“BOY, have things changed!” declares Niel Ransom, chief technology officer of Alcatel, a big telecoms-equipment vendor. In the good old days of the bubble, he explains, “I could talk to network operators about visions, sell them visions, they would invest in visions. But that's not today's market.” Visions are out, and the construction boom of the bubble years is just a fond memory. That does not mean spending has stopped, however. Mark Winther of IDC notes that capital expenditure by telecoms operators has plunged since the boom, but still adds up to a huge amount of money—around $160 billion this year. “Carriers are still spending,” he says, “but what they are spending on is changing. The big story is not just that capex is down, but that it's transforming.”
Operators are now concentrating their spending mainly on three areas: equipment to provide services, such as high-speed internet connections, that can provide new sources of revenue; ways of simplifying their tangled networks and reducing running costs; and software and other operating support systems that allow them to implement new services more quickly and efficiently. All three involve rearranging the plumbing around the edges of networks, not the large-scale construction in the core that accounted for so much investment during the boom.
As a result, equipment vendors who concentrated on optical switching gear, which is used in the core of telecoms networks, have been hit hardest by the bursting of the bubble. Few operators are building new fibre-optic networks, says Shin Umeda of Dell'Oro Group, a market-research firm. Some are adding to their networks here and there, he says, “but the expensive part of the business, fibre and optical transmission equipment, is in place, so they won't need to spend a lot more there.” Companies that make equipment for the edges of networks, on the other hand, have not been so badly affected. “The opportunity is at the edge,” says Mr Ransom.
Some categories of network-edge equipment are growing very fast, says Tam Dell'Oro, the founder of Dell'Oro Group. She singles out digital-subscriber line (DSL) equipment, which is used to turn telephone wires into broadband internet pipes, and cable-modem equipment, which allows cable operators to provide broadband internet access over their networks alongside cable TV. Global sales of such equipment surged by 21% in the second quarter of this year, with the strongest growth in Europe, Asia and Latin America, where broadband is catching on fast as prices come down. The chief beneficiaries of this trend are firms such as Alcatel, Siemens, UTStarcom and Cisco.
Meanwhile, many operators are overhauling their networks to reduce running costs by combining traffic from multiple networks on a single backbone. Network operators have traditionally launched new services by building entire new networks, says Betsy Bernard, president of AT&T and head of its business-services arm. Each network has its own ordering and billing system, which results in duplication and inefficiency. “So during this lull in the action, we are retiring systems and integrating things,” she says. By the end of this year AT&T will have retired 190 systems, which should reduce running costs and allow the company to respond more quickly to customers. Many other carriers are doing the same. “Our network today is a kind of plate of spaghetti,” says BT's Mr Verwaayen. He pulls out a pen and starts scribbling network maps, explaining how BT is aiming for a new, simpler architecture that is more like lasagne. “I'm really thrilled about this,” he says.
The technology that BT, AT&T and many other operators are using to do away with network spaghetti is called multi-protocol label switching (MPLS). In essence, it allows multiple old-fashioned network services (such as voice, frame relay and ATM traffic) to be carried over a single modern network based on internet protocol (IP). MPLS has special traffic-management features giving priority to some forms of traffic over others, to ensure the smooth interleaving of different services. That makes it possible to “collapse” several networks on to a single network. Clever boxes around the edge of the network, known as “multi-service platforms” or “god boxes”, are used to translate traffic to and from various formats and protocols so that the transition is invisible to end-users. “Shunting complexity out to the edges will allow us to simplify operations dramatically,” says Hossein Eslambolchi, AT&T's chief technology officer.
The growth of interest in MPLS is good news for vendors such as Cisco, Juniper and Ciena. Mr Winther gives warning, however, that although the shift to MPLS looks increasingly certain, it will take many years. More significant for now is the network operators' growing expenditure on software, estimated at around $30 billion this year.
Software allows operators to offer new services based on their existing infrastructure (such as multimedia messaging or game downloads on mobile phones). Clever billing software can enable operators to introduce new tariffs or special offers. Customer-relationship management software can keep track of customers and target them with new products to stop them defecting. And self-service software can reduce costs by helping customers do things for themselves. For example, instead of setting up a DSL connection by sending an engineer to someone's house, the same job can now be done much more cheaply by putting the equipment in the post and using software to install it automatically. Network operators are also investing in websites to automate the configuration of new services (such as e-mail on mobile phones), provide technical support (to reduce the volume of calls to call-centres) and allow businesses to order and configure new network services.
Launching a new service, says Mr Winther, is increasingly a matter of gluing together existing systems using the appropriate software, rather than buying a dedicated box from an equipment vendor. This growth in the importance of software favours vendors in the computer industry, such as IBM, Hewlett-Packard, Sun and Oracle, rather than telecoms-equipment vendors. “I'm sceptical that traditional equipment vendors, who make network elements and hardware, are going to be able to invest enough resources to create a credible proposition in service creation and delivery,” he says.
Vendors are responding to these shifts in a number of ways. Many are carefully picking the markets in which they wish to remain. “Two or three years ago, everyone wanted to do everything for all customers,” says Cisco's Mr Volpi. “Now the competition is much more segmented and the degree of overlap is lower.” Cisco, for example, has backed out of the long-haul optical market and formed an alliance with another vendor, Lucent, in mobile-phone wireless infrastructure. Lucent has formed another alliance with Juniper, distributing that company's MPLS equipment rather than developing its own.
We'll do anything for you
Another defensive move by equipment makers has been to move into the already crowded services market. Previously, says Mr Winther, vendors would ship a large amount of equipment to a network operator, who would arrange for it to be unpacked and installed by employees of a systems integrator. Now equipment makers such as Alcatel offer to install and manage new equipment, including that supplied by other vendors. “Carriers have no sacred cows and will outsource anything,” says Mr Winther.
A good example, says Alcatel's Mr Ransom, is Telecom New Zealand, which has just outsourced the management of its next-generation fixed-line network to Alcatel, and the construction and management of a new mobile-phone network to Lucent. “We are starting to see that worldwide,” he says. “Oil companies buying network equipment are saying we want to search for oil and run pipelines, not run a network.” Mr Winther cautions, however, that outsourcing always looks more attractive when companies are striving to cut costs in an economic downturn. When things improve, he says, vendors may find that their services businesses will suffer.
By then, however, equipment makers hope that business will have picked up in other areas that look gloomy at the moment. Once the teething problems have been sorted out and mobile data services have gathered steam, for example, demand for 3G base-stations should start growing. For now, though, mobile operators are delaying investment in 3G and trying to squeeze as much revenue as possible out of their 2G and 2.5G networks.
Another potentially promising area is “fibre to the premises”, which involves running fibre all the way into homes, offices and schools to provide far higher access speeds than are possible with today's DSL and cable-modem technologies. Such deployments are already under way in Japan and South Korea, and a consortium of incumbent operators has announced plans to deploy the technology in America. If it happens, this would mean spending tens of billions of dollars over the next 10-15 years. But given the current climate, vendors are not getting excited just yet. “The thought is that once there's enough bandwidth to the user, the core will start to fill up and will come alive again,” says Mr Ransom. “But not today.”
For the time being, equipment makers must concentrate on the few hotspots of activity within the industry. And however much things improve, says Mr Winther, capital spending will never return to the levels seen during the boom. Operators' capital expenditure as a percentage of their revenues will stay in the low teens, he predicts, far short of the 30-50% of the boom years. For equipment makers, the party is well and truly over.
