Hello and welcome to the Nokia Strategy Update teleconference and video 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.
If you are also viewing the video webcast, please remember to mute the audio on your computer before asking your question, as there is a 30-second delay. To ask a question, you may press star one on your telephone keypad. To withdraw your question, please press star two. Please note that this event is being recorded. I would now like to turn the conference over to Mr. Matt Shimao, Head of Investor Relations. Sir, you may begin.
Ladies and gentlemen, welcome to Nokia's Strategy and Operating Model Update. I'm Matt Shimao, Head of Nokia Investor Relations. Pekka Lundmark, President and CEO of Nokia, and Marco Wirén, CFO of Nokia, are here with me via teleconference and video today. During this call, we'll be making forward-looking statements regarding our future business and financial performance, and these statements are predictions that involve risk 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 more detail in the section titled "Operating & Financial Review and Prospects - Risk Factors" of our 2019 Annual Report on Form 20-F, 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 presentation includes comparable figures in addition to the reported results information. Today's stock exchange release and presentation can be found on the Investor Relations section of the Nokia website. With that, I would now like to turn the call over to Pekka.
Thank you very much, Matt, and thank you, everybody, for joining us today. We've been looking forward to this event quite a lot because, as promised, we are today going to provide an update on the strategy and operational model work. We gave you some basic principles in connection with our Q3 result a few weeks ago, and this is one step, in a way, midway update on our road towards the Capital Markets Day in March.
I'm going to be talking about the world around us, then I will explain to you what the current positioning and, in a way, the key drivers in our business groups are. And then after that, Marco will zoom deeper into the principles of the operational model and capital allocation and some other financial matters as well.
Before I talk about the world around us, I would like to emphasize that this is going to be a longer journey. This is going to be a three-year journey. As we have said earlier, next year will be challenging. Of course, 7%-10% expected comparable operating margin is not a bad starting point for this journey. Of course, our longer-term ambition is higher than that.
The interesting thing is that we expect to achieve that 7%-10% despite the fact that we are investing a lot in Mobile Networks. As you will have seen earlier in our release today, we expect Mobile Networks to approximately break even in terms of profitability next year. Despite that, we expect 7%-10% for the group.
Before talking about the businesses and profitability drivers, couple of comments about the world around us and especially what's going on in terms of the role of technology. Unfortunately, as we all know, COVID-19 is not the only challenge that the world is facing. Pressure on the planet is increasing.
We have far too high CO2 emissions. COVID-19 is only temporarily taking them down. When the world returns to normal, hopefully sometime next year, we are back to the same old story. There is an urgent need to reduce emissions. It's not the only issue we are facing.
We have serious issues about biodiversity, over usage of natural scarce resources of the planet, and many consequences that could, in the mid to long-term, be quite severe to the conditions of living on the planet. At the same time, productivity is stalling.
When you look at the big picture and compare how fast the productivity growth in the world was 20, 30 years ago, it's now 90% slower than it was then. We do have a productivity challenge in the world.
Very importantly, a third issue is that access to opportunity remains very unequal when we talk about opportunities to work, opportunities to get healthcare, education, and so on. The interesting thing is that technology will be, if not the only solution, but it will be a significant part of the solution.
5G is expected to add $8 trillion, 8,000 billion US dollars to global GDP by 2030. These technologies that we're talking about will be vital to dealing with the climate problems and many of the other problems that I mentioned.
We do believe that Nokia will have an opportunity to play a significant role in all of this. We have developed a concept of six strategic beliefs that I'm now going to go through with you. The first one is really that, referring to what I just said, networks play an increasingly important role in society, and they have a direct connection to solving some of these challenges that I mentioned.
This means, for us, that we will be able to extend our focus to serving so-called critical networks beyond the traditional CSP networks that we are today serving. Then the question is that, okay, what are these critical networks then that we are going to focus on? Critical networks deliver carrier-grade performance, high availability, and resilience. In addition, they are elastic and self-defined to offer tailor-made performance on demand.
They will have very high requirements, and in a way, they are advanced networks that run mission-critical services for companies and societies. They combine the best features of carrier-grade resilience and then what we have seen on the IT and internet web scale service side, elasticity and flexibility.
These type of networks will be in very high demand in the future. We will be talking about precision manufacturing. We will be talking about automated driving. We will be talking about transportation, logistics, new generation of energy networks, new generation networks for high-frequency trading, even then a little bit in the longer term, remote surgery, new types of applications for delivering, for example, healthcare to remote places of the world.
These are becoming increasingly important, and over the years to come, they will extend to all corners of society. This does mean that Nokia's addressable market, as I explained, will extend from what today is known as the CSP market, and then as a separate thing, the enterprise market. It will evolve towards critical networks that sometimes are run directly by enterprises and industries of this world, but very often they will be run by their partners.
That could be either current CSPs or new types of CSPs that we also expect to emerge on the market in the future. These are challenging networks to run, and because they require carrier-grade resilience, ultra-low latency, and a high degree of safety and security, very often I believe that enterprises and industries will opt not to run these networks themselves but rely on a partner. This is a segment that will provide very interesting opportunities for us going forward. This is the first strategic belief, critical networks.
The concept of critical networks. The second belief is that these networks will be built by our customers on a so-called best of breed approach. Which means that they will select different network elements and different parts of the network, usually separately based on a very careful and competitive analysis on total cost of ownership in relation to the expected performance parameters.
Of course, there can be cases and there will be cases where the customer buys the whole network in one project or in one deal, but we believe that this will be a clear minority of the cases. We are happy to participate in such cases, but we believe that most of the cases will be built on a best of breed type of approach.
Which leads to the third strategic belief, which is that technology leadership is absolutely necessary if we want to deliver economic value. We are seeing that today in Nokia's portfolio. In those segments where we can clearly show that we have a technology leadership that can be, in a way, hardwired and anchored in technical facts and getting the technology generations and their timing right, we immediately have a strong competitiveness.
