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THE OPTICAL NETWORKING INDUSTRY WILL REACH NEW HIGHS IN 2013–2017 AND MAY SURPRISE INVESTORS WITH PROFITABILITY

LightCounting December 2012 Market Forecast Report and Database now available

View this Newsletter in Chinese

At the end of 2012, AT&T and Deutsche Telecom disclosed plans for boosting annual CapEx by 10–15% in 2013–2015. In response, their competitors are very likely to increase infrastructure investments as well. If these plans materialize, the optical networking industry will get a long overdue boost, possibly as early as in the second half of 2013 but most likely in 2014. The telecom industry generally is slow in responding to changes, and several service providers in Europe indicated that they will forestall investments until economic conditions improve in 2014–2015.

Economic slowdown in China made headlines in 2012, as the country’s GDP growth dropped from 9–10% in 2010–2011 to 7.7% in 2012 and the target for 2013 is set at 7.5%. Concern is justified, since CapEx of the leading three service providers in China accounted for 27% of the total CapEx of the top 15 global carriers in 2012, up from 17% in 2007. For comparison, contributions of the top three U.S. service providers to the CapEx of top 15 carriers declined to 24% in 2012, down from 28% in 2007. An abrupt decline in infrastructure investments in China would shake up the global market; but how likely is that to happen?

While historically unpredictable, policies of the Chinese government remained steady over the last decade, as China is committed to becoming the world’s largest economy over the next two to three decades. Networking infrastructure in China remains well behind the United States and Europe, however, in terms of quality of services available to consumers. For example, AT&T and Verizon offer 4G wireless services to the majority of their customers in the United States today and plan to cover close to 100% of the country in 2014. China Telecom offered 3G wireless services to 75 million customers in China by the end of 2012, but this is just above 10% of the total number of customers. China is leading the world in terms of potential customers passed by FTTH networks, but the average speed of wireline broadband connections is well below the speeds available in the United States, not to mention Japan and Korea. These are not statistics that the Chinese government can be proud of yet. Confirming its commitment to FTTH deployments, the Chinese government just announced a new policy, which states that “Starting April 1st, 2013, all newly built residences, if they are located in counties and cities where a public fiber optic telecom network is available, have to be equipped with fiber network connections”.

The industry is very likely to enjoy increased infrastructure investments in 2013–2015. AT&T and Deutsche Telecom indicated that larger part of the total CapEx will be spent on networking equipment, indirectly confirming speculations that major carriers may not have been investing enough over the last few years. Brutal competition among networking equipment manufacturers may have also contributed to delays in the infrastructure upgrades over the last few years. If product performance improves while prices decline rapidly every year, it makes sense to delay major upgrades for as long as possible and take advantage of the new technologies at lower prices.

Other encouraging developments for the industry in 2012 were government initiatives in Europe and the United States meant to limit the influence of Huawei and ZTE, which are both rapidly gaining market share. The U.S. government effectively restricted sales of Huawei and ZTE networking equipment to major U.S. carriers citing cyber security concerns. The European Commission has determined that Huawei and ZTE are both inflicting damage on European producers by dumping products onto the European market.  The combination of low prices “at least 35% below fair market prices” and customer financing from Chinese banks, provided by Huawei and ZTE, made it very difficult for western manufacturers to compete. Both Alcatel-Lucent and Ericsson had to reduce their work forces, while Nokia Siemens sold its optical networking business unit to a private equity firm, Marlin Equity Partners, in 2012. 

LightCounting estimates that revenues of the top ten telecom equipment manufacturers declined by 6% in 2012, mostly because of price wars and weaker carrier spending, primarily outside of China. Huawei is still expecting to report an 11% increase in sales, when its annual report is published in April 2013. ZTE is expected to report lower revenues for 2012 (down 8%), partly due to headwinds faced by their business in Europe. Apart from Ciena, all major western suppliers of networking equipment are expected to report lower revenues for 2012. Encouraging announcements of increased CapEx spending in 2013–2015, made by AT&T and Deutsche Telecom at the end of 2012, could not have been better timed.

