WorldCom to Cut Capex?
Shares of the telecom carrier were hammered today as jittery investors sold off shares in anticipation of a poor first quarter revenue report. The stock dipped 0.66 (12.15%) to 4.77.
But that's just the beginning of Worldcom's bad news for the telecom equipment market. Rumors have been circulating around Wall Street for the past two days that the company is planning to cut another $2 billion from its capital-spending budget this year.
Two billion dollars would be a significant cut in spending, considering that WorldCom's budget is only expected to be between $5.0 and $5.5 billion for 2002, according to the March 2002 Optical Oracle, report called Carrier Crisis Report (see Carrier Crisis: Who's Most at Risk?). This figure is already down from $7.9 billion spent in 2001.
That same report also pointed out that even though WorldCom has a relatively healthy balance sheet, the carrier's rising interest payments and a disappointing return on investment in its two latest acquisitions have created a significant drag on the company. These financial issues have resulted in more job cuts and a lowered debt rating (see WorldCom Cuts Jobs, Gets Lower Ratings). For these reasons, WorldCom could be more vulnerable than other interexchange carriers like Sprint Corp. (NYSE: FON) and AT&T Corp. (NYSE: T).
All of these factors may be leading the company to make more cuts. So what do more cuts at WorldCom mean to the equipment industry?
"If they are cutting capex again, it can't be good for the equipment vendors," says Simon Leopold, a telecom equities analyst for Merrill Lynch & Co. Inc..
Nortel Networks Corp. (NYSE/Toronto: NT), which is WorldCom's largest supplier of optical equipment, will likely feel the brunt of the cuts, as will Juniper Networks Inc. (Nasdaq: JNPR), a large supplier of IP-routing gear to WorldCom. In general, Leopold and other analysts believe that the cuts have already started affecting these companies. Both Nortel and Juniper have already warned that they will not be making their numbers this quarter (see Nortel Issues Damage Report and Juniper: Guidance Down, Stock Up).
But capital spending cuts won't only hurt current suppliers; it will also affect companies hoping to sell gear to WorldCom. For example, Ciena Corp. (Nasdaq: CIEN), Tellium Inc. (Nasdaq: TELM), and Corvis Corp. (Nasdaq: CORV) have all been chasing large deals with WorldCom.
"WorldCom has been evaluating a lot of bandwidth-management type products," says Leopold. "But cuts in spending would likely push out opportunities for landing deals, no matter who you are."
On the more optimistic side, some analysts note that the worst could be behind us. Kevin Slocum of Wit Soundview says WorldCom had already clamped down spending significantly in the first quarter and further cuts would already be reflected in current spending levels. He says the carrier was still finalizing its budget numbers in Q1, and now that it has an actual budget to work with, it will likely increase spending a little in the second quarter.
Slocum cites Nortel's and Juniper's revenue warnings as evidence that the impact has already been felt by these suppliers.
"The telecom industry is operating at such a low activity level right now that changes in capital spending have an instantaneous affect," says Slocum. "With the cuts that are coming, they are probably not that far from the spending levels they have already been seeing in the first quarter."
This theory agrees with historical telecom spending patterns. Traditionally, carriers have spent the smallest percentage of their yearly budgets in the first quarter, ramping up incrementally throughout the year, with the largest percentage of capital spent in the fourth quarter.
The big question is where WorldCom will spend the funds it has available. Analysts say next-generation Sonet equipment, such as Cisco Systems Inc.'s (Nasdaq: CSCO) 15454 and Ciena's K2, would be a good candidate. This could be good news for Cisco, which has not yet sold much transport gear to WorldCom. Nortel could also benefit, as it is already an entrenched supplier with a product that can address these issues.
"Sonet is still king in the telephony world," says Slocum. "So I see next-generation Sonet gear getting a lot of play. I have a hard time believing that optical could get a ton worse in the June quarter."
Nortel closed down 0.14 (3.85%) to 3.50 today. Juniper was also down 0.15 (1.36%) to 10.88.
- Marguerite Reardon, Senior Editor, Light Reading
Editor's Note: Light Reading is not affiliated with Oracle Corporation.