Alcatel Lucent's (ALU) CEO Michel Combes on Q1 2014 Results - Earnings Call Transcript

| About: Nokia Corporation (NOK)

Alcatel Lucent (ALU) Q1 2014 Earnings Conference Call May 9, 2014 7:00 AM ET


Michel Combes – CEO

Jean Raby – CFO and Legal Officer


Gareth Jenkins – UBS

Vincent Maulay – Oddo Securities

Alexandre Peterc – Exane BNP Paribas

Achal Sultania – Credit Suisse

Andrew Gardiner – Barclays

Kai Korschelt – Deutsche Bank

Chris Wolfe – Merrill Lynch

Francois Meunier – Morgan Stanley


We will leave the floor to Michel Combes. Please go ahead.

Michel Combes

Thank you. Good morning and good afternoon to everyone. Thank you for joining us on the call to discuss Alcatel Lucent Q1 2014 results. I will start by presenting an overview of our results and our activity and then I will let Jean comment on financials in more details.

As you can see on the next slide, moving to the highlights of the quarter, let me start by saying that I am pleased with what I consider to an encouraging start of the year what are the key points of the quarter. First on revenues, a positive 4% growth was achieved at group level excluding currency impacts and managed services which bears the impact of our strategy to terminate and restructure loss making contracts. More specifically, core networking, our manage for growth segments recorded the high single digit increase with IP routing growing at a solid double digit pace.

Well, this is only one quarter and you know that we usually prefer to focus on annual trends given the non-linearity of quarters. We are nevertheless encouraged by these accomplishments as it further demonstrates the validity of our decision to reposition the company on IP, Cloud and ultra-broadband access and to reignite growth.

Turning now to profitability which stands among my key absolute priorities. Q1 showed a considerable progress compared to last year with adjusted operating income moving into a positive territory and improving by more than €210 million. Both gross margin and fixed cost savings contributed to this improvement.

Gross margin recorded a gain in excess of four percentage points driven by a favorable product mix, improved profitability in those business lines and continued management of our cost structure. Fixed cost savings reached €143 million in Q1. In total, we are now roughly half way through our 2015 plan when adjusted from the discontinuation of enterprise and LGS, so half way in nine months.

As to cash flow, substantial progress was achieved compared to last year. Segment operating cash flow improved by more than €220 million, essentially driven by our manageable cash segment access which is manageable cash as you know and which reduced cash outflow by more than €210 million. The amount of cash burn reduced by €146 million at group level. The amount of net outflow remained significant just below €400 million reflecting obviously low seasonality, the expected working capital build-up notably in view of the LT rollout in China as well as restructuring costs.

Going to the next slide; I will now provide Q1 highlights for core networking. Starting with IP routing, clearly we are pleased with the performance of IP routing in Q1 which recorded 16% growth year-on-year at constant currency. However, we do not want to over emphasize a single quarter and rather focus on the annual trends. From that standpoint on the rolling 12 months basis, IP routing grew 12% at constant currency, a trend that comforts us in our view that we are on track to deliver double digit growth on an annual basis. All regions contributed to the overall strength of the division with Japan and North America being the main drivers. On the product side, good traction was achieved in mobile packet cost solutions.

Our core router product continues its progress as confirmed by the four new wins recorded during the quarter including Elisa in Finland and customers in the cable sector, the latter demonstrating our progress towards more diversified customer base.

Lastly our Nuage venture kept the momentum and added two new commercial wins during the quarter including the recently announced Numergy which brings the total today to five. IP Transport which aggregates terrestrial optics and Submarine grew to high single digit pace in Q1 confirming the turnaround in revenue initiated in the second part of 2013. Most notably, it was the first quarter of year-on-year growth in terrestrial optics since 2011 while legacy optics is now stabilized; our 1830 WDM platform continued to register successes with 26 new wins registered in the quarter.

The product mix in terrestrial optics continued to move in a favorable direction. The 1830 platform now represents 44% of terrestrial optics products revenues, eight percentage points above last year. The 100G deployments continued to progress and represented 30% of WDM line card shipments in Q1, 11points more than last year. IP platforms displayed a year-on -year decline as a combination of a difficult comparison basis and the consequences of our portfolio westernization strategy more than offset growth in our core businesses. In particular, IMS and SDM, Subscriber Data Management posted very solid growth driven by continued voice of LTE deployment.

We also began to see traction outside North America as illustrated by our announced wins with [indiscernible] France or APT in Taiwan. Similarly, customer experience solutions enjoyed double digit growth. On the virtualization front, the industry continues to accelerate the abduction of virtualized network functionality and demand for virtualized applications like virtualized IMS is increasing. It has been a very dynamic quarter for us with three new contracts for cloud bands for NAV environment projects with tier one including Telefónica. The launch of the virtual IMS in February 2014 and engagement into eight virtual IMS customer trials and of course, the announced partnership with Intel.

