AT&T: Who Needs ILECs?
teledotcom.com
TCI merger creates a much bigger pond-and
some pretty nervous little fish.
By Michael Arellano. Michael Arellano is an analyst with
Degas Communications Group Inc. (New York), a market
researcher. He can be reached over the Internet at
degascomm@earthlink.net .
I come not to praise AT&T, but not to bury it, either, as
investors seem to be doing since it announced it will acquire
TCI. AT&T is taking a calculated-and potentially very
shrewd-risk in buying TCI, and risk-taking is what business is
all about, notwithstanding short-term impacts on stock prices.
With TCI, AT&T will no longer be dependent on colocation
agreements and ILEC cooperation to reach residential
customers. Several important questions remain unanswered
about the merger, though, among them:
* Does AT&T have the capital to upgrade the network?
* Does the technology work?
* What will the return on AT&T's investment be, and what are
the drivers of that return?
* How does it affect the competitive balance between ILECs
and CLECs?
The impact of the merger on purchasing patterns is
straightforward. Upgrading TCI's network to carry voice calls
and offer high-speed Internet access will involve the addition
of fiber nodes, light-wave equipment, routers, voice switching
interfaces (both packet- and circuit-based), cable modems,
and various types of set-top boxes, depending on the services
delivered.
AT&T plans to spend about $4.4 billion over the next four
years to add high-speed Internet access and enhanced video
capabilities to TCI's network, and from $300 to $500 per
home to add telephony capabilities as needed. If you have
questions about its ability to invest $5 billion to $6 billion on
TCI's network (including telephony upgrades), keep in mind
that it spent $7 billion on its own network and had cash flow
of more than $8 billion in 1997 alone. Scraping up the capital
isn't a concern.
Next comes the technical question: Will the network be able to
support high-speed Internet access, enhanced video services,
and telephony, as promised? High-speed Internet is a
no-brainer-there are about 200,000 satisfied cable modem
customers. Enhanced video is also easy, although demand is
anybody's guess. Telephony is where the technical questions
get interesting.
The merger's impact on the much-hyped shift of voice services
from circuit- to packet-based networks is unclear. AT&T has
left both options open, and packet-based voice still has
latency and reliability problems. If AT&T builds a carrier-class
private Internet backbone on which it can control end-to-end
delay, the decision will be based on economics, customer
requirements, and access-charge arbitrage. AT&T will
probably go with circuit-switched voice initially and move to
voice over IP as warranted.
As for return on investment, an effective marketing strategy
targeting high-volume customers and high penetration of local
phone service are key. Degas Communications Group's
calculations-assuming reasonable customer acquisition costs,
low churn, and high-volume phone customers-place
break-even at around 10 percent local phone penetration; at
15 percent, returns will be relatively high. Take rates of
high-speed access and enhanced video services will not affect
return significantly. The merger clearly hinges on telephony.
Because of HFC power issues, AT&T may decide to go after
second lines initially. Out of 116 million residential access lines
in the United States, market researchers International Digital
Communications estimate that roughly 27 million, or 23
percent, were non-primary (second, third, etc., also known as
secondary) lines. As HFC power issues are resolved, AT&T
will also go after primary lines.
If ILECs try to hold onto at least some revenue by agreeing to
colocation, resale, and unbundling, AT&T can turn the tables
on them; it and other CLECs will reach customers via ILEC
plant. In every area in which an ILEC agrees to loop resale,
AT&T can buy discounted access to phone customers without
upgrading TCI's network.
The capabilities of HFC technology are real, and AT&T has
the capital to deploy it. The merger eliminates AT&T's
dependence on ILECs to get to residential customers in many
markets, a factor that could rain on Sprint's ION parade.
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