If you're wondering why your cable and satellite stocks are slumping or why AT&T Chief Executive Edward E. Whitacre Jr. is paying a fat premium for BellSouth Corp. (BLS), take a spin through Keller, Tex. Little more than scruffy prairie two decades ago, this booming suburb of 34,000 near Fort Worth and Dallas is the staging ground for what promises to be the next great media battle among providers of TV, broadband, and phone services. Up and down Keller's Coyote Court, Mesa Trail, and Indian Blanket Drive, phone giant Verizon Communications Inc. (VZ) is signing up slews of customers -- for a new TV service.
Keller is Big Telecom's first full-fledged assault on a local video market. And while Verizon's early gains look good, nobody is willing to declare just yet that its multibillion-dollar gambit to go up against the long-established cable and satellite guys is a winner. Quick approvals from city officials, along with an affluent population, made Keller an easy first target. But certainly this small laboratory isn't emblematic of the markets ahead, as Verizon prepares to make its service available to 15 million homes by the end of 2009.
What's going on in Keller is attracting attention, though. On Feb. 10, Federal Communications Commission Chairman Kevin J. Martin and his fellow commissioners traveled here to see the Verizon rollout firsthand and to hold a hearing on video competition. Keller has not disappointed on that front: Just three months after a September launch, Verizon had grabbed more than 20% of the local paid-TV business.
With subsequent debuts in New York, California, Virginia, Florida, and elsewhere in Texas, Verizon is now well on the way with grander plans to wire about 50% of its customer base over the next three years. "We've been setting targets and making them," says Marilyn O'Connell, Verizon senior vice-president for video services.
Verizon and other telecoms are counting on Internet and TV revenues to offset their steadily eroding income from local and long-distance calling. The new competition is putting great strain on the balance sheets of cable and telecom players, while consumers emerge as the big winners. Over the next five years they will likely see dramatic improvements in TV and Internet services and relief from ever-skyrocketing prices. Verizon is charging about $100 a month for a package of TV, Internet, and phone services in Keller, competitive with cable and satellite offerings in town.
Town residents are taking their role as video pioneers quite seriously. Like thousands of neighbors, Vernon Drewa, a retired manager for the Federal Aviation Administration, canceled his old provider, satellite service DirecTV, and signed up with Verizon. He likes the sharp quality on his five TVs -- and the lack of interruptions that plagued his satellite signal on stormy days. As a history buff who swaps research around the world, he is thrilled to download a 2,500-page document in less than 10 minutes instead of the hour it used to take with his old Verizon hookup. There's no turning back for Drewa. He recently ripped down the 12-foot satellite dish in his yard. "I took it to the lake house," he says. "I'm hoping it will work as a fish hatchery."
On a nearby street, local real estate agent Marc Clemons has become one of the most popular guys on the block. The neighborhood kids flock to Clemons' two-story house to play video games at superfast speeds on his fiber-optic-wired flat-screen TV. When he's not playing host, he and his wife watch their favorite shows and marvel at the rich picture. "All my neighbors have to do is see the clarity, and they've got to have it," says Clemons.
For all of Verizon's gains, though, it's too early to write off cable and satellite providers. Keller, 14 miles northeast of Fort Worth, won't be an easy model to replicate elsewhere in the country. Verizon chose an affluent venue with an existing cable provider that offered no phone service. Cattle still graze on a few remaining undeveloped tracts, but most of the farmland has turned into street after street of homes that average about $250,000. Attracted by a well-regarded school district and an easy commute to Dallas and Fort Worth, upwardly mobile families (93% of residents are under 60, with average household income near $100,000) are flocking to town.
It's a great place to do business, too. Highway 377, the main thoroughfare through Keller and adjacent bedroom communities, is a magnet for the usual cast of fast-food chains, banks, and retailers. When Verizon, the main phone company in Keller by virtue of the 2000 Bell Atlantic Co.-GTE Corp. merger, approached City Hall two years ago for permission to upgrade with fiber optics and later to get a TV franchise, there was little resistance. "Our initial response was, 'why not?"' recalls City Manager Lyle H. Dresher. Fiber optics could be a drawing card to attract tax-paying businesses to Keller. And if overall revenues for video services increase, the city gains from its 5% cut of whatever Verizon makes there.
It's surely no coincidence that Verizon picked a town where it could cinch a franchise agreement without long delays. Because most of Keller's infrastructure is new, fiber optics could easily be installed through modern underground conduits without tearing up local streets. What's more, Verizon was able to pit its sales effort against a weaker, local cable franchise, Charter Communications (CHTR), rather than one of the cable industry's bigger guns like Comcast (CMCSA) or Time Warner Cable (TWX). Charter contends competition is nothing new. In fact, the cable company appears to have preemptively lowered its fees for new service by as much as 50% before Verizon arrived. Charter denies that its promotion was related to Verizon's entry.
Still, persuading consumers to let a phone outfit provide television service is a huge challenge. Verizon decided that the usual mass-marketing effort would cost too much and be ineffective in such a tiny market. So Marketing Director Brian Angiolet devised a guerrilla campaign, staging events that included offering kids the chance to dabble with the fast Net speeds and crisp video. "We asked ourselves who would most appreciate downloading at up to 5 or 15 [megabits per second]," says Angiolet.
The huge capacity of fiber optics means Verizon can promise to keep adding bells and whistles. It already delivers about 400 channels, including more than 20 high-def outlets. And the company claims it will be able to add more local programming and foreign language packages.
The cable guys contend they can continue increasing speeds and capacity without paying for fiber-optic lines running to the home, largely because they have spent $100 billion since 1996 to upgrade their lines. They already have a big lead in broadband Internet and are taking sizable market share from the telecoms by selling customers bundles that include telephone services.
Just the same, Verizon is picking up momentum in Texas, where it has introduced fiber-optic TV in 15 other towns. The telecoms got a huge break last summer when Texas passed a law that establishes standard state-issued franchises. This makes it possible to enter new markets without negotiating franchises with each locale. Verizon will need other states to follow suit if it is to keep on its game plan.
Difficult politics and increasing costs are about to kick in as Verizon broadens its campaign -- not to mention its having to face down fierce counter-tactics by the cable giants. So Verizon executives may not want to extrapolate too much from the honeymoon in Keller.
By Mark Morrison