Recession! Was There Any?

For the networking industry,

1998-99 proved very rewarding. The market grew handsomely on the revenue front beating the

general economic recession. And while the traditional LAN segments consolidated their

positions, the carrier market opened up new avenues of business for the vendors. On the

buyer side, the vertical segments got even more spread out, with networking activities

getting divided evenly among all segments.

alt="*Note: Total market does not include the revenues from carrier switches and RAS."

align="right" border="0" hspace="4" vspace="4">The

total market size of the industry–comprising of hubs, NICs, switches (carrier as well

as enterprise), routers, and Remote Access Servers (RAS)–was Rs 537 crore. The size

of the industry excluding the two components of carrier switches and RAS–the norm

practiced by us till the last Networking Masters–stood at Rs 456 crore. This was a

growth of 62 percent over the total size of the industry in the previous year. In 1997-98,

the networking market was at Rs 280 crore and had grown only by a mere 7 percent. If the

values for structured cabling, modems, and multiplexers too are added to the above figure

(Rs 537 crore), total size of the market aggregates to Rs 750 crore.

The year also saw networking

companies coming to terms with the changing environment. They did well against many

odds–the general economic recession looming large over the consumer market as well as

an unexpected increase in levy of taxes, when several networking products were grouped

under the Special Import Licence (SIL) category. But there were several positive

developments that offset these adverse conditions and spurred the deployment of networking

products towards the year end.The most obvious being the IT Task Force report. It

envisions India as an IT superpower in the next few years. Other factors that helped the

industry grow include opening up of the Internet provision industry and the

government’s drive for automation especially in the banking and defence sectors.

The growth of the networking

market points to yet another important factor–the growing importance of IT

infrastructure in the overall business objective of organizations. Connectivity and

greater bandwidth have become very important for organizations looking at implementing

complex applications like ERP, Electronic Data Interchange (EDI)/e-commerce, as well as

companies going in for simple initiatives like web hosting, e-mail, and intranet. An able

and accessible network became the need of the hour. Last year’s revenue figures are

but a translation of these needs into some real deployments. All these suggest clearly

that IT investments cannot be put on hold anymore. And more networks will get revamped and

new connectivity links will get implemented.

Beacon of Light in Darkness



One fact that is explicit this time is that the networking industry clearly outpaced the
overall domestic IT industry in terms of growth rate. PCs are estimated to have grown by a

decent 35 percent in unit terms and 15 percent in value terms. But what was most

surprising was the fact that servers are estimated to have posted a negative growth in

revenue terms and an insignificant growth in terms of units sold in the calendar year

1998.

So, what got the networking

industry to turnaround? Before 1998-99, it had been growing, at best, moderately.

Moreover, the fiscal 1997-88 was a bad year for the networking industry, which grew by

only 7 percent. The poor growth of networking in the initial phase was due to the fact

that there were quite a number of IT applications that were being stymied by a poor and

prohibitively costly communications infrastructure. Already quite a few LANs have been

operational since the last few years. However, these networks have been of the bare basic

kinds.

As bandwidth demand went on the

upswing, switches started replacing hubs at the server-end of the network. This trend was

more visible last year. The share of switches was almost double the size in the previous

year. Interestingly, the demand is such that the switches of slower speeds themselves are

being replaced in several networks. The hot combination in the new networks that are

coming up is that of 10 Mbps (Ethernet) switches at the workgroup-end and 10/100 Mbps

(Fast Ethernet) switches at the server-end.

There is also a momentum that has

been gaining for some time among companies/organizations to link up their several offices

too. The one stumbling block that was felt here was the poor and costly telecommunication

infrastructure and the absence of a datacommunication network. Last year was the start of

that phase when the demand for such connectivity could no more be sustained by government

departments and PSUs alone. The ground for Internet access was at last opened to private

participation. Moreover, the price of datacommunication services like leased lines, VSAT

access, and Internet access dropped steadily through the year. The latter part of 1998

clearly witnessed a sharp decrease in prices.

As the communications

infrastructure improves and becomes more affordable, deployment of networks is only going

to get hectic. More bandwidth-intensive applications and Wide Area Networking (WAN) will

be soon possible through a good communication infrastructure. These would keep the

networks busy and put the current equipment to severe tests in the near future. The

resultant bandwidth demand would invariably force existing networks to improve their

capability. Last fiscal’s stellar growth indicates that a fair amount of this

activity has already started happening.

