Is the Worst Over at Alcatel-Lucent?

Chief Executive Patricia Russo says refreshed technology, developing-world orders and the service business will spur recovery at the telecom

Patricia Russo was beaming on Dec. 1, 2006, when she appeared at a Paris press conference celebrating her appointment as chief executive officer of Alcatel-Lucent, a $26 billion global telecom equipment giant newly created by an historic Franco-American merger.

She has had little reason to smile since then. Alcatel-Lucent (ALU) has posted three consecutive quarterly losses. On Oct. 31, the company announced an emergency restructuring plan (, 10/31/07) under which one in five of its 80,000 employees will lose his job by 2009. Shares are down a stomach-churning 50% since January, and five of Russo's top deputies have left the company. Some analysts speculate that Russo herself could be next out the door. (, 9/28/07) No wonder many industry-watchers now say the merger was a mistake.

Russo agrees it has been an awful year for Alcatel-Lucent. But in an interview with BusinessWeek at her office near the Champs Elysées, she staunchly defends the merger and cites evidence the worst is now over. "It's easy to sit on the sidelines and make strategic judgments," she says. Alcatel-Lucent's recent turmoil stems not from bad strategy but from "problems that we're going to work our way out of."

Opening the Door to Competition

One of those problems, Russo now admits, was that integrating Alcatel and Lucent proved more disruptive than expected. Customers, uncertain about possible changes in the merged company's product lineup, hesitated to place new orders. At the same time many employees were "distracted" by worries their jobs would change or be eliminated, she says.

That opened the door to aggressive competitors such as mobile equipment market leader Ericsson (ERIC) and Huawei Technologies, who have grabbed market share from Alcatel-Lucent's wireless network business. "Our competitors pulled the rug out from under us," Russo says. "They put forward some very aggressive pricing." Some mobile operators jumped ship, and while Alcatel-Lucent was able to hold onto others, it often had to give discounts or concessions that ate up profits.

Profitability also suffered as Alcatel-Lucent tried to streamline its product lineup. Take W-CDMA, the third-generation wireless technology the company adopted as a successor to the so-called CDMA technology central to its U.S. wireless business. Russo says she decided to discontinue much of the W-CDMA gear developed by Alcatel, replacing it with equipment made by a unit of Nortel (NT), which the merged company acquired earlier this year. When customers began changing over to new equipment, Alcatel-Lucent had to absorb much of the cost.

Problems Beginning to Ease

Russo acknowledges too that until a few months ago, some of Alcatel-Lucent's product offerings weren't up to par technologically. "We were late in getting to the refresh of the latest technology" for GSM networks—the second-generation mobile standard used in most countries outside the U.S. The GSM offering was updated several months ago, she says, and now "That business is doing just fine."

Indeed, Russo says many of the problems bedeviling Alcatel-Lucent over the past year are starting to ease. Customers now have clearer information about the merged company's product portfolio. And rivals such as Ericsson can't afford to keep luring customers away with aggressive pricing, as their own profits have tumbled (, 10/16/07).

Alcatel-Lucent also is powering ahead in developing countries, Russo says. Just this week it won a $1.1 billion contract with two Chinese mobile operators for network equipment. Its fixed-telephone and broadband equipment business, though suffering from the housing slump in the U.S., is generally healthy too. The company remains the world leader in digital subscriber line (DSL) broadband equipment and hopes to translate its big customer footprint and strong carrier relationships into a post position for the coming rollout of optical networks to neighborhoods and homes.

Poised to Recover?

With an eye to falling prices and tightening margins for basic telecom equipment, Russo also is pushing Alcatel-Lucent increasingly into the service and support business, where it already ranks No. 2 globally—behind Ericsson. A team of 20,000 field technicians operating in 130 countries has won Alcatel-Lucent contracts to build and operate fixed and mobile networks for carriers around the world, and services should account for about one-quarter of the company's top line this year, up from 20% in 2006. Overall, the services market worldwide is growing at double the rate of telecom equipment, says John Meyer, president of Alcatel-Lucent's services business unit.

Does all this mean Alcatel-Lucent now is poised to recover? It's too soon to tell—and investors clearly still need some persuading. Shares are up just 5% from a 52-week low set on Nov. 21. But Russo says she's confident the company will emerge stronger and more competitive. "This merger still has strategic logic," she says.

With additional reporting by Andy Reinhardt

Before it's here, it's on the Bloomberg Terminal.