China's Telecom Hangup
By Bruce Einhorn
How bad is the telecom-equipment business these days? Companies haven't even been able to do well in China. In the woeful world of telecom, the Middle Kingdom was supposed to be a bright spot, as salespeople who couldn't make deals anywhere else could sell gear to operators in this fast-growing market. But with China's biggest operator involved in a complicated split, spending on equipment has fallen dramatically: It's off 28% so far in 2002, to just under $9 billion. "China has been very disappointing," said Gordon Astles, Asia Pacific president for Cisco Systems (CSCO ).
The initial public offering of one of China's most important fixed-line operators was supposed to go a long way toward reversing that slide. China Telecom, an offshoot of the state-owned company that used to have a monopoly on the national fixed-line market, was hoping to raise $3.6 billion by selling shares in late October in New York and Hong Kong.
Not only was the China Telecom IPO likely to be one of the biggest deals of the year in Asia but it was also going to be the start of good things for equipment makers. After all, China Telecom intended to spend almost half of the IPO proceeds on building up its infrastructure in order to compete against domestic rivals such as China Mobile and China Unicom, both of which are already listed, and China Netcom, a China Telecom offshoot that's supposed to follow with an IPO of its own sometime, perhaps in 2003 (see BW, 11/11/02, "Telecom Streetfighters").
On Oct. 31, however, China Telecom hung up on the IPO. Or, more to the point, it admitted that investors had hung up on it. With telecom stocks in the dumps worldwide, the deal had created little buzz among investors abroad and received a tepid response from those in Hong Kong. So China Telecom called it off. Officially, the deal isn't canceled, just postponed, as China Telecom's bankers, including Merrill Lynch and Morgan Stanley, scramble to salvage the IPO, perhaps by lowering the price.
Still, while the bankers contend that the deal will still happen, it's looking less and less likely. And even if the IPO does finally take place, it'll raise much less than the $3.6 billion that China Telecom was hoping for.
That's bad news not just for China Telecom and its bankers and lawyers but also for the telecom-equipment companies that were hoping the IPO might be the start of something big. In its prospectus, China Telecom said it would spend about $1.5 billion of its IPO proceeds on new infrastructure.
That had executives excited. A few weeks ago, when I visited the offices of Huawei Technologies, China's biggest equipment maker, Executive Vice-President William Xu told me the company was looking to the China Telecom IPO with great interest. After the IPO, "we think there will be a much larger increase in industry [spending]," said Xu. Huawei, a privately held company that's a rival of companies such as Cisco and Nortel (NT ), has been looking at expansion into foreign markets -- in part because of the slowdown in Chinese demand.
Foreign companies were equally optimistic about a pickup in spending. "Since the completion of China Telecom's restructuring earlier this year, we notice the pace of investment by China Telecom has started to increase," said Yuanhao Lin, acting president of Nortel Networks in China. In late October, Nortel announced contracts with China Telecom to build a broadband-backbone network in 10 provinces across northern China and to expand an Internet-protocol-based metropolitan area network in southern and northern regions.
An executive from Cisco was also hopeful. "After China Telecom goes public and they raise enough money to help them to strengthen their financial position, I believe it will make them more capable to buy more equipment," said Jiabin Duh, president of Cisco China.
The embarrassing China Telecom flop could hardly come at a worse time for China's leaders. With the Communist Party scheduled to have its congress in November, the government is in the midst of a transition to a new generation of leaders, with President Jiang Zemin and Premier Zhu Rongji scheduled to step down from their Party posts. That's the first phase in their retirement, with the next scheduled for early 2003, when they're supposed to give up their government positions.
At the same time, telecom czar Wu Jichuan is also scheduled to retire. If the China Telecom IPO really does die, their yet-to-be-named successors will have to figure out how to get China's telecom liberalization program back on track.
Einhorn covers technology from Hong Kong for BusinessWeek. Follow his weekly Online Asia column, only on BusinessWeek Online
Edited by Douglas Harbrecht