Nortel Networks Corporation

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Nortel Networks Corporation

8200 Dixie Road
Suite 100
Brampton, Ontario L6T 5P6
Canada
Telephone: (905) 863-0000
Fax: (905) 863-3408
Web site: http://www.nortelnetworks.com

Public Company
Incorporated: 1914 as Northern Electric Company, Limited
Employees: 70,000
Sales: US$22.22 billion (1999)
Stock Exchanges: New York Toronto
Ticker Symbol: NT
NAIC: 334210 Telephone Apparatus Manufacturing; 334220 Radio and Television Broadcasting and Wireless Communications Equipment Manufacturing; 334290 Other Communications Equipment Manufacturing; 334419 Other Electronic Component Manufacturing; 511210 Software Publishers; 541512 Computer Systems Design Services

Nortel Networks Corporation is one of the world’s leading providers of networking products and services, with a particular emphasis on the Internet but also active in both public and private voice, data, and video networks. Serving Internet service providers, telecommunications carriers, large to small businesses, and dot-corns, Nortel offers a full range of products and services in several areas of networking: Internet protocol, high-speed access, long distance, optical, and wireless. Nortel was founded as the telephone equipment arm of Bell Canada, and for much of its history it acted in that capacity. During the final decades of the 20th century Nortel gained more and more independence from Bell Canada and its eventual parent, BCE Inc., and by 2000 BCE’s interest in Nortel had been reduced to less than four percent. Meantime, Nortel’s astonishingly rapid emergence at the forefront of Internet technology by the early 21st century resulted from a more than $30 billion acquisition spree that began in late 1997.

Founded As Arm of Bell Canada in Late 1800s

Nortel’s origins can be traced back to 1880, four years after Alexander Graham Bell invented the telephone in 1876. In that year Bell Telephone Company of Canada (Bell Canada) was founded. To develop adequate telephone equipment for the fledgling company, Bell established its mechanical department on July 24, 1882, in Montreal, Canada, with a staff of three that soon expanded to 11. Success came early to the company, and five years later the mechanical department moved to a larger facility to accommodate a staff that had increased to 54.

The growth led to Bell Canada taking out a charter in 1895 for a separate company to take over the mechanical depart-ment’s work. On December 7 of that year, Northern Electric and Manufacturing Company, Limited was incorporated under the dominion charter. With C.F. Sise as president, the company called its first general meeting of stockholders on March 24, 1896. By 1902 Northern Electric employed 250 people and occupied a 48,000-square-foot plant, which it leased from Bell Canada. That plant had expanded to 241,000 square feet in 1912, the year Northern Electric and Bell Canada worked out a deal whereby Northern would become the storekeeper and purchasing agent for Bell. Meantime, Western Electric Company, the manufacturing arm of National Bell (predecessor of American Telephone and Telegraph [AT&T]), had purchased a stake in Northern in 1906.

In 1895 C.F. Sise had bought a small plant from Alexander Barrie that was involved in manufacturing rubber-coated wire for the fast-growing electrical industry. In turn, Sise offered the company to Bell Canada for what it had cost him. Bell Canada accepted the offer, and on December 19, 1899, the Wire & Cable Company, as the enterprise became known, was granted a province of Quebec charter. Sise was appointed president and Barrie superintendent. In 1901 Western Electric bought a stake in Wire & Cable. A big success, Wire & Cable replaced its provincial charter with a dominion charter in 1911 and changed its name to Imperial Wire & Cable Company.

By then both Northern Electric and Imperial Wire & Cable were playing vital roles as Canada’s major suppliers of tele-phone equipment. In many operational areas, however, their needs and interests overlapped. The management of both companies realized that to increase efficiency and to reduce over-head, the two enterprises should amalgamate. On July 5, 1914, they consolidated under the laws of Canada into Northern Electric Company Limited, which was initially owned primarily by Bell Canada (50 percent) and Western Electric (43.6 percent). Bell Canada increased its stake to 56.3 percent in 1929.

