The promise of recovery in the telecom industry is like a mirage: As the thirsty traveler trudges through the desert, his vision of a cooling oasis just ahead dissolves and reappears farther off. After witnessing the 25% capital-spending hikes of telecom's boom years swing to a decline in 2001, analysts were sure they could see recovery on the horizon by the middle of 2002. Then it was late 2002.
Now the tantalizing vision of growth has been pushed back until at least 2003. New evidence shows that capital investments by telecom companies may decline an astonishing 20% next year. That's twice as much as most experts had been expecting and far worse than the 5% falloff in 2001--the industry's worst year on record.
"IT'S SCARY." The first signs of worsening came on Aug. 29, when WorldCom announced that its capital spending would total $5.5 billion in 2002, 31% less than this year and 20% less than it had originally planned for next year. The same day, Corning Inc. (GLW
), which supplies optical fiber for telecom networks, warned that it would miss its financial targets because of a "sudden slowing in orders." And in a study released on Sept. 4, Lehman Brothers Inc. found many of the country's largest telecom companies will cut their capital budgets for next year by 20%, to $82 billion from $102 billion in 2001 and $107 billion in 2000. "Very few people really have any idea of what terrible shape the telecom industry got in. It's scary," says Lehman analyst Blake Bath, who was among the first to spot telecom's unsustainable spending.
Blame the latest declines on big carriers, which account for 75% of industry expenditures. They're taking machetes to next year's capital budgets, largely because many parts of the phone network have more than enough capacity to meet current demand, reducing the need for more gear. Carriers built up the phone network over the past few years to be ready for an expected growth in services--which has not fully materialized--and to ward off competition from telecom upstarts. Instead, upstart carriers from Winstar Communications (WCIIQ
) to Teligent Inc. (TGNTQ
) have filed for bankruptcy. So the big carriers are slowing construction of their networks.
The bigs are expected to cut their capital budgets across the board. According to Lehman's Bath, Verizon Communications Inc. (VZ
) is likely to carve $1.4 billion out of its 2002 budget estimates, SBC Communications (SBC
) an equivalent 1.4 billion, BellSouth (BLS
) $660 million, and Qwest Communications (Q
) $1.7 billion. AT&T (T
) and Sprint (FON
) are expected to reduce their capital budgets some $1 billion each. None of the companies would comment on future plans for spending cuts. BellSouth CEO F. Duane Ackerman, however, did say: "The restraint on capital spending will be pretty significant in 2002. I don't see signs of a turnaround."
WIDE RIPPLES. The worsening telecom depression is bad news for a weak economy. The sector accounted for 12% of all U.S. business spending on equipment and software last year. More important, it generated one quarter of the spending increase from 1999. This year's pullback in capital spending is a big reason for the deep job cuts. Telecoms have wiped 175,000 jobs off the boards this year up through August, according to outplacement firm Challenger, Gray & Christmas. That's 19% of all job cuts and more than any other single industry.
Telecom's added capital-spending woes will reverberate throughout the tech industry. Computer-server maker Sun Microsystems Inc. (SUNW
), which derived 60% of its revenue growth from telecom last year, has lost a crucial growth engine. It warned on Aug. 29 that it would miss its first-quarter revenue target. So has contract manufacturer Celestica Inc. (CLS
) It says revenue growth has fallen from 60% a year to 5% to 10% a year, mostly because of telecom.
The new round of cuts could prove to be a catch-22 for carriers. While they need to pare back spending until capacity is in sync with demand, this will delay upgrading their equipment. Down the road, cutting-edge phone networks are essential for new data and wireless services. "In 18 years in this industry, we can't recall a cap-ex cut of this magnitude that did not eventually negatively impact the top line," says CS First Boston telecom analyst Daniel P. Reingold. Bath disagrees, saying carriers such as Verizon are wise to scale back unnecessary investments.
For now, the new markets aren't living up to earlier expectations. Revenue growth from high-speed data lines will be only 15% next year, about half of earlier forecasts. And on Aug. 20, Lehman wireless analyst John M. Bensche lowered long-term revenue expectations for the wireless sector by 30%, down from a current $17 a month per subscriber to $12 in 2007.
AUCTIONS APLENTY. Carriers are getting a little help in cutting their budgets, thanks to the plummeting price of equipment. Dozens of upstart carriers have gone out of business. Courts are auctioning off equipment that belonged to bankrupt carriers and Internet service providers for 10 cents on the dollar. And the price of optical communications systems is falling as much as 50% a year.
The outlook is similar outside the U.S. Expenditures on telecom gear will decline 2% in Europe, 5.5% in Asia Pacific, and 18.4% in Latin America, Merrill Lynch & Co. warned in August. China Mobile (CHL
) has cut this year's $5.5 billion capital budget by 15%, to $4.7 billion.
The question: When will growth be more than a mirage? Lucent Technologies (LU
) told analysts in August that it expected industry revenues to grow 10% to 12% in 2003. Could Lucent, which appears to have sharply underestimated the problem for 2002, be right about 2003? Susan Kalla of Friedman, Billings, Ramsey & Co. says growth could resume in 2003 but not at the level Lucent predicts. "In the best case, Baby Bell spending [hikes] regress to normal levels of zero to 5%." Once again, the oasis is turning out to be just a mirage in the hot sun.
By Steve Rosenbush in New York, with Roger O. Crockett in Chicago and Bruce Einhorn in Hong Kong
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Copyright 2001 , by The McGraw-Hill Companies Inc. All rights reserved.
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