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Tellabs to Underperform

Zacks Equity Research

Tellabs Inc.’s (NasdaqGS:TLAB - News) woes continue as the company reported weak financial result for the third quarter of 2011 and provided a tepid outlook for the fourth quarter of 2011. Although international revenue increased, lower revenue from North America led to this poor performance. The company’s three reporting segments witnessed reduction in sales. Tellabs’ globally reputed high-margin digital cross-connect products continued to show a downtrend, while significantly affecting its bottom line.

Furthermore, the company is facing serious problems as its key customer AT&T Inc. (NYSE:T - News) is moving away. Tellabs is aggressively targeting the mobile Internet market since its legacy switching products are gradually losing relevance. Unfortunately, global macro-economic fluctuations may hinder its speed of recovery. We do not find any immediate growth catalyst for Tellabs and thus downgrade our recommendation to Underperform.

Tellabs has given a dismal financial outlook for the fourth quarter of 2011. Revenue guidance was below the consensus estimates and gross margin guidance is just 39%. Total revenue is expected to decline by around 28% year over year, indicating that a gloomy scenario is looming large. This dismal condition resulted from the continuous decline in sales of Tellabs’ legacy products and its newly launched growth products, which intensified the competition further. The company has planned to expand globally. Although international revenue is grossly offsetting the loss of revenue in North America, Tellabs is facing margin pressure. The company is forced to sell its growth products at lower margin in these regions in order to capture market share.

Tellabs faces a high level of customer concentration. Two customers, viz AT&T and Verizon Communications Inc. (NYSE:VZ - News), accounted for more than 33% of total revenue. Loss of any of these customers will have a significant material impact on the company’s top line. Book-to-bill ratio was less than 1.0 throughout the previous quarter.

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