Data collected by LightCounting indicates that sales of optical transceivers used in telecom and datacom networks increased by 6% in 2012 and were also limited by sharper than usual price declines. This market was sustained by booming sales of 40 Gbps and 100 Gbps products and increasing demand for optics in datacenters. Total size of this market exceeded $3 billion in 2012, and it is projected to reach $5 billion by 2017. 

LightCounting’s market forecast is based on the correlation between Internet traffic growth and expansion of the network bandwidth. The main assumption of this forecast is that network bandwidth will continue to grow 35% in 2013, and this growth rate will decline gradually to 30% in 2017. Our modeling also shows that the market is very sensitive to small increases in projections of network bandwidth growth rates. For example, a change in network bandwidth growth in 2014 from 33% to 40% will increase forecast for growth in sales of optical components and modules from 15% to 55%, suggesting a lot of upside potential for this market.

Apart from the Internet traffic growth, changes in network traffic patterns caused by growing use of internet video increase urgency of networking infrastructure upgrades. The impact of video-on-demand services on IP broadband access networks is clearly illustrated in a case study titled “Video Shakes Up the IP Edge,” published by Bell Labs in late 2012. This study shows that Internet traffic between IP edge of the network and access aggregation layers can grow more than two times faster than traffic consumed by end users because of unicast distribution of Internet video.

The Bell Labs report also offers a very optimistic forecast for growth in internet video traffic in the United States, projecting for annual growth of 60% in 2013–2014, compared to 30% proposed in Cisco’s VNI Report, published in May 2012. Such a wide range in forecasts for Internet traffic growth rates, suggests that our numerical example above, which illustrates an impact of small changes in network bandwidth growth rates on the optical component market, may be well within reach.

It is hard to point to a specific new application, product or technology, which may lead to a discontinuity in Internet traffic growth rates, but the Consumer Electronics Show in Las Vegas last week offered quite a few options to choose from. The most relevant of them is 5G WiFi technology, which enables speeds up to 1.3 Gbps – a factor of 3 boost in connectivity between smart phones and tablets, leading the Internet traffic growth, and broadband edge of wireline networks.

Combining prospects for improved market growth rates and expectations for easing of competitive pressures bodes well for the industry and investors. More information of the forecast report is available at: http://www.lightcounting.com/Forecast.cfm

Meet LightCounting Analyst Team at OFC 2013.
Our analyst team will be attending the conference and we will host a dinner seminar and networking event, scheduled for 5:30-8:30 pm on Wednesday March 20th in room 204B of Anaheim Convention Center. The event will open with a reception, followed by dinner and presentations by LightCounting's team of analysts and two invited speakers. The presentations will cover state of the optical communications industry, market outlook for 2013-2017, selected topics such as 40/100 Gbps, and the hottest news from the OFC show floor.

This is an invitation only event. If you are interested in attending, please contact Renee Isley at: renee@lightcounting.com

About LightCounting
LightCounting, LLC is a leading optical communications market research company, offering semi-annual market update, forecast, and state of the industry reports based on analysis of publicly available information and confidential data provided by more 20 leading module and component vendors. LightCounting is the optical communications market’s source for accurate, detailed, and relevant information necessary for doing business in today’s highly competitive market environment. For more information, go to: http://www.LightCounting.com or follow us on Twitter at: http://www.twitter.com/lightcounting.

© Copyright 2012 by LightCounting. No portion of this newsletter may be reproduced in whole in or part without the prior written permission of LightCounting any written materials are protected by United States copyright laws. LightCounting offers no specific guarantee regarding the accuracy or completeness of the information presented, but the professional staff of LightCounting makes every reasonable effort to present the most reliable information available to it and to meet or exceed any applicable industry standards. LightCounting is not a registered investment advisor, and it is not the intent of this document to recommend specific companies for investment, acquisition, or other financial considerations.