Copyright 1999 Federal News Service, Inc.
Federal News Service
JULY 14, 1999, WEDNESDAY
SECTION: IN THE NEWS
LENGTH:
2256 words
HEADLINE: PREPARED TESTIMONY OF
KEVIN M.
MOORE
DIRECTOR
DEUTSCHE BANC ALEX. BROWN
BEFORE THE
SENATE JUDICIARY COMMITTEE
ANTITRUST, BUSINESS RIGHTS AND
COMPETITION SUBCOMMITTEE
SUBJECT - BROADBAND: COMPETITION AND CONSUMER
CHOICE
IN HIGH-SPEED INTERNET SERVICES AND TECHNOLOGIES
BODY:
Mr. Chairman and Committee members,
thank you for the honor of testifying before your Committee hearing on
"Broadband: Competition and Consumer Choice in High-Speed Internet Services and
Technologies".
I am Kevin Moore, a senior telecommunications analyst and
Director at Deutsche Banc Alex. Brown. Deutsche Banc Alex. Brown is an
investment banking firm focused on middle market companies in industries
experiencing high levels of growth and/or change. I believe that we would all
agree that the telecommunications industry fits this category. However, the
views expressed here are mine alone. My primary job is to forecast the growth
and earnings and stock performance of selected companies within the telecom
industry. While my coverage list includes the largest companies, such as the
Regional Bell holding companies (RBOCs), AT&T ($57.125 per share as of
7/13/99) and WorldCom ($90.3125 per share as of 7/13/99), it also includes
Internet Service Providers, Web Hosting, Digital Subscriber Line
(DSL) and other Internet infrastructure companies. In addition,
I assist our investment bankers in raising capital for emerging growth companies
and have personally been involved in over $4 Bn in financing over the last four
years including capital raised for the first public ISP (NetCom Online
Communications) and the first public DSL Service Provider
(COVAD Communications ($56 per share as of 7/13/99)). In terms of our current
industry position, we are bullish on AT&T, WorldCom and all of the Internet
Infrastructure plays. We are generally bearish on the RBOCs with the exception
of BellSouth ($44.8125 per share as of 7/13/99), which we recommend with a buy
rating.
For the record, I would also like to advise the committee that other
companies that are important in the current debate such as AOL, @Home and the
Cable Industry are covered by my colleagues Shaun Andrikopoulos, Lawrence Marcus
and Doug Shapiro. Additionally, I co- cover AT&T with Stuart Conrad. None of
these colleagues are present here today.
I would like to begin with some
brief comments and leave maximum time for questions and answers. We believe that
ultimately the issues faced by the committee are ones of public policy, however
we would like to submit 10 industry observations from the perspective of "Wall
Street" which we hope will be helpful framing the issues and the potential
solutions.
1. We believe that the Internet and Telecommunications Are No
Longer Separate Industries We believe that the acquisition of the largest ISP,
UUNET, by the CLEC UUNET in 1996 was a landmark event in the industry that
marked the beginning of the convergence of the Internet and Traditional
Telephony, which we believe ultimately as brought us to the current debate. We
outlined our beliefs about the new world order in a theme piece called "Dawn of
the Multimedia Communications Services Model." Copies of this piece have been
provided for the Committee. Three years later, industry pundits believe that as
much as 95% of the traffic on the World's communications networks will be
Internet traffic within 10 years. The bottom line is that 95% of the world's
legislation/regulation is currently oriented to what will be 5% of the world's
traffic. Therefore we expect the issues of broadband, data and the Internet to
dominate the regulatory debate, with voice increasingly taking a back seat.
While we are not recommending increased regulation of the Internet, we
believe that consumer interests will be better served by more focus on the
Internet. The last several years of debate and litigation around reciprocal
compensation for ISPs illustrates the amount of energy and resources that can be
wasted when regulatory policies do not consider the Internet.
2. Viable
Local Broadband is one of the Most Important Issues In
Communications/Computing/Media We believe that the impact of the current debate
extends well beyond the telecommunications industry. The "bottleneck" in the
local loop could be negatively impacting the future growth of the computer as
well as the media industry. As we saw the proliferation of PCs with the advent
of the corporate LAN, or local area network, we believe that broad proliferation
of broadband local could set off a new round of software and hardware growth in
the computer industry as vendors take advantage of the possibilities enabled by
"always on" connectivity. From the consumer standpoint, we expect the high speed
Internet to extend beyond the current perceived role as "entertainment" to a
critical delivery mechanism of everything from government and public services to
medical and education services. The possible implication is that given the
importance of ensuring that deployment of broadband takes place, regulators may
have to avoid policies which seemingly are "technically" procompetitive but
which would stifle investment and make dampen overall growth in the industry. We
believe that current investor sentiment (rightly or wrongly) is that highly
regulated open cable access would dampen investment in cable as broadband
alternative.
3. We're Not Expecting Significant Innovation from the RBOCs We
believe that there is little historical precedence to support a thesis of RBOCs
innovation. At best they will be fast followers and at worst they could actively
inhibit the deployment of new technology. From MCI to WorldCom and cable modems,
history has shown that the most significant innovations in telecommunications
have come from outside the Bell System. However, the record of RBOC innovation
is scattered with no action and grossly failed attempts such as ISDN and the
"Full Service Network." We believe that it is the success of the cable modem
that is causing the current wave of RBOC investment in DSL
services.
We believe that legislators/regulators should take this history
into account as they weight polices that may stifle small company investment
because the policy may be perceived favorable to the RBOCs. We believe that the
primary reason for lack of innovation is that ultimately, every new innovation
either creates opportunities for RBOC competitors and/or cannibalizes existing
services, neither of which is good for the RBOCs.
