Analysts: Vendor's woes due to a variety of factors

Nortel Networks Corp.'s US$19.2 billion second-quarter net loss and additional 10,000 job cuts sent another wave of tremors through an already-shell-shocked industry on Friday.

But many observers believe that the once-high-flying networking hardware industry will eventually emerge from the downturn, although major vendors will have to readjust their business strategies in the meantime.

Nortel on Friday, like its ailing rivals Lucent Technologies Inc. and Cisco Systems Inc., blamed the free-fall on their telecom service provider customers' dried-up reserves of spending capital, which is forcing them to focus on getting the most out of the networks they already have.

But most analysts suggest that there is more to the story.

Maria Zeppetella, an analyst at Cedar Knolls, N.J.-based thinktank Probe Research Inc., believes that the drastic measures announced by networking companies like Nortel merely signal a return to reality after years of unrealistically high hopes.

"We just came out of a couple years where telecom was the hottest thing in the world," Zeppetella said. "There was just too much hype. The stocks were trading like mad, everything was overvalued, and now it's back to reality. This is just the result of the last two years of mayhem."

Zeppetella cited Nortel's move Friday to discontinue its access products line as an example of inflated expectations for upstart CLECs (competitive local exchange carriers) to take on regional phone giants in the broadband market. As it has turned out, RBOCs have scored a decisive victory over the CLECs in DSL and other markets.

"[Networking hardware vendors] beefed up manufacturing and staff for DSL, and they wound up financing a lot of CLECs to deliver it. [They] just got killed," she said.

Laurie Gooding, an analyst at Boston-based research firm Pioneer Consulting, agreed that a spending freeze is not the only culprit for equipment vendor woes. Too much competition, in fact, has hurt all the players' chances for profitability, she said.

"All of this great technology evolution that has taken place and given rise to all these new vendors has created a glut of solutions, and that will sustain the downturn in the near term," Gooding said. "It puts a lot of pressure on every vendor today and highlights business practices that need to be improved."

Gooding also noted that unfavorable perceptions of the economy have hurt networking firms' performance.

"People draw a lot of conclusions and correlate what's happening to certain companies with what's happening to everyone else, so everyone suffers," she said. "When Cisco cut all those jobs, people asked themselves, 'Is it because they too are feeling the pinch?' But [Cisco's cuts] were for different reasons." In March, Cisco announced that it would lay off 8,000 workers as part of a restructuring plan.

"It's all caused a swirl of confusion and caused people to sit and wait," Gooding noted.

Sheer size of giants like Nortel and Lucent may also play a role in their drastic losses, according to observers.

"If you're 200 pounds and you're stranded on an island with very little food, you can afford to lose 100 pounds," Gooding said. "If you're 120, you can't. [The big companies] have a little more fat to eat into, so they will come out ahead, and only the best of the emerging startups are going to survive."

In the meantime, networking vendors are expected to tighten their focus on their most profitable product lines. Many service providers have announced plans to spend on metropolitan networks, rather than long-haul networks. In response, Nortel, Cisco, and Lucent have all unveiled metro optical platforms in recent months.

Customers who have already invested in equipment from struggling vendors need not worry about ongoing support, according to Zeppetella. "When Nortel's gotten out of stuff before, they've continued to support it, or they've sold it to somebody else who's going to support it," she said.

Many observers do not expect an industry turnaround until late next year. But Gooding said that networking vendors may actually benefit from the downturn, because it gives them an opportunity to realign their operations.

"A lot of the big companies are saying, 'Maybe we got a little carried away too, because things were going so well,'" she said.

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