Hi Tim, a very good post, I checked by sheets and
realized that I actually sold LU a couple of weeks ago.
-g-
a nice summary of the crossroads LU is at, do they
show they can execute in a similar manner to CSCO and NT or
become a perpetual restructuring story??
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FUNDAMENTALS
P/E (9/00E) 45.1x
P/E (9/01E) 38.2x
TEV/EBITDA (9/00E) 1.9x
TEV/EBITDA (9/01E) 1.6x
Book Value/Share (9/00E) $5.28
Price/Book Value 10.5x
Dividend/Yield (9/00E) $0.08/0.1%
Revenue (9/00E) $43,655.0 mil.
Proj. Long-Term EPS Growth 15%
ROE (9/00E) 26.0%
Long-Term Debt to Capital(a) 18.2%
LU is in the S&P 500(R) Index.
(a) Data as of most recent quarter
SHARE DATA RECOMMENDATION
Price (7/7/00) $55.44 Current Rating 3H
52-Week Range $82.31-$50.63 Prior Rating 3M
Shares Outstanding(a) 3,268.0 mil. Current Target Price $65.00
Convertible No Previous Target Price $50.00
EARNINGS PER SHARE
FY ends 1Q 2Q 3Q 4Q Full Year
9/99A Actual $0.49A $0.17A $0.26A $0.31A $1.22A
9/00E Current $0.36A $0.21E $0.28E $0.40E $1.23E
Previous $0.36A $0.21E $0.28E $0.40E $1.23E
9/01E Current NA NA NA NA $1.45E
Previous NA NA NA NA $1.45E
9/02E Current NA NA NA NA $1.70E
Previous NA NA NA NA NA
First Call Consensus EPS: 9/00E $1.27; 9/01E $1.55; 9/02E $1.70
Calendar Year EPS: 12/99A $1.09; 12/00E $1.30; 12/01E $1.53; 12/02E $1.75
OPINION
Assuming Primary Responsibility For Coverage Of Lucent
Technologies---Continuing Current Neutral Rating
We think Lucent is at an interesting but difficult-to-call point in its
progress. We believe these shares are approaching a point when a more
constructive rating is justifiable, but we think its still a bit premature to
step up to the plate. Accordingly, we are maintaining the Neutral rating
which Alex Cena has had on the stock as we transition over the primary
coverage responsibility. While we are maintianing the rating, we are
increasing the target price from $50 per share to $65 per share to reflect
our belief these shares are on the cusp of recovery. We are also
aggressively reading the tea leaves trying to locate an entry point in these
shares where we can become more constructive when the near-term earnings
visibility improves.
Spin Out Of Avaya And New CFO Creates Uncertainty
The Street seems convinced the near-term earnings outlook is dicey. Concern
around this issue has resulted in more than one analyst issuing cautious
commentary. We believe the near-term performance of the stock is directly
tied to its ability to hit numbers over the next several quarters. If Lucent
can execute a smooth spinout of Avaya, its $8 billion Central Office
equipment business, without disrupting its operations and the new CFO doesn't
need additional cushion in the numbers and lower guidance, then these shares
should be poised for significant gains. However, any ratcheting down of
expectations will likely amplify the disparity in performance between Lucent
and its rivals Nortel and Lucent and result in an increase in pessimism
concerning the health of the product line and therefore the health of the
longer term outlook.
Initial Price Target Of $65 Per Share---A Potential 17% Gain. We are setting
an initial price target of 5.1 times CY 2001 revenues and 39 times CY 2001
earnings of $1.53 per share. This represents a material increase in our
price target from the prior $50 target.
Operational Analysis Suggests Quarter Should Meet Or Exceed Estimates. We
think the operational direction of the company supports the conclusion that
Lucent can meet or exceed expectations for the quarter.
Optical Looks Ahead Of Target. The comments out of the optical unit suggest
revenues and profits are running ahead of target. Improved availability of
parts, particularly out of JDS Uniphase, appears to have allowed Lucent to
ship more equipment than budgeted.
Wireless Should Also Exceed Expectations And Produce Slight Share Gains.
Further, the wireless unit also appears to be poised to meet or exceed
estimates solidifying our view the quarter should be on track.
PSTN Switch Line Surprisingly Looks Solid As Capacity Constraints On The
Network Result In Added CO Switches. The class 4 and 5 ESS switch line
appears to be holding up reasonably well, despite only modest market growth
prospects and vulnerability to both Nortel and emerging softswitch players.
The comments we heard at SuperComm support the idea that although this is an
area where service providers are reluctant to spend, the continued unabated
growth in the data traffic demand for bandwidth primarily from dial up modems
is over burdening the voice infrastructure and forcing additions to
traditional telco capacity. Not surprisingly, this also appears to be
driving considerable demand for dial offload equipment.
Microelectronics Also Likely Performing Well. The optical components and
fiber business in the microelectronics unit as well as the electrical
components business appears to be benefiting from the tight supply conditions
in most of its end markets. The optical fiber business is sold out and
should benefit from stable pricing conditions as well as solid capacity adds.
