Highlighting the over-capacity built into in the long-haul optical space, the outlook for Nortel Networks Corp. (NYSE/Toronto: NT) worsened today. A confluence of negative factors continues to dampen the company’s outlook.

Nortel shares sank 0.48 (3.83%) to 12.05.

The action follows on several negative trends. First, demand for long-haul capacity remains weak and shows no signs of reversing anytime soon. Much of the fiber that has been lit remains under-utilized, and reducing this excess capacity remains a top priority. The need to increase utilization rates was perhaps the most notable theme from last week’s Supercomm 2001 conference; and Juniper Networks Inc.’s (Nasdaq: JNPR) earnings warning last week confirms the weakness in the long-haul space.

Adding further fuel to the fire is intense pressure from Ciena Corp.'s (Nasdaq: CIEN) CoreDirector bandwidth management platform, which continues to gain traction at Nortel’s expense. Combine the long-haul problems with intense competitive pressure in the metro space, and you have the potential for a second-quarter earnings warning in coming weeks.

Beyond the long-haul troubles noted above, Nortel is also experiencing weakness in 3G wireless. The company's recent decision to exit the DSL business confirms the weakness in this business. Pertaining to optical, these developments reflect a pervasive trend in which the Big 3 (Lucent Technologies Inc. (NYSE: LU), Cisco Systems Inc. (Nasdaq: CSCO), and Nortel) have lost ground to a host of next-gen startups with focused business models and an optical/IP emphasis.

All of these factors have led some analysts to downgrade their outlook for Nortel. In addition, several sources close to the company have told Light Reading that they expect the company to miss expectations for the quarter and possibly warn of a revenue and profit shortfall.

To account for an increasingly volatile industry environment UBS Warburg analysts Nikos Theodosopoulos and Michael Urlocker lowered their 2001 and 2002 earnings estimates for Nortel on Monday. "Our model was too optimistic," says Urlocker. "Nortel will experience a decrease in sales compared to Q1. We spent two days interviewing carriers at Supercomm, and not a single one of them had a single positive thing to say about spending on next-generation gear from Nortel.”

A lack of key product releases (most notably the Optera HDX optical bandwidth manager) until the first quarter of next year also limits the near-term upside for Nortel. The UBS Warburg analysts lowered their EPS estimates for 2001 to a 17-cent loss from a 10-cent profit, and cut their 2002 forecast to 25 cents from 40 cents. Due to the potential for additional layoffs, the analysts also lowered their price target to $15 from $18.

— Mary Jander, Senior Editor, and Christopher P. Bulkey, special to Light Reading http://www.lightreading.com