Scott Moritz

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Nortel Growth Story Takes Unhappy Turn

Scott Moritz

The Brampton, Ontario, telecom-gear maker cut its projected annual growth rate in half Thursday, saying third-quarter sales would fall below second-quarter levels and lag behind the industrywide expansion clip. Nortel had been promising it would grow faster than the industry.

Nortel has been rocked this year by an accounting scandal, a deepening legal battle, costly financial reporting delays, a purge of presumably greedy executives and yet another agonizing round of employee cuts.

Yet through it all, some optimists have maintained that hidden by the swirl of setbacks was a core of good products keeping the company on track for steady sales growth.

But that assumption was dashed Thursday, leaving a wake of downward adjustments by analysts and heap of new doubts among investors about Nortel's prospects for recovery.

Some analysts now see uncertainty stretching out over the next several quarters.

In a research note Thusday, CIBC World Markets analyst Steve Kamman cautioned investors that "Nortel does not have published financials and is in the midst of a fundamental strategic reassessment. As such, there remain far more questions than answers about Nortel's future direction." Kamman rates Nortel neutral. Nortel is a CIBC banking client.

Shares of Nortel dropped 26 cents, or 7%, to $3.54 in midday trading after the company reversed its Sept. 2 prediction that sales growth would outpace the overall market. Rival Lucent (LU Quote - Cramer on LU - Stock Picks) dropped a penny to $3.31.

Nortel's new estimate implies 2004 revenue as high as $10.3 billion, which is well short of the $10.65 billion Thomson First Call consensus. The company also cut its third-quarter revenue forecast below the second-quarter level of $2.6 billion. Analysts surveyed by Thomson First Call were expecting revenue of $2.58 billion in the September quarter.

"As we work through this challenging transition period, completing our restatement activity and implementing the new strategic plan for the company, I am confident that Nortel Networks will be positioned to compete strongly in all of our markets with the right products and services as we move into 2005," said Bill Owens, the company's CEO.

Nortel's stock has now fallen 59% below its $8.50 high in February.

Meanwhile, the company is the subject of civil and criminal investigations and a defendant in a large shareholder lawsuit. The company is also party to a separate shareholder lawsuit against a group of former executives and directors.

Nortel's new management team has fired 10 former executives for their role in bogus profits that triggered bonuses for a group of top managers. In May 2003, TheStreet.com flagged the credibility of the profit claims that were at the center of the bonus plan.

Nortel has said that it fired the executives because the basis for the alleged fraud was the improper release of reserves to goose earnings. Nortel found that "each of these 10 individuals had primary, or substantial, responsibility for the company's financial reporting; that if not aware, each ought to have been aware that the establishment and/or release to income of such accruals and provisions were not in accordance with applicable generally accepted accounting principles; and that the improper application of generally accepted accounting principles with respect to these accruals and provisions misstated the company's financial statements."

Nortel said it will demand repayment of any improper bonuses paid because of the alleged malfeasance. The company disclosed Thursday that a purported class-action suit was filed in Ontario Superior Court claiming damages of C$250 million. It alleges "breaches of trust and fiduciary duty, oppressive conduct and misappropriation of corporate assets and trust property" via the bonus system.

Tom Heintzman, attorney for former CEO Frank Dunn, has said that the matter will be dealt with in court.