If we do not have that technology leadership, then you don't have pricing power, you are bound to have a lower market share. Technology leadership is paramount, if you want to deliver economic value. It varies between segments that how many companies will have space on the market to deliver economic value. Usually, it's two, sometimes three, in exceptional cases, maybe four.
Leadership in practice will mean a number 1 or number 2 position or sometimes a number 3 position. That's absolutely necessary. We want to reestablish technology leadership in those segments where we do not have it currently. We have it in many segments that I will go through soon.
A very critical belief that we will apply is that in cases where we will not be able to establish or show path to economic value creation, we will reassess our segment participation. We will not automatically be in all different segments in cases we cannot show economic value creation. Number 5, another very important thing.
When we look at how these networks are constructed and how they are built and how the different parts of the network develop, we do believe that over time, value in these networks will migrate away from, in a way, monolithic systems towards silicon on one hand, and then software and services on the other hand.
You can choose different strategies to play for different segments, different ways to focus if you want to deliver value, but you have to be really strong in some of these sub-segments because that's where the value will be shifting to.
Important is also that when we look at the development of the network architectures, there's a lot of moves towards open architectures, disaggregation of network layers, and that means that there will be opportunities to capture this value through new types of business models.
As we have seen in many other industries, a general shift towards as-a-service type of business is something that we believe that will be increasingly visible in our case as well. Number six, another important point which is not only of a general importance for our businesses, that is long-term technology research to secure first of all our technology intellectual property portfolio, but also to make sure that in addition to the roadmaps that the businesses are designing, that we have enough long-term innovation going on that we can secure technology leadership, not only in the short and mid-term, but also in the longer term.
These would be the six strategic beliefs that are in a way guiding our work when we continue to work towards the Capital Markets Day in March. What we can say already today is that this will mean that our focus area will be to become a trusted partner for critical networks for our customers. Of course, once we do that, the ultimate goal will then be to deliver value to our shareholders.
I already said that we will have a pretty rigid and systematic approach to selecting where to play and where not to play, and we will only accept plays that have a path to shareholder value creation.
I already a little bit touched on the what side secure technology leadership that can mean many things. In many cases, we are seeing a direct connection between our ability to deliver competitive custom silicon that will be the kind of the core of some of the products that we are making and our competitiveness.
We are actually seeing that today very well that in cases like in IP routing and now also in fixed access where we are getting it right in terms of the generations for custom silicon, we are actually extremely competitive on technology, that then gives us pricing power and market share and economic value.
We are also making a strong pivot to cloud and software, and I will talk more about that when I talk about the new business that we are starting on the 1st of January, which is called Cloud and Network Services.
The third element, we will continue to strengthen our long-term research and patent portfolio. That is, of course, a business that is highly profitable and it is really one of the best places for us to invest in order to deliver good shareholder returns going forward.
That would be some of the strategic principles, and then I will move to the four businesses that we will be reporting from the beginning of next year. The first one is our Mobile Networks business that will be led by Tommi Uitto.
For the last 12 months, ending at the third quarter of this year, this business was approximately EUR 10 billion in size. Here, our main objective in the short to mid-term is very clear that we want to repeat our 4G success in 5G, and I'll talk about that actually quite a bit because that's clearly the number one goal that we have here.
Before that, I will talk a little bit about the current market position. Mobile Networks market, this is excluding the core network, which will be part of the Cloud and Network Services market.
This market is currently roughly EUR 43 billion, and it's expected to grow about 1% per year. There are growth pockets inside this market, and enterprise wireless is clearly something that is expected to grow much faster than the overall market. Over time, we also expect that O-RAN and vRAN segments of this market will also be growth drivers. We have currently, if we exclude China, we have approximately 27% combined 4G, 5G market share.
This is for the last 12 months. Interestingly, this is not that different between 4G and 5G. The same 27% applies also to 5G outside of China. We are also, in addition to second position, number 2 position in 4G and 5G outside China, we are number 2 in rollout services globally.
Of course, as an organizational move, as you may recall, when we are putting together this segment Mobile Networks, we will include not only the mobile access products, base stations, et cetera, but we will also include the related network management software, and we will also include the deployment services. The expected profitability for this business, as most of you have seen in our stock exchange release, next year will be around zero.
Marco will talk a little bit more about that in his part, but we will introduce a new reporting concept which will be more transparent than the previous one. We will stop talking about non-IFRS results, but we will introduce a concept of comparable operating profits, where we will explain the difference between reported operating profit and comparable operating profit in quite detail.
Comparable results will exclude amortization of acquired intangibles, restructuring, and other items affecting comparability, and there will be full disclosure on these items. The expectation is roughly zero profitability, longer-term significant improvement. Next year will be a challenging year, and in connection of our Q3 results, we're talking about some of these issues that are facing us.
There is a top-line challenge despite of the 27% market share, but we have a top-line issue with one of our largest customers in North America. In addition to that, there is quite strong margin pressure and price pressure affecting the whole market, especially in North America.
When you combine that with the fact that we are actually increasing our R&D investment in this segment, that creates the combination of top-line and cost that is expected to deliver roughly zero profitability next year.
On the turnaround and the development roadmap itself, I have to say that I'm really optimistic about how things are going. When I look at the recent development, we now have 133 commercial 5G deals. We have 65 public 5G references, and we have 42 live 5G networks. In addition to this, we have a strong position in private 5G-based wireless networks.
We have really recently increased our R&D productivity and also R&D velocity a lot. We have increased our 5G R&D capacity with 40% since January 2019. We have tripled the number of System on a chip engineers and doubled the number of certain segments in software development, such as beamforming. The feedback from customers is growingly encouraging.
We have closed, as you have seen, significant deals recently. We have currently 5G business with all top 3 CSPs in Japan, all 3 key CSPs in the South Korean market. We are the only non-Korean vendor that is working on 5G with all South Korean operators. We are also working with almost all top European CSPs.
