Nokia Corporation

Hello and welcome to the Nokia second quarter 2020 earnings conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star then two. Please note, this event is being recorded. I would now like to turn the conference over to... Hello, Mr. Chimao, you may begin.

Okay, wonderful. Ladies and gentlemen, welcome to Nokia's second quarter conference call. I'm Matt Chimao, head of Nokia Investor Relations. Rajiv Suri, president and CEO of Nokia, and Christian Polola, CFO of Nokia, are here with me via conference call today. During this call, we'll be making forward-looking statements regarding the future business and financial performance of Nokia and its industries. These statements are predictions that involve risk and uncertainties. After results may therefore differ materially from the results we currently expect. Factors that could cause such differences can be both external, such as general economic and industry conditions, as well as internal operating factors. We have identified such risk in more detail in the section titled Operating and Financial Review and Prospects, Risk Factors, of our 2019 Annual Report on Form 20F, Our financial report for Q1 published on April 30th on Form 6-K as well as our other filings with the U.S. Securities and Exchange Commission. Please note that our results release, the complete interim report with tables, and the presentation on our website include non-R4S results information in addition to the reported results information. Our complete financial report with tables available on our website includes a detailed explanation of the content of the non-RFRS information and a reconciliation between the non-RFRS and the reported information. With that, Rajiv, over to you.

Thanks, Matt, and thanks to all of you for joining today. I hope you are continuing to stay well and safe amid the COVID-19 pandemic. I'm pleased to say that our second quarter is another proof point that we continue to make strong and meaningful improvements in our business performance. We have been consistent in saying that we are taking the right steps to deliver progressive improvement over the course of this year, and in my view, we remain on the right path to deliver on that promise. In fact, we went into the second quarter with some concern given the ongoing pandemic, but we ended being quite pleased with where we landed. Consider the following highlights. First, year-on-year profitability was up. Non-IFRS diluted earnings per share was 6 euro cents, up 1 cent. Nokia-level non-IFRS operating margin was up 40 basis points. Nokia-level gross margin was back to around 40%. Networks gross margin was up 450 basis points, following a 350 basis point gain in Q1. And mobile access gross margin was up significantly. Second, we saw significant improvement in cash generation. We ended Q2 with 1.6 billion euros in net cash, up from 1.3 billion in the previous quarter, and total cash of 7.5 billion euros. Pre-cash flow in the quarter was positive 265 million euros versus negative 1 billion in Q2 2019. Given our strong first half improvement, we now expect pre-cash flow for full year 2020 to be clearly positive compared to our earlier guidance of positive. Third, even if revenue was down by 11%, the majority of that decline was the result of the impact on our business from COVID-19, as well as a significant drop in sales in China, given the prudent approach we have taken in that market. We also saw a reduction driven by our proactive steps to reduce the volume of low margin services business. In terms of the pandemic, we saw a top line impact of about 300 million euros in the quarter, and most of that we expect will be shifted to future periods. Based on this solid improvement, I would like to spend some time talking about the underlying why, about the drivers that we believe have supported this outcome. We had both a favorable product mix, more capacity, less deployment services, as well as regional mix with more North America and less China. While some of this will likely continue in the near term, we would expect it to be slightly less pronounced compared to the just ended quarter. I would note on the capacity topic that we saw better than expected results from our 4G LTE business in the quarter. What has been a capacity phase in some markets has now become a worldwide development. This has happened slightly faster than we anticipated, possibly driven by network requirements during the pandemic, and we expect it is here to stay for some time. Ultimately, however, we believe that a key driver of the gains we have seen so far this year are based on underlying structural improvements. To give more perspective on this topic, I would like to spend the rest of my time on four key areas. One, mobile access and the improvements in that business. Two, our actions to strengthen cash generation. Three, progress within our business groups. and four, progress in our strategic diversification in enterprise and software. Let's start with mobile access. We have said that executing in mobile access is one of our top two priorities for 2020. To do that, we said we would improve profitability through consistent product cost reduction, maintain the scale necessary to be competitive, enhance commercial management and deal discipline, and strengthen operational performance in services. In each area, progress continues and results are becoming more and more apparent. In terms of product cost reductions, our shipments of our 5G powered by ReefShark continue to grow. In Q1, those shipments were 17% of our total 5G deliveries. In Q2, we landed at 25%. We believe that we remain on track to reach 35% or more by year end. And more is very possible. although that is dependent on the speed of customers transitioning to new technology during the pandemic. In terms of roadmaps for our mobile radio products, we are making meaningful progress in closing gaps to the competition where they exist. Those gaps are certainly not everywhere, and in some areas we are ahead. And I've seen that perspective validated in recent customer assessments. As examples, when you look at the next generation technologies that will be critical for the future, such as VRAN, Cloud RAN and Open RAN, Nokia is in a leadership position with our globally available solutions. We're also differentiated by the breadth of our massive MIMO and 5G small sales portfolios. You may also have seen that in June, we announced our collaboration with Broadcom on system-on-chip technology that will be integrated into our 5G powered by ReefShark