Nokia Needs Fast Reply to Apple Attack

The Finnish handset maker's 50% market share in converged devices is threatened by the release of the new iPhone 3G.
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Nokia

(NOK) - Get Report

absorbed the blow of a one-two punch from

Apple

(AAPL) - Get Report

and

Texas Instruments

(TXN) - Get Report

this week, but the handset maker is expected to struggle until it refreshes its product portfolio.

The first hit came Monday after Apple CEO Steve Jobs unveiled the new iPhone 3G, designed to run on faster next-generation cellular networks. At the company's annual Worldwide Developers Conference, Jobs introduced the new, thinner device to compete with Nokia's handsets, one that includes a GPS system, better battery life, boosted enterprise support and third-party applications.

Jobs went a step further and took a direct swipe at the Espoo, Finland-based handset maker, remarking how the iPhone 3G managed to download a Web site in 21 seconds while the Nokia N95 took 33 seconds to load the same page. The

Palm

(PALM)

Treo 750 took 34 seconds, he said.

Jobs also pointed to the disparities in the way each device displays a full Internet page. "The iPhone 3G is 36% faster than the Nokia N95 and the Treo 750," Jobs said. "Look at what you get: a full Web page on the iPhone and something quite a bit less on some of these other products."

A Smart(er)phone Response

Despite having a winner with its flagship N95 device, which retails for roughly $500 and generates about 2 million shipments per quarter, Nokia needs a competitive response, writes American Technology Research analyst Mark McKechnie, as cell phones become "smarter" and as price points on devices like the Apple iPhone and

Research In Motion's

(RIMM)

Blackberry pull back.

"Nokia has had tremendous success with numerous high-end phone products," McKechnie said in a research note. "We see several viable competitors swinging hard for share of the early smart-phone market, with RIM having a virtual lock on the wireless email market with its installed base of Blackberry enterprise servers and a very favorable business model for carriers."

With the iPhone 3G, Apple becomes the next big competitor to step up and challenge Nokia, thanks to success with the initial iPhone release, an installed base of more than 100 million iPod users and a grip on the home computer market. "Both of these competitors are getting big enough to matter," McKechnie wrote.

In an update on its view of the technology sector, Credit Suisse said that distribution momentum for Apple -- the company plans to ship the new 3G iPhone to 70 countries by year-end -- will no doubt make the new iPhone "a very competitive product and will pose a rise to Nokia's 50% market share in converged devices" in the second half of 2008.

"We conclude that this will continue to be negative for all handset vendors making Nokia's global converged device share of around 50% vulnerable ... especially given that we believe touch screen will not be fully addressed until 2009," Credit Suisse added.

Blow No. 2: Chip Demand

Texas Instruments piled on later Monday after the company said sales of chips for cell phones are expected to be unseasonably weak in the current quarter and will drag on the overall business. This warning came as the Dallas chipmaker upped the midpoint of its sales guidance for the current quarter. Even though TI has lost business to Nokia, the warning of weak cell-phone chip sales was enough to dent the handset maker's shares.

Nokia had already raised a red flag when the company delivered its first-quarter earnings report in April warning that its market share was slipping and the economic slowdown is likely to hit its bottom line. Nokia said its smartphone sales fell to 14.6 million units in the first quarter from 18.8 million units in the last quarter, while market share for smartphones in the quarter fell to 43.8% from 46.9% in the fourth quarter.

"With regards to

the second quarter, the update from TI does not imply any deterioration for the quarter and is slightly reassuring for the stock," said Credit Suisse in a technology update. "However, we also believe that there is no upside given that

TI's comments suggest that the wireless market is not growing but is also not deteriorating."

AmTech's McKechnie said that bulls will plead the case that Nokia's margins will bottom in June with a new product ramp of both announced and unannounced products in the second half of 2008 will help restoring margins, while bears believe Nokia is entering a prolonged down margin cycle and that there's no reason to own the stock until a bottom is found.

"Clearly Nokia's stock action follows the market's views on margins," he writes. "Our discussions with Nokia management on margins suggest that Nokia's cost structure is much improved over previous missed cycles and suggests margins are very unlikely to hit lows seen in 2004 and 2005 when

Motorola

(MOT)

attacked Nokia with the RAZR."

Still, shares of Nokia fell 3% the day after the iPhone 3G's introduction. Nokia's stock is now down 31% for the year, and McKechnie expects it to remain depressed until Nokia proves it is a credible, long-term player in the smartphone market.

Credit Suisse is slightly more positive, noting that while Nokia does have some portfolio improvements coming, the company could be exposed at the high end of the market from players such as RIM and Apple over the next year. "Much will depend on the quality of Nokia's new high-end portfolio which we believe may be improved soon," the firm said.