Nortel swallows struggling Bay (ASND references, and takeover speculation)
Northern Telecom to pay $9.1 billion to hope into red-hot datacom mart.
By Jim Duffy
Network World, 6/22/98
Though Northern Telecom Ltd.'s acquisition of Bay Networks, Inc. last week
appears to usher in a new era for the network industry, the union still has to win
over some skeptics.
The deal is predicated on the belief that users will rely on IP networks for
transmitting everything from data to voice and video.
And with IP as the common protocol for connecting businesses and business
applications, enterprise and service provider networks are no longer separate
and distinct.
"It should change the landscape," said Craig Johnson, principal of PITA Group in
Portland, Ore., of the Nortel/Bay deal.
But for all of the apparent synergies - Nortel is the No. 2 supplier of
telecommunications equipment to carriers, while Bay is a leading data network
supplier to the enterprise - skepticism about the deal abounds.
Nortel stock dove 15% when the deal was announced, effectively erasing almost $2 billion of the transaction's
initial value of $9.1 billion. And Bay shareholders have already begun suing Nortel, alleging that the company's
35% premium on Bay stock is insufficient.
And it's not just Nortel and Bay stockholders who may have trouble with the deal. Private capital sources also
have expressed skepticism.
One analyst who asked not to be identified said that at a recent venture-capital dinner he attended, the
moneybags panned the anticipated deal.
"They said anybody who buys Bay or 3Com [Corp.] we would consider to be stupid companies because
anybody who's talented has left those companies and started other companies," the analyst said.
Perhaps. But there's a lot of that going around.
Nortel's purchase of Bay is only the first in anticipation of a series of marriages between data and
telecommunications giants.
Lucent Technologies, Inc. has been on a tear, buying up ATM, Gigabit Ethernet and remote access vendors, and
analysts said the company is not done.
Observers also expect Alcatel N.A., LM Ericsson and Siemens AG to bid for the likes of Ascend
Communications, Inc., Cabletron Systems, Inc., FORE Systems, Inc. and 3Com.
"If you're 3Com or you're Cabletron, you have to be walking around with a smile on your face right now because
somebody from Lucent is going to be knocking at your door," said Rick Malone, principal at Vertical Systems
Group in Dedham, Mass.
If there is one catalyst behind this tidal wave of industry consolidation, it is the World Wide Web. The Internet is
forcing voice-proficient telecommunications companies, such as Nortel and Lucent, to bulk up their data arsenal
because they recognize that IP is the next dial tone.
"Data has a growth rate of 30% to 40% per year, and it's driven by the Web," said Nortel CEO John Roth. "The
IP component is growing more like 70% per year. That's really the segment we're focusing on."
Nortel rival Lucent will also focus on that segment as Lucent responds to this deal, which analysts say the
company will be forced to do.
Because it lacks basic LAN and WAN infrastructure items, such as shared Ethernet hubs and low-end routers,
Lucent has relied on a 1995 agreement with Bay to provide complete multivendor network installations to
customers. Lucent's NetCare network-integration and support division has handled many of these projects.
The Bay relationship has been critical for Lucent to maintain its foothold in the enterprise while it rolls out its own
product lineup.
Lucent has nearly 2,000 salespeople trained to sell Bay products, analysts from Gartner Group, Inc.'s Dataquest
division estimated. And NetCare is the largest single provider of continuous support to Bay customers.
The dilemma: Bay's new owner is Lucent's long-time archrival for circuit-switching gear in enterprise and carrier
networks. What's more, both Nortel and Lucent have announced almost identical plans to break into the "Big
Four" pantheon of internetwork vendors - which Nortel will have achieved if the Bay acquisition goes through.
"It's clear that [Lucent's] relationship with Bay, once this thing closes, is dead," Malone said. "[Lucent] will have to
respond with another set of products that replace Bay's. They just can't go on selling Bay equipment if Bay is
owned by their No. 1 competitor."
A Lucent spokesman said the company will continue to support its current Bay installations. He also insisted that
Lucent will indefinitely continue to sell Bay products as part of its multivendor packages. Most analysts found that
last part hard to believe.
