What's Next for Avanex?

Avanex Corp. (Nasdaq: AVNX) is headed for a major transition, as it counts on a new CEO and new products to help it weather the current economic climate. Can the company switch gears fast enough?

This is the main question to emerge from lackluster revenues and a net loss for its third quarter, as reported last night (see Avanex Posts Q3 Returns).

The company posted a pro forma net loss of $1.6 million (3 cents per share) on revenues of $30.3 million for the third fiscal quarter 2001 (ended March 31). On the upside, that's 188 percent higher than revenues for the same quarter last year.

On the downside, the numbers indicate a 37 percent sequential drop in revenues. And the net loss compares badly to last quarter's net gain of $4.1 million (6 cents per share). Overall, Avanex showed a net loss of $73 million ($1.28 per share) for the nine months ended March 31, 2001.

Now Avanex is predicting a loss per share of 2 to 3 cents on revenues of $25 million for the fourth quarter. For the year 2001, execs say, revenues will be $210 million to $215 million -- a loss per share of 8 to 10 cents. Further, layoffs of 350 employees and the closing of a plant in Fremont, Calif., will take an $18 million to $24 million restructuring charge in the fourth quarter.

In last night's conference call with analysts, CEO Walter Alessandrini (who will cede his post in July to COO Paul Engle -- see Avanex Promotes Engle to CEO) said two trends shaped this quarter's results.

First, demand is dramatically down for the company's original flagship product, the PowerFilter 8- and 16-channel DWDM wavelength separator. Now considered a "legacy" product by Avanex, revenues from PowerFilter will be disregarded in future forecasts, and it's scheduled to be superceded by a new line of 16- to 32-channel filters, Alessandrini said.

But Alessandrini sees a marked rise in interest in the company's newer, next-generation optical components. Sales of the newer PowerMux DWDM channel processors (which can adjust to mux and demux optical signals for a range of different-sized DWDM systems) and the PowerExpress add/drop processors (which take channels on and off a DWDM net) grew 30 percent this quarter.

Other products include the PowerExpress Metro, a bidirectional optical amplifier that has completed one trial for one customer and is set to start two more for the same customer soon, Alessandrini said. Also, a subset of the PowerExpress Metro, the PowerShaper dispersion management processor, is being readied for use in 10-Gbit/s applications and will show up in revenues next quarter.

Analysts question whether the new products are ramping up fast enough to offset the loss of interest in the filtering products. "We were looking for PowerExpress Metro and Shaper revenues in the June quarter. Now what?" one asked.

The other negative factor, hand in glove with the filter fallback, has been the decline in revenues from Avanex's original top customer, WorldCom Inc. (Nasdaq: WCOM). Worldcom contributed nearly 90 percent of Avanex's revenues in fiscal 2000. But a program in which the carrier was deploying filters for metro networks has been temporarily stalled, Alessandrini said, causing Avanex to take a $21.6 million charge for excess inventory. In all, Worldcom accounted for less than 10 percent of revenues this quarter, compared with over 50 percent last quarter.

The Worldcom "pullback" has forced Avanex to aggressively scout out new business. This quarter, it added Alcatel SA (NYSE: ALA; Paris: CGEP:PA) to its roster and beefed up the scope of orders from Fujitsu Ltd. (KLS: FUJI.KL). "We sold more than one product line to each of our major OEM customers, and designed into more than one system with three of them," Alessandrini asserts.

Despite these breakthroughs, analyst prognoses for Avanex were decidedly guarded. Although most seem to see 2002 as a possible time of renewed growth and revenues, further pain is surely at hand.

"The overall carrier spending environment, coupled with cautious comments released yesterday by industry-leading companies JDS Uniphase Inc. [Nasdaq: JDSU; Toronto: JDU] and Agere Systems [NYSE: AGR], suggests that the overall near-term outlook for communications components has not improved much recently, and could even get worse before improving," wrote Steven D. Levy of Lehman Brothers in a research note following the earnings call.

Others seem more upbeat. In his research note, Mark Langley, senior analyst at Epoch Partners writes: "Despite the disappointment arising from the drop in PowerFilter sales to WorldCom, we think Avanex’s cost cutting today will help it weather the downturn, and its strong product pipeline positions it to benefit when carrier spending resumes."

Langley says the economic downturn may actually benefit Avanex, since it's stalling the activities of potential competitors in the private sector.

Avanex shares closed today at 14.30, down 0.63 (4.22%).

-- Mary Jander, Senior Editor, Light Reading http://www.lightreading.com
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