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Darv Gosal

Nortel Networks Corporation (NYSE: NT) is a global supplier of networking hardware, software, and services designed to improve the way consumers and businesses communicate. Nortel also offers professional services that business and service providers need to simplify the design and delivery of communication services. One of the company's key areas of strength are its wireless network solutions. Among other things, the company provides both the resources and hardware and software that wireless carriers need to expand existing networks or roll out wholly new networks.

Industry growth in 2006 was driven primarily by third-generation, or 3G, wireless network deployments, VoIP and products and services that will allow delivery of voice, data and video over IP networks^[1]. Nortel, however, is betting that 4G will quickly replace 3G as it believes that the latter will not be able to support the rapidly growing demand for Online Video.

Nortel has a long history of providing innovative communications solutions to North American companies. That said it has failed to specialize and thus does not command a leading position in most of its markets. Over the last several years, it has lost significant ground to companies like Cisco. Given the high levels of saturation in the North American market, Nortel will have to transform itself into a more global company in order to achieve future growth.

Company Overview

Incorporated in Canada, Nortel generated $11.4 billion in revenues for FY 2006, a nine percent increase from 2005.

Revenue

Revenue by Region

Revenue by Product/Services

Business Segments

• Mobility and Converged Core Networks (MCCN) - MCCN helps service providers and cable operators supply mobile voice, data and multimedia communications services to individuals and enterprises using cellular telephones, personal digital assistants, and other wireless computing and communications devices. MCCN revenues increased to $5.9 billion in 2006, representing more than 50% of Nortel's total revenues. Sales of approximately $1.416 billion to Verizon constituted approximately 12.4% of Nortel's 2006 consolidated revenue, of which approximately $1.022 billion was in the MCCN segment. Two customers made up approximately 29% of MCCN's 2006 revenue.

• Enterprise Solutions (ES) - ES addresses the main branch and home office needs of large and small businesses globally across a variety of industries. ES revenues increased to $2.34 billion in 2006, an increase of 11% from 2005.

• Metro Ethernet Networks (MEN) - MEN revenues increased to $1.67 billion in 2006, an increase of 19% from 2005. Revenues increased by $314 million in Asia in 2006, driven primarily by increases in the ES and MEN segments.

• Global Services (GS) - GS includes services to help design, deploy, support and evolve networks for small- and medium-sized businesses and large global enterprises. GS revenues increased to $1.24 billion in 2006 from $1.17 billion in 2005.

Trends and Forces

3G and Online Video

The growth of online video -- from YouTube, BitTorrent, and increasingly Television Studios' own forays onto the Internet -- has already led to massive increases in the amount of data traveling across the Internet. A single, 30-minute video clip requires many thousands of times the bandwidth that a single email message requires. Many phone carriers have already begun upgrading their networks to the 3G technology standard. Because 3G allows for high speed data downloads, phones equipped with are one step closer to PCs. Among other things 3G phones can download music and videos at much faster speeds than phones using 2G technologies. That said Nortel is betting that 3G technology will be inadequate to support the rapid growth of online video, and will be rapidly replaced by 4G. Because the former is still relatively young, wireless companies like Sprint and verizon Wireless that have already invested billions of dollars in upgrading their networks may be hesitant to upgrade to 4G so quickly. As a result, 4G adoption may proceed at a slower pace than it otherwise would. Companies like Nortel that have bet heavily on 4G may be negatively affected.

Move toward hyperconnectivity

Hyperconnectivity refers to the expected increase in the demand for internet connections. The idea is that while many people currently use a single internet connections, people are increasingly making use of multiple internet connections. In the near future there will be more internet connections than users. Devices that are not currently connected o the internet (e.g. cars, video cameras, digital cameras) will also become points of access. This evolution will require companies and organizations to adopt more complex telecommunications infrastructures and software in order to manage pier to pier interactions. Companies like Nortel which specialize in providing complex telecommunications solutions that are easy to use could benefit substantially from this trend.

CDMA vs. GSM/UMTS

CDMA and GSM are the two dominant wireless standards. CDMA, however, only has a 15% market share amongst handsets while GSM/UMTS holds around 85% of worldwide market share. Moreover, CDMA is losing ground as most CDMA subscribers are in North America and fewer major carriers in emerging markets are willing to support CDMA and are largely opting for GSM/UMTS because of its lower cost. Nortel is a leader in providing services and hardware that support CDMA, but is very limited in its capabilities with regard to GSM/UMTS, given that it recently sold its UMTS business.

Financial Condition 2007

On November 6, 2007 Nortel reported their financial results for the third quarter 2007. It reported revenue of $2.7 billion, down 8% year over year, however, gross margin was 43% compared to 38.4% for the same quarter 2006.^[2]

Competitiors

• Alcatel (ALU) Alcatel and Lucent merged in 2006 to create one of the largest telecommunications equipment vendors in the world ($16.2 billion in 2006 consolidated revenue). Unlike Nortel, the company has invested heavily in 3G technology and could stand to lose if 4G is were adopted to quickly.
• Motorola (MOT) is the world's second largest provider of wireless handsets. Motorola also competes in the wireless infrastructure market and is the market share leader within the cable equipment market and provides two-way radio systems and networking systems for government and industrial customers. Motorola is also a global leader in developing end-to-end broadband systems that deliver entertainment, communication and information systems into the home.
• Cisco Systems (CSCO) Cisco is the worldwide leader in data-networking equipment and software, generating nearly $35 billion in revenue in FY 2007.

References

1. ↑ http://www.nortel.com/corporate/investor/reports/collateral/2006_nnc_english.pdf
2. ↑ http://www.marketwire.com/mw/release.do?id=789148