Promising indicators suggest telecom recovery looming

NASDAQ is up 40% this year and telecom-specific indexes are also up dramatically. Lucent just turned its first quarterly profit in three years, while Nortel expects this to be its first profitable year since 1997. MCI, meanwhile, is set to emerge from bankruptcy healthier and hungrier.

While not all is rosy, more signs are pointing toward the telecom industry finally starting to recover from the slump it’s been in for more than three years. 

North American carriers’ capital expenditures will be down by one-fifth from last year, though they should get more for their money given continued deep discounts. These carriers plan to spend $50 billion this year on gear such as IP edge, core router and metropolitan optical products, according to Infonetics Research. And makers of carrier-grade equipment see hope in carrierlike RFPs such as the Department of Defense’s $900 million Global Information Grid-Bandwidth Expansion effort.

Then there’s Cisco. Its orders from carriers jumped 10% sequentially and 20% over last year’s first quarter – the cherry on top of a first quarter that saw earnings rise 76% from a year ago on the highest revenue recorded by the company in three years.

“All of the indicators are confirming a quicker pickup than we had expected,” says Thomas Nolle, president of consultancy CIMI.

A changed landscape

Even if the industry is emerging from its low point, however, carriers and product suppliers will face a drastically altered business climate. Questions – such as “What if pricing and competitive pressures keep increasing?” – will abound.

“We’re going to see more consolidation, more bankruptcies,” says Dave Schaeffer, CEO of service provider Cogent Communications. “While we may have ended the free-fall, the industry as a whole is not yet able to attract the capital to reinvent itself, to build on a national scale 99% ubiquitous coverage of next-generation data services.”

Traditional wireline carriers will be under even more pressure to compete effectively against local access alternatives, such as wireless – with number portability coming in two weeks.

“We’ll likely continue to see access-line losses, which eats at the core of the carriers’ revenues,” says Richard Church, senior analyst for communications equipment at Wachovia Capital Markets.

SBC, for example, attributed its $523 million year-over-year drop in third-quarter wireline revenue to access-line losses. Analysts say SBC’s residential lines fell by 9.4% from the second quarter.

Probe Group says the rate of this regional Bell operating company’s access-line losses is roughly 3% per quarter.

RBOCs also will face off more fiercely with cable companies, which are bundling voice services with data and video, and offering it in local exchange carriers’ territories. Although they’re cutting spending from last year’s $13.3 billion, U.S. cable multisystem operators nonetheless will spend $10.2 billion this year and $9.5 billion next, according to In-Stat/MDR.

“The cable vs. RBOC wars, those are just going to get uglier and uglier” over the next two years, said Steve Kamman, an analyst at CIBC World Markets. Kamman made his remarks last week at the annual Next Generation Networks (NGN) conference in Boston, where the outlook on the industry was decidedly mixed.

Additionally, carriers emerging from Chapter 11 bankruptcy protection – namely MCI – will have drastically reduced debt on their balance sheets. Church and others say this might continue to be a source of pressure on pricing and profitability for other carriers even though MCI has promised not to set off a pricing war to stimulate growth.

Others say they are less concerned.

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