portfolio. This builds on earlier agreements with Intel and Marvell and completes our efforts to diversify our supplier base in this critical area. For those of you interested in more details on our progress in mobile radio, I would encourage you to go to Nokia.com and look at the blog that Tommy Uito, president of our mobile network business has posted today. In his blog, Tommy covers some key changes we have made, including a doubling of system on chip developers, increased R&D velocity by approximately 50%, new leadership and clarified accountability. A transition to a large-scale agile development model with end-to-end feature teams, resulting in better software quality and faster time to market with the flexibility to adapt to changing market requirements and much more. These efforts have resulted in a broad-based improvement across essentially all of our key operational KPIs for the business, including Software Release Delivery Accuracy, Hardware and Software Quality, Feature Development Efficiency, and as I've noted, Roadmap Competitiveness. In short, we are moving fast to ensure that our entire mobile product portfolio is extremely competitive. Then, maintaining scale, where we continue to track to our plan to have 4G plus 5G market share excluding China at around 27% at the end of 2020. We are now at 83 commercial 5G deals and 32 live network deployments with more to come shortly in book. We're also well positioned in large-scale mid-band radio with products deployed to 55 customers and the first live C-band network demonstrated in the U.S. This means that we have a solution ready to go for when spectrum auctions are completed in the U.S. later this year. Our confidence is supported by our win rate. At the end of Q2, our 5G win rate remained strong at over 100% outside of China. Including China, we moved into the low 90th percentile from the midpoint of that range, given our continued prioritization of our R&D to meet future requirements in more profitable markets. The next point I want to make about mobile access relates to enhancing commercial management and deal discipline. As I've discussed before, we have strengthened many of our core processes and reinvigorated governance for deal approval. This methodical approach is particularly important as vendors seek to maximize footprint gains in the early stages of 5G. At Nokia, we will take steps to maintain sustainable market share, but we will not do so by going down the rabbit hole of pursuing deals that make no sense over the longer term. We are seeing the results from this strengthened approach. When we look at approved deals that will be executed in the future, we see an uptick in projected gross margin, operating profit, and return on capital employed compared to earlier periods. This is not just a one-quarter event, as we have seen similar developments going back to Q4 2019. It is another factor that gives us confidence that we are creating sustainable change. My final point on mobile access is improving operational performance in services. Mobile access services saw a revenue decline in the second quarter, but some of that was the result of a conscious strategy to exit unprofitable projects and reduce future low margin business. We also saw a significant COVID-19 impact to our services business in the quarter, as well as an expected slow ramp up with a key customer in North America. That ramp up should accelerate in the second half. Pleasingly, despite the revenue decline, profitability in services was down just slightly in the quarter. which testifies not just to our strict deal approach, but to the underlying work we are doing to ensure stronger operational discipline, better project execution, and increased automation. Not only has this work benefited our performance, but it has driven better customer satisfaction with our most recent survey showing a significant upswing in our ratings. The second topic I want to talk about, albeit briefly, is our other top priority for 2020. strengthening cash generation. I already talked about our much improved outcome in the second quarter. This was driven by the structured program that we put in place some time ago that included a centralized war room to drive a company-wide focus on free cash flow and release of working capital, project asset optimization, strengthen contractual terms with customers and suppliers, reinforce controls across our supply chain, ensuring the right people have the right incentive targets, optimizing inventory and more. Our discipline and focus in this area is clearly delivering results. We believe the work we have done has put in place the right processes to deliver sustainable progress in this critical area. The third topic I want to cover is about the progress we are making in the performance of our various business groups. While I talked about mobile access already, I would like to cover some other developments, starting with fixed networks. where we are clearly seeing signs of improved execution. Our fixed business grew in mid single digits in Q2 excluding China with robust profitability. Orders improved on a year-on-year basis and we have visibility to longer term opportunities particularly in fiber deployments that stem from the response to COVID-19. We've also taken the step, as you have seen earlier this week, to streamline the fixed network business by selling part of our cable industry portfolio to Beth Emma Networks. This asset sale concerns our gain speed portfolio, although we will continue to serve existing cable customers with fiber, software, routing, transport, mobile, and fixed wireless access solutions. The fixed team logged some good wins in the quarter, including one with open reach. that significantly extends the operator's full fiber network capacity and coverage in 20 million homes in the UK. And one with National Broadband Ireland to deploy fiber broadband solution for 540,000 rural premises in Ireland. Then, our IP routing and optical networks, our ION business group. On the IP routing side, sales were down in Q2 versus last year, but it is important to remember that in the first half of last year, we were catching up from the supply chain shortages we experienced towards the end of 2018. When you adjust for those catch-up sales, routing would have been roughly flat year on year. We are confident that our position in routing remains very strong, with excellent Q2 profitability, clear product leadership, and healthy market momentum. As one example, we ended the quarter with more than 220 customer projects underway