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Tickers in this Article: ERIC, MOT, AAPL, VOD, VZ, T, GOOG, RIMM, ALU, NT
Wow! Telecom-equipment giant Ericsson (Nasdaq:ERIC) shares soared 15% Monday after the company knocked the socks off analyst third quarter estimates. Ericsson delivered third quarter revenues of US$6.6 billion, 8% above consensus forecasts. What's more, operating profit came in at US$764 million, a whopping 40% higher than expected. (To dig into the topic of consensus estimates and earnings surprises check out Surprising Earnings Results.)

With news like that, many would assume more upside is on the way, but investors reaching for the phone to place a buy order should hold on.

Ericsson's Unrepeatable Q3
For starters, while Ericsson did manage to grow revenue, its impressive third quarter operating profit came largely thanks to tough cost controls. Ericsson took a $268 million restructuring charge for the quarter. While
hearty congratulations should go to Ericsson's cost-conscious CEO, Carl-Henric Svanberg, for the restructuring efforts, it's hard to be certain how much longer he can keep it up. Despite cost cuts of about 8%, Ericsson's gross margin of 37% remained unchanged from the year earlier.

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),
but Ericsson's cautious outlook makes it clear there we won't see a big upswing in telecom spending.

As global economic conditions get shakier, trying to predict 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.

The Incredible Shrinking Margins
Most worrying is the outlook for SonyEricsson, the company's handset joint venture with consumer electronics giant Sony.
The average selling price of SonyEricsson's phones fell 6% in the third quarter from the previous quarter, mainly due to drastic price discounting, which helped pull down gross margins from 31% a year ago to just 22% - resulting in zero net profit. Competition from the likes of new entrants Apple (Nasdaq:AAPL) and Google's (Nasdaq:GOOG) Android as well as established players such as Motorola (NYSE:MOT) and Research in Motion (Nasdaq:RIMM), are eating away at SonyEricsson's market position.

CEO Svanberg hardly inspired confidence when he said that while Ericsson's business in the quarter had not been impacted by the financial turmoil, it remains "hard to predict" how operators will act and to what extent consumer telecom spending will be affected. Things are likely to get worse before they get better.

Of course, if Ericsson can't grow organically, it could keep an eye on acquisitions. Ericsson sits atop a net cash pile of about $4 billion. But investors would be happier if Ericsson coughed up some of that cash in the form in dividends or share buybacks.

Bottom Line
With growth and margins probably as good as they are going to get, Ericsson will be hard-pressed to put the share price any higher from here.

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