Nortel Reports Results for the Second Quarter 2006
* Q2 revenues of $2.74 billion, up 5 percent year over year
* Q2 net earnings of $366 million, $0.08 per common share on a diluted basis *
* Q2 cash balance of $1.90 billion
AUGUST 03, 2006, TORONTO - Nortel Networks** Corporation [NYSE/TSX: NT] announced that it and its principal operating subsidiary Nortel Networks Limited (NNL) have reported their unaudited financial results for the second quarter of 2006 prepared in accordance with accounting principles generally accepted in the United States. All dollar amounts included are in U.S. dollars.
Second Quarter 2006 Results
Revenues were $2.74 billion for the second quarter of 2006 compared to $2.62 billion for the second quarter of 2005 and $2.38 billion for the first quarter of 2006. The Company reported net earnings in the second quarter of 2006 of $366 million, or $0.08 per common share on a diluted basis, compared to a net loss of $33 million, or ($0.01) per common share on a diluted basis, in the second quarter of 2005 and a net loss of $167 million, or ($0.04) per common share on a diluted basis, in the first quarter of 2006.
Net earnings in the second quarter of 2006 included a shareholder litigation recovery of $510 million reflecting a mark-to-market adjustment of the share portion of the global class action settlement, special charges of $45 million for restructuring and a loss of $10 million on the sale of assets. Net loss in the second quarter of 2005 included special charges of $92 million related to restructuring activities and $11 million of costs related to the sale of businesses and assets. Net loss in the first quarter of 2006 included a benefit of $35 million in gains on the sale of businesses and assets and a shareholder litigation expense of $19 million reflecting a mark-to-market adjustment.
ďOur second quarter performance underscores both the challenges and good progress we are making with Nortelís transformation. On the plus side we saw strong order growth of 22% and increased sales momentum but gross margin was up only modestly and not at the 40% target we have set for ourselves,Ē said Mike Zafirovski, president and chief executive officer, Nortel. ďWe remain intensely focused on delivering improved financial performance and thereís solid traction on significant business transformation initiatives including the go-to-market supporting our Enterprise business, the development of our Services business, our strategic alliance with Microsoft, and across the board cost management programs. Together, these efforts are enabling us to deliver greater customer value and substantially enhance Nortelís competitiveness.Ē
Breakdown of Second Quarter 2006 Revenues
Mobility and Converged Core Networks revenues were $1.59 billion, an increase of 7 percent compared with the year-ago quarter and an increase of 12 percent sequentially. Enterprise Solutions and Packet Networks revenues were $1.07 billion, a decrease of 1 percent compared with the year-ago quarter and an increase of 23 percent sequentially. Deferred revenues decreased sequentially by $14 million and backlog increased by approximately $194 million.
Gross margin was 39 percent of revenue in the second quarter of 2006, primarily impacted by geographic and product mix, and competitive pricing pressures. This compares to gross margin of 43 percent for the second quarter of 2005 and 38 percent for the first quarter of 2006. Compared to the second quarter of 2005, gross margin was impacted primarily by pricing pressures and unfavourable product mix, which was partially offset by higher sales volumes.
Selling, general and administrative (SG&A)
SG&A expenses were $596 million in the second quarter of 2006, reflecting incremental costs related to our acquisition of PEC and the LG-Nortel joint venture and unfavorable foreign exchange impacts, offset by cost containment initiatives. This compares to SG&A expenses of $588 million for the second quarter of 2005, and $595 million for the first quarter of 2006.
Research and development (R&D)
R&D expenses were $489 million in the second quarter of 2006, reflecting increased investment in targeted product areas, the consolidation of the LG-Nortel joint venture and unfavorable foreign exchange impacts, offset by the favorable impact of the savings associated with our 2004 restructuring program. This compares to $488 million for the second quarter of 2005 and $478 million for the first quarter of 2006.
Special charges in the second quarter of 2006 of $45 million included $43 million for the restructuring program announced June 27, 2006.
Other income (expense) - net
Other income (expense) - net was net income of $51 million for the second quarter of 2006, which primarily related to investment income of $29 million and foreign exchange gains of $16 million.
Cash balance at the end of the second quarter of 2006 was $1.90 billion, down from $2.70 billion at the end of the first quarter of 2006. This decrease in cash was primarily driven by an outflow of $580 million ($575 million plus accrued interest of $5 million) deposited into escrow on June 1, 2006 pursuant to the global class action settlement (pending satisfactory completion of all conditions) and $150 million for the repayment at maturity of the outstanding aggregate principal amount of the 7.40% Notes due June 15, 2006 and a cash outflow from operations of $108 million, partially offset by cash proceeds of $70 million related to the Flextronics transfer.
