Nokia Oyj Q2 2024 Earnings Call Transcript

Quartr
Provided by Quartr
July 18, 2024

There are 14 speakers on the call.

Operator

Good morning, ladies and gentlemen. Welcome to Nokia's Second Quarter 2024 Results Goal. I'm David Mulholland, Head of Nokia Investor Relations. Today with me is Pekka Lundmark, our President and CEO along with Marco Buren, our CFO. Before we get started, a quick disclaimer.

Operator

During this call, we will be making forward looking statements regarding our future business, proposed transactions and financial performance, and these statements are predictions that involve risks and uncertainties. Actual results may therefore differ materially from the results we currently expect. Factors that could cause such differences can be both external as well as internal operating factors. We have identified such risks in the Risk Factors section of our Annual Report on Form 20 F, which is available on our Investor Relations website. Within today's presentation, references to growth rates will mostly be on a constant currency basis and margins will be based on our comparable reporting.

Operator

Please note that our Q2 report and the presentation that accompanies this call are published on our website. The report includes both reported and comparable financial results and reconciliation between the 2. In terms of today's agenda for today, Pekka will go through some of the key messages from the quarter, Marco will give you a deeper dive on the financial performance, and then Pekka will make a few comments on a couple of particular highlights from Q2, and then we'll move to Q and A. With that, let me hand over to Pekka.

Speaker 1

Thanks, David, and thank you for all dialing in today. Before we discuss Q2, I'd like to give a quick reminder of some important announcements we made recently. We, of course, announced the planned divestment of our Submarine Networks business to the French state and also our intention to acquire Infinera, a North American optical networking company. The Infinera acquisition will significantly increase the scale profitability of our optical networks business. It will enable us to deliver faster innovation for customers and expand our position with webscale and regionally in North America.

Speaker 1

These transactions will focus and strengthen our network infrastructure business with its future built on 3 market leading units, fixed networks, IP networks and optical networks. Moving on to our 2nd quarter performance. Marco will go into more detail, but the headlines are that the market remained weak during the quarter. We saw an 18% decline in our top line year on year, but it should be noted that 3 quarters of that decline was driven by India with Q2 last year marking the peak of their 5 gs deployment. We were pleased to see order intake trends continuing to improve in Q2 with the book to bill above 1 and orders growing year on year.

Speaker 1

Again, this strength was most notable in network infrastructure and supports our expectation of a significant improvement in net sales in the second half of twenty twenty four. We also continue to have good deal traction across the business groups. We won some important deals in NI in the quarter, especially for mobile networks, we won some completely new customers such as MEO in Portugal and also expanded our share at many existing customers. In addition and I'll touch on this later, cloud and network services is also making good progress on winning core network deals and with our network as code platform. Regarding our cost savings program, we've been taking quick action under the program that we announced in October.

Speaker 1

We have so far actioned SEK400 1,000,000 of run rate savings over the targeted SEK800 1,000,000,000 to SEK1.2 billion in gross savings by 2026. We had another strong quarter of free cash flow with approximately EUR 400,000,000 in Q2. And finally, our full year outlook is unchanged and we are currently tracking towards the midpoint or slightly below the midpoint of our comparable operating profit guidance of €2,300,000,000 to €2,900,000,000 And regarding our free cash flow guidance of 30% to 60% conversion, we are tracking towards the higher end of that range. With that, let me hand over to Marco, who will go into the financials in more detail.

Speaker 2

Thank you, Pekka, and good morning, everyone, and welcome from my side as well. Before I get into numbers, let me make one important comment. Considering the planned sale of Alcatel Submarine Networks, the business is now reported under discontinued operations and is no longer seen in our Network Infrastructure Unit figures. As Pekka mentioned, the environment remained challenging. And in quarter 2, 'twenty four, we saw a sales decline of 18% compared to year ago quarter.

Speaker 2

India was really the main driver here, but pleasingly, we returned to modest growth in North America. Gross margin increased by 4.50 basis points, mainly driven by mobile networks improvement, in part due to the CHF 150,000,000 of accelerated revenue recognition related to the AT and T contract resolution. Our operating margin at 9.5% was 190 basis points below the prior year. This also benefited from the accelerated revenue recognition. However, the decrease in top line negatively impacted the operating profit.

Speaker 2

Then Network Infrastructure. Sales declined by 11% with declines across all three business lines, but we did see a sequential improvement from quarter 1. The net sales decline also impacted our operating margin in the quarter along with somewhat higher indirect cost of sales. Importantly, as we mentioned before, we saw a continuation of the improving order intake trends, which support our view of a significant improvement in net sales growth in the second half. On the basis of our current view of the market and the pace of demand recovery, we have revised our net sales planning assumption down from our prior plus 2% to 8% growth to now minus 2% to plus 3%.

Speaker 2

Our operating margin assumption is 11.5% to 14.5%. And in full transparency, the removal of ASN from NI would have improved profitability by 100 to 150 basis points and the underlying reduction in our margin assumption is due to the slower market recovery. Turning to Mobile Networks. In mobile networks, the net sales decline was mainly driven by the decrease in India, reflecting the fact that quarter 2 in 2023 represented the peak of the India 5 gs deployments. Positively, on a sequential basis, all regions increased compared with quarter 1.

Speaker 2

And Nokia also resolved its outstanding negotiation with AT and T in relation to our existing RAN contracts and ensuring we maintain the values originally agreed in the contract. Part of this resolution led to this $150,000,000 of accelerated revenue recognition, which benefited both net sales and operating profit in the quarter. Based on current commitments, we expect mobile networks net sales to AT and T to remain largely stable year on year in 2024 and then approximately half in 2025. Of course, we will continue to look to win new opportunities with AT and T that can improve this trajectory in mobile networks. And as you know, AT and T is a very important customer to overall Nokia.

