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Alcatel-Lucent (UNKNOWN: ALU.DL ) shareholders won big last month. When their company secured a $2.1 billion lifeline from bankers Goldman Sachs and Credit Suisse, it set the stage for a one-month 33% run-up in the beaten-down telecom equipment manufacturer. Happy days, it seems, are here again.
Or not. Turns out, the situation at could be direr than anyone thinks.
You see, it turns out that even $2.1 billion isn't enough cash to keep Alcatel running. Last week, Bloomberg reported the company is in talks with several potential asset-acquirers, including a French sovereign wealth fund and France Telecom.
The subject: One of Alcatel's most profitable divisions, its undersea cable business. While last month, all Alcatel really did was pledge a few assets as security for a loan, now it turns out that Alcatel is contemplating an outright sale of one of its crown jewels.
Costs and benefits
The prize is certainly rich enough -- analysts say a sale of the cable division could fetch as much as $1.1 billion. On the downside, though, getting hold of that cash would require Alcatel to sacrifice a business with 40% market share and double-digit profit margins. That would leave the rest of the company, currently eking out a living on an operating profit margin of just 0.5%, looking considerably poorer -- despite the $1.1 billion.
This seems contrary to good business logic. In his recent work on how to find winning investments, The Future for Investors, Wharton professor Jeremy Siegel described how General Electric rewarded shareholders so richly in the 80s and 90s. At the risk of oversimplifying, Siegel's argument was basically that Chairman Jack Welch emphasized and doubled down on the firm's "core competencies." On the other hand, "if a division was not profitable, GE sold it."
Building a bass-ackward business
And yet, Alcatel seems to be doing the opposite. It's got a great, profitable, dominant business in undersea cable -- and it's selling it to raise cash to keep the rest of the barely profitable Alcatel afloat. Why?
According to Bloomberg, the reason may be that Alcatel has no choice in the matter. The company has $3 billion in bond and loan payments coming due in 2015. And while it's possible the firm can roll some of that over into new debt, it's also possible it can't -- or at least not at acceptable interest rates.
Remember: Alcatel hasn't generated a single penny's worth of free cash flow since merging with Lucent back in 2006. Not one. As a general rule, bankers prefer companies to be able to repay the loans they're given, and so far, Alcatel's record is not one to inspire confidence. So the chances are that even if Alcatel can get new loans in 2015, they will cost it a pretty penny in interest.
"But Alcatel has almost no net debt!"
We hear this argument a lot. With total debt of $6.2 billion, versus $6.1 billion in cash and equivalents, Alcatel doesn't look too hard up for cash. You might think that, come 2015, Alcatel would simply withdraw from its bank account whatever cash it needs to repay the loans coming due.
Problem is, unless Alcatel starts selling assets now, the cupboard may be empty come 2015 -- or nearly so. Part of the problem with being a perpetual cash-burner is that as the years progress, Alcatel's cash balance just shrinks and shrinks. The company burnt more than $500 million over the past 12 months, so... just scribbling on the back of an envelope here... this suggests that by 2015, Alcatel could end up with $1 billion less cash than debt when the bankers come calling.
Hence the need to raise $1.1 billion from selling the cable unit.
Aside from that, Mrs. Lincoln, how was the play?
It's not all bad news. Just because it's been forced to sell the family jewels to save Cousin Ebert McLosealot from debtor's prison, doesn't mean Ebert's a total lost cause. By selling off some assets to keep the doors open and the lights on a few more years, Alcatel just might buy itself enough time to benefit from a burgeoning recovery in the telecom equipment market.
Here in the U.S., AT&T (NYSE: T ) just announced a $22 billion-per year, three-year capital spending program. That's an awfully big cash spigot being opened, and if rivals like Verizon and Sprint move to match it, tel-equip vendors like Alcatel could soon be rolling in money.
Some already are. Next door in Finland, Nokia's (NYSE: NOK ) joint venture with Siemens has been going great guns lately, reporting surprisingly strong profits, due in part to cost-cutting. Fellow Fool Doug Ehrman even says that "despite the recent pop, Nokia remains a buy." Nokia's business model isn't identical, of course; its primary focus is mobile phones. But if you assume that what's good for Nokia is also good for Alcatel (and at this point, you kind of have to; Alcatel shareholders have been reduced to grasping at straws), then this suggests Alcatel could one day soon turn a profit from its core business as well.
At least now it'll have the cash to make a go of it.
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