Nokia: An Excess of Cleverness

I'm looking forward eagerly to Nokia's strategy announcement this week.  Although Nokia is not highly esteemed in the US, most of the rest of the world recognizes it as an enormously important company: a brilliant manufacturer, a symbol of status and affluence in the developing world, and a source of great pride to its many fans in Europe and elsewhere.  If Nokia could combine its strengths with better execution in software and smartphones, it could be a formidable force in the computing industry as a whole, not just in mobile.

In anticipation of the new strategy, I wanted to share a few thoughts on why Nokia has struggled with the intersection of phones and computing, and what it might do to fix the problems. 

A couple of disclosures first:
--Several years ago I did a consulting project for Nokia.  I've also met with them, I have had a lot of briefings from them, and I know several people who work there.  No inside information from any of those sources has gone into this note.
--Before someone posts a comment saying so, yes my views are colored by the place I live, Silicon Valley.  Your paradigm may vary.

As is often the case for big successful companies, I think Nokia's strengths are also its weaknesses:


Strength 1: Nokia focuses very well...which can lead to denial of reality 

Nokia has a very intense, delivery-focused culture that has enabled it to pursue strategies with awesome focus and determination.  Over the years, the company has transformed itself from a paper mill to a rubber boots company to a video monitor company, etc, etc.  I can think of very few modern firms that are capable of that sort of huge transformation.

But I think that same determination has also sometimes enabled Nokia to live in denial of reality.  As an outsider who has dealt with Nokia a lot over the years, the company often comes across to me as the opposite of a learning organization.  Rather than getting inquiry and questions, when you discuss an issue with Nokia you tend to find that there is already an official Nokia answer to it: self-assured, hermetically sealed, and often sounding slightly condescending.

When Nokia was on a roll and executing beautifully, that self-assurance was entirely justified.  As somebody once said, "it's not arrogance if you can do it."  But as the company faltered, I think its belief in its own specialness and power led it to resist making changes that would have happened at most other companies several years ago.  This deepened Nokia's problems.

A quick look at the company's financials tells the story.  In 2006, Nokia was on a roll.  Its revenue was growing nicely, and it had operating profits of about 12% before taxes.  But starting in 2007, Nokia hit a wall.  Its revenue flattened and then fell.  Despite the revenue problem, Nokia held its R&D, marketing, and administrative spending almost steady in Euro terms, increasing them as a percent of revenue.  It's as if Nokia believed four years of revenue stagnation were just a temporary glitch to be endured rather than a fundamental problem that had to be fixed.

(Note: Fiscal years, all figures in $millions.  The numbers above and below were restated from euros to dollars.  I also excluded miscellaneous revenue and expenses, and one-time charges, because they distort the trends.)

To give you an idea of the impact of Nokia's slowdown, here are a couple of comparisons to Apple.


First, revenue...


Yes, Apple is now a bigger company than Nokia in terms of revenue.  That alone is pretty astonishing to me, and I'm sure it irritates the folks at Nokia, since they routinely bristle at this sort of comparison (link).


Here are expenses (R&D, marketing, and administration) as a percent of revenue.  Lower is better.


Apple has done a nice job of holding its expense growth below its revenue growth.


And here's the payoff:  Operating income


Financially, Apple has just plain run away from Nokia.


When Stephen Elop was announced as CEO of Nokia, people made a lot of hay about his background as a Canadian.  I think that was the wrong bit to focus on.  To me, the most important element of Elop's background was the ten years he spent in Silicon Valley.  I wondered what a Silicon Valley guy would think when coming into a company and seeing financials like these.  I believe the reaction would be horror: "Why didn't you people panic back in 2008?"  The accepted wisdom here is that you just don't let expenses stay high through four years of declining revenue.  That lets the problems fester.  Nokia is now a bit like a patient who has delayed routine medical treatment for so long that he ends up in the emergency room needing surgery.

Elop's now-famous memo on Nokia's problems speaks volumes about the company's culture (link).  Assuming the memo is real (I am taking the word of the press on this), Elop likens Nokia's situation to jumping from a burning oil derrick into the North Sea -- where, as anyone in the Nordic countries would know, you can die of hypothermia in minutes. 

What does it say about the employees' resistance to change that the CEO feels he has to be this alarming? 


Strength 2: Nokia manufactures wonderfully...which produces sterile, inartistic smartphones

Nokia is one of the most efficient manufacturing companies on the planet.  Very few western companies have ever withstood an all-out assault by China Inc, but Nokia, a company from high-cost Finland, has also been for years the world's lowest-cost major producer of phones.  Elop's memo says that cost leadership is now under threat, but still it's an unbelievable accomplishment that ought to be studied in every business school worldwide. 

