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TD Securities analyst Chris Umiastowski published a research report looking at the possibility of Nortel (NT) buying Avaya (NYSE:AV). He sees two reasons why Nortel would want to make the deal:

1. If well executed, a Nortel-Avaya combination see Nortel become the leading player in the enterprise telephony market.
2. It would expand Nortel’s services business given 46%, or $2.4-billion, of Avaya’s revenue last year came from services.

In terms of why Nortel wouldn’t make the deal, Umiastowski lists four reasons:

1. It looks expensive
2. It could confuse customers because Avaya and Nortel share the same geographic focus - North America.
3. It wouldn’t help Nortel’s product mix.
4. Avaya’s services revenue might not be want Nortel wants given 63% of Avaya’s revenue comes from maintenance such as moves, adds and changes.

Chris continued:

Therefore, we do not see a deal being likely between Avaya and Nortel. If private equity buyers were to acquire Avaya or any other PBX business of significant size. we would be slightly more bullish on Nortel. This is because acquisitions usually go along with restructuring…and restructuring often results in management distraction and lost sales opportunities (where Nortel could be the beneficiary).

According to Lightreading.com, Avaya could be sold this week for more than $9 billion, or more than $20 a share. Citing a source, Lightreading said the two leading suitors are Nortel and a private equity firm, Silver Lake Partners. Nortel is apparently offering cash and stock, while Silver Lake is offering all-cash. A $20-a-share offer would be a 25% premium to Avaya’s closing price of $16.08 on Friday.

According to Lightreading, J.P. Morgan Chase & Co. analyst Ehud Gelblum thinks that

a combo cash + stock deal – which seems the most likely of scenarios – would require somewhere between 11% and 18% reductions in operating expenses for Nortel to offer a 15% premium and still have an accretive deal. If Nortel does consummate the purchase of Avaya, it would be the company’s biggest acquisition since it acquired Bay Networks in 1998. More important, it would be a huge move for a company still trying to right itself after a disruptive and troubling accounting scandal. To exacerbate the situation, Nortel also finds itself in the midst of a consolidating and increasingly competitive marketplace in which it needs to find a fertile and lucrative niche. So far, Nortel seems to be placing its bets on VoIP, Wi-Max and IP-TV. While VoIP is at the core of what Nortel does best - serving the needs of carriers - Wi-Max and IP-TV and fiercely competitive landscapes where Nortel does not appear to be an early leader.

According to the Wall St. Journal today, Nortel was fallen behind TPG Capital LLP and Silver Lake Partners in the hunt for Avaya. The private-equity firms are looking to bid $17 a share, compared with Avaya’s closing price of $16.05 on Friday. Stay tuned, this could get interesting.