Nortel files for bankruptcy protection

Nortel Networks applied for court approval for creditor protection in the Canada, the U.S. and Europe on Wednesday morning, marking a new low for what was once one of Canada’s most successful technology companies and a world leader in providing network infrastructure.

In a letter posted on the company’s Web site, CEO Mike Zafirovski said Nortel is filing for creditor protection “in order to undertake a comprehensive business and financial restructuring. I firmly believe these are the right steps toward a solution for our company. This process will enable Nortel to become the highly focused and financially sound communications leader it should be.

“Most importantly, Nortel is still very much in business and our commitment to customers remains unwavering. We will continue to invest in leading edge R&D to deliver the value our customers expect from us. To all our stakeholders – including customers, suppliers and employees – please know that this decision was not taken lightly. I can assure you we explored every possible alternative, sought a variety of solutions, and engaged in extensive consultation with our Board of Directors and many other experts.”

The decision has obviously shaken the company because Zafirovski’s name at the bottom of the message was spelled wrong.

Nortel has lost more than US$7 billion since 2005, when Zafirovski took over after a series of managment changes and accounting scandals. The company has since lost 97 per cent of its market value in the past year to rivals such as Cisco Systems.

Nortel has also endured a gruelling series of layoffs.

It is burning though cash and had faced a US$107 million interest payment tomorrow, which was the event that trigged the bankruptcy protection filing. The motion freezes that obligation for 30 days.

Mark Fabbi, a Gartner distinguished analyst who specializes in enterprise network infrastructure and advises telecom buyers, said the move is both good news and bad news. “Better to do it now than later,” he said in an interview this morning. “The biggest issue with Nortel isn’t technology, its the financial postion they find themselves in, and that obviously represents too much risk for some organizations” looking to buy its gear.

In the last few months, with more news stories emerging about Nortel’s shaky position after the company announced another restructuring in November, customers have been nervous. “If they’re an existing customer, they’re willing to buy more,” Fabbi said. “If not, the general view is there’s too much risk.”

So Fabbi has been telling clients bankruptcy protection would be good. “If you’re a Nortel customer, once they work through things it would give you more certainty on what’s going on,” he explained. “If you’re not a customer today, you’ll know what the future is going to become.”

Roberta Fox, senior partner at Fox Group, a Mount Albert, Ont.-based enterprise telecom consultancy, also said the move has two sides. “The positive hope is this gives them a chance to get things sorted out,” she said. “The concern is what happens if it doesn’t get sorted out? What happens to the (product) support and the capabilities for the people who have Nortel equipment? Phone systems still have to work.

“Hopefully they get things sorted out quickly and it has minimal impact on the customer base. Some companies come out of bankruptcy protection very well. Air Canada came out leaner, meaner on the other side.” Nortel has “very powerful assets,” she said, including its patents, products and large customer base.

However, she acknowledged that some organizations will now be reluctant to buy its equipment. “They’re going to be very serious” when filling out purchase orders, she said. “They’re going to question whether they do it or not, particularly because telecom acquisitions have a much longer life than computers.”

The blogosphere immediately lit up with comments about Nortel’s latest struggles Wednesday morning.

“It marks the beginning of the end of a long and painful process – a death by strangulation – that has cost the Ottawa community dearly,” wrote Alec Saunders, CEO of Ottawa-based VoIP startup Iotum. “Tens of thousands of jobs have evaporated since Nortel ran into trouble eight years ago, and many more people have lost their life savings as well.”

While Nortel’s roots are staunchly within the telecommunications sector, providing equipment to incumbents such as Bell Canada, it has spent the last several years trying to make a bigger dent in the enterprise space. As recently as Monday, the company announced the Nortel Ethernet Routing Switch 5600 series, promising up to 18 times the stacking performance, up to twice the capacity, and up to seven-times the resiliency of the stackable switches from the primary competition, at a fraction of the expense.

Nortel might be broken up or sold to foreign rivals. It has been trying for months to sell its Metro Ethernet division. Fabbi believes it will sell its carrier equipment division and concentrate on enteprise products.

Another possibility is the company will be bought by a private equity company which will try to save it, again likely by focussing on the enterprise. Fabbi said one experienced IT buyer might be the U.S. equity team of Silver Lake and TPG Capital, which owns telecom equipment maker Avaya Inc. A merger between the two equipment makers is possible, but there would be some overlap in product lines between Avaya and Nortel that would have to be resolved.

Another possible private buyer, Fabbi speculated, might be Gores Group of Los Angeles, which owns Siemens Enterprise Communications. However, he noted that Nortel’s products completely overlap with those of Siemens.

For weeks financial analysts have been wondering about Nortel’s future among enterprise customers. Juniper Networks has the most to gain from Nortel’s tenuous financial position, according to a bulletin issued this month by investment firm Oppenheimer & Co.

Juniper is aggressively recruiting Nortel’s channel partners, and Nortel has reportedly received bids for its Metro Ethernet Networks business, which the company put on the block in September, and may be looking to sell off more businesses.

“We believe recent reports that Nortel is contemplating bankruptcy are likely to force its enterprise channel to look for new alternatives,” said Oppenheimer analyst Ittai Kidron in the report. “With roughly $600M-$700M in quarterly enterprise revenue, we believe Nortel’s enterprise business could deteriorate faster than its carrier business. We expect competitors to aggressively poach Nortel’s channels and enterprise business.”

Oppenheimer believes Juniper has already taken “aggressive steps” targeting Nortel’s channels and is the one competitor — Cisco and F5 Networks being others — that could see the most meaningful upside relative to its market position.

Juniper’s overlap with Nortel is primarily in switching, routing and security, Oppenheimer noted. Juniper’s switching business should get a “solid boost” at Nortel’s expense from the ability to attract the beleaguered company’s channel partners, the firm asserted.

“We calculate that just a six per cent slice of the addressable enterprise business from Nortel — US$754 million in annual revenue — would represent 16 per cent of our 2009 revenue growth forecast for Juniper,” Kidron stated in his report.

Virtually all of Nortel’s enterprise businesses — switching, routing, security and VoIP — are “up for grabs,” according to Oppenheimer. Nortel has seen its market share deteriorate over the past two to three years in these areas, although its still retains a “solid, credible position” in VoIP, the firm asserts.

For Cisco, the overall impact of Nortel’s precarious position will be muted, Oppenheimer noted. A six per cent share gain of Nortel’s enterprise revenue could add $152 million to Cisco’s fiscal 2009 sales of $38 billion, slightly improving Cisco’s year-over-year growth to -3 per cent vs. -4 per cent, the firm stated.

F5 may not benefit meaningfully from the fallout of Nortel’s situation because Nortel hasn’t been a serious competitor in the Layer 4 to Layer 7 market for years, according to Oppenheimer. F5 has already penetrated Nortel’s customer base, limiting the positive impact, the firm notes.

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