On July 5, 2006, Nortel announced the closing of the offering of $2 billion aggregate principal amount of senior notes and that it has used $1.3 billion of the proceeds to prepay the $1.3 billion one-year credit facility that it entered into in February 2006.
First Half 2006 Results
For the first half of 2006, revenues were $5.13 billion compared to $5.01 billion for the same period in 2005. The Company reported net earnings for the first half of 2006 of $199 million, or $0.05 per common share on a diluted basis, compared to a net loss of $137 million, or ($0.03) per common share on a diluted basis, for the same period in 2005.
Net earnings in the first half of 2006 included a shareholder litigation recovery of $491 million reflecting a mark-to-market adjustment of the share portion of the global class action settlement, special charges of $50 million related to restructuring activities and a benefit of $25 million related to the sale of businesses and assets. The first half 2005 results included special charges of $106 million related to restructuring activities and $33 million of costs related to the sale of businesses and assets.
Commenting on the Companyís financial expectations, Peter Currie, executive vice president and chief financial officer, Nortel, said, ďFor the full year 2006, we continue to expect strong revenue momentum for the rest of 2006, resulting in high single digit growth for the full year 2006 compared to 2005, gross margin to be around 40% as a percentage of revenue and operating expenses to be flat to up slightly from 2005, with foreign exchange and growth related expenses offsetting productivity and efficiencies. For the third quarter of 2006, we expect revenue growth in excess of 10 percent compared to the third quarter of 2005 and gross margin and operating expenses to be in-line with our full year guidance.Ē
(A) The Companyís financial outlook contains forward-looking information and as such, is based on certain assumptions, and is subject to important risk factors and uncertainties (which are summarized in italics at the end of this press release) that could cause actual results or events to differ materially from this outlook.
Recent Business Highlights
New Strategic Relationships
Nortel and Microsoft announced a strategic alliance to accelerate the transformation of business communications towards a shared vision for unified communications. The agreement engages the companies at the technology, marketing and business levels and includes joint product development, solutions and systems integration, and go-to-market initiatives.
Liberty Global, the worldís leading international cable operator, has signed a 3-year global purchase agreement with Nortel for cable VoIP and optical solutions and services. With this agreement, Nortel is now an approved vendor across Liberty Globalís cable subsidiaries that serve 15 million customers in 18 countries around the world.
Nortel Government Solutions has teamed up with NextiraOne Federal to work together to propose joint solutions for the U.S. Army Infrastructure Modernization program (IMOD). NextiraOne Federal, an authorized Nortel reseller, was awarded one of 10 Indefinite Delivery/Indefinite Quantity contracts to provide converged voice and data solutions for bases worldwide under the U.S. Army IMOD program. In addition, Fortress Technologies and Nortel Government Solutions have formed a strategic relationship to provide government agencies worldwide with a joint solution for secure wireless voice, video and data networking.
Nortelís enterprise customer momentum has resulted in new customers such as: Hong Kong Exchanges and Clearing Ltd., one of Asiaís largest international stock exchanges, Chinaís University of Petroleum to improve communications and ensure easy online access to advanced learning resources for 40,000 students, Israelís Migdal Insurance and Financial Holdings Ltd., Macquarie University in Australia for a network security solution from Nortel, and Langham Hotel Hong Kong for IP phone systems.
The Bahamas Telecommunications Company Ltd. (BTC), the primary telecom operator in the Bahamas will deploy network enhancements to extend the availability of next-generation, voice, data and multimedia services with Nortel GSM/GPRS wireless technology. The GSM/GPRS solution from Nortel will enable BTC to achieve operational efficiencies through reduced network complexity and operating expenses as well as the availability to introduce new services quickly.
Nortelís Global Services will provide full lifecycle services for the Rolls-Royce telephone network under a seven-year management services agreement. Rolls-Royce will transform its entire telephone network into a single, advance network providing VoIP services based on Nortel solutions including the Nortel Communication Server 1000 and Nortel CallPilot for unified voice, fax and e-mail accessible from any location, and Nortel mobility services. Nortel Global Services will also provide network design, integration, management and maintenance services to Suddenlink Communications, one of the 10 largest cable operators in the United States. Suddenlink will provide VoIP-based telephony services based on Nortel PacketCable-qualified Communications Server 2000-Compact as the exclusive softswitch on their Suddenlink backbone.