Let me now turn to the access segments and the key highlights for the quarter. First wireless; overall Q1 reflects positive results in areas where we have decided to invest in namely LTE and small scale wireless revenue grew in the low single digit range at constant currency in Q1 led by continued traction in LTE deployments notably in high density markets like North America. LTE revenues are now well above 2G, 3G which represented less than a quarter of wireless access revenue in Q1. We expect – we experienced customer components shortages during the quarter which impacted our performance especially in China. We expect the situation to normalize in the course of this quarter in Q3.

Small sales momentum continued. In aggregate, we increased the number of revenue generating contracts to deployments while – 115 with 67 unique customers. Early adopters of outdoor metro sales are now beginning to ramp deployments while continuing their volume – deployments of residential and indoor small sales.

Moving to fixed access, Q1 witnessed the continuation of industry trends experienced through 2013 namely, the race for more broadband, driving demand for vectoring and fiber. High broadband products continued to grow at a double digit pace in Q1 with strength in most regions, especially EMEA and Asia Pacific outside China. This growth was partially offset by a decline in legacy technology. For next generation of copper and fiber products and NGPON2 we currently had active discussions for trials with leading operators.

Moving on to the next slide, I will now give an overview on our three year journey to transform the company. I have been as you know in this position for slightly more than a year now. We started to implement the Shift plan from June 19 of the last year meaning three quarters ago. And I am pleased by what has been accomplished thus far and what I would call the first chapter of Shift. What we did about.

First about repositioning the company from an industry point of view, we decided to refocus the group on IP, cloud and ultra-broadband access and decided to extend our reach to a broader set of customers. Today, our position is clear and reason is [ph] well with our customers as demonstrated by the numerous commercial successes we registered over the past quarters.

The second piece was about restructuring the company. In order to reestablish competitiveness this materialized through the implementation of the brand new operating model the resetting our cost base and most of all recognition of innovation notably through partnerships Qualcomm, Intel already announced and realignment of R&D towards next generation technologies and products.

The last part was about putting the company on the sound financial footing which has been largely accomplished through the various operations conducted under capital markets in the second half of 2013. So after one year we are well aligned with plan announced to the market. We have closed the first chapter and have now moved to the second phase of the plan which continues and extend the first one on three aspects.

Innovation with the aim of accelerating our innovation pipeline, and enriching our portfolio, execution with the strong focus on operational excellence and delivery of the EUR1 billion savings and focus on expanding our footprint after first year centered on resetting the platform to continue to unlock growth for the company. You know I refer my belief that our transformation is well underway, putting us on the right path towards profitable growth and free cash flow generation.

To conclude as I stated in introduction I am encouraged by the progress shown in the first quarter. This provides a good start on which to build during the rest of 2014 and comfort us in our ability to reach our 2015 targets. Consequently we reiterate our 2015 objectives with some minor adjustments due to parameter changes that Jean will comment shortly and remain fully focused on bringing the group back to positive free cash flow by these dates. Thanks for your attention and I’ll now hand over to Jean for the financials.

Jean Raby

Thank you, Michel. Moving on to the section two of our presentation and the following slide which is slide 11. Here let me – allow me to be a bit granular on the adjustments that I want to draw your attention to, following the sale of LGS and the received an agreement to buy Enterprise in February. What this means is the following elements. One, we go from three initial segments core networking access and other, to going forward two segments core networking and access, other having been defined the launch of the shipment as Enterprise and LGS.

Second, in Q1 2014 Enterprise was accounted for as discontinued operation, therefore as a line time below the operating margin line. And going forward as well as in respect of the changes Michel described all numbers we give are ex Enterprise and I believe that in the press release you have necessary financial elements to reconcile with prior numbers disclosed that included Enterprise.

LGS was accounted for fully throughout the first quarter given the accounting convention that based on its small side it should be sold, that being said, given it was sold and closed on Q1 on March 31st, 2014, of course as of April 1st, it is deconsolidated.

Third, you may recall that we have set at the outset an objective of EUR250 million in segment operating cash flow from the combination of the access and other segments in 2015. Of that objective of EUR250 million in 2015 approximately EUR50 million was attributable to Enterprise and LGS in the 2015 target. Conversely, in fixed cost savings in the EUR1 billion that we are targeted to achieve in 2015, again approximately EUR15 million was attributable to the assets sold.

And in respect of the results achieved in 2013, EUR28 million was expected to be attributable to Enterprise which is now accounted for as a discontinued operation. And so far as restructuring given the amounts that are not necessarily material we are basically staying on the same envelop of EUR1.3 billion over 2014 – 2015 period. I hope this helps facilitate comparisons going forward given the changes in the parameter that have occurred.

