Alcatel-Lucent (NYSE:ALU) reported yet another quarterly loss of €369million ($481.40 million); the company has posted losses for four out of the last five years. The situation is precarious for the French giant. Disappointing performance has forced the change of top management with ex Vodafone (NASDAQ:VOD) European head Michael Combes taking over as the new CEO as of 2nd April. He is planned to announce the company strategy and turnaround plan in June. The task at hand is uphill.
There are a number of key problems that should be on Mr. Combes' June agenda. The most pressing problem is the cost structure. Alcatel-Lucent has been unable to cut down costs in line with its competitors and has handicapped the company in terms of profitability - diversifying to the extent that the strategic focus has been compromised, amplifying the cost structure.
The company, although it commands a global footprint, is highly reliant on US and Europe for its revenue generation (72%). The slow recovery primarily in Europe has hampered past performance dragging revenue growth, directly trickling into the bottom line. Alcatel-Lucent is massively diversified in terms of its product portfolio, broadly categorized into network segment (IP and Optics), Wireline (Broadband), Wireless (OTCPK:CDMA), software services and solution segment solutions and Enterprise segment. Although, theoretically, diversification is an optimal strategy, but it has been a major source of costs for the company so far.
Poor cash management is another major hurdle impacting the bottom line adversely. The cash-cycle for the company is 59 days, which is relatively higher and a major reason for its low liquidity ratios.
The company has had a tough time competing with Nokia-Siemens, Ericsson (NASDAQ:ERIC), Huawei and Cisco (NASDAQ:CSCO), both in terms of pricing and services quality. All these companies have significantly lower cost structure and are more focused on their product and target market.
Focus would be the key for Michael Combes if he is to make something out of this situation - he needs to align corporate strategy and communicate it effectively to the employees. Job cuts alone won't cut it for Alcatel-Lucent, not from a long-run perspective. Combes alone cannot bring about a turnaround. It is imperative for the company to move with a sense of direction. Combes needs to take on board all major stakeholders, in particular the employees, and make them realize the gravity of the situation. If the company does not swing from red to green under his leadership the odds are there won't be any successor.
The company is currently diversified both in terms of geography and product portfolio. The key is to reduce the product portfolio. The company needs to focus on the most profitable business segments and approach it aggressively. It needs to get rid of major chunks of its product portfolio, being a market leader does not help if you are not able to generate sustainable profits. For starters the company needs to identify its competitive advantage, which is cutting edge R&D. it needs to reorganize its network segment focusing mainly on IPD, fixed network and services which have grown faster over the year. Identifying key strengths and leveraging them would be crucial for its survival.
The company cannot compete with Huawei and other competitors on the pricing front. It is simply not possible given Chinese government's support of Huawei and the synergies that Nokia-Siemens produce collectively. What is urgently required is innovation powered by its competitive advantage: R&D. More focused and goal-oriented R&D is required in order to innovate. The current spending on R&D stands at €2.7 billion ($3.52 billion) annually, which if maintained and directed properly, would be much more fruitful.
Company needs to do away with its focused business, which has been a drag on the revenues, dropping by 23% in profitability sequentially and 18% year-over-year. The outdated CDMA technology must be revamped or upgraded in order to be competitive, otherwise, it will only drag the revenues further down, which is already showing a 17% decline year-over-year. Strong competition in voice telephony and the data networking business has adversely impacted the enterprise business declining by 9% year-over-year, and it's probably time Alcatel-Lucent moved on channeling its energies in less competitive segments.
Sale of these segments or divestment from them would essentially have three major positives. Firstly, it would generate cash flows in the short-term and give the company more breathing space in terms of liquidity and time to reorganize. It would focus the company on their forte and most significantly reduce the cost structure.
U.S. is probably Alcatel's best bet - it generates majority of its revenue while South America and EMEA provide strong growth potential. ALU needs to focus on its key clients in the U.S. and form close ties to support and solidify its business while expanding in South America and EMEA to capitalize on markets out of competitors' radar for potential growth. Huawei's pledge to expand its workforce and business in the next five years is a sign of growth in the business, and Alcatel-Lucent must capitalize on this growth prospect.
For a company that is huge by all standards, a major turnaround requires proactive decision making taking into view the long-run sustainability of profit generating capacity. Michael Combes needs to take all stakeholders on board and make them realize that this maybe the last shot at saving the company; they are all in it together. Combes' leadership capacity would be tested to the limit, especially his ability to make tough decision under pressure from different stakeholders.
If Combes is to have a chance at pulling it all together he must begin from scratch, inculcating the drive to innovate within the corporate culture, the most successful strategy for the fast-evolving technology sector.
Is Alcatel-lucent a good investment? Well, investors have to realize that they are in essence betting on Michael Combes, not the company itself. If he delivers, so would the investment. For now, its wait and watch.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.