While capacity is filling, most carriers will wait to buy new DWDM equipment until next year.
BY NEIL DUNAY
Everyone involved in the optical-networking industry is asking, when will carriers resume spending on optical equipment? To understand the carriers' views on this subject, in late June, KMI surveyed people involved in procuring optical-networking equipment for service providers. This Web-based survey attracted 236 responses from carrier representatives around the world. The survey results revealed that spending will not surge over the next 18 months, but it also reveals that carrier networks are experiencing high rates of utilization that will soon require attention.
The survey covered traffic trends, procurement of optical crossconnects, and procurement of DWDM equipment. For DWDM transport equipment, KMI asked carriers what they have already deployed, how much is being utilized, when they would issue new contracts, and how their spending would change in 2002 and 2003.Capacity utilizationA key factor in the demand for equipment is how much of it is already being utilized and how fast it is filling up. Based on past sales of DWDM systems and fill rates on networks, KMI estimated in September 2001 that carriers would be hitting 50-60% of capacity utilization on their DWDM systems in 2002. The new KMI survey corroborates that analysis, with respondents indicating an average capacity utilization rate of between 50% and 55%. This rate is critical, because it indicates how soon carriers will have to start spending to add capacity to their networks.
Historically, carriers have typically upgraded their systems once they hit a rate of between 50% and 70%-so an average of 60% would be an expected response to our question "At what level (capacity utilization) will you add another system?" In contrast, the survey responses indicate this rule-of-thumb has been thrown out the window. On average, respondents said they would wait until their systems reach 70% of capacity before adding a new DWDM system. Some respondents said they would press their network to 80%, 90%, or even near-full capacity before upgrading the network.
This doesn't mean carriers will not deploy DWDM transport equipment any time soon. The average network utilization rate masks the fact that certain routes are experiencing above-average utilization and will need upgrades in the near future. Two-thirds of the respondents indicated they had at least one route with a utilization rate higher than 60%. Of these carriers, each had about 20 routes on average with utilization rates that high. That means these carriers alone could be looking to install about 2,000 DWDM systems at some point over the next 18 months-a potential market value of about $1 billion.
Complicating the recovery of the market, however, is inventory. Nearly 40% of respondents indicated they still had excess inventory of DWDM equipment. These inventories will need to be whittled away before carriers will start buying new equipment.
When asked when they would be awarding new DWDM contracts, 70% indicated they would do so before the end of 2003. During the period, the highest response rate was for the second quarter of next year. Nevertheless, 30% indicated they would not award new contracts until 2004 at the earliest.
Based on these survey responses, the outlook is dim for an immediate and dramatic recovery in DWDM spending. Responses to questions about spending growth indicate that worldwide carriers intend to increase DWDM spending this year by about 2.5%. KMI estimates the DWDM transport market fell 21% from $8.39 billion in 2000 to $6.66 billion in 2001. The average growth rate indicated by survey respondents would nudge the market up to $6.83 billion in 2002. This average rate does not reflect the regional variation in responses, with North America remaining particularly sluggish. The global average growth rate indicated by the respondents was about 7% next year-a grow rate far short of the near doubling of the market annually in the late 1990s.
In developing a market forecast, however, KMI views carrier expectations as just one tool-and perhaps not the most reliable. KMI conversations with equipment vendors and an analysis of their financials so far in 2002 indicate a much rougher ride this year than carriers have expressed. In the first half of this year, many vendors are reporting optical equipment revenues more than 50% lower than those reported in the first half of 2001. The number of DWDM contract announcements, which should be a leading indicator for revenues, fell from 31 in the first quarter of this year to just 19 in the second quarter, the lowest quarterly number of contract announcements in nearly three years. Contract announcements in the first half of 2002 were 38% lower than in the first half of last year.
Modest growth in '03
Given these factors, KMI estimates that worldwide revenues for DWDM equipment will decrease in 2002 by as much as 50%. Growth should resume next year, albeit at a modest rate-about 10%.
Although carriers will accelerate the awarding of new contracts into 2003 and will be upgrading their network capacity, KMI expects consolidation in the carrier space will continue into next year, thus placing a drag on the equipment market's recovery.
After 2003, the fundamental driver of bandwidth demand should sustain growth in equipment spending, as carriers emerge from the downturn in a stronger financial and competitive position to upgrade their networks.
Neil Dunay is a senior analyst for KMI Research (Providence), which is owned by Lightwave's parent company, PennWell Corp. He can be reached at 401-243-8116 or [email protected].