using our new FP4 chipset, and around two-thirds of those projects involved either new footprint for Nokia or Nokia displacing a competitor. As we have said in previous quarters, we believe we are clearly gaining market share. I hope you all saw our announcement shortly after the end of the quarter that we were expanding our IP routing business into the data center networking market. Our approach is unique, a true clean sheet rethink designed to give control back to cloud builders. We co-developed our solution with leading global web scale companies, including Apple, who is deploying our technology at its data centers. We also have strong support from BT, Equinix, London Internet Exchange, or Lynx, Turkcell, and others. On the optical side, Q2 sales were soft, but orders in the first half of the year were excellent. We have faced some supply issues with a key vendor hit by COVID-19, but see that situation easing in Q3. Christian will cover Nokia technology, so I will limit my comments to note that gross margin was robust, although operating profit was hit by a sales decline driven by a one-off payment last year and the impact of the pandemic on brand licensing royalties. We continue to generate new intellectual property at a robust rate and expect to remain in the top two in 5G standard essential patents. Diversification continues as well, and as one example, we are seeing growing consumer electronics wins for Ozo Audio, which is now in 31 devices, including Panasonic, OnePlus, and Asus. Finally, let me cover the progress we are making in our strategic focus areas of Nokia Enterprise and Nokia Software. First, Nokia Enterprise, which had a terrific quarter. Constant currency sales growth of 18% was solidly in the double digits and margins expanded nicely. Driving this momentum was our web scale and private wireless business, particularly in the energy, manufacturing, and logistics sectors. In addition, we now have more than 180 private 4G and 5G deals and 83 new enterprise customers have been added so far this year as we continue to expand our footprint. Overall, I remain very pleased with the trajectory of this business. So far, our enterprise customer base has remained relatively resilient during the pandemic, and we continue to see a path to double-digit growth on a full-year basis. Next, Nokia Software, which had headwinds that we flagged in our Q1 commentary due to a particularly strong Q2 2019 comparison. When you look at software more broadly on a first half basis, constant currency sales were up in all its key growth markets, including North America, and down just in China and India, and its margins were healthy as well for the first six months. Nokia software continues to progress well against its strategy and against the competition, underpinned by strong execution and the comprehensiveness of our portfolio and common software foundations. This platform offers the industry's leading cloud-native multi-vendor and multi-network solutions combined with a robust partner ecosystem, and we continue to see the proof of that in our deal win rate. For the sake of time, I will keep my regional comments very short. In China, sales declined significantly based on the prudent approach we have taken to the market. While year-on-year sales were down 2% in Europe, there are early signs of a recovery in that market as the COVID-19 pandemic becomes more under control and transition to 5G accelerates. In India, part of our reported Asia-Pacific business, we saw some negative impact due to ongoing market uncertainty, although we continue to believe we are number one in India. In APJ, excluding India, we grew in the quarter, showing our widespread strength in the region. Latin America has been hit very hard by the COVID-19 pandemic, and that had a significant impact on our sales in the region. Middle East and Africa is facing a somewhat similar situation, although to a lesser extent. In North America, sales were down 4% year on year, a better result than the company as a whole. This region was unfortunately hit by supply issues resulting from COVID-19. There is a considerable amount of activity in the market related to the now completed merger of T-Mobile and Sprint, preparation for the release of additional mid-band spectrum, operators assessing their cloud strategies, and more. Enterprise demand also remains robust, especially wide area network builds by utilities, and we are preparing to expand into the US federal business in the coming quarters. Even if we had some challenges with US customers related to our radio portfolio in the past, many of those issues are now largely history. Despite those issues, if you look purely at mobile radio product capability, we think we are well positioned given our robust mid-band radio portfolio and announced plans to accelerate in ORAN and VRAN. My last comment about regions is related to geopolitical trends. In the past, we have said that we were watching the situation closely and were ready to meet customer needs. That remains true today, although unlike what we have seen before, we are now seeing concrete mid-term opportunities emerging. As those develop further, we believe we are well positioned in terms of both product capability and capacity. The underlying issue remains a topic for governments to resolve, but we are ready and able to provide any necessary support. Last quarter, I finished my remarks by touching upon our sustainability strategy, and I want to do the same again today. At Nokia, we strongly believe that connectivity and technology will play a key role in helping solve future challenges. Sustainability is a broad topic, and as a company, we have chosen to focus on climate, integrity, and culture. On climate, we continued our project to recalibrate our existing science-based targets according to the 1.5 degree Celsius warming scenario, and we are seeing progress in commercializing solutions that decrease network-related emissions. With regard to integrity, in addition to our well-established processes, we launched new training in the quarter covering our human rights policy. Additionally, following the launch of our COVID-19 donation fund in Q1, we continued to engage with local organizations such as hospitals, community groups, and NGOs in nearly 50 countries, helping them fight the pandemic and mitigate its impacts. And regarding culture, we continue to promote a culture of inclusion and diversity with a focus on accelerating our progress on increasing the share of women in leadership. With that, let me hand over to Christian.