Ciena Changes Optical Networking Landscape with Lightera and Omnia

By: Erik Kreifeldt

Contents
•No longer just DWDM
•Better than Tellabs
•New competitive landscape
•Business proposition
•Lightera proposition
•Omnia proposition
•Financials and management changes

In a move that provides a revealing snapshot of the optical networking industry, Linthicum, MD-based dense wavelength division multiplexing (DWDM) pioneer Ciena Corp. plans to acquire cross-connect startup Lightera Networks Inc. (Cupertino, CA) and multiservice access device startup Omnia Communications Inc. (Marlborough, MA) for approximately $980 million.

"The introduction of optical networking, particularly DWDM, swept a massive number of network elements out of legacy networks, reducing the price of backbone core transport by approximately 75% to 80% over its equivalent of just five years ago," says Steve Chaddick, Ciena's senior VP of strategy and corporate development. "By adding these two technologies to our portfolio, we will induce the same see-change in core management of bandwidth and in the multiservice distribution arena."

By pulling into one system the functions of a synchronous optical network (SONET) add/drop multiplexer (ADM), broadband cross-connect, managed point-to-point link, and even an optical cross-connect, the Lightera platform provides not just core switching, grooming, and restoration, but national-scale networking, Chaddick explains (see Lightera Rolls Out New Core Network Option). With Omnia, Ciena gets a platform that uses ATM statistical multiplexing and edge routing technology that delivers multiple services to end-users—from single telephone lines to 100 Mbps Ethernet (see Add/Drop Multiplexing in the Data-Centric Network).

Announced in early March, Lightera's Core Director intelligent optical core switch is scheduled for commercial availability by the end of 1999. Omnia's AXR 500 is expected to ship mid-year. While the combination of these products with Ciena's DWDM covers metropolitan optical networking and manages bandwidth in the core network, proponents say it does not conflict with core router strategies—particularly Ciena's work with Cisco and others in the Optical Internetworking Forum on Internet protocol-over-DWDM applications.

No longer just DWDM
"What Ciena is doing is trying to transform itself from being a one-technology company into being a company with a suite of products," observes John Ryan, principal at consulting firm Ryan Hankin Kent. "I think it's a good move," he concludes. "It's a bold move, but no good move has no risk. No guts, no glory."

By expanding its optical networking portfolio from core dense wavelength division multiplexing (DWDM) transport into switching and access, Ciena's optical equipment offering will match—or even exceed—that of large rivals such as Alcatel, Lucent, and Nortel. By offering carriers only DWDM systems, Ciena has forced customers to buy equipment from competitors, which in turn displaced Ciena's DWDM market share and profit margins by bundling low prices for their DWDM systems with other products in their optical networking portfolios.

"With a more comprehensive product suite, that part of the competitive equation is solved," Ryan continues, adding that Ciena must now execute on its strategy by ensuring that the startups deliver their products on schedule and coming up with a unified management platform for the product line.

Better than Tellabs
The acquisition of Lightera accomplishes what Ciena had in mind by pursuing last year's ill-fated acquisition by Tellabs. The biggest difference this time around is that Ciena's partners are completely unfettered by a traditional telephony equipment legacy, notes Chaddick. Having discovered like-minded players, Ciena expects to execute its network vision more quickly that it would have with Tellabs.

"We looked very carefully for six months or so after the horror film we went through last summer, and concluded that there were very few potential partners that had both our common vision of how things ought to be and the technology to [realize that vision] rapidly," Chaddick says. "My view of this is so positive that I haven't been sleeping much for the last few months, I'm so excited about it."

Tying together the three individual equipment platforms is a more formidable strategy than embedding Ciena's equipment within the Tellabs platform—the likely result of Tellabs proposed acquisition of Ciena, says Paul Silverstein, an equity analyst with BancAmerica Robertson Stephens who tracks Ciena. "I think it's a great deal," he says. "Ciena just dramatically enhanced its offering," he continues. "Omnia and Lightera are in the first tier of companies introducing next-generation network equipment."

New competitive landscape
Ryan agrees that despite the proliferation of optical networking startups, only one or two stand out in each category of equipment—and Ciena just nabbed one from each of two key categories (cross-connects and access equipment). Given that several vendors are out to acquire startups, "this changes the competitive landscape significantly," he says. "It really did shorten the wish list for quite a few companies."

Although Ciena faces competition in its newly expanded space—Nortel and Cisco already sell multiservice ATM platforms, for instance—Ciena needed the access and cross-connect technology in its portfolio, says Kevin Slocum, managing director of SoundView Technology Group. By acquiring the technology instead of developing it internally, Ciena increases time-to-market and reduces risk, he surmises.

