Nokia’s Microsoft tie-up still under scrutiny

Two months after Nokia leapt from its “burning platform” into an alliance with Microsoft, debate is still raging over whether the move was suicidal or savvy.

Reports from investment banks and credit rating agencies have delivered conflicting judgments on Nokia’s decision to embed Microsoft software in its high-end phones in an attempt to stem the decline in its market share.

Moody’s became the latest to weigh in on Thursday when it downgraded Nokia’s credit rating by one notch after a similar move by Standard & Poor’s last week.

Wolfgang Draack, Moody’s analyst, said the Windows tie-up gave Nokia a good chance of recovering some lost ground while sharing execution risk with Microsoft. But he warned that Nokia was unlikely to regain its previous level of dominance and said the outlook was fraught with risk and uncertainty.

In a leaked memo before the Microsoft deal, Stephen Elop, Nokia chief executive, compared the Finnish company with a man stood on a blazing oil rig, faced with a choice between certain death and a risky leap into the unknown.

The grim assessment laid the ground for his decision to gradually phase out Nokia’s much-maligned Symbian operating system in favour of Microsoft’s Windows Phone in an attempt to regain ground lost to the Apple iPhone and devices using Google’s Android platform.

Investors are hoping for more details of the alliance when Nokia announces first-quarter results this month. Much of the focus is on how quickly the companies can produce their first joint device and how much Nokia can save in costs by outsourcing software development to its US counterpart.

Initial market reaction was strongly negative, amid claims that Microsoft got the better side of the deal and fears that, by largely abandoning its own software ambitions, Nokia was condemning itself to a low-margin future as a commoditised hardware producer akin to Dell and Hewlett-Packard.

Much of the subsequent commentary has continued in this negative vein, with several investment banks, including UBS and Nomura, lowering their share price target for Nokia.

Analysts at UBS said the outlook remained “extremely difficult” and warned of a difficult balancing act between speed and quality as Nokia rushes to develop its first Windows handset by the end of the year.

“Our fear is that in prioritising time to market, Nokia sacrifices quality in its new [Windows Phone] product, turning potential customers off,” the UBS report said.

With Nokia’s stock close to 13-year lows and 80 per cent down from when the iPhone was launched in 2007, some analysts say the doom and gloom has been overdone.

Goldman Sachs has lifted its recommendation on the stock to “buy”, arguing that Nokia’s “back to basics” strategy could spark a turnround.

“[Mr Elop’s] decision to take Nokia back to its hardware orientated roots as the industry rapidly commoditises is appropriate, and creates the potential for €1bn ($1.4bn) or more in cost reduction,” said the Goldman report.

The scale of challenge facing Mr Elop was underlined on Thursday when Gartner, the technology research company, forecast that Nokia’s Symbian devices would fall from a market-leading 37.6 per cent share last year to 19.2 per cent in 2011, while Android would surge from 22.7 per cent to 38.5 per cent.

Next year, Symbian is projected to fall into fifth place behind Apple’s iOS, Research in Motion’s BlackBerry and Windows Phone, as Nokia shifts to the Microsoft new platform.

Analysts say the big question is whether Nokia can start selling Windows Phone devices quickly enough to offset decline in Symbian.

Gartner projects that, with Nokia’s backing, the Microsoft platform will become the second-biggest smartphone platform after Android by 2015.

“Some people think that is crazy,” says Carolina Milanesi, Gartner analyst. “But even on the downside if you look at how many phones Nokia sells and know that they will bet the majority of their portfolio on success in this market, you have to assume that Nokia will not be happy with just third or fourth.”

Additional reporting by Mary Watkins in London

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