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Ericsson Revamp: Writedowns, Restructuring Charges to Hit Q1

Zacks Equity Research

Ericsson’s ERIC new CEO, Börje Ekholm, has taken a significant step to lead the company out of its worst crisis in a decade, as the telecom equipment maker grapples with shrinking markets and vicious competition from China's Huawei and Finland's Nokia. Ekholm has revealed a restructuring plan to cut costs and streamline Ericsson’s focus areas, as well as explore options for the company’s media business.

Ekholm, who is contending with four straight quarters of revenue declines and contract losses in Italy and Russia, will also remove a layer from the top management, and reorganize Ericsson’s 10 geographical business areas into five.

Shares of the company were down 1.8% in pre-market trading at the time of writing, as investors fret over the impact of the initiatives on the company’s results.

Charges to Hit

Somewhat disturbingly, the firm noted that it needs to take a much bigger restructuring hit than expected. Ericsson expects to take provisions, write-downs and restructuring charges this year, with most of them being booked in the first quarter.

The company will write down assets in first-quarter 2017, which are projected to hurt operating income by as much as SEK 4 billion ($456 million). Further, restructuring charges for 2017 are anticipated to come in the range of SEK 6 billion–SEK 8 billion, up from a previous estimate of SEK 3 billion. Of this, Ericsson will book about SEK 2 billion in the first quarter as Ekholm accelerates cost cuts.

Provisions of an estimated SEK 7 billion–SEK 9 billion ($797 million–$1.02 billion) would also be made in the first quarter, related to negative developments in certain large customer projects.

Other Developments

In a management shakeup, Ericsson has also appointed Fredrik Jejdling, currently head of the Network Services division, as head of the new Networks division. It appointed Peter Laurin head of Managed Services, and Ulf Ewaldsson head of Digital Services.

The CEO plans to channel resources and focus into three core areas – networks, digital services and the Internet of Things. Further, the company will explore options for its loss-making media arm.

How it All Came About

Telecom equipment makers across the world are distressed as customers invest less in 4G services, and even less in 3G, while waiting for the introduction of 5G networks. 2016 was a particularly harrowing year for Ericsson, a year in which the company ousted CEO Hans Vestberg, and stunned investors with a massive profit warning.

Understandably, Ericsson’s share price also had a disastrous run on the bourse in 2016, as it plunged 39.3%, far wider than the Zacks classified Wireless Equipment industry’s average decline of 7.7%.

However, since then, the company has managed to recoup some of those losses. 2017 has been a good year for Ericsson so far, as the stock has appreciated 14.7% year to date, in stark contrast to the industry’s average decline of 2.9%

The new CEO, Ekholm, has already hacked Ericsson’s dividend for the first time in eight years, as he attempts to reverse sinking sales caused by slowdown in spending by wireless carriers and fierce competition.

Ekholm is confident of making “significant improvements” in the business next year, under stable market conditions. Also, he expects that Ericsson will at least double its 2016 operating profit margin, excluding restructuring charges.

Whether these steps will allow Ericsson to jump back on the growth track, remains to be seen. However, as of now, we have a Zacks Rank #4 (Sell) on the stock, as we are apprehensive over the effect of the restructuring on the company’s profits and share price in the near term.

The stock has also attracted some negative analyst attention, of late. Over the past couple of months, analysts have become somewhat bearish on the stock, with estimates moving south. With two downward revisions compared with none upward in the past two months, the Zacks Consensus Estimate for fiscal 2017 earnings declined from 32 cents to 29 cents.

Stocks to Consider

Some better-ranked stocks in the same space include Sierra Wireless, Inc. SWIR, Motorola Solutions, Inc. MSI and Ubiquiti Networks, Inc. UBNT. While Sierra Wireless sports a Zacks Rank #1 (Strong Buy), Motorola and Ubiquiti both hold a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

Sierra Wireless has an outstanding average positive earnings surprise of 179.6% for the trailing four quarters, thanks to three huge earnings beats.

Motorola has a striking earnings surprise history for the trailing four quarters, having beaten estimates all through, for an impressive average beat of 16.4%.

Ubiquiti Networks has managed to beat earnings estimates thrice over the trailing four quarters. It has an average positive surprise of 14.3%.

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