Tough Times for Telecom Gearmakers

The telecom-equipment sector has lost billions of dollars of market value as consolidation fails to offset a pullback in carrier spending

by Olga Kharif

First the good news: Nokia Siemens Networks is still losing money, but less than expected. And news in the telecommunications-equipment sector only gets worse from there. Ericsson is warning of weak third-quarter revenue growth and a sharp decline in profits, while Alcatel-Lucent (ALU) is searching for another turnaround plan.

For Wall Street, the string of discouraging updates over the past month has come as a painful surprise, lopping off billions of dollars of market value. The industry's seismic consolidation—Alcatel acquired Lucent, Nokia (NOK) merged its equipment business with that of Siemens (SI), Ericsson (ERIC) acquired Marconi—was supposed to ease competition and boost profits. But investors are still waiting.

Pundits have been quick to blame company-specific issues, such as merger integration headaches, which are indeed a factor. At Nokia Siemens, 2,300 workers have been let go since spring, and the company is still pursuing cost reductions. And with some investors calling for a change in leadership, Chief Executive Patricia Russo is due to present a new restructuring plan to the Alcatel-Lucent board (BusinessWeek.com, 9/28/07) on Oct. 30 as the company tiptoes around that break-even line between loss and profit.

Spending Slowdown

But there may be deeper troubles at play than merger pains. "No, this is not a company, but a market problem here," says Stephane Teral, an analyst with consultancy Infonetics Research. Wireless carriers in core Western markets simply aren't buying as much network gear as expected.

The pullback in carrier spending may not be brief. Most people in nonemerging markets already have cell phones, so boosting sales by adding customers is getting tougher. New wireless data services, such as mobile TV, have not yet taken off. Though carrier revenues are growing overall, the average revenue per customer may actually decline in the coming years, from about $18 today to slightly less than $16 in 2011, estimates consultancy Yankee Group.

New revenue sources on mobile phones, such as advertising or wireless music downloads, are yet to be proved. So while they're still expanding coverage and pursuing incremental upgrades to the networks, most wireless carriers are holding off on major overhauls and transitions to next-generation technologies such as WiMax. "Based on my talks with service providers, it's been very hard so far to make money off of extra bandwidth," says Teral.

A Wait-and-See Approach

As a result, many are increasingly relying on less costly software upgrades to boost their network performance, says an industry insider. After all, AT&T's blockbuster iPhone arrangement with Apple (AAPL) has proven that operators can satisfy customers by offering cool gadgets, software, and services over a slower network. But while the gearmakers also sell network software and services to carriers, that's a market where telecom-equipment vendors have to compete with nontraditional rivals such as IBM (IBM) and Microsoft (MSFT).

Many carriers are also waiting for Sprint (S) and Clearwire (CLWR) to roll out their national WiMax network to learn from any stumbles by that partnership (BusinessWeek.com, 7/19/07). But even that project may be delayed now that Gary Forsee has been forced out as CEO at Sprint (BusinessWeek.com, 10/10/07).