Y2K Is Worse Than Anyone Thought

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People have been sounding the alarm about the costs of the millennium bug-the software glitch that could paralyze computers come January 1, 2000-for a couple of years. Now, the hard numbers are coming in and, if the pattern holds, they point to an even larger bill than many feared just a few months ago.

In the third quarter, the Securities and Exchange Commission for the first time urged companies to disclose what it will cost them to head off the bug. The disturbing news: Many now plan to spend, on average, about 26% more than they thought just months ago. AT&T, for example, had said in early 1997 that it might shell out $300 million. Now, it says it could spend $900 million before January 1, 2000-some $186 million of that in this year’s fourth quarter alone. Chase Manhattan Corp says it will spend $363 million, up 21% from its $300 million second quarter estimate. And Aetna Inc is blaming fatter-than-expected Y2K bills-$195 million instead of the $139 million forecasted last summer-for a 6.1% drop in third-quarter profits.

Outspoken Y2K-watcher Edward E Yardeni, Chief Economist, Deutsche Bank Securities Inc, says the numbers show that some organizations are "just starting" to wake up to Y2K’s potential for damage, but he believes the possible impact is enormous. In fact, Yardeni puts the chances of a recession in 2000 or 2001 at 70% because of "a glitch in the flow of information."

Now, companies are testing repairs and finding that some don’t work properly. And with less than 400 days to go, some are saying they can’t make all their fixes on time and will have to find ways to do business, regardless. That, could mean, for example, investing more in back-up supplies, as Xerox Corp is doing, or temporarily shelving just-in-time inventory systems.

The tale of Samsonite Corp illustrates how costs can mushroom. After spending $10 million to upgrade its computer system to head off the bug, President Tom Sandler proudly assembled his troops to unveil the programmers’ Y2K handiwork during a dry-run at a distribution warehouse in suburban Denver. "We had 20 outside consultants working with us, all telling me everything was going to work fine," recalls Sandler. "But then I walked down to the loading dock to flip on the switch." Nothing happened.

Lost luggage

Besides driving up Samsonite’s Y2K budget, the glitch messed up the company’s entire distribution system, freezing deliveries for the first 20 days of July and hampering operations for months afterward. As a result, many stores were unable to get shipments of suitcases, duffle bags and computer cases for the busy back-to-school season. Some systems were giving out incorrect information including sending trucks to the wrong stores and forklifts to the wrong locations in the plant. "IT was frightening," says Sandler. The tally: in the second and third quarters, the Y2K snafu ate up roughly $4 million in profits and scuttled $10 million in sales, he says.

Multiply such costs across the globe and you’re talking real money. Gartner Group Inc, a technology consulting firm in Stamford, Connecticut., warns that total Y2K costs could hit $1 trillion worldwide-$600 billion before 2000 and $400 billion after. Says David Wyss, an economist at Standard & Poor’s/DRI. "It’s like that Hitchcock film The Birds: Each time you look, the threat-the cost-seems to loom bigger."

For now, the Y2K problem is giving the economy a little lift. The Federal Reserve Bank of Philadelphia predicts that Y2K spending could boost 1999’s gross domestic product by 0.1% or $8 billion. But in 2000, it says, GDP could shrink 0.3% because of Y2K problems. Says Fed Governor Edward W Kelley Jr, the central bank’s Y2K watcher: "The bad news is that with all this spending on Y2K, there is no corresponding increase in firms’ output, and this lowers the company’s productivity, boosts costs and reduces its profits." Robert Stansky, Manager of Fidelity Investments’ $73-billion Magellan Fund, fears that a costly, last minute scramble to fix the bug next year will exacerbate weakness in corporate profits. "I’m truly scared about the Year 2000," he says.

Why is the bug becoming so costly? As the SEC filings show, some companies initially underestimated the size of the repair job. In some cases, it’s because business partners aren’t up to speed. General Motors Corp, with its 40,000 critical suppliers, worries about glitches beyond its control. "If you don’t get suppliers in line, it can be just as bad as not having your internal systems ready," says a spokesman.

At NCR Corp, which makes automated teller machines, executives worry about "the unreadiness" of foreign customers. "The big unknown is how many of our customers, especially in Europe and Asia, are going to delay making Y2K fixes until the very last moment," says Howard Mitchell, VP, NCR in charge of Y2K fixes. "As they delay, our costs go up." Cap Gemini says 65% of US companies now see a risk of failure among trading partners.

Post-2000 repair and litigation costs could push spending higher still. Companies such as Blue Cross/Blue Shield of Michigan and Ford Motor Company predict they’ll keep getting bitten by the bug for years to come. Says Paul Gliesman, Y2K Project Manager at Blue Cross/Blue Shield: "You can fix this bug now, but you’ll need to keep updating those fixes to make sure systems stay fixed in the future."

As for litigation, close to two dozen Y2K lawsuits have already been filed in the US by consumers and shareholders claiming companies didn’t warn them about Y2K costs. And many companies figure they could be targets for more suits. Motorola Inc says it expects to spend as much as $340 million by the end of next year on fixes-not including potential litigation costs, which it says "could be significant." Of chief concern: Motorola’s 911 dispatch center equipment used by police, fire and other emergency services across the country.

911 Nightmare

In its SEC filing, Motorola says, "The most reasonably likely worst-case scenario involving (Motorola) is the failure of the public safety system on January 1, 2000…. As a result, (Motorola) could potentially be sued as the supplier of those systems." Especially worrisome: Smaller communities that don’t have the resources to fix their 911 systems. "The system won’t crash, but the report dates will be wrong," says Charles F Jackson, Chief of Systems Planning for Motorola’s Land Mobile Products Sector.

Motorola is insured, but many other companies are not. And it’s getting harder to buy that protection. American International Group Inc, for example, says it has stopped selling policies designed to protect businesses from Y2K liability. And 49 states have already allowed insurance companies to exclude Y2K-related claims from overall commercial policy coverage.

Is there any way to avoid the Y2K mess? Commissioner Charles Rossotti of the Internet Revenue Service has a suggestion: "Congress could simply pass legislation postponing the date a couple of years," he quips. If only it were so easy.

The Fixing Cost
(In Millions)

 

Previous Estimate

New Estimate

AETNA

$139

$195

AT&T

300

900

BANKERS TRUST

180-230

220-260

CENDANT

25

53

CHASE MANHATTAN

300

363

GENERAL MOTORS

400-500

890*

McDONALD’S

8

30

MERRILL LYNCH

375

560

SEARS

63

143

XEROX

116

135

* Includes $300 million payment to EDS

Marcia Stepanek
in New York, with bureau reports
Copyrighted BusinessWeek
December 14, 1998.

 



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