But the same manufacturing-driven culture that turns out great, cheap feature phones by the dozen breaks down when asked to craft an intricate smartphone in which overall system integration is the most important feature.  Nokia designs phones using a manufacturing-like process in which different groups create features in parallel.  So (to make up an example) one group might do the user interface, another the mail app, and another the browser.  That's very efficient for creating lots of phones quickly, but it means it's very difficult to integrate all of the pieces together closely so they produce a great user experience.  The best smartphones, like the iPhone, are designed holistically, with all of the pieces coordinated together.  A product manager controls the process and can enforce compliance with the product vision.  This process is much slower and less efficient than Nokia's, but when you're creating a product with a lot of software, it ensures that everything works together well.

Apple can get away with this less efficient process because it produces one phone at a time.  Nokia has 89 different phone models available currently in Europe (link).


Strength 3: Nokia makes fantastic plans...over and over and over again

Nokia has for decades been able to hire the brightest people from a very bright country, Finland.  After meeting a lot of Nokia employees, I can tell you that it probably has one of the smartest workforces anywhere.  But all that intelligence has produced an analytical culture that breeds complicated plans elaborately fleshed out by committees.  Its history in the last decade is a series of wickedly clever, logical strategies that were so complex and took so long to develop and implement that they were often obsolete before they came to fruition.  It sometimes seems as if Nokia has been crippled by an excess of cleverness.

I'm reminded of a short story by science fiction legend Arthur C. Clarke, Superiority.  In it he described a society that lost a war by continually focusing on the new weapons that were about to come out of the labs, rather than mass-producing the ones that it already knew how to build.

To make matters more difficult, Nokia defined almost every major company in computing and telecommunications as its enemy.  At one time or another it has decided that it needed to dominate or defeat Microsoft, Apple, RIM, Google, the entire handset industry, the network equipment suppliers, and of course the mobile operators.  Even the US government tries to fight only two wars at once; Nokia has been fighting at least five.

There are so many examples of Nokia's busted plans that I don't know where to start.  The Symbian adventure, in all of its permutations, is an obvious one.  Nokia has gone through a number of different organizational structures, each of which was supposed to optimize it to compete in the new world of computing and internet.  But the one that sticks out at the moment is Nokia's venture in tablet computing.

Don't get me wrong, I do know the differences between an iPad and an n900.  They are dramatically different devices that reflect profoundly different design philosophies.  But both were designed for a similar high-level goal -- to make computing and web access mobile.  Nokia shipped its product first, more than three years ago.  Apple shipped last year.  Apple is selling seven million units a quarter, while n900 sales are what, a few hundred thousand?  Nice, but not a new industry.  I know Nokia has learned a lot, and has built a lot of infrastructure, but at some point you have to generate revenue rather than just having a great learning experience.


What do you do, Mr. Elop?

I think the biggest challenge facing Stephen Elop is that he needs to preserve the strengths of Nokia even as he undoes their effects.  Expenses have to come down, but at the same time he needs to invest in innovation.  The company must keep its manufacturing strength, even as it adopts a design philosophy that undercuts manufacturing efficiency.  People at Nokia have to be free to innovate independently, but when left to itself the Nokia culture tends to seek consensus and compromise.

I suspect that given all these changes, even motivating the Nokia workforce may become a challenge.  The Nokia people I've talked to love the company and desperately want it to get better.  But nobody could live through the last few years without getting a bit burned out.  Now the CEO says your home is on fire and you need to jump into freezing water.  Would that memo motivate you to work harder, or would it motivate you to work on your resume?  I was discussing the memo with several of my old friends from Apple today, and one of them joked that the message to employees was, "Everybody come to the communication meeting Friday!  Oh, and you might want to pack up your personal belongings and bring them, just in case."  On Friday, Nokia's people will need to see a carrot -- an attractive, plausible vision for the future of the company -- rather than just a stick.

I'll be watching carefully for that vision.  We're hearing rumors that Nokia is planning to shift away from its current operating systems and build on top of Windows Phone 7.  I doubt that's the full story.  For one thing, Nokia can't completely cut off its current software and switch to something else; there would have to be a long transition.  Besides, in the Nokia earnings call last month, Elop dropped some hints about his plans.  He talked about maintaining two platforms, one aimed at the mass market and another at the high end.  He said Nokia's biggest challenge is at the high end, so that's where I would expect a change is most likely.  Elop also went out of his way to praise the QT software layer, so I would be very surprised if it's killed.  If Windows Phone is in Nokia's future, I think we'd see it at the high end, paired with QT.  So we'd get a hybrid OS with Microsoft's plumbing and Nokia APIs. 
   
That would be a bold move, but it's also extremely complicated.  I remember when Palm tried to build its future on Windows Mobile, and gave up in disgust a couple of years later when Microsoft licensed Palm's innovations to other phone companies.  How would Nokia restrain Microsoft from doing the same thing again?  Elop worked at Microsoft, so I'm sure he has some ideas. 
   
Overall, it sounds like a high risk strategy, almost wickedly clever.  Exciting stuff.  And yet I keep remembering how Nokia's other wickedly clever strategies have worked out.

Note:  I've added more commentary on the Nokia announcement here.