2002: Telecom's Trying Year

Convoluted accounting practices were exposed, slack demand continued and a flurry of mergers and Ch. 11 bankruptcies staved off closures for some big-name players. Will 2003 be better?
Posted December 26, 2002

Colin C. Haley

For the telecommunications industry, 2002 was a year in which convoluted (and in some cases criminal) accounting practices were exposed, slack demand continued to buffet growth and a flurry of mergers and bankruptcies staved off outright closures for some big-name players.

It started bad. After years of feverish investment in fast, but pricey networks, carriers and equipment makers limped into 2002 under the weight of staggering debts. Meanwhile, corporations and consumers remained skeptical about economic recovery and delayed or canceled orders.

Carrier Woes

In January, Global Crossing, a provider of voice and data transport for carriers, retreated into Chapter 11 bankruptcy protection. Eight months later, the company agreed to sell its fiber-optic network to a team of investors from Asia as the first step in a restructuring plan.

A government probe of Global Crossing's books, also prompted questions about other telecoms, including Qwest Communications, which eventually restated earnings from 1999 to 2001, slicing off nearly $1.1 billion of transactions. The company, which serves 14 western states, incorrectly accounted for sales of optical capacity assets as well as some equipment transactions. The revelations forced out CEO Joseph Naccio.

WorldCom followed a similar script. The nation's second-largest long-distance carrier was probed by the Securities and Exchange Commission for its accounting. Longtime CEO Bernie Ebbers left under a cloud of $366 million in loans and loan guarantees the company made to him in the days when WorldCom's stock was flying high.

Then in June, WorldCom, which also sells Internet services through its UUNet unit, disclosed it had overstated its cash flow by a whopping $3.8 billion. Ultimately, the amount would mushroom to $9 billion. Its July, WorldCom's bankruptcy protection application earned it the dubious distinction of the largest filing in U.S. history.

Others who filed for bankruptcy include Williams Communications, 360networks, XO Communications, and Winstar. Most recently, Genuity followed suit.

Bright Spots

The shakeout had some benefits and beneficiaries. A degree of clarity has been introduced into accounting practices. Industry watchers know it will be months, if not years, before trust with investors can be restored, however, changes in reporting revenues are a crucial first step.

Additionally, those companies who resisted the urge to overextend during the boom of the late 1990s had cash to bargain shop in the aisles of bankruptcy courts. For example, Level 3 Communications used a war chest provided by Warren Buffet's Berkshire Hathaway Group to pick up network assets and contracts from Genuity.

Level 3 acquired Genuity's Tier 1 network, its operations and its customer base, including its domestic contracts with America Online and certain of its domestic contracts with Verizon, as well as a significant portion of Genuity's existing long-term operating agreements. A ruling from the FCC earlier this week, cleared the way for the Level 3, Genuity purchase.

There were other encouraging signs. Digital subscriber line companies tallied 5 million new users in the third quarter, according to industry researcher Point Topic. The gains pushed the number of worldwide DSL customers past the 30 million mark and delighted advocates of the technology which uses sophisticated modulation schemes to pack data onto copper wires.

The uptick coincides with several companies rolling out bundled packages of high-speed Internet access and local and long-distance telephone service for residential and small business customers. This should result in choices and savings for some consumers.

The expansion of broadband access is generally thought to be a boon for service providers as well as content companies who believe they can sell additional services such as streaming audio and video to users with fast, always-on connections.

The Year Ahead

So what does 2003 hold? Most likely a mixed bag again, analysts say.

Carriers will remain frugal, predicts Deutsche Bank Securities. Their capital expense budgets for network upgrades and other large projects in North America will fall 20 percent to 25 percent in 2003, compared to 2002.

"Existing network capacity, relatively weak services demand, slowing data revenue growth and high carrier debt levels remain inhibitors to (capital expense) spending," a recent Deutsche Bank report said.

Because of these factors, as well as razor thin margins for equipment suppliers, the firm also sees more mergers and acquisitions. Though it could be painful, such moves will ultimately make the industry stronger.

"The need for industry consolidation is stronger than ever before," DB concluded, adding that the bankruptcy courts approval of restructuring plans is allowing some unhealthy companies to survive.

Still the worst may be over. A survey of CIOs by Giga Information Group shows that U.S. businesses, especially mid-tier companies, anticipate that their IT spending will remain flat or increase slightly in 2003.

"Nonetheless, customer demand for new telecom products and services will be highly selective," Giga analyst Lisa Pierce concludes.

Infrastructure that shows strong return-on-investments -- especially virtual private network, local area networks and network management products -- is expected to sell respectively, Giga said. Wireless systems, though promising, must still overcome implementation and security concerns before gaining widespread acceptance.

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