Ikanos Picks Up Alcatel's Check

Ikanos (IKAN) announced last week that it would pay a ‘leading European OEM’ $1.6M in return for a development agreement. The OEM is most likely Alcatel. This is a very odd deal and is worthy of closer examination.

From the release:

Ikanos Communications, Inc … today announced that it has entered into a $1.6 million strategic non-exclusive development and feasibility study agreement with a leading European original equipment manufacturer (OEM) that supplies solutions that deliver triple play services. This extension of the parties’ relationship leverages the OEM’s extensive DSL and networking system expertise, sets forth a time line that is compatible with Ikanos’ next generation design cycle, and explores highly integrated, low-power architectures for next generation, multi-mode VDSL2/ADSLx products …

This is what we have been able to deduce:

• Ikanos is paying a certain Euro OEM and in return they receive guarantees that this OEM will reach certain deliverables within a given time frame. These deliverables could be revenue or development milestones - most likely development milestones.
• The agreement is for a next generation VDSL product with the market share leader in Europe. They are also an existing customer. Alcatel-Lucent (ALU) closely fits this description.
• There is some degree of exclusivity in the relationship. The customer does not have exclusive use of the next generation IKAN product, though Alcatel may have agreed to exclusively use Ikanos if they hit certain development guidelines. This is unclear.
• Conexant (CNXT) supplies Alcatel in the US market, and Infineon (IFX) was in competition with Ikanos for the Alcatel European/Asian market.

New chips are prone to bugs and the customers that are first to power them up express frustration that chip vendors use their systems to help debug beta silicon- incurring significant costs in the process. Ikanos appears to be defraying the costs associated with one of their customers qualifying new silicon.

Alcatel is the #2 provider of DSL equipment worldwide and a leading provider of optical access hardware, and the future of VDSL is providing the last 100m link in certain optical access situations. Since Alcatel is not a 10% customer for Ikanos it is hard to deny the importance of forging a strategic relationship with this supplier. Ikanos already supplies VDSL for leading Korean and Japanese equipment makers engaged in FTTH build outs. (see “The Proving Ground of NTT“)

$1.6M is not an enormous amount of money when compared with the $10M+ R&D risk capital Ikanos must invest in next generation silicon. When viewed in the context of locking up the leading vendor in the field and protecting this large R&D investment, the deal makes sense. This is what market leaders do - they freeze the market. Perhaps Infineon couldn?t do a deal like this (corporate gridlock) so Ikanos put this on the table.

The unprecedented nature of this deal shows how the competitive dynamics of the VDSL silicon business have changed. In a previous life, Ikanos held such a technological lead that it could dictate terms to customers who needed their silicon. Competitors have caught up and now it is the equipment vendors that carry the stick.

Comments and corrections welcome.

Discosure: Author is long IKAN