so depressed in this market? Why don't we see higher margins if the vendors have so much power in terms of technology? And then the second follow-up question is, what levers do you have under your direct control to improve margins over time?
Yes. I think -- yes, I agree that it's been quite competitive despite the consolidation that's taken place in radio. And part of that is also driven by the move to 5G. And in some places, we see intensity because of some players wanting to do a bit of a land grab, thinking that this is a long-term opportunity. Having said that, there is an opportunity. Ultimately, I'm a believer that with consolidation, there will be some stability long term. But yes, I agree that at this point, we have not seen that competitive intensity go down and I think it's partially because when there's a new opportunity, then people want to take that chance to get more scale. Then what are we going to do? So we're addressing profitability and mobile access through a few actions, reduced product cost. We talked about that, the system-on-chip migration, maintain scale. We have given figures out there, 27% market share, excluding China. I already commented on why China is not such a meaningful profit driver at all, improved commercial management and deal discipline and then further strengthen operational performance and services where we have seen strength in 2019 compared to 2018 and then also in Q1. Second, we are focused on diversifying our business. So Software and Enterprise are accretive and more attractive markets. Third, both Nokia Technologies, as we move into 5G and get into renewals as well as moving into other verticals like automotive and other consumer electronics and IoT verticals. And then IP Routing, where we have clear technology leadership as well as optical is a chance for us to grow share of wallet. And then Fixed Access, which is getting a boost through the pandemic and realization that fiber needs to be out there as work from anywhere will become more of a norm in the future. And then finally, operational discipline and excellence, and we've got this $500 million cost savings program well under.
Got it. We ran out of time. Thank you so much for your candid answers. I wish you luck in your next position. We haven't talked about a transition to the new CEO, but I'm sure there are plans in place. And for the investors, if you have any other question on Nokia, please feel free to send us an e-mail, and we'll take it from there. Thank you so much.
Thank you, Tal. Thanks all for listening. Bye.
Thank you. Bye-bye.
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