<PAGE>
1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
---
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 1999
OR
---- TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____________to _____________
Commission file number 001-11639
LUCENT TECHNOLOGIES INC.
A Delaware I.R.S. Employer
Corporation No. 22-3408857
600 Mountain Avenue, Murray Hill, New Jersey 07974
Telephone - Area Code 908-582-8500
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes .X No ....
At January 31, 2000, 3,187,478,055 common shares were outstanding.
<PAGE>
2 Form 10-Q - Part I
PART 1 - Financial Information
Item 1. Financial Statements
LUCENT TECHNOLOGIES INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
For the Three
Months Ended
December 31,
1999 1998
Revenues............................. $ 9,905 $ 9,842
Costs................................ 5,259 4,630
Gross margin......................... 4,646 5,212
Operating Expenses:
Selling, general and
administrative expenses ........... 1,969 1,937
Research and development expenses ... 978 1,013
In-process research
and development expenses............ - 296
Total operating expenses............. 2,947 3,246
Operating income..................... 1,699 1,966
Other income - net .................. 255 116
Interest expense..................... 98 78
Income before income taxes........... 1,856 2,004
Provision for income taxes........... 606 768
Income before cumulative effect
of accounting change................ 1,250 1,236
Cumulative effect of accounting change
(net of income taxes of $842)....... - 1,308
Net income .......................... $ 1,250 $ 2,544
Earnings per common share - basic:
Income before cumulative effect
of accounting change............... $ 0.40 $ 0.40
Cumulative effect of accounting
change ............................ - 0.43
Net income .......................... $ 0.40 $ 0.83
Earnings per common share - diluted:
Income before cumulative effect
of accounting change............... $ 0.38 $ 0.39
Cumulative effect of accounting
change ............................ - 0.41
Net income........................... $ 0.38 $ 0.80
Dividends declared
per common share................... $ 0.04 $ 0.04
See Notes to Consolidated Financial Statements.
<PAGE>
3 Form 10-Q - Part I
LUCENT TECHNOLOGIES INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
December 31, September 30,
1999 1999
ASSETS
Cash and cash equivalents.............. $ 2,219 $ 1,880
Receivables less allowances
of $381 at December 31, 1999
and $376 at September 30, 1999 ....... 10,143 10,563
Inventories............................ 5,380 5,064
Contracts in process, net of contract
billings of $5,584 at
December 31, 1999 and $5,565 at
September 30, 1999.................... 1,164 1,103
Deferred income taxes - net............ 1,504 1,609
Other current assets................... 1,168 2,065
Total current assets................... 21,578 22,284
Property, plant and equipment, net
of accumulated depreciation of
$7,693 at December 31, 1999 and
$7,474 at September 30, 1999......... 6,986 6,895
Prepaid pension costs.................. 6,078 6,175
Capitalized software development costs. 506 470
Other assets........................... 3,486 3,426
TOTAL ASSETS........................... $38,634 $39,250
See Notes to Consolidated Financial Statements.
(CONT'D)
<PAGE>
4 Form 10-Q - Part I
LUCENT TECHNOLOGIES INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONT'D)
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
December 31, September 30,
1999 1999
LIABILITIES
Accounts payable....................... $ 2,162 $ 2,901
Payroll and benefit-related
liabilities.......................... 1,321 2,338
Postretirement and postemployment
benefit liabilities.................. 103 137
Debt maturing within one year.......... 2,672 2,871
Other current liabilities.............. 3,659 3,661
Total current liabilities.............. 9,917 11,908
Postretirement and postemployment
benefit liabilities.................. 6,013 6,305
Long-term debt ........................ 3,832 4,167
Other liabilities...................... 2,793 2,934
Total liabilities ..................... 22,555 25,314
Commitments and contingencies
SHAREOWNERS' EQUITY
Preferred stock-par value $1.00 per share
Authorized shares: 250,000,000
Issued and outstanding shares: none... - -
Common stock-par value $.01 per share
Authorized shares: 6,000,000,000
Issued and outstanding shares:
3,178,657,861 at December 31, 1999
3,142,537,636 at September 30, 1999... 32 31
Additional paid-in capital............. 9,032 7,994
Guaranteed ESOP obligation............. (30) (33)
Retained earnings...................... 7,296 6,188
Accumulated other comprehensive
income (loss)......................... (251) (244)
Total shareowners' equity.............. 16,079 13,936
TOTAL LIABILITIES AND
SHAREOWNERS' EQUITY................... $38,634 $39,250
See Notes to Consolidated Financial Statements.
<PAGE>
5 Form 10-Q - Part I
LUCENT TECHNOLOGIES INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Millions)
(Unaudited)
For the Three Months
Ended December 31,
1999 1998
Operating Activities
Net income............................... $ 1,250 $ 2,544
Adjustments to reconcile net income
to net cash provided by(used in)
operating activities:
Cumulative effect of accounting change - (1,308)
Depreciation and amortization......... 505 347
Provision for uncollectibles.......... 38 (14)
Tax benefit from stock options........ 456 93
Deferred income taxes................. 102 206
Purchased in-process research and
development......................... - 21
Adjustment to conform pooled
companies' fiscal years............. 11 170
Decrease(increase)in accounts
receivable ......................... 14 (2,269)
Increase in inventories
and contracts in process............ (309) (425)
(Decrease)increase in accounts
payable............................. (719) 356
Changes in other operating assets
and liabilities..................... (654) (473)
Other adjustments for noncash
items - net......................... (570) (249)
Net cash provided by(used in)
operating activities.................... 124 (1,001)
Investing Activities
Capital expenditures .................... (587) (347)
Proceeds from the sale or disposal of
property, plant and equipment.......... 2 28
Purchases of equity investments.......... (65) (17)
Sales of equity investments.............. 680 1
Purchase of investment securities........ - (13)
Sales or maturity of
investment securities................... 22 13
Acquisitions of businesses,
net of cash acquired.................... (39) (115)
Dispositions of businesses............... 9 57
Other investing activities - net......... 1 22
Net cash provided by(used in)
investing activities.................... 23 (371)
See Notes to Consolidated Financial Statements.
(CONT'D)
<PAGE>
6 Form 10-Q - Part I
LUCENT TECHNOLOGIES INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONT'D)
(Dollars in Millions)
(Unaudited)
For the Three Months
Ended December 31,
1999 1998
Financing Activities
Repayments of long-term debt ............ (375) (8)
Issuance of long-term debt............... - 496
Proceeds from issuance of common stock..... 557 147
Dividends paid........................... (62) (54)
Increase in short-term
borrowings - net....................... 83 1,041
Net cash provided by
financing activities................... 203 1,622
Effect of exchange rate
changes on cash........................ (11) 10
Net increase in cash and
cash equivalents....................... 339 260
Cash and cash equivalents
at beginning of year................... 1,880 1,252
Cash and cash equivalents
at end of period....................... $ 2,219 $ 1,512
See Notes to Consolidated Financial Statements.
<PAGE>
7 Form 10-Q - Part I
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been prepared
by Lucent Technologies Inc. ("Lucent" or the "Company") pursuant to the rules
and regulations of the Securities and Exchange Commission and, in the opinion of
management, include all adjustments necessary for a fair presentation of the
results of operations, financial position and cash flows for each period shown.
On October 15, 1999, Lucent merged with International Network Services ("INS").
Each share of INS common stock was converted into the right to receive 0.8473
shares of Lucent common stock. Lucent issued approximately 49.3 million shares
in exchange for all of the outstanding shares of INS. In addition, Lucent
assumed outstanding employee stock options covering approximately 16 million
shares. On November 3, 1999, the Company merged with Excel Switching
Corporation. Each share of Excel common stock was converted into the right to
receive 0.558 shares of Lucent common stock. Lucent issued approximately 22.3
million shares in exchange for all of the outstanding shares of Excel. These
mergers have been accounted for as "pooling-of-interests" and the consolidated
financial statements of Lucent were restated for all periods prior to the
mergers to include the accounts and operations of INS and Excel.
