Lucent warns of further retrenchment; abbreviated session limits activity

By Paul Deckelman and Paul A. Harris

New York, Oct. 11 - Lucent Technologies Inc. was the only real item of interest in the high yield market Friday, as participants mostly sleep-walked through a quiet pre-holiday session which came to a merciful early end, as recommended by The Bond Market Association, at 2 p.m. ET ahead of Monday's Columbus Day holiday.

The troubled Murray Hill, N.J.- based telecommunications equipment maker announced early in the morning that it expected to take $4 billion of earnings charges and cut another 10,000 positions from its workforce. Lucent also predicted a steeper-than expected revenue decline, for both this year and next, announced the cancellation of two credit lines and said it had adequate liquidity, although some analysts greeted that assertion with skepticism.

Standard & Poor's cut Lucent's credit ratings a notch to B- and its shares declined but the company's bonds firmed a bit on Friday despite the seeming torrent of bad news; some observers speculated that a restructuring, including a debt buyback in some form or another, either in or out of Chapter 11, is all but a certainty. The general consensus in the financial press is that while bondholders who bought the bonds at cheap levels are likely to come out OK, the shareholders who for whatever reason are still hanging on after having ridden the stock down to below $1 - or those who recently got in at a relatively cheap price, thinking Lucent would be able to turn things around - are likely to go down the tubes.

"Lucent seemed a bit stronger" despite the ratings downgrade and the other announcements, said a trader who quoted the company's 6.45% debentures due 2029 at 30 bid/32 offered, up from Thursday's finish at 28 bid/30 offered. "There's talk about them buying bonds back - but I don't believe it."

Apparently, not everyone else does either; at another desk, those bonds were being quoted as low as a 26-27 context late in the day.

Another trader said Lucent initially "got a little beat up on the news," but by the end of the abbreviated session had managed to eke out a gain, with the company's 7¼% notes due 2006 opening at 38 bid and then going home at 39 bid/40 offered.

Lucent - which has been one of the major victims of the telecom industry meltdown of the past two years as its customers have either gone broke or have trimmed their equipment outlays, said that it "intends to implement a more aggressive restructuring plan and take its quarterly EPS [earnings per-share] breakeven revenue level to $2.5 billion, while working to reduce it even further. The company had previously set a target range of $2.5 - $3.0 billion."

Lucent - which has already trimmed its workforce to 45,000 people from peak levels of about 123,000 more than two years ago - plans to tighten its belt by cutting another 10,000 jobs by the end of the 2003 fiscal year next September.

Chief executive officer Patricia Russo said in the company's formal statement that "[b]ased on conversations with our customers, we are tightly focusing our investments on the nearest and clearest market opportunities that will help them expand their existing networks and offer next generation services. We will play to our core strengths in optical, circuit and packet switching, mobility and network operations software, and increase our focus on services."

Lucent - which is scheduled to release its fiscal fourth quarter earnings on Oct. 23 - reaffirmed its previous warning that it expects a sequential decline of 20% to 25% from fiscal third quarter revenues of $2.95 billion. It said that thanks to a $3 billion earnings charge related to the decline in the value of assets in its management pension fund and another $1 billion in restructuring charges, its expected fourth-quarter loss will be at least 20 cents per share wider than the previously projected 45 cents per share.

On the credit and liquidity front, Lucent said that it had about $4.4 billion of cash and marketable securities as of Sept. 30 and it expected to still have a cash cushion of more than $2 billion by the end of fiscal 2003 next September because of its new restructuring plan and a lower breakeven level. This, Lucent said, should be sufficient to fund its operations and business plans. Lucent said accordingly it was canceling a $1.5 billion credit facility as well as a $500 million accounts-receivable securitization vehicle "in order to avoid an anticipated default on the financial covenants."

Lucent said it wasn't using those facilities anyway - it had no outstanding balance on the credit facility, which was scheduled to expire in February, and had nothing drawn against the accounts-receivable securitization vehicle. It said it was in talks with its bankers on a new, smaller facility, although there seemed to be some skepticism in the investment community that the banks would be willing to pony up additional cash to a company perceived to be headed for an in- or out-of-court restructuring.

S&P, in cutting Lucent's ratings a notch and warning that further downgrades are possible, said it was "concerned that distressed industry conditions may challenge Lucent's ability to return to profitability and positive cash flows over the coming year, even after the latest downsizing."

Analyst Bruce Hyman warned in his downgrade message that: "Although Lucent anticipates that it will have cash balances of $2 billion at the end of fiscal 2003, including anticipated operating cash flow losses and cash restructuring charges, continued cash consumption at this rate is unsupportable."

Lucent's shares - which are in danger of being de-listed by the New York Stock Exchange if they stay under $1 for very much longer - fell 12 cents (17.14%) to 58 cents on Friday in busy dealings, on volume of 76.1 million shares, nearly double the usual amount.

Elsewhere, Nortel Networks Corp. - a Lucent rival which has also been hard hit by the drying up of capital spending budgets within the telecom industry - affirmed its recently cut guidance for third-quarter sales, saying it too was lowering its breakeven estimate and also suggested that more jobs will be cut as the Brampton, Ont.-based company struggles to return to profitability next year.

