- The Washington Times - Monday, August 27, 2001

Ciena Corp. Chief Executive Gary B. Smith had every reason to feel gratified.

Ciena, a telecommunications equipment maker in Linthicum, Md., had a blockbuster fiscal third quarter, recording $458 million in revenue, up from $233.2 million a year ago. Net income rose to $58 million, up from $28.7 million for the comparable same period a year ago.

But when it issued its earnings report Aug. 16, Ciena's stock fell 30.2 percent. The free fall continued last week and the stock has fallen 72 percent since the beginning of the year, closing last Friday at $18.40 on the Nasdaq stock market.

It made a modest recovery after an announcement last Wednesday that Standard & Poor's will add Ciena to its S&P; 500 Index.

The trouble started with a warning issued the same day Ciena released its earnings that revenue in the fourth quarter and in 2002 will be lower than previously thought because sales are slowing.

Mr. Smith, an affable Brit who took over the day-to-day operations from Chairman Patrick Nettles on May 17, remains defensive about Ciena's prospects.

"At the end of the day, has our business changed? No," Mr. Smith says in a recent interview with The Washington Times. "We're still saying we're going to grow, even in a very difficult environment. My own view of Wall Street is it's never as good as they think and never as bad as they think. We have a very healthy business. I'm sure they will come to appreciate that again."

Analysts have been ruthless since Ciena issued its quarterly earnings report. Many downgraded Ciena's stock. The online financial news site TheStreet.com listed Ciena as one of the "five dumbest things on Wall Street."

Ciena Chief Financial Officer Joseph Chinnici says the company doesn't have a clear picture into the final three months of fiscal year 2001, which ends Oct. 31, but he estimates revenue will fall 12 to 20 percent short of third-quarter revenue. That means revenue for fiscal year 2001 will exceed fiscal 2000 revenue by 85 to 90 percent, below earlier estimates of 95 to 105 percent.

"We don't feel apologetic as a company for growing 85 to 90 percent," Mr. Smith says in his tidy office at Ciena's suburban Baltimore campus.

Revenue in fiscal 2002 is expected to exceed 2001 revenue by just 10 to 15 percent, the company now predicts. That's significantly lower than the 45 to 65 percent increase in revenue Ciena had predicted for fiscal 2002.

No surprises

Ciena's diminished financial outlook isn't a complete surprise, Merrill Lynch telecommunications analyst Simon Leopold says, because carriers like Sprint Corp. and Qwest Communications that Ciena sells to have cut spending on their networks.

But Mr. Leopold is surprised that demand for Ciena's long-haul equipment that moves information over long-distance optical networks has slowed. Mr. Smith says demand for long-haul equipment will fall in the fourth quarter and could be down slightly in fiscal 2002.

The long-haul equipment will generate an estimated 80 percent of Ciena's revenue this year, Mr. Leopold predicts.

Ciena made a name for itself when it introduced its long-haul equipment in 1996. It allows carriers to increase the amount of data they send along fiber-optic networks by splitting it into different wave lengths. The long-haul equipment, called a dense wave division multiplexer, sends 600,000 phone calls along a fiber-optic strand built to carry 32,000 calls.

While sales of long-haul equipment are sluggish, there are high hopes for a new product Ciena has introduced an optical switch that directs video, voice and data traffic. Mr. Smith says sales of the optical switch, called CoreDirector, may comprise 25 to 35 percent of 2002 revenue. That's up from an estimated 14 percent in fiscal 2001, according to Mr. Leopold.

In addition, the U.S. market for switches is expected to grow from $573 million this year to $4.5 billion by 2004, according to telecommunications industry analysis firm RHK, based in San Francisco.

Even while sales for optical switches likely will increase next year, overall spending by telecommunications companies is expected to slow. That is why Ciena had to lower its fourth-quarter and fiscal 2002 revenue forecasts.

Merrill Lynch estimates carriers will spend $99 billion on capital expenditures this year, down from a previous estimate of $105 billion. They will spend an estimated $87 billion next year, down from a previous estimate of $96 billion.

Ciena managed to avoid the carnage that caused other equipment makers, including San Jose, Calif.-based JDS Uniphase Corp., to warn that sales would be lower than expected. JDS Uniphase, the world's largest independent maker of optical components, revised its guidance in June. Ontario-based Nortel Networks Corp. also warned in June it would post a $19.2 billion second-quarter loss and cut an additional 10,000 jobs, bringing the total number of layoffs at the company this year to 30,000.

Ciena added 35 workers in the third quarter, increasing its work force to 3,895 employees. It also added six customers, giving it 55 customers.

Beating the slowdown

But the slowdown in spending by telecommunications companies has caught up to Ciena.

"We're not immune" to the downturn in the industry. "You can't swim against the tide forever, but we're certainly better placed" than our competitors, Mr. Smith says.

Andrew McCormick, senior analyst at Boston-based research firm Aberdeen Group Inc., agrees. Mr. McCormick wrote in an Aug. 13 report that market forces are turning in favor of companies like Ciena that produce "next-generation optical equipment."

That doesn't mean there aren't challenges. Mr. Smith must establish Ciena as the leader in the market for optical switches in the fourth quarter and in fiscal 2002, Mr. Leopold says.

"Right now, for all intents and purposes, Ciena owns the market," he says.

Nortel plans to introduce a switch next year that it immodestly has labeled a "Ciena killer." Ciena must also compete with Corvis Corp., Cisco Systems Inc. and Sycamore Networks Inc. in the market for optical switches.

With its new switch, Nortel has taken direct aim at Ciena, but these are the waters Mr. Smith stepped into when he took over the chief executive's job from Mr. Nettles, widely recognized as nurturing Ciena's reputation as a successful company. Hired in 1997 to run Ciena's international business, Mr. Smith has risen through the ranks quickly.

Mr. Smith, who headed sales and marketing at satellite communications company Intelsat and at Cray Communications before coming to Ciena, is an interesting choice to succeed Mr. Nettles because he is among the youngest and newest officers at Ciena. At 40, Mr. Smith also brings a non-technical perspective to the chief executive's office.

Four of the top officers at Ciena Mr. Nettles, Mr. Chinnici, Senior Vice President and Chief Strategy Officer Steve Chaddick and Senior Vice President and Chief Technical Officer Steve Alexander have worked at the company since 1994, giving it a stable management team.

Mr. Smith's strength may be his competitiveness and his unwillingness to concede anything to his larger competitors.

"We enjoy fighting the big guys," Mr. Smith says.

He describes the "big guys" specifically Nortel and Lucent as fat cats unable to move as quickly as Ciena. Mr. Smith will have to maintain Ciena's agility. It was among the last to feel the effects of the downturn in spending by telecommunications carriers. Now he hopes to pull it out of the mire first.

"We continue to innovate. It's about who's the most agile. It's a race. The benefit we have is that we can move quicker," he says.

If he succeeds, Mr. Smith will have another reason to feel gratified.

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