Speaker 2

As a result of the market evolution and what we have seen thus far in the first half, we have changed our net sales planning assumption from 10% to 15% decline to now a 14% to 19% decline. However, we have increased the operating margin assumption from 1% to 4% to now 4% to 7% as we continue to take quick action on cost. And then moving to cloud and network services. The business declined 16% year on year as it continued to be impacted by the challenging environment. Additionally, the disposal of the device management and service management platform business had a 3 percentage point negative impact on the net sales in the quarter.

Speaker 2

Both gross and operating profits were also impacted by lower net sales. And given the market conditions, we have also adjusted our net sales assumptions for cloud and network services to minus 5% to 0% from previous minus 2% to plus 3%, although we left our operating margin assumption unchanged at 6% to 9%. And Nokia Technologies had a solid quarter and the run rate remains at SEK1.3 billion after the significant smartphone renewals we had in the Q1. One thing to highlight in quarter 2 was that we signed an agreement with a video streaming platform related to our multimedia technology. And this is an early step for us in this area, but it is an area that we think can become a meaningful opportunity for Nokia.

Speaker 2

Then if we turn briefly to Nokia's net sales per region, You will see here that India drove the maturity of the net sales decline in quarter 2. As the year ago quarter was the absolute peak in the 5 gs deployment in India and hence the minus 69% decline in the quarter. We are pleased to see a return to growth in North America, supported by the one off AT and T benefit. But aside from that, we also saw a return to growth in our network infrastructure business in North America. In other regions, there was softness across most markets.

Speaker 2

In quarter 2, we generated solid free cash flow, which led to a net cash balance of CHF 5,500,000,000. This was driven by operating profit and changes in net working capital as the India receivables, which built up during the deployment normalized. In addition, our cash benefited from a 315,000,000 of disposals, mainly related to both TD Tech and the sale of our device management and service management platforms. We also returned over €300,000,000 to our shareholders through dividends and share buybacks. You will also see in the release that we are now sharing the adjusted free cash flow by business group to help understand the differing dynamics of cash flow performance for each business.

Speaker 2

We are still working to refine the process. And by our full year results, we will provide you with historical data that will allow you to better interpret the performance. And with that, let me hand back to Pekka.

Speaker 1

Thanks a lot, Marco. So let's now look at some of the business highlights from the quarter. On 27th June, as I'm sure you all recall, we announced the definitive agreement for Nokia to acquire Infinera in a deal we believe has strong strategic and financial rationale. We hosted a call about the transaction a few weeks back, so I won't go again into all the detail on this. But as a quick recap, there are 3 main reasons for the deal.

Speaker 1

First, we see a strong strategic and synergistic rationale for the transaction. There is a strong strategic fit with highly complementary customer, geographic and technology profiles between the two companies. The timing is also optimal to build on the strong momentum both businesses have had in recent years and improves our long term growth opportunities. From a synergy perspective, we target net run rate synergies of €200,000,000 by 2027 at the operating profit level. 2nd, we believe this transaction will strongly enhance our network infrastructure business.

Speaker 1

The transaction will increase our enterprise exposure in Eni, particularly when considering Infinera's recent webscale design wins in systems and pluggables. The combined business will have over €600,000,000 of annual webscale sales in optical. Finally, in terms of the financials, we expect the transaction to be accretive to Nokia's comparable operating profit and EPS in year 1 and to deliver over 10% comparable EPS accretion in 2027 assuming the transaction closes by the first half of twenty twenty five. We also expect the acquisition to deliver a return on invested capital comfortably above Nokia's cost of capital. I would also just like to add now that it has been a few weeks, deal has so far been very positive, indeed even some excitement about what the combined business can do for them.

Speaker 1

We also announced the agreement to divest summary networks, which has previously been part of the Network Infrastructure Business Group. And going forward that means that Eni will be built on 3 market leading pillars. Fixed Networks continues to be well positioned to benefit from strong demand in the fiber market. This is evident in markets where fiber is not yet highly penetrated and in more mature markets where customers are starting to upgrade to XGS BON or 25 gs BON. Elsewhere, government funding projects are expected to start towards the end of this year and Nokia was the 1st vendor to announce the availability of BioAmerica compliant products.

Speaker 1

Given these dynamics and opportunities, we target mid single digit growth for fixed networks. Our IP Networks business continues to see the ramp of FP5 and FPCX routing products and the expansion into new markets like data center switching. It has been showing continued momentum in expanding its presence beyond CSPs into the enterprise and web scale markets and we expect this to continue. In this business we are also targeting mid single digit growth. With respect to our newly strengthened position in optical, we believe this now has at least a mid single digit growth opportunity and now a compelling path to a mid teens operating margin.

Speaker 1

These businesses combined will give us a unique position in Network Infrastructure. On a pro form a basis for the 2 transactions in 2023, Network Infrastructure would be an €8,400,000,000 revenue business that targets mid single digit net sales growth with margins that would pro form a be around 12%, but we believe can expand over time to mid to high teens. One other topic I wanted to discuss is our customer momentum in mobile networks. Clearly, as you know, we had a set back in December with AT and T's decision to actually single source their network, their radio network to a different vendor for commercial reasons. Now as Marco mentioned, we have concluded negotiations with AT and T related to our existing RAN contracts, which gives us clarity on the path forward.

