Ikanos Catches VDSL Blues

Shares in DSL chip vendor Ikanos Communications Inc. (Nasdaq: IKAN) fell off a cliff this morning after the company lowered its third-quarter and fourth-quarter earnings estimates yesterday.

Ikanos shrank its third-quarter forecast to the range of $36 million to $37 million, compared with the firm's previous forecast of $40 million to $43 million. Worse, the company said its fourth-quarter revenues would fall even further, landing between $24 million and $26 million.

Ikanos stock was down $3.52 (32.2%) at $7.42 in morning trading.

What went wrong? All sorts of things. First, Ikanos had trouble with its new, fifth-generation VDSL products. During a conference call with analysts yesterday, Ikanos officials said the new chips had manufacturing problems, creating delays in shipping.

As for that troublesome fourth-quarter number, it's the result of order delays all over the place, although Ikanos insists all the problems are temporary.

Carriers in Japan are working through their equipment inventory, Ikanos officials said -- meaning there's an oversupply that will decrease demand from that country during the fourth quarter.

"Carriers in Japan tend to purchase more equipment than deployed and adjust for the surplus equipment in one particular period," CFO Daniel Atler said on the call. "In Japan, we think this is largely over with at the end of Q4," he later added.

Japan accounted for 37 percent of Ikanos's revenues, more than any other region, in the quarter ended June 2006 -- so a hiccup there means a big headache for the company. Korea and France ranked second, at 26 percent each. And Ikanos indicated that Korean sales might slow during the fourth quarter as well.

VDSL rollout delays in Europe will add to Ikanos's fourth-quarter troubles, analyst Anton Wahlman of ThinkEquity LLC wrote in a report this morning. He thinks this stems from regulatory issues -- specifically, the possibility that European carriers will be forced to lease infrastructure to competitors.

Wahlman didn't give specifics, but yesterday, Dutch regulator OPTA released a report suggesting regulations that would force carrier KPN Telecom NV (NYSE: KPN) to open its network to rivals, or at least let them lay fiber next to its own.

Speaking on the earnings call, Ikanos CEO Rajesh Vashist said KPN was pushing back its VDSL deployment plans. "That was significant for us because we were expecting to ship both CO and CPE into those areas," Vashist said.

Want more? How about this: Ikanos was working with Chunghwa Telecom Co. Ltd. (NYSE: CHT) on a deployment in Taiwan -- and that's been delayed, too, according to Vashist. "All the factors have sort of come together in Q4. The only place where we have not seen delays is in the United States."

Wahlman still considers Ikanos a cheap buy. And he expects the company to continue expanding beyond DSL, following up its purchase of gateway chips from Analog Devices Inc. (NYSE: ADI) early this year. (See Ikanos Goes for the Gateway.)

"We continue to believe Ikanos is likely to makemore acquisitions to broaden the product appeal. In particular, webelieve FTTH is the key target," he wrote, citing BroadLight Inc. , Centillium Communications Inc. , and Teknovus Inc. as the top candidates.

Ikanos went public about a year ago and enjoyed the same run-up that boosted most tech stocks, peaking at $24.97 early this year. It's been mostly downhill from there. (See Ikanos Prices IPO .)

Ikanos becomes the lastest chip company to issue an earnings warning this quarter, following Hifn Inc. (Nasdaq: HIFN), Marvell Technology Group Ltd. (Nasdaq: MRVL), PMC-Sierra Inc. (Nasdaq: PMCS), and TranSwitch Corp. (Nasdaq: TXCC). (See Hifn Lowers Q4 Forecast, Feeling Less Marvell-ous, PMC Lowers Forecast, and TranSwitch Lowers Forecast.)

The third calendar quarter is traditionally weak for the sector, analyst Tim Kellis of Stanford Financial Group points out. Moreover, the runup in semiconductor business early this year led to an inventory oversupply, a typical occurance in the chip world that often culminates in revenue setbacks.

Beyond the chip sector, a handful of other telecom firms, including JDSU (Nasdaq: JDSU; Toronto: JDU), have lowered their forecasts recently. (See JDSU Shoots Low, Carrier Access Revises Estimates, PT Warns on Earnings, and Zhone Gets Zhinged.)

— Craig Matsumoto, Senior Editor, Light Reading