Nortel had originally said back in July that third-quarter revenues would be about the same as the $2.77 billion notched in the second-quarter - but was forced to lower that estimate twice in subsequent months in the face of continued weak telecom industry conditions. Those two instances of lowered guidance sent the company's bonds and shares reeling each time.

In its latest pronouncement - just days before the anticipated Oct. 17 release of third quarter results - Nortel said it stood behind the most recent revision, which has revenues for the third quarter coming in about 15% under second-quarter levels. Nortel also said that it anticipated that under its new business model - which is likely to include more job cuts from its currently projected workforce of 36,000 - it could break even on revenues of $2.4 billion, down from previous estimates of $2.6 billion.

Nortel shares got a boost from the fact that guidance has not eroded any further; its stock was up two cents (4.55%) to 46 cents on NYSE volume of 23.7 million shares, slightly below the usual turnover. Nortel'S 2003 notes were meantime unchanged at 66 bid/68 offered, while its 2006 paper hung in around recent levels at 35.5 bid/36.5 offered.

Also on the telecom front, Nextel Communications Inc. "saw a little pop", a trader said, with its 9 3/8% notes due 2009 moving as high as 79.5 bid during the morning, about a two-point gain, before falling back from that peak level to end half a point higher, at 77.5 bid/78.5 offered. "They kind of ran a little bit and then softened up a little bit," he said, adding that the bonds were "almost back to where they started" when they "crapped out" earlier in the week.

Nextel's benchmark bonds had fallen as low as 74 bid from prior levels around 80 after an equity analyst for J.P. Morgan said in a research note on Tuesday that the Reston, Va.-based wireless operator's financial reporting did not include sufficient provisions for bad debt and tended to minimize subscriber churn (customers jumping from one provider to another). Analyst Thomas Lee also said that it was J.P. Morgan's opinion that Nextel's second quarter results "were somewhat artificially enhanced by timing benefits and one-time adjustments."

Nextel issued a statement rebutting the J.P. Morgan assertions and its shares and bonds, which had initially dived on that news, started to fight their way back up in the latter part of the week.

The trader said that Friday's movement in Nextel was "nothing major. The news that was out a couple of days ago that hurt them is still out there, [but] Nextel has been the most solid of the telecom companies. It's hanging in there."

He quoted Nextel's 10.65% notes at 84 bid/86 offered, "pretty much were they've been in the last day or so."

At another desk, Nextel's 9½% notes due 2011 were up more than two points on the session to around the 77 bid level, while its zero-coupon notes due 2008 were up 2½ points to about 75 bid.

Apart from those telecom names, not a lot was going on Friday as market players "went through the motions" and watched the clock for the end of the session, one participant said.

Corporate bonds in general, including high yield, had a somewhat firmer tone as the equity markets recorded their second straight big advance, causing stocks to show gains for the week for the first time since Aug. 23. The Dow Jones Industrial Average climbed 316.34 (4.2%) to 7850.29, while the S&P 500 Index gained 31.40 (3.9%) to 835.32; both indexes advanced 4.3% for the week. The Nasdaq Composite Index added 47.10 (4.1%) to end at 1210.47 - a hefty 6.2% gain for the week.

"Yes, we were going through the motions," the aforementioned market participant said, "but with the market being up a couple of hundred points [Friday] and a couple of hundred [Thursday], definitely people are breathing a sigh of relief, although there was very limited trading."

He said that because of the abbreviated session - "really, it was a quarter of a day - there was no real action in the distressed names - the kind of stuff that's been beaten up in the past couple of days, the supermarkets, the retailers, the distributors, telecom, not a lot of action."

"There was some activity earlier in the day," another trader said, "but as you can imagine, it died down and people began heading for the exit doors."

He saw some upside activity in Ford Motor Co. bonds, which attracted the attention of some junk marketeers when yields on the Number-Two U.S. carmaker's debt pushed above the 9% level earlier in the week after Credit Suisse First Boston cut its investment rating on automotive sector stocks and specifically lowered its share price target on Ford to $10 from $20, while suggesting that the auto giant's profits in a soft and highly competitive market might not be enough to support its Baa1/BBB+ investment grade debt rating. That caused Ford's shares to fall and its bonds to widen out sharply, with the 7¼% notes due 2011 trading at one point almost 600 basis points over the comparable Treasury issue, versus the bonds' 500 basis points spread on Monday, before the CSFB research note was distributed.

But especially after S&P and Moody's Investors Service both indicated that Ford was in no danger of suffering the indignity of a fall into junkbond land the debt began to rally; by Friday the 71/4s were being quoted at around 550 basis points over, having recouped about half of their lost ground.

"Ford was moving up Friday," the trader said, quoting the company's long-dated paper as having tightened around 40 basis points from recent lows while its shorter paper - which has recently been quoted in dollar terms, the same way that junk bonds are - were about two points higher on the day.