Moving on to slide 12, I will try given that Michel has touched upon a number of financial metrics to restrict my comment to additive elements. First on revenues we’ll not comment on the variations from one period to another Michel has done that. I would rather draw your attention to the following.

In the context of our transformation and refocusing on an IP networking, cloud and ultra-broadband specialist we take the perspective of new and next generation technologies in much the same way as we have tried to draw your attention to our focus on redirecting our R&D spending to next generation technologies as opposed to legacy ones. If you take the same metric we have increased our proposition of revenues drawn from these new technologies to what was a little less than half of our revenues in Q1 ’13 to approximately 16% in Q1 ’14, demonstrating quantitatively the progress we are making on our refocusing.

Gross margin, Michel has commented on perhaps one footnote that is tied to the elements I have described in the previous slide, the discontinuing of Enterprise has a slightly dilutive effect on the gross margin of approximately 50 basis points in Q1 2014 and as was presented in our press release 90 basis points over the full year 2013.

Operating expenses are down nearly 12% year-on-year mainly driven by decline in SG&A expenses of EUR100 million or nearly 21%. In Q1 our SG&A to sales ratio declined by 280 basis points to 12.9% from 15.7% as we continue to work on bringing this ratio to a level in line with industry standards. All these factors combined to drive an adjusted operating income of EUR33 million which is an improvement of EUR212 million compared to the previous period. We are encouraged by this performance and notably by achievement of profitability at the operating income level line in what is a traditionally low and loss making quarter.

Finally net income a loss of EUR73 million marking an improvement of EUR280 million year-on-year, reflecting the higher operating income, lower restructuring expenses and a significant reduction in net financial losses in part resulting from the actions undertaken in the second half of 2013.

Moving on to the following slide in terms of geographic split of revenues, North America declined by 1% compared to the Q1 2013 at constant exchange rates. Sequentially and perhaps interestingly it was down mid-single digit, a slower rate of decline and the typical seasonality that we usually see on the back of solid spending notably in IP and wireless, the latter being driven by LTE coverage and capacity projects. The overall spending trend remains robust in that region.

Europe declined by 2.5% mostly reflecting the impact of managed services contracts streamlining in that region but we do see encouraging trends in Western Europe and other parts of our businesses.

Asia-Pacific was strong recording 19% year on year growth with traction in IP routing, terrestrial optics, wireless and fixed networks. Rest of the world showed mixed trends as Middle East and Africa experienced double-digit growth while Latin America continued to decline driven by sluggishness in both Brazil and Mexico.

Moving on to the core networking segment detailed on page – on slide 14, Michel has set commented on the headline numbers for each of the business divisions. Let me just add a few footnotes. In IP routing, what is perhaps noteworthy is that IP routing was relatively flat sequentially which is a better performance than usual for first quarter but as Michel pointed out earlier we do not want to over read a single quarter of performance and rather look at full year trends. As Michel mentioned on a rolling 12 month basis, that activity is growing at 12% rate.

The high single digit growth in IP transport is a function of growth in terrestrial optics but also in submarine. IP platforms we have discussed, I will not expand a lot on that other than to say it’s a bit of a tale of two trends with the declines in legacy technology and portfolio rationalization being offset by strong growth in our flagship products IMS, SDM and customer experience.

The operating income of the segment is EUR96 million or 7.1% of revenues, swinging back into profitability from the loss of €15 million the previous year. This improvement was driven by continued strong contribution from IP routing as well as improvements in profitability in both platforms and transport.

Core networking operating cash flow also increased compared to the year ago, improvement in profitability tempered by a negative change in operating capital, notably due to an increase in inventory to support the revenue growth in the segment, as well as some negative timing collections in EMEA.

In access, Michel again has touched upon many of these elements. In wireless, the story is LTE rollouts in the US and to an extent China and this was partially compensated by continued declines in 2G and 3G technologies which now represent less than 25% of wireless revenues. Fixed access is the story of copper and fibre continuing to grow and with the growth partially offset by declines in legacy.

Managed services down 50% or there about for the reason to be mentioned and Alcatel Lucent revenues were EUR 14 million relatively stable as compared to Q1 last year. Operating performance improved by nearly EUR100 million and what we see as a continued positive contributions from fixed access, improvements in the wireless division as well as a reduction of 10.5% in operating expenses from one quarter to the other to explain this improvement in performance.

Finally, segment operating cash flow increased by EUR 211 million year on year making it the largest contributor to the overall year-on-year improvement in segment operating cash flow for the group.

If I look at fixed cost savings, you see the development not only in the current quarter, but also sequentially since Q1 2013. Of course, our focus on SG&A expenses is really at the heart of these savings. Now let me draw your attention to the fact that of course, as we proceed towards 2014 the rate of improvement is expected to slow down, given the increasingly lower comparison base as the shift plan kicked off in earnest in Q2, 2013. And as you may recall, we are executing on a number of initiatives including the outsourcing of part of some support functions notably in finance and HR which temporarily create some overlap of cost structure before creating meaningful benefits further down the road when those outsourcing initiative are in full stream, which should be in 2015. So, all-in-all we remain by our expectation of a small third of our 2015 objective in 2014 when the remaining improvement on stream in 2015.

