Tellabs Woes Continue, Outlook Weak

Zacks Equity Research

Tellabs Inc. (NasdaqGS:TLAB - News) declared its second quarter of 2011 financial results today, lagging behind the Zacks Consensus Estimates. Total revenue of $334.2 million was down 21% year over year, below the Zacks Consensus Estimate of $339 million. Although international revenue increased, lower revenue from North America is the primary reason for this poor performance.

On a GAAP basis, net loss in the second quarter of 2011 was $20.1 million or a loss of 6 cents per share compared with a net income of $64.1 million or an income of 16 cents per share in the prior-year quarter. Adjusted (excluding special items) EPS in the reported quarter was a loss of 3 cents, which just met the Zacks Consensus Estimate.

GAAP gross margin was 37.4% compared with 53.5% in the year-ago quarter. Massive decline in gross margin was mainly attributable to higher cost of revenue for Product segment.

Operating expenses, in the reported quarter, were $150.4 million compared with $146.9 million in the prior-year quarter. However, the second quarter of 2011 operating margin was a negative 7.6% compared with 18.8% in the year-ago quarter.

During the reported quarter, Tellabs also distributed approximately $7.3 million to stockholders through quarterly cash dividend. Management has decided to reduce costs by $50 million in the next year through a retrenchment of 330 jobs.

During the first half of 2011, Tellabs consumed $53.3 million in cash for operations compared with a cash generation of $165.9 million in the year-ago quarter. Free cash flow in the reported period was a negative $85.4 million compared with $151.8 million in the prior-year period.

At the end of the second quarter of 2011, Tellabs had $1,058 million of cash & marketable securities on its balance sheet compared with $1,134.5 million at the end of fiscal 2010. Balance sheet of Tellabs had no outstanding debt.

Broadband Segment

Total revenue of the Broadband segment was $162.7 million, down 28.9% year over year. Within this segment, Data Product revenue was $95.1 million, down 40.1% over the year-ago quarter. Access revenue was $39.8 million, down 1.5% over the prior-year quarter. Managed Access revenue was $27.8 million, down 5.8% year over year.

Broadband segment loss was $3 million compared with a profit of $86.1 million in the year-ago quarter. The huge decline in segment profit was driven by lower revenue from multi service routers and higher R&D expenses.

Transport Segment

Total revenue of the Services segment was $114.3 million, down 14.2% year over year.  Decline in revenue was the effect of lower sales of digital cross-connect products, partially offset by higher sales of optical transport systems. The segment generated a profit of $27.2 million, down 47.4% year over year. This was mainly due to lower revenue from high-margin digital cross-connects.

Services Segment

Total revenue of the Services segment was $57.2 million, down 6.1% year over year.  Decline in revenue was attributable to lower deployment services revenue in North America. The segment generated a profit of $21.6 million, up 4.3% year over year, mainly due to favorable product-mix.

Geographic Distribution

In the second quarter of 2011, North America region generated $177.2 million of revenue compared with $330.2 million in the prior quarter. The rest of the World generated the remaining $157 million of revenue compared with $92.6 million in the prior quarter.

Portfolio Distribution

In the second quarter of 2011, Growth products generated $202.8 million of revenue compared with $243.9 million in the prior-year quarter. Growth products now constitute 61% of total revenue. Core products generated the remaining $131.4 million compared with $178.9 million in the prior-year quarter.

Future Financial Outlook

Management expects its third quarter of 2011 revenue to be in the range of $325 million to $345 million. Non-GAAP gross margin is expected to be 39%, plus or minus 1 or 2 percentage points, depending on product mix. Non-GAAP operating expenses are expected to be in the mid $130 million range.

Recommendation

Our major concern for Tellabs is the increasing competition in its core wireless backhaul solutions segment. Tellabs already lost significant amount of business from its most important customer AT&T (NYSE:T - News). We maintain a long-term Neutral recommendation for Tellabs. Currently, it has a short-term Zacks #3 Rank (Hold) on the stock.

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