Lazy, Hazy, Crazy...

The sun is shining. Nothin’ but blue skies. The water’s warm and inviting. Summer’s here. But I don’t have to tell you that it’s still brutal out there. Miss earnings by a whisker and get your head cut off. Dip a toe in any price war’s water, you’ll drown. Take the wrong prescription for what ails the market, and you’ll see nothing but a torch light inviting you to let go. Lost your conviction? Get in line. Jumped ship? Clich?. So, why am I smiling? Maybe I drank the salt water. Or, maybe I’m thinking that the very conditions that are brutalizing the market are the necessary ones for staging a comeback. Even as I can hear you say, “He drank the salt water,” I’m going with the latter sense that we’re setting the stage for a comeback–even if the actual script for it hasn’t been written yet.

Speaking of script writing, you’ll find enough new vocabulary below to make you want to return to studying Chaucer in Old English. The new economy speak is more baffling than its products. Nevertheless, learning the lingua franca of IT is part and parcel of unpacking where opportunities and pratfalls lie.

Leading up to March 2000, the telecommunications industry was stockpiling intellectual capital, human resources, and hardware like a harried housewife preparing for a family reunion. Unfortunately, the extended family never came and the major telecommunications companies were left with a plethora of supplies and a costly work force–all with a market shelf life of a bottle of milk. As the Street watched each and every loss, their stock prices soured. Many companies, like Tellabs (TLAB), have spent the past few quarters going from bad to worse. But, lately, the necessary tasks associated with cleaning house have begun. TLAB has liquidated much of its costly inventory and started reducing its workforce.

The good news, I think, is that TLAB’s cleanup is almost over. How- ever, while TLAB won’t be growing moldy, it also isn’t likely to grow rapidlyanytime soon. This latter fact is environmental: It’s stuck in telecom’s sector rut. But I think the current demand for its flagship Titan family of optical networking products is stable enough to keep the company alive. When the next release of Titan comes out, I hope Tellabs returns to the path of steady growth. The Titan 5500 optical networking system is capable of handling various speeds and levels of optical input and cross-connecting them at high speeds. In simpler terms, it can carry the equivalent of 1.4 million simultaneous Internet calls. The newer Titan 6500 can carry the equivalent of over 4 million calls.

The broadband access business has three main product lines, the MartisDXX system, the Focus family of synchronous digital hierarchy (SDH) transport and access networks, and the Cablespan 2300 universal telephony distributions system. The MartisDXX system allows global telecommunications operators to maintain their local or global networks from one location. The Focus family of SDH and dense wave division multiplexing (DWDM) optical transport and access solutions are designed to help carriers build high-capacity backbone and access networks using fiber optics. (SDH stands for synchronous digital hierarchy, which is a standard technology for synchronous data transmission on optical media. “Synchronous” refers to the fact that the bits from one call are carried within one transmission frame–this method is faster and less expensive than plesiochronous–i.e., almost synchronous–digital hierarchy equipment, or PDH.) The Cablespan 2300 system is a local access product developed in cooperation with Advanced Fibre Communications, Inc., and geared to the emerging cable and alternate service provider markets. The system allows cable television providers, alternate access carriers, and competitive access providers to build flexible communications networks that support the integrated delivery of video, voice, data, and information services.

TLAB’s next generation switching products are modular in design and can be used individually or in complex systems and assemblies. There are two areas within next-generation switching: Salix switching solutions and Verity voice-quality enhancement products. The Salix 7000 family of switches makes voice-to-data migration cost-effective by integrating circuit-switching into asynchronous transfer mode (ATM) and Internet protocol (IP) broadband infrastructures.

Verity voice-quality enhancement products are sold to cellular companies, local exchange carriers, and interexchange carriers, both domestic and international. These products are designed to make wireless calls as high in quality as wireline calls. (Tellabs acquired Salix and its product line in February 2001.)

The optical network market made up 64% of Tellabs’ 2000 revenues. The Baby Bells account for about 1/3 of the sales of Titan 5500, while Sprint is the primary customer for the Titan 6500.