Before merging with Lucent, INS had a June 30 fiscal year end and Excel had a
December 31 fiscal year end. The unaudited consolidated statement of income for
the quarter ended December 31, 1998 was derived by combining the historical
results of Lucent for the quarter ended December 31, 1998, with the historical
results of operations of INS for the quarter ended September 30, 1998 and with
the historical results of operations of Excel for the quarter ended December 31,
1998. The unaudited consolidated balance sheet at September 30, 1999 was derived
by combining the historical financial position of Lucent at September 30, 1999,
with the historical financial position of INS at June 30, 1999, and with the
historical financial position of Excel at September 30, 1999, respectively. The
unaudited consolidated statement of cash flows for the quarter ended December
31, 1998 was derived by combining the historical cash flows of Lucent for the
quarter ended December 31, 1998, with the historical cash flows of INS for the
quarter ended September 30, 1998. Intercompany transactions for the periods
presented were not material.
Excel's results of operations for the three months ended December 31, 1998, were
included in Lucent's results of operations for the year ended September 30, 1998
and were also included in Lucent's consolidated results of operations for the
year ended September 30, 1999. Excel's revenue and net loss for the three months
ended December 31, 1998 were $37 and $1, respectively. As a result, the
consolidated balance sheet of Lucent at September 30, 1999, includes an
adjustment to retained earnings to eliminate the loss recognized by Excel for
the three months ended December 31, 1998. In addition, information from the
statement of cash flows for Excel for the three months ended December 31, 1998,
has been excluded from the consolidated statements of cash flows for the quarter
ended December 31, 1998, since Excel's activity for this period has been
included in the consolidated statements of cash flows for the year ended
September 30, 1998.
<PAGE>
8 Form 10-Q - Part I
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
In order to conform the fiscal year ends for INS and Lucent, INS's results of
operations and cash flows for the three months ended September 30, 1999, will
not be reflected in Lucent's financial statements for the quarter ended December
31, 1999. INS's revenue and net income for the three months ended September 30.
1999 were $100 and $11, respectively. The consolidated balance sheet of Lucent
at December 31, 1999, includes an adjustment to retained earnings to reflect the
income recognized by INS for the three months ended September 30, 1999.
On November 12, 1999, Lucent merged with Xedia Corporation, a developer of
high-performance Internet access routers for wide area networks. Under the terms
of the merger agreement, the outstanding Xedia capital stock and warrants were
converted into the right to receive approximately 3.9 million shares of Lucent
common stock. The transaction was accounted for as a pooling-of-interests.
Lucent has not restated for this transaction in its financial statements due to
immateriality.
The preparation of financial statements during interim periods requires
management to make numerous estimates and assumptions that impact the reported
amounts of assets, liabilities, revenues and expenses. Estimates and assumptions
are reviewed periodically and the effect of revisions is reflected in the
results of operations of the interim periods in which changes are determined to
be necessary. For the quarter ended December 31, 1998, improved performance on
multi-year contracts and the resolution of certain contingencies had a positive
impact on the reported results of operations.
The financial statement results for interim periods are not necessarily
indicative of financial results for the full year. These unaudited consolidated
financial statements should be read in conjunction with the audited consolidated
financial statements and notes thereto included in Lucent's Form 10-K for the
year ended September 30, 1999, and the audited restated consolidated financial
statements and notes thereto included in Exhibit 99.1 of the Company's Form 8-K
(dated February 10, 2000) for the year ended September 30, 1999.
The financial statements presented have been restated to reflect the two-for-one
split of Lucent's common stock which became effective on April 1, 1999. Certain
prior period amounts have been reclassified to conform to the current period
presentation.
2. ACCOUNTING CHANGE - EMPLOYEE BENEFIT PLANS
Effective October 1, 1998, Lucent changed its method for calculating the
market-related value of plan assets used in determining the expected
return-on-asset component of annual net pension and postretirement benefit
costs. Under the previous accounting method, the calculation of the
market-related value of plan assets included only interest and dividends
immediately, while all other realized and unrealized gains and losses were
amortized on a straight-line basis over a five-year period. The new method used
to calculate market-related value includes immediately
<PAGE>
9 Form 10-Q - Part I
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
an amount based on Lucent's historical asset returns and amortizes the
difference between that amount and the actual return on a straight-line basis
over a five-year period. The new method is preferable under Statement of
Financial Accounting Standards No. 87 because it results in calculated plan
asset values that are closer to current fair value, thereby lessening the
accumulation of unrecognized gains and losses, while still mitigating the
effects of annual market value fluctuations.
The cumulative effect of this accounting change related to periods prior to
fiscal year 1999 of $2,150 ($1,308 after-tax, or $0.43 and $0.41 for the quarter
ended December 31, 1998 per basic and diluted share, respectively) is a
one-time, non-cash credit to fiscal 1999 earnings.
3. COMPREHENSIVE INCOME
Comprehensive Income represents net income plus the results of non-shareowners'
equity changes. However, it does not affect net income or total shareowners'
equity. The components of comprehensive income, net of tax, are as follows:
Three Months Ended
December 31,
1999 1998
--------------------
Net income........................... $ 1,250 $ 2,544
Other comprehensive income(loss):
Foreign currency translation
adjustments...................... (52) 51
Unrealized holding gains
arising during the period........ 45 11
------- -------
Comprehensive income................. $ 1,243 $ 2,606
------- -------
<PAGE>
10 Form 10-Q - Part I
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
The after-tax components of accumulated other comprehensive income(loss) are as
follows:
<TABLE>
<CAPTION>
Total
Accumulated
Foreign Minimum Other
Currency Unrealized Pension Comprehensive
Translation Holding Liability Income/
Adjustment Gains Adjustment (Loss)
----------- -------- ---------- ---------
<S> <C> <C> <C> <C>
Accumulated other comprehensive
income(loss) at
September 30, 1999............ $ (313) $ 79 $ (10) $ (244)
Current period change.......... (52) 163 - 111
Reclassification adjustment
(net of tax of $76)........... - (118) - (118)
Accumulated other comprehensive ------- ------- ------- -------
income(loss)at
December 31, 1999............ $ (365) $ 124 $ (10) $ (251)
------- ------- ------- -------
</TABLE>
The foreign currency translation adjustments are not currently adjusted for
income taxes since they relate to indefinite investments in non-United States
subsidiaries.
4. SUPPLEMENTARY BALANCE SHEET INFORMATION
Inventories at December 31, 1999 and September 30, 1999 were as follows:
December 31, September 30,
1999 1999
-------------- ---------------
Completed goods ............... $ 3,062 $ 2,951
Work in process and
raw materials................ 2,318 2,113
-------- --------
Total inventories ............. $ 5,380 $ 5,064
-------- --------
<PAGE>
11 Form 10-Q - Part I
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
5. EARNINGS PER COMMON SHARE
Basic earnings per common share was calculated by dividing net income by the
weighted average number of common shares outstanding during the period. Diluted
earnings per share was calculated by dividing net income by the sum of the
weighted average number of common shares outstanding plus all additional common
shares that would have been outstanding if potentially dilutive common shares
had been issued.
