July 28, 2006 We're Still Nervous About Tellabs, Maintain Underperform Rating
Investment Summary We're staying on the sidelines with respect to Tellabs. Concerns include sustainability of 5500 sales into wireless operators as well as specific risks within the Access business (legacy DLC business and AT&T / BellSouth (T, $29,68, NR) merger impact on FTTC). We're reducing our price target to $7.40.
ALCATEL IS THE PRIMARY GPON RFP WINNER...TELLABS GETS SECOND SOURCE ...Verizon finally announced the GPON RFP winners. Alcatel (ALA, $10.90, HOLD), Tellabs, and Motorola (MOT, $22.11, BUY) have all won a role. Alcatel is the primary. Tellabs' second source position is disappointing � most Street revenue models (including ours) had assumed it would retain its primary position.
WE'RE STILL CONCERNED ABOUT THE 5500 ... We're still concerned that current 5500 sales levels are a by-product of a condensed (and aggressive) period of 3G-related investments by the wireless operators � including catch-up spending from Sprint/Nextel (S, $20.44, NC). As Verizon and Sprint/Nextel get beyond their EVDO deployments, Tellabs' 5500 business could deteriorate. T-Mobile � as they ramp 3G � could partly offset weakness.
Q3 GUIDANCE IS WEAK... Tellabs is projecting Q3 revenue of $510 -$535 million --- down versus $545 million consensus. Disappointing guidance is a function of: 1) concerns about excess ONT inventory at Verizon; and 2) potential for merger-related disruption in Tellabs' FTTC business at BellSouth (BLS, $38.77, NR).
REDUCING ESTIMATES... We're taking our '06 and '07 sales from $2.12B and $2.05B to $2.08B and $1.99B, respectively. On the bottom line, we're reducing our '06 and '07 EPS from $0.55 and $0.57 to $0.51 and $0.50, respectively.
REDUCING PRICE TARGET... HANGING ONTO OUR UNDERPERFORM RATING. We're reducing our target from $12.00 to $7.40 due to: 1) a lower '07 EPS projection; and 2) significantly reduced comparable company valuations.