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Alcatel Profits Disappoint

Light Reading
News Analysis
Light Reading
2/3/2005
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Alcatel (NYSE: ALA; Paris: CGEP.PA) was in the doghouse with European investors this morning after announcing disappointing fourth-quarter profits and saying there will be no dividend for 2004 (see Alcatel Posts Q4 Profit).

The French vendor's fourth-quarter revenues of €3.81 billion (US$4.95 billion) hit the top end of analyst estimates; and they are higher than the previous quarter's €3 billion ($3.9 billion) and the year-ago quarter's €3.77 billion ($4.9 billion). (See Alcatel Reports 'Solid' Q3 Results and Alcatel Reports Q4 Loss.)

But a fourth-quarter net profit of €40 million ($52 million) fell way short of analyst expectations of between €163 million ($212 million) and €218 million ($283 million), and CEO Serge Tchuruk announced that there would be no dividend paid from the full year's net income of €281 million (21 euro cents per share).

That news sent Alcatel's share price down on the Paris exchange, and by mid-morning it stood at €10.25, down €0.97, or nearly 9 percent.

But Tchuruk came out fighting during the firm's conference call, insisting the firm needs to invest now to secure growth in the future.

"We never said we would be awarding a 2004 dividend. We only said it would be technically possible," he insisted, practicing his left jab.

"We need to maintain flexibility to invest in new markets -- that's key to future growth," added the light heavyweight. "And we will not forbid ourselves from acquiring new technologies. But we are going to be selective. We won't be chasing all prospects."

Tchuruk contends that Alcatel is well positioned to "capitalize on an inflection in the wireline market that will start in mid-2005, and to capitalize on continuing momentum in emerging mobile markets."

And before the bell ended Round One, he said Alcatel will focus its developments on triple-play products, convergence issues, and to "help carriers save money by deploying VOIP and IMS [IP Multimedia Subsystem] technologies."

The fourth-quarter profit shortfall came as Alcatel revealed fourth-quarter gross margins of 34.4 percent, down from 37.7 percent in the third quarter, and compared with a gross margin for the full year 2004 of 37.3 percent. Tchuruk says the margin decline is due to heavier investments in "buying initial footprint" in Indian, Russian, and Brazilian mobile network developments. As a result, temporary losses have to be accepted, and "the gross margin of the fourth quarter was particularly impacted."

In addition, the company brought forward €60 million ($78 million) worth of restructuring charges that had been expected in 2005 -- and that hit the bottom line.

Despite the market's reaction, Alcatel remains a strong company, particularly in the broadband sector, is showing growth in all its operating segments (fixed, mobile, and private), and has registered profits for the past four quarters.

Fixed networking revenues were €1.53 billion ($2 billion), up 22 percent sequentially, with Alcatel citing strong growth from optical products, as carriers need greater capacity to deal with broadband access growth, and IP multiservice edge routers. The firm has shown particular success in China and North America.

"The IP edge routers, the former Timetra products, have had great success at China Telecom and SBC, and we now have 56 customers in total. We're now joining the club of the pure IP players," said Tchuruk (see Mais Alors! Alcatel Bags $1.7B SBC Deal and China Telecom Picks Alcatel Gear).

But he concedes there's softness in its DSLAM business, blaming the major U.S. carriers' transition to new networks and some deployment delays in China. "There was excess inventory at some carriers. The prospects are better for 2005."

Mike Quigley, president of the fixed communication business, said Alcatel shipped about 49 million DSL lines in 2004, giving it about 40 percent of the market; and he expects to maintain or increase that market share in 2005, while lines shipped should grow by about 13 percent to 55.4 million lines.

Quigley expects growth in Ethernet-based technologies, and expects to ship "a couple of million lines" of ADSL2+ and VDSL products.

Alcatel's IPTV middleware solution also gained a mention, with the firm noting success in Taiwan, Russia, and unidentified Western European countries.

Tchuruk wouldn't directly address questions about a potential partnership with Microsoft Corp. (Nasdaq: MSFT) in this market (see Alcatel, Microsoft Tuning IPTV Deal). "There are two players in the middleware market: us and Microsoft. We compete with them here and there, and sometimes we win. We will see what happens."

What has happened is that Microsoft has won the biggest deals in the world for IPTV middleware ahead of Alcatel. And Alcatel faces many more rivals in this market, including Thales SA (Paris: TCFP.PA), which is managing TV and video service delivery at one of Alcatel's biggest customers, France Telecom SA (NYSE: FTE). (See Verizon Makes Microsoft Video King, SBC Awards Microsoft $400M IPTV Deal , and BellSouth Trials Microsoft's IPTV.)

Mobile network revenues were €1.1 billion ($1.43 billion), with strong growth in emerging markets in Africa, Latin America, India, Russia, and Thailand. Tchuruk noted the great "strategic importance" of the Spatial Wireless acquisition (see Alcatel in M&A Frenzy). "This will significantly strengthen our position in the mobile core."

Looking forward, Alcatel expects revenues to rise again in the current period by between 3 and 5 percent. That would put first-quarter revenues at between €3.92 billion ($5.1 billion) and €4 billion ($5.2 billion). In addition, ongoing restructuring costs are set to come in at less than 1 percent of revenues in 2005.

There is also hope for investors of a 2005 dividend, something hinted at by CFO Jean-Pascal Beufret in a conference call this morning.

Nomura Holdings Inc. analyst Richard Windsor believes Alcatel is putting its competitors to shame. In a briefing note issued this morning, he notes that Alcatel's across-the-board growth is in stark contrast to some of its main rivals:

"We believe Alcatel is the highest quality wireline telecom equipment vendor in the global sector," notes Windsor, adding that strong financials and positive guidance make Alcatel "the share to own for 2005."

— Ray Le Maistre, International News Editor, Light Reading

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