Telecom turnaround is afoot
Cisco may be the latest industry equipment maker to see a boost when it reports earnings on Tuesday.
SAN FRANCISCO (Business 2.0) - For the first time in years, executives at telecom-equipment makers are feeling ebullient about the future, thanks largely to an insatiable demand around the globe for broadband connections.
Companies virtually given up for dead after the telecom bubble popped, like JDS Uniphase (Research), Redback Networks (Research), and Ciena (Research), have all made remarkable turnarounds as demand for the gear that powers fast Internet connections has risen sharply. But the ultimate proof of telecom's broadband resurgence may come on Tuesday when industry leader Cisco reports its earnings.
In the U.S., Comcast (Research), Time Warner (Research), AT&T (Research), BellSouth (Research), and Verizon (Research) together added almost 2 million new broadband lines in the fourth quarter of 2005. And broadband is far from just a U.S. phenomenon.
A broadband blowout
Research firm Point Topic estimates that the number of broadband lines around the world grew by 35% last year to over 205 million. Analysts expect the number of broadband subscribers in China alone to reach 100 million soon. And in the U.K., BT Group is budgeting $8 billion for its "21st Century Network," which would consolidate voice, video and data networks onto the Internet.
That kind of spending—the likes of which hasn't been seen since the late 1990s—is welcome news for companies that sell gear, like Cisco and its peers, as well as their component suppliers. It's being spurred, analysts say, both by demand for both broadband connections and for the content that users download over it.
The popularity of video, the ultimate bandwidth hog, is driving much of the upgrades. RBC Markets analyst Mark Sue recently wrote in a note to clients that "Cisco may stand to benefit from the broadening opportunities for [Internet video] as global carriers ramp on their spending during the second half of 2006."
As phone companies including AT&T, BellSouth, BT, and Verizon upgrade their networks to carry video, cable operators such as Comcast and Cablevision (Research) are also boosting the bandwidth they sell to their customers.
And therein lies the difference between today and the '90s telecom boom: Back then, telecom companies were building out the center of the network, or the backbone in anticipation of traffic that had yet to materialize. Now, the user's side of the network, the so-called "edge," is generating traffic and commanding investments. As a result, broadband demand is now having an impact up and down the telecom food chain.
Redback Networks, which makes gear used in high-speed DSL networks, won 13 new customers in the fourth quarter, leading SG Cowen & Co. to headline a research note "Redback Rocks." Analysts there believe that the onetime Wall Street pariah could regain its pre-bust glory days, calling 2006 "a major inflection point" for the company.
The depth of the turnaround is notable because even the component suppliers – from chipmakers to fiber optic component makers are seeing resurgence in demand.
"Bandwidth at the edge is forcing the upgrades and spending," says Kevin Kennedy, chief executive of San Jose, California-based components maker JDS Uniphase, once the poster child of 1990s telecom excess. During the bust, the fiber-optic component maker's multibillion-dollar market capitalization deflated as demand for telecom gear dried up.
Better days ahead
Kennedy's not ready to open a bottle of bubbly quite yet. But he feels that the worst is over and as faster networks are put in place, his equipment makers customers, like Siemens (Research), Nortel (Research), Ciena and Fujitsu (Research), will see an uptick in their fortunes.
Last week, JDS reported results for the second quarter of its 2006 fiscal year. Revenue increased 22 percent to $315 million, and the company narrowed its GAAP losses to $42 million, down from $67 million in the previous quarter. But Kennedy points to a non-GAAP loss of $3.7 million, or less than one cent a share, which excludes some accounting charges.
Moving up the food chain, one of JDS's customers, Ciena recently noted that its transport and switching gear business turned profitable after over four years of losses. The switching business was particularly hard-hit as telecoms like Global Crossing and WorldCom went bankrupt and stopped buying equipment.
With smaller telecom players seeing a boost, will Cisco get a rise out of broadband, too? Analysts expect the company on Tuesday to report earnings up 12 percent and revenue up 11 percent. And the best may be yet to come, with more network investments expected for the second half of 2006.
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