For three quarters running, telecom equipment maker Ciena (NASDAQ:CIEN) has trumped Wall Street's earnings estimates -- in one instance, it even earned a penny! The company returns to Wall Street on Thursday to fill us in on its fiscal Q3 2006 results, and to let us know if it has extended its winning streak to four in a row.

What analysts say:

  • Buy, sell, or waffle? Two dozen analysts follow Ciena, and four of them think it's worth buying. For the rest, 18 say hold the shares, and two more say sell.
  • Revenues. On average, the analysts will be looking for a 30% boost in revenue, to $143.6 million.
  • Earnings. They'll be looking for Ciena to match last quarter's performance, reporting a penny per share of profit again -- in contrast to last year's Q3 loss of $0.04.

What management says:
In its most recent earnings release, management clarified the profits picture for us a bit. Specifically, it confirmed that the "profits" projections the analysts are giving us aren't of the GAAP variety, but a pro forma variant called "adjusted earnings." Under GAAP, Ciena was actually slightly unprofitable last quarter (closer to breakeven than to a $0.01-per-share loss). To go from there to the $0.01-per-share "profit" that Ciena claimed last quarter, you need to excise a series of charges that are "unusual," "non-cash," unrelated to the "ordinary course . of business," and/or "outside of the Company's control." These include stock-option expensing, restructuring charges, goodwill amortization, and one-time gains and losses, for example, on equity investments.

Assuming Ciena invokes "adjusted earnings" in Thursday's report, now you'll know what it means.

In other news, earlier this month, the company announced that it and Nortel (NYSE:NT) have agreed to make nice on their reciprocal lawsuits alleging patent infringements. Each firm will license its relevant patents to the other, and everybody can stop paying the lawyers for a while.

What management does:
For the fourth quarter in a row, Ciena expanded its "rolling" gross margins last quarter. The higher sales prices of its goods, compared to raw materials costs, can be credited with much of the company's progress toward "GAAP-breakeven." CEO Gary Smith also seems to be making good on his promises to improve efficiency of operations, since the negativity of operating margins is decreasing much faster than the gross margin improvement alone could account for.

Margins %

10/04

1/05

4/05

7/05

10/05

1/06

Gross

24%

23.1%

26.5%

28.9%

31.9%

35.9%

Op.

(90.1%)

(79.4%)

(68.5%)

(55.3%)

(43.6%)

(33.1%)

Net

(264.3%)

(235.4%)

(215.7%)

(173.3%)

(102%)

(85%)
All data courtesy of Capital IQ, a division of Standard & Poor's. Data reflects trailing-12-month performance for the quarters ended in the named months.

One Fool says:
Mind you, back in June I highlighted how much the operational "improvement" we've been seeing owes to reductions in research and development spending. That trend still has me concerned. Still, the firm also deserves praise for holding the line on selling, general, and administrative expenses. Over the last six months, those costs rose just 3% year over year, versus a 27% rise in sales.

That brings me to what I'd like to see in tomorrow's results: First, a moderate increase in R&D, one that shows the company isn't just coasting on past research, but is investing in its future. And second, continued restraint on SG&A. Ciena doesn't necessarily have to keep these costs constant from now to eternity, but so long as SG&A doesn't rise faster than sales, there's a good chance that it will ultimately emerge "into the black" on both a pro forma and GAAP basis.

Oh, and one more thing: positive operating cash flow. Ciena hasn't generated a penny of it since the January 2002 quarter (right about when the telecom industry imploded). In addition to GAAP accounting profits, Ciena investors will eventually want to see some cash profits (free cash flow) as well.

Competitors:

  • Cisco (NASDAQ:CSCO)
  • Lucent (NYSE:LU)
  • Redback Networks (NASDAQ:RBAK)
  • Tellabs (NASDAQ:TLAB)
  • UTStarcom (NASDAQ:UTSI)

What did we expect to see out of Ciena last quarter, and what did it give us? Read all about both in:

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Fool contributor Rich Smith does not own shares of any company named above.