How Nortel optical networking sale will change industry

Nortel Networks Corp. may be bankrupt but that doesn’t mean it has no value.


Take, for instance, the company’s Metro Ethernet Networks unit that Ciena Corp. is looking to buy for more than US$500 million. Metro Ethernet Networks, which generated US$1.36 billion in revenue for Nortel in 2008, has deployed an estimated 430,000 optical nodes to customers in 65 countries. Additionally, the Dell’Oro Group research firm found that Nortel topped its competitors in shipments of 40 Gbps equipment and that it had an estimated 32per cent market share of 40 Gbps equipment at the end of 2008. On top of all this, Nortel has a strategic partnership with AT&T Inc., meaning that anyone who purchases the Metro Ethernet Networks will have access to the second-largest carrier in the United States.


“Nortel is very strong in terms of Layer 1 transport technology for 40G and 100G networking,” says Andrew Schmitt, an analyst at Infonetics Research. “I’ve surveyed carriers and Nortel comes out as the leader in both 40G and 100G technology by a wide margin.”


So what is likely to happen to Nortel’s Metro Ethernet business? Well, first any transaction has to go through a competitive bidding process that requires the approval of both American and Canadian courts. And while Ciena has entered into a “stalking-horse” agreement with Nortel to buy the assets for $521 million, the competitive bidding process could bring in new suitors who could raise the price of the sale beyond Ciena’s means. Although it’s not currently known what companies will bid on the unit, Nokia Siemens Networks, Huawei, Alcatel-Lucent and Telefonaktiebolaget LM Ericsson are among the possible bidders looking to expand their optical networking businesses.


“It isn’t clear that Ciena will win the bidding,” Schmitt says. “I think somebody else will step in and bid higher than Ciena to get their business. I see some challenges in terms of the overall cost and Ciena’s ability to afford the transaction.”


But even though Ciena might have a difficult time keeping up with competitive bids, it may well be the strongest fit for the Nortel unit, as it is the only potential bidder to have such a strong focus on optical networking equipment.


“Ciena is the most obvious purchaser because it would give them a bigger footprint and a decent boost to their business,” says Gartner Inc. analyst Mark Fabbi. “They’re very focused on the optical networking business and buying this Nortel unit would round them out and push them closer to the Metro Ethernet side. It would also give them more user access with some of the partnerships Nortel has formed over the years. Nortel has done a lot of work with IBM, and this deal would open up not just the carrier market by the financial services market as well.”


Both Fabbi and Schmitt think that Ciena’s focus on optical networking will also make it easier for the company to integrate the Nortel unit than for any of the other potential suitors. In particular, Schmitt says by investing more than half a billion dollars in the Nortel unit, Ciena is making a “bet-the-company” move and it will thus have every incentive in the world to make the transition go smoothly.


“Ciena has been planning and anticipating that they will get this,” he says. “I think it’s in everybody’s interest for things to go smoothly. I know people at Nortel and they want to make this work.”


Fabbi also says while Nortel’s big optical networking customers might reassess their purchases if the unit is sold to Ciena, they are unlikely to change vendors entirely.


“Anytime there’s a major transition there’s always a level of reassessment,” he says. “The good news about this bidding is that it gives Nortel customers time to assess the direction of the acquiring vendor. When a deal is finally made it won’t take away the risk but it will give them the ability to assess it. The worst time is when you don’t know what’s going to happen.”


Fabbi notes that even if Ciena doesn’t win its bid to acquire Nortel’s Metro Ethernet Networks, it will still be in a solid position in the optical networking market as a whole, particularly because it will have an extra $521 billion to spend.


“Since they’ve allocated a large chunk of money for this, they can look into making other acquisitions if they don’t get the Nortel business,” he says. “Or maybe they can put more money into research and development to shore up some of their product investments. It’s not the end of the world if it doesn’t happen.”


Schmitt expressed a similar view and said that a failure to acquire the Nortel unit would only be a small setback for Ciena going forward.


“Ciena can innovate and come up with products on their own,” he says. “They don’t have to buy Nortel to be successful, but it would make it easier for them in terms of scale.”