By Juhana Rossi
Sweden's Ericsson AB lost about a tenth of its stock-market
value on Thursday after the network equipment maker posted a sharp
fall in first-quarter profit as its customers' spending shifted to
lower-margin projects and a patent dispute with Apple Inc. dented
its licensing income.
Ericsson's share price was down more than 10% in afternoon
trading in Stockholm, wiping out some 40 billion Swedish kronor
($4.6 billion) from the company's market capitalization.
Although strong currency tailwinds boosted Ericsson's revenue
during the three months to March 31, the company's profitability
fell as more of its quarterly revenue came from lower-margin
projects in China and less from lucrative work in the U.S.
This pattern is likely to persist as long as U.S. network
operators, such as AT&T Inc. and Verizon Communications Inc.,
spend more on spectrum auctions and deals instead of upgrading
network equipment, Ericsson Chief Executive Hans Vestberg said at a
news conference.
North America has been Ericsson's biggest market in recent
years, with the company benefiting as U.S. operators upgraded their
wireless infrastructure to the latest-generation standard to
accommodate ever greater data traffic coming from on-demand video
and mobile Internet use.
During the second half of 2014, however, growth in global
operator spending switched from the U.S. to China where operators
have been building new fourth-generation networks.
Building new network coverage is less profitable to equipment
suppliers because it involves selling relatively low-margin
hardware instead of more profitable software upgrades to existing
networks.
Ericsson's first-quarter net profit came in at 1.32 billion
Swedish kronor, or 0.40 kronor a share, below a median forecast of
2.23 billion kronor, or 0.68 kronor a share, according to an
analyst poll by Reuters. In the prior-year period the company
reported a profit of 2.12 billion kronor, or 0.65 kronor a
share.
Profitability at Ericsson's network unit, which accounts for
about half of the company's revenue, was particularly weak. The
unfavorable trends in customer spending, a currency-linked hedging
loss of 1.1 billion kronor and restructuring costs pushed the
operating margin down to 2%, compared with the company's target of
10%.
However, Mr. Vestberg said that the low operating margin "should
not be seen as trend," with the company expecting profitability to
rise again as it recovers from restructuring costs and
currency-driven losses.
Ericsson's bottom line was also hurt by a patent dispute with
iPhone maker Apple. The companies got embroiled in a legal row over
mobile technology patents earlier this year, with the groups suing
and countersuing each other in the U.S.
The dispute reduced Ericsson's intellectual property income
during the first-quarter, the company said, but it didn't disclose
any specific figures.
Licensing existing patent portfolio is often a high-margin
business, so it usually makes a greater contribution to Ericsson's
profitability than sales of ordinary equipment.
Bernstein Research estimated that the loss of income due to the
dispute with Apple shaved off about one percentage point from
Ericsson's gross margin, a closely watched measure of
profitability, which at 35.4% missed the median analyst expectation
of 37.2%.
Resolving the dispute with Apple might take a long time, Mr.
Vestberg said. "Our ambition is to settle outside court as soon as
possible," he added.
Ericsson said net sales in the three months to March 31 rose 13%
to 53.52 billion kronor, from 47.51 billion kronor in the
year-earlier period, beating analysts' forecasts of 53.49 billion
kronor.
The rise in revenue was largely driven by the dollar's
appreciation against the Swedish krona, Ericsson's reporting
currency.
Despite hedging losses in the first quarter, in the longer term
"this level of strong dollar is positive for Ericsson. It's good.
We like it," Mr. Vestberg said.
Ericsson is the world's largest builder and seller of wireless
networks that carry voice calls and mobile data. Its closest rivals
are China's Huawei Technologies Co. and Finland's Nokia Corp, which
are the industry's No. 2 and No. 3, respectively.
Profits in the telecom network industry have come under
increasing pressure as manufacturing hardware such as antennas and
base stations has become more commoditized.
To maintain their competitiveness, the industry incumbents
Ericsson and Nokia have been trying to focus more on offering
software and service solutions to customers instead of simple
hardware.
Earlier this month Nokia also launched an attempt to acquire its
smaller French-American rival Alcatel-Lucent. If the merger
succeeds, it will make Nokia the second-largest network equipment
firm in the world and increase its ability to compete against
Ericsson in the key U.S. market where Ericsson is the market
leader.
Analysts have speculated that Ericsson could respond to Nokia's
move by acquiring the American network technology supplier Juniper
Networks Inc.
While Ericsson doesn't exclude big acquisitions, a potential bid
for Juniper is "a very theoretical question," Mr. Vestberg said to
The Wall Street Journal.
Ericsson's primary focus is on creating organic growth and
executing on its plans to become more software and service-centric
company, Mr. Vestberg said.
Write to Juhana Rossi at juhana.rossi@wsj.com
Access Investor Kit for Nokia Oyj
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=FI0009000681
Access Investor Kit for Alcatel-Lucent SA
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=FR0000130007
Access Investor Kit for LM Ericsson Telefon AB
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=SE0000108656
Access Investor Kit for AT&T, Inc.
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US00206R1023
Access Investor Kit for Alcatel-Lucent SA
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US0139043055
Access Investor Kit for Apple, Inc.
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US0378331005
Access Investor Kit for LM Ericsson Telefon AB
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US2948216088
Access Investor Kit for Nokia Oyj
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US6549022043
Access Investor Kit for Verizon Communications, Inc.
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US92343V1044
Subscribe to WSJ: http://online.wsj.com?mod=djnwires