While the general sales division continued to be located in Montreal, the company established supply and repair divisions for western Canada in 1929 and for the Maritime region in 1944. Despite the Great Depression, which forced Northern to cut back production, the company still managed to grow. It established the electronics division in 1931 and expanded its base of operations by purchasing a majority interest in Amalga-mated Electric Company Ltd. in 1932 and, in 1935, by launching Dominion Sound Equipment Ltd., a wholly owned subsidiary that supplied Canada with electric sound equipment, acoustic and sound proofing supplies, radio and broadcasting sound equipment, and other lines of electrical equipment.

When the Depression ended, Northern became involved in Canada’s World War II effort, converting 95 percent of its operation to war production. By 1944 most of the company’s 9,325 employees were engaged in this activity. Soon after the war’s end in 1945, Northern immediately began a flurry of construction to meet the expanding communications needs of Canada’s growing communities. As a measure of its continuing growth, Northern’s workforce expanded to 12,775 by 1948.

Achieving Independence from Western Electric: 1950s–60s

As a result of being partially owned by Western Electric, Northern Electric operated much like a “branch plant” of the U.S. firm. Consequently, Northern had a small research and development staff, and its sales efforts were confined to Canada. As its main function was to manufacture Western Electric products for Bell Canada, Northern Electric’s product line generally lagged behind Western Electric’s by two to three years.

Northern Electric ceased operating like a branch plant in 1956 when Western Electric signed a consent decree with the U.S. Department of Justice in which it agreed to relinquish its interest in Northern Electric. Bell Canada acquired most of Western Electric’s interest in Northern Electric in 1957 and the remainder in 1962, at which point Bell Canada held 99.99 percent of Northern’s stock. By 1964, Bell Canada had purchased the remaining shares, making Northern Electric 100 percent Bell Canada-owned.

With no product line of its own, and with management knowing that it had to start one to remain competitive, Northern Electric stepped up its research and development efforts, establishing Northern Electric Laboratories—with a staff of 30 to 40 people—in 1958. In 1965 the company made a commitment to develop a switching device known as SP-1, a stored program switch system, which it believed would meet the needs of the Canadian market and spur economic growth. From 12 researchers in 1965, the product development team working on SP-1 grew to more than 100 by the end of the decade. The commitment paid off when Northern put its product on the market. By 1975 not only had every major telephone company in Canada bought the switch, but 25 percent of all sales were being made in the United States.

1970s and Early 1980s: Increasingly Independent, Rolling Out the First Digital Switch

Northern Electric’s research and development division had become a conglomerate itself, mushrooming to more than 2,000 employees, and eventually incorporating as a separate entity. On January 1,1971, Northern Electric’s subsidiary, Bell-Northern Research Ltd. (BNR) was formed. In 1973 Bell Canada sold a portion of Northern Electric’s shares to the public through an initial public offering, while retaining a majority holding of 90.1 percent. Bell Canada continued to reduce its stake over the remainder of the decade, from 89.9 percent in 1974 to 54.5 percent in 1979. After BCE Inc. was created as the new parent company of Bell Canada in 1983, BCE then held a 53.4 percent stake in Northern.

During the 1970s the company established many new subsidiaries, such as Northern Telecom (International) B.V. in Amsterdam, and Northern Telecom (Asia) Limited in Singa-pore and Hong Kong, both established in 1974. These subsidiar ies reflected its increasingly strong presence in the international marketplace. In 1976 the company’s name was changed to Northern Telecom Limited (Northern) to reflect the great advances it had made in manufacturing modern telecommunications equipment.

That same year Northern introduced the first fully digital switch. Although AT&T did not immediately authorize its affiliates to buy the switches, independent U.S. telephone companies quickly did, and by 1978 Northern’s sales had jumped b 130 percent from the previous year. The demand for the company’s digital switches received a big boost in 1981 when AT&T approved the purchase of the switches for its affiliates. In 1984 the U.S. government broke up AT&T, and sales of Northern’s digital switches skyrocketed, with volume increasing 1,200 percent over that of 1976.

