It's lunchtime at the New York Palace Hotel, and there isn't enough chicken to feed the standing-room crowd of analysts gathered to hear from Alcatel Chairman Serge Tchuruk. The stately Frenchman's $22.2 billion telecom-equipment company was until lately the toast of Wall Street. Now he's explaining what led to a shocking earnings warning four days earlier, on Sept. 17, which triggered a 40% collapse in Alcatel stock price and rattled markets across Europe. Fluent in English, Tchuruk gamely tackles questions on strategy and promises that a big stock buyback is in the works. But when questioning touches on when he learned about the profit shortfall, Tchuruk, following the advice of counsel, clams up.
That information is the key to lawsuits filed since Alcatel's stock tumbled. The legal challenge comes from shareholders in DSC Communications Corp., a Texas company acquired for $3.3 billion in Alcatel stock on Sept. 4. They claim that Alcatel held off the bad news until after the takeover was completed--a charge Alcatel denies. "Even if everyone in France takes off the whole month of August, who are they trying to kid?" asks Lee Squitieri, of Abbey, Gardy & Squitieri, a New York firm filing one of the suits. If Alcatel had fessed up earlier, shareholders say, it would have scotched the deal or at least led to a renegotiation. As it was, the stock Alcatel paid for DSC crashed just as the certificates were arriving in the mail.
MADDENING. Suddenly, the high-flying Alcatel has encountered turbulence. Competitors, such as Northern Telecom, are also experiencing a slowdown in orders. But in an industry rife with takeovers, Alcatel's reduced market cap drops it from the class of hunters to potential prey. And even if the lawsuits amount to nothing more than a distraction, as industry insiders now predict, it's one that Alcatel can ill afford as it jousts with some of the world's fiercest tech companies, including Cisco Systems Inc. and Nokia Corp., to build the bandwidth for the Information Age.
This has to be infuriating for Tchuruk, 60, a former oil industry executive who has engineered quite a turnaround at Alcatel. Tchuruk, who declined to be interviewed for this story, arrived at the company in 1995, just as it registered a record-setting $4.2 billion loss. He proceeded to shut down 60 plants at a cost of 30,000 jobs. He sold off unrelated divisions, from vineyards to magazines, all the while positioning Alcatel for the fin-de-siecle telecom battles.
By last spring, it appeared that Tchuruk had the pieces in place to pull off his strategy. His restructuring had produced operating profits topping $1 billion in 1997. Telecom margins, at 4% still only half of rival L.M. Ericsson's, would rise, he assured analysts. And Alcatel, with its blue-chip customers eager to jump into the Internet, appeared ideally positioned. Analysts were calling it "the Lucent of Europe."
Hungry for results like those of Lucent Technologies Inc., investors on both sides of the Atlantic bid up Alcatel stock, nearly doubling it in the first half of the year. In fact, Tchuruk didn't have it all together--not quite. With the communications industry moving from traditional voice lines, Alcatel's forte, to high-speed data networks, he required a far larger presence in the U.S., the world's most advanced telecom market and home to most Net technology. With his rich stock, along with the proceeds from the $1.8 billion spin-off of Alcatel's train division, Tchuruk had plenty of money to shop.
MISCALCULATION. He saw what he wanted only five miles from Alcatel's U.S. headquarters in the Dallas suburbs. It was DSC Communications, a slumping old-line telecom supplier. DSC provided little of the Internet glitz that Alcatel was missing. But the company did offer a large installed base. This was important, because servicing existing customers, with upgrades and new software, is a higher-margin business than installing new lines and switches. "We were buying a business position in the States," says Peter Radley, Alcatel's vice-president for business development. On June 4, Alcatel offered to acquire DSC.
Since then, the newly deregulated European markets that were expected to pour money into Alcatel's coffers have instead dealt it a bruising. It was Alcatel's apparent inability to gauge the velocity of these changes, and respond quickly to them, that halved the value of its stock--leading DSC investors to call their lawyers.
The trouble, Tchuruk explained as he issued the profit warning in Paris on Sept. 17, is that Europe's biggest customers, such as Deutsche Telekom and France Telecom, no longer plan upgrades years in advance. They make decisions far more quickly, basing them on competition and with an eye to quarterly results. "The cycles seem to be collapsing," says Krish Prabhu, CEO of Alcatel U.S.A. What's more, many of them are now waiting to see which Internet technologies take root. The upshot: Alcatel's key customers cut back orders last summer by as much as 37%.
The question is why it took Alcatel so long to advise shareholders of the drop in orders and profits. According to Tchuruk's statements immediately following the Sept. 17 announcement and before the suits were filed, he didn't learn about the disappointing numbers until Sept. 8--after the DSC deal was done. If true, perhaps his frantic work to restructure Alcatel's businesses led him to scrimp on client contacts and internal communications. "It makes you wonder if they let relationships slip," says a London analyst who has downgraded the stock from a buy to neutral.
Although Alcatel is now cheaper for a suitor, it may also be less appealing. When asked at the September analysts meeting if Alcatel could be a target of Lucent, Tchuruk admitted that he had read that Lucent had its eyes on Siemens and Nokia, as well as Alcatel. "All I can say is, `Bon appetit,"' he joked. Analysts, though, think it more likely that Lucent would hunt for a networks company such as Ascend Communications rather than its old-line counterpart in France.
COOL GIZMOS. Alcatel officials stress that despite the market gyrations, the company still registered a 33% rise in first-half operating profit, on sales growth of 6%--strong figures, though lower than expectations. Further, the company boasts a slew of exciting products. Its Web-surfing screen phone is undergoing customer testing in Europe and may be released soon in the U.S. Its superfast cable connections, which could replace modems, should be installed in Compaq Computer Corp. personal computers within months.
And sharp new designs have lifted the company's cellular phones, long laggards, ahead of Siemens and Philips Electronics products, and they are now edging into the black. But even if profits spike up, count on Tchuruk not to boast for a while. He has seen how badly investors react to earnings whiplash.