Turbulent Times FOR TELECOM.

Can former AT&T growth star Rick Roscitt restructure ADC for recovery?

When the board of ADC Telecommunications wooed Rick Roscitt away from his top-executive post at AT&T to lead ADC last summer, its members were no doubt hoping for the kind of heady hypergrowth the 49-year-old had led as CEO of AT&T Solutions. True, the telecom industry was already showing signs of buckling under the weight of a sagging economy, and companies everywhere were tightening their IT budgets to prepare for leaner times. But a guy who managed to grow a brand new division of AT&T Business Services from zero to $4 billion in annual revenue in just five years (albeit in times of plenty) would surely be able to perform similar magic for ADC, a provider of broadband connectivity products that enable its customers' networks to carry high-speed Internet, voice, and video traffic.

Roscitt might have delivered--if only the bottom hadn't dropped out of the market before he'd even had time to look around his new office. Within weeks of his appointment, news of the industry's top players reducing earnings estimates and slashing jobs dominated the headlines. "I knew the downturn was coming, because I could see it from the carrier side," Roscitt says, "but the scale at which it's slowed down, and the longevity it appears to be headed for--that surprised everybody." Indeed, by April, Cisco, Lucent, Nortel, and Motorola, to name a few, had all adjusted expectations, forecasting flat quarters in the near term and announcing plans to downsize by the thousands.

Even though the company had already reduced its earnings outlook in the first weeks of the new year, Roscitt was still showing his optimism in February, forecasting revenue growth, top and bottom, of about 15 percent for both 2001 and 2002, and earnings-per-share of 9 to 10 cents on sales of between $825 million to $870 million. But a scant two months later, Roscitt changed his tune, breaking the news to investors that he expected sales to fall to $650-$700 million, compared with $771 million for the same period in 2000. The company also anticipates a loss of 10 to 15 cents a share. "We haven't given guidance for the second half of the year because--and I hate to use the word because it's so overused but--visibility in the industry is very limited," laments Roscitt.

To analysts, it's not surprising that ADC's outlook would be so uncertain, given how overcrowded the supplier market suddenly became. Many of the competitive local exchange carriers (CLECs) ADC serves, which sell voice video and data services, and which sprouted up during the boom and grew to number in the hundreds, have gone bankrupt or been acquired. The regional bells, or incumbent local exchange carriers (ILECs), also ADC's customers, have sharply cut their telecom equipment and broadband spending, choosing to hunker down and wait for the much-hoped-for recovery.

So with prospects now considerably dimmer for whopping (or even mediocre) sales revenue growth over the next several quarters, at least in the U.S., Roscitt did the only thing he could. Like his beleaguered brethren, he announced cost-cutting measures and a plan to restructure the company to focus on only those areas that produce the most revenue. A new entity called the Broadband Infrastructure and Access group will merge the former Broadband Access & Transport and Broadband Connectivity units, and will reportedly work to boost the company's high-speed Internet access equipment business.

The plan, he adds, is to look critically at all of ADC's products and put them in either the investment category or the cash-generating category. "Or we put a question mark on it and say, 'Can we generate more cash here? Or should we just sell or shut down this business?'" says Roscitt.

Dain Rauscher Wessels analyst Michael Brown says the back-to-basics strategy is a smart one. "We've had a flurry of new technologies emerge over the past few years and the winners and losers have become pretty clear," explains Brown, who maintains a Buy rating for ADC's pummeled stock, recently trading at $8, down from a 52-week high of $49. "That, combined with the economic downturn, makes it clear that, in those areas where you're not winning, the right thing to do is just go and play somewhere else."

Brown suspects the first to get the ax in ADC's product portfolio will be its fixed wireless division. That's a segment, he says, "that loses money for everybody who plays in it," because the equipment and resources needed to outfit the "last mile" are far more expensive than competing technologies, such as DSL and cable.

Cable technology on the other hand, should prove a key weapon in ADC's arsenal, according to Michelle Gao, research analyst for broadband and wireless technology at Frost & Sullivan. "ADC is one of the three companies that actually has products for cable--cable telephony, cable modem--so they're in a good position," she says. ADC's broadband service platform, she adds, and its strategy to not only increase capacity, but to integrate the various access platforms will put it in good stead. Gao questions ADC's DSL strategy, however, concerned that with so many DSL players marketing to far fewer customers, ADC could get lost in the shuffle. Focus on core competency, it seems, has never been so critical to survival.

