The Outlook Is Improving, but Mixed

At the beginning of 2020, we expected a solid year for the WLAN market, driven by a still humming economy and a technology upgrade cycle to Wi-Fi 6. After the pandemic hit, we revised our forecast down steeply (double digit decline)—similar to prior economic declines. As the year progressed, however, WLAN proved resilient and 2020 revenue is on track to come slightly lower than 2019—a remarkable result of government stimulus coming primarily from the US, followed by China and select countries in EMEA such as Germany. For example, the US’ E-Rate program, which provides telecommunications funding for K-12 schools, was opened to a second round in September 2020 to allow schools to request additional funds for 2020-21 to address surging bandwidth demand stemming from remote learning. In China, the government’s Made in China 2025 initiative has provided incentives for manufacturers to modernize their processes.

Recently, during financial publications conference calls, a number of WLAN manufacturers announced that government stimulus would spill into 4Q20, and possibly into early 2021. Several economists at world leading banks recently raised GDP forecasts. With this brighter picture on the macro-economy, we raised our outlook for 2021. There are many promising signs, like the distribution of vaccines, and approval of another economic aid package in the US.

But there are also warning signals. We have read real estate reports highlighting over 40% Y/Y increases in excess commercial real estate in 30 major cities in the US. If real estate companies use technology to increase the attractiveness of their buildings WLAN sales could rise. Alternatively, spaces could remain empty or converted to residential. We are watching for indicators.

Another WLAN market constraint includes surging infection rates that are once again causing targeted shut-downs of economic sectors. Several WLAN vendors attributed 3Q20 softness in Europe to resurging infections particularly in southern counties. Meanwhile, a new strain of COVID-19 in the UK is spreading more rapidly than previous strains and many countries have banned travel to/from the UK. Clearly, there remains tremendous uncertainty and potential for volatile demand swings in 2021 as businesses open and close.

Could Wi-Fi 6E Stall Market Demand In 2021?

The 802.11 standard has seen regular updates over its 20+ year history, and so the looming update to 6E should not seem out of the ordinary. But two trends are changing market dynamics:

• Wi-Fi technology cycles have been shrinking, from every 4-5 years to 3 years. That makes it more compelling for buyers to sit out a cycle in anticipation of even better features and enhancements. We can see this playing out right now in the Wi-Fi 6 cycle, where adoption is significantly running behind what unfolded with Wi-Fi 5 Wave 2.
• Manufacturers advise us that client devices with Wi-Fi 6E capability will ship in early 2021. Early-to-market manufacturers of enterprise class access points advise that shipments may be as early as 2Q20. However, we don’t expect the majority to launch 6E products until end of 2021/early 2022. With Wi-Fi 6E just around the corner, users may pause purchases and wait for their favorite supplier to launch its 6E products. We anticipate high-end users and the high-end of the midrange market, which combined could comprise 20% or more of market revenues, will be willing to pay a premium to harness the benefits from Wi-Fi 6E.

Pandemic Accelerates Cloud Management

In the past several months, the pandemic has triggered intense interest in remote management capabilities given the complications around visiting locations in-person to install, upgrade, or troubleshoot equipment. The speed of innovation on cloud platforms is another benefit; for example, several vendors quickly repurposed their existing location-based technologies to develop contact-tracing applications to combat the spread of COVID-19.

Vendors have responded with increasing the variety of cloud managed products and pricing options, including lowering prices. Lower prices stimulate demand.

We expect this interest to carry into 2021 as the effects of the pandemic linger and organizations are going to be permanently more distributed over the long-term (working from home, more but smaller offices), all of which favors a cloud-based management approach.

We just published our 3Q20 reports where we looked at how the market performed during the three-month period from July to September.

During the third quarter, revenue was up 1% Y/Y, in contrast with our prior forecast of a 7% decline. The upside surprise was driven mostly by the non-Cloud segment (which includes Telco Service Providers (SPs) Large Enterprises, and Rest of the Enterprises). In the meantime, the Cloud segment was flat, in line with our expectations but showing uneven performance across various Tier 1 and Tier 2/3 Cloud SPs.