Earnings per share amounts for the periods presented have been restated to
reflect the two-for-one split of Lucent's common stock, which became effective
on April 1, 1999. The following table reconciles the number of shares utilized
in the earnings per share calculations for the three month periods ended
December 31, 1999 and 1998:
Three Months Ended
December 31,
1999 1998
----------------------
Net income ....................... $1,250 $2,544
Earnings per common share - basic:
Income before cumulative effect
of accounting change............ $ 0.40 $ 0.40
Cumulative effect of accounting
change......................... - 0.43
Net income ...................... $ 0.40 $ 0.83
Earnings per common share - diluted:
Income before cumulative effect
of accounting change........... $ 0.38 $ 0.39
Cumulative effect of accounting
change......................... - 0.41
Net income ...................... $ 0.38 $ 0.80
<PAGE>
12 Form 10-Q - Part I
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
Three Months Ended
December 31,
1999 1998
----------------------
Number of Shares (in millions)
- ----------------------------------
Common shares - basic............. 3,154.5 3,077.5
Effect of dilutive securities:
Stock options.................... 108.1 87.9
Other............................ 5.4 6.9
Common shares - diluted........... 3,268.0 3,172.3
Options excluded from the
computation of earnings per
share - diluted since option
exercise price was greater than
the average market price of the
common shares for the period...... 0.8 11.2
6. OPERATING SEGMENTS
Lucent adopted SFAS No. 131, "Disclosures about Segments of an Enterprise and
Related Information," beginning with the 1999 Annual Report. This standard
requires disclosure of segment information on the same basis used internally for
evaluating segment performance and for deciding how to allocate resources to
segments.
Lucent operates in the global telecommunications networking industry and has
three reportable operating segments: Service Provider Networks ("SPN"),
Enterprise Networks ("Enterprise"), and Microelectronics and Communications
Technologies ("MCT"). SPN provides public networking systems and software to
telecommunications service providers and public network operators around the
world. Enterprise develops, manufactures, markets and services advanced
communications products and data networking systems for business customers. MCT
designs and manufactures high-performance integrated circuits, power systems and
optoelectronic components for applications in the communications and computing
industries. MCT also includes network products, new ventures and intellectual
property.
The three reportable operating segments are strategic market units that offer
distinct products and services. These segments were determined based on the
customers and the markets that Lucent serves. Each market unit is managed
separately as each operation requires different technologies and marketing
strategies. Intersegment transactions that occur are based on current market
prices and all intersegment profit is eliminated in consolidation.
<PAGE>
13 Form 10-Q - Part I
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
Performance measurement and resource allocation for the reportable operating
segments are based on many factors. The primary financial measure used is
Operating income, exclusive of goodwill and existing technology amortization,
and of purchased in-process R&D and other costs from business acquisitions
(acquisition/integration-related costs).
Lucent employs shared-service concepts to realize economies of scale and
efficient use of resources. The costs of shared services, and other corporate
center operations managed on a common basis, are allocated to the segments based
on usage, where possible, or other factors based on the nature of the activity.
The following tables present Lucent's revenues and operating income by
reportable operating segment:
Three Months Ended
December 31,
1999 1998
External Revenues ------------------
Service Provider Networks $ 6,216 $ 6,369
Enterprise Networks 2,005 1,929
Microelectronics and Communications Technologies 1,509 1,286
Total reportable segments 9,730 9,584
Other and corporate 175 258
Total External Revenues $ 9,905 $ 9,842
Intersegment Revenues
Service Provider Networks $ 55 $ 42
Enterprise Networks 35 70
Microelectronics and Communications Technologies 283 302
Total reportable segments 373 414
Other and corporate (373) (414)
Total Intersegment Revenues $ - $ -
Total Revenues
Service Provider Networks $ 6,271 $ 6,411
Enterprise Networks 2,040 1,999
Microelectronics and Communications Technologies 1,792 1,588
Total reportable segments 10,103 9,998
Other and corporate (198) (156)
Total Revenues $ 9,905 $ 9,842
<PAGE>
14 Form 10-Q - Part I
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
Operating Income
Service Provider Networks $ 1,210 $ 1,948
Enterprise Networks 185 90
Microelectronics and Communications Technologies 358 269
Total reportable segments (a) 1,753 2,307
Acquisition/integration-related costs (61) (296)
Goodwill and existing technology amortization (64) (59)
Other and corporate 71 14
Operating income 1,699 1,966
Other income--net 255 116
Interest expense (98) (78)
Income before income taxes $ 1,856 $ 2,004
(a) Segment operating income excludes goodwill and existing technology
amortization, and acquisition/integration-related costs.
7. COMMITMENTS AND CONTINGENCIES
In the normal course of business, Lucent is subject to proceedings, lawsuits and
other claims, including proceedings under government laws and regulations
related to environmental and other matters. Such matters are subject to many
uncertainties, and outcomes are not predictable with assurance. Consequently,
the ultimate aggregate amount of monetary liability or financial impact with
respect to these matters at December 31, 1999 cannot be ascertained. While these
matters could affect the operating results of any one quarter when resolved in
future periods and while there can be no assurance with respect thereto,
management believes that after final disposition, any monetary liability or
financial impact to Lucent in addition to that provided for at December 31, 1999
would not be material to the annual consolidated financial statements.
Lucent's current and historical operations are subject to a wide range of
environmental protection laws. In the United States, these laws often require
parties to fund remedial action regardless of fault. Lucent has remedial and
investigatory activities underway at numerous current and former facilities. In
addition, Lucent was named a successor to AT&T Corp. as a potentially
responsible party ("PRP") at
<PAGE>
15 Form 10-Q - Part I
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
numerous "Superfund" sites pursuant to the Comprehensive Environmental Response,
Compensation and Liability Act of 1980 ("CERCLA") or comparable state statutes.
Under the Separation and Distribution Agreement ("Separation and Distribution
Agreement"), among Lucent, AT&T and NCR Corporation, dated as of February 1,
1996 as amended and restated, Lucent is responsible for all liabilities
primarily resulting from or relating to the operation of Lucent's business as
conducted at any time prior to or after the separation from AT&T of the
businesses and operations transferred to form Lucent (the "Separation")
including related businesses discontinued or disposed of prior to the
Separation, and Lucent's assets including, without limitation, those associated
with these sites. In addition, under the Separation and Distribution Agreement,
Lucent is required to pay a portion of contingent liabilities paid out in excess
of certain amounts by AT&T and NCR, including environmental liabilities.
It is often difficult to estimate the future impact of environmental matters,
including potential liabilities. Lucent records an environmental reserve when it
is probable that a liability has been incurred and the amount of the liability
is reasonably estimable. This practice is followed whether the claims are
asserted or unasserted. Management expects that the amounts reserved will be
paid out over the periods of remediation for the applicable sites which
typically range from 5 to 30 years. Reserves for estimated losses from
environmental remediation are, depending on the site, based primarily upon
internal or third party environmental studies, estimates as to the number,
participation level and financial viability of any other PRPs, the extent of the
contamination and the nature of required remedial actions. Accruals are adjusted
as further information develops or circumstances change. The amounts provided
for in Lucent's consolidated financial statements for environmental reserves are
the gross undiscounted amount of such reserves, without deductions for insurance
or third party indemnity claims. In those cases where insurance carriers or
third party indemnitors have agreed to pay any amounts and management believes
that collectibility of such amounts is probable, the amounts are reflected as
receivables in the financial statements. Although Lucent believes that its
reserves are adequate, there can be no assurance that the amount of capital
expenditures and other expenses which will be required relating to remedial
actions and compliance with applicable environmental laws will not exceed the
amounts reflected in Lucent's reserves or will not have a material adverse
effect on Lucent's financial condition, results of operations or cash flows. Any
possible loss or range of possible loss that may be incurred in excess of that
provided for at December 31, 1999 cannot be estimated.
<PAGE>
16 Form 10-Q - Part I
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Millions Except Per Share Amounts)
(Unaudited)
8. SUBSEQUENT EVENTS
Agere, Inc.
