Consolidation Seen Among Voice, Data Cos In Networking Industry [Good Sagawa (Bernstein) comments]
By Joelle Tessler
NEW YORK (Dow Jones)--As the lines between voice and data communication continue to blur, many industry experts are predicting a wave of consolidation among
telecommunications-equipment makers and data-networking companies.
Acquisition rumors have been sweeping the computer-networking industry for months,
with just about every major networking name other than Cisco Systems Inc. (CSCO)
mentioned at some point as a potential takeover target for a big telecom-equipment
company.
The two industries are likely to converge in the years ahead through mergers, analysts
believe, as the big voice equipment makers eye the faster-growing computer networking
industry and as they try to protect their core businesses as more and more voice traffic
travels over data networks.
"The [data] networking industry ... was ignored by the big
telecom-equipment companies," said Volpe Brown & Whelan Co. analyst Amar Senan.
"But now data networking is big, and they can't ignore it anymore."
While the big voice equipment players are likely to develop some data networking
products in house, Jeffrey Pittsburg, a partner at Goldis-Pittsburg Institutional Services,
believes they will get a lot of technology through acquisitions because "it's much faster."
"It's not a question of money," Pittsburg said. "It's a question of time. ... The Internet is
much bigger than they had expected. ... They don't have a long time frame to develop all
of this technology."
The latest takeover rumors in the networking sector have swirled around Bay Networks
Inc. (BAY). Lucent Technologies Inc. (LU), Alcatel Alsthom (ALA), Northern
Telecom Ltd. (NT), L.M. Ericsson Telephone Co. (ERICY) and Siemens AG. have
been named as potential suitors.
A month or two back, the rumor was that Tellabs Inc. (TLAB) would buy Fore
Systems Inc. (FORE). And Ascend Communications Inc. (ASND) and Cabletron
Systems Inc. (CS) have also been named as likely targets.
Industry watchers also expect to see partnerships between major players in the two
businesses. For instance, while Cisco is too expensive for most would-be suitors and
Northern Telecom isn't for sale since it is partly owned by the Canadian government, the
industry has long suspected that the two companies could enter into some sort of major
alliance, said Sanford C. Bernstein & Co. analyst Paul Sagawa.
This would in turn put pressure on Lucent to step up its push into the data networking
market, Sagawa said. Lucent has been actively building up its presence in this business
through internal development and acquisitions, although the company is currently
prohibited from transacting pooling of interest deals because the company was spun off
from AT&T Corp. (T). This two-year moratorium will expire in October, giving Lucent
more flexibility to make acquisitions, he said.
"It would be a chain reaction because they want to have a level playing field," Pittsburg
said.
The telecom equipment makers are interested in the data networkers in large part
because they are in a much faster-growing business, analysts agreed.
Randall Yuen, an analyst with Salomon Brothers Asset Management, estimates the
voice-transmission industry is growing at about 5% annually. He believes the data
transmission industry, on the other hand, is growing at about 30% annually, driven by
the explosive build-out of the Internet and the increasing reliance of major corporations
on data networks for mission-critical operations.
"It's an aggressive move," said Lazard Freres analyst Michael Duran, explaining that the
voice-equipment makers are "looking for new areas of growth."
Pittsburg, of Goldis-Pittsburg, added that the adoption of high-speed networking
solutions like asymmetric digital subscriber line, or ADSL - a technology designed to
dramatically speed up Internet data transmission to PC users over home phone lines -
will only fuel the growth.
"People are racing to buy equipment to handle fatter, faster applications," Pittsburg
agreed. "Everyone wants to be involved in the networking of this business ... Everyone
wants a piece of it."
Analysts added that these companies are also looking at the data-equipment market
because they want to be "total suppliers" to their customers -
providing all of the different pieces of their networks. "They want to be in as many
concurrent businesses as possible because they are dealing with giants who buy a lot of
stuff," Pittsburg said. "They want to be able to provide end-to-end solutions."
Duran noted that the telecom-equipment makers are eying the data players not only for
their technology, but also for their customer relationships and distribution networks.
