Challenges Ahead for Nortel

As battered Nortel Networks goes in search of fresh leadership, its fortunes may depend on whether the regional Bells get the sweetheart deal they're expecting from Congress.

As battered Nortel Networks goes in search of fresh leadership, its fortunes may depend on whether the regional Bells get the sweetheart deal theyre expecting from Congress.

If the bill giving them relief from regulations becomes law, it will spur spending in Nortels direction, as the likes of BellSouth, SBC Communications and Verizon Communications turn to reliable circuit-switch equipment, while also spending more on newer Internet Protocol (IP) boxes.

Nortel, the largest telecommunications equipment maker in the world, has seen revenue from traditional phone gear decline, but it still represents a major chunk of business.

The company surprised investors this month with the news that CEO John Roth will retire in 11 months, and that his presumed successor, Chief Operating Officer Clarence Chandran, will resign immediately for health reasons.

The announcements sparked debate over whether the two are walking out on their own terms or were nudged out by a board weary of slashed forecasts, an 85 percent drop in share value, 20,000 layoffs and a Securities and Exchange Commission probe of whether Nortel misled investors about its prospects.

Hillary Mine, an analyst at Probe Research, took the two executives at their word. "Chandran leaving and Roth announcing hes moving on arent symbols of massive failure," Mine said. "Theyre really quality guys. Chandran does have serious health problems. Its going to be incredibly hard to fill Roths shoes."

Roth recently admitted he listened to his customers engineers, who said they wanted more new technology, but not to his customers treasurers, who could have warned him that the capital spigot was turning off.

Nortels major mistake was pulling back from its stronghold, circuit-switching in favor of IP equipment, which will take much longer to dominate the market than some optimists had predicted, said Tom Nolle, telecommunications analyst at CIMI.

Others say Nortel needed to keep one foot in the old world and one in the new, and didnt always do that.

Start-up WaveSmith Networks said it has found a space in which Nortel and other vendors are vulnerable. WaveSmith is building a box that is "protocol-agnostic," allowing service providers to stick with established Asynchronous Transfer Mode (ATM) switching as long as they want, then migrate gradually to IP switching.

"Nortel refocused their efforts away from traditional ATM gear and went to a pure IP play," said Chad Dunn, WaveSmiths director of product management. "They took their eye off the ball, thinking the migration to IP would happen faster than [it] did, and thinking the carriers would buy into another forklift upgrade of gear. I dont have a lot of sympathy for them."

Nortel also decided this month to exit the DSL business, abandoning the technology it inherited in its $778 million acquisition of Promatory Communications. DSL has such narrow profit margins that competitive carriers that dove into the business are drowning like rats.

"Nortel couldnt ramp up the revenue fast enough to weather the drop in margins in DSL equipment," said Bill Lesieur, director at Technology Business Research. Nortels exit could benefit Alcatel of Paris, which can leverage its DSL leadership to penetrate the U.S. market.

Still, the slumping tech economy will help Nortel, because the best talent wont be anxious to leave the company. "And with George W. [Bush] in the White House, hes going to make it real easy for the [Bells] to get what they want," Mine said. "Theyll buy circuit-switching because theyll feel there is no need to migrate quickly."

Among the internal candidates who could succeed Roth are Bill Hawe, chief technical officer; Greg Mumford, president of optical Internet; and Frank Plastina, president of wireless Internet.