Ciena as Chameleon

A principal, overriding theme of our past blog posts focusing on Ciena is that it has not maintained a consistent vision for its future. We believe that historically, it has had a penchant for readily transitioning to the strategies and philosophies of executives, particularly brought on through acquisitions, including from startups that were already on a severe downward trajectory, which had at times resulted in serious financial consequences. It seems evident that at as a result of the “Nortelization” of Ciena, the supplier shifted from a just-in-time business model to one heavily based on backlogs in which the recognition of large amounts of revenue can be substantially stretched out for occasionally undetermined durations. Our expectation is that because of potential massive revenue constraints with the numerous signs of hard times ahead on the macroeconomic level, Ciena will be forced to make another major purchase within the next few years, and that once again, the culture and mindset of the corporation will be heavily influenced by the management at that particular pickup.

The contrast in attitudes even as Ciena was rebuilding Nortel’s “extremely depleted backlog” could not have been more stark, according to a June 15, 2011 article in Barron’s: “Ciena doesn’t disclose its backlog [except as required at the end of the year], and [CFO] Moylan, when pressed, said that because of the complexity of the way in which orders convert to revenue, publishing the numbers might lead analysts to errant conclusions. ‘We don’t disclose orders because you can get fooled by the order book by looking from the outside.'” In recent years, in moving away from a “push” strategy, it is fair to say that Ciena has been considerably more forthcoming and specific about exploiting the changes in backlogs on its quarterly earnings calls. Obviously, this deviation in emphasis has been an attempt to help obscure the declining growth in the recognizable sales in the vendor’s core business. (It should be noted that the supplier did achieve just over a 3% increase in its last quarter compared with last year.)

However, despite Ciena maintaining backlogs at or approaching the billion-dollar range since 2012, its revenue growth rate steadily decelerated from about 14% in FY2013 to 3% in FY 2015 (excluding Cyan). Speaking of Cyan, we still do not anticipate too much of a hike from the Blue Planet offering itself anytime soon. The recent rhetoric coming from the corporation backs up our past pessimistic views on SDN in general, especially as it relates to public networks: “It’s still a nascent market and the monetization model of that still has work to be done on it.” This statement is a concrete admission that service providers are not much beyond square one in the endless struggle to evolve beyond their existing state of affairs.

In fact, even if there were not to be a decline in general economic conditions, one could easily wonder whether there is sufficient amount of potential, relatively profitable business available in the world for Ciena to go much beyond that threshold in terms of orders that would result in a considerable turnaround in revenues. Moreover, the percentage of backlog “expected not to be filled or performed” the following fiscal year filed with the SEC has been steadily climbing upward over the last several FYs, reaching over a quarter of its bookings for FY2016. Part of the reason for the rise is apparently the fact that during the last couple of FYs, “products” have been added to “maintenance and support services” that make up these orders anticipated to be filled within a period longer than 12 months. Nevertheless, the data does not look to be in conflict with an assertion during the Q2 2015 earnings call: “We don’t actually take many orders that are more than sort of six to nine months out from revenue. It does happen, but it’s actually quite unusual.”

More significantly, while it is certainly the case that Ciena operates in a buyer’s market, the supplier’s almost total fixation on getting its performance numbers higher has never been greater than now to try satisfy the quarterly expectations of the Street. We understand that the level of strain internally to increase the order flow has become palpable. Its biggest customers could not possibly be ignorant of these conditions at the firm and will undoubtedly strive to finds ways to take advantage of the situation with better price deals.

Our bet is that after the next recession/depression, Ciena will purchase the optical assets from Nokia, which would result in the most dramatic change to date, as it will no longer be a North American entity, but a French firm. It would also become riddled with disorganization and bureaucratic layers that would hamper product development. In addition, it would represent the ultimate metamorphosis in a relatively short period of time from a fledgling, small startup in the mid-1990s, which would move almost totally backwards with the adoption of the legacies of “Northern Electric,” “ITT,” and “AT&T Network Systems” – i.e. a gigantic Western Electric, albeit only for optical equipment.

[written by Mark Lutkowitz]