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2011 Becomes Question Mark for Tellabs

A poor fourth-quarter financial forecast from has Wall Street reevaluating the company's growth potential for 2011.



) -- A poor fourth-quarter financial forecast from



has Wall Street reevaluating the company's growth potential for 2011.

"We are lowering 2011E sales to $1.61B from $1.74B given the lowered outlook for Data and TITAN products after a strong year



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, which is not likely to be repeated," said UBS in a note to clients lowering its rating on the stock to neutral from buy. The firm also cut its 12-month price target by 32% to $7.50 from 11 and brought its earnings estimate for fiscal 2011 down a dime to 45 cents a share.

Soleil Securities, which already had a hold rating on the stock, voiced similar concerns.

"In addition to understanding the drivers behind the 4Q guidance we think investors will focus on whether Tellabs can grow revenues next year in the face of market share loss and potentially lower overall backhaul spending at AT&T," said the firm, which downgraded the stock on Sept. 9.

The stock fell nearly 13.1% to close at $7 on Tuesday. Volume of 29.8 million was well more than three times the issue's trailing three-month daily average of 8.2 million. At current levels, the shares have pulled back 26% since hitting a 52-week high of $9.45 on April 30, and made a convincing move below both their 50- and 200-day moving averages of $7.54 and $7.62 respectively. The stock hasn't seen comparable volume since nearly 38 million shares changed hands on July 30 when speculation arose that the Naperville, Ill.-based communications equipment maker might be losing business with AT&T.

The spark behind the sell-off was contained in Tellabs' third-quarter earnings report. The company, whose products include switches, optical networking and backhaul equipment, topped analyst expectations for the September period by a penny with an adjusted profit of $59 million, or 15 cents a share, on revenue of $429.2 million. But some of the beat was the result of heavy buyback activity -- 15.6 million shares for $111 million -- during the quarter, and the company said it expects a sequential decline in revenue to range of $410 million to $430 million for the December quarter with gross margins anticipated to tick down to 44% from 50.2% in the third quarter.

JP Morgan estimates the outlook translates to earnings of around 9 cents a share in the fourth quarter, almost 50% below its own expectation for a profit of 17 cents a share in the period. The current average estimates of analysts polled by

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are for a profit of 15 cents a share in the December period on revenue of $439.5 million.

Soleil attributed Tellabs' weak forecast to a shift in product mix which it believes is indicative of the company getting more of its business from


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and less from AT&T.

"We believe the GMs

gross margin degradation is primarily due to product mix shifting away from cross-connects and Data products for backhaul to Metro Optical products," the firm said. "This also likely represents a shift away from AT&T toward Verizon."

Wall Street was already adopting a wait-and-see attitude toward Tellabs ahead of the enws. Three months ago, only eight of the 18 analysts then covering the company had hold ratings on the stock. Prior to the earnings report, the number of analysts had rating the shares had swelled to 20, and 14 of them were at hold.

Auriga, one of Tellabs' bulls, stuck to its buy rating in the wake of the report, although it cut its 12-month price target to $8.50 from $9 and reduced its 2011 earnings estimate to 40 cents a share from 50 cents. The firm said it believes the sequential decline in revenue is related to AT&T completing its iPhone-related backhaul build in New York City and soon doing the same in San Francisco, and feels the outlook has removed some headline risk around the shares.

In keeping the buy rating intact, Auriga cited what it believes is an inexpensive valuation with the stock trading at 13X its new 2011 earnings view, the strength of the company's balance sheet, and its established relationships with the Baby Bells, which the firm thinks will eventually lead to M&A.

"We still believe that longer term, the company will be bought out by a foreign entity seeking to do business with the Baby Bells, with which TLAB continues to have a solid franchise," Auriga said.


Written by Michael Baron in New York.

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