Speaker 1

But more importantly, if we take a step back and look at the overall development, we continue to make significant progress with customers in our mobile networks business. Since 2019, we have won a total of 55 new RAN customers and we have increased our share at another 33 customers. This drove the significant increase in market share that we saw between 2021 2023. We have won a significant number of deals this year including completely new customers such as MEO in Portugal and maintaining our position at other key operators in Europe as there has been a lot of customer tendering activity. I continue to firmly see the AT and T decision was a very customer specific situation.

Speaker 1

We have a compelling product offering for customers that is resonating and helping us to build a stronger future for our mobile networks business. We are also making strong progress with our Open RAN and Cloud RAN projects and we remain the most open vendor in the market as I highlighted last quarter. In Q2, we partnered with Vodafone to introduce Open RAN into their network in Italy. With STC, we completed the world's first trial of an O RAN based private 5 gs network using Microsoft's Azure industry partners across hardware and software. I would note that this continues to be a highly competitive market and we see intense competition in regions that Chinese vendors are still able to compete in, but we have continued to win deals.

Speaker 1

We will remain disciplined on pricing, however, as we have done in recent years and that has helped us to significantly improve our gross margin in mobile networks, particularly on a relative basis. Turning to cloud and network services, where we continue to make great progress on network as code. This is the business we are building organically to help CSPs monetize network APIs and help developers access new network capabilities for their applications. This is an ecosystem play and we are proud to now have 16 signed agreements with partners across the ecosystem. This includes new CSP partners such as Orange, Telefonica and Turkcell.

Speaker 1

Importantly, we signed agreements in Q2 with Infobip and Google. Both of those partnerships will enable access to a wider range of developers consequently driving demand and usage of network APIs through our platform. On that topic, we continue to make good R and D progress on the platform itself. And in Q2, we launched the network exposure platform to empower CSPs to expose their network capabilities to the ecosystems of their choice. We look forward to sharing more exciting news over the course of the year.

Speaker 1

Additionally, within Cloud and Network Services, we have been seeing recent traction around core networks, particularly in Europe. This is evidenced by announcements we have made including with O2 Telefonica in Germany with the deployment of 5 gs standalone core software on Amazon Web Services as well as other deals with Nordlers of Denmark and Air Networks in Spain. Next, I wanted to highlight some of the results of the fast action we have taken to reduce our cost base. As a reminder, in October, we announced a target to lower our cost base on a gross basis by between €800,000,000 1.2 €1,000,000,000 by the end of 20 26. This represented a 10% to 15% reduction in our personnel expenses.

Speaker 1

You can see in the slide the progress we have made so far on the October program. We have already actioned €400,000,000 of savings by Q2 and we will continue to make further progress in the second half to reach the €400,000,000 of in year savings we have committed to. The program is expected to lead to a 72,000 to 77,000 employee organization compared to 86,000 employees Nokia had when the program was announced. As of the end of June, our headcount was just under 80,000. Please remember that these numbers are on a like for like basis and do not reflect the recent announcements regarding ASN and Infinera.

Speaker 1

So we are making good progress on this program and we'll continue to do so as we navigate the current market environment. Then on to our outlook. We believe the industry is stabilizing and giving the order intake seen in recent quarters, we expect a significant acceleration in net sales growth in the second half. However, the net sales recovery is happening somewhat later than we previously expected, impacting our business group net sales assumptions for 2024, which Marco highlighted in his commentary. Despite this, we remain solidly on track to achieve our outlook for 2024 supported by the quick actions we have taken to reduce our costs.

Speaker 1

We are now trending towards the midpoint or slightly below the midpoint of the operating range operating profit range of €2,300,000,000 to €2,900,000,000 and towards the higher end of the cash conversion range of 30% to 60%. So in conclusion, the weak market environment has continued. However, we have seen a third quarter of order intake momentum and we expect to see net sales growth in H2 weighted towards Q4. We have also seen we have also been encouraged by the level of customer engagement and tendering activities across all business groups. We have moved quickly on the cost savings program, which we announced in October of last year and this continues to support our outlook, which we have reiterated this quarter.

Speaker 1

The quarter saw another period of strong cash flow generation ending the quarter with a net cash balance of €5,500,000,000 The Board intends to accelerate the previously announced buybacks, which will now be executed by the end of 2024, a year ahead of the original schedule. Thank you. And with that, I think we can now move on to your questions.

Operator

Thank you, Pekka and Marco. Before we move to the Q and A session, please let me give you one date for your diary. We're planning to hold our next business group progress update on our network infrastructure business on Tuesday, September 3. We plan to hold the event virtually and we will send out a save the date in the coming days. We hope you will be able to join us.

Operator

As usual for the Q and A session, as a courtesy to others in the queue, could you please limit yourself to one question and a brief follow-up. Alice, could you please give the instructions?

Speaker 3

We will now begin the question and answer session. I will now hand the call back to David Mulholland.

Operator

Thanks, Alice. We'll take our first question from Francois Bouvignet from UBS. Francois, please go ahead.

Speaker 4

Thank you very much. So my question would be on Network Infrastructure specifically. So when we look at your fiscal or full year EBIT margins for NI and the group EBIT margin, if we assume it's similar Q2 versus Q3 based on what you said on the seasonality, this would imply NI EBIT margins on the high single digit 10% range in Q3. And to get to full year, to get to your 11 plus EBIT margins for NI, you would need like 20% plus of margins, EBIT margins in Q4 with a very, very high top line growth. So maybe can you explain us how can we model such steep recovery when in H1 you did 6% NIIBIT margins and we need to put like mid teens to 20 in the second half of the year?

