Online Extra: A Talk with Telecom's Walking Wounded

Top officials from SBC, BellSouth, Sprint, Z-Tel, Verisign, and Boingo discuss the industry's woes and potential

They call them "rips." In the teetering telecom industry, companies are repeatedly going through wrenching reorganizations -- the sort of "rightsizing" that involves ripping thousands of jobs from corporate payrolls in a desperate attempt to reduce costs. Over the past year and a half -- as revenues slump like the Dow on bad news from the Fed -- SBC and Sprint have ripped away. So have BellSouth, Lucent, Nortel, and nearly every telecom in the land. Whether carrier or equipment maker, these companies have axed workers, sliced budgets, and cast off full business units amid a depression that has sucked $2 trillion in U.S. market value from the industry.

What's wrong? And how can telecom recover? As part of its Special Report in the Oct. 7 issue, BusinessWeek telecom correspondent Roger O. Crockett talked to several top execs to get some answers: SBC Chief Technology Officer Ross K. Ireland, BellSouth CEO Duane Ackerman, Sprint Engineering Vice-President Robert M. Azzi, Z-Tel CEO D. Gregory Smith, Verisign Senior Vice-President for Product Management David J. Nicol and Vice-President for Business Development Kenneth B. Hallman, and Boingo CEO Sky Dayton. Here are edited excerpts of the interviews, conducted in a virtual roundtable format:

Q: Spending on equipment is expected to be down more than 40% this year, and down again next year. When will that trend reverse itself?

Azzi: I don't think that you'll see anything dramatic because we have enough capacity built into the network where we can take on customers with very little increase in capital expenditures. It won't be until mid-2004 that Sprint will really start spending to add more capacity. And you won't see a return to the levels of 2000 and 2001. You'll see a more gradual increase. And that's assuming that business customers see growth in their own business and the economy stays healthy.

Q: How much service are customers buying these days?

Ireland: I've seen an enormous amount of churn in my network. Businesses are redesigning their networks to be more efficient. They might disconnect [several data lines] and aggregate them into [one]. That just churns the crap out of my network. It causes a lot of work to disconnect two and add one. I don't see anything on horizon that says the economy is changing in any way.

Smith: Overall revenues haven't grown in the industry as much as people would have thought. It's easy to say we overbuilt or that we're victims of stock market exuberance. But you have to look at the demand side -- demand from consumers and businesses. Businesses aren't buying a lot of videoconferencing service. It's just not that much more compelling than a conference call. And consumers don't want to add one more $40 bill [for broadband Net service] on top of the pile they already have.

Azzi: At Sprint we had a number of customers that ordered very high bandwidth pipes, and those [wholesale telecom carriers] have gone away because they were a reseller. Some of the [Internet] bubble that we see going away are the upstart [telecoms] that got into the business because of the Internet.

In the second quarter, total voice volumes were flat compared to first quarter and increased 11% compared to the second quarter of 2001. Consumer minutes are on the decline, but due to a growing trend of wireless and e-mail substitution, Sprint has seen increases in other voice segments. For enterprise data services, revenues decreased 4% year-over-year.

Ackerman: Bell South has lost 14% of its business to wireless phones, pagers and e-mail.

Ireland: SBC is seeing single-digit growth in data traffic and flat to moderate declines in local-access lines. We are losing a fair amount of access lines because of [wholesale discounts to competitors].

Q: In what areas are you doing any investment?

Azzi: In 2003, the spending will be mainly in the metro areas. Reduced access costs to [the lines of local Bells such as SBC] is the biggest driver of that.

Ackerman: The 1996 Telecom Act, as interpreted by the Federal Communications Commission, is forcing the Bells to resell our network to competitors at deep discounts that are unsustainable. Its deflationary. No one can afford to build and service their networks at these rates today.

Ireland: Selling lines at below cost is an enormous disincentive to invest. If large numbers of those lines move [to competitors], the money that we have to invest is now gone -- it has moved to someone else. That's ugly. And the guy buying is buying below cost, so he sure as hell doesn't want to invest in any assets.

Ackerman: [The regulation that allows this] is funny business.

Q: How have you altered your business model in these tough times?

Ireland: SBC no longer builds out its network on a forecast. Before the downturn it didn't matter if you guessed wrong because you'd grow into it. So now SBC adds capacity using a just-in-time approach. Eighteen months ago we built fiber-optic terminals [for a network] in a four- to six-month construction window. Now, we take an order first and then build in 40 days.

It was clear that if we continued under the forecast strategy, then we would strand larger quantities of equipment. The growth rates would not take care of any errors in our forecast. [The new strategy] is a far more efficient way to run business in good times.

Q: With things so languid are will any exciting technologies be rolled out in the future?