Company Perspectives

Nortel Networks is a global leader in telephony, data, wireless, and wireline solutions for the Internet. Today, Nortel Networks is creating a high-performance Internet that is more reliable and faster than ever before. It is redefining the economics and quality of networking and the Internet through Unified Networks that promise a new era of collaboration, communications, and commerce.

Northern had ignored conventional business wisdom and taken chances to rise within the industry. As one company official said, “When we started to work on the digital central office switches in the 1970s, we were advised to follow AT&T and continue making old analog switches since digital switches would be too expensive.” Fortunately for Northern, it did not, and the introduction and marketing of the switch proved to be a major milestone in its history. By 1990 one research firm estimated that the company held close to one-third of the U.S. market for the digital switches.

Mid-1980s to Early 1990s: Declining Fortunes

Northern’s fortunes, however, began to change by the mid-1980s. While AT&T was making a comeback with its own switch, Northern made a technological blunder. It began selling new software to provide its phone company subscribers with advanced service capabilities based on new technology. Poor marketing, bugs in the software, and the fact that the processor in Northern’s switch could not keep up with all the new tasks the expanded software had to do alienated many company customers. One disgruntled business executive told Business Week in 1987, “Their software and capacity problems are still driving us wild. We’re giving our orders to AT&T.”

Northern launched a public relations campaign to reassure its customers that it had solved the software problems. It also announced the availability of Supercore, a new processor that cost $50 million to develop. “[Supercore] will double the capacity of our switches and eventually increase it to whatever we want,” maintained Northern President David G. Vice.

Many in the telecommunications market remained skeptical, however, and rival telecommunications companies such as Japan’s NEC Corporation, Sweden’s Telefonaktiebolaget LM Ericsson, and Germany’s Siemens AG began to make a move for Northern’s markets. Despite the setbacks, Northern had become one of the giants in the telecommunications industry. Consolidated revenues for 1989 were US$5.41 billion.

Northern repositioned in 1988 because of concerns that the intense global competition combined with the money it had invested in product and market development had affected its financial performance. Under newly elected Chairman, CEO, and President Paul G. Stern, who took over in March 1989, Northern embarked on a program to restructure the corporation.

Stern’s association with Northern began in April 1988 when the company elected him to its board of directors and to membership on the executive committee. He brought to the job a strong background in advanced-technology company management and a reputation for making tough cost-cutting decisions at large corporations. He had previously served as an executive for Burroughs, Unisys, IBM, and Rockwell. Within nine months after Stern assumed the helm, Northern had reshuffled management, cutting 2,500 jobs; closed four of its 41 plants, selling one-fifth of the plants to employees; and changed its bonus system, tying employee incentives in each business unit to company performance.

The dramatic changes caused a stir in Canada. Northern’s plans to move its research and development operations from Toronto to Texas and California made Canadians wonder if the company would move its headquarters as well.