In addition to that, despite the recent decision by one of the American customers, we continue to have a very strong position in North America. Clearly, the product development is delivering the target for ReefShark system on chip share of all shipments by the end of this year is over 35%. We are on track to achieve this target. The target for the end of 2021 continues to be approximately 70%.
Clearly, in those parts of the feature set where there has been gaps, that is narrowing, and there are already now quite a lot of cases actually where we are either on par or even ahead of competition. This journey is not over yet, of course, it will take until 2022 before 100% of new shipments will be ReefShark based.
That's then the ultimate time when the entire cost challenge that we have had because of the FPGA chipsets instead of systems on chip will have been solved. That's the situation in Mobile Networks. Target, to improve profitability significantly in the longer term. The second business that we will report from the beginning of next year, that will be called Network Infrastructure.
You may recall that there was an earlier name, IP and Fixed Networks. There is also Optical Networks. There is the Submarine Network. We decided to call this business group Network Infrastructure. The objective of this is obviously to be the world's most trusted partner with best-of-breed solutions for the most critical networks in the world.
Now we want to up our position a little bit more in the various segments that we have. Here you see that our market share globally in CSP routing is 18%, optical networking 11%, and fixed access 19%. If we take these numbers excluding China, they would be 25%, 17%, and 32% respectively. In IP routing, we have market-leading routing silicon, routing software, and network automation and analytics capabilities.
This is a segment where we have a strong position, and it will be further strengthened through the next product introductions that we have in the pipeline. In Optical Networks, our market share is lower, but we have recently made some very important technology introductions.
The market, and I'll talk about those just in a second, but the key market driver for Optical Networks is actually very attractive because it is basically the same 5G deployment that is going on that is driving Mobile Networks demand. It requires that for the edge cloud architectures, the backhaul, mid-haul, and fronthaul connections will need to be upgraded in capacity, and this will lead to a lot of investments by the owners of these networks.
Then in Fixed Networks, the key driver obviously is fiber build-out and fiber to the home build-out, which is not mutually exclusive with 5G. We believe that our customers will invest in both. Then in Alcatel Submarine Networks business, that's an interesting segment as well, where we are a leader in the whole world at the moment.
That is a fast-growing business at the moment, which is turning to profitability. We'll give you more information at Capital Markets Day, it is in a pretty attractive way driven by the investments in submarine networks by the web-scale customers of this world. Strategic imperatives for this is, first of all, to expand leadership in IP routing for CSPs.
Also to gradually expand the market position that we have in CSPs to enterprise and web scale. We continue to invest in custom silicon for high-performance needs. We also invest in data center switching solutions, which are often based on various software solutions.
In optical networks, we have recently launched a new generation chipset, PSE-5. PSE stands for Photonic Service Engine. That will be our kind of key element of driving our transition from the 100 gigabit per second capacity to the 400 gigabit per second capacity.
In addition to that, in 2021, the positive effects of the acquisition of Elenion will start to be visible, and that will drive cost efficiencies with silicon photonics, which is obviously a growing technology trend in this segment of the market.
In fiber access, we have also recently made a very significant technology and product launch with our 25 gigabit per second PON passive optical network solution, which is now at a pretty attractive time when fiber deployment and fiber to the home is increasing in importance. It's taking a technology leadership position actually in the whole world.
When you combine that with the market shares that you saw earlier, that puts the fixed access business in a pretty interesting position. This in addition to the fixed wireless access, which is also a growing segment. Last but not least, for this business, we want to expand our leadership position in submarine networks, which I already explained will be a growth segment going forward as well.
To the next business, which will be roughly EUR 3 billion. What I forgot to mention about the previous business, still you probably saw it, but current situation or next year, high single-digit for Network Infrastructure, and then longer term goal will be gradual improvement. To Cloud and Network Services business. Approximately EUR 3 billion business for the last 12 months.
The objective is clearly to create value by leading the transition to cloud-native software and as-a-service delivery models that I was talking about earlier. This is really our pivot to that world. This is also a fairly large market, EUR 26 billion in total today. It's important to zoom deeper into this market and understand that what the attractive growth segments of this market are. We have a strong starting position.
We are number one in telecommunication software and services. This is a fragmented market, as you can see on the 7% market share. We are also a leader in cognitive automation and in industrial private wireless. Our starting point for this is strong, but it's very important to understand that what this EUR 10 billion market, which is expected to grow 14% per year to EUR 16 billion by 2023, what that includes.
That includes the cloud-native software, advanced cognitive services, as-a-service delivery models, and various types of Industry 4.0 solutions. That's the list of innovative solutions that we will be focusing on in this market. This means that from the starting point, which is actually a collection of various businesses where we are in at the moment, about mid-single digit profitability, we see a potential for significant improvement over longer term.
Again, strategic imperatives listed here already mentioned to a large degree, transition to cloud-native, leadership in private wireless, and transition to as-a-service delivery models. The fourth business, approximately EUR 1.4 billion, for the last 12 months, our technology licensing business, which is number 2 in technology licensing in the world.
On this slide, you see a list of various deals or agreements that we have reached over the past few years. There was one more quite important 5G agreement actually signed in the third quarter this year, but unfortunately, we are not able to disclose the name of that customer.
What I can confirm is that we have a portfolio of approximately 20,000 patent families, including, and this is really important, including about 3,500 5G standard essential patent families.
Recently, an independent report concluded that Nokia is number one in the world for ownership of granted patents that have been found essential to the 5G standard. This does give us a strong foundation to build on. What we are going to do is to continue to invest in 5G and multimedia research and standardization, to continue to further develop and renew the patent portfolio.
Of course, a very important goal is to renew the major mobile device deals at as favorable rates and as possible. There are still some uncontracted vendors that we are approaching. In addition to that, in addition to 5G mobile customers, we have a goal to gradually diversify to new segments.