Speaker 4

That would be my first question.

Speaker 2

Thank you, Francois Xavier. And as we mentioned also in the release, the quarter 3 margin is a balance between weaker mobile networks margin, and we won't have the benefit of the accelerated revenue integration due to the AT and T deal resolution that we had in quarter 2. And then of course, good improvement in network infrastructure. So then yes, we expect a very strong quarter 4, primarily driven by leverage from the sales volume we expect in the quarter.

Speaker 1

Thank you.

Operator

Thank you, Francois. We'll take our next question from Sandeep Deshpande from JPMorgan. Sandeep, please go ahead.

Speaker 5

Yes. Hi. Thanks for letting me on. My question is, you're talking about this very strong again back again to the strong revival in the second half, better than normal seasonal. Is there a reason for this much better than normal seasonal behavior in the second half?

Speaker 5

Is it just a revival? Or is it new projects? Or is it anything else which is causing the better than seasonal Q3 and Q4 top line? Thanks.

Speaker 1

Well, first of all, you have to remember that the comparables, of course, get significantly easier because last year was a bit of an exception when you look at seasonality that beginning of the year was strong and then the end of the year was weak. This year we are expecting it this whole thing to reverse itself. And again, I mean, we have had now 3 quarters of strong order intake, which has been building order backlog and that's what we have modeled into the forecast. Of course, this still requires that the good momentum in orders will continue in Q3 because there will be especially in network infrastructure will be orders that will be needed in Q3 and to be delivered in Q4. So it's not yet in order backlog, but it is supported by the existing order backlog, the funnel that we have across the businesses and then the expected delivery times.

Speaker 1

This is also supported by when you look at kind of the general comments from our competitors and market analysts that are all highlighting that, yes the market is starting to recover. Most of them are also saying that even though it recovers the recovery is more slow than we originally thought which you can see in us taking down the assumptions for this year. And then the assumption is that the market recovery will continue into 2025. So as a summary, the Q4, it's not there yet in terms of order backlog. It requires that the good order momentum continues in Q3, but that is what we are expecting based on the funnel that we have.

Speaker 5

Just a quick follow-up to Barco on the costs. You've talked about this €400,000,000 of the cost cutting, which is now you have implemented. Is this been implemented mostly gross margin, operating margin? Where is it being so when will we begin to see it in your margin as such really?

Speaker 2

Yes. And remember, the $400,000,000 that we mentioned is a run rate basis. And as we said originally that onethree is coming on the sales cost of sales and twothree is coming from OpEx. So this is what we are still estimating that, that's the way that we are going to go forward as well. We have now, just like Pekka mentioned in his presentation as well, taking down number of employees, more than 6,000 since we started this project and our program, and we have been very fast in taking these actions.

Speaker 2

We are quite confident that we are on the right track when it comes to the cost saving program.

Operator

And I'll maybe just add one comment on the year on year challenge that we obviously had much lower variable pay accruals in Q2 last year that are more normal this year, and that also influences the year on year comparison. But thank you, Sandeep. We'll take our next question from Gennardan Menon from Jefferies. Gennardan, please go ahead.

Speaker 6

Hi, good morning. Thanks for taking the question. I have a similar sort of question on your second half, but this time, more on the cloud and network services division. Because as you say, the other divisions had lower seasonality in last year into the second half of the year, and so they have some benefit on the growth side. But this division did quite well toward the 3rd and 4th quarters of last year.

Speaker 6

And if I look at your current guidance for cloud and network services at minus 5% to 0%, which is your updated guidance, you still need, in my calculation, more than 50% growth from Q2 to Q4 to achieve something like that. Just wondering what is driving that? Is it to the core network wins that you talked about in Europe that you alluded in your opening remarks? And similarly, will that increase in sales lead to an improvement in gross margin as well on a year on year comparison, given that you had sort of good gross margins in the second half of last year? Would it meaningfully improve from that as well?

Speaker 6

Thanks.

Speaker 1

Well, when you look at the seasonality of the CNS business this year will unlike in NI, in CNS this year's seasonality will be similar to the previous years. We had pretty much the same situation last year that the full year result was made during Q4 and that's what we are expecting this year as well. Then we if you get into the fine detail, of course, now the effect of the disposal is like 3 percentage points on top line, which needs to be taken into account in the comparison. But this is supported by the deal momentum that we have had. Core networks is an interesting market at the moment.

Speaker 1

This is part of the dynamics. So I mentioned traction in core networks in Europe. The core network market is consolidating. You may have seen the Microsoft announcement that they are reconsidering Affirmed a Metaswitch I. E.

Speaker 1

Their core network approach. Core network is a market where also even in those countries that have not restricted specifically Chinese out, they are making moves on the core network in terms of high risk vendors. So this should be actually driving the core network to a situation where there will be a smaller number of vendors and clearly this is one of our strengths and we are starting to see this in the deal in the recent deal momentum. Now the thing in core networks when you look at the whole CNS, which makes the comparison always challenging is that we have had a strong precision in 3 gs core network, which has still been there in CNS numbers because it's software revenue. That market is declining quickly and that is being gradually replaced then by the 5 gs core network market.

Speaker 1

And that is the reason why even though the 5 gs core network has been increasing rapidly, it has been compensated then by the loss of the 3 gs market. And that is the reason why you have not really seen growth in CNS in the last 2 to 3 years. But again, we continue to believe in a very strong Q4 also this year in CNS.

