Light At The End Of The Fiber Optic Tunnel?

By Len Lazarick



Once upon a time, but a mere three years ago in fact, there was a steady stream of fairy tale stories on the local fiber optics industry that consistently made the front page of The Business Monthly.

Big guys like Corvis and Ciena were growing off the charts, awash in cash from hugely successful IPOs. Lots of little guys like Iphotonics, Codeon, Optical Capital Group and the companies it invested in were raising dough, opening plants and having trouble hiring skilled help. International players, like the British Bookham Technologies and the Israeli Trellis Photonics, marched into town, identifying central Maryland as the place to enter the U.S. market.

The stories seemed real enough at the time - there were leased buildings with clean rooms full of equipment and warm bodies, after all - but they evaporated into thin air like a wizard's conjuring. Parking lots now sit empty behind sublease signs, and the professional outplacement services have more business than they know what to do with.

"We're in a period of consolidation," said Richard Story, head of the Howard County Economic Development Authority. "Companies are doing what they can to survive.

"We're still in the lull," but "the demand will come back," Story said, but when is hard to say.

William Badger, head of Anne Arundel Economic Development Corp., said, "The glimmer of hope that I see is that the demand for the Internet has continued to grow." There was too much fiber-optic capacity built, for sure, "but that capacity is being drawn down day by day. É I'm hoping that in the next two years the suppliers will be back in good graces," Badger said.



Reassuring Shareholders

The top executives of Linthicum-based Ciena and Columbia-based Corvis tried to reassure their shareholders at annual meetings in April and May. Ciena is still the largest of the local companies involved in selling switching and networking equipment to telecommunications companies for transmission of data as beams of light photons over glass fibers.

Revenues have fallen steeply for Ciena. Last quarter's $73.5 million (April 30) was only 17% of the revenues that it brought in the same quarter two years ago. But revenues have been slowly rising over the last three quarters, hundreds of millions in losses have been drastically cut and the company has continued to make acquisitions, expand product lines and add customers, while not trimming very many of its 2,000 employees. These moves have puzzled analysts looking for more aggressive attempts to reduce costs.

But CEO Gary Smith, while not overly optimistic about the short term, is unrepentant about the business strategy. "We have $1 billion in net cash available," he told about 100 shareholders in April. "Ciena could still operate until 2007 without running out of cash" but "it's not our plan to eke out a miserable existence," even though "we do not expect the overall market to improve dramatically" in the near future.

Ciena's annual report and its web site display a glass of water, presumably half full, overlaid with the words, "We see opportunity."

"Cost-cutting your way to profitability is detrimental," Smith told stock analysts in late May. "You can't just cut costs É that just impairs your strategic capability."

"We are transforming ourselves into a networking solutions provider, not just a transport" company for data, and the company doesn't see much of a market for long-haul long-distance networks.

"It's a contrarian strategy that we're pursuing," he said. "The only way the carriers are going to get better in the long term is to invest" in equipment that reduces their costs. "If they're going to fix their business model, they have to reduce their expenses."

That's the metropolitan, short-haul market that Ciena continues to pursue, and in May it was chosen by BT Group (British Telecom) as a strategic partner in its next generation network. Last month it added KPN, the largest carrier in the Netherlands as the first of seven new customers coming on line this year, Smith said.



Corvis and the

Long Haul

If Smith and Ciena are correct in its strategy, than Corvis is fundamentally wrong in its approach. That the two companies see things differently is hardly new: Corvis founder David Huber, a pioneer in dense wave division multiplexing, the splitting of light waves into the spectrum to achieve greater volumes of data over the same fiber, founded Ciena in 1992, and left the company six years ago in a disagreement over strategy. Ciena also maintains that Huber is using some Ciena-patented inventions, and the two companies have been battling in federal court for several years, with Ciena winning several jury verdicts against Corvis this year.

Corvis continues to pursue its strategy of building all-optical long-haul networks, and even bought another company Huber helped start and fund, Dorsal, that is focused on long-haul undersea transmission equipment. Corvis has also drastically cut back its staff, with only 350 employees now, compared to 1,600 two years ago. Because Corvis is focused on building big long-distance networks, only big telecommunications carriers can be potential customers for its all-optical equipment. The Corvis solution replaces older electrical and optical equipment that is slower and less flexible, generates more heat and occupies lots more space, and is ultimately more expensive to run and maintain. But buying that faster and operationally cheaper network still requires a huge upfront investment.

"You really have to sell an entire network," Huber told shareholders in May. "You can't sell small contracts. É Just one win in either of these markets [long-haul over land or undersea] will have significant impact" on the company, he said.

By contrast, Ciena has more than 64 active customers, many with small contracts, while Corvis has only a handful, and recently purchased one of them, Broadwing Communications, one of the few carriers to actually install a Corvis network.

Corvis too has lots of cash left over from its hugely successful IPO (initial public offering) of stock that can tide it over for at least two years - $448 million on March 29, and it is spending that down at more than $50 million a quarter. "No one can tell when the telecom depression will end," said Huber.

"We hadn't foreseen the depth of the depression in telecom," said Lynn Anderson, Corvis CFO, a lack of foresight shared by virtually everyone in the industry and the stock analysts who covered it. "We didn't foresee the near total collapse in that marketplace É [but] we think we're well positioned" to take advantage of a turnaround, when it arrives.



Can Both Be Right?

One local industry observer, Patrick Huddie, an angel investor and business consultant with expertise in the optical field, can envision a scenario where both companies can be successful with their strategies.

"Maybe they're both right," Huddie said, even though "they're both in a holding pattern waiting for demand to catch up."

Huddie points to increased growth in broad band cable access, more demand for video conferencing as businesses cut back on travel, and more people who buy phones with wireless text and video messaging. At some point, all these technologies have to connect to the Internet, using up bandwidth on fiber-optic networks. Huddie also notes that there will be more Internet connectivity in public places, like McDonald's restaurants. All these factors will eventually use up the excess capacity from telecom overbuilding, and will require new and cheaper solutions.

In Maryland, at least some of the slack in the telecom business has been taken up by federal government investment in defense and intelligence networks, Huddie said.

John Spirtos, general partner in Optical Capital Group, an investment banking operation and startup incubator on Berger Road in Columbia, noted that "defense contracting is quite strong." For the time being, "we're not putting any money into the [fiber optics] sector," although a new company he would not name was scheduled to move into its incubator space last month. Spirtos said, "We're working on our existing portfolio," which included Codeon and Quantum Photonics, two local high-speed component manufacturers that merged in April.

Spirtos also said, "We're putting money into the distressed area" - telecom carriers with financial troubles. But "those deals take a long time," he said.

The economic development professionals, who helped bring in many of the companies that are now facing hard times, are still upbeat in their assessments, though they usually are.

"The basic dynamics that brought all of that here is still in place," said Howard County's Story. "When photonics comes back, this is the place that it will happen."

And even if that sector doesn't come back as quickly, "All the capital and brain power will result in other businesses rising that they couldn't have predicted," Anne Arundel's Bill Badger said. "I'm still optimistic."