As Slump Steepens, Telecom Gloom Deepens

Even if you already were thinking telecom investing was a loser's game, Thursday's news was an eye-opener.

Two of the industry's fallen favorites,

Qwest Communications

(Q)

and

Nortel Networks

(NT)

, served notice that their businesses are deteriorating even faster than investors had assumed. Both slashed earnings and revenue targets for coming periods and rolled out more layoffs. Their stocks fell.

Earlier Thursday, local-phone leader

SBC Communications

(SBC)

made similar comments, though the Baby Bell remains in ruddy good health -- in contrast to next-generation network builder Qwest and telco-gear giant Nortel, which now pepper their press releases with promises of cash-flow positive quarters and pending break-even points.

Most chilling of all to observers is that even as the economy turns around, boosting results at retailers and some other tech firms, there has been no sign the beleaguered telecom industry is about to get back on its feet. That can mean only more pain at these players and others, with no sign of a reversal, observers say.

Interesting Times

Already, with just three phone companies having reported, it's clear revenue across the industry continues to fall and, in turn, capital spending takes another round of pullbacks.

Sprint

(FON)

was the first, reducing its spending plan to $2.7 billion, down 50% from 2001. Then SBC hinted that it would take spending down below $9 billion, roughly 30% less than its $12 billion level last year. And then there's Qwest. With the latest cut to $3.1 billion, Qwest is now 63% below its 2001 budget.

"Like it or not, those of us in the telecom industry are living in interesting times," Nortel CEO Frank Dunn said in opening his first-quarter earnings call with analysts Thursday. He used the line to set up his shoulder-to-the-wheel proclamation that Nortel was "making progress despite these interesting times."

But probably most interesting to many observers is how Nortel can continue to present an upbeat forecast when nearly all indications point to a downbeat future.

"There is still a disconnect between the declines in capital spending and the expected revenue projections for these equipment companies," says Salomon Smith Barney analyst Alex Henderson.

The disconnect was apparent in the numbers the telcos ran out Thursday. Qwest set its latest 2002 capital spending target at $3.1 billion to $3.3 billion, down from the $3.7 billion forecast it made earlier this year and 63% below the year-ago $8.5 billion expenditure.

Qwest said the new guidance "reflects continuing weakness in both the telecommunications sector and the regional economy in Qwest's 14-state local service area, as well as increased competitive pressure."

Meanwhile, San Antonio-based SBC

said Thursday that though it still expects its full-year earnings to grow by 5% to 7%, meeting its goal of increasing revenue 1% to 3% might be "challenging." That could easily mean still more cuts in capital spending; analysts say the company could cut to as low as $8.5 billion this year.

Challenging Indeed

Yet Nortel, which stands to suffer every time the big phone companies reduce their spending, insisted that a 6% workforce cutback will help to offset an uncertain customer spending picture and help the company cut its revenue break-even point to $3.5 billion. First-quarter revenue was just $2.9 billion.

CEO Dunn said that while the total market might be shrinking, Nortel's piece of it wasn't. He said that sales of his older gear was as close to the bottom as it was likely to go, and that new products combined with renewed attention to core customers would provide a good boost for the company.

But industry pundits such as Patrick Comack, an analyst at Guzman, point out that a turnaround in the telecommunications market typically lags behind a rebound in the economy by about one to two quarters. And a similar recovery in the telecom-equipment market probably would lag that, which by any prudent estimate has the gearmakers in a funk for the remainder of the year.

Investors may yet witness the most interesting times of all.