Recent momentum in Nortelís Government Solutions business includes selection by the U.S. Department of Homeland Security for program management, acquisition and administrative services to the U.S. Citizenship and immigration Service, and a contract for systems engineering and software development for ground systems with the U.S. National Oceanic and Atmospheric Administration.
Russiaís alternative telecommunications service provider Pride has launched ítriple playí voice, video and multimedia services with a newly deployed Metro Ethernet network from Nortel. The solution is based on Nortelís Metro Ethernet portfolio and enables Pride to make available services such as IPTV with video on demand; VoIP; and high-speed Internet access.
Leading Next-Generation Solutions
Nortel has been selected to supply Verizon Wireless with one of the industryís most advanced CDMA 1xEV-DO Revision A technology beginning in the third quarter of 2006. This upgrade will provide data speeds significantly faster than current capabilities and meet customer demand for more high-bandwidth, real-time wireless services such as VoIP, video telephony and advanced multimedia applications.
KTF, one of South Koreaís leading cellular providers, has launched a next-generation ultra high speed 3.5G wireless network in Seoul and cities across South Korea using wireless broadband technology from LG-Nortel. The network supports advanced handset capabilities including high-definition video, video chatting, messaging and remote monitoring.
Nortel is a recognized leader in delivering communications capabilities that enhance the human experience, ignite and power global commerce, and secure and protect the worldís most critical information. Our next-generation technologies, for both service providers and enterprises, span access and core networks, support multimedia and business-critical applications, and help eliminate todayís barriers to efficiency, speed and performance by simplifying networks and connecting people with information. Nortel does business in more than 150 countries. For more information, visit Nortel on the Web at www.nortel.com. For the latest Nortel news, visit www.nortel.com/news.
Certain statements in this press release may contain words such as ďcouldĒ, ďexpectsĒ, ďmayĒ, ďanticipatesĒ, ďbelievesĒ, ďintendsĒ, ďestimatesĒ, ďplansĒ, ďenvisionsĒ, ďseeksĒ and other similar language and are considered forward-looking statements or information under applicable securities legislation. These statements are based on Nortelís current expectations, estimates, forecasts and projections about the operating environment, economies and markets in which Nortel operates. These statements are subject to important assumptions, risks and uncertainties, which are difficult to predict and the actual outcome may be materially different. Nortel has made various assumptions in the preparation of its financial outlook in this press release, including the following company specific assumptions: no further negative impact to Nortelís results of operations, financial condition and liquidity arising from Nortelís restatements of its financial results; Nortelís prices increasing at or above the rate of price increases for similar products in geographic regions in which Nortel sells its products; increase in sales to Nortelís enterprise customers and wireless service provider customers in the Asia Pacific region as a result of Nortelís joint venture with LG Electronics Inc.; anticipated growth in sales to enterprise customers, including the full year impact to Nortelís revenues from its acquisition of PEC Solutions, Inc., (now Nortel Government Solutions Incorporated); improvement in Nortelís product costs due to favorable supplier pricing substantially offset by higher costs associated with initial customer deployments in emerging markets; cost reductions resulting from the completion of Nortelís significant financial restatements and 2004 restructuring plan; a moderate increase in costs over 2005 related to investments in the finance organization and remedial measures related to Nortelís material weaknesses in internal controls; increased employee costs relative to expected cost of living adjustments and employee bonuses offset by a significant reduction in executive recruitment and severance costs incurred in 2005; and the effective execution of Nortelís strategy. Nortel has also made certain macroeconomic and general industry assumptions in the preparation of its financial guidance including: a modest growth rate in the gross domestic product of global economies in the range of 3.2% which is unchanged from the growth rate in 2005; global service provider capital expenditures in 2006 reflecting flat to low single digit growth as compared to low double digit growth in 2005; a general increase in demand for broadband access, data traffic and wireless infrastructure and services in emerging markets with the rate of growth in developed markets beginning to slow; and a moderate impact as a result of expected industry consolidation among service providers in various geographic regions, particularly in North America and EMEA. The above assumptions, although considered reasonable by Nortel at the date of this press release, may prove to be inaccurate and consequently Nortelís actual results could differ materially from its expectations set out in this press release.