The trader also saw some improvement in the nominally investment-grade bonds of TXU Corp., which were battered down to distressed junk levels in the 60s despite their Baa3/BBB rating on concerns the Dallas-based integrated electric utility could be dragged down by the troubles of its European unit . Those troubles have already pounded the European subsidiary's own bonds down into the 20s.

The troubles of TXU and another investment-grade utility credit, Allegheny Electric, helped to drag junk utility and merchant energy credits such as AES Corp. and Calpine Corp. Lower during the week, on sector sympathy.

On Friday, parent TXU - in an effort to reassure investors that it has ample liquidity - said that it would draw upon its unsecured bank facilities at its TXU US Holdings and TXU Energy domestic subsidiaries to increase its available cash by $2.6 billion.

TXU's shares - which tumbled to a 52-week low Tuesday at $13.85, but which had jumped almost 20% in Thursday's dealings - closed Friday up $1.20, (6.8%) at $18.75. Meantime, its 6 3/8% notes due 2006, which had finished Thursday at 66 bid/68 offered, were quoted seven points better Friday, at 73 bid.

The high-yield primary arena, like the secondary, was "dead as a doornail," according to one sell-side source, with no issues pricing and none announced.

And some time after the market closed Friday a syndicate source confirmed a rumor that had circulated throughout the day: ClubCorp Inc.'s refinancing deal wound up shy of the green.

"It's been pretty ugly," one sell-sider said earlier Friday, before learning of ClubCorp's fate. "That Amerco deal got canned, which is not surprising given the market. Right now for every deal that gets done you have two deals postponed."

Meanwhile the topic of choice among sell-side sources Friday was the continuing drainage of cash from high-yield mutual funds.

On Thursday sources told Prospect News that AMG Data Services of Arcata, Calif. had reported a $176.6 million outflow from funds for the week ending Oct. 9 - the third successive outflow, trailing negative $144.6 million for the week ending Oct. 2, and the record-setting $1.4 billion that was reported to have flowed out of the funds during the last week of September.

The above-quoted sell-side official complained that the doom-and-gloom talk that has accompanied these outflows is disproportional to their actual impact.

"The high-yield mutual funds used to control the market," the official reflected. "Back in 1998 they probably had 30% of the market. And they were the guys that were always driving deals.

"Today it's not the case. High-yield mutual funds represent maybe 10% of the market right now. CBOs are the biggest buyers of stuff. They probably represent around 30%. Pension funds and insurance companies continue to give their10% allocations, which also represents close to 30% of the market, between the two of them. The other 30% are your crossover bond funds and some private-client stuff, and a whole assortment of other stuff."

Whether or not this breakdown of the high-yield market means that the buy-side has more cash or less to put to work this source did not specify. If it does, the source said, it's a safe bet they will continue to be careful with it.

"I think these guys, in general have been relatively conservative over the year," the official said. "The cash positions are still relatively high but with uncertainty out there no one is going to start buying up deals left and right."

When Prospect News brought up the funds flows on Friday with Kathleen Gaffney, vice president and portfolio manager at Loomis Sayles High Income Funds, she said: "It is sloppy out there.

"The supply has gotten very heavy," Gaffney added. "One thing we're seeing is the pressure from the triple-B side, it's overwhelming the high-yield market.

"While the distressed bid has been there for most of the last couple of months, they're feeling pretty saturated from what I can tell. So even the distressed bid is beginning to fade."

Asked to comment on recent deals in the primary market, Gaffney specified that Loomis Sayles was "aware" of Amerco's $275 million of senior notes due 2009 (Ba2/BB+/BB+) via Credit Suisse First Boston and Merrill Lynch & Co. As mentioned above that deal, which was talked early in the week of Oct. 7 at 12% area, was postponed Thursday by the company, which cited "current adverse conditions in the high yield market."

"We did participate in FMC," the Loomis Sayles portfolio manager added, referring to FMC Corp.'s upsized $355 million of seven-year senior secured notes (Ba2/BB+) via Salomon Smith Barney and Banc of America Securities which priced Wednesday to yield 10½%.

"The pricing was right and we view it as a stable credit," Gaffney said of the new paper from the Philadelphia agricultural, industrial and specialty chemical company.

Aside from FMC, the only Rule 144A offering to price during the week of Oct. 7 was the acquisition deal from Austin, Tex.-based golf products retailer Golfsmith International, Inc. which brought $93.75 million ($75 million proceeds) of seven-year senior secured notes (B2/B) via Jefferies & Co. The 8 3/8% priced at 80 to yield 13%.

And the market learned after Friday's close that Dallas-based business club and golf resort owner-operator ClubCorp had failed to complete its deal. A syndicate official confirmed that its $225 million of eight-year senior notes (B3/B) via Banc of America Securities and Deutsche Bank Securities was postponed. No reasons were initially given and the company declined to comment when contacted Friday afternoon by Prospect News.

Hence the only deal situated on the forward calendar with expectations of pricing during the Oct. 14 week is Nevada Power Co.'s $250 million of seven-year general and refunding mortgage notes series E (Ba2/BB) via Lehman Brothers. The Las Vegas-based public utility is expected to wrap up its roadshow on Thursday.

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