The recovery in the non-Cloud segment was propelled by increased demand from large enterprises (which include Fortune 2000 companies and comprise about half of the sales of the non-Cloud segment). We have been predicting this segment’s return to growth, as it is more economical for these enterprises with large scale to build and manage their own private data centers than to use the Public Cloud. However, to our surprise, the recovery occurred ahead of our predictions, as a result of improvement in macroeconomic conditions, easing of lookdown measures, and injection of government funding—which helped certain verticals, mainly in the public sector.

Additionally, we saw a recovery in the Telco SPs segment in the third quarter, driven by some 5G related projects, most notably in APAC regions. We also saw some growth in Telco SPs in Europe and North America (NA) as vendors such as Arista were finally able to add features to their products to tie back to legacy networks. Nevertheless, we expect demand from Telco SPs to remain lumpy. As for the Rest of Enterprise segment, we continued to see a decline, which is a trend that we do not expect to reverse due to ongoing migration to the Public Cloud.

Ongoing improvement expected for the remainder of the 2020 year

Looking at 4Q20, we expect the underlying growth drivers that helped the 3Q20 recovery in the Large Enterprise segment, will continue through 4Q20. However, we may have underestimated the benefit from backlog fulfillment that may have artificially boosted the performance of the Large Enterprise segment in 3Q20. Some of the manufacturers we interviewed confirmed benefiting from backlog fulfillment during the third quarter as supply challenges improved. Those benefits from backlog fulfillment may not repeat themselves to serve as a tailwind in 4Q20. If that’s the case, our 4Q20 forecast may be too high.

As for the Cloud segment, we expect to continue to see mixed performance among Tier 1 and Tier 2/3 Cloud SPs in 4Q20. In line with the 3Q20 performance, we expect network spending from some of the U.S.-based Tier 1 (for instance Facebook and Microsoft) as well as some Tier 2/3 Cloud SPs to remain soft through the remainder of the year, for reasons explained in more details in our report. We expect some of that softness to be offset by ongoing strength in spending from Chinese Cloud SPs, stimulated by an accelerated pace of digital transformation and untapped potential in the Chinese Cloud market.

For the full year of 2020, we now predict the market to decline only low-single-digit, compared to our prior forecast of mid-single-digit decline. We expect the Cloud segment to grow at a low single-digit rate, in line with our prior predictions. However, we adjusted our forecast for the non-Cloud segment from high single-digit to mid-single-digit decline, as the anticipated recovery in 2H2020 will offset some of the weakness in the first half of the year (The non-Cloud segment was down 8% Y/Y in 1H2020).

Data Center switch revenue forecast to grow high single-digit in 2021

Looking at 2021, we expect sales of data center switches to grow high single-digit. We expect the ongoing recovery in the non-Cloud segment, most of which is driven by large enterprises, will be propelled by improvement in macro-economic conditions. Recent GDP reports indicate that economists at world-leading banks are forecasting positive GDP growth in 2021, compared to negative growth in 2020. Additionally, the availability of a vaccine will boost business confidence, all helping to abate the uncertainty in the market. As for the Cloud segment, we predict a double-digit growth in network spending which will be triggered by an accelerated pace of 200/400 Gbps adoption outside of just Google and Amazon.

200/400 Gbps refresh cycle expected to accelerate in 2021

Most of the 400 Gbps adoption in the market has been so far driven by Google and Amazon. The availability of high-volume low-cost 400 Gbps optics has been the major constraint for the adoption. Additionally, adequate switch chips with the right density, power, and buffer size were needed for specific use cases at some of these large Cloud SPs to enable this transition. According to our interviews with the major chip suppliers as well as the optical transceiver vendors, we predict the 200/400 Gbps refresh cycle to start to materialize at Facebook in early 2021 and at Microsoft in the second half of 2021.

Despite our optimism, a lot of uncertainty remains in the market

Despite our optimistic outlook, we wouldn’t be surprised if the market continues to show some volatility next year. The level of uncertainty in the market remains relatively high due to elevated levels of unemployment rates and bankruptcy, which may impact business confidence and suppress network spending from large enterprises and even some Tier 2/3 Cloud SPs.

