TBR TECHNOLOGY BUSINESS RESEARCH, INC. Alcatel-Lucent NETWORK BUSINESS QUARTERLY SM 2Q11 INITIAL RESPONSE Publish Date: July 28, 2011 Author: Suresh Joseph ([email protected]), NMP Senior Analyst Content Editor: Chris Antlitz, NMP Analyst Second Calendar Quarter 2011 Second Fiscal Quarter 2011 Ended June 30, 2011
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TBR
T EC H N O LO G Y B U S I N ES S R ES EAR C H , I N C .
Though revenue in the second quarter was largely in line with expectations, growing 2.4% to $5.6 billion on a year-to-year basis, operating income was well below expectations as unfavorable product mix and initiatives to reduce cost depressed income. Alcatel Lucent’s (ALU) second quarter looks all the more challenging, as the company hopes to “catch up” during this time and meet annual targets. With operator spending expected to slow in 2H11, ALU is under increased pressure to execute better operationally and financially during the rest of the year.
Leverage growth from NA and APAC, as the industry braces for reduced operator CapEx in 2H11
Alcatel-Lucent’s North America and APAC regions grew in the double digits, significantly helped by the LTE and 3G rollouts in the respective regions.
Realign to strengthen focus on innovation, strategy and execution
ALU realigned its organization and formed a single Software, Services and Solutions group to better focus on its applications and services strategy. In addition, ALU consolidated R&D and strategy under the leadership of Bell Labs to drive innovation closely tied to overall strategic objectives.
Expedite divestiture of its Enterprise division to refocus on core service provider segment
Private equity firms bid for Genesys, the largest asset in ALU’s Enterprise business unit. Besides bringing in cash to bolster its weak liquidity position, this divestiture will help reallocate and refocus resources to support the company’s core business segments.
While revenues are in line with expectations, weak operating income and anemic operator outlook add pressure for better execution in 2H11
Europe continues to struggle; however, ROW boosts growth and offers new opportunities
• North America and APAC reported 18% and 14% year-to-year growth, respectively. Rest of World also grew with the CALA region, reporting more than 30% year-to-year growth. Brazil in particular represents a lucrative market, since it generates approximately 40% of the telecom revenues originating from the Latin American region. To tap into this opportunity, ALU announced the opening of a technology showcase center in Sao Paulo, Brazil, to demonstrate and promote its 4G LTE, video applications, cloud and location-based service offerings.
• ALU has been aggressive in its efforts to help Brazilian operators resolve their challenges as they grapple with the explosion of mobile data across their networks. In addition, this launch helps ALU develop a deeper relationship with the operators and tap into the larger opportunity of network upgrades that will be required as the country prepares to host the 2014 World Cup and 2016 Summer Olympics.
ALU’s demand for cash and retention of French staff complicates divestiture of its Enterprise unit
• ALU is seeking to divest its enterprise applications unit, which reported the largest drop among all the business units, falling 6.6% compared to the same period last year. Though profitable, this unit accounts for less than 10% of annual revenues and does not fit well with the company’s primary objective of selling network equipment to the service provider segment.
• Private equity firm Permira extended its $1.3 billion bid to buy Genesys, the largest piece of the enterprise unit with a portfolio of call center and video conferencing software. However, ALU’s demand for cash and employment guarantees for staff in France complicates matters. With its cash position at a negative $0.5 billion this quarter, selling this unit is expected to bring approximately $1.5 billion. TBR believes this divestiture, while providing much-needed cash to fund high-growth opportunities around mobile broadband and M2M, will help ALU realign and refocus on its core telecom operator segment.
Executive Summary
Divestiture of the enterprise business will help ALU focus on its core service provider business, particularly in high-growth markets
Strong demand for mobile broadband and backhaul solutions helps offset the decline within the Services and Applications divisions
Segment Revenue Performance and Strategies
Networks
€2.5 billion
(or $3.6 billion)
• The Networks business unit reported 7.4% growth compared to the year-ago quarter, helped by strong demand for IP/MPLS service routers in its IP division and CDMA/EV-DO in its wireless division.