Lead times on high-end premium fibers are running at over 30 weeks. On the
components side, comunication chips, as expected, are showing mixed results
with strong growth in the newer components offset by weak demand for some of
the older analog modem chips. Lucent's lack of a strong lineup in full rate
DSL and cable modems hurts the performance. While we have only antedotal
evidence supporting our conclusion, the logic and end market conditions
appear to be strongly supporting the conclusion this arena is also run at or
ahead of target.
Expanding Gross And Operating Margins Harder To Forecast. Lucent's guidance
is based on improving gross and operating margins. While we think its likely
some improvement will occur in each of these areas, we also believe its
difficult to measure the progress on this front. While we think its likely
Lucent can reach its revenue targets based on our read of the outlook for the
operating units, we think the margin outlook could be harder to achieve. The
push to linearity in the quarters should help by eliminating some end of
quarter discounting and smoothing intra quarter shipments. But the pressure
on the company to deliver more growth from a number of larger contracts
combined with the potential for disruptions due to the spin out of Avaya make
this a more difficult target than the revenue guidance.
Spin Off Disruptions And New CFO Represent Wild Cards
The difficulty in determining the outlook for the quarter hinges more on the
managerial considerations surrounding potential disruption from the spin off
of Avaya and from the fresh look reset of of the new incoming CFO.
Disruption Is Likely But How Much Is Retained In The Avaya Spin, And How Much
Creeps Into The Ongoing Operations? We think disruptions are an inevitable
part of spin out of Avaya. We look for disruption to occur both within Avaya
and within the continuing operations of Lucent. In our opinion, Avaya is
likely to expereince the bulk of the disruptions. However, as a consequence
of no longer being apart of ongoing Lucent operations, disruptions at Avaya
are of interest to Lucent shareholders' only to the extent that they alter
value of the Avaya equity still held by Lucent shareholders. We think the
bumps along this road will be masked by the change in the operational
structure of Lucent/Avaya. Moreover, we think investors will give the Avaya
leeway to absorb transition pressures. By the same token, we do not think
investors are likely to provide Lucent the same leeway. Lucent's base
invesor is likely to prove to be less forgiving of collateral damage. The
question is how much damage to expect. At this juncture this is difficult to
read, and represents a material component of our decision to remain on the
sidelines.
New CFO Represents May Require More Latitude And A Bigger Buffer. During the
quarter Lucent brought on a new CFO to replace Don Peterson who is leaving to
run Avaya. Ms. Deborah Hopkins comes to Lucent from Boeing and boasts
extensive fincial experience from the automotive industry. Our first
impression has been very favorable. Ms. Hopkins appears to be a straight
shooter with a no nonsense approach to management and with the business sense
to put a solid financial program around Lucent's operations. However,
therein lies the rub. We think Lucent has been stretched thin over the last
several quarters as it has struggled through the challenges to its optical
business which culminated in it missing the December quarter. We think there
is considerable risk, the buffers are currently paper thin and the room for
error is alarmingly small. As a result, we think there may be a need to
clean house. If the new CFO decides to head down this path, the stock could
prove to be dead in the water over the near-term. Unfortunately, this is
extremely difficult to evaluate from an external vantage point. The
decisions do not rest on the conditions of the end markets but rather on the
internal considerations which could alter the trajectory of results.
Lucent Desires Improved Linearity Of Quarterly Results---This May Require
Some Brinkmanship For A Couple Of Quarters. Another factor weighing on the
near-term visibility is the recent history of substantial and materially
disproportional end of quarter business. This practice has likely trained
the service providers that they can get better pricing if they hold out till
the end of the quarter and cut a deal. While it seems a modest problem to
simply state that this will not be available going forward, it is
considerably more difficult to achieve in actuality since buying habits
change slowly and since the buyers are sure if they should take the corporate
proclamations seriously. We think this raises the risk profile on the next
several quarters considerably and could make the difference between meeting
or exceeding and a miss.
Fighting Perceptions. Even if Lucent manages to meet the numbers, there may
be additional challenges confronting investors as the look over the results
and compare them to Nortle and Cisco's performances. We believe Lucent is
fighting a rear guard on investor's perceptions which currently see the
company as gradually losing ground to Nortel in the optical markets and not
performing well versus Cisco in the data networking arenas.
An In-Line Quarter At Lucent With A 15%-17% Top Line Growth Could Be Viewed
Unfavorably If Nortel Blows Out Results And Raises Guidance. We think Nortel
is likely to post revenue growth in excess of 35% in the quarter, roughly
twice the rate of growth of Lucent. We think the optical unit in particular
will be exceptionally impressive and leave many concerned by the trajectory
of Lucent in this arena. We also think the growth of Lucent will amplify the
conviction that Lucent is losing ground literally across the board to Nortel
and Cisco. This is a serious issue for Lucent and would be investors in
Lucent's shares. We think the valuation of Lucent is unlikely to improve
materially unless it can shake these perceptions.