- -----------
On January 20, 2000, Lucent announced an agreement to acquire privately-held
Agere, Inc., an Austin, Texas-based developer of programmable network processor
technology, for about 8 million shares of Lucent's common stock. Based on
Lucent's closing share price on January 19, 2000, the transaction would be worth
approximately $415. Lucent expects to account for the acquisition under the
purchase method of accounting. Lucent expects a significant portion of the
purchase price to be allocated to goodwill, which will be amortized over 7
years. The purchase is expected to result in a one-time charge against earnings
of an accounting write-off assigned to in-process research and development. The
Company expects the acquisition to be completed in the quarter ending June 30,
2000.
SpecTran Corporation
- --------------------
On February 1, 2000, Lucent acquired the remainder of SpecTran, resulting in a
total purchase price of approximately $68.
VTC Inc.
- -----------
On February 4, 2000, Lucent announced an agreement to acquire the products and
technology, and the design, marketing and sales teams of privately-held VTC
Inc., a Bloomington, Minnesota-based supplier of semiconductor components to
computer hard disk drive manufacturers, for approximately $100 in cash. VTC also
could receive up to an additional $50 over two years based on VTC meeting
certain performance-based manufacturing goals. Lucent expects a significant
portion of the purchase price to be allocated to goodwill and other intangible
assets, which will be amortized over periods not to exceed 7 years. The purchase
is expected to result in a one-time charge against earnings of an accounting
write-off assigned to in-process research and development. The Company expects
the acquisition to be completed in the quarter ending March 31, 2000.
Ortel Corporation
- -----------------
On February 7, 2000, Lucent announced an agreement to acquire Ortel Corporation,
an Alhambra, California-based developer of optoelectronic components for cable
TV networks, for about 52 million shares of Lucent's common stock. Based on
Lucent's closing share price on February 4, 2000, the transaction would be worth
approximately $2,950. Lucent expects to account for the acquisition under the
purchase method of accounting. Lucent expects a significant portion of the
purchase price to be allocated to goodwill and other intangible assets. The
purchase is also expected to result in a one-time charge against earnings of an
accounting write-off assigned to in-process research and development. The
Company expects the acquisition to be completed in the quarter ending June 30,
2000.
<PAGE>
17 Form 10-Q - Part I
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
HIGHLIGHTS
Lucent reported net income of $1,250 million, or $0.38 per share(diluted) for
the quarter ended December 31, 1999, Lucent's first fiscal quarter of 2000. This
compares with the year-ago quarterly net income of $2,544 million, or $0.80 per
share(diluted). Included in the prior quarterly results is a $1,308 million (or
$0.41 per share-diluted) cumulative effect of accounting change related to
Lucent's pension and postretirement benefits (see Note 2). Lucent's income
before the cumulative effect of the accounting change was $1,236 million (or
$0.39 per share-diluted) for the quarter ended December 31, 1998.
Net income for the quarter ended December 31, 1999 includes a gain of $189
million, pre-tax ($115 million, after-tax) associated with the sale of an equity
investment and a pre-tax charge of $61 million ($40 million, after-tax) to
operating expenses primarily associated with the mergers of International
Network Services ("INS"), Excel Switching Corp. and Xedia Corporation. Net
income for the quarter ended December 31, 1998 includes $296 million ($287
million, after-tax) of purchased in-process research and development expenses
primarily related to the acquisitions of Stratus and Quadritek.
On October 15, 1999, Lucent merged with INS, a global provider of network
consulting and software solutions. Pursuant to the merger agreement, the
outstanding INS stock was converted into the right to receive approximately 49.3
million shares of Lucent common stock. In addition, Lucent assumed outstanding
employee stock options covering approximately 16 million shares of Lucent common
stock. The transaction was accounted for as a pooling-of-interests.
On November 3, 1999, Lucent merged with Excel, a provider of open switching
solutions for telecom carriers. Under the terms of the agreement, the
outstanding Excel stock was converted into the right to receive approximately
22.3 million shares of Lucent common stock. The transaction was accounted for as
a pooling-of-interests.
<PAGE>
18 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
On November 12, 1999, Lucent merged with Xedia Corporation, a developer of
high-performance Internet access routers for wide area networks. Under the terms
of the agreement, the outstanding Xedia capital stock and warrants were
converted into the right to receive approximately 3.9 million shares of Lucent
common stock. The transaction was accounted for as a pooling-of-interests.
Lucent has not restated for this transaction in its financial statements due to
immateriality.
On January 19, 2000, Lucent announced an agreement to sell certain assets
related to the manufacturing portion of its consumer products business, subject
to customary conditions and regulatory approval. Lucent expects to complete the
transaction in the quarter ending March 31, 2000. On January 20, 2000, Lucent
closed the sale of the leased-based portion of its consumer products business,
which was the remaining portion of that business. These assets were previously
reacquired from the venture formed by Lucent and Philips Electronics N.V. (the
"PCC venture"), which ended in the quarter ended December 31, 1998. The
transactions are not expected to have a material impact on the results of
operations.
On January 20, 2000, Lucent announced an agreement to acquire privately-held
Agere, Inc., an Austin, Texas-based developer of programmable network processor
technology, for about 8 million shares of Lucent's common stock. Based on
Lucent's closing share price on January 19, 2000, the transaction would be worth
approximately $415. Lucent expects to account for the acquisition under the
purchase method of accounting. Lucent expects a significant portion of the
purchase price to be allocated to goodwill, which will be amortized over 7
years. The purchase is expected to result in a one-time charge against earnings
of an accounting write-off assigned to in-process research and development. The
Company expects the acquisition to be completed in the quarter ending June 30,
2000.
On February 1, 2000, Lucent acquired the remainder of SpecTran Corporation, a
designer and manufacturer of specialty optical fiber and fiber-optic products.
On July 21, 1999, Lucent began its cash tender offer for the outstanding shares
of SpecTran. The tender offer expired on August 31, 1999, and Lucent thereafter
accepted and paid for shares giving it a 61% interest in SpecTran. The
acquisition was accounted for under the purchase method of accounting and
resulted in a total purchase price of approximately $68 million.
On February 4, 2000, Lucent announced an agreement to acquire the products and
technology, and the design, marketing and sales teams of privately-held VTC
Inc., a Bloomington, Minnesota-based supplier of semiconductor components to
computer hard disk drive manufacturers, for approximately $100 in cash. VTC also
could receive up to an additional $50 over two years based on VTC meeting
certain performance-based manufacturing goals. Lucent expects a significant
portion of the purchase price to be allocated to goodwill and other intangible
assets, which will be amortized over periods not to exceed 7 years. The purchase
is expected to result in a one-time charge against earnings of an accounting
write-off assigned to in-process research and development. The Company expects
the acquisition to be completed in the quarter ending March 31, 2000.
<PAGE>
19 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
On February 7, 2000, Lucent announced an agreement to acquire Ortel Corporation,
an Alhambra, California-based developer of optoelectronic components for cable
TV networks, for about 52 million shares of Lucent's common stock. Based on
Lucent's closing share price on February 4, 2000, the transaction would be worth
approximately $2,950. Lucent expects to account for the acquisition under the
purchase method of accounting. Lucent expects a significant portion of the
purchase price to be allocated to goodwill and other intangible assets. The
purchase is also expected to result in a one-time charge against earnings of an
accounting write-off assigned to in-process research and development. The
Company expects the acquisition to be completed in the quarter ending June 30,
2000.
KEY BUSINESS CHALLENGES
Lucent continues to face significant competition and expects that the level of
competition on pricing and product offerings will intensify. Lucent expects that
new competitors will enter its markets as a result of the trend toward global
expansion by U.S. and non-U.S. competitors as well as continued changes in
technology and public policy. These competitors may include entrants from the
telecommunications, software, data networking, cable television and
semiconductor industries. Existing competitors have, and new competitors may
have, strong financial capabilities, technological expertise, well-recognized
brand names and a global presence. Such competitors may include Alcatel, Cisco
Systems, Inc., Ericsson, Nortel Networks, and Siemens AG. Lucent's management
periodically assesses market conditions and redirects the Company's resources to
meet new challenges. Steps Lucent may take include acquiring or investing in new
businesses and ventures, partnering with other companies, delivering new
technologies, closing and consolidating facilities, disposing of assets,
reducing work force levels and withdrawing from markets.
