WSJ Special Report Asian Investment Outlook: Telecom Tidal Wave Sweeps Asia
16:09, 2001-04-02
By H. ASHER BOLANDE
Staff Reporter of THE WALL STREET JOURNAL
Imagine the discovery of vast hidden oil reserves combined with technological breakthroughs to make possible -- or rather, imminent -- a 50-fold increase in global oil output. Experts would be frantic trying to figure out what happens to a world economy suddenly awash with oil. Such is the sort of question facing Asia's telecommunications industry right now. The region is about to be hit by a tidal wave of new international capacity, thanks to a deregulation-fueled boom in undersea cable construction and continual leaps in fiber-optic technology. Even by conservative estimates, the supply is set to multiply by 50 times over the next three years. It will turn upside down the economics of the traditional telecom business, where infrastructure linking Asian countries to each other and the rest of the world was until recently scarce and controlled by a handful of national telecom companies, assuring them comfortable margins from high-priced international calls and leased-line services. Few doubt that there will one day be a need for such big pipes; the question is what happens to telecom players during the short-term shock to the marketplace, when supply outstrips demand by more than 60 times, sending prices nose-diving? Many analysts say the establishment companies are the safest bets to survive the harsh transition -- not the upstarts that sparked this revolution. Most incumbent telcos have the size and business diversity to weather the impact of plummeting prices, they say, adding that those in less-competitive markets may even be able to profit by not passing on the savings to consumers.
By contrast, highly leveraged new entrants such as Level 3 Communications Ltd. and Asia Global Crossing Ltd., which focus exclusively on providing international capacity, are at risk if the market glut they helped to create devalues their sole revenue source indefinitely. What is making undersea capacity scale up so dramatically? At the heart of it are almost exponential increases in the power of fiber-optic transmission technology, which is roughly tripling its cost performance every two years. In other words, today's equipment can transmit three times more data over a given pair of fibers than the same-priced equipment in 1999. Data is the name of this fast-changing game. Technically, all the new international capacity is in Internet Protocol (IP) backbones, and these promise to be conduits for more than just Internet traffic. Because of what's known as digital convergence, IP data is on its way to becoming the basis of all communication, from plain old voice calls to audio and video. Asia's ongoing deregulation has given new international players a market opportunity in the form of the newly won right to land undersea cables and compete head-to-head with some countries' licensed telcos. Because traditional telcos' international cables were of older vintage, builders of new, state-of-the-art conduits could offer far greater capacity at lower cost, allowing them to seize market share. International capacity within Asia and spanning the Pacific has also been woefully scarce and expensive compared with elsewhere in the world: Unit prices on the Japan-U.S. route remain around nine times higher than between New York and London.
When capital markets were still willing to fund such ventures, several independent IP backbone players jumped into the fray, including not just Asia Global Crossing and Level 3, but 360Networks Inc. and Flag Pacific Ltd. Their philosophy is that the availability of capacity -- lower-priced capacity, in particular -- can create demand on its own. Steve Liddell, Level 3's chief executive for Asia, says demand for telecommunications capacity has historically been highly price-elastic, meaning for every 10% prices go down, usage goes up by 25%. Independent commentators don't disagree. "Current demand doesn't justify the capacity, but so what?" says Carlos Perry, a senior London-based analyst with research firm Yankee Group. The cheaper capacity will open the door to a host of new ways to use bandwidth, he predicts, with a wave toward megabyte-hogging interactive multimedia applications, expected to become more common with widespread adoption of broadband Internet and 3G (third-generation) mobile data services. What's missing from the rosy elasticity argument is that it takes time for the rubber band to snap back. The new "killer applications" to use bandwidth haven't been discovered yet, and might take years to strongly affect demand. In the meantime, heavy-duty international backbones started entering service late last year, and prices are already heading down. Write to H. Asher Bolande at hyam.bolande@awsj.com By H. ASHER BOLANDE
Staff Reporter of THE WALL STREET JOURNAL
Will independent operators be able to squeeze cash out of their abundant capacity before it devalues? At present, competition looks too intense for them to avoid passing on the savings to consumers. In addition to each other, these companies are up against initiatives by telcos working in consortia, such as the Singapore Telecommunications Ltd.-led C2C Pte Ltd. and the trans-Pacific Southern Cross Cable Network Ltd. While Telstra Corp. of Australia and Hong Kong's Pacific Century CyberWorks Ltd. recently pooled their international cable assets to form the spin-off joint venture Reach Ltd., that company largely inherits cables that are low-capacity by current standards and too outdated to be upgraded much. ING Barings research values the new venture at just $2 billion, compared with the $10 billion originally asserted by its owners, and investors are unlikely to fund any expansion in the near future.
Overall, prices will decline 50% annually for at least the next five years, according to JP Morgan Chase. Researchers at Gartner Group Inc. project supply will still exceed demand by 60 times at the end of 2004. But worse still for the owners of capacity is the possibility that the price for the product just never comes back. Even assuming demand surges a few years down the road, continuing upgrades in optical technology could keep supply growing quickly even without significant new construction. Southern Cross, for example, has already announced it's investigating using new technology to quadruple the capacity of its giant existing undersea cable -- at a fraction of the cost of the original investment. Peter Lovelock, a telecoms consultant with marketing company madeforchina.com (www.madeforchina.com)1, says financing backbone companies such as Level 3 to the tune of several billion dollars is ""a leap of faith,"" because it isn't capacity that will be scarce or valuable in the future, but applications' utility. Not all analysts are ready to go that far, but it's fair to say that uncertainty hangs over the future of such players, even Asia Global Crossing, which is entering the market with a big network, global connections and an early lead on its rivals. ""Of all the sectors of telecom, this is the hardest to analyze,"" laments Jake Lynch, a regional analyst with JP Morgan. Most view incumbent telecom companies as a safer bet, because in most cases they have the financial stability to ride through a rough transition and change their game. Mr. Lynch is especially bullish on telcos in less competitive markets such as China, where operators won't be under as much obligation to keep their prices in line with the international market. Only China Telecom and China Unicom Ltd. have international gateways into the country, so with few domestic rivals and no competition from independent foreign operators, the two companies ""should be able to maintain supernormal profit margins on international bandwidth services,"" JP Morgan said in a recent report. SingTel and Hong Kong's PCCW are somewhat vulnerable because they derive a relatively high percentage of earnings from long distance. But Yankee Group's Mr. Perry says long-distance prices have already been in decline. And, the telcos' local-network connections to residential and business customers will remain a valuable asset for some time. He predicts the smaller independent backbone companies will simply end up as acquisitions by incumbent telcos. The big boys don't have an easy ride ahead, though. Having done little but put a price on voice connections in the past, they will have to re-invent themselves as more customer-centric service companies, he says. With competition in most cases dropping prices and telecom companies re-engineering themselves to cater better to the customer, ""the end result of this is the consumer wins big time,"" says Mr. Perry. Write to H. Asher Bolande at hyam.bolande@awsj.com
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