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Lucent's Russo and D'Amelio on 4th-Qtr Loss (Transcript)

Murray Hill, New Jersey, Oct. 23, 2002 (Bloomberg) -- Patricia Russo, chief executive of Lucent Technologies Inc., and Frank D'Amelio, chief financial officer, talk with Bloomberg's Justin Baer via telephone about the company's fiscal fourth-quarter loss and plan to return to profitability by the end of fiscal 2003. Lucent is the biggest U.S. maker of telephone equipment.

(This is not a legal transcript. Bloomberg LP cannot guarantee its accuracy.)

BAER: Welcome to the Bloomberg Forum. I'm Justin Baer. Today, I'm speaking with Lucent Technologies, Inc. CEO Patricia Russo and Chief Financial Officer Frank D'Amelio.

Thanks for joining us.

RUSSO: Hi, Justin.

D'AMELIO: Good morning.

BAER: Good morning. The company reported its fiscal fourth quarter results earlier today and provided some more details on its restructuring plan that will move forward in the next year. First question I had for you, for both really, is on the conference call earlier you made reference to the changes that will take place in the product portfolio, that there are certain areas that you'll focus on. And you highlighted those - and within optics and switching and software and services.

I guess, in terms of the businesses that would be outside those main areas of focus, are there opportunities for asset sales within them, as you move ahead and identify things that are not considered clear and near opportunities, so to speak?

RUSSO: Well, Justin, what we've tried to do is articulate where we are concentrating our investment, and where we are either deferring, minimizing, or in some cases, stopping our investment. So the idea here is to make sure that we are matching our portfolio to where our customers intend to spend money. And that's why we talked about the metropolitan and the Edge space in optical. We talked about Softswitch, first in the Mobility arena and then later on in the wire-line arena. We talked about leveraging the install base of circuit and packet switches to enhance and extend their capabilities, to packetize them, if you will. And so what we've tried to do is look solution by solution and assure that we're putting our energy as close to where our customers are intending to consider spending as possible.

Having said all that, we are not currently looking at asset sales, if you will, as part of that, because we're being more horizontal in looking at what our customers' requirements are from a network standpoint, as opposed to just drawing boxes and saying, you know, we're getting out of a particular, huge category. That is not what we're doing.

BAER: And it sounds like those customers are telling you that they want you to remain in all of those main product lines, that, as you said, there may be some efforts that they say will be more successful than others. But it sounds like in all of the areas the company currently pursues now your big customers want you to maintain a presence there.

RUSSO: Yeah, you know, I think if you think about how we've positioned ourselves in the market, what our legacy reputation and our current competencies are, we have concentrated our energies around evolving networks and thinking about network architectures and providing the total solutions approach and the software and services glue that create value. That is how we've distinguished ourselves, I think, in the market and with our reputations with customers.

So the strategy and the restructuring of the business is not a dramatic deviation from that. What we said that is different, is that in the context of providing network solutions, we will in fact partner more because we acknowledge and accept that in this kind of a market environment, you can't invest and do everything yourselves.

BAER: Right, and would that primarily be at the - those partnerships be at the startup level, in the sense that the companies that have, obviously, a very narrow focus, or.

RUSSO: It doesn't have to be. It doesn't have to be, Justin. You should think of it as, at the level of, you know, sort of incorporating elements or products or technology into the solutions that we deliver to customers, and what it takes to both integrate those from a network working standpoint, and as well, from a network operating support standpoint, which is just as important to our customers, which is why our network operating software business is so important going forward.

BAER: Got it. And Frank, you had outlined the path toward boosting the gross margin to 35 percent by the end of this fiscal year. Within that chart, you referred to a shift in volume and mix. That mix, is that primarily from - or as that Mobility side of the business increases? Is that.

D'AMELIO: Yes, it was part of the walk I did in terms of what our gross margin for the current quarter was. If you remove the charges that I culled out, the 700 million, and then how we got from there to the approximately 35 percent by the end of fiscal year '03. In that walk, 5 to 7 percent of the improvement came from volume and mix, and I described that as a combination of product mix and geographic mix, that both of those have impacts on the gross margin.

BAER: And those - specifically, that's the shift back toward a greater percent of your sales coming from Mobility as well as a greater percentage of sales coming internationally? Is that.

D'AMELIO: The answer is, a greater percentage of sales based on certain products, some of which are within Mobility. You've got to look at margin on a product by product basis in order to do that calculation.

BAER: OK, got it. And you also referred to the launch of new products as contributing to that increase this year. I guess, generally speaking, what areas? Is this the buildup of some of the optical products that you - that are in trials now?

RUSSO: Yes, Justin, let me take a crack at that.

BAER: Sure.

RUSSO: A couple of things. First of all, as I mentioned, we've really overhauled our optical portfolio, and, as you know, the market has really been delayed in spending in that area. But we've said we really see the metropolitan, the Edge, as kind of the first place for investment. So as we roll out our new products where we've won contracts, we expect to see margin improvement in that regard. We haven't had that opportunity to the extent that we had hoped, because of the spending patterns, but if we go into '03, we see that helping our margins.

BAER: Got it.

RUSSO: And the other thing I would add is, in our Mobility business, there's a lot of work going on around cost-reducing our platforms. So as we roll out our new base stations and with all the capabilities they have, we expect to see margin improvement in that area as well.

D'AMELIO: And new products isn't just brand-new products.

RUSSO: Right.

D'AMELIO: It can be new features on existing products, new extensions, so when we talk about new products, we think about the gamut of new from a product perspective.