Here, automotive and certain segments of consumer electronics are the most important segments. For example, to leverage our multimedia assets. The number four goal of this business is to build brand partnerships to grow the value and develop new opportunities for the Nokia brand.
These are the four businesses, and then this whole thing will be supported by quite a big exercise that may perhaps look small when you look from outside, but believe me, this is really, really big. We are refreshing our operational model.
It's not only that we are building these four business groups that will then be tied together in the customer interface through our account teams and the customer experience organization, but it also means that we are actually building a very lean corporate center. Marco will talk a little bit more about this.
This is a big transformation, and it will not be done overnight. This is a fundamental change in philosophy. We want more accountability, but more decentralized decision-making and a leaner, competent, yes, but leaner corporate center.
We want to decentralize more, not centralize more of the decision-making. Really making the business group leaders that you saw on the previous slide fully accountable for the products that they develop and also the success of the products on the market.
These four businesses will be supported by a strategy and technology organization that will be responsible for the long-term research and working very closely with the technology licensing business.
Not only that, also scouting technologies, startups, establishing cooperations with research institutes, and continuously challenging the four business groups as to what will be possible on technology. 4, in a way, perhaps more traditional corporate center functions, the finance organization, then corporate affairs, legal and compliance, and people. With that, over to Marco.
Thank you, Pekka. Hello from my side as well. I will touch upon four different areas now, and I start with why a strong capital structure is important for us and how we're driving improved focus on capital allocation as well. The second item is that how we're creating long-term shareholder value by prioritizing towards the areas where we can lead.
Also, I will get back to that, Pekka just mentioned about the lean corporate structure and why it's important for us. I end my presentation here with that we are highly committed to clear and transparent reporting and communication. With this, I will start with our capital structure.
Actually, customers see a strong capital structure as a sign of strength, and that reflects our ability to invest in R&D as well and drive that technological leadership that we need to do. In addition to that, also our customers want to have a long-term partner when they invest in a huge networks. This is a long-term journey, not a one-off deal.
That's why it is important for us that we show that we have that strong capital or financial position over longer term as well. In connection with this, we also have a target that we aim to investment credit rating. Also we've stated before as well that when it comes to the liquid assets, we want them to be about 30% of our net sales.
How we are working with this, we actually think that each of the capital allocation decisions should be done exactly like any investment decision and thinking, which means that we are looking into is that right area and what is the return of that investment, and that's where we allocate our resources as well when it comes to financial resources.
Then of course, we have a very stringent performance management, so we will follow this up just like any other investment. There's a little bit change in the way we are doing that today. Of course, when we see that businesses are now responsible, they have the clear P&L responsibility. We will also focus more on the capital returns from businesses.
We will assess basically doing a portfolio analysis on a continuous basis, not only at the group level, but also the same task has given to the new presidents of the businesses. They will do continuous evaluations of their portfolio and offerings that they have so that we can drive that value in these businesses. Consistent with our capital structure philosophy, we have a clear set of capital allocation priorities as well.
Of course, the primary focus is deploying capital to R&D in the areas where we want to win. We want to drive that technological development, and that is primary focus. We have also other investments in our core businesses that we can see that they will create shareholder value. Value creation again is the key here. Of course with these, we can provide shareholders the capital returns.
Of course, when we are now looking into financial targets and coming back to those at latest at the Capital Markets Day, we'll also look into the dividend policy. We'll get back to that as well. Then going to value creating long-term shareholder value and how we prioritize our capital. Focusing on the best of breed vendors, just like Pekka mentioned earlier, is extremely important for us .
That's why it is important that the businesses feel they are empowered to do what is needed to improve the businesses step by step continuously. That's why when we set the targets as well, we look what is our capabilities, what is the technological development, how is the market outside of us looking, and how are customer investment plans developing.
That's the way we set the targets on businesses, and as I said, the thinking is that they have to improve their business operations continuously. It's not longer justified to just exist because you're part of the end-to-end offering. This is very clear change that we have. When our business leaders have this empowerment, accountability, and responsibility all the way from top line to bottom line.
They have power to change what is needed in their businesses. This is why also we want to change the corporate function cost base. If we now go to that section as well. Why is it so important in this new operational model that corporate staff functions are lean? Today, the situation is quite different.
We actually have a lot of people in corporate functions. We are now moving all the costs and headcount to BGs, and keep lean, focused headquarter functions. Just an example, giving you numbers here, we are moving about 14,000 full-time employees from corporate to BGs.
How we've been doing this earlier is that we have been allocating that cost based on a key, usually net sales, to the business leaders, which means that big part of their cost, they actually haven't been able to influence.
Now the situation will be different. To the reporting. As I said, clear and transparent reporting is our target. The ambition is that now we will have this new operational model with clear four business groups with the committed P&L responsibilities. We aim to report those exactly the same way as we are following it internally.
We will show you P&Ls on these four business groups on a quarterly basis in our interim reports. We hope that all this will be easier for you to assess the value of these different businesses, and especially when you're doing some of the large valuations. We hope that now it's easy to do.
Another issue that we will change is that we will implement again a regular cadence of Capital Markets Days. I know the last time we had a Capital Markets Day was actually 2016. Now we're going to do those more regular basis as well. The next one is next year, March 18th. I hope that you all can join that meeting as well, and let's see if that's going to be a physical meeting or if it's going to be virtual.
Back to Pekka's comment about the reporting. We want to simplify the reports as well. It's clear for you and easy to find the information which is important for you. Just like Pekka said, we'll not use the term non-IFRS, but we'll use term comparable operating profit. We will show that very easily, just like here in the slide, the bridge between reported results and what is the comparable results, and all the items which are affecting the comparability.
We believe that the new reports that we will present from Q1 2021, it will be easier for you to see what is the underlying business performance. Also it will be easier for you to compare Nokia with our peers. I end my presentation here and turn back to Matt for Q&A. Thank you, Matt.
