Despite Restructuring, NSN Faces Tough Times

Telecommunications vendor Nokia Siemens Networks (NSN) announced the spin-off of its fibre-optic division as it increases its focus on mobile broadband. The spin-off is the latest part of a restructuring effort , as the vendor has struggled in a challenging operating environment due to recession in core markets and competition from Chinese vendors. BMI believes the downsizing and refocus on higher growth markets is positive for NSN's medium - term performance. However , we argue NSN is likely to remain under pressure in the short term from Chinese vendors and economic malaise in Europe.

NSN announced an agreement to spin off its optical division in a deal with Marlin Equity Partners - a Los Angeles based group focused on fibre optics. The deal is expected to close in early 2013, but no financial terms for the deal have been released. The new optical company will have its headquarters in Munich and will be led by existing management as it aims to be a leader in long-haul and ultra-long-haul transmission. NSN also announced that 1,900 employees are expected to transfer to the newly formed company - with the majority of affected employees currently based in Germany, Portugal and China.

NSN Looks East As Europe Wanes
NSN Revenue Share By Region (%)

The announcement comes amid press reports that a separate NSN service unit in Germany faces the prospect of closure after reports that German incumbent Deutsche Telekom is set to cancel its contract. Neither company has commented on press speculation, but if rumours are true it could mean the loss of 1,000 jobs and a further decline in European revenues. The potential loss is the latest in a difficult run for the vendor that has struggled ever since the merger of Nokia and Siemen's separate operations.

BMI believes the downsizing of NSN to focus on mobile broadband strengthens the vendor by targeting its operations on growth markets. However, we add that another determinant of its recent financial performance has been the economic crisis in Europe - and the role of recession in exacerbating pressures on European telecoms operators. We therefore argue it is as important that NSN continue to diversify geographically as it is to refocus on high-growth product lines. The combination of a shift to mobile broadband and emerging market focus would boost the company significantly if it replicates its recent success in the Asia-Pacific region in other emerging markets.

However, it should be remembered that NSN is not operating in isolation and even with reform it will continue to face intense competition from its rivals, particularly Huawei and ZTE. Over the short term, we believe NSN is still ill equipped to compete against Huawei and ZTE, which in 2012 had a competitive advantage based on the combination of low cost labour, technological expertise and the support of state institutions. However, we expect the comparative advantage bestowed by state financial institutions, as well as low-cost labour, to weaken over the medium term - giving NSN a chance for recovery.

Chinese wages are rising, particularly in coastal areas where the vendors are based, eroding the labour cost advantage. Meanwhile, the existing financing facilities used by Huawei through China EXIM and China Development Bank are likely to be the subject of reform following Xi Jinping's February 2012 meeting with President Obama. This resulted in an agreement to open talks on setting rules and guidelines for officially supporting export credits by 2014. Currently the state supported facilities accessed by NSN are more stringently regulated by the OECD than China's institutions are through the WTO - which has led to claims that the Chinese vendors benefit from financial assistance. However any advantage now looks like it will be short-lived. BMI therefore sees medium-term upside for NSN as the cost base of Huawei and ZTE evolves. However, the next few years are likely to remain challenging.

This article is tagged to:
Sector: Telecommunications
Geography: Germany, Finland, Germany, Finland, Finland

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