September 2000 was a watershed month for anyone connected with the global IT industry. The Nasdaq had gone into steep decline the previous April after peaking at over 5,000 points, yet the US economy remained strong with corporate and consumer demand for technology holding up well during the summer. It all came horribly unstuck in the autumn.
No sector was worse hit than networking equipment. The industry had recorded explosive growth on the back of the Nineties internet and telecoms boom. Predictably, US multinationals led the charge with Cisco the undisputed star. At one stage Cisco even became the world’s largest company as measured by market capitalisation.
The networking industry has always been competitive but at least during the boom all boats were being lifted on a rising tide of IT expenditure. Once the recession hit, however, too many companies were scrambling over too few contracts and blood started to spill on the carpet. All the main protagonists have been licking their wounds ever since.
Talk to these companies now and you realise just how bad the past two years have been.
Brian Hagan (pictured), managing director of Nortel Ireland, describes as “unprecedented” the sustained period of depressed demand the telecoms sector has endured.
“The market went into freefall in terms of spending by the carriers. We were at the core in that most of our product would have been focused on the network expansion of those carriers,” he remarks.
Nortel recently issued quarterly results that showed the sales slump is continuing, with revenues down from US$3.69bn in the third quarter of 2001 to US$2.36bn in the third quarter of 2002. As recently as last month, Nortel announced that it would be spending a further US$900m restructuring its global operations in 2003, having already spent a colossal sum closing plants, exiting product lines and laying off thousands of staff.
Analysing Nortel’s difficulties, Hagan observes: “Our business was probably driven a bit by the dotcom frenzy but it was a real business in the sense there was normal trade and we were being paid for the equipment and services we provided. I think the problem was when the downturn came, Nortel was geared up to run at a rate of output that was no longer what was required in the marketplace. We’ve had to scale back to a level of business that’s sustainable in the long run and to a cost base that fits with that level of business.”
The good news for Nortel Ireland is that the remedial action seems to be working, both globally and locally.
“People had concerns about the downsizing but fundamentally the business is quite solid and strong with a very strong cash position,” says Hagan. “Demand is still growing – it might be more business-case driven but it’s still there.”
3Com also claims to be seeing a light at the end of the tunnel, having executed its restructuring plan about 18 months ago. Even though overall revenues are substantially less than 12 months ago, gross margins have almost doubled in that time, according to Buddie Ceronie, sales director at 3Com for the Europe, Middle East and Africa (EMEA) area. “Our thinking is that if we keep our costs lower than our competitors we are not building a business plan solely on the market having to improve,” he says.
While not denying that the networking equipment industry has had a torrid time, Ceronie argues that not all networking equipment vendors have been hit equally hard by the downturn.
“The soft spot has been in the telco area. Unlike some of our competitors that have been far more focused on telco expenditure, we’ve been affected far less by that. Our focus has been more on the enterprise market, which, though relatively soft in Europe, has been nothing like as soft as the telco market,” he explains.
Lucent Technologies knows all about the soft spot in the telecoms sector. At least arch-rival Nortel had non-telco business to fall back on when the downturn came in the telecoms sector. Not so with Lucent, which spun off its enterprise business as Avaya two years ago and was, and still is, almost totally reliant on carrier business.
The ongoing cash famine in the telecoms industry has hit Lucent very hard. No surprise that Lucent has had to cut its global workforce from 158,000 to 48,000 as a result of shrinking demand from carriers.
The consensus among all three vendors is that the trading environment will improve over the coming months – but only slowly.
“The telcos are upgrading but are not doing major build-outs,” reports David Dunne, Lucent’s country manager for Ireland and vice-president, technical support services, Lucent EMEA. “Most of the service providers won’t build out their networks for at least another year. In the US, our customers are planning to start buying from us again in the second quarter of 2003.”
Ceronie of 3Com offers a similar assessment. “We don’t expect the enterprise market to turn dramatically in the very short term. We are seeing better market conditions in the US, where we have seen three quarters of sequential growth in our business. In Europe we anticipate the market being moderately better next year,” he comments.
