(Reuters) - Microsoft Corp will buy Nokia's phone business
and license its patents for 5.44 billion euros ($7.2 billion), a bold
foray into mobile devices that also brings potential chief executive
contender Stephen Elop back into the fold.
Two years after hitching its fate to Microsoft's Windows Phone
software, the Finnish phone maker that once dominated the global market collapsed into the arms of the U.S. software giant, its mobile
business ravaged by nimbler rivals
Apple Inc and Samsung
Electronics.
Shares in
Microsoft
slid as much as 6 percent in the afternoon, lopping more than $15
billion off the company's market value, as investors protested the
acquisition of an underperforming and marginalized corporation that lost
more than $4 billion in 2012.
Retiring
CEO Steve Ballmer is trying to remake Microsoft into a gadget and
services company like Apple, a move that has not won the endorsement of
all shareholders.
Nokia CEO Elop,
who ran Microsoft's business software division before jumping ship in
2010, will return to the U.S. firm to head up its mobile devices
business just as the company's board considers a successor to Ballmer,
who announced last week he will retire within a year.
Elop,
who presided over Nokia's market share collapse and a shriveling share
price during his three years at the helm, is being discussed as a
potential replacement because he remains respected and is considered one
of the few who can fully grasp Microsoft's sprawling empire.
But
disgruntled Finnish media labeled him a Trojan horse who handed over
the keys to one of the few remaining European technology powers. Nokia,
whose market value topped $200 billion over a decade ago, will now
concentrate on its networking equipment unit, navigation business and
technology patents.
The Nokia deal
thrusts Microsoft deeper into the hotly contested mobile phone market,
despite some investors urging it to stick to its core strengths of
business software and services. Activist fund manager ValueAct Capital
Management, which has been offered a board seat, is among those
concerned with Ballmer's leadership and his attempts to plough headlong
into the lower-margin, highly competitive mobile devices arena.
"Adding
to the cost structure when shareholders may be looking for steps in the
other direction is not likely to be well received...," said Nomura
analyst Rick Sherlund. "Perhaps a decision to repurchase stock and up
the dividend would be a good idea right about now."
Others applauded Ballmer's aggressive gambit.
"Microsoft
cannot walk away from smartphones, and the hope that other vendors will
support Windows Phone is fading fast. So buying Nokia comes at the
right time," said Carolina Milanesi, an analyst at Gartner.
"In
today's market it is clear that a vertical integration is the way
forward for a company to succeed. How else could Microsoft achieve
this?"
As part of Microsoft, Elop
will head an expanded Devices unit. Julie Larson-Green, who in July was
promoted to head a new Devices and Studios business in Ballmer's
reorganisation, will report to Elop when the deal is closed.
CRUNCH TIME
It
is a pivotal moment for Microsoft, which still has huge revenues from
its Windows operating system, Office suite of business software and Xbox
game console, but has failed so far to set up a profitable mobile
device business.
Microsoft's own mobile gadget, the Surface tablet, has sold tepidly since it was launched last year.
"We
think we have made excellent, excellent progress with the partnership
and yet we also know we have a long way go and felt on balance that
together this is the best approach for both companies' shareholders,"
Ballmer told Wall Street analysts in a conference call to explain the
deal early on Tuesday.
Microsoft
said it would make more than $40 profit on each smartphone it sells once
it owns the Nokia business, as opposed to less than $10 now, due to
development and marketing costs it pays to Nokia.
However,
it said the business would not be fully profitable until fiscal year
2016, and needs to sell more than 50 million smartphones a year to break
even. Last quarter, Nokia sold 7.4 million smartphones.
The
deal leaves the Finnish company with Nokia Solutions and Networks,
which competes with the likes of Ericsson and Huawei in telecoms
equipment, as well as a navigation business and a broad portfolio of
patents.
In 2011, after writing a
memo that said Nokia lacked the in-house technology and needed to jump
off a "burning platform", Elop made the controversial decision to use
Microsoft's Windows Phone for smartphones, rather than Nokia's own
software or Google Inc's ubiquitous Android operating system.
Nokia, which had 40 percent of the handset market in 2007, now has just 15 percent, and only 3 percent in smartphones.
Shares
in Nokia surged 34 percent to close at 3.97 euros by late Tuesday.
While up from their decade-low of 1.33 euros hit last year, they are
still only a fraction of their 2000 peak of 65 euros.
After
today's gains the whole company is worth about 15 billion euros, a far
cry from its glory days when it reached over 200 billion euros.
