Carriers: New services can wait

Don’t believe everything you read about carriers not spending.

They are spending – billions of dollars, in fact, just not as many billions as in recent years, and not on technologies for delivering new business services.

While analysts expect carriers to cut capital expenditures by 26 per cent this year, a good chunk of the money carriers will spend is expected to go toward reducing the cost of running their networks, improving return-on-investment and boosting profits.

They are buying a new generation of equipment that will slash capital and operational expenditures over time by requiring fewer upgrades, consolidating networks, and making them easier to run and manage.

The way carriers plan to use their money means that business customers should not expect many new service rollouts – such as Ethernet in the metropolitan or enhanced VPNs – for at least another six months.

“New services are the number two focus on carriers’ priority lists,” says Dave Dunphy, a senior analyst at Current Analysis Inc. “Everyone is looking for solutions to help reduce costs, but the gear they buy must also enable future service opportunities.”

Reducing cost is vital to the livelihood of carriers, as the overspending ways of bankrupt or near-bankrupt companies such as Global Crossing Holdings Ltd., Williams Telecommunications and XO Communications Inc. have shown.

Lehman Brothers researcher Steve Levy says carriers will spend their reduced budgets this year to support existing, proven, revenue-generating services, such as voice, frame relay and ATM data.

Capital expenditures will be 18 per cent of revenue this year and 15 percent next year, Levy says. That’s half of 2000 and 2001 levels, and down 3 percent to 5 percent from the 1990s, he says.

Incumbent carriers overspent by US$40 billion between 1998 and 2001. In comparison, emerging carriers – those that were formed after the Telecommunications Act of 1996 – spent about $20 billion in 2000. Levy expects that by 2004 emerging carriers’ expenditures will total only $4 billion annually.

“The industry still needs to digest that over expenditure, and that’s going to be a multiyear process,” Levy says.

Targeting expenses

Carriers’ operational expenditures, at five to 10 times capital expenditures, are “out of control,” says Nancee Ruzicka, an analyst at The Yankee Group. She did not say where operational costs should be, but says the range is carrier-specific and includes a number of different aspects, such as salaries paid to network operations and management staff.

To rein in capital and operational costs, carriers are buying routers, soft switches, wavelength multiplexers, next-generation SONET platforms and other gear to squeeze more life out of current service infrastructures and services. They’re looking for products that pack more functionality into less space, are easier and less costly to operate, and require minimal, if any, training.

Last year Sprint awarded Nortel a $1 billion contract for packet telephony gear. Ultimately, Sprint plans to deliver new broadband and multimedia IP services over the infrastructure, but the immediate goal is to lower capital and operational expenses by reducing the number of switches and trunk lines in its network, and by replacing circuit switching at the edge with packet switching.

Sprint declined to comment on its savings targets, but Nortel claims the carrier can save between 40 percent and 60 percent in capital expenditures and up to 40 percent in operational costs with the packet telephony investment.

Spending breakdown

Other carriers are following suit. Norm Bogen, an analyst at Cahners In-Stat, sees spending breaking down three ways:

* Regional Bell operating companies will continue to deploy SONET, both legacy and next-generation, and dense wavelength division multiplexing (DWDM) to maintain voice revenue, better handle data and increase fiber efficiency.

* Competitive local exchange carriers, such as Yipes Communications, will purchase optical Ethernet because of its competitive pricing and flexibility, and DSL technology to compete with RBOCs in offering lower-priced data and voice services.

* Interexchange carriers will spend on packet gateways and softswitches this year to reduce spending in the long haul and prepare to offer local phone services. These products merge voice and data onto a packet-switched infrastructure, which means carriers will purchase, manage, maintain and operate fewer products over time.

What carriers are not buying are current-generation SONET/Synchronous Digital Hierarchy transport and switching equipment optimized for voice, but that are inefficient for data. They’re also mostly shunning “all-optical” switches, optical long-haul gear, metropolitan DWDM systems, a new generation of Multi-protocol Label Switching platforms for the edge and core, virtual routers, and systems designed specifically for “advanced” IP services, analysts say.

Verizon will purchase metropolitan DWDM and next-generation SONET gear as part of its $17 billion capital budget for this year, which analysts say is flat or down slightly from 2001. Verizon says the equipment will show immediate operational savings as opposed to necessarily helping the carrier launch new revenue-generating services.

“Our primary drivers are cost, function and density,” says Greg Theus, a Verizon vice president. “This stuff takes up less floor space and uses less energy, while being more robust and offering more functionality.”

Theus estimates the new gear will reduce the cost of operating Verizon’s wireline network by 20 percent to 30 percent. He also anticipates that customers can lower their voice and data services costs by 10 percent to 30 percent.

Carrier Broadwing concurs that capital and operational savings are more important now than offering new services. On the capital side, Broadwing plans to spend $300 million this year vs. $670 million last year.

Operationally, the investments the carrier made in optical switching and transport infrastructure last year let it reduce the expense of running its network, says Tom Osha, Broadwing chief of staff. He declined to disclose the amount.

Broadwing is looking to squeeze even more operational savings out of its metropolitan and access networks but again, Osha would not provide a target amount or range.

While some carriers queried would not say whether they are curtailing new service rollouts in favor of reducing costs, some provided figures on their spending plans for this year.

AT&T Wireless says that its 2002 capital budget of $5 billion is flat compared with 2001. SBC Communications will spend $9.2 billion to $9.7 billion this year, compared with $11.2 billion in 2001. Meanwhile, Qwest Communications is expected to cut spending by 35 percent from last year; WorldCom will reduce 2002 capital expenditures by 26 percent from 2001; and AT&T’s spending will fall more than 20 percent from 2001 levels, according to investment firm UBS Warburg.

The likes of Yipes

Emerging carriers, such as metropolitan Ethernet providers Yipes and Telseon, are already delivering what some consider to be next-generation services with equipment that currently is meeting capital and operational expense goals.

“Our intent is to preserve our core metropolitan gear and purchase new gear and cards that will increase flexibility,” says George Chung, Telseon’s director of product management for metropolitan wavelength services. “We’re only extending the network out to locations where there’s been a need.”

Yipes purchased WDM gear last year to increase fiber capacity for its metropolitan Ethernet and IP services. The company claims that equipment has enough capacity to last for years. To date, Yipes has only used two wavelengths to double capacity in some portions of its metropolitan core, but Yipes says there is potential to grow to 16 wavelengths if the need arises.

Whatever capital or operational savings individual carriers may experience, it’ll take time for companies to reap the benefits of new or reduced cost services.

“This is going to be a gradual, slow process,” says Kevin Mitchell, an analyst with Infonetics Research. “What carriers are trying to do is to reshape the landscape, and that’s going to mean extended test phases and trial rollouts because a lot of these products are still very immature.”