Thank you, Marco. For the Q&A session, please limit yourself to one question only as a courtesy to everyone else in the queue. Cole, please go ahead.
Thank you. We will now begin the question and answer session. If you're also viewing the video webcast, please remember to mute the audio on your computer before asking your question, as there is a 30-second delay.
To ask a question, you may press star then one on your telephone keypad. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. And at this time, we'll pause momentarily to assemble the roster. Our first question today will come from Dominik Olszewski with Morgan Stanley. Please go ahead.
Hi. Good afternoon, everyone. Just the one question focused on the philosophy for R&D spending. Obviously, today you've emphasized the value of R&D and the importance of technology leadership. Are you protecting the R&D budget spend next year? To put the question another way, are you willing to accept a negative operating margin in Mobile Networks, or is the R&D spend effectively limited by the ability of Mobile Networks to show a flat margin?
The reality when you talk about R&D is that those costs are something that you can very easily drive up or down. We are looking at a certain R&D target, which of course, can be flexed a little bit up or down, but it's still fairly rigid because you're talking about people and you're talking about hiring people.
That expected profitability for Mobile Networks is approximately 0%. Of course, there is always a potential swing factor, and there are uncertainties up or down because we do not know exactly yet how much next year's top line will be. There are still deals to make to complete the volume picture for next year.
Thank you, Dominik. Cole, we'll take our next question, please.
Our next question will come from Sebastian with Kepler Cheuvreux. Please go ahead.
Yeah. Hello, everyone, and thanks for taking my question. It's Sebastian from Kepler Cheuvreux. Your competitor has started IP contracts renegotiation with couple of its large patent licensees, notably to include the 5G technology into patent agreements. Have you started renegotiations with your licensees around 5G? Any update there will be very helpful. Thank you.
Thank you for the question. I understand the question based on what you've seen, Ericsson. Actually, what we believe is that we have a very good patent portfolio. Just like we mentioned earlier, on the 5G, we have 3,500 SEP patents, and we are a leading actor there. We believe that we have very good base here.
Of course, litigations are never something that we want to enter in, but sometimes it happens. It's very difficult to also say what is the outcome of this. What comes to the specific deals and so forth, we cannot go into details. I believe that so far we've been quite successful in those cases that we have had litigations. Usually, we do a very good evaluation before we enter the litigation. What is our ability to win? That's why I think we've been quite successful so far.
Marco, maybe just to add one thing, since you specifically asked about 5G patent deals. Yes, we do have already signed deals in 5G. We have been able to demonstrate our capability to kind of migrate from the era of 4G to 5G, also in the patent licensing business.
Thank you, Sebastian. Cole, we'll take our next question.
Our next question will come from David Mulholland with UBS. Please go ahead.
Hi, thanks for taking the question. Just in terms of the reorganization within the business, one of the challenges, I guess Nokia's faced for the last few years is driving coordination between what were historically separate business units, even within Alcatel and Alcatel-Lucent, and then combining with Nokia within Mobile Networks.
Where do you think you are on that, and the ability of the company to move forward with, I guess, with one agenda and everyone singing from the same hymn sheet? I'd love to just get your take on, yeah, where we are in that transition.
Thank you. That's a great question. I believe that this simplification of the whole operational model will play a really key role in this. What we have done is really designed these four businesses around customers' typical buying situations. The current organization that is still valid until the end of the year, in many parts of it is actually fairly complicated.
The current management team is 17 people. It is very large. From the beginning of next year, it will be 11 people. A couple of concrete examples. One is that in today's model, even in a fairly straightforward mobile access deal, there are five management team members that are in a way, partially responsible for that deal, and that takes a lot of coordination and effort and everything. From the beginning of next year, it will be very simple.
It will be in one business group, that whole part of the network. The same logic follows to the other parts of the network as well. Each business has its clear strategic role. That's my first point. The second point is that, of course, as I said, these businesses will not operate in silos, and there are two places where breaking these silos will be extremely important, and the structure will make it easier than today.
The first one is the customer interface, where we are account teams that will be working with the businesses when they serve their customers. As I said, we are more than happy to engage in end-to-end type of network architecture or technology discussions with the customer.
The second thing is that I said that in addition to businesses in the leadership team, there will be a role called Strategy and Technology. One key task of that role and that organization will be the overall network and technology architecture, including the harmonization and management of the software stack architectures across the businesses. That's a great question, and I believe that this new model will be a fundamental element in addressing that challenge.
Thank you, David. Cole, we'll take our next question, please.
Our next question will come from Sami Sarkamies with Nordea Markets. Please go ahead.
Hi. Thanks for taking my question. You made it very clear that you would be ready to consider divestments in case businesses were not able to reach competitive margin levels. You did also discuss the margin upside in various business groups. My question would be that do the targeted improvements in profitability include potential impact from divestments, or would those represent additional margin upside?
These targets that we have now, as we have now presented them, is more or less following the current business structure. It's very important now, what I said in the beginning, that this will be a three-year journey. Now these businesses will start, remember, they will start on the 1st of January.
Now it's very important that we give them time to work on the strategies, value creation strategies, and then as we said in the beginning of the presentation, we will then discuss with the businesses to the extent there are segments where we cannot see a path for value creation.
That's then the point when, of course, reassessing the strategy for that particular segment comes into question. Also there, you mentioned divestments, but we have to remember that when we talk about strategic reassessment, there can be other ways as well.
There can be partnering, there can be different types of portfolio arrangements with some other players. You do this, and you do that. There's a multiple of different strategic routes that can be taken for those businesses that may not have a standalone path to value creation.
Sami. Cole, we'll take our next question, please.
Our next question will come from Sandeep Deshpande with JP Morgan. Please go ahead.
Yeah. Hi. Thanks for letting me on. My question is regarding, again, back again to your mobile infrastructure business. Your product has been less competitive over the last few years, which has caused some share losses.
