Ericsson, Nokia suffer from capex crunch

  • Ericsson’s Q2 report shows a big slowdown in spending by telcos
  • 5G investments in India can’t make up for capex declines elsewhere
  • Nokia warns its full year sales will be lower than expected
  • Both vendors point the finger at telco inventory management for their woes
  • Investors aren’t happy as both companies’ share prices plummet

A severe slowdown in network investments by telecom operators in nearly all major markets has hit two of the industry’s major equipment vendors, Ericsson and Nokia, hard, with the Swedish giant today reporting a 9% year-on-year decline in like-for-like revenues for the second quarter and the Finnish company issuing a sales and profits warning for the full year. The cause of their woes? Macroeconomic forces in general and telco inventory management in particular have led to a capital expenditure (capex) crunch across the world, with India, where the major operators are investing quickly and heavily in 5G rollouts, the main exception. 

The inventory situation was something of a timebomb waiting to happen. During the technology supply chain challenges of the past couple of years, network operators spent extra on building up their inventories – their stockpiles – of network equipment so they wouldn’t be caught short if there was further disruption to the technology manufacturing cycle. Now, with companies of all kinds needing to conserve cash as costs go up and customer spending is constrained, many operators are reducing their spending as well as using up their inventory stockpiles instead of placing new orders with the likes of Ericsson and Nokia. 

The result is that, at least in the short term (and let’s hope it’s just the short term…), telcos are spending less and the big vendors are feeling the pinch. 

Ericsson’s second-quarter revenues hit 64.4bn Swedish krona (SEK) (US$6.3bn), and while in reported numbers that’s a bit higher than the same period last year, once currency exchange fluctuations are accounted for and you take away the additional sales that have come from the vendor’s acquisition of Vonage – to determine ‘organic’ sales – the numbers are actually down by 9%. The company’s main line of business, its Networks division, saw organic sales drop by 13%. 

Source: Ericsson Q2 2023 earnings slide deck.

Source: Ericsson Q2 2023 earnings slide deck.

The capex crunch has hit Ericsson particularly hard in what is usually its largest geographic market, North America, where network operators have been spending a lot less this year – as the map above shows, year-on-year second-quarter sales in North America slumped by 42% to SEK14.4bn ($1.4bn).  As a result, it is no longer the vendor’s largest market – that is now Europe and Latin America (which the company treats as a single regional sector), where organic sales dipped by a lot less, just 3%, to total SEK16bn ($1.56bn).

The one shining light for Ericsson is in India, where Reliance Jio and Bharti Airtel have been investing billions to rapidly roll out nationwide 5G networks (for which they had no inventory stockpiles). Sales in the South East Asia, Oceania and India region rocketed by 71% year on year to SEK13.8bn ($1.35bn). 

There is a slight downside to that, though, as profit margins on sales in the early part of network rollout phases, and also in India in general, are lower than average, so the hike in sales in India has, along with many other factors, put pressure on Ericsson’s margins, so much so that the vendor reported a small operating loss of SEK300m ($29m) for the quarter compared with an operating profit of SEK7.3bn ($714m) in the same period a year ago.  

Ericsson CEO Börje Ekholm noted the company is encountering “challenging conditions” and cited the “inventory adjustments” that network operators are making on multiple occasions during the vendor’s earnings presentation early Friday, but claimed the vendor “delivered a solid quarter” that met with expectations. Investors didn’t agree – Ericsson’s share price took a 7.8% hit on the Stockholm exchange to drop to SEK54.02, meaning the stock has lost almost 14% of its value this calendar year. 

It’s a similar tale for Ericsson’s main global mobile networks rival, Nokia, which today lowered its sales expectations for the full year and saw its share price crash by 8.6% to €3.57 on the Helsinki exchange.  

The company, which is set to publish its second-quarter earnings report on 20 July, stated that its full year revenues are now expected to be in the range of €23.2bn to €24.6bn – previously it had expected sales in the range of €24.6bn to €26.2bn). In addition, it has reduced the upper end of its expected operating margin rate to 13% from 14%. 

Inventory featured strongly in Nokia’s explanation of its expected shortfall.

The weaker demand outlook in the second half [of the year] is due to both the macro-economic environment and customers’ inventory digestion. Customer spending plans are increasingly impacted by high inflation and rising interest rates along with some projects now slipping to 2024 – notably in North America. There is also inventory normalisation happening at customers after the supply chain challenges of the past two years,” the company noted in its statement

The extra bad news for the market is that it’s not just mobile network investment that is being cut just now: Nokia, which has a broader portfolio than Ericsson, noted that the reduction in sales will hit not only its Mobile Networks division but also its Network Infrastructure division, which is home to its fixed broadband, optical and service provider routing product lines. This does not bode well for a lot of other equipment vendors and many other companies will be anxious to get further details when Nokia delivers its full second-quarter report next week.  

But the telcos can’t rely on their inventory stockpiles for ever, and need to keep investing in their networks to deliver the quality of service that users now expect and demand, right?

That’s the line that Ericsson CEO Ekholm is pushing, though quite when the telcos might release their purse strings again is uncertain, he noted on today’s earnings call. 

“It’s important to single out that the fundamental driver of network capex is continued data traffic growth, and we see that 5G really continues to grow very fast – we currently forecast 5G subscriptions to be about 1.5 billion by the end of 2023 and reach 4.6 billion by 2028,” noted Ekholm as he concluded his earnings call roundup of Ericsson’s current predicament and its view of how the market is shaping up. 

“We also see that the data traffic in the network continues to grow. And we are also starting to see new types of use cases [such as] fixed wireless access, and we’re also starting to see enterprise use cases. So data traffic is growing, and with the operators’ desire to meet… users’ expectations for network quality,” they will need to start investing again in their networks.

But there are other capex drivers too, he noted: The telcos need to improve energy efficiency and reduce their carbon footprints and that can’t be done with legacy network infrastructure. In addition, while there have been significant investments in 5G networks already, there’s a long way to go before operators have the infrastructure in place to take advantage of the high-speed mid-band spectrum in which they have also invested heavily. According to Ekholm, “three quarters of all base stations outside of China are not yet updated with 5G mid-band. So this, in combination with the migration to 5G standalone, will continue to drive investments in 5G networks around the world, so we are confident the market will recover… of course, the exact timing of the recovery is in the hands of our customers. But we are encouraged by the discussions we’ve had with several customers where we see a recognition of the need to strengthen capacity in the network. That said, we expect a gradual recovery late in 2023 and then an improvement in 2024. When that happens, Ericsson is really well positioned,” stated the CEO confidently. 

A lot of people will be hoping he’s right.

- Ray Le Maistre, Editorial Director, TelecomTV