"The Internet does not pay the bills"

Louis Proyect lnp3 at SPAMpanix.com
Mon Dec 4 09:31:15 MST 2000

The Gathering Tech Carnage
By Robert Samuelson

It's already depressing the stock market and could ultimately threaten
America's boom


Dec. 11 issue - Even the "information economy" (a.k.a. the "New Economy")
isn't immune to the law of supply and demand. One hallmark of the economic
boom has been an explosion of business investment, dominated by spending
for computers, software and communications networks.

BUT COULD THERE BE too much, too soon: more than people currently can pay
for? The answer seems to be yes. As the economy slows-and possibly flirts
with recession-overexuberant investment looms as one threat to prosperity.
Already, it helps explain the carnage among technology stocks. The dot-com
debacle may simply be a harbinger of a bigger problem.

There's no obvious reason that companies can't invest too much in high-tech
boxes just as they've historically overinvested in office buildings or
commercial jets. The dot-com debacle may simply be a harbinger of a bigger
problem. Overinvestment depresses profits. Retrenchment follows as spending
is cut until surplus supply is absorbed and profitability restored. Let's
examine some numbers. Between 1995 and 1999, business-equipment investment
increased about 65 percent. Three quarters of the increase occurred in
high-technology. Everyone knows about computers. The sleeping giant is
communications. In 1999, the investment in new networks-everything from
fiber optics to mobile-phone towers-was $99 billion, reports the Commerce
Department. That slightly exceeded investment in computers, $94 billion.
"We're rebuilding something that took over 100 years to build-the old
telephone network," says Tracey Vanik, an analyst for RHK, a
market-research firm in San Francisco. True enough. In 1980, the U.S.
communications system was essentially AT&T. It was a voice telephone
system, with copper wires running into homes and coaxial cables and
microwave towers connecting cities. The modest computer-data traffic was
confined mainly to huge corporations and government agencies. Television
(both cable and over the air) existed apart. This world is long gone.

For starters, AT&T's breakup in 1984 ended its virtual monopoly. Next, the
number of cable subscribers (including customers of satellite services)
quintupled to 85 million. Then a wireless system arose alongside the
landline phone network. In early 1985, mobile-phone users numbered fewer
than 100,000, using 346 cell sites (transmitter and receiver); by mid-2000,
there were 97 million subscribers, using 95,733 cell sites. Finally,
there's the Internet and the surge of computer traffic. The old voice-only
system is giving way to a network that can transmit anything convertible
into digital signals-data, voice (including songs) and video. Electronic
signals are transformed into light waves and moved along fiber cables. The
technology has advanced spectacularly. In 1984, a single fiber-optic strand
(slightly wider than a piece of hair) carried about 50 megabits of data a
second, says Anil Khatod, a top executive of Nortel Networks, the leading
maker of optical networking equipment. In 2000, the capacity of the same
fiber-optic strand has multiplied about 32,000 times. Stated differently:
in 1984, it could carry the equivalent of about 700 phone conversations;
now that exceeds 20 million. Communications firms have laid thousands of
miles of fiber cable; and Nortel's next generation of equipment-due in a
year-promises to quadruple fiber capacity again. Gulp. It is precisely this
astounding arithmetic that infuses people like Khatod with optimism about
the Internet, which (they say) is only in its infancy. Against that is the
stock market's somber message: prices of communications companies-providers
of service and equipment-have plunged. From their peaks, here are some
examples: AT&T is down about 68 percent; Nortel, 58 percent; Cisco (a maker
of Internet routers), 41 percent; Motorola (a mobile-phone maker), 70
percent. If the future is so bright, why is the present so dark? The answer
is not simply that some stock prices rose to unrealistic levels. When
technology changes, no one knows what will succeed.

When technology changes, no one knows what will succeed. Some big
investments fail. Iridium-a satellite system for mobile phones-has gone
bankrupt. Globalstar, a similar system, cost $3.5 billion and has 52
satellites; it needs 550,000 customers to break even and had 21,000 in
September. Technologies compete. Some mobile-phone users abandon
traditional phone services; some homes use cable for phone and Internet
services. Too many sellers may also be chasing too few buyers. Dozens of
new companies offer network services to businesses and homes. Data
transmission now exceeds voice traffic (the ratio is about 60-40, says
Khatod, and growing wider every year). But prices are so low that revenues
from voice services still exceed data's. The Internet "does not pay the
bills," writes analyst Paul Sagawa of Sanford C. Bernstein & an investment
house. "Only four of the 40 large U.S. network operators we surveyed showed
positive free cash flow." What helped build communications networks was a
flood of money from venture capitalists, IPOs ("initial public offerings"
of stock) and junk bonds. Discouraged investors are now retreating, and as
they do, investment spending will slacken and, possibly, drop. Consider
PSINet, a network company. Between 1995 and 1999, its debt went from $40
million to $3.3 billion. By 2002, it planned 60 "hosting centers" for
Internet computers, each center costing about $100 million. By the year-end
of 2000, it will have 14. But with huge losses, many others will be delayed
indefinitely. Construction as well as high-tech purchases will suffer.
Business investment and consumer spending are the economy's twin engines;
both are weakening. How much will determine whether there's a "soft
landing"-or recession. The information economy has long had a "Field of
Dreams" quality: build it (meaning networks) and they (meaning customers)
will come. Someday the visionaries will be vindicated. The Internet is not
just computers but a new communications system that may absorb all voice,
computer and video traffic. Profits will arrive. The harder question-for
which there is no answer-is how many years, busted business plans and
bankruptcies lie between here and there.

© 2000 Newsweek, Inc.

Louis Proyect
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