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Tickers in this Article: ERIC, NOK, SNE, MOT, ALU, NT, VOD, VZ, T
Ericsson (Nasdaq: ERIC) showed its peers how to perform last week, delivering a first class set of quarterly number. Juicy margins, plenty of cash in the bank and little debt mean that Ericsson is fighting fit.

With news like that, it might be tempting to hold on for some more upside. But don't -- good news has its limits.

First the Good News
In its usually weak first quarter, Ericsson returned to a net profit and pumped out sales equivalent to $4.35 million, a 5% year-over-year increase.

Even better, the Swedish big hitter's profits leaped 27% to $862 million, and delivered a gross margin of 43%. To put those margins in perspective, Nokia's (NYSE: NOK) gross margins hover around 34%. Motorola's (NYSE: MOT) are closer to 25%. Hearty congratulations should go to Ericsson's cost-conscious CEO, Carl-Henric Svanberg, for successfully revamping the business and building a telecommunications powerhouse with margin power that leaves its competitors in the dust.

But, keeping those margins aloft, while not impossible, will be tough. Sure, Ericsson is now a lean company and is grabbing market share from Alcatel-Lucent (NYSE: ALU) and Nortel (NYSE: NT), especially in its area of strength -- hardware for wireless networks.

However, predicting the spending habits of big, telecom-service companies such as AT&T (NYSE: T), Verizon (NYSE: VZ) and Vodafone (NYSE: VOD) is a risky game.

Besides, a lot of Ericsson's infrastructure sales will come from emerging markets, especially China and India. This is where Ericsson is facing stiff price competition not just from its traditional players eager to build positions, but also from low-cost Asian players such as Huawei Technologies.

Fierce Competition in Handset Market
What worries me most is the handset market. Ericsson's joint venture with Sony (NYSE: SNE) is far behind global leader Nokiaand U.S.-No. 1 Motorola. If Sony Ericsson hopes to improve on its 7% global market share, it will almost certainly mean competing fiercely on price, which could a dent in Ericsson's profit power and margins. What's more, emerging markets, the major source of worldwide market growth, tend to buy fewer high-end handsets and more of the no-frills phones with lower sales margins.

CEO Svanberg didn't do his shareholders any favors when he offered only mid-single digit growth-outlook for the global, mobile infrastructure market. Unchanged from last year, that number suggests that 2007 won't be a particularly good year for growth from handsets.

Another concern is the impact of the weaker U.S. dollar on sales and earnings. You have to wonder about the reliability of Svanberg's assertion that the negative impact will only be a "couple of percent". Over the past twelve months, the U.S. dollar is down 11% against the Swedish krona.

Of course, if Ericsson can't grow organically, management has stated that it will keep an eye on acquisitions. Ericsson sits atop a cash pile of about $13 billion, with just $1.4 billion in debt. That's a powerful war chest.

That said, Ericsson could afford to cough up some of that cash to shareholders, either in form of dividends or buybacks. Ericsson offers a dividend yield of 1.8% versus a more generous industry average of 3.3%.


Ericsson's Upside Fading
There's just not enough to get me excited about the company's stock at today's price. Assuming anything less than a huge overnight uptake in the latest wireless technology, the shares are selling out of whack with free cash flow. Ericsson now trades on a hefty enterprise value-to-free-cash-flow multiple of 24.

Without a major growth catalyst, Ericsson will be hard-pressed to put the share price beyond $40. The current price range of $38 gives Ericsson a price-to-earnings multiple of 16-times. With growth and margins probably as good as they are going to get, I'd say that's stretching things a bit.

For more information on when to get out of a stock, see To Sell Or Not To Sell.

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