Key Dates

1880:: Bell Canada is founded.
1882:: Bell Canada establishes its mechanical department.
1895:: Bell Canada creates Northern Electric & Manufacturing Company, Limited to take over the mechanical department’s work.
1899:: The Wire & Cable Company, an electrical wire maker, is incorporated.
1911:: Wire & Cable changes its name to Imperial Wire & Cable Company.
1914:: Northern Electric and Imperial Wire merge to form Northern Electric Company, Limited, which is primarily owned by Bell Canada and Western Electric.
1956:: Under U.S. Justice Department consent decree, Western Electric agrees to divest its interest in Northern.
1958:: Company forms Northern Electric Laboratories as an R&D arm.
1962:: Bell Canada completes its purchase of shares held by Western Electric, and now owns 99.99 percent of Northern.
1964:: Northern Electric becomes 100 percent owned by Bell Canada.
1971:: Northern Electric Laboratories is incorporated as a separate entity called Bell-Northern Research Ltd.
1973:: Northern Electric goes public through an IPO, with Bell Canada retaining a 90.1 percent stake.
1976:: Northern Electric changes its name to Northern Telecom Limited and introduces the first fully digital switch.
1979:: Bell Canada’s stake in Northern has been reduced to 54.5 percent.
1983:: BCE Inc. is created as the new parent of Bell Canada; holds 53.4 percent stake in Northern.
1993:: Jean C. Monty takes over as CEO of the company, sparking a company turnaround and moving the company well beyond its phone equipment roots.
1997:: John A. Roth succeeds Monty and begins focusing the company on the Internet.
1998:: Bay Networks is acquired.
1999:: Company changes its name to Nortel Networks Corporation.
2000:: Company acquires Qtera Corporation; Clarify, Inc.; Promatory Communications, Inc.; Xros, Inc.; and CoreTek, Inc.; BCE distributes the bulk of its stake in Nortel to its shareholders, reducing its ownership to less than four percent.

Northern, however, quickly saw positive results from the tough measures it took. In 1989 company expenses fell 18.5 percent from the year before, while profits jumped 18 percent on a 13 percent increase in sales. By 1990 Northern was the world’s sixth largest telecommunications company, but Stern publicly stated that he was preparing for an even more ambitious goal for Northern—to become the world’s leading supplier of telecommunications equipment by the year 2000. Soon after, it took a major step in that direction in January 1991 when it purchased STC PLC, a large British telecommunications company specializing in undersea cable for about US$2.6 bil-lion. The acquisition put Northern in third place behind Alcatel NW of Belgium and U.S.-based AT&T. Northern had already owned 27 percent of STC PLC when it made the deal.

The purchase increased Northern’s total debt to C$4.3 bil-lion, 50 percent of its equity, compared to 29 percent before the buyout. Northern said, however, that it planned to help relieve the debt using the C$1.6 billion from the sale of STC’s computer’s division, ICL Ltd., to Fujitsu Ltd. of Japan.

Behind Northern’s seeming turnaround, however, were continuing problems at the company, particularly with its key U.S. customers. While Stern was concentrating on controlling expenses and expanding overseas, several major U.S. phone companies began experiencing problems with the software in Northern’s switches. Customers were further irked when Northern was slow in fixing the glitches. Further dissatisfaction, and lost sales, resulted from delays in issuing new versions of the tremendously complicated switch software. With his focus primarily on short-term profitability, Stern had cut R&D spending from 13 percent of revenue to 11 percent, thus jeopardizing the company’s longer term viability in the rapidly changing techno-logical environment of telecommunications. In October 1992 the Northern board of directors, growing increasingly aware of these behind-the-scenes problems, installed Jean C. Monty, a longtime Bell Canada executive, as president and chief operating officer, the number two position behind Stern’s. Within months, Monty had replaced Stern as CEO, with Stern—who later told Business Week, “Nobody is going to shove a president down my throat”—resigning from his position of chairman, the apparent victim of a power struggle. In June 1993 Monty announced that Northern would take a US$1.2 billion pretax restructuring charge covering the cost of fixing the switching software, closing several facilities, and eliminating about nine percent of the workforce. As a result of the sale of STC to Alcatel-Alsthom for US$906 million, the charge also covered a US$500 million writedown in goodwill from the STC acquisition. The charge sparked the company’s first quarterly loss in five years, and a 1993 full-year loss of US$884 million. In the wake of the announcement of the charge, Northern’s market value was cut nearly in half during one three-week period.

Mid-1990s and Beyond: An Impressive Turnaround and a New Internet Focus

Monty quickly turned Northern Telecom’s fortunes around with the help of a man who soon held the number two position, John A. Roth. Roth had joined the company in 1969 as a design engineer, was later instrumental in the establishment of Northern’s wireless business, and then served as head of the company’s North American operations from 1993 to 1995. He was named chief operating officer in 1995 and then president in February 1997. Monty and Roth were quickly able to mollify the company’s angry customers with assurances that the switching software would be rewritten and simplified by the end of 1995, with US$250 million earmarked for this effort. Although the company was unable to meet this timeline, the job was 95 percent complete by mid-1996.

