By Analysys Mason's Alexandra Rehak, Ronan de Renesse, Eva Weidinger

Microsoft and Nokia announced earlier this week that Microsoft plans to acquire Nokia’s Devices and Services business, including the Mobile Phones and Smart Devices business units.

The agreement is expected to close in the first quarter of 2014 for a total transaction value of €5.44 billion, with €3.79 billion of that being for the devices and services unit, and EUR 1.65bn for licensing Nokia's patents.

As part of the agreement, ownership of Nokia’s patent portfolio would remain with NSN; however, Microsoft would acquire a 10-year license with the right to extend the agreement in perpetuity.

The Nokia brand will remain with Nokia, but Microsoft will license the use of the Nokia brand on its handsets and will acquire Nokia’s Asha and Lumia device brands, which are Nokia’s most successful brands with 4.3 million and 7.4 million units shipped respectively in the second quarter of 2013. The Devices and Services business unit generated revenue of €2.7 million at the end of the second quarter 2013.

Nokia will retain its other technology units, including NSN, Nokia HERE mapping and location platform and services as well as the company’s CTO office.  Microsoft would also license and use Nokia’s HERE services.

So what does it mean for the mobile device market and for Nokia?

The acquisition will have limited impact on the smartphone market in short/medium term, but increases the chance of the Windows Phone OS building a strong foothold – which thus far it has struggled to do. Nokia and Microsoft have been working hand-in-hand for 2.5 years on the Lumia device range. We don’t expect the acquisition to fundamentally change the Lumia team and its product roadmap for the next 12 months.

Global Smartphone Shipments by OS, 2007-2017 (Source: Analysys Mason Research)

The biggest opportunity for Microsoft is in the featurephone and low-end smartphone space, targeting emerging market mobile users in particular. Over 45 percent of Nokia mobile device shipments went to Greater China, Middle East & Africa and Latin America in 2012. This acquisition strengthens Microsoft’s position versus Google in connecting the ‘next billion’.

Microsoft must make a decision on the business model to adopt in mobile. No handset manufacturer except Nokia has been fully committed to the Windows Phone platform in the past 12 months. The handset market is extremely competitive, making it hard to sustain high margins.  Microsoft potentially has the ability to undercut its competitors and use mobile as a loss leader to gain global reach for its services and software ecosystem, if it chooses this route.   

For Nokia, the deal means a far healthier balance sheet, and the ability to focus down on its infrastructure and B2B strengths, moving away from the fast-moving and highly competitive mobile devices business, where it has been steadily losing ground since 2007. NSN is well-positioned to be a leading provider of LTE infrastructure – it is already supplying LTE-A network equipment for all three of South Korea’s mobile operators, putting it in pole position to work with service providers looking to provision next-generation networks. The annual income of the patents business is estimated at EUR 500 Million, providing a further healthy revenue stream.  

Nokia’s results have been steadily improving as NSN implements cost-cutting and refocuses its business. Shedding the handset business should allow it to consolidate the turnaround with a clear focus on B2B markets, but marks the end of an era, as Nokia concedes the market it once led to more nimble competitors in the device space.

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