4. We believe AT&T is
Incentivised to open the Cable Plant to the ISPs and Others We believe that
AT&T will, as it has stated, open up its cable plant to other players. The
incentives for it to do so are rather clear. First, companies such as AOL and
others will be a major customer of some local company. We believe that AT&T
would rather have the online providers utilizing its facilities instead of
someone else's. Second, while counter to traditional RBOC and even traditional
AT&T thinking, a company wholesaling its network to increase network
utilization is a very financially viable strategy. It has often been
successfully utilized by emerging players such as WorldCom. While we doubt that
either the RBOC or AT&T will ever wholesale their respective networks to the
full satisfaction of third parties (or each other), we do believe that, as they
offer more advanced (and financially risky) services, both parties will be
increasingly incentivised to be more wholesale friendly.
5. Wall Street
Favors Business Orientated Communications Services Models With a few exceptions,
Wall Street has tended to favor business-oriented business models both in
traditional telecommunications as well as the Internet.
Only monopoly (e.g.,
cable TV), and semimonopoly (e.g., @Home) situations, have been attractive
enough to attract widespread investment.
Key detractors from residential
investment appear to be the greater propensity for price-based competition and
the lower concentrations of revenues. As a result, with the exception of
AT&T/Cable Companies and the RBOCs, both of which have existing consumer
franchises and facilities, we do not currently see significant investment in
residential broadband facilities. Consequently, we expect these two players
provide the greatest prospects for broadband to the home.
6. Wall Street
Favors Small Company Innovativeness Wall Street is more willing to provide
capital for smaller companies to innovate than it is for larger companies. This
partially contributes to why larger companies are less likely to innovate. Not
only do their efforts often go unrewarded, they are sometimes punished as the
dilative impacts of their investments negatively affect the bottom line. This
suggests that "Wall Street" may be slowing the efforts of both the RBOCs and
AT&T/cable companies in bring broadband to the home. However, the "Street"
continues to be interested in funding new upstarts who will eliminate
bottlenecks in the existing communications infrastructure. This year investors
have answered the call to open the "local bottleneck" by eagerly funding three
new DSL providers: COVAD, Rhythms ($68.28125 per share as of
7/13/99) and NorthPoint ($40.50 per share as of 7/13/99). Although these
companies focus mostly on business customers, they provide services to
residential users through telecommuting applications and are exploring general
consumer offerings. While they may not have the critical mass of the RBOCs and
AT&T, "Wall Street's" willingness to actively fund their innovations makes
them vitally important to moving the broadband "ball" ahead even when the bigger
players would tend to be more cautious.
7. "Wall Street" Friendly
Legislation/Regulation Will Promote Investment The number one criteria that the
"Street" is interested in from legislation/regulation is stability and
certainty. Investors were particularly disillusioned by the uncertainty caused
by the ease with which the Telecom bill of 1996 was easily derailed by RBOC
lawsuits less than a year after it was passed. We believe that this regulatory
uncertainty contributed significantly to the substantial decline in CLEC stock
prices in the spring of 1997. While there were other contributing factors, we
believe that this ultimately resulted in the premature end of CLEC funding and
therefore a reduction in amount of facilities-based competition. The key
takeaway here is that maximum "Wall Street" investment will occur in
environments where regulation is stable for at least three to five years. 8.
Telecom Bill Has Helped Accelerate Broadband Competition While it is easy to
look at the limited levels of competition in the local loop three years after
the 1996 telecom act, we would argue that the glass is half full and not half
empty. Particularly as it relates to the deployment of local broadband the
results have been encouraging. While the traditional CLECs are expected to still
have less than 5% access line market share in 1999, we expect the independent
DSL lines to have at least 15% market share of the estimated
700,000 - 800,000 DSL lines that will be services. The
implications are that the Act may being doing much better in facilitating
data/broadband competition, which as we have mentioned is the most important
area going forward, than it has for the voice services that it was nominally
designed for. We view this as a success and believe that the key to bringing
competition to telecommunications will be with ensuring that the next generation
services are competitive.
9. RBOCs Have Insufficient Incentive to Open the
Local Loop We believe that the RBOCs actions since the Telecom act was passed
demonstrate that there was little "true" incentive to force them to quickly open
the local loop to competitors. However, we believe that their actions were
rational.
First, opening up the local market is expensive in terms of the
direct cost of systems alone. Second, the RBOCs already have access to the most
profitable portion of long distance, access charges. Third, the incremental
prospect of lost customers due to not having long distance is, in our opinion
still small.
In this environment, long distance is nice to have and should
be pursued over the long term but not of urgent importance. Consequently, while
the competitive environment somewhat changes this outlook, we doubt that any
legislative/regulatory strategy based solely on motivating the RBOCs through the
long distance industry will yield fast enough results to meet incredible demand
for broadband services.
10. RBOCs Must Ultimately be able to Provide
Services for There to be Widespread Rollout Despite our less optimistic outlook
on the ability for the RBOCs to lead innovation, we do believe that they are a
key element to the widespread deployment of any new technology including
broadband. The reason is simple: they have greatest amount of telecommunications
manpower and resources. In fact, we believe that for the foreseeable future they
will be the largest providers of both voice and data communications services. As
a result it is important to ensure that the RBOCs are participants. However, we
do not believe that RBOCs are materially disadvantaged by the current regulatory
structure or that any unfair advantage of the cable companies has led to the
substantial lead that cable modems has over RBOC DSL
deployment. So, in our opinion, to maximize the consumer broadband, the
challenge for legislators and regulators is to create a stable regulatory
environment that will spur innovation and investment by competitors to the size
where the RBOCs no longer have the option to lag behind. In our opinion, with
less than 1% of households and/or businesses expected to have broadband access
by the end of the year, those competitors have not yet achieved that critical
size.
END
LOAD-DATE: August 25, 1999
