Microsoft's Nokia job cuts reflect a shift away from devices

Phil Goldstein

The job cuts that Microsoft (NASDAQ: MSFT) announced today were not surprising--the company said it was cutting 18,000 jobs, or 14 percent of its workforce. But perhaps the high number of cuts was shocking given that it went far beyond the 5,800 jobs the software giant cut in 2009. Those cuts reflect Microsoft CEO Satya Nadella's drive to change Microsoft into a software and services company that enhances productivity for enterprises and consumers through its platforms. At least 12,500 of those cuts will be to former Nokia employees. Devices will still be a part of Microsoft, however they will be used for a specific purpose--to showcase the best Microsoft experience, primarily in high-end gadgets.

As painful as they are, the cuts were inevitable. Microsoft added roughly 30,000 employees when it finalized its deal for Nokia's devices and services unit at the end of April. Nadella, who took over as CEO in February, made plain a month after the deal closed that at its heart Microsoft was still a software company. It didn't make sense to have so many workers in factories and offices focused solely on building devices that way Nokia had for decades.

In Nadella's lengthy and somewhat portentous manifesto to employees last week, he laid out his vision for the company. He made clear Microsoft would move beyond the "devices and services" mantra created by former CEO Steve Ballmer and focus on being the "productivity and platform company for the mobile-first and cloud-first world."

What does that mean? It's still pretty hazy. If one moves beyond Nadella's verbiage about Microsoft's view of productivity for people and organizations as "one interconnected digital substrate," it seems like he is envisioning a company that helps people make better, faster and more informed decisions in their personal digital lives and at work. That means a greater focus on things like Cortana, the digital personal assistant Microsoft introduced with Windows Phone 8.1, and Delve, a still-nascent tool that uses machine learning techniques to search a person's emails, social networks and corporate documents stored in Office 365.      

With that all in mind, devices are basically taking a back seat at Microsoft. The company is not giving up entirely on building its own devices, but under Nadella has decided that it doesn't need tens of thousands of workers to build the devices that will showcase the best of what Microsoft can offer in terms of productivity tools. Nadella wrote that Nokia "will build first-party hardware to stimulate more demand for the entire Windows ecosystem."

That's the reason behind the decision to drop the Android-based Nokia X product line that was seen as a gateway for customers in emerging markets to get used to Microsoft services and the feel of Windows Phone. Now, the focus is solely on Windows Phone via the Nokia Lumia line. "To win in the higher price tiers, we will focus on breakthrough innovation that expresses and enlivens Microsoft's digital work and digital life experiences," Nadella wrote Thursday.

Microsoft bought loss-making Nokia because it wanted to try and compete with Google (NASDAQ: GOOG) and Apple (NASDAQ: AAPL) and be a more vertically integrated company. That seems like a strategy Ballmer embraced but Nadella has decided doesn't really work. Even Google has decided it doesn't really work, and is offloading its Motorola division to Lenovo at a large financial loss.

"Trying to make money directly off devices is a risky strategy," industry analyst Chetan Sharma told me. "Competing with partners has never worked historically in any ecosystem."

That's why Microsoft's decision to give Windows away for free to device makers making smartphones and tablets with screens under nine inches should be remembered today. Microsoft is banking on OEM and ODM partners like Foxconn, Gionee, Lava, Lenovo, Longcheer, JSR, Karbonn, Micromax and Prestigio to make and sell cheap Windows Phones that will help it gain market share. Microsoft also is now using Qualcomm's (NASDAQ:QCOM) Snapdragon 200 and 400 chipsets and the Qualcomm Reference Design program to make it easier for OEMs and ODMs to make inexpensive hardware.

Stephen Elop, the former Nokia CEO who cut tens of thousands of jobs and is back at Microsoft as an executive vice president in charge of the company's devices business, boiled down the role of devices within Microsoft pretty succinctly. "Whereas the hardware business of phones within Nokia was an end unto itself, within Microsoft all our devices are intended to embody the finest of Microsoft's digital work and digital life experiences, while accruing value to Microsoft's overall strategy," he wrote. "Our device strategy must reflect Microsoft's strategy and must be accomplished within an appropriate financial envelope."

Reticle Research analyst Ross Rubin said: "It's a business. They're not going to be content to lose money indefinitely selling devices." He noted that the strategy now revolves around selling high-end Lumia Windows Phones and letting Microsoft partners focus on lower-end Windows Phones.  That's ironic, Rubin noted, because before the acquisition Nokia had historically been strongest at the low end of the market. It's also important to remember that Microsoft is facing a renewed challenge there via Google's Android One initiative.

Microsoft is willing to sacrifice some market share at the low end of the market because it wants to deliver a high-end experience across hardware, applications, cloud services and the application storefront experience, Rubin said. "Particularly with this focus on productivity, they want to support the high-end customer," he said. "They know that the more customers have the best experience, the better it is for them."

That's what Microsoft's devices business will be focused on. Sharma said he is not sure Microsoft needs to keep the thousands of Nokia employees it will have after the cuts but said that if Microsoft had cut more than it did now, it might impede its progress.

"Microsoft is now saying they will reimagine productivity," he said. "It remains to be seen what that means. I see it as first step and that more are likely to come in the next 12 months."

The cuts are painful. But if Microsoft is no longer thinking of devices as a core part of its strategy, they were necessary.--Phil