<PAGE>
20 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
Historically, revenues and earnings have been higher in the first fiscal quarter
primarily because many of Lucent's large customers delay a disproportionate
percentage of their capital expenditures until the fourth quarter of the
calendar year (Lucent's first fiscal quarter). Lucent has taken measures to
manage the seasonality of its business by changing the date on which its fiscal
year ends to September 30 and its compensation programs for employees, resulting
in a more uniform distribution of revenues and earnings among the four fiscal
quarters. Lower software revenues in the first fiscal quarter of 2000 compared
with the prior year quarter reflects an acceleration in the continuing trend by
service providers to acquire software more evenly thoughout the year. In the
past, these purchases occurred primarily in the quarter ending December 31.
The purchasing behavior of Lucent's largest customers has increasingly been
characterized by the use of fewer, larger contracts. These contracts typically
involve longer negotiating cycles, require the dedication of substantial amounts
of working capital and other resources, and in general require costs that may
substantially precede the recognition of associated revenues. Moreover, in
return for larger, longer-term purchase commitments, customers often demand more
stringent acceptance criteria, which can also cause revenue recognition delays.
Lucent has increasingly provided or arranged long-term financing for customers
as a condition to obtain or bid on infrastructure projects. Certain multiyear
contracts involve new technologies that may not have been previously deployed on
a large-scale commercial basis. On its multiyear contracts, Lucent may incur
significant initial cost overruns and losses that are recognized in the quarter
in which they become ascertainable. Further, profit estimates on such contracts
are revised periodically over the lives of the contracts, and such revisions can
have a significant impact on reported earnings in any one quarter.
Historically, a limited number of customers have provided a substantial portion
of Lucent's total revenues. These customers include AT&T, which continues to be
a significant customer, and the Regional Bell Operating Companies ("RBOCs"). The
communications industry is experiencing a consolidation of both U.S. and
non-U.S. companies. The loss of any of these customers, or any substantial
reduction in orders by any of these customers, could materially adversely affect
the Company's operating results. Changes in implementation plans by a number of
customers inside and outside the United States led to delays in network
deployments by enterprises and service providers in the first fiscal quarter of
2000.
Lucent is diversifying its customer base and seeking out new types of customers
globally. These new types of customers include competitive access providers and
local exchange carriers, wireless service providers, cable television network
operators and computer manufacturers.
<PAGE>
21 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
REVENUES - THREE MONTHS ENDED DECEMBER 31, 1999 VERSUS THREE MONTHS ENDED
DECEMBER 31, 1998
Total revenues increased 0.6% to $9,905 million in the quarter compared with the
same quarter of 1998, due to increases in sales from Enterprise Networks and
Microelectronics and Communications Technologies partially offset by decreases
in sales from Service Provider Networks. For the quarter, sales within the
United States increased by 5.4% compared with the same quarter in 1998 and sales
outside the United States decreased 7.8% compared with the same quarter last
year. Sales outside of the United States represented 32.8% of revenues for the
current quarter as compared to 35.8% of revenues for the year-ago quarter.
The following table presents Lucent's revenues by segment and the approximate
percentage of total revenues for the three months ended December 31, 1999 and
1998:
Three Months
Ended
December 31,
Dollars in Millions --------------------------------
1999 1998
------- -------
Service Provider Networks $6,216 63% $6,369 65%
Enterprise Networks 2,005 20 1,929 20
Microelectronics and Communications
Technologies 1,509 15 1,286 13
Other and Corporate 175 2 258 2
Total Lucent $9,905 100% $9,842 100%
Revenues from SERVICE PROVIDER NETWORKS decreased $153 million, or 2.4% in the
quarter compared with the same quarter in 1998. Factors contributing to the
lower than expected revenues included faster than anticipated shifts in
customers' purchases of new optical systems, resulting in manufacturing capacity
and deployment constraints; delays in network deployment plans by customers,
particularly outside the United States, which led to lower switching and
wireless revenues; and lower than expected software revenues, reflecting an
acceleration in the continuing trend by service providers to acquire software
more evenly throughout the year. The decrease was partially offset by increased
sales of data networking systems for service providers, optical networking
systems, and NetCare(R) Professional Services.
<PAGE>
22 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
Revenues generated from service providers in the United States increased 6.5%
for the quarter in comparison to the same quarter in 1998, and included revenue
gains from sales to RBOCs and competitive local exchange carriers. Sales
generated outside the United States decreased 15.7% over the year-ago quarter.
The decline in revenues outside the United States primarily reflects lower
revenues from the Europe/Middle East/Africa region. Revenues generated outside
the United States represented 34.7% of revenues for the quarter compared with
40.2% for the same quarter of 1998.
Revenues from ENTERPRISE NETWORKS increased $76 million, or 3.9% compared with
the year-ago quarter. Increased sales of Definity(R) Enterprise Communication
Servers, including those with Call Center applications, and NetCare(R)
Professional Services contributed to the increased revenue for the quarter. The
revenue gains were partially offset by decreased sales of Systimax(R) structured
cabling systems. Revenues within the United States increased 2.5% for the
quarter compared with the same quarter of 1998. Revenues generated outside the
United States increased by 10.0%, with revenue growth in the Asia/Pacific and
Europe/Middle East/Africa regions, as well as Canada. Revenues generated outside
the United States represented 20.7% of revenues for the quarter compared with
19.6% in the same quarter in 1998.
- --------------------------------------
(R) Registered trademark of Lucent
<PAGE>
23 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
Revenues from MICROELECTRONICS AND COMMUNICATIONS TECHNOLOGIES increased $223
million, or 17.3% compared with the year-ago quarter driven by sales of
optoelectronic components, power systems, and fiber optic cable, as well as
customized chips for high speed communications and data networking systems.
Revenues within the United States increased 19.4% compared to the same quarter
in 1998. Revenues generated outside the United States increased 15.0%. The
growth in revenues outside the United States was driven by sales in the
Caribbean/Latin America and the Europe/Middle-East/Africa regions. Revenues
generated outside the United States represented 44.8% of sales for the quarter
compared with 45.8% for the same quarter of 1998.
Revenues from OTHER AND CORPORATE decreased $83 million compared with the
year-ago quarter primarily due to lower revenues from the Company's consumer
products business.
COSTS AND GROSS MARGIN - THREE MONTHS ENDED DECEMBER 31, 1999 VERSUS THREE
MONTHS ENDED DECEMBER 31, 1998
Total costs increased by $629 million, or 13.6% compared with the year-ago
quarter in 1998 primarily due to a ramp-up of costs associated with the
introduction and implementation of new products. As a percentage of revenue,
gross margin decreased to 46.9% from 53.0% in the year-ago quarter. The decrease
reflects the ramp-up of costs and a change in product mix, including lower
software revenues.
OPERATING EXPENSES - THREE MONTHS ENDED DECEMBER 31, 1999 VERSUS THREE MONTHS
ENDED DECEMBER 31, 1998
Selling, general and administrative expenses as a percentage of revenues were
19.9% for the quarter, an increase of 0.2 percentage points compared with 19.7%
for the same quarter in 1998. Selling, general and administrative expenses
increased $32 million, or 1.7% compared with the same year-ago quarter. Included
in the current quarter expense is $61 million ($40 million, after-tax) primarily
associated with the mergers of INS, Excel and Xedia.
Amortization expense associated with goodwill and existing technology was $64
million for the quarter compared with $59 million for the year-ago quarter.
Excluding the amortization of goodwill and existing technology, selling, general
and administrative expenses as a percentage of revenues were 19.2% for the
quarter, an increase of 0.1 percentage points compared with 19.1% for the same
quarter in 1998.
