Investment firm's bulletin raises, endorses the possibility
A Wall Street investment firm Thursday suggested Lucent should sell its market-leading ATM/frame relay data networking assets to Cisco as a way for the bludgeoned company to get a quick infusion of cash and to exit a non-core business.
UBS Warburg issued a bulletin to investors this morning that stated the possibility and its rationale, claiming the transaction could result in a “win-win” for both companies. Lucent’s ATM/frame relay business could generate $500 million to $650 million for the company, as well as a future ongoing services revenue stream, the firm states.
Lucent is putting a bigger focus on professional services going into 2003 in an attempt to return to profitability.
For Cisco, the deal would vault it into a market leadership position with coveted RBOC and ILEC accounts, a potentially lucrative subset of the overall telecom market where Cisco’s penetration has been challenged most.
“We have already written in past notes that Lucent should exit this business and in fact, Lucent last week during their conference call did not mention data networking as one of the strategic areas of the future,” the UBS Warburg note states. “For Cisco, it would provide the company an immediate number one market position in the U.S. RBOC market for ATM switching and a partnering relationship with Lucent for the RBOC market for all data networking products. This could be very powerful as the RBOCs look to migrate their networks to IP in the future.”
A Lucent spokesman says the company does not comment on rumor or speculation.
“We’re not in a position to provide details on our product portfolio,” the Lucent spokesman says, adding that product positioning details may be revealed during Lucent’s earnings call on Oct. 23.
Cisco did not respond to calls by press time.
Lucent acquired its market leadership in ATM/frame relay switching when it purchased Ascend Communications in 1999. Previously, Ascend had purchased ATM/frame relay switch market leader Cascade Communications.
But the slump in the overall economy, and in the telecommunications industry in particular, has hit Lucent hard. A roughly 50% reduction in carrier capital spending over the past two years has forced Lucent, along with other telecom heavyweights like Nortel, to lay off tens of thousands of people, exit businesses and discontinue product lines.
“We believe Lucent would benefit from a much needed cash infusion and an ongoing services relationship with Cisco in the data networking segment of the service provider market,” UBS Warburg states in its bulletin, adding that Lucent is not likely to succeed long-term in ATM/frame relay switching. “Cisco would benefit from this deal in that it would obtain an instant market position in the RBOC market.”
Lucent is the number two player in multiservice WAN — that is, ATM/frame relay — switches behind Nortel, according to Dell’Oro Group. Lucent’s share of the $638.7 million market in the second quarter is 23.7%, while Nortel’s is 32.7%.
Lucent, however, is the leading supplier of ATM/frame relay switches to the U.S. RBOCs, UBS Warburg notes, with the number one position at Verizon, SBC, BellSouth and WorldCom.
Cisco, meanwhile, is the number four player with a 14.8% share in the second quarter of this year, primarily driven by AT&T, Qwest and some international PTTs, according to UBS Warburg. Cisco has lost share in four of the past seven quarters, but has gained share in the past three, according to Dell’Oro.
Another potential benefit to Cisco from a deal with Lucent is a possible ancillary arrangement to be Lucent’s exclusive supplier of IP routers for both wireline and wireless networks, UBS Warburg states. Lucent does not have a router product line today but it is developing the TMX 880, an IP/MPLS switch for the core of multiservice networks.
Lucent is attempting to entice its installed base of ATM/frame relay switch customers to migrate to the TMX 880 for their future multiservice core switching requirements. But according to Warburg, “The chance of success for this product is very low.”
“Lucent… is trying to position this product to its ATM customers as a better path to IP,” the firm states. “We have always considered this strategy more likely to fail than succeed. We came to this conclusion given Lucent’s lack of IP expertise, and the likelihood that the RBOCs will want to continue to keep their respective ATM and IP networks separate for the next couple of years until they are more comfortable with IP deployments.”
Indeed, Lucent is rumored to be considering discontinuing the TMX 880.
A partnership with Cisco on IP routers would help both Lucent and Cisco, UBS Warburg asserts. It would allow Cisco to better succeed in the U.S. RBOC market against Juniper as well as to tap Lucent’s installed base of CDMA wireless networks for IP routers as these networks migrate to 3G data services in the future, the firm states.
From an antitrust standpoint, a combined Lucent/Cisco ATM business would account for about 40% of the market, while Nortel and Alcatel would each have roughly 35% and 20%, respectively. So, Cisco would not likely draw antitrust concern from pursuing such a transaction, according to UBS Warburg.
The risk to Cisco in doing such a deal, however, is the integration challenge and the ability to sell its own ATM and eventually IP product lines to the RBOCs, UBS Warburg states. Cisco did launch some new ATM switches this year, but has so far has not shown much success in the market, according to the firm.
It may be more productive for Cisco to consider some leading ATM start-ups like Equipe Communications rather than buying Lucent’s business, or it may be more productive to wait and make an acquisition in the future at an even cheaper price given the poor sector fundamentals, the firm states.
“We believe the ultimate decision to pursue such a deal will be based on Cisco’s view of the longer term synergies of new revenue potential in the RBOC market,” UBS Warburg’s bulletin states. “In doing so, Cisco should ask itself the following questions – Will acquiring and maintaining the installed base of ATM products allow Cisco to more quickly migrate these networks to IP technology from Cisco? Would such an acquisition create more goodwill with the RBOC customers who have typically viewed Cisco as ‘too arrogant’ in the past few years?”
Cisco executives have acknowledged that they have not been customer driven in their dealings with RBOCs in the recent past. Cisco is attempting to re-establish relations with the operational personnel of these carriers.
