The Case for Ciena/Nortel

Plenty of analysts and investors were relieved when Nokia Networks offered to grab the Nortel Networks Ltd. Metro Ethernet Networks (MEN) division yesterday, potentially snatching the division away from Ciena Corp. (NYSE: CIEN).

But there's at least one analyst who's so in favor of Ciena buying MEN that he's practically got the pom-poms and twirling batons out. Ed Zabitsky of ACI Research , a guy who's often good for a contrary opinion, has been telling Light Reading since March that Ciena ought to be going after MEN.

"I always thought they were the natural buyer, that they were the motivated buyer," Zabitsky says.

In hearings that began today, U.S. and Canadian courts are deciding whether Ciena's auction-winning bid of $769 million for MEN should stand, or whether NSN's objection and its new $810 million all-cash counteroffer should be heard. (See Ciena Beats NSN to Buy Nortel's MEN and NSN Might Rebid for Nortel's MEN.)

What could possibly go wrong with Ciena/MEN? Plenty, according to analysts: difficulty integrating a division that's as large as Ciena itself, a trend toward lower-margin products, and a weak balance sheet for Ciena during a recession that hasn't officially been called off. (See Nortel's MEN: Winners & Losers.)

That last point weighs large: Ciena's bid would eat up half its $1 billion in cash and add $239 million in debt to the $789 million it's already got. Those aren't happy numbers. "We are disappointed that Ciena felt it necessary to pursue the Nortel assets in what appears as a win at all costs approach," analyst Simon Leopold of Morgan Keegan & Company Inc. wrote in a note published after the auction.

To be clear, Zabitsky admits there's possibility for catastrophe. "When your balance sheet is weak, you're exposed to a bad market," he says. "My low-end target price goes almost to zero, at least momentarily."

Sure, zero is a pretty unhappy number, too. It's just that Zabitsky thinks it's more likely Ciena would come out smiling. The potential gains are huge. A MEN acquisition would erase Ciena's biggest competitor in metro networks and strengthen it against competitors like Fujitsu Network Communications Inc. and Tellabs Inc. (Nasdaq: TLAB; Frankfurt: BTLA), he says.

Ciena would also get bigger, which matters. Analyst Michael Genovese of Soleil Securities Group Inc. has written that with MEN, Ciena would stand a better chance of landing Domain Supplier status with AT&T Inc. (NYSE: T) (See AT&T Unveils Domain Supplier Strategy.) Extrapolating, it seems reasonable that Ciena/MEN would have similarly good chances with other large carriers that are narrowing their supplier lists. "When you come to the table with a nice big market position, people take you more seriously," Zabitsky says.

(Genovese isn't too hot on the idea of Ciena/MEN, by the way. In writing up the auction results, he put "win" in quotation marks.)

Zabitsky, who happens to be Canadian, also has a high opinion of Nortel's remaining staff. "There's nothing wrong with these people. They'll manage themselves just fine," Zabitsky says. "There are so many people who were throttled within Nortel."

And Zabitsky says there is cost cutting still to be had at MEN, because the division has its own financial department inside Nortel. That's part of the reason why about 12 percent of MEN's employees wouldn't be making the transition to Ciena. Zabitsky thinks Ciena could add some salesforce cuts later.

Still, that cost-cutting point is debatable. Analyst George Notter of Jefferies & Company Inc. thinks Nortel has already maxed out on potential cuts, given that MEN's revenues are around $498,000 per employee -- more than any telecom equipment vendor besides Cisco Systems Inc. (Nasdaq: CSCO). He calculates that Ciena's cuts would raise the figure to $575,000, topping Cisco's $546,000.

— Craig Matsumoto, West Coast Editor, Light Reading

jepovic 12/5/2012 | 3:51:48 PM
re: The Case for Ciena/Nortel

Even if they get AT&T on board, it wont be sufficient long-term. The growth is in developing markets and wireless backhaul, and this deal doesn't make Ciena stronger in those areas. The volumes will be too small to stay competitive.

jeffreyrobertson 12/5/2012 | 3:51:47 PM
re: The Case for Ciena/Nortel

Yes, one isn't enough.  Luckily, both companies go into this deal with more than one.  Also note that growth and margins are two different things.  APAC has one but not the other.

jepovic 12/5/2012 | 3:51:47 PM
re: The Case for Ciena/Nortel

I think the nortel employees would have had a much brighter future in NSN, which have much stronger and more international sales force and customer base. The product overlap would have been minimal. I doubt that Ciena/Nortel will survive even two years as an independent vendor, given their small overall market share and weak finances. Come to think of it, it seems quite probable that NSN will buy the whole entity eventually. It would be a nice fit, since NSN is the biggest telco vendor without a strong optical portfolio. Also, it's politically doable, unlike a sale to eg Huawei.

abashford 12/5/2012 | 3:51:44 PM
re: The Case for Ciena/Nortel

"Come to think of it, it seems quite probable that NSN will buy the whole entity eventually."  Huh?  NSN tries to buy (at least) two pieces of Nortel and fails both times, and you think they will eventually acquire the combined entity??

If recent history shows anything, its that NSN is NOT in the drivers seat in this market, and had to leverage partners with money even to have a shot.  They are spending a good amount of their PR air-time trying to convince the market that they aren't on a death spiral. I, for one, am not convinced.

Finally, this 'brighter future for employees' you speak of with NSN: today there is at least one report (http://www.evertiq.com/news/15... that both Siemens and Nokia have given signs that they may walk away from the JV. I am not sure if the Nortel employees want to be part of a company that is seeking buyers again...

NSN is going to do a LOT of restructuring in the near future, which is going to burn a lot of cash.  Cash is exactly what they would need to make any major purchases.


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