Alcatel-Lucent ADRs Could Triple
The telecom-equipment giant should be valued at $4.50 per ADR.
By Morgan Keegan ($1.54, Nov. 28, 2011)
We analyzed Alcatel-Lucent's segment sales, margin trends, cash flow, and remain confident that it can achieve margin improvement and deliver a mid-single digit operating margin (about 6%) in 2012 up from 4% in 2011. Solvency concerns seem overblown.
We have observed a wide gap between negative investor sentiment and carrier-customer positive attitude. Alcatel-Lucent (ticker: ALU) leads in many areas, and it demonstrates its ability to innovate with, wireless LightRadio, Routing 400G chip set, 100G optical, and 28,000 patents.
We maintain our Outperform rating. We see Alcatel-Lucent's stock as the most underappreciated in our universe, and with margin and balance-sheet improvement we see the stock valuation with an enterprise value (EV) to 2012 sales of 0.2 times as attractive yet reduce our price target to $4.50 [from $5] to reflect lower 2012 sales.
Although Alcatel-Lucent's share price has deserved pressure relative to its springtime highs because the company missed its operating margin target for 2011, it has inadequately controlled working capital thus burning cash, and the ongoing debt crisis in Europe creates an uncertain capital-expenditure environment, we think the magnitude of the decline is unjustified.
Despite the challenging macro-economic environment, Alcatel-Lucent continues to improve its operating margin, which we believe reaches 5.5% in 2012 up from 3.6% in 2011, driven by strength in its Data Networking business, restructuring and favorable mix shifts. Our detailed analysis considers Alcatel-Lucent's reporting segments and sub-segments of the Carrier unit, and reveals that with conservative and reasonable assumptions that mix shifts and cost controls coupled with modest revenue growth enable the company to deliver operating margins exceeding most expectations.
.Furthermore, we believe concerns regarding the balance sheet are overdone, and we think the company generates cash in 2012. We think this deeper analysis can help improve confidence in Alcatel-Lucent's ability to execute on its stated plans. We considered a number of valuation approaches but strive to think a sum of parts valuation based on EV-to-sales the most appropriate given the unique nature of Alcatel-Lucent's reporting segments. Our analysis suggests the stock could be worth over $4 per share.
Alcatel-Lucent's stock has been on a roller coaster ride as positive investor sentiment driven by improved operating margins and breakthrough technological innovations in early 2011 has quickly faded.
We think the following catalysts might reignite investor interest in the stock.
• Alcatel-Lucent could extend its presence in Data Networking, its highest-margin segment, by entering the core router market. The launch of its FP3 400G network processor, a specialized chip that enables its routers to handle significantly more traffic while consuming less power, increases our conviction.
• Verizon Wireless' [a joint venture of Verizon Communications (VZ) and Vodafone Group (VOD)] spending on its CDMA-based mobile network will likely have a long-tail and will be offset by increased long-term evolution (LTE) spending, yet we expect gross margin to remain under pressure.
• The Mobile World Congress tradeshow begins in Spain in February and will likely generate enthusiasm regarding trends in mobile networking and the evolution to fourth generation technology (4G/LTE).
• Our analysis improves our confidence that Alcatel-Lucent remains on a trajectory to deliver operating-margin improvement even with sales growth in line with modest carrier capital spending growth.
• We suspect institutional investors remain on the sidelines until year-end opting to establish new positions with the new year.
• Sentiment remains relatively negative with seven Buy ratings, 15 Hold ratings and nine Sell ratings for the Paris-traded shares, and three Buy ratings, eight Hold ratings and two Sell ratings for the U.S. American depositary receipts
-- Simon M. Leopold
-- Victor W. Chiu
-- Georgios Kyriakopoulos |