BAER: Got it. And in terms of - Pat, just looking at the new year, can you just identify a few of what you consider the most important - out of maybe RSPs or roll outs you see the carriers making that you will - I guess that's most important from Lucent's point of view, in terms of either, you know, the immediate sales impact, or perhaps more importantly, kind of long term to assure that you, you know, maintain your presence in a lot of these - a lot of these large networks around the world?

RUSSO: Yes, well, you know, first of all, Justin, we just announced three - just yesterday in fact - three major contracts that involve significant deployments of mobile services in India and in China in addition to contracts we had already announced here in North America, right?

BAER: Right.

RUSSO: So the Mobility deployment to support subscriber growth, to support low-cost voice applications and high-speed data, are clearly critical for us to execute on.

BAER: Got it.

RUSSO: We see and have won contracts in the metropolitan optical arena, rolling out those products and executing with excellence is a clear focus for us. Customers have told us that they want us to put MPLS functionality on our embedded packet switches, so that's another area of deployment that's important for us.

BAER: Is that a 2003 event, the MPLS?

RUSSO: Yes, yes. And, you know, we've talked about our network operating software investment and the market opportunity we see for that. So, you know, successfully communicating our strategy and our capabilities to customers is important because it's timely, right? I mean, they're looking for ways to reduce their operating cost.

And then lastly, services. I've talked about a shift in strategy. I've acknowledged it will take time, but there is clear opportunity for us with a more proactive and intense focus, with specialized step selling capabilities, which we have put in place, to capture more business on the services front.

BAER: Got it. And I think you both touched on this on the call. The problem - I don't know if it's a problem, but services revenue is a direct response to volume on the equipment and software side, and how do you, I guess, break that up? How do you - how can the services business begin to, I guess, kind of transcend the equipment sales in the sense that you can find new opportunities. I mean, what services can you deliver to carriers that aren't necessarily linked to maintenance of existing equipment?

RUSSO: OK, just kind of order of magnitude, right? I mean, we have a significant revenue stream in the broad category called services. Within that, we do hundreds of millions of dollars of business in multi-vendor maintenance, and in professional services, already. OK? Less so in outsourcing. That's much newer to us. So our focus has to be on proactively going after more multi-vendor services, multi-vendor maintenance, and more professional services, like network optimization, like security services, like inventory management services. And so we already have a footing, you know, a base, if you will, to grow from.

The difference for us is a conscious decision to proactively go after it and put the focused resources in place to do that.

BAER: Got it. And so these could be possibly carriers that have historically not - Lucent has not historically been their biggest equipment vendor, right? I mean, is that?

RUSSO: Yes, absolutely could be.

BAER: Got it.

RUSSO: In fact, should be.

BAER: OK. Frank, in terms of the - I guess the buyback exchange of the convertible shares, you said that's something that may continue in the future. Do you consider the window that has been there recently in terms of the price environment - is that still open? Is that still something that you are doing on a, I guess, a weekly basis or considering on a weekly basis?

D'AMELIO: Yes, let me frame this in terms of what we've actually done. We've done $275 million worth of repurchases of the 8 percent convertible preferred stock in exchange for 96 million shares of our common stock. That's what we've actually done. And we clearly did that based on market pricing and what we believed was pricing that caused us to be able to do some good trades, is the term I'll use. In terms of going forward, we're always monitoring the capital markets, and where we believe there's good trades, we'll continue to execute on them.

The point I want to make here is something we said on the call, which is, our top priority for this year is returning this business to profitability by the end of fiscal year '03. And we believe that by doing that and achieving that, that could create some additional options for us relative to the put.

BAER: Got it.

RUSSO: Justin, I'm going to have to cut you off.

BAER: OK, if I could just - I guess sneak one in there. In terms of the cash walk-through, Frank, you gave, I guess how much margin of error do you have with that? If it turns out that as you lower the break-even point further, below 2.5 billion - I mean, how much more can you take out in terms of - say that restructuring cost number goes beyond the tug (ph) you have now.

D'AMELIO: What I would say is - you know, Pat mentioned what we did in terms of our financial planning assumptions and the 20 percent decline year over year in our revenues. We, and I, clearly stress tested that number, and based on the stress testing we did, we believe we will have more than $2 billion in cash at the end of the fiscal year. So we stress tested it, and based on that, we were comfortable with the statement that we made.

BAER: So that structure is based on possibly more cuts and more restructuring costs than would be required to get to 2.5 billion break even?

D'AMELIO: No, what I would say is, based on the 2.5 billion that we did the planning, and we also stress-tested the 2.5 billion so that if we needed to, we could go further.

BAER: I guess, how much further?

D'AMELIO: I mean, you know, we did various scenarios .

BAER: OK.

D'AMELIO: . and based on those various scenarios, we're comfortable with our expectation that we'll have more than 2 billion in cash by the end of the fiscal year.

BAER: I mean, can you just throw a couple of the numbers on? I mean, is it - can you guys - it was I guess 2 billion below that? I mean what, generally, how much .

D'AMELIO: No, we went below the 20 percent planning assumption that we talked about.

BAER: OK.

RUSSO: Yes, you know, I mean, stress testing involves things like: assume the revenue isn't what you think and you can't get the expenses out. How much cash will you have?

BAER: OK.

RUSSO: I mean, so that's an example of what we mean by stress testing. And the point Frank's making is he stress tested a number of ways and still is confident saying that we'll have more than 2 billion in cash by the end of fiscal '03.

BAER: This has been Justin Baer with Bloomberg News, speaking with Patricia Russo and Frank D'Amelio of Lucent Technologies.

***END OF TRANSCRIPT***

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