Many voice players "still lack the widespread ability" to sell data equipment, Sagawa, of
Sanford C. Bernstein, said, since they "don't call on the people who make the data
decisions right now."
Duran stressed that the telecom-equipment companies are also very much on the
defensive as they try to protect their core operations since "the data folks are starting to
think they can take over the voice market." Led by Cisco, most of the major data
networking companies have been aggressively developing and acquiring technology to
voice over Internet Protocol and other data networks.
"We are the leader in the technologies that fuel the new world," said Larry Lang, vice
president of marketing for Cisco's service provider group. "This is worrisome to
companies that aren't leaders in the new world."
William O'Shea, president of Lucent's Data Networking Systems Group, explained that
the entire networking industry is at a major crossroads. Until recently, he said, network
traffic was dominated by voice, so network-equipment makers "built networks to do a
great job with voice." When data traffic came along, it was simply added on top of
voice.
But this trend is starting to reverse itself since the data-networking industry is growing so
quickly. Soon, O'Shea said, "data will become the dominant traffic and voice will run on
top of that." Right now, he said, with traffic split about evenly between the two, "we're
at the cross-over point ... so we're seeing a lot of activity."
What is happening, Yuen explained, is that telecom networks are starting to resemble
data networks more and more as they migrate from analog circuit switching technology
to digitized packet switching technology.
While circuit switching functions by establishing a continuous connection between two
points in a network, packet switching divides data into packets that travel over different
routes and are reassembled at their destination.
"We are now seeing digitalization of voice traffic to send over packet networks," said
Salomon's Yuen.
The underlying question for all of the industry players, of course, is "what will networks
look like 15 years out?" said Sanford C. Bernstein's Sagawa. The answer is still up in
the air, but Sagawa sees some trends starting to take shape.
The analyst expects the networks of the future to use new architecture based on optical
fiber switching; wave division multiplexing, a transmission method that increases the
capacity of fiber optic lines by sending and receiving light in multiple frequencies or
colors and intelligent edge servers to handle application-specific network protocols.
These networks will be able to transmit many types of traffic, including voice and data,
by handling each "in the way that is most appropriate to it," Sagawa explained.
And since voice will be just one small part of this, the big phone equipment companies
will "have to have something else to do" - like data networking - he said.
While the vast changes sweeping the industry have led some data networking companies
- notably Cisco - to buy telecom equipment makers, Volpe Brown & Whelan's Senan
believes it is easier for the telco players "to move downstream" than for the data
companies "to make it up the food chain."
This is in part because many telecom equipment players have critical mass and strong
stocks, which give them deep pockets, he said. The networking sector, on the other
hand, has been plagued by weak share prices, making acquisition targets more
affordable.
Only Cisco's stock is healthy enough to give it the "tremendous currency" needed for
very large purchases, Senan noted. The company's strong stock performance also
makes it one of the few networking companies that may be too expensive for the telco
players to afford.
The acquisition activity has already begun, led by Lucent, which has made several data
networking purchases. The company bought Agile Networks, an intelligent data
switching firm in October of 1996; Prominet Corp., a maker of gigabit Ethernet
switching and routing products in January; and Livingston Enterprises, a remote access
provider in December of 1997. And last month, it agreed to buy Yuri Systems Inc.
(YURI), a provider of ATM wide area access equipment.
Likewise, Northern Telecom last month purchased Aptis Communications Inc., also a
remote access company.
And Siemens, Newbridge Networks Corp. (NN) and 3Com Corp. (COMS) are in an
alliance to jointly develop and market products. In late 1997, Siemens and Newbridge
jointly purchased Radnet Ltd., a maker of ATM access switches.
Looking out a few years, Senan believes the data networking industry will become part
of the wireline telecom equipment business. He also expects to see fewer but larger
companies in a sector encompassing voice and data traffic.
The analyst believes there will be 10 to 15 main players, another 20 to 30 medium-sized
players and "a whole bunch of small companies" with specialized expertise that might
make attractive acquisition targets.
"It is an industry that is shrinking in number, but it will be left with bigger players," Senan
said. |