Speaker 6

And just a brief follow-up, sorry, continue. Yes, go ahead.

Operator

Your next question, Genard?

Speaker 6

Yes. Just on the AT and T contract resolution fee, you said it's a portion of our contract resolution. So how can you give us an idea how much of the total this was and when we can expect any further payments from AT and T?

Speaker 2

Yes. Thank you. We have still the agreement that we signed in 2021, which ends by end of 2025. And what we have now concluded with the AT and T, how will we deliver those services and software upgrades and whatever they need from us during this period. And this €150,000,000 was more acceleration of the revenue recognition that would otherwise happen later.

Speaker 2

So we continue to deliver as we go until the end of 2025, but just like we guide as well that this year will be approximately at the same level as last year, while next year will be about half of the volume that we have this year. And then

Speaker 1

to follow-up on to continue, Bill, on that after 2025, AT and T mobile networks will definitely not go to 0 because there is ongoing indoor base station and microwave radio business in MN, AT and T. And then depending on how for how long time they will be continued to be operational Nokia base stations in the network that is not for us to comment what that basis. But assuming that there will be also Nokia based business in the network after 2026 that will continue to generate some revenue for us. So it will drop to about half as Marco said in 2025. This year about the same level as last year, significant drop next year and then another drop in 26, but definitely not to 0.

Speaker 1

And still just to be 100% clear on that acceleration, so what that means that we will be able to realize the original full value of the contract until the end of 2025, but this acceleration in a way reduces 25% and increases 24%. That's what's going to happen there.

Speaker 2

And just building also that what comes to 2026 and forward, then of course, there's new opportunities that we definitely are fighting for and secure that we will get a good opportunity to win those as well. So it doesn't mean that, that ends there.

Speaker 6

Understood. So the €150,000,000 is the acceleration fee to compensate for the sharp decline into next year?

Speaker 2

No, it's not a fee. It's based on the contract that we have with AT and T, that €150,000,000 would have been recognized later. And now we because we concluded the negotiations according to IFRS, we have to take that $150,000,000 part already in quarter 2 instead of later periods.

Speaker 6

Understood. Thank you.

Operator

Thanks, Shneur. We'll take our next question from Simon Leopold from Raymond James. Simon, please go ahead.

Speaker 7

First one, I wanted to ask you about your interpretation and thoughts of the news out of Germany regarding the government taking some action against Chinese vendors. How do you see that opportunity? And is it your interpretation that it's limited to mobile core? Or does this present an opportunity for accelerating RAN replacement in Germany?

Speaker 8

Thank you. Yes.

Speaker 1

Thank you. Obviously, we have noted the news in Germany. I mean, there are some clear parts in the announcement, and then there is also some ambiguity which we are still trying to understand what it means. The mobile core part is pretty clear. On the other hand, the market share of Chinese players in Mobile Core has been fairly limited also so far.

Speaker 1

So that is not a huge needle mover as such, but of course it means that there will be no opportunities for them to enter the mobile core as that market will of course be a highly important very important market when they are moving to 5 gs standalone core and so on. Then the RAN part that's where the ambiguity is and we still need more information on what exactly those statements will mean in terms of management software and what it will mean or will not mean to base station hardware and base station software. We do not yet have enough information to make a definitive assessment. So we need to get back to this one.

Speaker 7

Great. And just yes, follow-up is I'd like to see if you could update us on the progress and efforts to diversify, particularly into enterprise and including the hyperscale, thoughts on where that stands and how you're thinking about that prospect? Thank you.

Speaker 1

Yes, thank you. That's obviously continues to be a key element in our strategy. When you look at the Q2, non CSP business was now or enterprise net sales were 11.6 percent of group net sales. So that's been trending continuously up. Of course now enterprise has not been immune to the general market weakness, but when you look at the kind of the delta between our top line trajectory in enterprise and then CSP there has been continued to be a significant difference in Q2.

Speaker 1

I think that was pretty much 20 percentage points that top line trajectory difference. So this continues to be a key part. We are making good progress. And the very important thing of course is that the Q4 acquisition of Pfenex is targeted to accelerate the defense business that we have. And then the Infinera acquisition is targeted to accelerate our webscale business and especially the data center business, which of course unlike the core CSP business, the data center market will be an attractive growth market for many years to come.

Speaker 1

And that's what we would get in what we will get into much more strongly through the Infinera acquisition. So we are looking forward to these opportunities. And of course, we continue to look for additional opportunities, some of which we are working on organically, including the data center switching opportunities in our IP networks of NI.

Operator

Thanks, Simon. Thank you. We'll take our next question from Artem Beletski from SEB. Artem, please go ahead.

Speaker 9

Yes. Hi, and thank you for taking my question. I actually would like to ask on Eni. And could you maybe provide some further color on pace of recovery business subsegments as you, for example, made some comments in accordance with Q1 results? And what comes to lower revenue outlook for the business, where from it is predominantly coming or what are key puts and takes there?

Speaker 9

And then I have a follow-up.

Speaker 1

Yes. There is, Artem, no huge difference between the 3 segments in terms of the revised outlook. We continue to have good orders momentum in all of them. We had good orders actually in fixed broadband in Q2, particularly in North America, which is a promising sign because we received now the first bid related orders in North America, some of which will be already supporting Q4 revenue, although it will not be a huge needle mover yet in Q4, as we have said earlier, but we will get some already this year. I believe that we will be the first one to benefit.

Speaker 1

Hence, we have made already in the previous quarter kind of optimistic comments about the fixed networks outlook. And then of course, the bid will be much more a 2025, 2026 story. But really to answer the main question that you had, it's fairly balanced between the three units in NII.