The new leadership also bolstered the R&D budget to nearly 15 percent of revenue, which amounted to US$1.58 billion in 1995. As the digital switching market matured, much of the research dollars went into new specialized areas. With this diversification came a parallel restructuring of the company into four separate businesses, each serving a distinct set of customers and each delivering products tailored for those customers. The first business was Northern’s traditional switching operations which served old-line phone companies; the others were: a unit focused on broadband networks, which served cable companies and the upstart long-distance companies that were burgeoning in the wake of industry deregulation; one specializing in enterprise networking, which served large organizations—including corporations and government depart-ments—using internal communications networks; and one concentrating on wireless networks, which mainly served the rapidly expanding cellular telephone firms.

The signs of an impressive turnaround were soon unmistakable. Revenue increased smartly, to US$10.67 billion in 1995 to US$12.85 billion in 1996 to US$15.45 billion in 1997. Net income showed a similar upward trajectory, standing at US$473 million, US$623 million, and US$829 million for those three years, respectively. With his job at Northern Telecom complete, Monty moved on to become president and CEO of BCE while maintaining a seat on Northern’s board of directors. He turned the Northern reins over to Roth, who was named president and CEO in October 1997.

Roth wasted no time in mapping out the next step in the evolution of Northern Telecom, betting the company’s future on the Internet and what he called “web tone.” Roth saw that networks were going to increasingly migrate from being tele-phone-based to being Internet-based. He wanted Northern Telecom to be at the center of the building up of the Internet into a technology as reliable and as instantly accessible as the tele-phone and its dial tone—thus the concept of web tone. Needing to move quickly to beat out the competition, Roth turned largely to acquisitions rather than attempting to rely only on in-house R&D efforts. The company’s soaring stock facilitated the completion of stock-swap acquisitions.

Four major acquisitions were completed in 1998, including Winnipeg-based Broadband Networks Inc., a designer and manufacturer of broadband wireless communications networks (purchased for US$593 million); Chelmsford, Massachusetts-based Aptis Communications, Inc., a start-up firm that concentrated on remote-access data networking (US$290 million); and Kanata, Ontario-based Cambrian Systems Corporation, maker of an innovative technology to speed up Internet traffic (US$300 million). These purchases were dwarfed, however, by the US$9.1 billion stock-swap for Santa Clara, California-based Bay Networks, Inc., which was completed in August 1998. Bay Networks served the corporate market with a host of data networking products and services that meshed well with Northern Telecom’s existing corporate operations. The addition of Bay provided Northern with the ability to offer corporate customers integrated networks for sending voice, video, and data over the Internet. With the company focusing increasingly on networking, Northern Telecom was renamed Nortel Networks Corporation in April 1999.

Acquisitions continued in 1999 and 2000; the former year featured three major buyouts but was followed by an accelerating purchasing pace in the latter. Nortel also showed an increasing appetite for optical networking firms. In January the company paid US$3.25 billion in stock for Boca Raton, Florida-based Qtera Corporation, producer of long-distance optical networking systems. Two months later Nortel completed two acquisitions: the US$2.1 billion purchase of San Jose-based Clarify, Inc., which specialized in customer relationship management software used in Internet communications; and the US$778 million buyout of Fremont, California-based Promontory Communications, Inc. developer of high-speed digital subscriber line (DSL) Internet access platforms. The purchase of optical networking firms took center stage in mid-2000 as Nortel spent US$3.25 billion for Xros, Inc., a Sunnyvale, California-based firm that was developing optical switches; and US$1.43 billion for Wilmington, Massachusetts-based CoreTek, Inc., a start-up that was working to perfect specialized lasers to transmit light beams over fiber-optic lines. Neither Xros nor CoreTek at the time of their acquisition had either revenue or a marketable product but were working on promising optical technologies that Nortel hoped to use to speed up data traffic and increase its volume, while simultaneously reducing costs.

