Analysts: Nokia, Alcatel-Lucent likely to face integration challenges for years to come

Nokia's (NYSE:NOK) $16.6 billion deal to acquire Alcatel-Lucent (NYSE: ALU) would bring together two large network vendors that have each gone through major mergers of their own that have been difficult, to say the least. Although the companies' leaders are defending the deal, some analysts are skeptical that the firms can pull off such a merger without major integration headaches.

As the Wall Street Journal notes, the two companies will have net cash of around $7.9 billion, which will aid Nokia's efforts to achieve an investment grade credit rating. However, the companies have also said they expect to deliver around $960 million in operating cost synergies by 2019, which will be difficult to achieve in a firm with a combined 114,000 employees and overlapping product areas and research focuses. Job cuts are likely going to come with the deal, though the companies have not said how many.

"Nokia and Alcatel-Lucent both provide very real examples of mergers and acquisitions that have gone wrong. In fact, one can easily argue if Nokia's past hookup with Siemens and Alcatel's merger with Lucent had gone better, this deal would not be taking place," Ovum analyst (and FierceWireless contributor) Daryl Schoolar wrote in a blog post. "However, Nokia's 2011 acquisition of Motorola's network division does indicate the company learned its lesson with Siemens and is much better now at executing on acquisitions. Still, both companies must overcome important hurdles for this current acquisition to work. There is significant portfolio overlap between the two vendors, especially in the area of radio access networks. Painful and difficult decisions will have to be made on how to reshape the newly created company."

RBC Capital Markets analysts Mark Sue and Ameet Prabhu said they expect "meaningful integration work with the combined entity having to maintain a portfolio of parallel/disparate solutions. Some hardware/software swaps may be needed, weighing on swap costs as the combined entity works to streamline the product roadmap."

The RBC analysts noted that similar things happened after the 2006 deals that combined Alcatel and Lucent and Nokia and Siemens. "Product portfolio rationalization may take 3-5 years with software upgrades/support needed for the existing Nokia/ALU installed base," they wrote. "R&D commitments to telcos may weigh on mid-term cost synergies; we see near-term economies of scale in supply chain/procurement and" general and administrative expenses.

Other financial and industry analysts said that it will likely be years before the full value of the Nokia/Alcatel-Lucent deal is realized. "[The] bid on Alcatel-Lucent is long-term strategically correct, but highly risky. We are hesitant to its potential for value creation, the true picture will only emerge in a couple of years," Swdbank analyst Mathias Lundberg  wrote in a research note, according to MarketWatch. "If Nokia succeeds in this endeavor, a really strong actor will emerge. However…many similar ventures have resulted in less stellar performance. Having recently been in a turnaround, perhaps the Nokia team can do a better execution than history would suggest."

From late 2011 to late 2013, Nokia cut 17,000 jobs in its networking businesses as it focused squarely on mobile broadband. Alcatel-Lucent has in recent years cut more than 10,000 jobs and shed assets to try to nurse itself back to financial health after years of losses.

"We expect to create a global leader with a passion for operational excellence and creating value for customers and shareholders alike," Nokia CEO Rajeev Suri said in a video announcing the deal. "For evidence of this, look no further than Nokia's dramatic transformation in recent years and the remarkable success of Alcatel-Lucent's Shift plan. We know how to integrate, we know how to operate extremely efficiently and we know how to deliver synergies fast."

"I'm a credit analyst, so I look for risk rather than opportunities," Matthias Hellstern, managing director at Moody's Investors Service in Frankfurt, told Bloomberg.  "We've waited to see Alcatel deliver on its promises for the last five or six years, so we're more on the cautious side as to whether this is really going to work."

One thing the companies have going for them is that the network equipment space is becoming more uniform. On the radio side, carriers are focusing on LTE; and on the core network side, carriers are focusing on Software-Defined Networking and Networks Functions Virtualization.

Alcatel-Lucent CEO Michel Combes told the Financial Times the Nokia deal has the right timing, governance and execution, which Alcatel lacked when it merged with Lucent. "If you look at the A-L merger, I guess we were wrong on the three," he said.

Suri said in the video that Nokia is going to keep its focus on its customers and is going to learn the lessons of previous mergers to make this one "as seamless as possible."

"We also know that technology has moved on since earlier industry deals, allowing faster and easier transition to the latest products and software," he said. "To our employees, the talk of synergies will cause concern. And I will be open that there are areas of overlap, and that means headcount reductions will be required. But we will target savings from other areas as well, such as procurement, so employees do not bear the brunt of the change alone. And where reductions are necessary, we will do our best to manage them in an open and fair way."

Despite all of the concerns, Schoolar noted that this could set up Nokia to be a leader for years to come. "It strengthens Nokia in the area of small cells/HetNet and SDN/NFV, and ensures Nokia has a significant RAN position with all four major U.S. mobile operators," he wrote. "If 5G turns out to be more of an evolution of 4G than a total network refresh, a vendor's current LTE customer base will be a significant contributor to 5G success."

For more:
- see this WSJ article (sub. req.)
- see this FT article (sub. req.)
- see this Bloomberg article
- see these two separate MarketWatch articles

Related Articles:
U.S. wireless carriers to face fewer vendor options as Nokia moves to buy Alcatel-Lucent
Nokia, Alcatel-Lucent confirm talks to create world's largest wireless network gear vendor
Reports: Nokia could sell HERE mapping biz, might use funds for Alcatel-Lucent bid
Nokia CEO argues in favor of paid prioritization in net neutrality, introduces 'programmable world' concept

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