Speaker 9

Okay. That's clear. And maybe just a quick follow-up on the buyback program and acceleration decision being done there or to be done. What is actually driving it? Is it purely strong cash position what we have in place?

Speaker 9

Or is it already a preparation for Infinera deal completion, so to speak, as the amount of shares is likely to increase? And any thoughts at this stage by the Board in terms of its continuation looking beyond 2024?

Speaker 2

Yes. As you remember, we introduced in the beginning of this year share buyback program. The ambition was that SEK 300,000,000 will be done this year and SEK 300,000,000 additional next year. But the Board of Directors decided that we will accelerate that program and now do the whole SEK 6,000,000 in 2024. And this is, of course, based on the shareholder distribution policy and the strength and cash position that we have.

Speaker 2

And with Campsie Infinera, remember as well that ambition is that we will finance this totally from our cash on hand. And we have also said in when we presented the deal that we will acquire additional shares or buy additional shares to secure that there will not be any dilution because of these deals. And after the shareholder meeting in Infinera, we know exactly what is the amount of shares that we need to buy back as well.

Speaker 1

So that means that whatever the Infinera dilution will be that will be executed through buybacks on top of the €600,000,000 program.

Operator

Yes. Thank you, Artem. We'll take our next question from Joseph Zu from Barclays. Joseph, please go ahead.

Speaker 10

Hi, morning all. Thank you for taking my questions. I have one and then a follow-up. So my question is on AT and T. And so thanks for the clarification about the impact now.

Speaker 10

Now we got much better visibility. But just to understand, one is, do you actually get any conversation from AT and T at all? And number 2 is the just the quarterly phasing of the AT and T contribution or run rate, how do we think about it, I. E, did you recognize a normal revenue from AT and T in Q1? And then you recognized RMB 150,000,000 in Q2?

Speaker 10

And how should we think about the Q3 and Q4 grossing towards the AT and T revenue run rate?

Speaker 2

Yes. Thank you. Yes, we have the underlying contract is stipulating how we what we deliver to AT and T. And based on that deliveries, what we do, we recognize just like joining other customers as well. And the €150,000,000 is acceleration only because of the accounting rules that we have to do it in quarter 2 when we concluded the new amendment to the deal that we have already with AT and T.

Speaker 2

So we go as we go, we recognize the revenue based on what they buy and what we deliver them.

Speaker 10

Okay. So it's a normal kind of run rate in the second half, Q3 and Q4 based on AT and T?

Speaker 2

Just like to any other customers, whatever they buy, so we recognize the revenue based on that.

Speaker 10

Okay. Thank you. That's clear. And then my follow-up is really on Vodafone Idea. Obviously, you took a small stake, an extra stake in Vodafone Idea and I believe partly to help them finance the 5 gs throughout which they have yet to deploy it in India?

Speaker 10

And just to understand, one is, what's the kind of expected margin of that project compared to the normal kind of India margin that you saw last year? And also the timing of it, are we expecting to see the start of the rollout at the end of the year or next year or second half of the next year, etcetera? Thank you.

Speaker 2

Yes. We never comment specific margins per customer. And just like Pekka mentioned earlier as well that our ambition is to have good margins on all deals that we do. So this is the ambition we have. And what if an idea or any other customer is specific contract and margins vary always depending what they buy and different other conditions in the agreements.

Speaker 2

But our ambition is always make deals that we believe are supporting the shareholder value creation. And based on that, we make the decisions on each deal.

Speaker 1

I mean, the key thing in India in addition to Parti and Reliance Jio is really that Vodafone Idea have made progress on their financing. And the deal to convert some of the debt to shares, which we did in the same way as some others, was obviously part of their capital structure development. We do not intend to become an operator in India. That small share that we have in them there is a lockup period, but after that we will be free to do whatever we want with that. So that is purely in a way a tactical move from us.

Speaker 1

But then the key thing for our future in India will be to understand that how much will Vodafone idea be investing in their network especially in their 5 gs expansion. And that is clearly an opportunity for us, assuming that they get their funding arranged. And as I said, there is now promising progress on that. Assuming that that really happens there is good potential for us for revenue in their 5 gs going forward.

Operator

Thanks, Joseph. We'll take our next question from Sami Sarkhanis from Danske Bank. Sami, please go ahead.

Speaker 10

Hi. You have increased margin guidance for mobile networks by 3 percentage points. Is this revision fully explained by the AT and T settlement? And do you assume more high margin revenues in the second half of the year or next year?

Speaker 1

It's really a combination of that EUR 150,000,000 which you can mathematically, of course, calculate how much that is. But it's not only that, it's also good progress on the cost side. It's a combination of these 2.

Speaker 10

Okay. Thanks. And then I would ask about your thinking regarding portfolio management. Are you interested in making additional bolt on acquisitions to Infinera? And why did you think it was a good time to divest ASN now?

Speaker 1

Well, if I take ASN now, first, obviously, it's a well known fact that we've been contemplating that divestment for a long time and fact number 1. Fact number 2, as part of the original Alcatel Lucent acquisition deal in 2016, the French state has had a veto right on a number of strategic decisions, which then always limited our freedom to maneuver the business. So we just now were able to finally find a solution with the French states that now is a good time for them to acquire the business. It was more tactical that we were now after quite lengthy discussions we were able to find each other on the terms and conditions. There's not more than that into that.