Ireland: Passive optics is enormously exciting. [It allows carriers to take fiber affordably to the doorstep of a new home or business development for new builds and multidwelling developments. SBC is using this technology in a 600-home development in Mission Bay, Calif.] The optical signal is converted to electrical inside the home. You can serve 32 homes from one strand of fiber.

But it's the only development that SBC will build until we know how it will be regulated. If regulators impose all the old rules on this new optical technology, the cost structure of this will never work for the foreseeable future.

Dayton: Wi-Fi [speedy wireless laptop service accessible in workplaces and public places such as airports] is another way of expanding the pie of total wireless usage and total revenue per user. No technology can compete with Wi-Fi on a price-per-bit basis in a concentrated area. The Wi-Fi components [chips, PC cards, antennas] are dropping in price. Cards have gone from $700 24 months ago to $50.

Plus, it's free spectrum. In the Wi-Fi world it costs $1,000 to do what it costs a million dollars to do in the cellular world. That produces a seductive equation for entrepreneurs to go out and deploy this stuff. At a time when capital expenditures are so dear, cellular carriers can team up with grass-roots entrepreneurs [launching Wi-Fi networks] to create a process where a lot of people are helping fund the build-out. So it could impact a carrier's overall profitability.

Q: So why are the cellular carriers so slow to integrate Wi-Fi into their networks?

Dayton: Why did Pacific Bell and BellSouth let little scrawny ISPs scrape out a chunk of business and disrupt customer relationships? New technology brings a learning curve that favors startups. Why don't they see Wi-Fi as unquestionable? I don't know. But when carriers run numbers and see the Wi-Fi equation, they're starting to ask, "How can they do Wi-Fi in a concentrated area and offer [fast cellular data service] for customers who are in the car?"

We're working with a lot of different folks. We're trying to enable an industry here. There's a lot of fat cats around the table saying, "How do we make this happen?"

Nicol: A new Verisign product allows short data messaging to [travel] between wireless carriers. Cingular and Sprint have chosen us to provide the service. There's no reason why they can't do that themselves, but we were focused on it. They've got a list of 20 items, and maybe this was number 12, and they say, "Right now we can only handle 10." It gets them to market faster and relieves some key resources.

Q: Why would an Internet security company like Verisign get into such a depressed industry as telecom?

Hallman: We're going through an inflection point in the marketplace. As a neutral third party, we're a natural bridge as the market moves toward a converged environment. Verisign sets up an environment to bridge service providers as they move into the new world. For example, Verisign now has a database that manages some 7 billion searches for [Internet] domain names, but it can also handle searches and connections of [telephone] names, such as when a caller wants to lookup an 800 number for a business.

The bridge between the Net and telecom worlds comes in when two different business customers want to dial a [regular telephone] 800 number using an [Internet] phone. Verisign routes the call over either IP [Internet protocol] or circuit-switching networks. Different types of service providers can access the database no matter what protocol they use. This convergence of the IP and telephony worlds allows new services.

Q: What needs to happen for the telecom depression to end?

Azzi: We need to see sustained growth in the data services that the industry provides. Businesses have to continue consuming these services. We see growth, but we need to see that continue. We also need to continue to see some degree of shakeout, and we're starting to see that with WorldCom and some of the others.

The industry built to an expectation, and that was fueled by the buzz of the Internet. The industry went after expectations, and when that expectation didn't materialize, we were faced with the overcapacity that we have now.

Smith: You've got a mess right now. But it will get fixed because companies will have to go back to rational business plans. The telecom dream might be a little less than it used to be, but the reality is that it can still be a good business. That's the sobering up that everybody has to do. Are we going to see a lightening bolt and fill up all the fiber on network? No, it's going to be gradual. It's going to be two-plus years.

Q: What can the telecom world borrow from Internet businesses?

Nicol: The need to get focused on their markets and really drive to what that customer requires. They can get more segmented in their markets. It's not enough to say we've got business and residential customers. For example, Sprint teamed with Virgin to target young cellular users in a unique way. Sprint knew it couldn't effectively reach youth, so it gave that marketing job to Virgin.

Unless other carriers do the same, they'll see their customers taken away. I call it disintermediation. It used to be that telephone companies did everything [built the phones and sold the service]. Eventually those pieces split apart. And I think we will see more of that. They can outsource really important stuff.

Hallman: In this environment you can't stay stuck in the past. You have to plan for the future. Any company that is too far in the past and not reacting to changes is going to get hurt. But you can't get too far out front thinking that there's going to be a revolution. Telecom tends to move relatively slowly. It tends not to be a complete sea change. It's about managing a perfect storm.

BusinessWeek Atlanta Correspondent Charles Haddad contributed to this report

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