Evaluating the true and enduring impact of carrier cost cuts

Cutting costs is the name of the game in a tough economy, and many corporate telecom managers are dealing with cost cuts in two distinct senses.

Some U.S. and overseas carriers have continued to announce layoffs and other cost-reduction measures following their latest earnings, and such moves always raise the possibility of reduced service to their customers. On the other hand, cost-reduction programs in many telecom managers' own companies are driving their current procurement projects, so you can't automatically fault all carrier cuts when everyone's in the same boat.

The key to evaluating carrier cost cuts may be whether they indicate fundamental rather than marginal or temporary shifts in the carriers' business. To the extent that carrier cutbacks both reflect and exacerbate problems for enterprise users, they're a serious concern for both day-to-day and strategic sourcing considerations.

Two such carrier cost-cut programs are worth examining under this framework. Sprint specifically announced this month that it will eliminate 2,000-2,500 positions on top of earlier layoffs. BT, for its part, reported this month on a set of ongoing cost-reduction measures, including what it rather charmingly labeled "people and transformation costs," some of them focused in its global services unit that sells to multinational corporations.

On the surface, the two situations do not provide a neat parallel. Sprint's cuts are related to its overall business, which is heavily focused on wireless. They deal with the paradox that Sprint is not holding its own vs. the more diversified AT&T and Verizon even in Sprint's own area of specialization.

BT's situation relates largely to a specific part of its business but one important to corporate users -- its attempt to compete against AT&T, Verizon, and Orange Business Services for global or regional contracts. Unfortunately for BT, this is an area where we've observed it's not winning all that many new deals.

But the way in which the two situations resemble each other is the potential for the cost cuts to have a "treadmill" effect. They provide relief that satisfies Wall Street analysts but run the risk of making the carriers even less attractive to customers, reigniting the original problem.

Sprint has suffered from low profit margins in its wireless business compared to competitors simply because it gets fewer new subscribers than AT&T and Verizon and still loses more through churn, even after improving its customer service somewhat. Strikingly, Sprint said that some of its new personnel cuts would be in customer contact centers because they're getting fewer complaint calls. But that only recalls that poor staffing in call centers was part of Sprint's problem in the first place, one that it was too slow to recognize the first time around.

The Wall Street analyst reports that I get also note what they call Sprint's "negative operating leverage" from the fact that more than twice as many Sprint customers leave to go to AT&T and Verizon than the other way around. That's just a fancy way of saying that Sprint has to provide more equipment subsidies, more prepaid plans, and other profit-reducing concessions to stay even. There's the treadmill factor all over again.

The manifestation of BT's situation takes a different form. Some of our consultants have noticed what comes across from BT as a re-assessment of its stance on multinational bids. Its bids are often not as aggressive or responsive as they should be in the face of eager competition from the U.S.-based big carriers or major regional players in Europe and Asia. Maybe they're fearful of sacrificing margins, but remember: This is for the business of global brand-name companies, where a loss of position could cost BT for years to come.

Of course, the financial markets can at first react positively to cost-cutting moves even if these moves threaten to provide no long-term marketplace benefit. I know this is somewhat counterintuitive, but when a carrier says it is doing something to "increase free cash flow," or an analyst says that a certain carrier action does result in "increased free cash flow," that is actually potentially worrisome to enterprise users.

Free cash flow is nothing more than dollars (or another currency) in minus dollars out, making no distinction on what those dollars are spent on, including capital investment or customer-facing positions. It's actually not a measure treated under Generally Accepted Accounting Principles, because there's a good reason for GAAP to calculate earnings based on differential treatment of money spent by companies (even acknowledging the widespread abuse of GAAP rules earlier this decade).

Of course, free cash flow is highly important to determine whether a company will survive or not. But now that the telecom industry is not on the brink -- it's actually been one of the better-performing sectors in the global recession -- corporate users are hoping to deal with carriers that can thrive as well as survive while still making very good deals. That depends on ongoing investment and consistent operations.

This framework for evaluating carrier cutbacks is a useful starting point even when the facts differ among situations. We'll be continuing to examine the potential "treadmill" impact on the two carriers mentioned here as well as others. Feel free to suggest those you would like to see covered as well.