Also in mid-2000 Nortel largely gained its independence from BCE after the latter distributed most of its remaining 40 percent stake to its shareholders. Following the completion of this transaction, BCE held less than four percent of Nortel’s stock. In July 2000 Nortel entered into discussions with Corning Inc. about selling its optical components unit to Corning in a stock swap that some observers valued at about US$100 billion and that could have resulted in Nortel owning a significant stake in Corning; the talks faltered, however. One day after the companies confirmed that the negotiations had failed, Nortel announced another blockbuster acquisition. It agreed to acquire San Jose-based Alteon WebSystems, Inc. for more than US$7 billion in stock. Alteon was a leading maker of specialized Internet switches used to speed response times at web sites. In August 2000 Nortel announced that it had agreed to buy Sonoma Systems Inc. for as much as US$540 million in stock. Sonoma, based in Marina del Rey, California, produced integrated access devices for Internet access providers enabling them to simultaneously deliver high-speed video, data, and voice communications over a single connection.

Soon after the announcement of the Sonoma acquisition, Nortel Networks’ market capitalization hit US$240 billion, a sixfold increase since Roth had taken over as CEO. Roth planned to continue the breathtaking acquisition pace, vowing to spend ten percent of the company’s market cap each year to purchase the new technology it would need to keep pace with the other heavyweights of networking, most notably Cisco Systems, Inc.; Ericsson; and Lucent Technologies Inc. (the equipment arm of AT&T that had been spun off in 1996). Nortel’s emphasis on new technology was demonstrated by its generating 60 percent of its revenues from products less than 18 months old. In addition to its clear focus on optical technology, Nortel at the turn of the millennium was also working to establish a more significance presence in the undersea-fiber business and was gaining a reputation as a leader in the area of wireless Internet technologies. The wireless operations were one of the responsibilities of COO Clarence Chandran, who appeared to be in line to succeed Roth.

Principal Subsidiaries

Matra Nortel Communications S.A.S. (France; 50%); Nortel Government Services Inc. (U.S.A.); Nortel Matra Cellular SCA (France); Nortel Networks (Asia) Limited (Hong Kong); Nortel (CALA) Inc. (U.S.A.); Nortel Networks (Dublin) Limited (Ireland); Nortel Networks (Ireland) Limited; Nortel Networks (Luxembourg) S.A.; Nortel Networks Aptis Inc. (U.S.A.); Nortel Networks Capital Corporation (U.S.A.); Nortel Networks de Colombia S.A.; Nortel Networks Inc. (U.S.A.); Nortel Networks International Finance and Holding B.V. (Netherlands); Nortel Networks NA Inc. (U.S.A.); Nortel Networks plc (U.K.); Northern Telecom do Brasil Comercio e Services Ltda. (Brazil).

Principal Competitors

ADC Telecommunications, Inc.; Alcatel; Ascom Holding Ltd.; British Telecommunications plc; Cabletron Systems, Inc.; CIENA Corporation; Cisco Systems, Inc.; Corvis Corporation; Deutsche Telekom AG; Telefonaktiebolaget LM Ericsson; Fujitsu Limited; Harris Corporation; Inter-Tel, Incorporated; InterVoice-Brite Inc.; Juniper Networks, Inc.; Lucent Technologies Inc.; Marconi Communications; Motorola, Inc.; NEC Corporation; Nokia Corporation; Oki Electric Industry Company, Limited; ONI Systems Corp.; PeopleSoft, Inc.; QUALCOMM Incorporated; Redback Networks Inc. Remedy Corporation; Scientific-Atlanta, Inc.; Siebel Systems, Inc.; Siemens AG; Sycamore Networks, Inc.; Tellabs, Inc.