However, the low-end networking

market has not grown so rapidly as the entire market has. The huge growth in the market

seems to have mainly come from the carriers–ISPs and telcos. The enterprise market,

the small isolated workgroups, and the lower half of the small and medium enterprises have

contributed to a lesser extent last year.

The other trend witnessed last

fiscal was concerning the supply side. Though companies in the distribution business

targeting the lower-end of networking grew steadily, they were completely overshadowed by

companies targeting the upper-end of the market–the NI/SI business. Especially,

companies that have strong SI partners and a carrier focus have grown rapidly. Companies

with only hub and NICs have posted stagnant to moderate growth. However, as Internet takes

computers to the masses and the interaction between companies and customers starts to

happen in the form of e-commerce, the LAN market is bound to pick up considerably. LAN

deployment will happen as WANs come up. The two are too interdependent to not affect each

other’s performance.

align="right" border="0" hspace="4" vspace="4">The

Upward Slope



When it comes to networking, there is no semblance to logic. In the previous year, JFM was
a poor quarter. But in 1998-99, JFM was the star quarter–the three months brought

back the smiles to many faces in the networking industry. This quarter accounted for a

whopping 40 percent of the total business. During this quarter, many of the top rankers in

our survey have done business that exceeded their expectations.

Looking back, 1998-99 was the

classic exponential growth, the market growing in full force towards the latter part.

During the first three quarters, the networking market recorded about the same amount of

revenues. And then suddenly came the upward slope, the market climbing skywards–the

last quarter contributing almost double of the third quarter.

How does one explain such a

growth? Let’s take some of the events directly and indirectly related to the industry

during last year. In the beginning of the last fiscal, a change of government took place

at the Centre. Caution was the catchword for businesses. People were not sure of the

government at first, going by the experience in the past few years. The annual budget did

not make matters any better, as there were not any significant developments. The first ray

of hope came in the form of the National IT Task Force report which took into

consideration the importance of communications infrastructure to enable a digital world.

Some of the proposals that promised to make a positive impact were the info-infrastructure

drive to set up the NII, halving the leased rentals for leased circuits, abolishing

surcharge on leased circuits, permitting cable operators to provide Internet, and setting

up of public tele-infocentres to offer multimedia services than just voice calls.

As the year progressed, the

importance of these proposals and the repeated statements of the Prime Minister committing

his government’s efforts towards realizing the goals of the Task Force report started

hitting the right chord among industry captains. Finally, the go-ahead signal came in the

form of the Internet privatization. Several companies decided to become ISPs and went

ahead with their strategies and network build-up. As Internet got spread out, with VSNL

itself giving subscriptions beyond expectations and towards the start of the year, private

ISPs starting to provide access, usage naturally touched peak.

The bulging figure of the fourth

quarter can be explained by the sudden culmination of action from just proposals on paper.

The upward climb of performance can be easily explained by the great business that

companies did during the last fiscal. The large gap between third quarter and last quarter

was because mainly the carrier market opened up during the end of the third quarter, and

activity took place in JFM. More than Rs 80 crore of the Rs 214.8 crore was from the

carrier market itself. And JFM has always been the best quarter for most companies. So it

is not after all a great surprise that figures add to the magic figure of 40 percent of

business during JFM.

Once you look into individual

cash movement of companies, the nature of industry growth can be understood on a better

perspective. Companies like Compex, D-Link, Accton, and LanBit have had a

characteristically normal year–each one of them posting a straight line moderate

growth over the four quarters. On the other hand, companies like Cisco, Nortel, RAD, and

Motorola more or less had a similar year as their counterparts till December. However,

after that, it was bull-run throughout JFM for these companies. The former category of

companies are basically companies that more or less compete on the price sensitive low-end

hub and NIC markets. They mostly follow the indirect route of business. The latter group

of companies who have shown great JFM performances are companies that have more of their

business done the direct way through systems integrators and have high-end switches and

routers as their core strength. And these companies have a strong carrier focus while the

companies like D-Link and Accton have little or no carrier focus.

Cheaper, Hence Better



Prices of networking products over the year dropped by about 15 percent across the board.
Again, the switches stole the show here, becoming cheaper by the maximum proportion (about

25 percent). Hubs dropped by an estimated 20 percent. Router prices remained stagnant. And

this was in spite of a number of players trying to compete with Cisco, which has an

indisputable leadership in routers. However, the router prices may see some decline this

year due to competition from Layer 3 and Layer 4 switches. These switches have the ability

to route as well–and route at a fast speed.

