Alcatel Lucent (ALU)

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Alcatel-Lucent (ALU)

Q3 2007 Earnings Call

October 31, 2007 8:30 am ET

Executives

Pat Russo - CEO

Jean-Pascal Beaufret - CFO

Analysts

Tim Boddy - Goldman Sachs

Tim Long - Banc of America

Stuart Jeffrey - Lehman Brothers

Alexandre Peterc - Exane BNP Paribas

Andrew Griffin - Merrill Lynch

Phil Cusick - Bear Stearns

Kulbinder Garcha - Credit Suisse

Simon Leopold - Morgan Keegan

Remi Thomas - Cheuvreux

Paul Sagawa - Bernstein

Francois Duhen - CM-CIC Securities

Ken Muth - Robert Baird

Nikos Theodosopoulos - UBS

Presentation

Operator

Hello to everybody. And welcome to our Third Quarter 2007 Earnings Call. With me today on the call are Pat Russo, Alcatel-Lucent--CEO; Jean-Pascal Beaufret - CFO, and other members of the management team. Pat and Jean-Pascal will provide an overview of our third quarter results and discuss the market and company outlook. Later in the call, we will conduct a question-and-answer session. Please restrict yourself to one question and no follow-up questions, please.

If anybody has not seen a copy of our earnings; please refer to our website at www.alcatellucent.com. Before we start, I would like to remind you that certain statements we will be making today maybe considered forward-looking. Please refer to the Safe Harbor statement contained in today’s releases. Now, at this point, I’d like to turn the floor over to Pat.

Pat Russo

Thank you, Scott. Hello everyone. Thanks for joining us. As you know, earlier today, we announced our audited results for the third quarter of 2007. Our results this quarter were essentially in line with the update we provided on September 13th in a few areas a bit better. However, they are still not at the level that we are satisfied with and I will be talking with you about our going forward plan after we go through the results.

Jean-Pascal will now review those quarterly results in more detail and then, as I said, I will get into some detail with respect to the three-part action plan that we are putting in place to improve the profitability and the top line of the company. Jean-Pascal?

Jean-Pascal Beaufret

Thank you, Pat. I am on chart 5. Good afternoon and good morning everyone. As usual, I will present our earnings on an adjusted basis net of what you know as main purchase price accounting entries for which we are giving details in the appendices.

When looking at this result this quarter and comparing with them, we saw last year’s pro-forma adjusted September results; we also need to bear in mind that there is a significant translation impact from [overhead] changes. We were 127 as average in Q3 ‘06 to 137 average rate in Q3 ‘07 and this, as you know, impacts our top line and our costs and expenses line.

Inline with the update that we provided on September 13th, revenue for the current third quarter were 4.350 billion. They were up sequentially 2.3% at constant rate, which is 0.6% on an actual rate basis, and showed a negative 7.8% growth year-over-year.

Our gross profit of 1.486 billion, or 34.2% of sales, represented margin increase compared to the 33.4% margin last year, the Q2, the June quarter of 0.8 percentage points. But that sequential margin increase goes up to 1.3 points if we were to normalize the 34 million or 0.5 points, which was a positive significant item, in fact reported in the June quarter.

You remember this was a favorable litigation settlement. So, this is sequentially encasing our adjusted gross margin of 1 points to 3 points should be primarily attributed to lower fixed durations and installation cost, lower reserves, which are more than offsetting a negative mix impact and the price erosions, which we are experiencing in those quarters.

We believe this represents a positive trend going forward on Q2 to Q3 and so, we may still see quarterly fluctuation due to geographical and product mix. This is a positive trend June to September. The company’s adjusted operating income for the quarter was 70 million or 99 million improvement sequentially resulting from both the gross margin increase that we just discussed, and the success of the ongoing streamlining efforts in our cost structures.

I would like to note as well that the operating income as progressively improved throughout the year from Q1 to Q3, and I remind you that it was €244 million negative in Q1, and €19 million negative in Q2, and it goes to a €70 million positive in Q3, which bodes well for the recovery of our results of financials during the year. It’s turning now into positive territory and is due basically to cost margin consolidation and cost reduction efforts.

On chart number 6, we are showing here the adjusted operating expenses evolution and I believe that we can say that in the September quarter, we have made big progresses in reducing our OpEx base sequentially, our reported operating expenses reduced by EUR 50 million.

Remember that in terms of scope, we look at operating expenses on a comparable basis, which is actually the only way to properly analyze the year-over-year evolution and which means that we are taking into consideration the change of scope with significant acquisitions such as the Nortel Wireless portfolio at the end of 2006.

However, the impact of R&D capitalization, or some one off mentioned last year, and we are taking account of the Euro - US dollar exchange rate valuation, which are positive from the cost. As a reminder, 137 in Q3 ‘07 compares with 127 in Q3 ‘06 and 135 in Q2 ‘07

So, what does it lead us to? We observe that Q3 comparable operating expenses, the September ‘07 comparable expenses declined 5.6%, as you can see on the bottom part of the chart, or 87 million relative to the same period last year, and also declined sequentially by 3.4% or 47 million versus June quarter.

Over the last three quarters, since the end of 2006, our comparable operating expenses have steadily decreased. To date, the cumulative savings, which we have recorded at this level, is on a comparable basis approximately 160 million. As we said earlier in the year, OpEx reductions are positively accelerating and they are becoming more visible in the second half of the year.

In R&D, for example, the year-on-year comparable OpEx reduction was 8.3% in the September quarter compared to 3.8% reduction in Q2 ‘07, and 0.6% reduction in Q1 ‘07 versus the same period of ‘06. In sales and marketing, general and administrative expenses year-on-year reductions were 3.2% compared to 2.3% reduction in Q2 versus the same period of last year. So, we are confirming that there is an acceleration, which makes our operating savings more visible in the second half of the year.

The remaining item in our scorecard is concerned, of course, with the operating headcount. In the third quarter, we recorded a reduction of about 1000 positions in our net operating heads, which makes the net reduction since January 1st at 3,700, which the net of 5,000 execution of our savings and 1,300 heads due to the in-sourcing movements that we have recorded in the 2007 year.

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