By: Ahmed Ishtiaq
Alcatel-Lucent (ALU) supplies high-tech equipment for telecommunications networks. The company's core network products unit sells network switching and transmission systems. Alcatel-Lucent sells equipment for wireline and wireless networks, terrestrial and submarine optical systems, microwave radio products, and fixed-access gear. The software division of the company develops applications for IP television, digital payment, and mobile communications. Moreover, the services segment offers application and systems integration to managed services and maintenance. The stock was trading over $6 in the mid of 2011. However, it took a nosedive and went below $1 in October last year.
The end of year was encouraging for the company and some positive news caused the stock price to substantially go up. ALU has started 2013 where it finished the last year and the stock price is showing encouraging signs. Let's take a look at the prospects of the company during 2013.
New Targets and better Balance Sheet
One of the biggest reasons for the stock to fall was the erosion of margins for the company. At the moment, Alcatel Lucent has poor margins, and its margins have been falling over time. ALU management has set new targets for themselves, and the biggest target is to improve margins of the company by the end of 2013. One major step to improve margins is already underway, and the company has announced 5,500 job cuts. A big portion of these job cuts will come from Europe. The biggest segment to be affected by job cuts will be the selling and administrative department, where 60% of the job cuts will be applied. 30% of the job cuts will be applied to the executives segment and two organizational layers will be eliminated. Research and development is an extremely important segment for the company. As a result, there will be no layoffs in the R&D department.
Alcatel Lucent needed to address its balance sheet, which had most of its long-term debt maturing in the next two years. The company was able to solve this problem by borrowing from Credit Suisse (CS) and Goldman Sachs (GS). New financing deal has improved the balance sheet of the company and its long-term debt now has a maturity between 3.5 and 6 years. This gives the company some breathing space, and it can now focus on the future. New financing boosted the investor confidence and the stock went up substantially.
How does the future look?
Alcatel-Lucent has some of the best products, and the company provides best solutions to its customers. ALU has the only complete service-layer architecture, the best framework to link PaaS cloud deployment to service features. The merger of the company put a lot of pressure on its management. As a result, management was under pressure to create value for the shareholders. Alcatel Lucent was not able to integrate the merger properly and it could not generate synergies. The company has been suffering for a long time now, and we should not expect a quick turnaround.
However, there are a lot of opportunities in the market for the company to make a comeback. Alcatel-Lucent needs to focus on the cloud and particularly the cloud/network boundary. There are attractive opportunities with Software Designed Network (SDN) and Network Function Visualizations (NFV). The company is in a position to exploit these opportunities and create a service architecture that will support both future network services and future cloud applications. The company has a brilliant research and development team that can develop compelling products and systems. I believe the company can exploit the opportunities in the cloud market and substantially increase its earnings.
Competition
The biggest competitors for Alcatel Lucent are Cisco Systems (CSCO) and Juniper Networks (JNPR). The table below lists some important metrics for comparison.
ALU | CSCO | JNPR | |
Forward P/E | 78.70 | 9.70 | 17.60 |
P/B | 1.30 | 2.00 | 1.50 |
P/S | 0.20 | 2.30 | 2.40 |
Revenue Growth | -3.40% | 8.40% | 7.60% |
Operating Margin | -4.70% | 22.50% | 7.10% |
Net Margin | 6.10% | 17.90% | 4.30% |
ROE TTM | 36.30% | 16.70% | 2.70% |
Debt to Equity | 1.43 | 0.30 | 0.10 |
Source: Morningstar
It is clear from the table that ALU competitors are trading at a discount at the moment. Furthermore, the margins of the company are poor compared to its competitors. Debt-to-equity ratio is also substantially higher than its competitors.
Summary
Alcatel Lucent is on a good run and the stock is showing impressive recovery. The company has a brilliant R&D department, which can come up with products to solve its issues. The solution to the problem is not difficult for the company. However, it all comes down to the resolve of the management. I am impressed with the recent actions of the management. However, I would like to see some more steps from the management before making a decision to invest.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Business relationship disclosure: EfsInvestment is a team of analysts. This article was written by Ahmed Ishtiaq, one of our equity researchers. We did not receive compensation for this article (other than from Seeking Alpha), and we have no business relationship with any company whose stock is mentioned in this article.