But the question remains, can such a young company slim down its product portfolio and cut costs enough to generate revenue without losing the diversity of products that has given it so strong a position in a downswing? Roscitt thinks so--and he has no intentions of becoming a one-product operation. "ADC is blessed in that it supplies a broad range of equipment," he says. "If I were a single product company, like optics only, I'd be nervous right now."

Not that he's particularly calm either. And not many CEOs would be, given how few disappointing quarters it takes nowadays to lose favor on Wall Street and to exasperate one's board and shareholders. "There's literally no honeymoon period for anybody anymore," Roscitt says. And he has a ways to go to ride our the storm, according to most experts. The industry won't likely hit bottom in terms of reduction in capital spending plans until mid-year, says Steve Levy, managing director of Lehman Brothers, and that will be followed by several flat quarters. "Then it should slowly go back to a growth rate of about 10 to 12 percent per year on a global basis," he says. "I don't expect us to get back to the trend line growth rate until 2003. And I don't think it would be healthy if we snapped right back to it.

"But with that as a backdrop," adds Levy, "and with the continued meltdown of many, many emerging carriers, it becomes even more challenging in a two-month period. And that's the situation Rick stepped into."

Not ideal, to be sure, Roscitt admits, but certainly no time to panic. "If anything, this is the time for a lot of character," he says, evenly. "You have to make tough choices, and you have to do what's right by customers, shareowners, and employees." One of the tougher decisions, he says, was to reduce the size of the workforce. In April, after issuing its second consecutive earnings warning, ADC announced it would eliminate 3,000-4,000 jobs, on top of the 1,400 already planned for--totaling a 27-30 percent reduction in people. "That was a very personally painful thing for me to do," says Roscitt.

He's also putting acquisitions temporarily on hold; ADC had acquired 28 companies over a four-year period. "The entire industry will do that," he says, adding that a shakeout seems inevitable. "Very small or financially starved local exchange carriers are going to have to go out of business or combine with others--that's underway in a frantic way right now. And it's not clear to me whether the big long distance companies will stand alone or combine with others. Same thing with pure optics players."

And if there remain only a handful of history lessons that can serve as steady guides in times of fast change, one of them may be that when industry supply outpaces demand, for whatever reasons, consolidation is almost always in the offing. "The only question is who is going to be the consolidator and who the consolidatee?" asks Levy. Though ADC has typically been an acquirer of smaller companies, it may soon find itself fighting off acquistion bids when the recovery puts more cash in the coffers of larger suitors. Roscitt admits ADC would be an attractive buy. "We're plugged into every telco and cable company in the world, so we're always cognizant that we could be a target." But the company, he adds firmly, is not for sale. On the other hand, he allows, "if the offers were astronomical and people recognized the long-term value of the company, I'd have to present it to my board."

Meantime, though, Roscitt is preparing to maximize sales in Europe, Asia, and Latin America by reorganizing ADC's previously scattered global sales strategy. He wants the various divisons to work in concert to build business abroad, rather than approach foreign markets independently. Overall, he says he's encouraged by the pervasiveness of. ADC's products in the world's largest telcos and cable companies. "And they think very highly of our products," he says. "So you have to balance that out with the bad news."

Still, some industry experts have speculated that Roscitt's reputation as a great growth CEO (once thought to be on the short list of successors to Michael Armstrong), but not a turnaround specialist or a crisis manager, has cast some doubt about whether he can navigate ADC through such turmoil. But Levy, for one, is "highly confident" ADC will bounce back in time, though he adds, "it's a heck of a challenge near term."

Roscitt is confident he can keep up, so long as he stays sharp and flexible, willing to keep his eyes, ears, and mind open to new ideas. "As a CEO, you bring all your wits and experience with you. And you wouldn't have a shot at one of these big jobs without them--but if you assume you know it all and have seen it all before, you're going to get into trouble."

                         ADC's Past and Future
                      Quarterly Earnings per Share
                              Expectation
Q100    $0.07
Q200    $0.10
Q300    $0.16
Q400    $0.18
Q101E   $0.07
Q202E  -$0.11
Q301E   $0.02
Q401E   $0.06
Q102E   $0.06
Q202E   $0.09
Q302E   $0.10
Q402E   $0.12
Source: Dain Rauscher Wessels
Note: Table made from bar graph

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