Nortel’s Hagan also feels that the worst is over. “Our best informed view is that we’re seeing a bottoming out now,” he says.
The companies are reluctant to talk about contract wins as if the very mention of them will scare away customers, but all of them have some impressive names on their books. Nortel has won a contract to supply 3G (third generation) technology to O2 Ireland, while Vodafone’s customer care service runs on Nortel hardware and software platforms. Lucent built most of Meteor’s mobile network and also is an important supplier to Ireland’s second-placed carrier, Esat BT. 3Com’s typical customer tends to be a small or medium-sized business rather than a large corporate, but it also holds some important contracts.
Faced with larger rivals, 3Com’s pitch is that it is the best supplier for smaller enterprises and one with a pedigree of technical leadership. Nortel has traditionally done most of its business with large corporates and carriers, but Hagan says that, as internet penetration continues to increase, the SME (small to medium-sized enterprise) sector will offer significant growth opportunities.
Services are another obvious opportunity and one that all the companies are chasing, to a greater or lesser extent. One of the factors driving services is the fact that although customers are spending less money on new networks, they are spending more on maintaining them. This is especially true of the telcos, says Lucent’s Dunne. “Telcos don’t have a lot of money these days so they need their networks to be running reliably and they need to be generating cash from them,” he says.
“Up to about five years ago the telco services business was very fragmented. It was very product support focused and each customer had to liaise with a number of service groups within each supplier. Now it’s become more centralised and runs as a separate business. It’s a very healthy and profitable business for us,” he adds.
Lucent has been rapidly developing the services side of its business to target this growing market. In Blanchardstown, Lucent has a call centre providing technical support to customers in the EMEA region and two technical assistance centres for its optical products. The facility provides much of the optical support services to several large European telcos including Deutsche Telekom, Telia, KPN and Telecom Italia.
Formerly dotted throughout Europe, these functions have over the last 15 months gradually been centralised in Ireland for cost reasons. From having a small local team, Lucent Ireland’s services unit has now grown to 110 people.
Services business is very welcome but, at their core, the networking equipment vendors are hardware companies and see their development mainly in terms of product innovation and equipment contract wins with major carrier and enterprise customers.
All three companies emphasise the importance of technical innovation as a means of driving growth. 3G infrastructure, broadband, wireless LANs (local area networks), LAN telephony (the integration of voice and data networks within enterprises) and metropolitan optical networks are just some of the technologies they will be depending on for growth.
3Com’s Ceronie identifies LAN telephony and wireless LANs as areas of major focus for the company. The appeal of the former is that less manpower is needed to manage a converged network than separate voice and data systems. “Previously you would use someone just to move telephones or change voicemail. Now, once you understand the technology and have the confidence and skills it becomes a lot easier to do. This technology has matured to a level where it’s relatively simple to install and manage,” he explains.
He adds that Ireland’s uptake of LAN telephony and other high-tech products is high, even compared with some of the bigger, more mature markets, but he feels the growth of wireless LANs in particular is being held back by the failure to address customer perceptions of poor security and slow speeds.
For Hagan of Nortel, the biggest change over the next five years will be that the carriers will move from circuit-switched networks to packet-based optical networks. The only question is exactly when this will happen.
“The fixed line operators understand that the way to reduce operating expenditures and drive profitability is to move to packet-based networks. The thing that’s holding them back is that it requires capital expenditure today. So it’s a balancing act between cap-ex today in a cap-ex-tight environment to generate the op-ex savings of tomorrow. Some operators will move ahead of others. but I’ve no doubt that in three to five years’ time all these networks will be packet-based [optical] networks.”
Despite the turmoil that has engulfed the sector and all the changes that have taken place in the last two years, there is one constant facing all the players in the industry – competition.
“I think network equipment is the most competitive business there is out there,” Hagan concludes. “There’s one pie and we’re all looking for a slice of it and the slice we have today is never good enough for what we want for tomorrow.”
By Ian Campbell
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