Additionally, it bears mentioning that at the time of this writing, the rate of COVID-19 infections is accelerating, prompting many countries to slow business reopening, while invoking curfews and lockdowns. This may potentially suppress market growth but we believe that the impact will not be as significant as what the market has experienced with the first wave of infections and lockdowns. We believe that many vendors, as well as their customers, have figured out ways of doing business during the unusual circumstances in these unprecedented times.

All that said, although we believe the worst of the pandemic is behind us, we are all watching how fast and smooth the distribution of the vaccine will be. Until then, and until the vast majority of the population is vaccinated and builds immunity to the virus, a lot remains uncertain about the outcome of this pandemic.

 

As we arrive at the end of 2020, it’s a good time to look at the forthcoming year. We assume that 2021 won’t surprise like this year, and we’ll be able to start returning to pre-pandemic routines. On a global scale, most things will return to the way they were, but some may not. The same is true for the network security market, where we predict two new trends and a return of a historical one:

1 – From Work at Home to Work Anywhere Securely (New)

Before the pandemic, few business leaders imagined running their entire business with a remote workforce, let alone plan or invest in one. Fortunately, the bottom didn’t fall out when their employees had to stay home to help stem the spread of COVID-19. Many businesses found that productivity didn’t suffer, and in some cases, improved. While some employees may never adjust to a life where the line between personal and work life is fuzzy, for many it has been empowering change, and they have no desire to go back into an office.

Enterprises are taking notice. Progressive ones, like Nationwide Insurance and Twitter, have already announced that most, if not all, employees never need to come back. Most businesses now see that remote work isn’t a liability but an asset.

In 2020, many enterprises were forced to cobble together a work from home solution. These solutions weren’t meant to be permanent. In 2021, we see enterprises making “work anywhere” a formal business goal and begin making long-term changes and investments.

Security vendors have already been responding with new cloud-based solutions that bring together networking and security in what is being billed as SASE (Secure Access Service Edge) solutions. Early adoption of SASE has started, and 2021 may be the first year it becomes mainstream.

2 – Cloud-Centric Security Will Continue to Grow Faster than Overall Market (New)

During our 2020 interviews with state VARs, we heard how digital, multi-cloud, and mobile user-friendly enterprises weathered the pandemic better than those that were not. Because of the pandemic, enterprises that were already investing in IT transformation accelerated, while those that had not started finally began their journey. The numbers we track bear this out.

We track the network security market not just by product segments but also by form factor. We follow three form factors, Physical Appliances, Virtual Appliances, and Software-as-a-Service (SaaS). We consider Virtual Appliances and SaaS to be the two form factors to be most cloud-friendly and at the heart of cloud-centric security deployments.

While we expect the overall network security market to return to high single-digit growth in 2021, we expect both Virtual Appliance- and SaaS-based network security to grow north of 20 % in 2021, or more than twice as fast as the overall market.

3 – Firewall Revenue Will Rebound (Historical)

Historically, Firewall revenue has been growing on average nine to ten % every year. In 2020, Firewalls are on a path to squeeze out just 2 to 3 % growth. Considering the Firewall segment is a $9 B market and nearly four times bigger than any other security segment we track, any sluggishness quickly impacts overall market numbers.

Most firewall sales – in particular, physical firewalls, which account for 95% of the Firewall segment by revenue – are part of a broader network infrastructure purchase together with network switches and routers. Early on in the course of the pandemic, many enterprises halted network expansion projects, which naturally led to the deceleration in Firewalls we saw in 2020.

In 2021, we expect the Firewall segment to rebound and return closer to historical growth rates for the following two reasons:

• Need for greater capacity – 5G networks and increasing popularity of 100G/400GbE over 10G/40GbE or 25G/100GbE with cloud and telco service providers drive the need for faster, more scalable Firewalls. High-End Firewalls will stand to benefit.
• New features and use cases – Over time, Firewall vendors have proven adept in maintaining customer relevancy with support for new features and use cases. We see this continuing in 2021 with an expansion of Low End and Midrange Firewalls into SASE.

Across all three predictions, we hold a generally optimistic view towards 2021. We feel our bias is well warranted considering the high priority security investments have held in enterprise budgets due to the threat landscape remaining as thorny as ever.

We just published our 3Q20 reports where we looked at how the market performed during the three-month period from July to September.