Tuesday's
deal includes an agreement to license Nokia's patent portfolio for 10
years. Without it, Nokia's devices and services business would have been
worth about 3.7 billion euros, the companies said.
"It's
very clear to me that rationally this is the right step going forward,"
Elop told reporters, though he added he also felt "a great deal of
sadness" over the outcome. "I feel sadness because inevitably we are
changing Nokia and what it stands for."
SOLD FOR "PEANUTS"
While
some investors credit Elop for bringing urgency to Nokia, which has
stepped up its pace of product development in recent months and is due
to announce a "phablet" large-screen handset this month, his legacy will
be a bitter one for Finland. The company, which began life as a paper
mill and has sold an eclectic range of products from television sets to
rubber boots in its 148-year history, was a national champion in its
heyday, accounting for 16 percent of all exports.
Hired by former chairman Jorma Ollila, Elop was Nokia's first foreign CEO.
For
many Finns, the fact that a former Microsoft executive had come to
Nokia, bet the firm's future on an alliance with Microsoft, laid off
about 40,000 worldwide and then delivered it into the software giant's
hands, was a galling snub to national pride.
"Jorma Ollila brought a Trojan horse to Nokia," a column in widely read tabloid Ilta-Sanoma said.
"As
a Finnish person, I cannot like this deal. It ends one chapter in this
Nokia story," said Juha Varis, Danske Capital's senior portfolio
manager, whose fund owns Nokia shares. "On the other hand, it was maybe
the last opportunity to sell it."
Varis
was one of many investors critical of Elop's decision to bet Nokia's
future in smartphones on Microsoft's Windows Phone software, which was
praised by tech reviewers but hasn't found the momentum to challenge the
market leaders.
"So this is the outcome: the whole business for 5 billion euros. That's peanuts compared to its history," he said.
Alexander
Stubb, Finland's Minister for European Affairs and Foreign Trade, said
on his Twitter account: "For a lot of us Finns, including myself, Nokia
phones are part of what we grew up with. Many first reactions to the
deal will be emotional."
Nokia's
new interim CEO Risto Siilasmaa painted a picture of just how grudgingly
the call to sell had been arrived at, describing how the board had met
almost 50 times after the approach by Microsoft around February.
Ballmer,
at a news conference in the Finnish capital, sought to assuage fears
the deal would hit jobs in the Nordic country and said Microsoft would
build on the recent growth of Nokia's flagship Lumia smartphones.
Nokia
said it expected around 32,000 people of its roughly 90,000 staff to
transfer to Microsoft, including about 4,700 who will transfer in
Finland.
FIRE SALE
Analyst
Tero Kuittinen at consultancy Alekstra said the sale price of Nokia's
phone business, about a quarter of its sales last year, represented a
"fire sale level." Others were less clear about what a shrunken Nokia
was worth.
The price agreed for the
devices and services business gives it an enterprise value of about
0.33 times sales for a loss-making business, about half what Google paid
for Motorola's handset business in 2012.
"What
should be paid for a declining business, where market share has been
constantly lost and profitability has been poor?" said Hannu Rauhala,
analyst at Pohjola Bank. "It is difficult to say if it's cheap or
expensive."
Nokia remains the
world's No. 2 mobile phone maker behind Samsung, but it is not in the
top five in the more lucrative and faster-growing smartphone market.
Sales
of Nokia's Lumia phones have helped the market share of Windows Phones
in the global market climb to 3.3 percent, according to consultancy
Gartner, overtaking ailing BlackBerry Ltd for the first time this year.
Still, Google's Android and Apple's iOS make up 90 percent of the
market.
Credit default swap
spreads on Nokia tightened by more than 30 basis points to around 200
basis points after the news, meaning it now costs $200,000 to insure $10
million worth of Nokia debt, which is rated junk due to worries about
its shrinking cash position and market share.
Nokia
said it expected that senior executives Jo Harlow, Juha Putkiranta,
Timo Toikkanen, and Chris Weber would transfer to Microsoft when the
deal is concluded, probably in the first quarter of 2014.
Goldman
Sachs acted as financial advisor to Microsoft, while JP Morgan advised
Nokia, according to people close to the deal. Law firm Simpson Thacher
represented Microsoft, while Skadden, Arps, Slate, Meagher & Flom
represented Nokia, they said.
($1 = 0.7582 euros)
(Additional reporting by Terhi Kinnunen, Jussi Rosendahl and Niklas Pollard; Editing by Peter
Graff, Will Waterman and Tim Dobbyn)
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