Can This Telecom Giant Return to its Glory Days?

Dr. Osman is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

There are dark clouds surrounding Alcatel Lucent (NYSE: ALU). The Franco-American telecommunications equipment manufacturer is in the middle of a restructuring program. The company intends to achieve financial discipline by reorganizing its operations and cutting jobs. However, these initiatives come with substantial costs. The company lost almost 10% on the day it reported its second quarter results.

I think the company has serious upside potential if it plays its cards right. I do stand behind my statement. Throughout 2012, Alcatel-Lucent has made some strategic deals with leading carriers in the U.S., China and Brazil. In addition, the company reported 20 percent growth in its order book for HLN products. I do expect these deals to generate significant cash flows. As Philip Campbell has once said, "cash is the fuel that keeps the engine running." However, without proper management of this cash the engine will break.

Q3 2012 Financial results

For Q3 2012, the company reported revenues of €3,599 million up by 1.5 percent on a q-o-q basis and down by 2.8 percent on a y-o-y basis. Quarterly revenue remained flat and close to what analysts expected. On a sequential basis, operating expenses decreased by 2.3 percent. That's as good as it gets.

The adjusted gross margin of 27.3 percent showed a 7.4 percent decline compared to the third quarter of 2011. The decrease in gross profit was primary attributed to unfavorable product and business mix. The operating margin was negative by 3.5 percent.

Both Alcatel Lucent's IP and Wireline business revealed a strong performance by posting double digit growth rates. Activity in the Wireless segment was disappointing mainly due to accelerated technology shift from 2G/3G to 4G. The S3 (Software, Services & Solutions) segment remained flat overall. From a geographic standpoint, sales were slow in North America and Western Europe. However, Central and Latin America recorded its eighth consequent quarter of double digit growth, driven mainly by growth in Brazil.

Currently, the company's ability to generate profits is under dispute. Even though, Alcatel Lucent is holding a growing order-book, which implies strong customer relationships, it needs to improve margins immediately. The company is running out of time. Q4 2012 financial results are going to be a "make it or break it" moment for the firm. If the company does not show even a slight improvement and enters 2013 with slow performance, then things are likely to get ugly.

The Company's Plans

The "restructuring plan" involves over 5,000 job cuts and several asset sales. Moreover, Alcatel Lucent is making structural changes. It focuses on selected markets, where its product and service portfolio receives high acceptance. At the same time, Alcatel Lucent is reorganizing its operations in certain markets where low profits are negatively impacting the company's total business outlook.

Up until now, the restructuring plan has provided the company with approximately €450 million in savings. Alcatel-Lucent aims to reduce its costs by a total of €1.25 billion by the end of 2013. Is this enough? Analysts at Goldman Sachs are saying that the company has enough cash to get through to the end of 2013. That is a good sign. Alcatel Lucent ended the quarter with €4.7 billion in cash and marketable securities. The company targets a positive net cash position for the end of 2012.

Overall, time is crucial for Alcatel Lucent. Even if Alcatel's efforts to rebalance its accounts are more than evident, the main issue is whether it is too late or not. Some of the company's major rivals have already reacted to the faltering global economy and fierce competition by performing significant job cuts. In 2011, Nokia (NYSE: NOK) Siemens Networks decided to cut about one quarter of its staff. That is about 17,000 jobs. On May 2012, Nokia announced it intended to reduce its workforce in Italy by letting 580 people go. On July, Cisco (NASDAQ: CSCO), announced it plans to lay off 1,300 employees on top of 6,500 job cuts it made last year. I think both Nokia and Cisco are cheap stocks, but the industry outlook does not look promising. The competition from Chinese giant, Huawei, is squeezing the profits of networking companies.

Summary

Alcatel Lucent's shares plunged on the news. After reporting Q3 results on Friday, the stock price dropped by almost 10 percent. Its last market close was about 37.5 percent below its 200 day moving average.

Of course, no one can expect the company to turn around in just a quarter. Nevertheless, its continuing losses have started to cause trouble. The balance sheet shows a €2.7 billion differential between current assets and current liabilities, which means that Alcatel Lucent is safe at least for the moment. However, the company has nearly €4.6 billion of total debt outstanding. About half of it consists of debt repayments scheduled to mature by the end of 2015. Alcatel Lucent is taking action by improving its debt structure and trying to extract value from its patent portfolio. On February, the firm signed a licensing deal with RPX Corporation.

Overall, as liquidity shortage is just around the corner, Alcatel-Lucent needs to reinforce its strategy. If the company stays committed to its targets, we may witness surprising twists.

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