• During 2Q11, ALU made the world’s first long-distance call using lightRadio, while securing a contract from MegaFon for small cells to improve in-building coverage.
Services
€871 million
(or $1.3 billion)
• Services declined 1.4% year-to-year, as Network Implementation and Maintenance lines of businesses underperformed due to project closeouts and reduced spending in the EMEA regions.
• Managed Services and Integration Services helped offset the decline with contracts at China Unicom and SFR, respectively.
Applications Software
€486 million
(or $700 million)
Applications Software declined 0.5% as the Enterprise Applications business continued to depress overall revenues, further strengthening the case for its divestiture.
Network Segment Revenue Performance and Strategies
Wireless
€1.1 billion
(or $1.6 billion)
• The Wireless division continued to grow as revenues increased 5.7% year-to-year, led by CDMA EV-DO and 4G LTE business in Americas, and 3G in the APAC region.
• ALU announced a partnership with Broadcom to establish a standard for Femto-enabled residential gateways.
Wireline
€357 million
(or $514 million)
• Despite growth in the APAC region, ALU’s Wireline division declined 2.5% year-to-year.
• The drop was caused by fading demand for legacy TDM switching and legacy DSL equipment.
Optics
€645 million
(or $928 million)
• Optics division grew 3.7% with growth in the submarine business, WDM and wireless transmission segments.
• ALU’s WDM platform was selected by Russia’s MTS for its optical transport network.
IP Routing
€406 million
(or $584 million)
IP routing revenue grew 27.7% year-to-year due to continued demand for higher bandwidth.
With the exception of Wireline, all divisions under the Network unit grew, helped by strong demand from America, China and Eastern Europe
Revenues Total revenue grew €90 million, or 2.4% year-to-year to €3.9 billion (or $5.6 billion), due to strong global demand for IP and wireless equipment.
Expenses • SG&A comprised 18.2% of total revenue, down 330
basis points year-to-year, driven by improvements in operational efficiency.
• R&D decreased 3.7% year-to-year, as ALU scaled down spending to focus on development, primarily in IP and wireless.
Margins • Reported gross margin declined marginally to 35.8%
on unfavorable geographical and product mix and efforts to reduce costs.
• Services reported the highest adjusted operating margins with 6.1%, followed by Applications and Networks at 3.9% and 1.9%, respectively.
• Profitable growth in Managed Services and Integration Services helped augment margins within the services business.
While lower margins raise concerns, ALU improved marginally from a revenues and cost perspective
ALU is finally finding traction in femtocells as operators look for quick fixes to capacity issues
Go-to-Market & Product Strategies
Key Developments
Wir
elin
e
ALU will provide its IP multimedia subsystem to China Telecom in six provinces, marking the first commercial deployment of IMS for China Telecom as it continues the process of evolving its PTSN network to an all-IP infrastructure.
Wir
ele
ss
• ALU is providing femto-based small cells to Russian mobile operator MegaFon, thereby improving in-building coverage throughout the network. MegaFon will deploy the small cells on its own, as they are easily installed and activated.
• Femtocell uptake from operators has been slow since the technology’s introduction, partly due to the high cost of materials, which are passed on to the buyer. Additionally, most operators, while recognizing the need to improve coverage in difficult-to-reach places, are more concerned with adding base stations to their networks to harness the revenue from the growth in mobile data traffic.
• ALU is capturing operators’ attention with its push to use femtocells to add capacity in urban markets, as the company has done with the MegaFon deal. Operators are beginning to realize installing small cells is a simple and quick fix to capacity issues that arise in highly populated areas.
Op
tics
France’s Completel is using ALU’s 100G optical solution to increase network capacity and performance. Using its Converged Backbone Transformation approach, of which 100G is a part, ALU will integrate the IP and optical layers in Completel’s network.
IP
• ALU’s IP business is driven by operators in the Americas and APAC looking to migrate their legacy networks to all-IP.
• Russian operator MTS deployed ALU’s IP/MPLS mobile backhaul solution to prepare its urban network for the increase in data traffic.
• ALU introduced its 3G network processor, FP3. The FP3 is the first processor to support data speeds of 400 Gbps, while cutting power consumption up to 50%. The chipset will be available commercially in 2012.