Moving on to the next slide cash flow, I’ve touched upon many of these items. Of course our cash flow burn is remained significant at nearly at EUR 398 million, it is however an improvement of EUR 146 million compared to last year. In addition to the higher level of adjusted operating income, notable items include interest cost of EUR 89 million, down compared to the Q1 2013 and starting to reflect the impact of the achievements of last year in terms of re-profiling and refinancing our debt. We are very focused on that aspect of our financial profile and we will continue to monitor opportunities to further optimize our balance sheet.

The restructuring cash costs are EUR 110 million with our discussions with the unions and overall rollout of those plans on track and when we look at restructuring cash cost for the year, we still expect approximately EUR 700 million for the remainder of 2014, so you will see that number increase over the next three quarters.

Finally, I just wanted to touch based on a few elements. One, update on our balance sheet. Net debt is at EUR 160 million at the end of the quarter. Since then we have reimbursed maturing notes in April 2015 for an amount of EUR 274 million, which means that between now and 2017 we have less than EUR 500 million of debt to reimburse and that debt has already been pre-financed and the proceeds have been earmarked for that reimbursement.

So further evidence of the fact that our activities in the second half of 2013 have really addressed the liquidity side of our balance sheet.

Secondly, and allow me to be a bit granular here. We announced in our press release our intent to make a onetime offer to approximately 45000 of our U.S. retirees and former employees and related beneficiaries in what is the largest U.S. pension plan or U.S. management pension plan to convert monthly pension benefit payment into a single lump sum payment settling all outstanding pension liabilities for that individual.

If I want to be granular and give you a bit of numbers, our assets in U.S. pension plans are approximately $30 billion. Our liabilities valued at $26 billion, so externalizing a surplus of EUR 4 billion growth. We will make an offer to these individuals which represent approximately 35% of our retiree population, but 45% of the liabilities. So the scope of what we are talking about is approximately $12 billion of liabilities.

Now it is very difficult today to estimate the impact given it depends on a variety of factors including the evolution of the financial markets between now and then, as well as the individual decision because it is an individual decision of each beneficiary to accept or not the offer. This offer is expected to be made in 2015 and will be funded exclusively out of U.S. pension assets. So at the end of that offer, depending on the take up rate you should see a broadly corresponding decrease in pension asset and pension liabilities.

So perhaps the message here is, in as much as recently we have been focused on an efficient management of our assets to address the challenges of our liabilities and today given this offer, we can actually reduce those outstanding liabilities. We see that as a positive development and the offer given the time it takes to be prepared is expected to be made in 2015 and we will revert back with an updated time schedule as we get closer to the event.

Finally in terms of enterprise disposals, you know that the offer was subject to a number of conditions, one of which was the employee consultation procedure relating to the sale. It has now been completed. There are other conditions to go through and we remain around the same timeline that we have described initially which is a closing in Q3 2014.

On that note, I think this concludes the presentation part of our discussion and we’re happy, Michel and I to open the floor to questions.

Question-and-Answer session


Thank you, sir. [Operator Instructions] Thank you. Our first question comes from Gareth Jenkins from UBS. Please go ahead sir.

Gareth Jenkins – UBS

Yeah, thanks for taking the question. First one, I just wondered if you could talk to the managed services, I guess the managed decline; whether you could say how many of the 15 contracts you've now churned off, what the going run rate of the business should be. And then just secondly, I wanted to understand the run rate of the fixed cost reductions. You said that there's going to be some dual running costs of contracting coming in or outsourcing. I should say. I wondered if you could just help us quantify what you're thinking for the full year in terms of cost reduction.

Michel Combes

So first on managed services; as you know, we do not break down approaching income by business line. To give you some color, managed services in Q1 2014 recorded certain cost related to contract we are managing out and the operating income situation in Q1 is of course not indicative of the full year. What I can just add as a color, you’ll remember that we had 15 contracts to get rid of or let’s say to renegotiate. We are nearly at the end of this process. We still are finalizing one contract exit or re-discussion and then it will be it and which means that from a revenue profile point of view, we used to be before entering this process around €1 billion a year, I guess it’s fair to figure out that at the end of this process once it will be reset, it will be more – in the order of magnitude of €500 million and then that will give us a platform to re-grow on better basis and better economics.

Most important point for us was to eradicate the losses to make sure that we have a profitable base from which we can then re-grow where it makes sense. So that’s the essence of what we’re doing in managed services and we are exactly on this track.