Further, actual results or events could differ materially from those contemplated in forward-looking statements as a result of the following (i) risks and uncertainties relating to Nortelís restatements and related matters including: Nortelís most recent restatement and two previous restatements of its financial statements and related events; the negative impact on Nortel and NNL of their most recent restatement and delay in filing their financial statements and related periodic reports; legal judgments, fines, penalties or settlements, or any substantial regulatory fines or other penalties or sanctions, related to the ongoing regulatory and criminal investigations of Nortel in the U.S. and Canada; any significant pending civil litigation actions not encompassed by Nortelís global class action settlement; any substantial cash payment and/or significant dilution of Nortelís existing equity positions resulting from the approval of its global class action settlement, or if such global class action settlement is not approved, any larger settlements or awards of damages in respect of such class actions; any unsuccessful remediation of Nortelís material weaknesses in internal control over financial reporting resulting in an inability to report Nortelís results of operations and financial condition accurately and in a timely manner; the time required to implement Nortelís remedial measures; Nortelís inability to access, in its current form, its shelf registration filed with the United States Securities and Exchange Commission (SEC), and Nortelís below investment grade credit rating and any further adverse effect on its credit rating due to Nortelís restatements of its financial statements; any adverse affect on Nortelís business and market price of its publicly traded securities arising from continuing negative publicity related to Nortelís restatements; Nortelís potential inability to attract or retain the personnel necessary to achieve its business objectives; any breach by Nortel of the continued listing requirements of the NYSE or TSX causing the NYSE and/or the TSX to commence suspension or delisting procedures; (ii) risks and uncertainties relating to Nortelís business including: yearly and quarterly fluctuations of Nortelís operating results; reduced demand and pricing pressures for its products due to global economic conditions, significant competition, competitive pricing practice, cautious capital spending by customers, increased industry consolidation, rapidly changing technologies, evolving industry standards, frequent new product introductions and short product life cycles, and other trends and industry characteristics affecting the telecommunications industry; any material and adverse affects on Nortelís performance if its expectations regarding market demand for particular products prove to be wrong or because of certain barriers in its efforts to expand internationally; any reduction in Nortelís operating results and any related volatility in the market price of its publicly traded securities arising from any decline in its gross margin, or fluctuations in foreign currency exchange rates; any negative developments associated with Nortelís supply contract and contract manufacturing agreements including as a result of using a sole supplier for key optical networking solutions components, and any defects or errors in Nortelís current or planned products; any negative impact to Nortel of its failure to achieve its business transformation objectives; additional valuation allowances for all or a portion of its deferred tax assets; Nortelís failure to protect its intellectual property rights, or any adverse judgments or settlements arising out of disputes regarding intellectual property; changes in regulation of the Internet and/or other aspects of the industry; Nortelís failure to successfully operate or integrate its strategic acquisitions, or failure to consummate or succeed with its strategic alliances; any negative effect of Nortelís failure to evolve adequately its financial and managerial control and reporting systems and processes, manage and grow its business, or create an effective risk management strategy; and (iii) risks and uncertainties relating to Nortelís liquidity, financing arrangements and capital including: the impact of Nortelís most recent restatement and two previous restatements of its financial statements; any inability of Nortel to manage cash flow fluctuations to fund working capital requirements or achieve its business objectives in a timely manner or obtain additional sources of funding; high levels of debt, limitations on Nortel capitalizing on business opportunities because of credit facility covenants, or on obtaining additional secured debt pursuant to the provisions of indentures governing certain of Nortelís public debt issues and the provisions of its credit facilities; any increase of restricted cash requirements for Nortel if it is unable to secure alternative support for obligations arising from certain normal course business activities, or any inability of Nortelís subsidiaries to provide it with sufficient funding; any negative effect to Nortel of the need to make larger defined benefit plans contributions in the future or exposure to customer credit risks or inability of customers to fulfill payment obligations under customer financing arrangements; any negative impact on Nortelís ability to make future acquisitions, raise capital, issue debt and retain employees arising from stock price volatility and further declines in the market price of Nortelís publicly traded securities, or any future share consolidation resulting in a lower total market capitalization or adverse effect on the liquidity of Nortelís common shares. For additional information with respect to certain of these and other factors, see Nortelís Annual Report on Form 10-K/A, Quarterly Report on Form 10-Q and other securities filings with the SEC. Unless otherwise required by applicable securities laws, Nortel disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
*Q2 net earnings of $366 million included a shareholder litigation recovery of $510 million reflecting a mark-to-market adjustment of the share portion of the global class action settlement.
**Nortel, the Nortel logo and the Globemark are trademarks of Nortel Networks.
Nortel will host a teleconference/audio webcast to discuss Second Quarter 2006 Results.
TIME: 8:00 AM - 9:00 AM EDT on Thursday, August 3, 2006
To participate, please call the following at least 15 minutes prior to the start of the event.
North America: 1-888-211-4395
(Available one hour after the conference call)
North America: 1-800-383-0935
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