A Software Reboot Might Just Save This Ailing Phone Giant

Going by the numbers, Nokia (NYS: NOK) just delivered a horrible quarter. I mean, a terrible, brutal performance. Sales fell 21% year-over-year, led by 31% fewer smartphones finding new homes. Average selling prices also declined across the board. All told, earnings fell 73% to $0.08 per American Depositary Receipt, and operating cash flows crashed just as hard.

But Nokia shares are floating up today nonetheless. Wall Street analysts would have settled for earnings of about $0.06 per ADR, though the $13.4 billion revenue target still proved a bit steep.

More importantly, the much-heralded partnership with Microsoft (NAS: MSFT) is starting to pay dividends. The first Windows Phone models have made their way to markets in Europe and Asia. The Lumia line is also trickling into North American stores as T-Mobile and AT&T (NYS: T) have gotten their mitts on one model each. Support from the network providers is crucial to mobile success, and Nokia never had much of that TLC in America before.

So far, Nokia has sold over 1 million Lumia handsets, That may not sound impressive next to the millions and millions of iPhones Apple (NAS: AAPL) ships every quarter, but every journey has to start with a single step. One million units amounts to over 5% of Nokia's smartphone sales in the quarter, using a totally new brand to present an unproven platform. That's not a bad start. Recall that Apple sold 1.1 million iPhones in that storied handset's first quarter, and you get the positive picture.

Reality check
So is the optimism totally justified? I'm not so sure.

Despite the similarities, this is a very different situation than what Apple was facing five years ago. Apple was essentially inventing the smartphone market, and had never before sold a phone; Nokia can fall back on a decade of global market dominance, and smartphones are now as common in the global marketplace as sand on a beach. Under these circumstances, even a brand-new platform should be able to get up to speed faster.

But the real litmus test will come in the next couple of quarters. Will Lumia gain traction and build the Windows Phone brand, the way Microsoft intended? Or will Nokia find itself spinning its wheels without moving anywhere? These phones need to replace Nokia's old Symbian smartphones very quickly, and at a price premium at that. And the combined unit sales must bounce back to overall growth right away.

Otherwise, the Lumia will be known as a failed experiment in rebranding and Nokia will join fellow old-school phone titan Research In Motion (NAS: RIMM) in the race to the bottom. Who can sell more micro-margin handsets in Africa and South America? I don't really care. Neither should you.

The challenges in Nokia's path
So we're looking at a polar outcome here: Nokia will sink or swim with the Lumia line. Today, investors see some light at the end of that tunnel. But it's a big gamble. Nokia is fighting multiple headwinds:

  • Windows-powered phones haven't been cool since, oh, 2006. The new platform is very different, but the brand damage may linger.

  • Nokia was never big in North America, even at the height of its powers. This market sets the tone for the mobile space on a global level, because most of the innovation comes from our continent.

  • It may be better to have loved and lost than never to have loved at all, but that isn't necessarily true for brand strength. Nokia has been a well-known cell phone giant for years, and consumers have seen it reduced to a minor bit player. Does that backstory make you long for a Nokia phone? Didn't think so.

Nokia has a lot of work to do here. I'm not willing to bet against the Finns today, because they might just pull it off. But the company is on notice: I'll sing a very critical tune unless the next two quarters show real signs of a Lumia-driven turnaround. This might just be the next RIM or Palm disaster in the making.

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At the time thisarticle was published Fool contributorAnders Bylundholds no position in any of the companies mentioned. The Motley Fool owns shares of Microsoft and Apple.Motley Fool newsletter serviceshave recommended buying shares of Microsoft and Apple; creating a bull call spread position in Apple; and creating a bull call spread position in Microsoft. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinion, but we all believe that considering a diverse range of insights makes us better investors. Check outAnders' holdings and bio, or follow him onTwitterandGoogle+. We have adisclosure policy.

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