For the cost savings, first of all, I would like to repeat once again what Jean has said and I have said our commitment to achieve savings in the range of the €1 billion by 2015. Actually, it’s slightly less in order to take into account the perimeter adjustments that Jean referred to enterprise and LGS. Second, we also keep our view about the phasing of these savings and continue to expect a small third to be achieved in 2014 after the big third done in 2013. Why is it so? Major reason is that we have a number of outsourcing initiatives ongoing that imply a temporary overlap in terms of cost structure and aims full effect of savings really felt in 2015. Another element not new either is that we invest in commercial initiatives, many in channels – indirect channels to let’s say, move towards new segments in order to improve our customer mix and you have seen the first results of the strategy with the wins we have referred to for example in the cable industry.

Third, in analyzing the €143 million of savings achieved in Q1, you should also take into consideration the basis effect resulting from the progressive adjustment of scale of the fixed cost structure throughout 2013. We started in Q1 2013 with a fixed cost of €1.260 billion and ended in Q4 2013 at €1.160 billion or €100 million lower. So Q1 2014 reflects the resetting of cost base – of the cost base at a lower level. This effect will get smaller as we move through 2014. So that explain why despite the €143 million first quarter, we continue to commit ourselves on low, third in second year, low third meaning to be let’s say extremely precise. We have done more or less, roughly 330 or 340 first year. So you can appreciate that the low third is something in between 250 and 300.

Gareth Jenkins – UBS

All right, thank you.


Thank you. Our next question comes from Vincent Maulay from Oddo Securities. Please go ahead.

Vincent Maulay – Oddo Securities

Yes, hello; two questions. The first one on patents. Still a modest contribution on the top line in gross profit, so could you give us some color on the next step to improve the patents contribution? And the second question on the fixed cost savings, maybe if you can give us your visibility that you will really be able to cut internal tasks, like outsourcing in IT/HR, so that this famous overlap in 2014 is really temporary.

Michel Combes

Okay, so first on cost savings. I would say that on cost savings, yes, that’s a – I can be extremely clear and committed. You have seen the way we have managed first year and what has been delivered. You see the amount of cost savings which is delivered in Q1. So we are absolutely exactly on track with what we intend to deliver. I had explained already last quarter that this year would be low third, that’s why I had explained the reason for that. Let’s say all our outsourcing programs are now in place for the last one about to be announced. It has been extremely well structured and so we have, let’s say, precise commitment from the outsourcers and also inside the company in order to deliver the savings which are requested in order to deliver cost saving. So on this let’s say you have the full commitment and dedication of Alcatel Lucent’s management to deliver at least the €1 billion committed in terms of cost savings. So that’s what I’d say for your second question. In terms of, let’s say outsourcing, it’s already done for let’s say we have already contracted for support functions, HR, finance, IT and the projects are now already up and running and we have started to implement part of it. There are still few things to be announced in the R&D space which will lead [ph] on very quickly. So that means that all that is up and running and exactly on schedule.

On your first question, sorry, which was referring to licensing; as you know and as I have been very clear, all along the journey in terms of licensing, I strongly believe that we have a strong portfolio of patents. I strongly believe that opportunities are kicking in, we have let’s say this industry moving and mainly with the emergence of new players in the wireless industry such as all the new players in smartphones coming from Asia and many from China, so which means that I have no doubt about the value of our portfolio of patents. Nevertheless, we narrated from something which was not started at all. It takes a while to re-deal the business whether in terms of monetization and or factual sales of some of our patents.

We brought some new resources in. We’ll still strengthen the – we’re still strengthening this team. I wish to do that in a proper manner because again I wish to extract the highest level of value for our shareholders, meaning that from time to time we’re better off to slow down a little bit, the way we implement it, in order to make sure that we don’t jeopardize the value of our patents. So that’s what we are doing. It’s well underway. It’s driven, managed, steered by Jean Raby and Philippe Guillemot. We have the team in place and we are confident with, let’s say the figures that we gave you for 2015 on what we can reach. I am positive that there is value to extract. I want to do it in the best manner for our shareholders.


Thank you. Our next question comes from Alexandre Peterc from Exane BNP. Please go ahead.

Alexandre Peterc – Exane BNP Paribas

Hi, thanks for taking my question. I have actually two, one is from a geographic perspective, if you talk a little bit about which area in particular – which business area has contributed most to solid performance in North America within some of your peers having resale numbers particular in wireless sales, specifically respective market area they’re working well there? And then secondly on your adjustments of your Shift plan targets, can you please explain how we get €60 million less in fixed cost savings, but your cash out does not changed, how exactly should we explain the discrepancy? Thanks a lot.

