Low-End Line Holds at Nokia

This column was originally published on RealMoney on Jan. 25 at 2:34 p.m. EST. It's being republished as a bonus for TheStreet.com readers. For more information about subscribing to RealMoney, please click here.

In the fourth quarter, Nokia's(NOK Quote) core strength was on full display. Cheap phones sold at lucrative margins, and basic phone unit-sales growth ticked along at a relatively solid 14%. The low end is doing just great.

But Nokia's numbers also clinch the case for genuine trouble brewing in the high-end handset market.

Sweet 'n' Low

Considering how mature the product segment is, Nokia's low-end success is remarkable. Overall, Nokia sold more than 105 million phones in the fourth quarter, while the average price of a Nokia handset has now dropped below 90 euros. Yet for the Nokia mobile-phones unit, revenue growth was 14%, and the operating margin came in above 17%.

For nearly a decade, Nokia has owned the low-end handset market. Since the bitter famine year of 2001, many key rivals have simply opted out of the mass market and focused on more-expensive phones. For instance, both Sony Ericsson and Samsung have built successful and profitable phone businesses after abandoning the cheapie segment.

This winter is a crucial period for Nokia because it is finally facing a true global challenge in the low-end market, perhaps for the first time in half a decade. Motorola (MOT Quote) has defiantly declared it will compete against Nokia in the low-end mass market in Asia and price some of its models below Nokia's bestsellers.

The first round of this match is now over, and Nokia landed a haymaker. Even though Nokia has not yet fully transitioned to using the new Texas Instruments (TXN Quote) low-end chip, it managed to counterattack Motorola by dropping its average selling price, or ASP, sharply while delivering rising operating margins with its bread-and-butter mobile-phone division.

This combination of factors should force Motorola to revise its strategy of competing in the low-end mass market. It's not surprising that Nokia managed to hit Motorola's margins hard. It is a bit surprising, however, that it managed to do so before the full benefits from the new Texas Instruments chips are evident. But it is very surprising indeed that all this happened while Nokia coolly jacked up the margins of its basic phone division.