Enterprise Applications business continues to innovate and remain profitable with the success of Genesys, though a sale is imminent
Go-to-Market & Product Strategies
Key Developments
Application Software
• ALU is determined to drive its applications enablement strategy forward, announcing initiatives to push its Open API platform and encourage applications developers by providing the necessary tools for development.
• Though ALU’s Enterprise Applications unit is up for sale and its revenues are decreasing, its Genesys customer contact center business is a bright spot to potential buyers. Over 1,000 customers worldwide have deployed Genesys through either the hosted or software as a service models. Enterprises enjoy the minimal capital expenditure associated with Genesys software. Much of Genesys’ success is attributed to ALU’s strong network of service provider partners, which number over 20 and include AT&T, DT, CenturyLink and Verizon.
• The Enterprise Application unit’s weakness lies in legacy services, such as Enterprise telephony and data networks, but it is nonetheless an attractive operating segment. Enterprise Applications remained profitable in 2Q11 and saw strong uptake in its switching business, specifically the Omniswitch 10k, a 10-gigabit Ethernet switch.
Services
• ALU’s managed services unit won contracts with China Unicom and Etisalat Nigeria business in the second quarter, with revenues increasing more than 20% from the year-ago quarter. In addition, the Etisalat contract pulled additional professional services business for ALU’s network and systems integration business unit.
• Revenues fell within the network implementation and maintenance business this quarter. The political unrest in Africa and continued softness within the overall EMEA region contributed to this poor performance.
• ALU’s multivendor business reported a decline as projects were closed and strategic repositioning impacted others.
• To revive growth ALU formed a new group, wherein Services will be consolidated along with Software & Solutions. TBR believes this consolidation diminishes the role of the Services unit within the overall company, possibly resulting in Vivek Mohan resigning to pursue other opportunities.
ALU shifted the responsibilities of several top executives to accommodate the new Software, Services & Solutions business unit Resource Management Performance and Strategy
A July management shake-up resulted in the following:
• A new business unit named Software, Services & Solutions, led by Adolfo Hernandez.
• Stephen Carter will replace Hernandez as president of EMEA, but will continue in his role as head of Global Marketing and Communications.
• Jeong Kim will lead Corporate Strategy and continue as president of Bell Labs.
• Robert Vrij, President of the Americas region, will also be responsible for strategic alliances.
• Vivek Mohan, president of Services, will leave the company.
Strategy ALU reshuffled its management as part of the company’s strategic plan to focus on applications and services. The company merged its Services unit into a new business group, Software, Services & Solutions. TBR believes poor performance in Services may have prompted ALU to consolidate this unit. This merged unit will attempt to bring a more cohesive set of offerings to market, in which services are more closely tied to and enhance the value for its high-margins solutions business.
77,500 77,000 78,000 78,000 78,000
-2.0%
-1.0%
0.0%
1.0%
2.0%
0
30,000
60,000
90,000
2Q10 3Q10 4Q10 1Q11 2Q11
Nu
mb
er o
f Em
plo
yees
ALCATEL-LUCENT HEADCOUNT AND HEADCOUNT SEQUENTIAL CHANGE
Days Cash Outstanding 114.26 97.73 105.31 107.25 92.88
Total Asset Turnover 0.61 0.66 0.80 0.63 0.69
Debt/Asset Ratio 0.41 0.42 0.43 0.45 0.45
Current Ratio 1.86 1.83 1.94 1.81 1.75
Return on Assets -0.7% 0.2% 1.4% 0.0% 0.2%
Return on Equity -4.5% 1.2% 9.4% -0.1% 1.6%
Average Annual Revenue per Employee - USD 241,016$ 250,914$ 279,895$ 290,602$ 306,937$
Employee Count 77,500 77,000 78,000 78,000 78,000
Exchange Rate ($US to Euro) 1.273 1.291 1.358 1.368 1.439
SOURCE: TBR ESTIMATES AND ALCATEL-LUCENT
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T EC H N O LO G Y B U S I N ES S R ES EAR C H , I N C .
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