(FORTUNE Magazine) – Every cellphone user has experienced the annoyance at one point or another. The cellular connection is suddenly "dropped," mid-sentence, on your important phone call, and seemingly for no reason at all. That must be something like the frustration that shareholders of Nokia (NOK, $14) feel--all the time. The world's largest manufacturer of mobile phones seems to be in a perpetual state of dropped when it comes to its stock price. The troubles began in April, when the Finnish company announced that its first-quarter sales had fallen from the previous year and that market share had slipped--despite the fact that the overall market for cellphones was growing at a red-hot pace. Just a few days later the company issued more bad news, warning that second-quarter earnings were likely to fall short of analysts' estimates. The market's reaction was swift and severe: By mid-May, the share price for Nokia, which trades on the NYSE as an ADR, had nose-dived by about 40%, to a 14-month low. It has barely recovered since then.

To be sure, there are good reasons many investors remain spooked about Nokia. There's the company's recent decline in global market share for wireless phones, for example, which industry researchers say fell from about 35.2% to 29.7% during the first quarter of 2004. (Nokia itself puts its market share at 32%, still a hefty decline.) Revenues have stagnated as a result. Analysts expect the company to bring in sales of about $35 billion in 2004, virtually unchanged from last year's performance.

A key contributor to Nokia's sagging share has been its reluctance to produce the clamshell-style flip-top phones that have become increasingly popular with consumers and are offered by its two largest rivals, Motorola and Samsung. Until very recently the company had clung to its traditional (and clunkier) candy-bar-shaped design.

It's a strategy that served the company very well in the past: Just as a car manufacturer can reap enormous cost advantages by producing multiple models from the same basic chassis, Nokia has likewise been able to keep production costs low by cranking out a huge volume of phones, all of which are variants of the same basic candy bar. But as consumer tastes have evolved, the strategy has backfired. Clamshells now account for about 30% of all new cellular phones sold--more than double their share a decade ago--according to Mark Davies Jones, an analyst with J.P. Morgan Chase.

Skeptics also contend that Nokia has placed way too much emphasis on selling low-priced, entry-level phones and hasn't devoted enough attention to developing higher-margin products for the mid-and high-end segments of the marketplace, to which an increasing number of European and U.S. consumers are now migrating. Meanwhile, to halt its market share slide, Nokia has been cutting prices of late. The upshot has been to lower average selling prices and, more important, operating margins in the mobile-handset business. The latter fell in the first quarter to 26%, from 29% the year before.

In short, there are good reasons for Nokia's stock drop: In the parlance of cellphones, the company seems to have been in a long drift "out of range."

All of which makes the following argument surprising: The sharp selloff in Nokia stock is a serious overreaction. At the current share price, Nokia trades at a multiple of about 16 times this year's projected earnings and 14 times estimated 2005 earnings, well below the level of both of its major competitors. And that's just one reason many observers say Nokia represents a real buying opportunity for investors right now. "They have a ton of cash, a very good brand name, and they're a powerhouse in this space," says Ed Snyder, co-founder of Charter Equity Research in San Francisco, which focuses exclusively on the wireless industry. "There's little doubt they're going to bounce back."

In fact, Nokia's management team, led by CEO Jorma Ollila, is clearly making the recapture of market share a top priority. In June the company unveiled the first three of six clamshell models it plans to introduce to the market by year-end. And it is set to introduce into the market another 15 to 20 phones, many aimed squarely at filling its product gap for mid-and high-end consumers. "It would be hard to make the case that Nokia isn't capable and motivated enough to solve that problem," says Snyder. "It's just a question of timing."

Even with the recent share losses, Nokia remains the dominant player by far in the cellphone market, selling twice as many phones as its nearest rival, Motorola. That has given the company a significant cost advantage in the battle for high-volume, low-priced phones, and it continues to expand in key growth markets like China and India. "They are the leader in these markets because they can deliver sub-$100 phones and still make a profit," says Paul Sagawa, a telecom analyst with Sanford C. Bernstein.

Given the company's high-profile problems, it's also easy to forget that Nokia is still solidly profitable: Analysts expect it to generate earnings of 86 cents a share in 2004 and $1 in 2005. Just as important, Nokia is throwing off gobs of cash; Morningstar analyst Fritz Kaegi estimates that a fair value for Nokia's stock, on a discounted free-cash-flow basis, is currently about $19 a share. And J.P. Morgan's Jones figures that even in the most pessimistic scenario--one in which Nokia continues to suffer significant market share and margin erosion for the next few years--the stock is still worth about $12 a share on a cash-flow basis.

With practically no long-term debt and a cash stockpile of some $15 billion, Nokia also boasts the best balance sheet in the industry. And the company's strong cash-flow generation has enabled it to pay out a steady stream of dividends to shareholders. At the current price, Nokia's dividend yield is a generous 2.6%, well above the S&P 500 average of 1.6%. "It's priced like a utility--it's ridiculous," says Sagawa, who has a 12-month price target on Nokia stock of $24.50.

That's not to say that there won't be more bumps in the road ahead. The bulk of Nokia's new products, including the clamshells, aren't likely to have a significant impact on the company's sales until at least the fourth quarter of this year. In the meantime, as Nokia cuts prices on existing phones to boost its market lead, earnings per share for fiscal 2004 will probably come in about 4% below the company's 2003 performance. Nevertheless, given the potential upside for Nokia's shares, smart investors might be wise to endure the static a bit longer.

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