Struggling Nortel Sells Factory Arm

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Just three months after revealing that the Securities and Exchange Commission was launching a formal investigation into its accounting practices and firing its three top officers, Canadian telecom equipment maker Nortel Networks Inc. said it has reached a deal to sell all of its manufacturing operations for between $675 million and $725 million in cash.

Nortel, which designs and makes voice-over-Internet-protocol equipment, said it cut a deal to sell its manufacturing arm to Singapore electronics maker Flextronics.

The deal — in the works since January — lets Flextronics initially take control over Nortel plants in Canada and Brazil. It should assume control over the rest of Nortel's manufacturing locations in France and Northern Ireland in 2005.

HIGH-MARGIN FOCUS

The sale is part of Nortel's strategy to focus on higher-margin software development and design.

While the deal will allow Nortel to shed huge costs associated with manufacturing — lowering the cost of sales, reducing fixed-cost infrastructure and significantly reducing inventory levels and carrying costs — the deal will also shave off a significant chunk of revenue.

Nortel said the manufacturing operations generated about $2.5 billion in revenue annually.

Both companies said they would also enter into a four-year supply agreement for manufacturing services (in which Flextronics will manage approximately $2.5 billion of Nortel's annual cost of sales) and a three-year supply agreement for design services.

Investors appeared pleased with the deal: Nortel's share price rose 25 cents (5.3%) to $4.99 on June 29.

Nortel stock had been on the decline since it announced in April it was the subject of a formal investigation into its accounting practices by the SEC.

Nortel fired its top three officers — president and CEO Frank Dunn, chief financial officer Douglas Beatty and controller Michael Gollogly. They were replaced by William Owens, a Nortel director and former CEO of satellite manufacturer Teledesic LLC; William Kerr and Maryann Pahapill. Kerr was formerly senior vice president of finance at Nortel and Pahapill served as assistant controller of the company.

In October, Nortel had launched its own internal investigation into certain accrual practices dating back to 2000. The SEC investigation stemmed from the fact that Nortel has restated its financial results twice in the past nine months and in late February said it may have to restate them again.

In November, Nortel said $952 million of liabilities — mainly accruals and provisions — on its June 30, 2002 financial statement should have been entered in earlier statements.

“These provisions were either initially recorded incorrectly in prior periods or not properly released or adjusted for changes in estimates in the appropriate periods,” the company said in an SEC filing.

The restatements were relatively small. For example, Nortel said it recognized about $92 million in revenue between 2002 and 2003 that should have been deferred to later periods.

The restatements reduced net losses in 2000, 2001 and 2002 and increase shareholders' equity. Nortel has annual revenue of about $8 billion.'

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