Network infrastructure 2014 market outlook: opportunities and threats

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Michael Kennedy

Kennedy

Changes in network usage and technology are creating opportunities and threats for network infrastructure vendors, including carrier routing and switching and optical transport systems vendors. Worldwide enthusiasm for smartphones and tablets coupled with cloud service offerings and video streaming are driving network traffic growth and changing traffic patterns. Software Definable Networking (SDN), Network Function Virtualization (NFV), 100 Gbps+, Packet Optical Transport-Systems (P-OTS) and small cell technology offer the potential to change network cost structures and improve network flexibility and resiliency. Service providers, in response to these trends, are rethinking their network architectures and business models.

NFV, whose development is being guided by many of the largest network service providers, explicitly addresses capex reductions and streamlining service provider business processes to reduce opex and increase service velocity. Elimination of site visits and manual processing steps will provide the biggest business benefit, in my opinion.

Data centers and content distribution facilities are capturing an increasing traffic share and are being sited ever closer to end-users. Cloud computing, video streaming and soon NFV are driving the traffic growth. In addition, cloud computing models are creating new East/West data flows among data centers.

With so much end-user traffic flowing to these facilities, it makes economic sense to locate them close to the end-users. A recent Bell Labs study predicts that metro traffic will grow about two times faster than traffic going into the backbone by 2017. This is forcing a rethinking of network architectures. Solutions incorporating 100 Gbps or higher bit rate technology, POTS and SDN control planes are being developed to lower the cost of handling such traffic as compared to current architectures that use distributed control planes and separate optical transport and routing systems.

Convergence of wireless and wireline infrastructure is ongoing and will accelerate as small cell technology is deployed. Mobile operators are moving cell sites ever closer to the end-user so as to maximize frequency reuse and increase subscriber data rates. Also, the high cost of mobile broadband provides an incentive for mobile subscribers to minimize their costs by using private or public Wi-Fi or WLAN facilities whenever possible.

Today, more smartphone and tablet traffic is carried by these facilities than by mobile wireless networks. Wi-Fi and WLAN traffic is backhauled by wireline broadband services or Digital Internet Access services in larger enterprise sites. Small cell access points are physically similar to Wi-Fi or WLAN access points but may use licensed mobile spectrum and link traffic to the mobile operator's IP mobile core rather than to the Internet. Small cell wireless access points have highly favorable costs when compared to macro cells. As they are deployed, wireline broadband facilities will carry most broadband traffic regardless of the end-user's device or type of retail service provider.

These trends assure steady demand for optical transport equipment but vendors' profit margins will continue to be squeezed by severe price competition and the need to make large R&D investments to maintain competitiveness. A handful of network service providers account for the majority of purchases in any country and they are effective in promulgating standardized equipment specifications such as NFV or SDN. Prices are being further depressed by the rapid shift from 10 Gbps to 100 Gbps technology, with 400 Gbps on roadmaps and Terabit technology already in lab trials.

Capacity supply is ahead of demand currently and is likely to remain so as overall traffic demand growth rates are decelerating. Vendors with internal optical component capabilities, including Huawei, Alcatel-Lucent (NYSE: ALU), Ciena (NYSE: CIEN) and Infinera (Nasdaq: INFN), will be able to exert some technological leadership over those vendors that must source components from others. Vendors with strong P-OTS and SDN technologies, including Cisco, Cyan and BTI, also are in a favorable technology leadership position. However, technology rarely wins contracts from Tier 1 network operators. Operations support, conformance with service providers' internal supply chain process and systems integration capabilities rank higher in service providers' purchasing criteria.

Carrier routing and switching vendors also are facing severe price competition and pressure for large R&D investments. Juniper Networks (NYSE: JNPR), however, is the only top three vendor with carrier routing and switching as a dominant part of its product portfolio. Cisco's (Nasdaq: CSCO) Network Convergence System (NCS), Alcatel-Lucent's Nuage and Juniper's Contrail proactively position the top three in the emerging SDN market and will help them fend off data center equipment vendors' attempts to enter the carrier routing and switching market with a SDN play. Also, Cisco's NCS is a very strong NFV initiative.

Evolution from distributed IP/MPLS control planes to centralized SDN will reduce the price and margins on router hardware. Price and margin erosion, however, is the continuation of an evolutionary process that was underway before SDN. New architectures that minimize Layer 3 routing and consolidate optical and packet functions, especially P-OTS, are a more fundamental long-term threat to the router vendors' carrier routing businesses. This is more threatening to Juniper than Cisco and Alcatel-Lucent. They also have strong P-OTS products. One attractive solution could be a Juniper/Ciena combination, which would provide a complementary match of packet and optical strengths and weaknesses.

Michael Kennedy is a regular FierceTelecom columnist and is Principal Analyst at ACG Research. He can be reached at mkennedy@acgresearch.net.