Heavy Reading: Startups on the Rebound

Think telecom equipment startups are dead? Think again. Now that the telecom industry is crawling out of the abyss, life is coming back to the startup market (see Taqua Buy Comes Into Focus, Ciena Buys More Than Catena , and Juniper Buys NetScreen).

The resurgence is being driven by competition and capital, both of which are starting to flow back into the sector. That's the conclusion of a new Heavy Reading report, "Telecom Recovery Investment Opportunities," penned by Heavy Reading Chief Analyst Scott Clavenna.

Equipment providers are once again jostling with one another to fill in their product portfolios, many of which have plenty of holes after three years of cutbacks, notes the report. Merger and acquisition activity is on the rise, and is likely to increase.

Where's all this activity coming from? The top of the food chain: Telecom operators are starting to think about next-generation technology, and they finally have the money to spend. The major operators, which have turned around their finances and cleaned up their balance sheets, now have substantially more free cash flow on hand, according to research by UBS Investment Research:

So what will the operators do with more cash flow? Clavenna sees the money flowing to technology and services, i.e., more capital spending:

"After three years of cutting costs to generate free cash flow, carriers are now providing guidance of increased capital expenditures for 2004, with a shift in capex away from many traditional builds to next-gen activities, such as FTTP, IP/MPLS core networks, DSL expansion, and managed services for the enterprise," writes Clavenna.

All this adds up to the return of animal spirits in the investment community, says the Heavy Reading report. Think: more venture capital, more investment banking activity, more M&A, and yes -- even potential IPOs.

Through an extensive survey and a series of interviews with leading venture capitalists, investment banking sources, and service providers, Heavy Reading came up with lists of hot startups that might make likely acquisition and IPO candidates. Here are just a few: Calix Networks Inc., Force10 Networks Inc., Sylantro Systems Corp., and Turin Networks Inc. (IPO potential); BigBand Networks Inc., NetScaler Inc., and P-Cube Inc. (acquisition bait).

The Heavy Reading report concludes that much of the M&A and venture funding activity will be driven in specific equipment categories, especially those in strategy areas that are of interest to the most active incumbent equipement providers, which include Cisco Systems Inc. (Nasdaq: CSCO) and Nortel Networks Corp. (NYSE/Toronto: NT). Some of the most attractive categories including Ethernet access devices and equipment targeted at multiple systems operators (MSOs).

The full 141-page Heavy Reading report, which costs $4,295, includes a complete breakdown of the market segments, recent venture capital activity, likely M&A targets, and IPO potential of equipment providers. An executive summary is available here.

— R. Scott Raynovich, US Editor, Light Reading

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