<PAGE>
24 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
Research and development expenses represented 9.9% of revenues for the quarter
compared with 10.3% of revenues for the same quarter of 1998.
Research and development expenses decreased $35 million during the quarter
compared with the same quarter of 1998. This decrease was attributable to
efficiencies in Lucent's research and development processes as well as increases
in the capitalization of software expenses.
There were no purchased in-process research and development expenses for the
1999 quarter compared with $296 million related primarily to the acquisitions of
Stratus and Quadritek for the same quarter of 1998.
OTHER INCOME - NET, INTEREST EXPENSE AND PROVISION FOR INCOME TAXES - THREE
MONTHS ENDED DECEMBER 31, 1999 VERSUS THREE MONTHS ENDED DECEMBER 31, 1998
Other income - net increased $139 million to $255 million from $116 million from
the year-ago quarter. The increase consists primarily of gains from the sale of
various equity securities, including a $189 million gain from the sale of an
equity investment, partially offset by fees associated with certain customer
financing transactions in the current quarter.
Interest expense for the quarter increased $20 million to $98 million compared
with the same quarter in 1998. The increase in interest expense is due to higher
debt levels for the current quarter compared with the same quarter in 1998.
The effective income tax rate of 32.7% for the quarter decreased from the 38.3%
for the prior year quarter. Excluding the gain related to the sale of an equity
investment of $189 million ($115 million, after-tax) and one-time merger-related
costs in 1999 of $61 million ($40 million, after-tax) and the purchased
in-process research and development expenses associated with the Stratus and XNT
acquisitions in 1998, the effective income tax rate was 32.0% for the quarter
compared with 33.8% in the prior year quarter. This decrease was primarily due
to increased research and development tax credits.
CASH FLOWS - THREE MONTHS ENDED DECEMBER 31, 1999 VERSUS THREE MONTHS ENDED
DECEMBER 31, 1998
Cash provided by operating activities for the three months ended December 31,
1999 was $124 million compared with cash used in operating activities of $1,001
million in the same year-ago period. This increase in cash was primarily due to
higher collections of receivables offset by liquidations of accounts payable.
Cash provided by investing activities for the three months ended December 31,
1999 was $23 million compared with cash used in investing activities of $371
million in the same year-ago period. This increase in cash was primarily due to
increased proceeds from the sales of equity investments as well as the cash
settlement from the sale of an equity investment in the prior year.
<PAGE>
25 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
Capital expenditures were $587 million and $347 million for the three-month
periods ended December 31, 1999 and 1998, respectively. Capital expenditures
relate to expenditures for equipment and facilities used in manufacturing and
research and development, including expansion of manufacturing capacity, and
expenditures for efficiency efforts and non-U.S. growth.
Cash provided by financing activities for the three months ended December 31,
1999 was $203 million compared with $1,622 million in the same year-ago period.
This decrease in cash provided by financing activities was primarily due to
decreased issuances of both short- and long-term debt partially offset by the
increase in proceeds from the issuance of common stock.
FINANCIAL CONDITION
Total assets decreased $616 million, or 1.6%, from fiscal year-end 1999. This
decrease was largely due to decreases in other current assets and receivables of
$897 million and $420 million, respectively partially offset by increases in
cash and inventories of $339 million and $316 million, respectively. Other
current assets decreased due to lower notes receivable and the cash settlement
from the sale of an equity investment. Receivables decreased due to lower sales
volume and the impact of certain customer financing transactions.
Total liabilities decreased $2,759 million, or 10.9% from fiscal year-end 1999.
This decrease was due primarily to decreases in accounts payable and lower
payroll and benefit liabilities due to the pay-out of year-end bonus.
Working capital, defined as current assets less current liabilities, increased
$1,285 million from September 30, 1999, primarily resulting from the decrease in
accounts payable and payroll and benefit liabilities partially offset by a
decrease in other current assets.
The ratio of total debt to total capital (debt plus equity) was 28.8% at
December 31, 1999 compared to 33.6% at September 30, 1999.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1999, Lucent maintained approximately $5.0 billion in credit
facilities of which a significant portion is available to support Lucent's
commercial paper program. At December 31, 1999, approximately $4.6 billion was
unused.
Future financings will be arranged to meet Lucent's requirements with the
timing, amount and form of issue depending on the prevailing market and general
economic conditions. Lucent anticipates that borrowings under its bank credit
facilities, the issuance of additional commercial paper, cash generated from
operations, short- and long-term debt financings and receivable securitizations
will be adequate to satisfy its future cash requirements, although there can be
no assurance that this will be the case.
<PAGE>
26 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
Network operators worldwide are requiring their suppliers to arrange or provide
long-term financing for them as a condition of obtaining or bidding on
infrastructure projects. These projects may require financing in amounts ranging
from modest sums to more than a billion dollars. Lucent has increasingly
provided or arranged long-term financing for customers. As market conditions
permit, Lucent's intention is to lay off these long-term financing arrangements,
which may include both commitments and drawn-down borrowings, to financial
institutions and other investors. This enables Lucent to reduce the amount of
its commitments and free up additional financing capacity.
As of December 31, 1999, Lucent had made commitments or entered into agreements
to extend credit to certain customers, including PCS and wireless operators, for
an aggregate of approximately $8.4 billion. Excluding amounts that are not
available because the customer has not yet satisfied the conditions precedent
for borrowing, at December 31, 1999, approximately $2.4 billion in loan
commitments was available for borrowing and undrawn and approximately $1.1
billion had been advanced and was outstanding. In addition, Lucent had made
commitments to guarantee customer debt of about $1.4 billion at December 31,
1999. Excluding amounts not available for guarantee because conditions precedent
have not been satisfied, approximately $500 million of guarantees was available
and undrawn and about $650 million was outstanding on December 31, 1999. Lucent
has determined that the receivables under these contracts are reasonably assured
of collection based on various factors among which is the ability of Lucent to
sell these loans and commitments. Lucent intends to continue pursuing
opportunities for the sale of future loans and commitments.
In connection with Lucent's commitment to provide financing for a customer,
Lucent sold approximately $625 million of accounts receivable during September
1999. Lucent repurchased $408 million of these receivables and the previously
reported arrangement was terminated during December 1999. In addition, Lucent
established a new arrangement whereby its subsidiary sold $750 million of
accounts receivable (including the repurchased receivables described above) to a
consortium of banks with limited recourse. As a result of these transactions,
receivables were reduced by $342 million and cash flows from operating
activities were increased by $312 million.
<PAGE>
27 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
In addition to the above arrangements, Lucent will continue to provide or commit
to financing where appropriate for its business. The ability of Lucent to
arrange or provide financing for its customers will depend on a number of
factors, including Lucent's capital structure and level of available credit, and
its continued ability to lay off commitments and drawn-down borrowings on
acceptable terms. Lucent believes that it will be able to access the capital
markets on terms and in amounts that will be satisfactory to Lucent and that it
will be able to obtain bid and performance bonds, to arrange or provide customer
financing as necessary, and to engage in hedging transactions on commercially
acceptable terms, although there can be no assurance that this will be the case.
RISK MANAGEMENT
Lucent is exposed to market risk from changes in foreign currency exchange rates
and interest rates that could impact its results of operations, financial
condition and cash flows. Lucent manages its exposure to these market risks
through its regular operating and financing activities and, when deemed
appropriate, through the use of derivative financial instruments. Derivative
financial instruments that are used to hedge foreign currency and interest rate
exposure are viewed as risk management tools and are not used for speculative or
trading purposes. In addition, derivative financial instruments are entered into
with a diversified group of major financial institutions in order to manage
Lucent's exposure to nonperformance on such instruments.