Speaker 1

We are pleased with the acquisition price especially when you or the divestment price especially when you look at the profit multiple, which is a good multiple. And also keeping in mind that it's a capital intensive business that requires cash flow to be invested in CapEx And remembering that if you want to significantly increase the revenue in the future that of course then requires out going CapEx into capacity build. So we believe that everything considered it was both a good timing for the divestment and also a good price that we received. Then when it comes to additional deals, I mean, we continue to be extremely prudent. There could be bolt on acquisitions, but any acquisitions would have to follow extremely strong and compelling industrial logic.

Speaker 1

Strong synergies, strong logic, I mean that will always be a prerequisite for any acquisition as we have now seen in the Infinera case with €200,000,000 synergies and exceptionally strong customer and market position complementarity.

Operator

Thanks, Sami. We'll take our next question from Jacob Bluestone from BNP Paribas. Jacob, please go ahead.

Speaker 11

Thanks, David. I had a question on your cash flow. You cut your CapEx from €600,000,000 to €550,000,000 So if you can maybe just talk us through that. And then also just had a follow-up on the AT and T impact. Can you maybe just comment on the cash flow as opposed to P and L impact of the €150,000,000 accelerated revenue recognition?

Speaker 11

Is it correct that, that would lead to a negative working capital movement? And if so, if you can maybe just comment around your working capital, which was plus €100,000,000 in the quarter. Would that have been plus SEK 260,000,000 kind of ex AT and T? Thank you.

Speaker 2

Yes. When it comes to SEK 150,000,000, we recognize that revenue now and that payment will come accordingly as well when according to those payment terms that we have. Cash flow has been extremely good in the first half as you've seen, thanks to the, first of all, normalization of net working capital and also the India payments that we have received, but also due to the actions that we have taken internally to secure that we have optimization of the net working capital and improve the processes within the company. So we've seen the rotation days improving in net working capital. And that's resulting all of these different actions and reasons resulted very good cash generation in the first half year.

Speaker 1

Do you have a quick follow-up, Jacob?

Speaker 11

I guess just to confirm the cash flow impact. So you have a cash working capital outflow in or had a working capital outflow in Q2 and then we'll have working capital inflows subsequently, is that correct?

Speaker 2

No, we had a very good positive impact of working capital. And when it comes to if you look rest of the year, specifically on quarter 4 when we have a huge sales increase estimated, then of course, that is tidying up accounts receivables and will, of course, impact the cash generation in the 4th quarter.

Operator

Thank you. Jacob, we'll take our next question from Daniel Jurgburg from Handelsbanken. Daniel, please go ahead.

Speaker 12

Thank you, David. Hi, Pekka and Marco. I would like to ask a little bit on the growth. And except for India, that stands for 2 thirds of the weakness and also other weak markets, you also have this reduction. I think you said 6,000 so far, planning for 9,000 to 14,000 versus the initial 86,000.

Speaker 12

So my question is really this also on the new organizational structure. How much of the impact on the revenue decline comes from this, I. E, rightsizing? Thank you.

Speaker 1

No. I would not say that there is any negative revenue impact from the organization change or downsizing. This is really I mean, this is the market and this is the funnel. I mean, we are fully competitive in terms of our offering and we are fully resourced when it comes to sales and customer interface. So this is not the reason.

Speaker 1

And if I may do a small correction, you said that 2 thirds of the revenue decline would come from India. It was actually 3 quarters came from India. So almost all was India related, but definitely not related to the operational model change. We are pleased with the pace, as I said, on the cost cuts and the over 6,000 reduction in headcount in especially when you look on the relative terms. It has been a fast pace, but that has not that is not the reason for the revenue hit.

Speaker 2

And India, so building on that, last year India had a huge and very rapid deployment of 5 gs network and our peak for in quarter 2 last year. And of course, this year, they have been normalizing their deployment and slowed down as well quite heavily.

Speaker 1

And that's why we see this huge difference in quarter 2. In India, just to confirm the numbers, which are, of course, in the report, but so that you pay attention to them. So we had revenue acceleration in India in Q2 sequentially. We had €329,000,000 in India in Q1 and we have €600,000,000 year to date. But the important is that we continue to expect what we earlier said that have full year revenue in India between EUR 1,500,000,000 to EUR 2,000,000,000 And this is not only a mobile game in India.

Speaker 1

This is also network infrastructure. And just as one proof point, this is a contract that will start delivering significant revenues in Q4, and that is a fixed wireless contract that we have with an operator in India, which we actually announced earlier. We're talking about an APAC fixed wireless contract, but we can now confirm that it is with an Indian operator. Yes. So, 3rd question may

Speaker 12

I have a short follow-up?

Speaker 2

Sure. Go ahead, Daniel.

Speaker 12

Yes. And that is a little bit on EMEA and the future RAN opportunities. You touched upon over the phone win in Italy, for example. How should we look at the opportunities within, for example, Vodafone will spring procurement? I guess they have 100,000 sites in Europe, of which 30% should go with Open RAN or something.

Speaker 12

Any indication of this being happening now or any news?

Speaker 1

Well, regardless whether regardless of how much of it would be open or any other RAN, there's a lot of different permutations on the network architecture development. We are ready. I mean, we can do open RAN, we can do cloud RAN, we can do any RAN. We have, of course, a high ambition level in terms of Spring 6, but it is an ongoing project at the moment. So I am not in a position to give any kind of comments as to how it looks or anything like that other than that.

Speaker 1

Of course, we are participating.

Operator

Thanks, Daniel. We'll take our next question from Andrew Gardiner from Citi. Andrew, please go ahead.