Michel Combes

Okay. So I will take the first question and I will turn the floor to Jean for the second one. So of course let say I generally do not comment on competitors in terms of let say, what is related performance in between the different companies in certain geography, also remarks to give you some light on North America, I guess that A as we – you all know we have a broad product portfolio in combating wireless, wire line, routing which may explain some differences with some of our peers and when you look at the comparison with our peers, you have to look at the wireless players as well as let’s say the wireline and routing players, meaning let say people which are in other space of the industry, so which would give you a better reflect of where the North America market is. So we have a broader product portfolio.

The second is we have a broader customer portfolio and these I have – let say highlighted at several occasions we are the real only player in wireless with AT&T Verizon and Sprint, so which helps mitigating volatility linked to a specific customer or to a specific project. And third, looking at Q1 results issued by the major US operators it appears that their CapEx numbers were quite robust in Q1, so let’s say what we are delivering is consistent with what has been presented by the American carriers. So all in all, we still see North American market robust, the announcement of the American operators are quite clear, they drive or they – yes, they drive the market towards a slight increase of CapEx on yearly basis for ’14 and so we see that as robust let’s say CapEx pattern even of course the growth will be minimum but still slight growth compared to last year and for the reasons I have told you product mix and customer mix I think that we have a quite resilient portfolio there. Jean?

Jean Raby

Yes, Michel on the link between the fixed cost savings in Enterprise and the cash restructuring cost, the evolution of cash restructuring cost that I mentioned that I referred to was for the period 2014-2015, actually in respect of Enterprise the restructuring was started and implemented earlier i.e. mostly in 2013 which is why you see already in 2013 a substantial majority of these fixed cost savings already realized. In other words, Enterprise was front ended and very much executed over 2013.


Thank you. Our next question comes from Achal Sultania from Credit Suisse. Please go ahead.

Achal Sultania – Credit Suisse

Hi, thanks for taking my question. On the gross margin side if we look at Q1 levels obviously trends in your gross margins there and then we have China expectedly is going to ramp up in the mix as we go through the year, but equally it seems that your mix in the US and Europe is actually going to keep – to continue improving, so how should we think about gross margin trends as we go through the year, is it something that should continue to improve from Q1 levels?

Michel Combes

Well, I guess that as you know we do not give any formal guidance for quarter, for 2014 as whole, keep in mind though that the contribution of LTE rollout in China in Q1 was impacted by the components shortage I referred to during my presentation. So that we still have to feel the full effect of volume deployments in China. So that’s the first comment that I’d like to make.

The second may be to give you let’s say more kind of granularity. So we don’t give any commitment on gross margin per quarter. What I had said is that our aim by 2015 is to progressively move our gross margin on a yearly basis to a range of 33% to 34%. Corrected with the Enterprise asset disposal that means that these let’s say new – it’s not a target but this new indication would be 32% to 33%. We were let’s say in this same parameter low 31% in 2013, so which means that as I have told you that intent was to move progressively from the level we were in 2013 to somewhere in between 32% to 33% in ’15 I guess it’s not unfair to believe that level of around 32% is let’s say a fair assumption for the 2014 year.

Achal Sultania – Credit Suisse

And just a follow up on your core networking business top line. I guess you had – earlier you had target to get to somewhere around €7 billion of revenues by 2015 in core networking and we’ve already seen routing has been consistently showing around 10, 12% growth for the last few quarters year-on-year, what needs to happen to actually get to those levels, do we actually need to start to see your platforms business starting to accelerate to get those levels and why should that platforms business see that kind of acceleration in top line?

Michel Combes

I guess as you know there are three bits and pieces in these IP or in these core business line, there is IP Routing which is of course expected to be in the double digit range, and we have let’s say proven the case in the last few quarters again on a yearly basis because you can have quarters which are up and down, we have seen last year lot of cyclicality and so of course we will continue to have let’s say some cyclicality on our IP Routing, but nevertheless the trend of double digit on a yearly basis is the one that we have posted and we see it to stay, when let’s say you have to take another assumption in order to reach above €7 billion which is the increase in transport, which will be kicked in and which start to be kicked in you have seen that we turned around our transport business in H2 last year and we accelerated in Q1, it will continue to accelerate on both side, terrestrial with acceleration of deployment of the new technology and also strong acceleration of our undersea cable revenue driven by all let’s say contracts that we have registered end of last year and that we continue to register beginning of this year. So there we’ll be able to let say post a quite significant growth.

And last on let’s say platform as we have said we should be on the duration of the plan in the growth range of mid-single digit, we are lower for the time being due to the fact that we are suffering, not suffering but let’s say we have the impact of the legacy products that we have terminated in the past few quarters but the underlying trends for our new business in platform such as voice over LTE, such as IMA, such as customer experience, give us a comfort that we will drive this mid-single digit growth in the course of ’14 and ’15 so that’s the way you should read it and so that’s why we are comfortable on our target to be up €7 billion by end of 2015 driven by the three elements.


Thank you. Our next question comes from Andrew Gardiner from Barclays. Please go ahead with your question.