Certain securities held in Lucent's equity and investment portfolio are subject
to equity price risk. Lucent generally does not hedge its equity price risk,
however on occasion, may use equity derivative financial instruments which are
subject to equity price risks to complement its investment strategies. Lucent
has entered into an equity swap agreement, which among the terms included in the
agreement, Lucent is obligated to pay to a third party in July 2000 and
September 2000 any depreciation in the market value of certain equity securities
sold during the three months ended December 31, 1999 or receive any appreciation
in such market value. Any changes in the market value of this equity swap will
be reflected in net income in subsequent quarters.
Lucent uses foreign currency exchange contracts, and to a lesser extent foreign
currency options, to reduce significant exposure to the risk that the eventual
net cash inflows and outflows resulting from the sale of products to non-U.S.
customers and purchases from non-U.S. suppliers will be adversely affected by
changes in exchange rates. Foreign currency exchange contracts are designated
for recorded, firmly committed or anticipated purchases and sales. The use of
these derivative financial instruments allows Lucent to reduce its overall
exposure to exchange rate movements, since the gains and losses on these
contracts substantially offset losses and gains on the assets, liabilities and
transactions being hedged.
<PAGE>
28 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
Lucent manages its ratio of fixed to floating rate debt with the objective of
achieving a mix that management believes is appropriate. To manage this mix in a
cost effective manner, Lucent, from time to time, enters into interest rate swap
agreements, in which it agrees to exchange various combinations of fixed and/or
variable interest rates based on agreed upon notional amounts. Lucent had no
interest rate swap agreements in effect as of December 31, 1999 and September
30, 1999. Management does not foresee or expect any significant changes in its
exposure to interest rate fluctuations or in how such exposure is managed in the
near future.
IN-PROCESS RESEARCH AND DEVELOPMENT
In connection with the purchase of Stratus, Lucent allocated $267 million to
purchased in-process research and development. As part of the process of
analyzing this acquisition, Lucent made a decision to buy technology that had
not yet been commercialized rather than develop the technology internally.
Lucent based this decision on factors such as the amount of time it would take
to bring the technology to market. Lucent also considered Bell Labs' resource
allocation and its progress on comparable technology, if any. Lucent management
expects to use the same decision process in the future.
Lucent estimated the fair value of in-process research and development using an
income approach. This involved estimating the fair value of the in-process
research and development using the present value of the estimated after-tax cash
flows expected to be generated by the purchased in-process research and
development, using risk-adjusted discount rates and revenue forecasts as
appropriate. The selection of the discount rate was based on consideration of
Lucent's weighted average cost of capital, as well as other factors, including
the useful life of each technology, profitability levels of each technology, the
uncertainty of technology advances that were known at the time, and the stage of
completion of each technology. Lucent believes that the estimated in-process
research and development amounts so determined represent fair value and do not
exceed the amount a third party would pay for the projects.
Where appropriate, Lucent deducted an amount reflecting the contribution of the
core technology from the anticipated cash flows from an in-process research and
development project. At the date of acquisition, the in-process research and
development projects had not yet reached technological feasibility and had no
alternative future uses. Accordingly, the value allocated to these projects was
capitalized and immediately expensed at acquisition. If the projects are not
successful or completed in a timely manner, management's product pricing and
growth rates may not be achieved and Lucent may not realize the financial
benefits expected from the projects.
Set forth below is a description of the acquired in-process research and
development projects of Stratus, including their status at the end of the
quarter ended December 31, 1999.
<PAGE>
29 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
Stratus
- -------
On October 20, 1998, Ascend completed the purchase of Stratus for $917 million.
Stratus was a manufacturer of fault-tolerant computer systems. The allocation to
in-process research and development of $267 million represented its estimated
fair value using the methodology described above. The primary projects that made
up the in-process research and development were as follows: HP-UX, Continuum
1248, Continuum 448, M708, SPHINX, HARMONY, LNP, CORE IN, Personal Number
Portability (PN), Signaling System 7 (SS7) Gateway and Internet Gateway.
Revenues attributable to the projects were estimated to be $84 million in 1999
and $345 million in 2000. Revenue was expected to peak in 2002 and decline
thereafter through the end of the product's life (2009) as new product
technologies were expected to be introduced by Lucent. Revenue growth was
expected to decrease from 310% in 2000 to 6% in 2002, and be negative for the
remainder of the projection period. At the acquisition date, costs to complete
the research and development efforts related to the projects were expected to be
$48 million.
A risk-adjusted discount rate of 35% was utilized to discount projected cash
flows.
The actual results to date have been consistent, in all material respects, with
our assumptions at the time of the acquisition, except as noted below. During
fiscal 1999, the product development relating to the HARMONY, SPHINX, and
Continuum 448 projects were discontinued due to management's reprioritization of
product direction. In addition, it was decided that the development relating to
the Continuum 1248 would cease by the quarter ending December 31, 1999.
Consequently, Lucent did not realize the forecasted revenues from these
projects.
OTHER - Environmental Matters
See discussion above in Note 7 to the Consolidated Financial Statements.
FORWARD-LOOKING STATEMENTS
This Management's Discussion and Analysis of Results of Operations and Financial
Condition and other sections of this report contain forward-looking statements
that are based on current expectations, estimates, forecasts and projections
about the industries in which Lucent operates, management's beliefs and
assumptions made by management. In addition, other written or oral statements
which constitute forward-looking statements may be made by or on behalf of
Lucent. Words such as "expects," "anticipates," "intends," "plans," "believes,"
"seeks," "estimates," variations of such words and similar expressions are
intended to identify such forward-looking statements. These statements are not
guarantees of future performance and involve certain risks, uncertainties and
assumptions ("Future Factors") which are difficult to predict. Therefore, actual
outcomes and results may differ materially from what is expressed or forecasted
in such forward-looking statements. Lucent undertakes no obligation to update
publicly any forward-looking statements, whether as a result of new information,
future events or otherwise.
<PAGE>
30 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
Future Factors include increasing price and products and services competition by
non-U.S. and U.S. competitors, including new entrants; rapid technological
developments and changes and the Company's ability to continue to introduce,
manufacture and deploy competitive new products and services on a timely,
cost-effective basis; the mix of products and services; the achievement of lower
costs and expenses; customer demand for the Company's products and services; the
ability to successfully integrate the operations and business of acquired
companies; U.S. and non-U.S. governmental and public policy changes that may
affect the level of new investments and purchases made by customers; changes in
environmental and other U.S. and non-U.S. governmental regulations; protection
and validity of patent and other intellectual property rights; reliance on large
customers; technological, implementation and cost/financial risks in the
increasing use of large, multiyear contracts; the cyclical nature of the
Company's business; the outcome of pending and future litigation and
governmental proceedings and continued availability of financing, financial
instruments and financial resources in the amounts, at the times and on the
terms required to support the Company's future business. These are
representative of the Future Factors that could affect the outcome of the
forward-looking statements. In addition, such statements could be affected by
general industry and market conditions and growth rates, general U.S. and
non-U.S. economic conditions, including interest rate and currency exchange rate
fluctuations and other Future Factors.
For a further description of Future Factors that could cause actual results to
differ materially from such forward-looking statements, see below in this report
including the other sections referred to and also see the discussion in Lucent's
Form 10-K for the year ended September 30, 1999 in Item 1 in the section
entitled "X. OUTLOOK- A. Forward Looking Statements" and the remainder of the
OUTLOOK section.
Competition:
See discussion above under KEY BUSINESS CHALLENGES.
<PAGE>
31 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
Dependence on New Product Development
The markets for the Company's principal products are characterized by rapidly
changing technology, evolving industry standards, frequent new product
introductions and evolving methods of building and operating communications
systems for network operators and business customers. The Company's operating
results will depend to a significant extent on its ability to continue to
introduce, manufacture and deploy new systems, products, software and services
successfully on a timely basis and to reduce costs of existing systems,
products, software and services. The success of these and other new offerings is
dependent on several factors, including proper identification of customer needs,
cost, timely completion and introduction, differentiation from offerings of the
Company's competitors and market acceptance. In addition, new technological
innovations generally require a substantial investment before any assurance is
available as to their commercial viability, including, in some cases,
certification by non-U.S. and U.S. standard-setting bodies.
