RBOCs Should Stop Whining, Says Report

The regional Bells should stop moaning about the low prices they’re allowed to charge competitors for the use of local access lines, according to a new report from Network Conceptions LLC. Pricing is not the problem: It’s their lack of competitive ability that is dragging them down.

The analysis firm won’t be publishing its extensive report on the topic, titled “Access to the Network: Catalyst for Massive Change in Local Telecom,” for another couple of weeks. A preview of the report, however, states that the regulations that require the RBOCs to allow competitors to access their networks under the unbundled network elements platform (UNE-P) are functioning as a competitive catalyst for the telecom industry. The RBOCs have the choice, it says, to reinvent themselves as fully integrated, competitive service providers, or to suffer the same fate as the long-distance carriers.

There is no doubt that the regional Bell operating companies (RBOCs) have seen large chunks of their customer base fall into the arms of competitors that gained access to their networks with the 1996 Telecommunications Act. According to the report preview, they have lost hundreds of thousands of high-margin retail customers to competitive local exchange carriers (CLECs) in the second quarter of this year alone. In addition, the long-distance providers, hard-hit in their own markets, have also suddenly taken a keen interest in UNE-P.

But while the report contends that the RBOCs are facing increasing competitive pressure, which, after all, was the goal of the 1996 Act, it attempts to discredit their claims that UNE-P pricing is so low that they actually lose money in many states.

“The competition is what’s causing them problems,” says Network Conceptions analyst and co-author of the report Phil Jacobson. “They’re losing a lot of lines and have problems with fixed prices. Even if it weren’t for UNE-P, they would have the same competitive problems… just over longer time.” He points out that both cable and wireless are already encroaching on the traditional RBOC market without having to lease elements of their networks.

The RBOCs agreed to open their networks to the competition in exchange for being allowed to apply for entry into the long-distance market. Now that that market has shriveled up like a grape left out in the afternoon sun, they don’t like having to compete for the local markets they once took for granted. Following recent court decisions upholding the Federal Communications Commission (FCC)’s right to continue regulating UNE-P prices, the Bells have beefed up their lobbying efforts to have the prices raised and to reduce the number of network elements included in UNE-P (see Courts Coming Through for CLECs and Supremes Rule for Competitive Carriers).

The Network Conceptions report preview not only chastises the RBOCs for their lack of competitive spirit, it also criticizes another report that supports their unfair pricing claim: a UBS Warburg report on UNE-P pricing published last month. Analyst and author of that report, John Hodulik, downgraded BellSouth Corp. (NYSE: BLS), SBC Communications Inc., and Verizon Communications Inc. (NYSE: VZ) from Buy to Hold, due to his findings that "the economics of UNE-P will put additional pressure on Bell margins and earnings." He claims that in 18 states, the Bells’ continued operational costs for the lost lines outweigh the price they've been paid for them. Hodulik had not returned calls requesting comment by press time.

While Jacobson and co-author of the Network Conceptions report Farooq Hussain say the UBS Warburg study is accurate in its views of revenue impacts of UNE-P, they insist that it is misleading when it comes to the costs the RBOCs are burdened with. UBS Warburg, they say, assumes that the Bells' profit margins are much lower for wholesale UNE-P lines than for retail lines sold directly to consumers, because at least 80 percent of operational costs remain in place when a retail access line becomes a UNE-P line. Since operating expenses are almost entirely related to headcount, maintaining local access facilities, etc., it is true that the Bells’ costs pretty much stay the same when they lose a line to UNE-P, they say, but it is also irrelevant.

This is because UNE-P pricing is based on the total element long-run incremental cost (TELRIC) of the line. TELRIC is a set of national rules for UNE price-setting established by the industry, including the RBOCs, in conjunction with the FCC. Because of things like population size and density, network configurations, levels of capital invested in the network and the type of technologies used in the network, etc., the wholesale pricing model varies from state to state. The price of an urban loop can vary from $2.59 in Illinois to $23.10 in Montana, according to the report. But in every state the pricing is based on the same methodology of calculating the incremental cost of providing the unbundled elements plus a reasonable rate of return.

“Of course they’re losing money,” Jacobson says. They’re losing money because they’re losing the line. When you lose a line, you’ve lost that line… But UNE-P actually allows them to generate some revenues [on the lines they’ve lost]. The cost structure is set so that they’re supposed to be able to make money on wholesale, but there’s no guarantee.”

The RBOCs are losing money not because of unfair pricing, but because they haven’t optimized their own cost structures and networks in order to make wholesale profitable, Jacobson says. In addition, he says, they’re not seizing the opportunity to participate in the benefits of UNE-P.

“RBOCs are geographically tied to their own territory, and that’s holding them back,” Jacobson says, pointing out that Verizon could make a lot of money if it went to California where there are good UNE-P rates, but that the company’s afraid that SBC would come and challenge its dominance on the East Coast in return. However, he says, the Bells, probably with either Qwest Communications International Inc. (NYSE: Q) or BellSouth leading the way, will soon have to get into the true competitive spirit of things and take their chances competing on each other’s home turfs through UNE-P. “What’s holding them back now is an unwillingness to compete in each other’s territories,” he says.

— Eugénie Larson, Reporter, Light Reading
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