Analyst Predicts Slowed Growth for Large PBXs and Increased Sales of Smaller Systems.
In a report entitled "PBXs: a New Environment," The Eastern Management Group has revealed some startling findings. One of the most notable is the severity of the market recession industry participants are clearly being forced to contend with. But to begin to evaluate the PBX market as it relates to the remainder of this decade it is first necessary to examine its recent past in order to more fully appreciate the forces that will drive the industry's future.
In 1979 total lines shipped just exceeded 2.23 million. By 1984, shipments had nearly doubled as they soared toward 4.13 million lines--recording an average annual-growth rate of 13.2 percent in the process. Why was the market so responsive and expansionary? Actually there were four driving forces responsible.
The first--and certainly most telling--was AT&T's well documented migration strategy introduced in 1979. The goal was to displace 80 percent of its installed base of older-generation PBXs through a series of rate increases.
The idea was to induce older electromechanical PBX users to migrate to the Dimension product family by creating a transparent price gap between the two technologies. So effective was this strategy, that only 7500 products remain today of the 75,000 older-generation products in place in 1979. For the years 1979 to 1984, the migration strategy had, by itself, accounted for over 69 percent of all PBX replacements. This is an important point.
The second factor is Centrex replacement. From more than 15,000 systems at the end of 1981, the Centrex base declined 20 percent to 12,000 systems by year-end 1984.
The exodus from Centrex was driven by a handful of unmanageable forces, many of which were created by AT&T in a strategy to stimulate Centrex replacement sales. What brought Centrex to this state?
* A lack of enhanced features. Although technologically feasible, features such as move and change capabilities, SMDR and electronic sets, were not offered to the broad user base.
* An inflating rate structure. Although not a service officially included under the migration strategy, Centrex rates climbed steadily during this period.
* A CALC decision that was reviewed was unfair. Users were assessed a charge of $2 per month for each extension line connected to the central office.
* A sense of abandonment. Centrex users believed that Centrex was a technologically antiquated service that could not offer enhanced capabilities. Users perceived the service as lacking a commitment from AT&T. Product positioning was perhaps the greatest single handicap in marketing to Centrex users.
Contraction of Centrex Base Benefits PBX Vendors
This massive contraction of the Centrex base certainly benefited PBX vendors. In fact, Centrex replacement during the years 1982 and 1983--the years when replacement was the highest--accounted for approximately 11.1 percent of all PBX shipments. During this period alone 4,600 Centrex systems were replaced with PBX offerings. The profits poured in as companies like Northern Telecom and Rolm set their sights on an inadequately protected base.
The next factor was a large PBX base that was aged and relatively feature poor. Even as late as year end 1981, over 50 percent of the installed base of PBXs were of first-generation vintage. (First generation is defined as switches not supporting basic second-generation features including least-cost routing, call-detail recording and toll restriction.) Of the 73,000 PBXs of this type, AT&T's old-generation electromechanical switches represented 54 percent. However, products from other vendors, including Northern Telecom and GTE, also had first-generation products installed. And when Centrex is added, the first-generation base increases by 20 percent to 88,600 systems.
Naturally this large base of first-generation products was a prime and waiting market for second-generation products. Cost benefits could easily be justified. Prospects could evaluate PBX alternatives based on "hard-dollar savings" realized through using the features mentioned earlier. PBX replacements were propelled through products that enhanced the economic effectiveness of the communications function.
The final prime factor was price competition. But when assessing the impact of pricing on the PBX market, two time frames within the period must be addressed. Each time period, 1979 to 1981 and 1982 to 1984, had distinct characteristics that affected PBX marketability.
During the 1979 to 1981 period, PBX vendors competed not with each other but with AT&T. The population of vendors were few and AT&T's large base of PBXs and Centrex was extremely volatile due to factors previously discussed. PBX vendors simply adopted an umbrella pricing strategy enticing movement from AT&T's base. This pricing strategy positioned vendors 20 percent under the current AT&T rate schedule. Umbrella pricing, coupled with AT&T's pricing policy, proved very effective in stimulating PBX replacement.
The success of these strategies altered the 1982 to 1984 environment. Existing vendors expanded the breadth of their product line; new vendors sought to carve out a niche for themselves. Meanwhile, product differentiation narrowed as technology improvements closed gaps in product feature functionability. The result was increased competition for a decreasing replaceable base.
The net result? Prices dropped significantly, further encouraging replacements. From over $950 per line in 1982, end-user prices dropped to below $750. At the same time replacements surged forward; line shipments from 1981 to 1984 increased 45 percent, jumping from 2.85 million to 4.13 million.
In retrospect then, 1979 to 1984 were years of optimism in the PBX industry. Things looked bright for many vendors as profits accumulated and customer bases widened.
The combined effect of those four driving forces have already levied more than a modest impact on the PBX market outlook. But the secondary effects of these forces are only now beginning to materialize. And these secondary results are not nearly as optimistic as those already discussed. One of the most evident repercussions is that the PBX market boom experienced from 1979 to 1984 will not extend into 1985.
Far from it. System shipments that exploded to 23,690 in 1984 will drop by over 26 percent this year. Only 17,500 system shipments can be expected by year end 85.
