Microsoft Corporation: Impact Of Nokia Handset Unit On Its Earnings

Microsoft Corporation: Impact Of Nokia Handset Unit On Its Earnings

Ever since Microsoft Corporation (NASDAQ:MSFT) completed the acquisition of Nokia Corporation (NYSE:NOK) (BIT:NOK1V) (HEL:NOK1V)’s device and handset business, investors have been confused about the integration and the software giant’s long-term strategy. Microsoft provided little details during its third quarter conference call. Now, Sterne Agee analysts Robert Breza and Jean-Baptiste Jouve have assessed the impact of Nokia’s handset business on Microsoft’s revenues and earnings.

New handset business to reduce Microsoft’s earnings by 12 cents

In a research note dated June 30, Sterne Agee said that it has reduced its FY2015 EPS estimate by 12 cents and FY2016 estimates by 6 cents. The research firm has a Neutral rating on the stock with $40 price target. Microsoft paid about $7.5 billion for Nokia’s devices and services unit. It is an addition to the Redmond-based company’s “well-performing consumer hardware segment.”

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Microsoft’s consumer hardware business outperformed in fiscal Q3 of this year, thanks to solid sales of Xbox. Nokia’s handset unit is now an important part of Microsoft’s new strategy, which Satya Nadella described as “mobile-first, cloud-first.” However, Nokia’s latest quarterly results point to a weakness in Lumia as well as low-end device sales.

Microsoft will have to win over new customers

Breza and Jouve forecast that Microsoft would sell less than 30 million Lumia units in FY2015. The newly acquired handset unit would add $8.9 billion to Microsoft’s revenues, but will bring down the company’s FY2015 EPS by 12 cents. In this fiercely competitive smartphone market, Lumia would find it difficult to command premium prices. Sterne Agee estimates Nokia’s device business to have a gross margin of 10% with negative operating margins. It will take Microsoft several quarters to realize the full operational saving potential.

Increasing smartphone sales volume will be key to Microsoft’s success in this business. The company will have to win over new customers, applying advantages of its integrated platform. Even low cost devices could provide an upside despite lower margins.

Microsoft shares jumped 0.76% to $42.01 at 12:35 PM EDT on Tuesday.

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