Andrew Gardiner – Barclays

Good afternoon, thanks very much. Just a follow up around the US, I can understand you are not wanting to talk specifically about some of the competitors, but I’m just wondering in terms of perhaps comparing the trends as we look further through the year to Ericsson suggested that that while that business was perhaps weak in the first quarter particularly compared to what you have seen, that things would improve as we go through the year. For you guys, it’s starting at a pretty healthy level in the U.S. and in wireless specifically, do you think you can still see the same based on what customers are telling you?

Michel Combes

I guess that, again, I don’t want to make any comments on competitors. I think that the easiest way for you to assess the situation is what the operators are telling. So the operators have been pretty clear when they published their results after Q1 that they will – they have confirmed their little of CapEx for the year, with a slight growth compared to last year. Some of them have overspent in Q1, some of them have under spent in Q1, so but all-in-all they have given trend for the year. And that what we take into account in order to let’s say – let you know that we see North America as remaining robust. We have been more or less flat on this quarter which is consistent with what the operators have done. And so, we will remain consistent with the level of spend of the telcos in the next coming quarters.

So that is the way I look at it and probably we are also best to provide the proxy of the CapEx spend in the market as I have said, we have a broad portfolio of product and a broad portfolio of customers. So then for the ones which have either focused on only one and – or only one or two customers, of course they can be little bit more of analytics in the way they report revenue quarter after quarter.

Andrew Gardiner – Barclays

And if I may, just very quickly, on the shift plan and the fixed cost reductions, you've made very good progress over the last few quarters. I'm just wondering, a, around your level of conviction in that EUR1 billion, or now near EUR1 billion, of fixed cost savings. And, b, in relation to a comment you made in your prepared statement, if there is potential for further savings beyond that now that you're further in and you've got visibility into that, would you intend to reinvest those additional savings into growth opportunities or is there potential for upside to the actual absolute level of fixed cost savings?

Michel Combes

I am – and the management team that I am managing, we are let’s say pragmatic, I mean first we are late in one year in the Shift plan, you should not forget and we have already one let’s say nearly half of the cost savings. So that’s one, which shows how let’s say strong we are on – how committed we are on execution.

Am I 100% comfortable of our ability to reach €1 billion? Absolutely, meaning that let’s say we have clear execution path in order to deliver that, that we monitor on a monthly basis which is led by my COO Philippe Guillemot and which is crystal clear, so there will be not surprise. Then if and when extra savings can be generated that’s clear that then we might have to ask some question whether are better off just let’s say to deliver that way and/or to win even a bit more to accelerate the transformation of company towards new segments of customer to derisk our revenue profile and/or to let’s say invest slightly more in our innovation fabric in order to create even more competitive advantage. So that is the way we will look at it, but to your point am I comfortable on our ability to deliver €1 billion, the answer is absolutely yes.


Thank you. Our next question comes from Kai Korschelt from Deutsche Bank. Please go ahead.

Kai Korschelt – Deutsche Bank

Yes, hi good afternoon. Thanks for taking my question. I have two, the first one was on OpEx. With my mouth is correct that I think excluding LGS and Enterprise the OpEx was around €900 million in Q1 which is a very strong performance, so I’m just wondering how should we think about the progression of this OpEx run rate throughout this year, and I appreciate on that year-on-year comment, but just sequentially how should we think about it as we go through the next sort of couple of quarters? And second question is on China there has been some news flow that the three major carriers are looking at potentially tower or maybe even network sharing. I’m just wondering what is your view or your sort of intelligence on that and how it ultimately could impact either r the pace or the magnitude of the 4G buildouts? Thank you.

Michel Combes

So first on the second question the Chinese one and then I will turn to Jean the first one to reiterate maybe a little bit more in detail what we have already said. On China of course a little bit early to say, nevertheless I see that more as an opportunity rather than a threat; meaning that what I understand from the our Chinese customers is that what they’re considering is passive network sharing meaning mainly towers so which has two benefit the first one to accelerate or rollout once they are let say – once let say the season to accelerate the rollout of course you can slow down a bit in the beginning in order to make sure that let say these network sharing is implemented but then it’s easier for all of them to rollout their networks, and second it unlock additional revenue for electronics meaning that they will spend less on passive in cost structure because it will be shared and so that gives a little bit more resources to invest in electronics or in our equipments which are treating different shades and it’s also gives a little bit more resources to extend the coverage of those networks because you spend less in the passive [ph] infrastructure. So all in all, I see that as usual and as when it has happened in some other countries and other countries more as an upside rather than downside, but we are still assessing the exact situation. So that what China. Jean for the first.

Jean Raby

Yeah. On the first question indeed SG&A expenses were €923 million for the first quarter, we have guided to a fixed cost savings objective by 2015, that fixed cost savings objective is a function of many different factors, marketing, SG&A, R&D in certain respects we will not deviate from that objective nor split it into various buckets we are sticking by objective of €1 billion and the small term objective for 2014.