"Time to market is our big advantage," Nettles concurs. "We had undertaken development plans in this area. But frankly, when we looked at capability that [Lightera] had developed and the scale of the problem as they had tackled it, we decided that this [acquisition] was far more powerful."

Ciena intends to ramp up development and sales efforts to realize its time-to-market advantage within the next 12 to 18 months. On the manufacturing side, Ciena plans to outsource the production of the Lightera and Omnia product lines, rather than integrate them into Ciena factories, he explains.

"I think it's a positive development for the company," Slocum says. "They've reduced the risk to their story and increased the odds of getting their business back on a high-growth track," he continues. "The deal provides the prospect for the company to get back into a much more interesting revenue story in the next calendar year."

Business proposition
At the very least, Ciena's revenue story is getting longer. Lightera and Omnia triple Ciena's market opportunity to nearly $10 billion over the next few years, reveals Ciena's president and CEO Patrick Nettles. The new market space also sports higher growth rates and margins, he adds, which makes investors happy.

But what annoy investors are poor earnings. Slated to earn $0.26 per share in fiscal year 1999—back in the black after suffering some tough losses—Ciena now reports it will come closer to break-even after absorbing the costs of the acquisitions. Although analysts laud Ciena's long-term strategic move, investors seeking short-term gains are not pleased.

"Ciena has been a constant subject of takeover talks," Slocum notes. "But spending around $900 million in stock value for two business that you say will not make physical contributions until 2000 earnings makes a deal less palatable. Takeover speculators have probably headed for the exits."

Ciena closed at $24.75 on the day of the news, down more than $2.00 from the previous close, and sank closer to $24.00 on Tuesday, March 19. "If the near-term numbers go down, the stock will probably go down, too," Slocum speculates. He maintains a "hold" rating on the stock

Lightera proposition
With capacity in the optical core expanded by high-channel-count DWDM systems, what the network needs now is the network intelligence to provision, manage, and protect that bandwidth in a way that's highly scalable, flexible, and cost-effective to deploy and operate, says Lightera president and CEO Jagdeep Singh. "This need to tie all of that bandwidth together into a real multiwavelength network is what Lightera's optical core switch platform delivers."

"By combining extremely high density, scalable switch fabric with distributed network software intelligence, the Lightera platform essentially transforms the raw DWDM bandwidth into a real DWDM network, which allows for connections of hundreds of wavelengths and grooming down to STS level," says Singh. The Lightera switch supports mesh restoration topologies as well as standard SONET rings, he adds. "All of this basically enables the construction of the optical core in lowest cost way that we know."

Omnia proposition
The last piece of the puzzle, filled by Omnia, is efficient service delivery to end users of optical bandwidth, says Omnia President and CEO Mike Champa.

In order for the public network to scale up to handle traffic growth, the number of network elements deployed by local exchange carriers to provision voice and data services (such as routers, channel banks, and cross-connects) and their associated cost needs to be radically reduced, Champa says. The services provided by these outdated and difficult to manage devices needs to be integrated, and the ease and speed of end-user service provisioning needs to be improved from days of work to minutes, he adds.

"Our platform, the Omnia AXR 500, allows local service providers to provide voice and data services on one integrated platform with direct optical interfaces," Champa says, "By combining Omnia's access technology, wire-speed routing, [voice circuit] provisioning, leased line services, circuit emulation, and ATM [quality-of-service] with Ciena's metro DWDM products, We have a complete solution that can be deployed today, thereby enhancing our competitive position," Champa says. "No other network manufacturer can claim to have the breadth of optical network elements."

Financials and management changes
Ciena will acquire all outstanding shares of Lightera in exchange for approximately 20.6 million shares of Ciena common stock, and acquire all outstanding shares of Omnia in exchange for 16 million shares of Ciena common stock. Based on the closing price of Ciena common stock on Friday, March 12, 1999, the Lightera transaction is valued at approximately $552 million and the Omnia transaction is valued at approximately $429.0 million.

Ciena expects the Lightera transaction to close in the March/April timeframe and the Omnia transaction to close in the June/July timeframe. The transactions are not conditional on one another.

To qualify as tax-free reorganizations, the transactions will be accounted for as pooling of interests. Ciena expects the transactions will become accretive during the Company's fiscal year 2000, assuming expected revenue and cost synergies, as well as expected product pricing.

Ciena will be organized into three operating units representing the current businesses of Ciena, Lightera, and Omnia following the transaction, each headed by their respective presidents. Both Singh and Champa will report to Nettles, and upon closing of the Lightera transaction, Singh will become a director of Ciena. The companies' sales efforts will be integrated under Ciena's senior VP worldwide sales, Gary Smith.