Nortel Networks: Lehman Maintains Rating While Baird Lowers

In the wake of the CTIA conference last week, Lehman Brothers came away with some sense of comfort regarding Nortel’s (NT) CDMA/GSM prospects, while maintaining its 2008 and 2009 revenue and EPS estimates at $11.1B/$1.03 and $11.6B//$1.33.

Here’s a synopsis of the Lehman report:

NORTEL: Sees LTE Deployments Earlier than Anticipated; CDMA/GSM to Carry Stable Revenues Near-Term

We met with Richard Lowe, President of NT’s Carrier Networks group, who highlighted a healthy outlook for NT’s carrier business. NT is not seeing a slowdown in carrier activity aside from Sprint, with VZ continuing to be very bullish. Lowe reiterated comments we heard from Mike Z. last month that LTE should happen sooner than anticipated, with commercial deployments beginning in 2010. Until then, NT expects CDMA/GSM to carry stable revenues through 2008, with TDM declines offset by solid carrier VoIP growth (looking for double-digit growth).

NT continues to expect flat revenue and stable margins for its carrier business in 2008. Overall, we are encouraged by NT’s focus and vision around 4G technologies (25% of R&D spent on 4G), but we monitor for its success given heavy LTE competition. We maintain our 2-EW rating on NT.

Discussing LTE, NT feels comfortable with its competitive positioning, helped by its solid CDMA incumbency (29% share according to Dell’Oro vs. ALU’s 47%). NT feels its strong CDMA installed base gives NT deep knowledge of the carriers’ networks, with LTE being a complementary technology to CDMA. Lowe noted NT is responding to ~3 RFPs in addition to VZ/Vodafone. NT also highlighted it is not investing in UMTS as its competitors are, providing an additional advantage as NT focuses sharply on LTE.

Additionally, NT feels it can leverage its WiMAX investments for LTE, noting much of the investments are reusable. For both GSM and CDMA, carriers can upgrade to both WiMAX and LTE by reusing existing antennas, cables, etc., with existing amps being 4G ready. Lowe noted that upgrading to LTE would only require adding RF cards to the existing base stations, rather than replacing the entire base station.

Furthermore, the backwards compatibility between LTE and GSM is likely to be better than LTE and UMTS. Vendor wise, NT noted the players remain the same as in the past (though more consolidated), with the exception of Huawei which may impact the price structure.

With respect to market opportunity for LTE, NT believes the spectral efficiency (2x-3x more efficient) should deliver a cost advantage over UMTS. NT expects LTE should be less expensive to deploy than going from 2G to 3G, as it is more compatible with existing infrastructure, driving lower capex. Furthermore, UMTS led operators to spend billions of dollars of spectrum. In addition to infrastructure revenues, Lowe noted that compared to 3G, operators now rely on outsourcing applications, services, and network management, presenting incremental revenue opportunity for vendors.

On GSM and CDMA, NT sounded optimistic and is predicting a longer tail in these businesses than others are expecting. NT expects 2008 will be a stable year, with carriers such as China Mobile refreshing their GSM networks, and European operators putting more money into GSM. Lowe added operators continue to spend on EV-DO (e.g. U.S. Cellular). Supporting these views, NT highlighted last week’s announcements, including a 5-year CDMA wireless network deal with U.S Cellular, and a $100M deal with India’s BSNL to expand its GSM network. NT also noted VZ continues to spend on CDMA, with Sprint also needing to support its CDMA network despite its current pause.

Overall, Lowe noted that excluding Sprint, NT’s carrier business is not seeing slowdowns from carriers despite macro concerns, as data traffic on networks continues to grow rapidly. With NT guiding flattish growth in its carrier business in 2008, Lowe expects growth to resume in 2010, driven by early LTE and WiMAX revenues. Lowe continues to look for stable margins in the carrier business, with NT’s overall margin expansion expected from NT’s Metro Ethernet and Enterprise businesses.

Baird Lowers Rating

The analyst community is clearly worried about Nortel’s enterprise prospects. R.W. Baird has lowered its rating to neutral due to a combination of a weaker enterprise environment, as well as lower CDMA spending expectations.