There is huge opportunity in terms of share gains because of various geopolitical issues. How are you seeing that progressing at this point? Do you need that product to be at that 2022 level of productivity to be able to win significant footprint as is becoming available because of the issues in the market?
We don't need to wait until 2022 for that. We are actually seeing a lot of opportunities today. There has been some deals where these factors have been part of the logic behind. Our estimate is that we have actually caught over 40% of the value of such opportunities. We are getting there right now even with the current portfolio. No need to wait until 2022.
Thank you, Sandeep. Cole, next question, please.
Our next question will come from Achal Sultania with Credit Suisse. Please go ahead.
Hi, good afternoon. Can you just help us clarify one of the comments on the patents business? When you talk about keeping that business profitability at a stable level long-term, can you just help us understand how much of the contribution today is coming from the amortized portion of some of the deals that you have done in the past, where you've received an upfront licensing payment for future periods?
If that's the case, does keeping that business stable in the long term, does it mean that you have to win a lot more deals to offset the headwind as those amortized portion of revenues go away in the future at some point? Thank you.
Thank you. Very good question. What comes to the structure of deals, we have given you information earlier as well that about EUR 600 million is the difference between what we have as a profit and what is the cash flow. That's because of the prepayments that we have received earlier years.
This is varying a lot. We don't know how that's going to continue going forward. Will we get the prepayments again? Will they pay as we go? That is still open, and we see that on a deal basis, actually. What comes to the portfolio itself, as we already mentioned as well, we have over 3,500 5G patents already.
If you've just looked the development of 5G mobile phones, there's a huge development and estimates are that in 2023, for example, half of the mobile phones that are sold will be 5G mobile phones. We see very good opportunities. In addition to that, also video and IoT and in the automotive side, we see different opportunities and consumer electronics, just like we said earlier.
There's definitely a lot of opportunities going forward. Now, what we are guiding here is what we see right now, and this will definitely develop, and we will get back to you as well. If you just look the current patent portfolio, we have actually, these are very long-term opportunities here. It's not only next five years, it's actually more than that. It's up to 10 years and so forth.
These are very good patents, and these will be needed as well by many other companies.
Thank you, Achal. Cole, we'll take our next question, please.
Our next question will come from Andrew Gardiner with Barclays. Please go ahead.
Good afternoon, gentlemen. Thanks for taking the question. I just had another one on timing. First, a clarification. Pekka, when you say a three-year journey, I just want to make sure we're all on the same page. Are you therefore intending to achieve whatever your eventual target profitability and returns might be, say, late 2023, early 2024?
Then to the point you made on the continuous review of your competitive positions, in an earlier answer, you obviously acknowledged that this plan is going to begin on the 1st of January.
You've got to give them some time to execute the business plan. How long do you give them with a three-year journey in mind? Are these businesses going to have a year, 18 months? At what point should we expect to see some action around that, those reviews? Thank you.
I understand the question, there is no definitive deadline that I could quote. This will be a continuous discussion between Marco and myself and the leaders of the business. There can be different situations also from timing perspective. That three-year journey was not an indication that that would be anything particular about profitability guidance. It's more of an indication that we are now building or starting to build a solid foundation for the next years. This is something that will take time.
Three years, what does that mean? That is the period of time within which when you start from the basics and start investing in new operational model and getting the product right, increasing investment in R&D, getting the technology focus in a sharp order.
That's roughly what it takes before you can produce or expect any meaningful results. I'm not saying that there could not be improvements before that, but that's not a specific deadline for any of the targets that were published today, if you talk about the longer term targets that we were quoting for the different businesses. It's a continuous journey.
Thank you, Andrew. Cole, we'll move on to the next question, please.
Our next question will come from Francois Meunier with DNB. Please go ahead.
Yes, hi. Thank you for taking the question. My question will be relating to the Mobile Networks, building on the previous question, where you talked about several factors. If you're able to break down what the main levers of margin improvement will be that you're pointing towards from today's kind of break-even level in the longer term.
Will that, for instance, be more relating to scale, or do you see improvements on the gross margin side as the business transitions more to software, for instance? Do you see efficiency gains on the OpEx side, for instance? If you could give us some more color on exactly what kind of drivers you see on that side of the business to get to a more acceptable level of margins. Thank you.
Actually, all those drivers that you mentioned are important. Of course, top line and volume is extremely important. There again, we are still in the very early phases of the 5G cycle. Gross margin drivers, clearly product cost, which has a connection to the System on a chip roadmap and some other development initiatives that we have ongoing. It's not only these two, then it's also SG&A which will be under a lot of scrutiny, and this new operational model will be also there, I would say, an enabler, as Marco explained.
We are pushing quite much more direct responsibility of fixed cost SG&A in general to the businesses. I will have to ask you to wait for the Capital Markets Day before we may be able to give you more granularity as to where the future improvement would come from. I'm not able to, or I do not want to go into more detail on this one today.
Thank you for your question, Frank. Cole, we'll take the next one.
Our next question will come from Stefan Slowinski with Exane BNP Paribas. Please go ahead.
Great. Thank you, and thanks, Pekka and Marco for the presentation. I just want to come back to the question around that journey and maybe the destination of the margin. Can you say that it would be at least kind of in line with the targets the company's had in the past of around 12%-14%?
I think just based on your previous comment there, are we right to assume that that won't be a linear progression, and that even if we get improvements coming through in the near term from ReefShark deployment, those will be reinvested and more of the benefits could come in the later part of that journey?
The only annual or year-specific guidances that we are currently giving is, of course, for this year and the next year. As you saw, we opened up ourselves a little bit in terms of our longer-term ambition. More than that, we are not going to provide today.
Capital Markets Day will then be the opportunity to get and produce more detailed longer-term targets. We are not going to make comments on the longer term in a more detailed manner than what we said today.
Thank you, Stefan. Cole, we will take our next question, please.
The next question will come from Robert Sanders with Deutsche Bank. Please go ahead.
