Telecom equipment makers reported a very weak quarter, hurt by a lack of growth catalysts in the large countries. ZTE (ZTCOF.PK), the second-largest telecom maker in China, said that it would lose US $319.1 million in the quarter due to contract delays and weak profits in Europe. Ciena (CIEN) declined after investors tempered down their enthusiasm for its growth-driver product, 100G. Ciena also reported quarterly results that missed estimates by $0.02 per share. Ciena generated $474.1 million, and lost $0.04 per share. JDS Uniphase (JDSU) also missed expectations. JDS earned $0.15 per share, but generated revenue of $420.9 million, $7 million below consensus. Finally, Alcatel-Lucent (ALU) reported weak third quarter earnings, causing shares to fall 10% that day. For the last few quarters, the company told investors that weakness in China was temporary and that project delays in that region would start.
For the year-to-date, Alcatel-Lucent shares fared the worst, only performing relatively better than ZTE Corp:
(Chart Source: Yahoo Finance)
Alcatel-Lucent reported a substantial decline in free cash flow ("FCF"). FCF was negative $360 million, compared to negative $511 million in the previous quarter. The company has EUR 4.7 billion in cash and marketable securities. Revenue declined 2.8% year-over-year to EUR 3.599 million. Gross margins declined to 27.9%, compared to 35.3% in the previous year. Lower sales volumes, unfavorable product mix, and high reserve levels hurt margins.
Alcatel-Lucent is close to trading below $1.00, after closing at $1.03 on November 5 2012. There are 8 possible catalysts that could help Alcatel-Lucent trade above the $1-level:
- The weight of the decline in legacy equipment and enterprise for wireline is apparent. Without legacy product lines, sales would have grown 63% year-on-year, compared to 16%.
- Alcatel-Lucent continues to struggle with declines in optics (by 21% year-over-year). Last quarter, the submarine optics business was weak. Management described the quarter as a low point of the cycle. If this is true, sales of the Seabras-1 system between New York and Sao Paulo should be a starting point for additional projects.
- There are areas of growth in the emerging markets. The company experienced double-digit growth in Central and Latin America, helped by Brazil. This contrasts with the declines in North America (a decline of 10%), Asia Pacific (-10%), Europe (down 15.4%) and in China.
- The WDM portfolio could be another growth driver. The 1830 Photonic Service Switch ("PSS"), which was selected by China Telecom (CHA), could be beneficial in the future. Metro and core network upgrades could also be positive. Last quarter, Alcatel-Lucent supplied South Korea with 100G upgrades.
- IP is an area for further strength. During the third quarter, the IP division grew 30.3% to EUR 490 million.
- Seasonal strength in the next quarter may be in play, as the fourth quarter is a stronger period for Alcatel-Lucent.
- Customer wins: The company won a TD-LTE trial network rollout with China Mobile (CHL) and was chosen by Sprint (S) to provide broadband coverage in high-traffic areas. Sales for the lightRadio Metro Cells product could increase in the quarters ahead. Network transformation projects helped the company grow Services revenue by 6.2% to EUR 1.058 million. A partnership with Telefonica (TEF) will help both companies benefit from 3G mobile services and the initiation of 4G LTE projects.
- The trend for faster growth for fiber-based access over copper-based access sales is another positive for Alcatel-Lucent.
Alcatel-Lucent closed at $1.00. If shares trade below that level for 30 consecutive days, the company will need to reverse-split, which will further weakening its share price. Even after Alcatel-Lucent announced a 5,500 reduction in headcount, 60% of it will be in Europe. This could mean cost cut delays, since regulatory, legal processes and negotiations take time. $1.00 could very well be a bottom for the company. The 100G is a strong product offering that could grow in sales. The shift from 2G to 4G will continue, but Alcatel-Lucent must ensure that it can benefit from this transition. Demand from China continues to be a wait-and-see scenario, as significant erosion in CDMA and GSM continues to hurt results.
Disclosure: I am long ALU.