Alcatel Lucent Still Has Vast Upside Potential

Mar. 1.12 | About: Nokia Corporation (NOK)

The acquisition of Lucent Technologies by Alcatel created the Alcatel-Lucent Company (ALU), one of the largest communication equipment providers in the world. Headquartered in the famous 7th arrondissement of Paris, the technology giant employs almost 80,000 employees with operations worldwide. Its shares are trading on both the Euronext and NYSE markets.

After the merger deal, Lucent shareholders received 40% of the combined entity, whereas Alcatel shareholders owned the rest. The merger was expected to create a significant shareholder value through cost savings and leveraged R&D services. However, instead of creating shareholder value, the investors experienced significant losses. At the time of the deal, Lucent was valued at $13.4 billion, suggesting a market cap of $33.5 billion for the combined entity.
Click to enlargeBasic Ratios

After losing almost 85% of its market cap in the last 5 years, ALU is trading at $2.39 with a 52-week range of $1.39 - $6.63. It has a market cap of $5.75 billion. P/B, P/S, and P/CF ratios stand at 1.2, 0.2, and 25, respectively. Operating margin is 1.5%, and net profit margin is 2.4%. The stock is highly volatile with a Beta of 2.44. The company has some debt issues. Debt/equity ratio is 1.2. Alcatel Lucent has not been paying any dividend since 2006.

Alcatel Lucent has a 4-star rating from Morningstar. Average five-year annualized growth forecast estimate is 8.2%. In the past 5 years, the company has been a big loser, but the 2012 guidance suggests that it is an attainable growth rate.


According to the FY 2011 highlights, the company experienced a strong-cash flow performance in the last quarter. The management also expects 2012 to be a better year than the last one.

High Leverage Network sales reached almost 1.2 billion euros. According to the management, the company keeps innovations in sustainable, intelligent bandwidth, while improving operating efficiency. The cloud-based services also offer elastic scaling and pay as you go models.

ALU generated 38% of its revenues from North America, whereas it received 30% of its revenues from Europe. Asia-Pacific region accounted for the 17% of revenues. North America has experienced the strongest revenue growth of 11% in USD terms.

Cost Savings

ALU has a significant focus on the cost minimization. One of the initiatives is the variable cost savings led by a dedicated streamlined organization. Thanks to this initiative, ALU is expecting to achieve and additional variable cost savings of 300 million euros in this year, alone.

Another initiative is the fixed cost savings. ALU is expecting additional cost savings of 200 million euros in this area. Together with the variable cost savings initiative, ALU is expecting to reduce its costs by almost half billion Euros. If the company can achieve this ambitious target, that will result in a significant boost in cash flow, as well as profits.

Over the last three years, fixed cost savings reached almost a billion euro. Adjusted operational profits have increased by more than two-fold to 610 million euros. Thus, there is a significant improvement in the company's financials.


There is an interesting hint on the use of company's patent portfolio. The earnings presentation highlights a "strategic decision to realize the full value of patent portfolio." ALU's balance sheet includes approximately 4.5 billion euros in goodwill and 1.8 billion of intangible assets. Given the huge patent wars in the telecommunication area, I think Alcatel-Lucent's portfolio might be worth much more than the stated amount.
Click to enlargeSummary

I think it is worth to state that 2012 outlook is expected to better than this year. The management expects a higher operating margin as well as a stronger net cash position by the end of this year. The smart phone proliferation will also boost the trend for the company's software segment.

The stock has returned almost 60% in the last 2 months. This is a scary factor for many investors. However, the stock still has 64% upside potential to reach its 52-week high. $3 will be a pretty strong resistance level. As one can see from the graph above, there is a significant gap in the $4-$5 region, which is yet to be filled. Once the $3 resistance is broken; the next target will be $5.

Compared to industry leader Qualcomm (NASDAQ:QCOM), Alcatel-Lucent is trading at a dirt cheap price. Surely, Qualcomm's balance sheet is almost debt-free, whereas ALU has a lot of debt. However, Qualcomm's P/E ratios are significantly higher than that of ALU's ratios. If ALU can achieve Qualcomm's margins through cost savings, ALU would be trading at a higher price, since it achieved higher sales.

Steve Cohen's SAC Capital is pretty bullish on the stock, and increased its shares by 4.5 million. James Simons' Renaissance Technologies also have more than $6 million ALU shares. Thus, the big money is following the stock. While I would not suggest putting all of your eggs into one basket, ALU could be a terrific addition to the speculative portion of your portfolio.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in ALU over the next 72 hours.