Tellabs’ other, worldwide customers are long distance carriers, alternate service providers, cellular and other wireless service providers, cable operators, government agencies, utilities, and business end-users. Sales to these companies account for the remaining 36% of Tellabs’ 2000 revenues, with broadband services accounting for 22% and next generation technologies a mere 6%. The final 8% comes from professional services designed to support Tellabs’ wide range of technologies. Analysts and insiders agree that what growth will come in the short-term future will be from the optical networking divisions, which is a good thing, because despite their claim to build tomorrow’s technology today, the current climate won’t allow companies to look past the end of today.

TLAB’s management is heavily invested in maintaining its long-term viability. Richard Notebaert joined TLAB in April 2000 and was named president in August 2000. In what many on the Street feel is a wise move, Notebaert is focusing the company on customers and markets rather than new technologies, in an effort to increase revenue to $6 billion by 2003. With founder and current chairman Michael J. Birck, Tellabs’ top management team has an extensive background in the telecom industry and experience in riding out the sometimes-stormy telecom climate.

What makes Tellabs look even more attractive is the fundamentals. As of this writing, Tellabs was trading at $18.26 a share, with a P/E multiple of just 10 times trailing earnings, making it far more attractive than most communications equipment firms.

While the Street has been downgrading its earnings estimates, the company expects to break even for the 2nd quarter before one-time losses are counted in. This is a company with no significant outstanding debt and over a half a billion dollars in cash on hand. While the short-term picture has worried some, this doesn’t simply look like a cheap stock, it is one. The long-term potential is good.

SERVICES

Integrated Circuits!

Yes, the exclamation point is annoying, but Avant!’s software products are anything but

While many stocks have been stuck where the sun doesn’t shine, Avant! is a relatively cheap company with a sunny outlook from the semiconductor software industry. It remains an industry leader with consistent earnings and escalating growth estimates.

Avant! (that’s the last time for the exclamation point) develops, markets, and supports integrated circuit (IC) design automation software solutions (from system definition to mask synthesis), for multimillion-gate products including systems on chip (SoC). These ICs power consumer electronics, Internet infrastructure, wireless, telecommunications, and automotive products. The company is the leading provider of physical foundation IP libraries for IC design and provides a full suite of software for integrated circuit design, process simulation, device modeling, and mask synthesis.

While many in the industry are scaling back, licking their wounds, and wondering if they’ll ever get up after the fall, Avant just keeps going. It has announced new product releases and business partnerships, demonstrating increasing demand for its software. In the past few months, Avant announced a lucrative deal with NEC, which will use AVNT’s Star-Rail software, the industry’s first ultra-deep submicron sign-off solution for IR drop and electromigration analysis. Quite a mouthful, but the bottom line under this product is that Star-Rail is essentially a high-performance engine that enables full chip verification and does so at unprecedented speeds.

Another advantage of its product line is that Avant handles the majority of industry standard formats. In addition to Star-Rail, Avant recently announced Design VERIFYer 2001.2, software that accelerates systems on chip designs, as well as a support package for Linux SinglePass-SoC solutions.

While these advances are impressive, it is the company’s recent legal troubles that have kept AVNT in the spotlight. On May 23, 2001, Avant pleaded no contest to allegations of stealing trade secrets from rival Cadence Design Systems. The judgment for AVNT in the criminal proceedings will be $27 million, while the company’s CEO was personally fined $2.7 million. The case deals with software the company ceased licensing and supporting in 1996.

The essential details are that former Cadence employees were suspected of supplying source code for these products to AVNT. Local police and the FBI raided Avant’s San Jose, California offices in December 1995. The day after, Cadence filed a civil complaint against Avant, which then filed a countersuit a month later. Shortly after that, Avant settled the suits, and investors responded positively, with AVNT closing up 20% for the day. While this clearly shows that many believe the trouble is behind AVNT, any judgment over Avant’s current cash flow may be the only cloud on this company’s horizon.

With a $443 million market cap as of June 26th, AVNT trades at an 85% discount to its P/E multiple of 5.5 , versus the 36.5 average multiple of the software & services subindustry.