Sierra Wireless' Uphill Climb


Wireless modem maker Sierra Wireless (SWIR) was the dog of the Nasdaq on June 25 after the company cut its second- and third-quarter forecasts. That prompted analysts to downgrade ratings on its stock. When the dust had settled, Sierra's shares shed $5.40, or 28%, closing at $14.

A victim of the economic slowdown, this designer of PC cards, modems, and software used for handheld and notebook computing devices said second-quarter revenue is now expected to be $18 million to $20 million instead of the previously forecast $24 million. With charges, including a one-time charge for excess inventory of $8 million, Sierra Wireless expects to report a loss for the second quarter of between $11.8 million and $12.5 million, or between $0.73 and $0.78 a share. For the third-quarter, revenues are expected to come in at $21 million, with net earnings of $100,000 and earnings per share at breakeven. This is below Street expectations of four cents a share.

BusinessWeek Online's Alan Hughes recently met with David Sutcliffe, chairman and CEO of Sierra Wireless, to talk about the company's situation and when an improvement could be expected. Here are edited excerpts of their conversation:

Q: Your company has warned that second-quarter revenues and earnings would fall below previous guidance. What were the contributing factors?

A: There's a couple of things. One is most of our end customers are in the enterprise or government space, and we're seeing some review their capital-spending plans and their operating-spending plans in light of the overall economy. And they're either delaying purchasing decisions or shortening the order lead time. I should mention that we do over 90% of all of our sales through indirect distribution channels.

The second effect we're noticing is that some of our indirect distribution channels have inventory of our products and again, because of overall economic conditions, are looking to reduce their inventories. So as they...reduce the inventory level...they don't necessarily reorder from us as quickly as they would've in previous quarters.

People are adjusting inventories. And that's happening to companies all the way up the distribution supply chain. We've been tightening up our inventories, our customers are tightening up, our channels are tightening up, so our suppliers are feeling it, too. So there's a ripple effect as everyone in the system tightens up on inventory.

Q: Do you have any projections as to when demand will pick up again?

A: We gave preliminary guidance for the July-September quarter. We forecasted that there would be a modest sequential increase to about $21 million in revenue from our estimate for the second quarter of $18 to $20 million. So we think [demand increase] will be modest.

Q: How are you faring compared to your competition?

A: To answer that question properly, we'd have to say what industry we're talking about. Our little subsegment is the wireless and data modem area. But more generally speaking, we operate in the wireless communications equipment sector, and that includes big infrastructure companies like Nortel, Lucent, and Ericsson.

It also includes the handset companies -- Nokia, Ericsson, Motorola. I think it's fair to say we're feeling the slowdown less severely than the infrastructure equipment companies, and we're probably feeling it to a similar degree as the handset companies.

Q: What strategies are you using to cope with the slowdown?

A: We slowed the rate at which our expenses were growing about a quarter ago, and this quarter we've tightened that up further. In fact, we expect in the second quarter to come in about half a million lower on operating expense than even the tightened up level that we indicated back at the beginning of April. Much of those savings have come from not hiring new employees. Other savings have come from tightening up on operating expense categories like travel.

Q: Any layoffs?

A: No.

Q: I've read that one of your customers, Metricom -- which provides the Ricochet wireless service -- could go out of business should it not acquire new capital. How badly would Sierra be affected? [Since this inverview, Metricom has declared bankruptcy. Asked for comment, Sutcliffe referred to previously published statements.]

A: We have three other major carrier orders. Metricom is the only large order we have from an emerging...carrier. The other three major carrier partners that we have significant orders from are Sprint PCS, AT&T Wireless, and Verizon Wireless. In the news releases, we also announced one-time charges to write down inventory and to provide for possible doubtful accounts. The inventory writedown was $8 million and the allowance for doubtful accounts was an increase of $3 million.

Neither of those writedowns or allowances are specific to Metricom, but the inventory writedown does include a Ricochet inventory writedown. And the writedown for doubtful accounts is approximately equivalent to our outstanding account receivable with Metricom.

Q: What percentage of revenues are attributed to sales to Metricom?

A: Although we're a public company, we don't report segmented information by carrier, so I have to duck that question with an apology for ducking any question.

Q: Can you give me any indication as to how key Metricom-related sales are to your overall business?

A: We just started shipping Metricom products in March of this year, so until then, they were zero percent of our business. And as I said, we have large carrier relationships and contracted orders with AT&T Wireless, Sprint PCS, and Verizon Wireless and those represent significant parts of our business mix.

And we have an established product portfolio based on the current generation of wireless technology, CDPD, that's also a very important part of our revenue portfolio. Also in the most recent quarter we've reported, no one distribution channel represented a majority of our business.

Q: Can you see the light at the end of this tunnel?

A: Forecasting is hard....We think there's a fundamental underlying growth trend that's being tempered by the current economic downturn and by channel inventories. And as channel inventories clear, the underlying increase in adoption [of wireless service] will drive continued growth.

If you look at cellular service itself, introduced in North America in approximately 1985, it has enjoyed tremendous growth. And there have been a number of economic downturns during those years, but those things pass, and the underlying growth trend assets itself, and growth continues.


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