Yeah, hi there. I've just got a question on Mobile Networks. When is the earliest quarter when you could actually return to growth given FX and Verizon headwinds? I'm just wondering if it was doable by Q4 next year. I guess what I'm trying to understand is where are you relative to your previous run rate of that U.S. customer? How much is behind us and how much is ahead of us as we look into 2021 in terms of the negative impact? Thanks.
Now the line was breaking up, so I could hear only part of the question. Was it about us versus competition in product features or roadmap? Can you clarify, please?
Yeah, sure, Pekka. Sorry. Can you hear me now?
Yep. Yeah.
Yeah. Okay. The question was about Mobile Networks and what is the earliest quarter when you could return to growth given FX and Verizon headwinds. The reason I am asking the question is just because it is not clear to me how much is behind us in terms of Verizon impact and how much is still ahead of us? Could you potentially grow that business year-on-year by Q4 2021? Is that something that you think is achievable?
Unfortunately, I do not want to get into that because we are not yet providing top-line guidance for next year or any of the coming years. When it comes to Verizon, of course, we have to remember that they will continue to be among our top three customers also going forward. There is a lot of opportunities.
We actually recently published a DSS dynamic spectrum sharing software deal with them. We continue to work with them in many segments. We recently published a 5G private wireless deal with them as well.
We do not at all see it that way that we would somehow be excluded from some of the segments with them going forward. We are, of course, very strong on the software side and the core network as well. More than that, unfortunately, I do not want to say because we are not providing top-line guidance at this time.
Thank you, Rob. Cole, next question, please.
Our next question will come from Aleksander Peterc with Societe Generale CIB. Please go ahead.
Yes, good afternoon. Thank you for the update and thanks for the question. Just on the group comment on other people you're moving into business units. The 14,000 is indeed a huge number. It's about 14% of your workforce. I'm just wondering if you could put a number on what kind of savings you're targeting with this significant move of personnel across the organization. Thanks a lot.
Yeah, thank you for the question. In this first phase, we are now reorganizing the whole group, and we are moving people and entities to different places now. Of course, just like we said earlier, when BG presidents now have the empowerment and ability to actually assess the whole of their business and see what is the capabilities they need and what is the cost base that they believe is optimal for them.
After that, we can see what is the outcome of that. Before that, it's premature. Just like Pekka said, remember, they start with these new businesses 1st of January 2021. We will have to get back to you on that one.
Thank you, Alex. Cole, next question, please.
Our next question will come from Simon Leopold with Raymond James. Please go ahead.
Thanks for taking the question. I'd like to understand what you're saying to your customers, particularly regarding the potential for exiting some products or businesses. I have to imagine that could make them nervous. What kind of assurances can you give them? Thanks.
Well, this is precisely the reason why we are now working on the strategy on all of these businesses, including all the products. We have not made any announcements as to any strategy reassessments on anything. This is a discussion that obviously our customers are very interested in, and they do want assurances from us that we will continue to take care of them regardless of which strategy routes we would take.
This is a very important part of the way how we are developing this strategy. We are in continuous discussions with our customers around the overall strategy. I have to say that the general feedback from customers on this strategy has been fairly positive because they feel that this will clarify the way how they should work with us.
This will shorten the distance between the customer and the key R&D decisions and this whole kind of complex matrix management that has been quite visible in the customer interface. That will be simplified a lot. The ultimate goal, of course, is that we want to be in a position to serve our customers even better than today.
Thank you, Simon. Cole, we'll take our next question.
Our next question will come from Peter Nielsen with ABG. Please go ahead.
Thank you very much. I would just like to go back to the R&D spend, please. You have indicated, of course, that there will be several drivers of the improved profitability going forward, lower cost, better top line. Nonetheless, given your introductory comments on the evolutions of networks and the need to have technology leadership, I would suggest that a lot of this is related to R&D and increased R&D spend.
I believe that at the Q3 results, you indicated that R&D spend would increase by a few hundred million, which doesn't sound that much. If that will do it would indicate a very good return on that incremental R&D spend. Could you elaborate a bit on whether you are firm in your beliefs that this would be enough? Is it mainly a question of reallocating your R&D spend towards 5G? Any additional comments here would be appreciated. Thank you.
Thank you. I would say that the R&D spend that we believe is needed, that's what we are now putting in next year. It's not only reallocating more to 5G, we do that as well. If you look at the total R&D in Mobile Networks, we are increasing that, and we believe that we are already today in a very good position.
We have to remember that we are not starting from scratch today. We have done extremely good job in the past two years, actually. We have increased the efficiency of the R&D. We have improved a number of different areas there and having a very good traction. We believe that with these investments that we put in place right now, we can actually be definitely a leading position in near future. I don't know if, Pekka, you want to add something?
Thank you, Peter Kurt.
No. Sorry.
Go ahead.
It's exactly as Marco said, and maybe just one additional point. Now the BGs are working on strategies, and this work will of course continue. Part of the strategy work is, of course, R&D investments. From our point of view, there will be attractive opportunities to invest in R&D, but we will exercise a very high degree of scrutiny as to going through those R&D investments.
As I said earlier, there needs to be a credible path to value creation. If they are R&D investments where there is shareholder value creation visible, then of course it makes sense to do them. But how much exactly the total R&D will be over the coming years? That is not something that we are able to say at this time.
The assumptions as we have them today, they are now built in the business group strategies and the general ambitions that we have when it comes to the operating profit performance of those businesses going forward.
Okay. Thank you, Pekka and Marco, and thank you, Peter Kurt. Cole, we'll take our next question, please.
The next question will come from Richard Kramer with Arete Research. Please go ahead.
Thanks very much. When we look at your targets, both near term and longer term, they're less precise than Nokia has given in the past. You've stressed the accountability of each of the four business unit heads. In some past years, Marco, I'm sure you'll know, Nokia has had very large cash costs at the end of the year, the second quarter following the year, for employee bonuses.