Speaker 8

Thank you, David. Good morning, all. I was interested in sort of your perspective on the order intake and what that's going to mean in terms of the ultimate sales trajectory, I mean, Pekka, you talked about how you've had all the momentum now for 3 straight quarters, so things are clearly improving and across the business unit, yet they're not translating into quite as much revenue as you would have hoped in the second half of this year. In terms of what you're hearing from the customers, what they're actually ordering, is that because the deals are outright smaller in magnitude than you'd anticipated? Or is it sort of a timing issue and actually the ramps are a little bit slower, so fine, second half is a bit weaker than you'd hoped.

Speaker 8

But ultimately, you're going to win some of that back or not win, but it will just take longer to achieve it. You'll see more of it in 2025.

Speaker 1

Yes. This is exactly the two sides of the same coin that we are seeing that while we are saying that order intake has been good now for 3 quarters, but we did say after Q1 that the full year revenue outlook requires really strong order intake in Q2 and also Q3 for that matter. So while Q2 order intake was good, but it was still not good enough so that we would have been able to maintain the full year outlook. And remember, very importantly, part of the order intake that we are now receiving or received in Q2 is already going to be recognized as revenue in 2025%, not in this year.

Operator

Thanks, Andrew.

Speaker 8

Thank you. I suppose related to that, I mean, does it make you rethink the cost saving program? You've got a fairly wide range around that €800,000,000 to 1,200,000,000 dollars Does that make you think you actually slower ramp here makes you keen to hit the top end of that range as opposed to the lower or midpoint?

Speaker 1

Well, what we have actually done is that we have accelerated the program. And when you look at I mean, the we were not when we started the program, we did not expect to be under 80,000 employees by the end of Q2. So we have executed extremely quickly. Then how it will continue and we are now and just as a reminder, we are targeting 72,000 to 77,000 employees at the end of 2026. And where we are going to go from here after this acceleration, we'll be following very carefully now the market to pace of the market recovery.

Speaker 1

And it's clear that if that recovery is fast and if our market share development is good, then of course it's likely that we would end up closer to the upper end of that employee range. But we are very kind of prepared if needed to go to the lower end of that range also should the market recovery be or continue to be very slow. We are targeting in kind of as a general comment, we are currently still targeting in our planning as a base assumption somewhere around the midpoint of that, but we are prepared to move either up or down depending on how the market and our share develops.

Operator

We'll take our last question from Richard Kramer from Arete Research. Richard, please go ahead.

Speaker 13

Thanks very much. A couple of things that maybe haven't been touched on yet. Pekka, my wider question would be on the operating model. Both yourselves and peers have talked a lot about moving to software, more enterprise sales. You have an extensive fabless chip design effort in NI, but the gross margin profile of the business that we see excluding tech is still stuck in the sort of mid-30s.

Speaker 13

What is it about product pricing or your cost structure where Nokia can start showing the kind of margins profile, let's say a 50% or 60% gross margin and higher operating margins that the software and fabless chip design would imply your business model should be showing?

Speaker 1

That's a very good question. And we have some examples in our portfolio where we are getting to that type of margins already today. But when it comes to large scale infrastructure project margins there that's where the drag has really been. I mean key part of the answer is that we need to move more and more value to software. We need to move to cloud.

Speaker 1

We need to move to software as service models gradually in our business of course first in CNS and then gradually also in the other businesses. That's one part of the answer. Then the other part of the answer is that despite the importance of software, we continue to believe that the importance of silicon continues to be extremely important and domain specific compute as we are seeing in NII, as we are seeing in cloud will be extremely important going forward also in networks. So the stronger we are in silicon, the stronger IPR we have in domain specific compute for things like L1 processing in radio, packet forwarding in routing and so on, the stronger potential we have for margins. Then another part of the answer is that this has to do with the general kind of reduction of the importance of the dependency of large CSPs.

Speaker 1

There are other segments where the margin profiles by their very nature are better. There are enterprise segments where that is clearly the case. And then gradually also the defense sector. I mean that is a sector where there is significantly better margin profile potential compared to large scale system projects with CSPs. The challenge in the whole margin discussion is really large scale system projects with CSPs where there is a specification coming from somewhere and then the CSPs make you and your competitors compete on price.

Speaker 1

We need to reduce our relative dependency on that type of projects alone.

Speaker 13

Okay. And then a quick very quick follow-up on IPR and tech. I mean, we've heard Jenny talk about non smartphone IPR deals and autos and consumer and so forth, but we don't really see the run rate moving up. Maybe Marco, you want to answer that. Are these deals simply not yet materializing into real income?

Speaker 13

Or is there something in the pipeline that we can look for where that super high margin tech revenue starts to accelerate a little bit?

Speaker 2

Yes. Thank you. We were very pleased to sign a first video streaming deal in quarter 2, and this is definitely an area that we believe that this could be a good opportunity for Nokia going forward as well. If you look in December, we gave you a run rate as well. We said that on the new growth areas, the run rate was 150,000,000.

Speaker 2

And of course, there is some that we are following quite carefully, and ambition is that we will continue to gain traction in these new areas.

Operator

Thanks, Richard. Ladies and gentlemen, this concludes today's call. I would like to remind you that during the call today, we've made a number of forward looking statements that involve risks and uncertainties. Actual results may therefore differ materially from the results currently expected. Factors that could cause such differences can be both external as well as internal operating factors.

Operator

We have identified such risks in the Risk Factors section of our Annual Report on Form 20 F, which is available on our Investor Relations website. Thank you all for joining us today.

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Earnings Conference Call
Nokia Oyj Q2 2024
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