Lucent
is a Strong Buy
Recent weakness
in the shares of this telecom equipment
maker present a good investment opportunity
by Mark Cavallone
Standard & Poor's The Outlook
This
leading communications equipment manufacturer recently rattled
investors by missing earnings expectations for the first quarter
of its fiscal year, which ends in September. While the profit
shortfall is troubling given the strength of the company's end
markets, we remain positive on the stock and see the current
weakness as a buying opportunity.
Lucent (NYSE LU 55) operates in
three primary business segments: networks for service providers,
enterprise networks and microelectronics. The service provider
unit has long been the strength of the company, and it offers
one of the broadest product lines in the industry, including
wireless, wireline, data and optical networking equipment. Lucent's
enterprise business has struggled recently, due largely to some
mature product lines. As a result, the company has been shifting
resources into faster-growing enterprise segments such as call
centers. Finally, the company provides a number of semi-conductors
and optical components that are used in the construction of a
wide range of communications equipment, including wireless phones
and optical network systems.
Lucent's recently reported problems
are the result of a number of factors. One key issue seems to
be a lack of manufacturing capacity for the newer versions of
the company's optical networking equipment. Also, a number of
key optical components have been in short supply in the industry,
which further affected earnings in the quarter. In addition,
expected financing fell through for a few customers, thus delaying
orders. We see these issues as largely related to supply and
not a function of weaker demand in the industry, so we believe
some of the lost sales in the first quarter will be made up in
the latter half of this fiscal year.
For fiscal 2000, we now expect
revenues to advance 17%, down from our original estimate of an
18.5% gain. While part of this difference is the result of some
customer loss, the growth rate remains robust for a company that
had $38.3 billion in sales in fiscal 1999. Despite a slight decline
in Lucent's gross margin due to a higher percentage of service
revenue, we see the operating margin improving by almost a point
to 16.4% this year. Our current per-share earnings forecast of
$1.47 represents a 21% increase in operating earnings over last
year. We see a further 22% gain to $1.80 in fiscal 2001.
Longer term, we believe that Lucent
is extremely well positioned in the key communications technology
area. The company's broad product line and impressive list of
customers, which includes AT&T, Bell Atlantic and British
Telecom, give us confidence that it will be able to maintain
share in the competitive market for communication equipment.
Following a sharp decline in the
stock in early January, we believe it is undervalued compared
to its peers on a P/E basis. Lucent is selling at about 31 times
our 2001 earnings estimate, or around 1.5 times its growth rate.
Many of the company's competitors trade between two and three
times their respective growth rates while lacking Lucent's strong
market leadership. The shares are a compelling buy at their
current price.