Surprisingly, the campus switch market performed well above our predictions in 3Q20. Revenue was up 3% Y/Y, compared to our prior forecast of a 12% decline, which would have been in line with prior recessions and in correlation with prior GDP forecasts.

The upside surprise was driven mainly by a stronger performance in North America as a result of strong government funding (CARES Act and E-Rate). Some of the manufacturers we interviewed expect government funding, mostly related to E-Rate, to flow into the next couple of quarters.

For 4Q20, we predict the market to grow at 3% Y/Y in 4Q20, in line with the 3Q20 performance.

 

 

We believe that the underlying growth drivers that helped the 3Q20 recovery will continue through the remainder of the year. We believe ongoing government funding, as well as improving macroeconomic conditions—namely in the U.S. and APAC—will encourage the large and even some mid-size enterprises in those regions to resume spending on infrastructure.

We would like to caution, however, that we may have underestimated the benefit from backlog fulfillment that may have artificially boosted the market performance in 3Q20. Some of the manufacturers we interviewed confirmed benefiting from backlog fulfillment during the third quarter as supply challenges improved. Those benefits from backlog fulfillment may not repeat themselves to serve as a tailwind in 4Q20. If that’s the case, our 4Q20 forecast may be too high.

For the full year of 2020, we currently predict the market to decline only 2%, as the anticipated recovery in 2H2020 will offset some of the weakness in the first half of the year (1H2020 was down 8% Y/Y).

 

Campus switch revenue forecast to return to growth in 2021

Looking at 2021, we predict the positive momentum to continue and drive 2% growth in the market.  This projected growth will be propelled by improvement in macro-economic conditions as recent GDP reports indicate that economists at world-leading banks are forecasting positive GDP growth in 2021, compared to negative growth in 2020. Additionally, the availability of a vaccine will help abate the uncertainty in the market and boost business confidence.

 

This pandemic-induced recession looking better than the two prior ones

The question now is how this projected performance in the market compares with the performance during the two prior recessions (in 2000 and 2008). In the 2000 recession, sales of enterprise switches declined in the mid-teens in the first year of the recession and it took the market three years before returning to growth. In the 2008 recession, the market declined in the mid-teens in 2009 as well, but returned to growth in the following year, thanks to deep government stimulus.  We believe a few major tailwinds would help the market perform better during this pandemic-induced recession.

 

 

First, government spending and stimulus helped not only the government sector but also the lower-education vertical and even manufacturing as governments in some regions of the world, such as Asia Pacific, provided incentives to manufacturers to modernize their processes.

Second, China, which recovered relatively fast and has been providing some uplift to the market since 2Q20, is now a significant portion of the total sales. (China was less than 10% of the market in 2008 and prior vs. about 20% in 2019).

Third and more importantly, this pandemic has actually amplified the importance of the network and is accelerating the digital transformation and network upgrade cycles. Our interviews with end-users as well as system integrators revealed that some of the digital transformation projects have been pulled in by about one to two years. This accelerated pace of digital transformation is offsetting some of the impact from work from home and cannibalization from WLAN, which we are planning to discuss in more details in our upcoming five-year forecast report.

Despite our optimism, a lot of uncertainty remains in the market

Despite our optimistic outlook, we wouldn’t be surprised if the market continues to show some volatility next year. We believe the level of uncertainty in the market remains relatively high due to elevated levels of unemployment rate and bankruptcy. Additionally, our interviews as well as commercial real estate reports are showing decreased demand and high level of excess capacity which may potentially impact demand for network equipment. We question whether the true level of private demand is currently camouflaged by massive government funding.

Finally, it bears mentioning that at the time of this writing, the rate of infections is accelerating, prompting many countries to slow business reopening, while invoking curfews and lockdowns. This may potentially suppress market growth but we believe that the impact will not be as significant as what the market has experienced with the first wave of infections and lockdowns. We believe that many vendors, as well as their customers, have figured out ways of doing business during the unusual circumstances in these unprecedented times.

All that said, although we believe the worst of the pandemic is behind us, we are all watching how fast and smooth the distribution of the vaccine will be. Until then, and until the vast majority of the population is vaccinated, a lot remains uncertain about the outcome of this pandemic.