After reaching the nadir in

1997-98, low-end products somewhat stabilized in price. However, companies were forced to

offer better functionality at the same price. As a result, products at the middle of the

value chain were the ones that witnessed considerable slump in prices. A 24-port managed

Ethernet hub costs an average of Rs 28,000 in comparison to the Rs 35,000 that it cost

during 1997-98. A 24-port Ethernet switch costs Rs 48,000, dropping 31 percent from a

price of Rs 70,000 during the fiscal 1997-98. The modular products in both hubs and

switches did not see much drop in prices. And like the router, it was a good segment for

the vendor to address because of the high-margins.

In terms of sheer volume of units

and ports that were shipped in this low-end segment, the amount is immense. And there was

an extraordinary growth. The volume of NIC units touched over 600,000 units. And the

volume of hub ports shipped was in the region of 100,000 ports. These were mostly of the

low-end type from Taiwanese vendors. However, this did not have much of an impact on the

revenues of Taiwanese and low-end hub/NIC companies. The prices of these products being so

low, the boom did not really translate into mega cash flow.

Like the previous years, in terms

of product arrivals, nothing much changed last year. Except for a few brands of analog

modems, low-end hubs, and cabling connectors, the bulk of the networking products that got

consumed were imported. Thus, the value of the rupee still plays an important role in the

performance of companies, especially those that report figures in Indian currency.

Moreover, the taxable amount on the product is equally important to the toplines of the

companies.

Thankfully, the Indian rupee did

not fluctuate as much in the previous year, remaining around Rs 42 to a dollar almost

round the year. However, the duties as usual were not better than in previous regimes.

Products like routers and switches which go into infrastructure projects still invite

steep import duties. And the way products are grouped together go more with the whims and

wishes of the revenue department than deserved and valid technical reasons. During the OND

quarter, a major scare was caused by a sudden Customs notification shifting various

networking products including multiplexers and routers into the Special Import Licence

(SIL) category, thus increasing the CVD on these items. Similarly, there was the usual

complaint among vendors that networking products were being segregated from the rest of

the IT products. The feeling amongst them is that networking products should enjoy all

duty concessions as any IT product.

• An encouraging IT Task Force report.
• Forward looking NTP. Carrier business could multiply.
• Delicensing of oil industry—competition to drive IT
  
  projects.
• Insurance industry may be deregulated. Companies have
  
  started the process of automating branches. Investments to further pick up from July
  
  onwards.
• More affordable networking products.
• Convergence to start getting tested in India.
• Maturing of several networking technologies like ATM,
  
  Gigabit Ethernet, xDSL, and cable may get completed this year. Some implementations are
  
  likely towards the end of the year.
• Replacement of existing infrastructure. Ethernet products by
  
  Fast and Gigabit Ethernet in LANs. TDM switches by Frame Relay and ATM in the carrier
  
  networks. Campuses to further implement ATM backbones.
• ISP boom. E-commerce regulation being formulated. IP
  
  technologies to push networking growth.
• Heavy reduction in prices for leased circuits to push rest
  
  of the top 600 corporates to go in for leased lines for WAN. Routers and RASs to be hot.
• Government sops for investments on Y2K to push IT
  
  investments in banking sector till June. A slowdown is likely thereafter up to December.
  
  There could be a resurge in the last quarter.
• SME starts to grow. Networking likely to spread to B cities,
  
  and to other segments like hospitals and government departments.

• Political instability.
• Cash crunch among companies, though positive signs of
  
  economic recovery are already there.
• Cut-throat price war.
• Obsolescence of technologies. Companies that do not add new
  
  features and technologies to be out of business.

The customs duty applicable to

networking products during fiscal 1998-99 varied from product to product from around 40

percent to more than 60 percent of CIF. Some of the products having to pay additional 6 to

10 percent in case of SIL requirements. Thus, the average total customs duty on networking

products was around 55 percent of CIF, meaning every dollar worth of shipment imported

translated into about Rs 65 when it landed on the customer premises in India. And the

average margins given by OEMs varied from 5-10 percent depending upon the product. So, the

average dollar shipment translated into approximately Rs 70 business done in India. Hence,

we have taken Rs 70 as the multiplier to get to the rupee value of the total shipment of

companies that report their revenues in dollars.

A consolidation of market shares

by the top five networking companies meant healthy gross margins for them. Gross margins

of 40-50 percent for recognized vendors compared to an above 65 percent margin of market

leaders like Cisco. Cisco’s higher margins can be attributed to the leadership held

by it in router sales world-wide coupled with high software content in its routers.