Reliance on Major Customers:
See discussion above under KEY BUSINESS CHALLENGES.
Readiness for Year 2000
Lucent's information technology systems, facilities and production
infrastructure have not experienced any material adverse impacts as a result of
the Year 2000 date transition. Similarly, there have been no material Year 2000
impacts reported with respect to the Company's products that were classified as
Year 2000 ready. In addition, the Company experienced no material supply chain
problems related to the date transition.
<PAGE>
32 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
European Monetary Union - Euro:
On January 1, 1999, eleven member countries of the European Union established
fixed conversion rates between their existing sovereign currencies, and adopted
the Euro as their new common legal currency. The legacy currencies will remain
legal tender in the participating countries for a transition period between
January 1, 1999 and January 1, 2002. During the transition period, cash-less
payments can be made in the Euro. Between January 1, 2002 and July 1, 2002, the
participating countries will introduce Euro notes and coins and withdraw all
legacy currencies so that they will no longer be available.
Lucent has in place a joint European-United States team representing affected
functions within the Company. This team is evaluating Euro related issues
affecting the Company that include its pricing/marketing strategy, conversion of
information technology systems, existing contracts and currency risk and risk
management in the participating countries. The Euro conversion may affect
cross-border competition by creating cross-border price transparency.
Lucent will continue to evaluate issues involving introduction of the Euro as
further accounting, tax and governmental legal and regulatory guidance is
available. Based on current information and Lucent's current assessment, Lucent
does not expect that the Euro conversion will have a material adverse effect on
its business or financial condition.
Employee Relations:
On December 31, 1999, Lucent employed approximately 153,000 persons, including
77.2% located in the United States. Of these domestic employees, approximately
38% are represented by unions, primarily the Communications Workers of America
("CWA")and the International Brotherhood of Electrical Workers ("IBEW"). Lucent
has agreements with the CWA and IBEW expiring May 31, 2003.
Multi-Year Contracts:
Lucent has significant contracts for the sale of infrastructure systems to
network operators which extend over a multi-year period, and expects to enter
into similar contracts in the future, with uncertainties affecting recognition
of revenues, stringent acceptance criteria, implementation of new technologies
and possible significant initial cost overruns and losses. See also discussion
above under LIQUIDITY AND CAPITAL RESOURCES and KEY BUSINESS CHALLENGES.
Seasonality:
See discussion above under KEY BUSINESS CHALLENGES.
Future Capital Requirements:
See discussion above under FINANCIAL CONDITION and LIQUIDITY AND CAPITAL
RESOURCES.
<PAGE>
33 Form 10-Q - Part I
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
Growth Outside the U.S., Foreign Exchange and Interest Rates:
Lucent intends to continue to pursue growth opportunities in markets outside the
U.S. In many markets outside the U.S., long-standing relationships between
potential customers of Lucent and their local providers, and protective
regulations, including local content requirements and type approvals, create
barriers to entry. In addition, pursuit of such growth opportunities outside the
U.S. may require significant investments for an extended period before returns
on such investments, if any, are realized. Such projects and investments could
be adversely affected by reversals or delays in the opening of foreign markets
to new competitors, exchange controls, currency fluctuations, investment
policies, repatriation of cash, nationalization, social and political risks,
taxation, and other factors, depending on the country in which such opportunity
arises. Difficulties in foreign financial markets and economies, and of foreign
financial institutions, could adversely affect demand from customers in the
affected countries.
See discussion above under RISK MANAGEMENT with respect to foreign exchange and
interest rates. A significant change in the value of the dollar against the
currency of one or more countries where Lucent sells products to local customers
or makes purchases from local suppliers may materially adversely affect Lucent's
results. Lucent attempts to mitigate any such effects through the use of foreign
currency contracts, although there can be no assurances that such attempts will
be successful.
Lucent hedges certain foreign currency transactions. The decline in value of
non-U.S. dollar currencies, may, if not reversed, adversely affect Lucent's
ability to contract for product sales in U.S. dollars because Lucent's products
may become more expensive to purchase in U.S. dollars for local customers doing
business in the countries of the affected currencies.
Legal Proceedings and Environmental:
See discussion above in Note 7 to the Consolidated Financial Statements.
RECENT PRONOUNCEMENTS
Effective October 1, 1999, Lucent adopted Statement of Position 98-1,
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use" ("SOP 98-1"). As a result, certain costs of computer software
developed or obtained for internal use have been capitalized and will be
amortized over a three year period. The impact of adopting SOP 98-1 was a
reduction of costs and operating expenses of $80 million during the three months
ended December 31, 1999.
<PAGE>
34 Form 10-Q - Part II
Part II - Other Information
Item 1. Legal Proceedings
As of February 10, 2000, Lucent is aware of 12 purported class action lawsuits
that have been filed against Lucent and certain of its officers, alleging
violations of federal securities laws. All of the actions were filed in the
United States District Court for the District of New Jersey on behalf of persons
who allegedly purchased Lucent's common stock between late October 1999 and
January 6, 2000. The actions essentially duplicate one another and plead
substantially the same allegations, claiming violations of Sections 10(b) and
20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated
thereunder, and specifically alleging, among other things, that beginning in
late October 1999 Lucent and certain of its officers misrepresented Lucent's
financial condition and failed to disclose material facts that would have an
adverse effect on Lucent's future earnings and prospects for growth. The
actions seek compensatory and other damages, and costs and expenses associated
with the litigation. Lucent believes these complaints are without merit and
intends to defend the actions vigorously.
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits:
Exhibit Number
(12) Computation of Ratio of Earnings to Fixed Charges
(27) Financial Data Schedule
(b) Reports on Form 8-K:
Current Report on Form 8-K dated October 15, 1999 was filed on October 29,
1999 pursuant to Item 2 (Acquisition or Disposition of Assets) and Item 7
(Financial Statements, Pro Forma Financial Information and Exhibits).
Current Report on Form 8-K dated and filed on November 19, 1999 pursuant to
Item 5 (Other Events).
<PAGE>
35 Form 10-Q
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Lucent Technologies Inc.
Date February 11, 2000
/s/ James S. Lusk
------------------------------
James S. Lusk
Senior Vice President and Controller
(Principal Accounting Officer)
<PAGE>
36 Form 10-Q
Exhibit Index
Exhibit
Number
(12) Computation of Ratio of Earnings to Fixed Charges
(27) Financial Data Schedule
<PAGE>
EX-12
Statement re: Computation of Ratios
Exhibit 12
Form 10-Q
For the Three
Months Ended
December 31, 1999
Lucent Technologies Inc.
Computation of Ratio of Earnings to Fixed Charges
(Dollars in Millions)
(Unaudited)
For the Three
Months Ended
December 31, 1999
Income Before Income Taxes............................. $ 1,856
Less Interest Capitalized during
the Period........................................... 6
Less Undistributed Earnings of Less than 50%
Owned Affiliates..................................... 0
Add Fixed Charges...................................... 171
Total Earnings ........................................ $ 2,021
Fixed Charges
Total Interest Expense Including Capitalized Interest.. $ 115
Interest Portion of Rental Expense..................... 56
Total Fixed Charges................................ $ 171
Ratio of Earnings to Fixed Charges..................... 11.8
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This schedule contains summary financial information extracted from the
unaudited balance sheet of Lucent at December 31, 1999 and the unaudited
consolidated statement of income for the three month period ended December 31,
1999 and is qualified in its entirety by reference to such financial
statements.
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