Ericsson (NASDAQ: ERIC) posted weaker-than-expected sales in the third quarter and its gross margin was lower than analysts' forecast, as the company saw a drop in network sales and was hit by a slowdown in LTE deployments in China. However, the company's North American business was largely stable and Ericsson CEO Hans Vestberg said that the company is optimistic about the long-term prospects for growth in China.
Ericsson said total reported net sales increased 3 percent to around $6.96 billion (SEK 59.2 billion), but that sales adjusted for comparable units and currency actually fell 9 percent year-over-year due to lower revenue from the company's networks unit. Analysts had expected sales of around $7.13 billion, according to Bloomberg. Reported sales in the networks division fell 4 percent year-over-year but 15 percent when adjusted for comparable units and currency. However, Ericsson saw a big jump in its services business, with reported sales rising 11 percent and falling 2 percent when adjusting for constant currencies.
Overall, net profit rose 19 percent to $364.5 million in the third quarter, as Ericsson's bottom line benefited from cost-cutting. The company announced in November 2014 it would cut jobs and in March said it would slash around 2,200 positions in Sweden to achieve around $1.05 billion in savings during 2017. Ericsson said the restructuring is "progressing according to plan" and that since November 2014 "a number of activities have been implemented globally, contributing to lower cost levels."
However, Ericsson's closely watched gross margin, or the percentage of sales left after subtracting production costs, was 34.5 percent excluding some items. Analysts predicted 35.3 percent, according to the average of estimates compiled by Bloomberg.
Turning to regional sales, in North America the company said the mobile broadband business "remained stable" from the second quarter but at a lower level compared to the same period last year. North America is Ericsson's largest region by sales and accounted for nearly 25 percent of its revenue in the third quarter. Total sales in the region was around $1.7 billion, up 2 percent from a year ago and down 2 percent from the second quarter. "Operators continued to focus on cash flow optimization and consolidation, leading to lower investment levels compared to the same period last year," Ericsson said of North American carriers. "ICT transformation and professional services developed favorably. In the quarter, two important TV and media agreements were announced."
In an interview with FierceWireless, Vestberg noted that from 2011 through 2013, operators in North America and in the U.S. in particular were investing heavily in their macro LTE deployments, and that in the second half of 2014, spending on capital expenditures started to dip as those moved toward completion in most areas. Starting in the second quarter Ericsson began to see its North American business stabilizing, which has continued, he said. "It's not falling. It's on the level that we've seen in other quarters," he said.
Vestberg also noted that some companies are diverting capex to Latin America, perhaps a reference to AT&T (NYSE: T), which plans to spend $3 billion during the next few years to cover 100 million people in Mexico with LTE by the end of 2018. Some carriers are investing in TV and media, Vestberg said, perhaps a reference to both AT&T and Verizon (NYSE: VZ), meaning that some of Ericsson's revenue from working with those customers won't show up in its networks unit.
Overall though, Vestberg said there is still runway for growth in North America. "We still have a good and great demand for 4G capacity. We see continued development of applications and services that require more bandwidth," he said.
The Ericsson chief noted that many carriers are adding capacity to their networks and that as 5G approaches there will be another round of coverage buildouts. In the meantime, he said, "you're going to see more densification of course in order to get networks resilient and even better quality."
In other markets, Ericsson said there was a slowdown of LTE deployments in mainland China in the quarter, as sales in North East Asia, which includes China, fell 10 percent year-over-year. Ericsson also saw "a somewhat slower pace of mobile broadband investments in markets such as Russia, Brazil and parts of the Middle East which had a weak macro development." Carrier spending in Japan also remained subdued but sales proved resilient in India and South East Asia.
Yet Ericsson said there is cause for optimism. "Given the high LTE subscriber penetration in mainland China, operators see new business opportunities and through the acquisition of Sunrise Technologies Ericsson has strengthened its position to support customers in their transformation," the firm said.
Vestberg, speaking to Bloomberg, said Ericsson thinks Chinese carriers will continue to invest in their LTE networks. "We had a slowdown in the third quarter but if you go out to the medium- to long-term, we think the underlying demand is there so there would be no reason why they shouldn't spend," he said.
Others were less sanguine. The Chinese market that has been a significant contributor to systems sales for several quarters dropped 20 percent year-over-year and 1 percent from the second quarter, Bengt Nordstrom, head of telecoms consultancy at Northstream, told Reuters. "That indicates the 4G rollout in China has peaked."
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