Gradually Leveling The Playing Field. While we think the near-term
comparisons are challenging for Lucent, we also think the shifting technology
end markets favor Lucent's ability to get back into the race. As growth
gradually shifts away from the long haul markets over to the metro arena,
Lucent has another shot at regaining share. Additionally, we don't think the
glaring lead Nortel enjoyed on the transition to OC-192 will be repeated in
the OC-768 transition in 2001/2002. Any movement back toward parity in terms
of growth rate in optical or market share should positively impact Lucent's
valuation.
Chromatis Acquition Likely To Prove To Be A Key Deal For Lucent In The Metro
Market. We think Lucent's recent acquisition of Chromatis, a metro optical
networking company, may prove to be among the most important its done in
recent years. We think the Chromatis product, which was purpose built for
the metro market is a strong offering and should help launch Lucent into this
arena.
Outsourcing Of Micro Electronics Manufacturing Also Offers Upside To
Psychology As Well As Margins. We believe Lucent is in the process of
divesting its manufacturing operations around a number of the electronic
component units within the Micro electronics business sector. We think this
represents a potential positive for investors as it should improve Lucent's
valuation and lower its exposure to unioinized labor. We also think it could
add improved visibility to the operating margin expansion story at the
company. We believe Lucent is likely to sell off these operations piecemeal
as opposed to a lump sum deal.
Risks: More Technology Challenges Than Valuation
In our opinion, the risk profile of Lucent is considerably different from
Cisco or Nortel. While concerns around Cisco and Nortel primarily reflect
valuation concerns, we think the biggest risks to Lucent are on the
technology and end markets front. Lucent is at an important inflection
point. It can demonstrate its a real player and can keep up with Nortel and
compete with Cisco or it can stumble and lose more luster and become a
perenial restructuring story.
Proving Ground. Over the course of the next year, Lucent needs to
demonstrate it can keep pace with Nortel in optical. This requires some high
profile wins in the long haul market and a considerable amount of success in
the metro arena. Given the red hot demand and the tight capacity conditions
in the industry, we think the conditions are right for Lucent to make a come
back in optical, but the damage to its prestige if Lucent fails would likely
be substantial and could further compress the shares multiple.
Valuation Risk. Even though Lucent isn't valued as highly as Nortel or
Cisco, the stock is expensive by most historical standards. However, the
Internet infrastructure build out is historically unprecedented. We believe
the valuations are justified and we believe the growth will remain robust.
However, the risk associated with any shortfalls to results is dramatically
amplified by this high absolute valuation.
Acquisition Execution. Cisco's acquisition track record is legendary, those
of Nortel and Lucent are not. Cisco has been able to not only successfully
execute acquisitions, but has been able to successfully integrate a lot of
diverse acquisitions at the same time. We believe this is one of Cisco's
core strategic strengths. At Lucent, the challenges are substantial.
Lucent must match the acquisition program of Cisco and Nortel or risk falling
behind on the technology front. On the other hand, they risk a failed
acquisition resulting in damage to the firm and to the execution of its
operating strategy. Traditionally Cisco has found it easy to acquire telecom
oriented companies and to bring them into the data networking world. This
transition tends to work well for the data networking environment as it tends
to be more robust and exciting and fast paced than the traditional telecom
environment. Conversely Lucent and Nortel generally struggle with the
transition as the data networking company employees find the transition
toward a more telecomoriented culturae more challenging. We think there is
consideerable risk in the acquisition profile of Lucent and for that matter
Nortel.
Changing Technology Backdrop. Lucent's end markets are characterized by
rapid change and rapidly shifting technologies. Lucent needs to remain close
to the cutting edge in order to win. There is risk in the business outlook
that a technology could obviate a large swath of Lucent's business if
disruptive technologies emerge. On the other hand, Lucent has a solid track
record of identifying these technologies early and acquiring the market
leader. This often turns potential risk into new opportunities. At this
juncture, we believe the technology environment is stable and visible enough
to put a low coefficient on this risk factor.
Data Networking Is Key To Providing "End-To-End" Solutions. One of the core
tenets of Lucent's corporate strategy is to provide its customers with
solutions not boxes. Lucent prides itself on the ability to provide a
comprehensive product line and solution for its customers. Lucent's
acquistion of Ascend and a number of other moves the company has made are
designed to put the company in a strong position in the data networking arena
as well as in the optical market. To date, Lucent has had limited success
in the data networking space and while it has a strong optical business, its
not the dominant vendor. We are concerned Lucent may lose its ability to
claim true end-to-end solutions capability.
COMPANY DESCRIPTION
Lucent designs, develops and manufactures communications systems, software
and products. Lucent is engaged in the sale of public and private
communications systems, supplying systems and software to most of the world's
largest munications network operators and service providers. Lucent is also
engaged in the sale of business communications systems and in the sale of
microelectronic components for communications applications to manufacturers
of communications systems and computers. |