Is that going to be made transparent to investors, whether these units are meeting their goals and what sort of cash liabilities it might involve for meeting these targets? Pekka, could you let us know, you have five other ELT members who were business unit heads.
Can you run through whether they are staying or leaving Nokia, and whether they'll be there to ensure the continuity that you described was going to be a sort of reset at the beginning of the year? Thank you.
I can start the question about the transparency, what comes to the bonuses. Bonus system, we actually are disclosing quite clearly what is the bonus method that we have. I understand, of course, it's not always easy to know exactly what is the cash cost of that, and so far we haven't been disclosing that. Let me take that as a feedback and we look what we can do about that just to make it more easier for you to understand what is the cash flow impact of those. Let's see what we can do about that.
Then the other part of the question. Of course, when we simplify and streamline the operational model, it does mean that there will not be as many seats on the group leadership team as earlier. Again, it will shrink from 17 to 11. I fully understand that if those members of the current team who will not have seats in the future leadership team, if they want to do something else, I respect that, and many of them have worked for us a long time.
From also their point of view, it may be time for change. Your specific question, Barry French, Marcus Weldon, and Sanjiv Ahuja, they will leave. That has been announced. We are discussing then with the remaining that in what capacity they could potentially be involved in the future. There are no definitive decisions on them yet at this time.
Thank you, Richard. Cole, next question, please.
Our next question will come from Amit Harchandani with Citigroup. Please go ahead.
Hello, everyone. Amit Harchandani from Citigroup, and thanks for letting me on. Given a lot of strategic questions have been answered, if I could maybe just go back to the Nokia Technologies business, please, just as a clarification.
You've talked about an impact of EUR 600 million between operating profit and FCF this year and next year, which again, please correct me, is EUR 1.2 versus a deferred revenue of EUR 770 at the end of 2019 on your balance sheet. I can see the Microsoft contract flowing through from deferred revenue. Could you maybe help us understand what the rest of the math is? Clearly this EUR 600 million is more or less one third of the consensus operating profit for 2021. Thank you.
Yeah, thank you for the question. This is consisting of several different customers that we have or patent licenses where we have prepayments and as I said earlier, this varies a lot and that goes also in the future. That is difficult to say exactly how that's going to be. What comes to technology, the margins are very high on the technology part because these are R&D that we have been spending on 5G.
In addition to that, we do some specific R&D on technology side as well, so we can utilize these technologies and then take a patent of those that will be used in handheld devices. That's why we have such a good patent portfolio thanks to the general R&D that we have in the company. That's why we see that this portfolio is very good even going forward.
Thank you, Amit. Cole, we'll take our next question, please.
Our next question will come from Artem Beletski with SEB. Please go ahead.
Hi, thank you for taking my question. I would like to ask on Network Infrastructure segment. Looking from outside, it still has quite a few different sub-products and services. How do you see it from synergy potential? Are there any tangible synergies relating to R&D or, for example, sales and marketing business or product?
There are certain synergies, even though the four businesses, they can also be treated as four separate cases, and we will also disclose some of the financials separately for those three sub-segments. Obviously, they have common customers, so there are customer synergies and there are also certain technology synergies. The submarine networks are Optical Networks, and we have Optical Network business.
This whole question of routing and optics, silicon photonics development is driving these segments closer to each other. There might be common components between the two segments. There are certain R&D synergies and then definitely customer synergies. Our kind of assumption is that we want to be able to treat these as separate business cases.
Thank you, Artem. Cole, we'll take our next question, please.
Our next question will come from Daniel Djurberg with Handelsbanken. Please go ahead.
Thank you, gentlemen, and thank you for letting me on. My question would be on the critical network focus. Can you comment on the size of the market mentioned in Mobile Networks, I believe EUR 43 billion this year, while EUR 44, 2023. Also do you believe that open virtual Radio Access Networks can be critical as well or will they be more of common style? Thank you.
Yeah, I knew that we would get this question, that when we start talking about critical networks, that how many % of the networks are critical. We don't have an answer to that question. That will come really through the applications that the customers will put on these networks. The interesting thing is that the needs of the critical networks will be increasingly driving the new cases that we will be looking at.
That's why it definitely makes sense to focus on that, because we kind of have competencies on both sides of the spectrum when we look at the needs for the critical networks. O-RAN, vRAN, we are fully endorsing these technologies. We are developing them. Next year we will have a full suite of interfaces available. We have already done the first industrial vRAN implementations.
I have said many times that these will not be needle movers on the market in the short term, but they will gradually increase in importance. When it comes to critical networks, in many cases, initially, these technologies, O-RAN and vRAN, will most likely be initially used in more simple cases.
There is nothing inherent in the technology itself that would exclude them from critical networks going forward and especially industrial applications, campus networks, vRAN, where you have radios that you deploy fast to campus and then you have an interface to cloud-based virtual baseband and then edge cloud-based service management.
That could be a very attractive business for many industrial customers who want to deploy fast, securely, cost efficiently, some of the critical network functionality. I believe it is coming, but again, not a needle mover in the short term.
Thank you, Daniel. Cole, we're now ready to take our final question for today.
Our final question will come from Sami Sarkamies with Nordea Markets. Please go ahead.
Hello, Sami?
Hello, Sami. Your line is open.
Okay, Cole. I'm going to assume that Sami re-entered the queue by accident. What I will say is, thank you to all of you for your questions today. Thank you also, Pekka and Marco.
Thank you.
Ladies and gentlemen, this concludes today's call. I would like to remind you that during the call today, we have made a number of forward-looking statements that involve risk 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. We have identified such risks in more detail in the section titled Operating and Financial Review and Prospects: Risk Factors of our 2019 annual report on Form 20-F, 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. Thank you.
Ladies and gentlemen, the conference has now concluded. Thank you for attending today's presentation, and at this time, you may now disconnect.