Kai Korschelt – Deutsche Bank

Great. Just follow up to that, but sequentially how should we think about it and obviously there is seasonality in between the quarter. So I mean is that €900 million level broadly sustainable throughout this year or could it move up or down depending on seasonality?

Jean Raby

We don’t guide to from one quarter to another as we said, we look at the business on a longer term.

Kai Korschelt – Deutsche Bank

Okay, thank you.


Thank you. Our next question comes from Chris Wolfe from Merrill Lynch. Please go ahead.

Chris Wolfe – Merrill Lynch

Hi, it’s Chris Wolfe from Merrill Lynch. Thanks very much for taking my question. Just looking at the US again, and particular trends at your two biggest customers, I think revenues were actually up pretty strongly year over year in the 20% to 25% region. Can you talk a little bit about your momentum here? Is it a case of taking market share away from competitors across your existing product set or more that you're selling a greater breadth of products to these same customers, perhaps, with an enhanced gross margin profile?

Michel Combes

Well, I don’t know, let say, was the figure that you are mentioning is it coming from because we don’t provide split per customer, so what you can – just had in mind I guess that what was very clear is AT&T and Verizon has presented in their results quite significant growth of their investments in Q1 so let say it’s a rate which was a double digit growth and so which obviously has some impact on the suppliers, and again due to the fact that we have mix which is border than most of the other operators we have let’s say we’ve probably been in a position to grab it more of these let’s say growth than some others. So again for North America I think I have not changed my mind since – I try to be always consistent, so what I’ve said back end of last year I’ve said that I was seeing robust CapEx spend in the US for 2014 driven by willingness from the two major players to continue to accelerate the rollout of their networks in order to improve the quality of the experience and to match the data explosion that they are facing on the data network, having in mind that’s all, let’s say the average usage of smartphone in the U.S is still very far from what for example we see in Asia.

So there is still a huge potential of growth for the next coming quarters. And that the two others meaning Sprint and T-Mo were also starting to let’s say roll out additional networks in order to cope with the competition of the two main ones. So that’s why I have always said 2014 would be robust. It has been confirmed by the operators themselves in the guidance that they have given in terms of CapEx and so that’s what you see in our figures today. And that’s why I believe the year 2014 will remain robust, slight growth for the CapEx investment from the operators compared to last year.


And your final question today comes from Francois Meunier from Morgan Stanley. Please go ahead.

Francois Meunier – Morgan Stanley

Yes, thank you for taking the last question. Michel, congratulations for a very good quarter. It's good to see a positive EBIT in the first quarter for Alcatel; it's been a long time. I might actually ask a longer-dated question about your wireless business, Michel Combes, if I may. We've heard Nokia talking about 5G with NTT DoCoMo; Huawei talking about it at the Barcelona Mobile World Congress; and Ericsson working at this. So what is the plan, long term, for 5G actually? Do you want to invest in this or is it more like the wireless business is going to be run for cash and you're not going to invest in 5G? I know it might sound a bit early to talk about this, but I thought it was quite interesting.

Michel Combes

Yes, that nothing has changed meaning that what I have presented to you consistently in the past quarters was that first our aim was to refocus our wireless business on 4G and small cells which, by the way, small cells is a kind of [indiscernible] configuration of 5G and to reduce our exposure to the legacy technologies first. Second, of course let’s say to focus mainly on U.S., China and be opportunistic elsewhere which we are doing and third, drastically improving the operational efficiencies of our wireless business which inherited as you know of so many R&D centers and costs which were not affordable by the company. So that’s where we stand.

We are starting, let’s say to pre-configure the next generation of wireless. So I have spoken about small cells. But the agreements that we have reached as well with partnership, that we have reached as well with Intel around virtual RAM is another component of let’s say what might be path of the next generation of wireless. So we are starting also to invest in that space. And on top of that, we are path of let’s say the different R&D programs in the different regions of the world in order to lead the transition to 5G. Of course, 5G is not for now, so which means that for the time being, we are focused on our short term execution meaning, transition to 4G and small cells which as you have seen start to deliver traction and improving the financial profile of our wireless business. Then we’ll see at what speed, how we’ll invest in the next generation, I have always said I think A, to restructure my business; B, to create optionality. So that’s what we are continuing to do. So nothing has changed under the sun.

Francois Meunier – Morgan Stanley

Okay. Thank you Combes.

Michel Combes

You’re welcome. So I guess that it was the last question which was raised. Thanks to all of you for being a part of this presentation this morning. Of course, we remain at your entire disposal. And thanks for all the questions that you came with. Bye-bye.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to All other use is prohibited.


If you have any additional questions about our online transcripts, please contact us at: Thank you!