Europe’s incumbent telecom operators are heavily in debt following their ambitious expansion efforts in the 1990s and an enormous bill for third-generation licenses.¹ So far, the response has been to slash spending. In 2001, these companies trimmed their operating costs by up to 6 percent, reduced the staffs of their core fixed-line divisions by as much as 12 percent—more cuts are to come—and pared their capital spending to the bone (Exhibit 1).

But cost cutting alone won’t revive their fortunes: in addition, they must do something about falling revenues, for at some of the incumbents revenues from the fixed-line voice business, which still accounts for 70 to 90 percent of the wireline total, have been shrinking by up to 12 percent a year. So far, revenues from data have also been lower than expected, because an oversupply of data networks has forced down the price of such services—a particular blow to incumbents, since a good deal of their recent capital spending was devoted to building these networks (Exhibit 2). It therefore isn’t surprising that the market valuations of the telcos’ fixed-line businesses fell by 25 percent, on average, from 2000 to 2001.² Clearly, revenues are only one...