Liaisoning Is Just Not Enough



India is indeed a diverse market in both regional as well as vertical spread of the
networking business. Out of the total business done in India, all regions except for East

had about the same share of the deployment. However, West still leads with total 38

percent market share. But this lead is now marginally reduced to 3 percent over the 35

percent market share of the South market. North is not too far back, with a market share

of 21 percent. East is still the laggard with just a 6 percent market share.

The West’s leadership speaks

volumes of the rapid industrialization and commercialization process that is taking place

there. The big names that contributed largely to West’s bag were BPL-US West, Dena

Bank Mumbai, ETH Dishnet, Ispat, Mumbai Port Trust, Rashtriya Chemical Fertilizer, RBI

Mumbai, Reliance, RPG Group, Telco, and VSNL. The South’s kitty was filled in by

customers like BHEL, Chennai Corporation, CIPET, GEC Alsthom, Hyderabad Hi-Tec City,

Infosys, Nagarjuna Fertilizers and Chemical Ltd, and Satyam Infoway. In the North, the

significant contributors were Bharti BT Internet, BHEL Bhopal, BHEL Jhansi, CRRI Delhi,

Indian Oil Panipat, IRDE Dehradun, MTNL, Maruti Udyog, Marriot Hotel Delhi, Punjab

University, SGS Thompson, SM Microelectronics, and Telco Lucknow. The list for East is a

much shorter one, significant names being ISM Dhanbad, Jadavpur University, and Numaligarh

Refineries.

In terms of vertical segment

contribution, the most significant contribution was by the manufacturing segment. Out of

the top 88 big network purchases in fiscal 1998-99, that we kept a tab on, about 26 were

by manufacturing organizations. Telecom companies accounted for 18, while

education/research organizations followed slightly behind with 15 purchases. IT houses

made nine such purchases.To address this diversity, many companies had to give a relook at

its operations in India. 3Com is one of the prominent companies which turned subsidiary

towards the end of the fiscal. Ascend toyed with the idea of coming as a branch office,

but got acquired by Lucent Technologies. Companies also spread out, with most companies

being represented in the northern, western, and southern regions with at least an office

in each of the regions. Companies like MRO Tek tied up with RAD to form a manufacturing

JV. At the same time, in segments like modem and cabling, many had set up units which

manufactured cabling accessories. Companies, especially the ones that had a focus on NICs,

hubs, and low-end switches, took the help of distributors like Godrej Pacific, Ramco,

Microsell, and ERIL to address wider regions and to reach down to mass levels. And as is

the trend today, SIs play an important role in the networking industry. In the case of the

top companies, most of their business was contributed by the creamy 10-15 clients. These

are the kinds that deploy hundreds and sometimes thousands of LAN nodes at one go. These

are also the ones which set up WAN nodes all across the country in a single project.

Indefinitely, all these rich clients have gone in for a turnkey kind of implementation

involving integrators to plan, design, and implement the networks. SIs that brought in the

moolah for the top networking vendors were Compaq, Datacraft, HCL Comnet, HCL Infosystems,

IBM Global Services, Microland, RPG, Tata Infotech, Tata Technologies, Tata Elxsi, and

Wipro to name a few.

Outlook for the Current Fiscal



Considering all the factors before the networking market, the industry should grow another
60 percent next year before subsequent stabilizations in the years to come. It is unlikely

that growth will subdue till at least the year 2000. Even if government incentives are not

enough, the compulsion to become competitive before foreign players come in to exploit a

zero duty market, as per WTO agreements, will itself drive companies to go in for putting

up their infrastructure in place. A large part of the investment will be on networking.

The networking initiatives of state governments have already started off. After Andhra

Pradesh, it was the turn of the Madhya Pradesh, Karnataka, Tamil Nadu, and Maharashtra

governments to show keenness to connect citizens. The shadow of Sam Pitroda looms large on

the states of Tamil Nadu and West Bengal. If things go well, WorldTel is likely to pump in

some amount of funds, under its infrastructure development programme for developing

countries. Last year, several company officials met the chief ministers of these states.

At least a few of these states will see action. The BOO APSWAN network under AP’s

Janmabhoomi initiative has already kicked off. The project spending for this itself is

worth Rs 22 crore and has a potential of going up to Rs 100 crore. RBI is known to have

sanctioned large amount of money for networking bank branches this year. According to a

top country manager, there are close to 60,000 bank branches across the country. If the

drive to connect them in the next few years pays off, then the networking industry is in

for huge growth. Political instability at the Centre is of some worry. However, if a year

like the last fiscal could be a good business year for networking, then why will this year

not be. Despite instability and recession!