Conference Call, DATE, COMPANY QUARTER

Northern Telecom Q3 Conference Call
A Fool Conference Call Synopsis^*
By Gregory Markus (TMF Boring)

Northern Telecom <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: NT)") else Response.Write("(NYSE: NT)") end if %>
8200 Dixie Rd, Ste 100
Brampton, Ontario L6T5P6
Canada
905-863-0000
http://www.nortelnetworks.com

ANN ARBOR, MI (Oct. 27, 1998) /FOOLWIRE/ — Northern Telecom, Ltd. (Nortel) today reported results for the third quarter and first nine months of 1998.

Third quarter results. Revenues from continuing operations increased 20% (after adjusting primarily for the impact of the disposition of MET and the GSM terminals businesses) compared to the same period last year, and increased 12% before the contribution of Bay Networks. As reported, revenues increased 18% to $4.14 billion from $3.50 billion for the same period in 1997. All dollar amounts are stated in U.S. currency. After adjusting for the impact of dispositions and one-time gains and charges, net earnings applicable to common shares from ongoing operations increased to $241 million, or $0.42 per share, a per-share increase of 45%. This compares to net earnings applicable to common shares of $153 million, or $0.29 per share, in the third quarter of 1997.

Unusual items. The company recorded a number of one-time items during the quarter. Acquisition costs totaling $539 million related to the amortization of Bay Networks' intangible assets and other purchased in-process research and development from earlier transactions. The company also experienced a one-time pretax gain of $377 million, the majority of which related to the disposition of businesses and investments, including the sale of Nortel's advanced power system business and the sale of a cabinet manufacturing facility located in North Carolina. Those two items totaled $260 million of the $377 million gain.

The remainder of the gain related to Entrust Technologies, which completed its IPO in August, together with gains from other minor dispositions. Nortel also recorded a one-time pretax provision of $388 million for the realignment and resizing of certain elements of Nortel's operations. Of this amount, approximately $260 million relates to severance costs. The process has been a success.

Nine-month results. Revenues from ongoing operations for the first nine months of 1998 increased 13% on a year-over-year basis (11% before the contribution of Bay Networks). Net earnings applicable to common shares from ongoing operations for the first nine months of 1998 (after adjustments for the impact of dispositions and one-time gains and charges) was $597 million, representing an increase in earnings per share of 36% to $1.10 per share.

Geographic breakdown. Revenues for the third quarter of 1998 increased 21% in the United States over the year-ago period. Combined revenues from Asia/Pacific, the Caribbean and Latin America (CALA) grew 35%. Revenues in Europe increased 7%, even after the MET divestiture. Canadian revenues rose 3%.

Breakdown by product line. Revenues for the third quarter increased 15% for carrier networks and 33% for enterprise networks. Within carrier networks, broadband networks experienced very strong revenue growth over the same period last year, growing 45% and with considerable gains across all geographic areas. Wireless networks revenues increased 17% in the third quarter compared to the third quarter of 1997, with substantial gains in the U.S. and CALA. Public carrier networks revenues decreased 12% relative to last year's third quarter, due primarily to substantial declines in Asia/Pacific and Canada. Enterprise networks revenues increased 33%, driven primarily by the contribution of Bay Networks. Revenues in the "other" segment decreased substantially in the third quarter of 1998 compared to the same period last year, due primarily to the impact of the disposition of MET and the GSM terminals businesses.

Order growth. For the quarter, order input from ongoing operations of $4.15 billion represented an increase of 22% on a year-over-year basis (14% before the contribution of Bay Networks), after adjusting for the impact of the disposition of MET and the GSM terminals businesses. For the first nine months of 1998, order input from ongoing operations increased 16% to $12.2 billion compared to the same period last year (13% before the contribution of Bay Networks).

Financial Highlights

Gross margin for the quarter was 43.3% compared to 41.6% a year ago. This increase reflects the inclusion of Bay Networks and also a favorable product mix in all lines of business.

Selling, general, and administrative (SG&A) expenses were $728 million, or 17.6% of revenue, in the quarter, compared with $659 million, or 18.8% of revenue a year ago. SG&A expenses continue to reflect investments to support Nortel Networks' global growth and investments in computer systems infrastructure.

Research and development (R&D) expenses were $616 million, or 14.9% of revenue, in the quarter, compared with $528 million, or 15.1% of revenue, in the third quarter of 1997. This reflects planned and ongoing investments across all Nortel Networks businesses.

Investment and other income was $130 million for the third quarter, including $117 million in one-time gains.

Cash and short-term investments were $1.9 billion at the end of the quarter, up substantially from the $495 million at the end of the second quarter due primarily to cash in hand at Bay Networks and the proceeds of certain divestitures.

Days Sales Outstanding for the quarter increased by approximately five days relative to the year-ago period.

Bay Networks merger. Nortel achieved a significant milestone this quarter with the completion of the merger with Bay Networks, the largest data networking merger in history. Management is very pleased with the integration accomplishments to date. Nortel's Enterprise Networks business line, which includes Bay, is cited in industry reports that confirm the company's leading position in call-center markets. Bay did approximately $285 million in sales in the month of September, in line with Nortel management's expectations. RBOCs represented approximately 20% of Nortel's customer revenues prior to the merger and, going-forward, they will probably represent less than 20%.

Customer financing. Nortel is highly competitive against Lucent Technologies <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LU)") else Response.Write("(NYSE: LU)") end if %>, Ericsson <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ERICY)") else Response.Write("(Nasdaq: ERICY)") end if %>, and others and does offer customer financing when appropriate. Nortel continues to be highly successful in laying off the commitments and has only about $500 million of customer financing on the balance sheet — and even a substantial proportion of that is in the process of being laid off. Nortel's customer financing practices are overseen by a committee of the board of directors.

Guidance. Management currently expects to see 1998 revenue growth from ongoing operations, including Bay Networks, to be in the mid-teens. Looking beyond 1998, discontinuities in the telecommunications market, such as deregulation, globalization, the need for mobility, and the impact of the Internet, are creating opportunities for Nortel to provide solutions to traditional and new customers globally. Revenue growth is projected in the high 20% range for 1999, including gains attributable to the Bay merger. Bottom-line growth is projected to be consistent with a business model that has gross margins at 42%-plus, SG&A expense at 17% to 18% of sales, and R&D expense of around 14%. The tax rate has been creeping up slightly. Capital expenditures and depreciation and amortization are expected to follow historical trends in 1999.