By Alex Salkever In the fast-growing field of broadband communications, the Baby Bells have long played second fiddle to the cable companies. Regional telecom giants, such as SBC (SBC), Verizon (VZ), and Qwest (Q), have consistently lagged behind the cable guys in subscriber numbers for lucrative high-speed broadband connections. So, the Bells have come out swinging in the past few months, with big price drops on digital subscribe line (DSL) service that undercut cable broadband by 25% or more.
On Dec. 8, however, the cable guys struck back with what could be a devastating blow when Time Warner (TWX) announced a deal with long-distance stalwarts Sprint (FON) and MCI to provide Internet-based phone service to its subscribers.
Should the arrangement prove fruitful, it could signal the death knell for the Baby Bells' longstanding hammerlock on the local-phone business - the segment that provides the vast majority of revenues and profits today. The deal also underscores that the long-distance providers once left for dead might still have some legs left, even if their core branded-long-distance business is imploding. Finally, Time Warner's move will mean an even tougher road ahead for upstart telecoms offering broadband and Internet telephony services to small businesses and home users.
NEW ACCESS. Believe it or not, the big winners in all this could be consumers. Even today, local cable and telecom monopolies control the lion's share of video and local-phone service in many big cities. In light of Time Warner crashing local telecom markets and promises by Baby Bells to upgrade connections for future delivery of video and TV signals, real competition in these two areas could be just around the corner for the first time.
For Sprint and MCI, the deal seems like a perfect match. Like other big telecom providers, these two built big fiber-optic networks and advanced telecom systems in the 1990s that could run anything from dumb data to consumer phone calls to sophisticated corporate Internet accounts. After the dot-com crash devastated the wildly optimistic assumptions upon which those networks were built, Sprint and MCI were left with under-used systems and boatloads of debt.
While hardly a panacea for those problems, the Time Warner deal gives these companies a chance to better utilize their networks while at the same time gaining direct access to retail customers, something they have long sought. (Both Sprint and MCI have local-phone businesses, but they're a relatively small part of their revenues).
REDRAWN BATTLEFIELD. For Time Warner, the second-largest cable provider in the U.S. with 11 million subscribers in 27 markets, the deal relieves it of the burden of managing, negotiating, and otherwise taking care of the complex world of big telecom. All Time Warner has to do is install the phones and basic software and switches, and hand off all calls to the long-distance pros.
The two teams split revenues along some equitable formula and the Baby Bells are left to duke it out with a cable giant in their backyards offering all-you-can-eat local and national telecom service for less than $40 per month. Should other cable companies decide to follow this model, the battlefield could soon be realigned with big cable companies and long-distance outfits - including, perhaps, AT&T (T) - fighting against Baby Bells.
The Bells aren't without ammo. Although DSL is a more complicated technology to manage than cable broadband, it also has significantly more room to run in terms of speed and capacity. Newer DSL technologies just rolling out in the U.S. can zip signals over phone wires two to three times faster than the top-level cable-modem systems today. A number of Baby Bells have also announced plans to offer Internet-based phone services that could compete favorably with Time Warner's efforts and be packaged with DSL service.
UPSTARTS IN DANGER. Yet the DSL providers still have a huge problem: Big cable companies such as Cox (COX) and Comcast (CMSCK) control key entertainment assets like long-term TV deals for sports teams. They also feature big cable networks such as HBO (Time Warner). If the cable companies can package phone and broadband and maintain their stranglehold on entertainment assets, the Bells could be outmaneuvered again.
The biggest losers in all of this will likely be upstarts, such as New Jersey-based Internet phone provider Vonage. These companies allow broadband subscribers either on DSL or cable modems to jack into an Internet phone network similar to the one Time Warner is planning.
Vonage has a rock-bottom price of $29 per month for all local and national calls. But it might have a hard time beating the big players if they decide to truly compete on price and flex their negotiating power to obtain cheaper fees for routing phone calls over data cables. Worse, if they own the cables -- as Sprint, MCI, and, to a lesser degree, Time Warner already do -- then Vonage will end up at a distinct disadvantage.
Convergence has been touted for so long that this deal, important as it is, feels a bit anticlimactic. But it could trigger an avalanche of overlapping arrangements between various providers of data and telecom services and kick up competition at the consumer level significantly. If everything the deal promises actually materializes, this could blow competition in the telecom world wide open. Salkever is Technology editor for BusinessWeek Online