Major vendors in price war

This summer has seen a wave of bitter price wars among major equipment suppliers, as vendors risk more and more near-term payback for a chance to win a long-term role supplying merged supercarriers with next-generation network technologies.

Though cutthroat pricing was once thought to be the exclusive weapon of choice for Chinese vendors such as Huawei Technologies and ZTE, sources say some of the industry's most established equipment vendors are now often the ones leading the race to the bottom.

A note released this month by UBS described two of the most recent price wars being fought in the U.S. and overseas: for Verizon's edge router business — which Cisco Systems, Juniper Networks and Redback Networks are all chasing — and for a three-year, 60 million-line GSM expansion by India's biggest carrier, BSNL. Though Alcatel will take about a quarter of the roughly $5 billion BSNL business, the remainder is being fought over by incumbents Ericsson, Motorola and Nokia as well as challengers Siemens and ZTE. Pricing has been “quite aggressive” for the Verizon business and “extremely aggressive” for BSNL, UBS wrote.

These price squeezes confirm the fears of the many who predicted that merging supercarriers would leverage their new purchasing power, and a constricting market for gear would raise the stakes on individual contracts.

Vendors are especially likely to sacrifice profit margins these days to get in on the ground floor of the next generation of a given network technology. Earlier this summer, Alcatel CEO Serge Tchuruk complained of vendors slashing prices of IP multimedia subsystem (IMS) and other next-generation gear to “buy market share.” He cited Ericsson's recent win of a GSM contract with Brazilian carrier Vivo as an example of what he called “extravagant” prices in Latin America.

The same day Tchuruk voiced that complaint, Alcatel was named as one of three chosen suppliers of Gigabit passive optical networking (GPON) gear to Verizon in a bidding process that was also said to be fraught with aggressive pricing. Rather than pick a primary and secondary supplier, as Verizon did for its first PON deployment (with the primary supplier likely taking 80% of the business), the carrier chose three vendors to duke it out for smaller pieces of the GPON pie.

UBS Investment Research has predicted GPON prices per line to be at least 10% lower than current PON prices and margins for GPON customer premises gear to be 10% next year — about half the margin for today's equivalent. The bidding for AT&T's GPON business, expected to be just as price-competitive, is still ongoing.

Contributing to the phenomenon is major carriers' insistence on standardized technology, which can often leave little room for vendors to differentiate their wares with unique features, thus leaving price one of the few ways to claim advantage.

“Price is never the single deciding factor,” said Daniel Briere, CEO of Telechoice, a telecom consultancy. “But if you're going up against an entrenched player and you've got stuff just as good as everybody else's, at a certain point, you're getting into the real nitty-gritty of the differentiation among products. Price starts to play a fairly big role.”

In addition, for incumbents and outsiders alike, the long-term strategic importance of a particular contract win can far outweigh the near-term profit. A low-margin sale could be viewed either as a Pyrrhic victory or as a “defensive bulwark” against incoming entrants, Briere said.

“One of the strategies in a telco account is to maintain as big a footprint as you can because, in the future, the bigger the footprint, the easier it is to sell other products into the network as well as upgrades,” said Young-Sae Song, director of solutions marketing for Redback Networks. “The carrier market isn't as transaction-oriented as the enterprise market. The outlook is two to five years out.”

Meanwhile, vendors are increasingly cutting costs by moving manufacturing operations to low-cost markets such as India and China, mimicking the cost structure that gave Huawei and ZTE some of their potency. For example, Ciena cites its growing India facility (where it will employ 100 engineers this fall) as one reason the company expects to be able to maintain gross margins in the mid-40% range, even as it competes with giants. Sometimes vendors even forward-price their bids based on expectations of future cost reductions.

Incumbent suppliers wield an increasing advantage as North American carriers combine, as those carriers look to simplify their networks rather than bring in new suppliers. In the fight for Verizon's edge, for example, UBS gives the best odds to the incumbent, Juniper.

North American carriers in general aren't as price-sensitive as those overseas — especially in developing nations such as China and India, Song said (though he called Verizon a “special scenario”). For example, when India's BSNL picks its GSM suppliers next month (for the contracts not going to Alcatel, that is), UBS predicts 60% of that business will go to the lowest bidder and the other 40% will go to the next lowest bidder.

HOT BIDS

Contract	Key bidders	Likely decision date
AT&T GPON	Alcatel, Ericsson/Entrisphere	Mid-2006
BSNL GSM	Alcatel, Ericsson, Nokia, Siemens, Motorola, ZTE	Second half 2006
Verizon core, edge routers	Alcatel, Cisco Systems, Juniper Networks, Redback Networks, Tellabs	Second half 2006/first half 2007
Reliance Infocomm CDMA	Lucent Technologies, Huawei Technologies	2007
Source: UBS