But beyond 1985? Well, for the remainder of the decade, line shipments will experience only modest growth. Indeed, the growth pattern will be similar to that in evidence in the early 70's, a three percent average annual-growth per year. The boom years that ran from 1979 to 1984 will have abruptly halted.
Let's explore why.
We've already looked into what has defined the market profile over the past five years. What of the next five? Once again, four prominent factors rise to the surface.
One of the single largest headaches that PBX vendors are struggling to asuage is a resurgence in Centrex sales. This Centrex renaissance is certainly worth watching, if only because of the dramatic turn around it represents. Remember, in 1981, 1100 Centrex systems were displaced by competitive PBX offerings. This number escalated to 2,220 and 2,390 in 1982 and 1983 respectively. In these three years alone, 38 percent of the 1981 installed base replaced their Centrex.
Recently, the assault on the Centrex base has experienced increased resistance. New pricing schedules as well as customized features have repositioned Centrex as a viable switching solution. Replacements that peaked in 1983 decreased dramatically in 1984 and will again in 1985. The Centrex base, which tumbled 19 percent between 1981 to 1983, lost only 1.5 percent in 1984. And that is good news indeed for many BOC's . . . especially since evidence is mounting that the Centrex "opportunity," as many PBX vendors once considered that market, is rapidly dissipating in the face of renewed commitment. Renewed commitment on behalf of both BOCs and users.
Another factor haunting the PBX market for the rest of the decade is that old spectre, the AT&T migration strategy. Of the systems shipped since 1979, 73 percent have been PBX replacements. The migration strategy focused on the replacement of older-generation products. Through rate increases, it stimulated a market that had grown at a 4.5 to 5.5 percent linear rate, forcing the growth upwards to 13 percent. Systems that would have been displaced during the mid to late '80s were replaced prematurely. In fact, with the exception of 7500 older-generation products, all have been replaced with second or third-generation systems.
Small-Line Segment to Prosper
The effect of AT&T's strategy is overwhelming. By forcing early displacement, AT&T has created a PBX replacement vacuum. The opportunity window that attracted so many concerns into the PBX market has slammed shut. And it is not likely to begin to open wide again until well into the 1988 to 1993 era.
Another contributor to the long-term PBX market outlook is emerging importance of soft-dollar cost benefits. The vast majority of PBXs shipped since 1979 were of the second and third-generation variety. These systems were frequently justified by "hard-dollar savings" through cost-saving benefits such as least-cost routing and station features that eliminated expensive key telephones.
This is not the case in the majority of situations today. Data transmission at 56 kb/s, protocol conversion, T1 and X.25 interfacing and other features touted by third-generation product vendors leave telecom managers hard pressed to cost-justify replacing a second-generation PBX. The benefits of these factors are in terms of soft dollars and, in many cases, cost-transparent to the final decision maker. Without cost justifiable benefits, the replacement cycles for installed PBXs will increase substantially.
The last large piece to the PBX market puzzle for the remainder of this decade appears in the form of new AT&T strategies. AT&T has implemented two new strategies that will impact the PBX market; selling of the embedded base and selling of refurbished equipment. And although the company's primary motive may be to increase cash flows, both strategies will decrease the amount of PBXs available for replacement.
By offering its embedded base for sale, the option to buy their system versus the continuing lease alternative, AT&T can virtually lock up two replaceable markets--the remaining base of older-generation switches, plus AT&T's large Dimension base. Each success that AT&T encounters in "re-closing" a PBX removes one replaceable system from the base. In the majority of buys this will be for a minimum of five years--the amount of years required to fully depreciate a PBX.
Coupled with reasonable sales terms, buying an embedded system for many is becoming an attractive option. In addition, AT&T has demonstrated a good deal of inflexibility in granting immunity from termination charges for users wishing to leave the fold prior to lease expiration.
After a rush of prosperous years, therefore, the PBX industry is about to crash into a wall . . . a wall that was erected in good part by the very participants who sought to benefit in the long term.
Still, not all is as gloomy as it might first seem. For instance, one bright spot in the next handful of dismal years will be the strength of the under 100-line segment. This segment will explode throughout the next decade growing from 12,100 systems shipped in 1985 to over 34,000 by 1993.
The impact of this segment is dramatized by the average system line size for 1985 to 1993. In 1985, the average line size will be 183 lines. By 1993 the average will fall by 55 percent to 101 lines.
Why is this small-line segment about to prosper when most segments are suffering? The answer is clearly that in this arena at least, the replacement market is indeed alive and well. Both hybrid and key systems are prime candidates for replacement. Hybrid systems are nearing the end of their life cycle. This interim product is successfully being challenged by vendors offering competitively priced PBXs providing more features. AT&T, with 64 percent of the installed base has already shown signs of its intention to replace its successful Horizon product. Once that process is fully implemented, the hybrid market could completely evaporate.
Key systems will also prove replaceable by PBXs. Similar to reactions in the hybrid market, traditional key-system users also will be responding to the lower prices and more feature-laden products available through PBX offerings.
So it would seem that there are some market areas that will avoid the overall recession that the PBX industry is hurtling towards. But as a whole, the PBX market will find the next three years trying times. Now, of course, is the time to strategize for those lean years. There is a strong likelihood that those who fail to implement an adequate plan of action, or those who just can't quite seem to get a firm foothold, will simply not be around in the spring of 1988.
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|Date:||Jul 1, 1985|
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