Tellabs Snags Vivace for $135M

Tellabs Inc. (Nasdaq: TLAB; Frankfurt: BTLA) announced this morning that it will acquire multiservice switch startup Vivace Networks for $135 million in a combination cash-and-stock deal.

The deal was put together by former executives of Ocular Networks: Its former CEO, Edward Kennedy is now president of Tellabs Operations Inc. and executive vice president of Tellabs; and Greg Nulty, Ocular VP, is senior VP for technology planning at Tellabs. In negotiating the deal with Vivace, they’ve recapitulated the process that resulted in Tellabs acquiring Ocular. This time around, however, they’ve taken the role of buyers rather than sellers.

"This is really the new Tellabs," said Kennedy in an interview last night from his cell phone in the airport on his way to brief the Vivace employees on the acquisition. "The new team is in place and we’re making stuff happen."

Tellabs announced its $355 million acquisition of Ocular in December 2001 (see Tellabs Nabs Ocular). And, since the close of the deal in January 2002, Kennedy and his team have enjoyed meteoric rises in the company (see Kennedy Takes Charge at Tellabs, Tellabs Regroups, Promotes Kennedy, and Tellabs Names Kennedy President).

Vivace, which makes an IP/MPLS multiservice switch, offers a key element in the migration to IP-centric networks. The Viva5100 and Viva1050 Multiservice IP Switches sit at the edge of the transport network, aggregating and switching Ethernet, ATM, and Frame Relay access traffic and handing it off to an IP/MPLS-routed network or an ATM-switched backbone. The box is specially designed to help a carrier migrate its legacy network to an IP/MPLS core.

Like other well established vendors selling to incumbent service providers, Tellabs recognized it needed an IP/MPLS story.

"As everyone knows, carrier capex is still way down," said Nulty on a conference call with Light Reading last night. "The only bright spot is in the build-out of IP/MPLS networks."

What is happening is that carriers are shifting spending away from legacy transport gear and concentrating their dollars on equipment that handles traffic at higher layers. All of the regional Bell operating companies (RBOCs) have publicly announced plans to migrate their older ATM backbones to IP/MPLS cores.

As a result, incumbent equipment providers like Lucent Technologies Inc. (NYSE: LU) and Marconi plc (Nasdaq/London: MONI) are scrambling to find IP partners. Lucent just recently announced a deal with Juniper Networks Inc. (Nasdaq: JNPR), and Marconi is in talks with Laurel Networks Inc. (see Lucent Partners With Juniper and Marconi and Laurel in Talks ).

So why did Tellabs decide to buy Vivace when its competitors are simply partnering? For one, Tellabs can afford the tariff. Unlike Lucent and Marconi, Tellabs has virtually no debt, and, as of the end of its first fiscal quarter of 2003, it had about $1.7 billion in cash.

Secondly, Tellabs needs this acquisition. After the company reported a net loss of $43 million on "disappointing" first-quarter revenues of $223 million, it announced it was cutting about 665 of its 4,700 employees (see Tellabs Earnings a Downer). The axe fell mostly on the company’s R&D division, which accounted for half of its operating expenses. On the company’s earnings conference call back in April, Michael J. Birck, the CEO, said that Tellabs would use acquisitions to move into new markets.

As for why Vivace specifically, there are several reasons. From its earliest days, the startup has been at the forefront of educating service providers about the migration from ATM to IP/MPLS. Even though it has yet to announce customers, it contends its products are carrying live Ethernet, Frame Relay, and ATM traffic in production networks at two Tier 1 carriers. One is an IXC in the U.S., the other a PTT in Asia. For the last several months it has been rumored to be undergoing tests at BellSouth Corp. (NYSE: BLS), NTT Communications Corp., Sprint Corp. (NYSE: FON), and MCI (Nasdaq: MCIT) (see Vivace's Vying for Customers and Vivace Looking at NTT, New CEO).

"If you look at this from an Ocular perspective," said Kennedy, surely intending no pun, "we were able to get a broader view of our customers, being part of Tellabs. Being a small startup, we never would have gotten that if we weren't part of the company. I think that's true for Vivace."

He further noted that when the startup was first acquired by Tellabs, it only had a few customers; but over the past year, the Tellabs sales force has been able to sign up more than 20 customers for the Ocular product.

"If we can just repeat that level of performance we'll be in good shape," he said.

Vivace was particularly attractive because it hits a sweet spot in the market. Unlike Laurel or Juniper, Vivace is not considered a full-fledged core or edge IP router. Its specialization – the migration from ATM networks to IP/MPLS – is something that many of Tellabs’ customers are looking to do.

"We aren't going into the core routing space," says Kennedy. "That isn't where we want to go at all. The big routing game has already been played. We will continue to leverage our optical and Sonet expertise."

Vivace's Viva Multiservice IP Switches will be sold alongside Tellabs’ optical transport products, including the 5500 digital crossconnect, the 6400 access platform (acquired with Ocular), and the 7100 DWDM platform.

As for the organization of the company following the acquisition, Kennedy says that Ken Koenig, CEO and co-founder of Vivace, will report to him as the senior VP of advanced data products. The 113 employees in Vivace's San Jose, Calif., facility will be asked to remain with the company in its current location. There will now be four main centers of development for Tellabs: Illinois, northern Virginia, Montreal, and San Jose. Nulty says that keeping the team in San Jose is practical as well as strategic, since it's imperative that Tellabs retain and attract the best IP networking talent available.

Kennedy and Nulty say they’ve learned a lot from their experience as executives coming into the Tellabs fold, and they plan to use those lessons to ensure the transition is a smooth one.

"We'll only integrate business units that make strategic sense," says Nulty. "We won't force-fit anything. We'll try to keep most functions in their own bubble and intact, so that we are able to keep developing products and get the functions and features we are asking for."

— Marguerite Reardon, Senior Editor, Light Reading