"They're going to have to sever that relationship," said Peter Bernstein, president of Infonautics Consulting, Inc., a
research firm in Ramsey, N.J.
Dataquest also rushed out a client alert predicting that Lucent's relationships with Bay will be terminated as soon
as Lucent is able to announce a "viable strategy" for complete LAN/WAN networks.
"It's simple," said Dataquest Principal Analyst Christopher Thompson. "Nortel doesn't want Lucent in its customer
base, and Lucent doesn't want Nortel in its base."
Thompson agreed that existing Bay customers under Lucent support contracts will not be let go. But he predicted
they eventually will migrate to Nortel support contracts.
While Lucent will be forced to respond to the Nortel/Bay union, Cisco Systems, Inc. may not have to. As the
worldwide leader in data networking for the Internet, the game is coming to Cisco.
"Cisco has seen this type of market movement coming a long way off," said Fred McClimans, CEO of Current
Analysis, Inc., a consulting firm in Sterling, Va. "Cisco had already started down the road to [playing a bigger role
in] the carrier space way back with its acquisition of StrataCom [Inc.] and then more recently with the partnership
with Ciena [Corp.] In fact, we expect to see that continue, probably through a strengthened partnership with
Tellabs [Inc.]."
Indeed, Cisco Chief Technology Officer Judy Estrin said her company will now look to Tellabs, which recently
acquired Ciena for more than $7 billion, for wavelength-division multiplexers. Wall Street analysts say it's possible
Cisco will acquire Tellabs.
Barring an acquisition by Lucent, which many analysts anticipate, Ascend needs to continue to upgrade its
carrier-class remote access, switching and routing offerings. McClimans said Ascend must work closely with
enterprise networking companies such as 3Com and Cabletron.
Customer reaction
The response to the Nortel/ Bay deal among users, meanwhile, is generally positive.
"We think that's a great thing," said Chuck Beam, manager of telecommunications at Duke Power Co. in
Charlotte, N.C., which uses Nortel and Bay gear.
"We've been looking for Bay to get picked up by someone, hopefully someone like a Nortel. There needs to be a
stronger convergence of data network equipment and telecommunications equipment, and it's going to take
acquisitions like this to make it happen," Beam said.
One big reason for the merger: the uphill battle Nortel would otherwise have to fight to gain credibility in the IP
world. ATM vs. IP was turning into a religious battle for Nortel, analysts said, but it was a battle the company
was no longer planning to fight in the enterprise.
"From what I hear, [Nortel's] really pressing forward with this acquisition to integrate the technology," said Rick
Carpani, a program manager in Florida Power & Light Co.'s (FP&L) Information Management,
Telecommunications and Technology division.
"They're not waiting [until] all those [terms and conditions] are completed," Carpani said.
FP&L runs a private 58-node ATM WAN backbone using Nortel's Passport switches and is in the process of
evaluating Layer 3 switches for a LAN upgrade throughout the enterprise.
"I think Bay fills a gap that Nortel has in its product line with frame switching," Carpani said.
Union Pacific Railroad Co. in Omaha, Neb., is a Bay shop that sees the Nortel/Bay union as business as usual.
"I don't think much is going to change in the short term," said Brett Frankenberger, systems engineer at the
railroad company.
"Longer term, their product lines are so disparate now that I don't know that a whole lot is going to change except
the company name," said Frankenberger.
Indeed, Bay and Nortel executives said there was virtually no overlap in each company's product offerings.
Yet Nortel CEO Roth said 25% of his company's business is in the enterprise, where Bay is the third-largest
provider of LAN equipment. And Bay has been attempting to bolster its service provider presence with limited
success, analysts said.
Areas for potential overlap are in dial-access and high-end routing.
Nortel acquired Aptis Communications, Inc., a maker of high-density dial access concentrators. Bay, which also
courted Aptis, offers the Versalar 5399 concentrator, which is a lower end remote access offering.
For high-end routing, Bay is developing an OC-12-capable router for ISPs that's expected in mid-1999.
But Nortel has a 20% stake in Avici Systems, Inc., a start-up developing terabit switching routers for the Internet
core.
Nortel's Roth and Bay CEO David House intimated that Nortel may settle on a Bay/Avici hybrid for high-end
routing. |
