Ericsson Will Take $860M Hit to Prop Up Digital Services
Ericsson will take a SEK6.1 billion ($690 million) hit for the fourth quarter of 2018 and spend a further SEK1.5 billion ($170 million) on restructuring charges this year because of difficulties at a critical part of its digital services unit, which is struggling to meet profitability targets despite signs of improvement at the main networks business. (See Ericsson Outlines Cost of Restructuring BSS Business.)
The Swedish vendor blamed setbacks within its business support systems (BSS) business, which falls under digital services, revealing that Revenue Manager, its next-generation BSS product, has failed to generate any revenues as a "full stack" service for network operators.
Ericsson AB (Nasdaq: ERIC) will consequently abandon efforts to sell Revenue Manager to new customers and instead funnel investments into an older, established platform called Ericsson Digital BSS.
Of the SEK6.1 billion in fourth-quarter costs, only SEK3.1 billion ($350 million) is classed as a "restructuring charge," which implies that Ericsson is effectively writing off about SEK3 billion ($340 million). Besides writing down the value of some intangible assets, the company said it would incur charges because of customer compensation payments and to cover project delays. Those payments will have an impact on cash flow for "several years," starting in 2019, said Ericsson.
The gloomy update had a nasty impact on Ericsson's share price, which was trading down about 4% in Stockholm at the time of publication. The company's share price remains 40% higher than on this day in 2018, however.
The full cost of SEK6.1 billion ($690 million) will hit Ericsson's gross margin for the final quarter of 2018, it acknowledged. Ericsson made about SEK52 billion ($5.9 billion) in gross profit over the first nine months of 2018, but only SEK9.6 billion ($1.1 billion) came from sales of digital services, which registered an operating loss of SEK6.8 billion ($770 million) for the same period.
That was an improvement on the loss of SEK15 billion ($1.7 billion) for the same period of 2017, but the 2020 target of a low single-digit operating margin for digital services now looks in doubt after the latest BSS setback.
Ericsson hopes a further round of restructuring will shore up the business. As well as the restructuring charge of SEK3.1 billion ($350 million) for the fourth quarter, it will spend another SEK1.5 billion ($170 million) on restructuring this year and has warned of further job losses.
Overall headcount at Ericsson has fallen by nearly 17,000 since current CEO Börje Ekholm took charge of the company at the start of 2017, to about 94,499 employees at the end of September 2018.
The cuts have fueled growth in profitability during a period when operators have not increased their spending on network products. Ericsson swung to an operating profit of SEK3.2 billion ($360 million) in the third quarter of 2018, from a loss of SEK3.7 billion ($420 million) a year earlier.
Ekholm has struck an optimistic tone about an improvement in market conditions as operators this year begin to invest in next-generation 5G technology, but these remain nervy times for the Swedish company. (See Have We Reached Peak Ericsson?)
Reporting third-quarter results in October, Ericsson indicated that a US investigation into corrupt practices -- dating back to before Ekholm's tenure -- could land the company with a "material" fine. After a similar investigation into corruption at its Asian business, Swedish operator Telia Company was hit with a $1 billion fine in 2017, a figure that equaled about 11% of total company sales. (See Ericsson Corruption Scandal Sullies Strong Q3.)
Last month, a problem with Ericsson's network technology triggered service outages for millions of smartphone customers worldwide, affecting operators including Japan's SoftBank Corp. and the UK's O2. Ericsson may be on the hook for millions of dollars in compensation payments. (See Ericsson Problem Leaves Millions Without Smartphone Services and Eurobites: Telefónica Seeks Outage Compensation from Ericsson.)
The signs now are that 5G's arrival will be accompanied by a downturn in the global economy, which could prompt cautious telcos outside North America to delay spending on the rollout of 5G networks. Already there are doubts that operators will be able to quickly recoup their investments in 5G -- especially if governments charge high fees for the spectrum telcos need to support 5G services.
Ericsson also faces tough competition from Finland's Nokia Corp. (NYSE: NOK) and China's Huawei Technologies Co. Ltd. in the 5G market. Huawei may have been locked out of some 5G business, with governments arguing its technology could include "backdoors" for Chinese spies, but it is still seen to have a technological lead over its European rivals by some executives. (See BT's McRae: Huawei Is 'the Only True 5G Supplier Right Now'.)
At least Ericsson's investments in Revenue Manager have not been entirely wasted. Ericsson said it would add capabilities from that product to its established portfolio, in which it plans to increase investments. It aims to repurpose Ericsson Digital BSS to ensure it is "ready" for new business models related to 5G and the Internet of Things, including the evolution to cloud-native and microservices-based networks. More details are promised when the vendor reports fourth-quarter results on January 25.
— Iain Morris, International Editor, Light Reading