Why the Bells Should Be Very Scared


By Alex Salkever When IBM talks, Corporate America listens. So Big Blue created quite a stir on Nov. 7 when a top exec told a tech conference in Atlanta that it hopes to move 80% of its 300,000 employees to voice-over-IP phone systems by 2008. VOIP routes voice calls over data circuits using Internet protocol technology, circumventing traditional -- and far more expensive -- phone networks.

The IBM (IBM) announcement wasn't a total surprise for technophiles. VOIP has caught fire over the past two years with corporate customers. According to telecom tracker Dell'Oro Group, in the first quarter of 2003, the number of VOIP lines shipped as Internet phone equipment topped 1 million worldwide for the first time. And one of the highlights of Cisco Systems' (CSCO) most recent quarterly earnings came from soaring sales of IP telephones used in VOIP.

Still, the IBM announcement signifies that the end may be far nearer than previously thought for the legacy copper-wire phone networks that have built fortunes for the Baby Bells such as Verizon (VZ) and SBC (SBC) as well as AT&T (T) and Sprint (FON). When the largest tech company on the planet announces it no longer needs the phone company to manage its calls, you can bet the communications landscape has fundamentally changed. The IBM move should have executives at big telcos hustling into emergency planning sessions on how to transform their future business models to put less emphasis on phone-line growth and more into new lines of business.

PEER-TO-PEER PRESSURE. It's not just the business landscape that's changing, either. When the telegraph gave way to the telephone, consumers gained far more control. Likewise, twisted copper is on the verge of giving way to the Internet -- and an era of unprecedented choice at very low costs.

All of this is driven by a simple fact: Both consumers and businesses have a choice as to how they get their data delivered. Many homes can choose from cable modems, DSL, or even relatively high-speed satellite connections. In many metropolitan areas, businesses can already pick from half-a-dozen data providers to connect them to the Internet.

Witness the latest creation from Niklas Zennstrom, the founder of wildly popular peer-to-peer file-sharing network KaZaA. In September, 2003, Zennstrom launched Skype, a free peer-to-peer telecom network. It allows any two Skype users anywhere in the world to speak to each other in real time over a broadband connection. Skype has a nifty interface that can tell users when they miss calls from other Skype users and a buddy list like instant messenger programs.

CLEARER THAN A BELL. Other companies have tried to turn a PC into a phone by offering free voice calls over the Internet. But Skype offers voice quality that many users say is even better than regular phone lines. Zennstrom has promised that basic Skype voice service will always be free, though he plans to charge for additional services. And already, nearly 2 million people have download Skype onto their PCs -- up to 100,000 users have successfully used the system at the same time, the company says.

Exchanging voice connections on a wide scale varies little from exchanging data files. Thus far, KaZaA has managed to keep its servers up and running, and it's doing so while handling enormous user loads with capital inflows that wouldn't amount to a rounding error for a Baby Bell. Clearly, Skype runs far cheaper than the Baby Bells or any other legacy telecom giant.

In point of fact, Skype is just the most trendy example of this capability. Instant messenger products from AOL (TWX), Yahoo! (YHOO), and MSN (MSFT) all have decent voice capabilities. Apple's (AAPL) iChat offers voice quality as good as many cell-phone networks. All these peer-to-peer voice systems offer an invaluable benefit. They follow anywhere subscribers log on to the Net, from Tokyo to Timbuktu.

FAR AND WIDE. That's a key benefit often cited by businesses using IP telephony. With traditional PBX phone systems, changing locations and moving around a lot causes big headaches. But with IP-based PBX systems, moving around and getting messages delivered anywhere is a piece of cake. Best of all, Web surfers pay nothing -- not a red cent -- to use these service. That's a tough price for the Baby Bells to match.

Of course, these systems can't tap into the phone network that still serves the vast majority of the population. But at outfits like IBM, the majority of whose voice communications are internal, outbound service, while still important, need not be the primary focus. Likewise, many consumers use their phones mainly to call close friends and family. That makes a Skype-style buddy list an easy way to circumvent the phone company.

At the same time, companies such as New Jersey-based Vonage have stepped in to build businesses connecting VOIP users to existing phone networks. Vonage and its cohorts charge flat monthly fees covering all-you-can-use local and domestic long-distance service. Vonage's charges significantly undercut current local phone tariffs. And a Minnesota judge dropped a bombshell on the telecom world recently, ruling that Vonage is a data-services company and not a traditional phone company, which puts it largely beyond state regulations. No surprise that Baby Bell Qwest Communcations (Q) announced on Nov. 5 that it was jumping into the consumer VOIP market in Minnesota.

JUNCTION BOX. This evolving battle is likely to get more interesting. On Nov. 7, a small New York City outfit, Stealth Communications, launched a program that could make it much easier for VOIP providers to circumvent the public phone networks. Stealth announced what will serve as an Internet exchange point for VOIP providers. Just as big ISPs connect to each others' big pipes in "telecom hotels" and data-exchange centers, Stealth aims to create a single point of contact so that VOIP providers can connect to each other.

That means if IBM wants to talk to, say, GE (GE) and both use corporate VOIP, then they could connect through Stealth without ever having to traverse the far more costly public phone network. Should the concept catch on, then the Internet's relatively cheap bandwidth could, in short order, obliterate the existing phone systems for big companies, with consumers not far behind as they sign up en masse for Skype-like VOIP service clones. The result would be dirt-cheap phone service with no distinction between local, domestic, or international calls (see BW Online, 2/4/03, "Here Comes the Real Fun for Telecom").

The big telcos are hardly standing still. Like Quest, most are jumping into VOIP services and trying to compete. They do have some leverage in that they control the DSL infrastructure that delivers about a third of the high-speed consumer Internet connections in the U.S.

FREE CHOICE. Further, VOIP has some technical hurdles to overcome. While copper-wire phone service works even in a power outage due to the electricity that phone companies pipe over their networks, VOIP connections would go dark under the same circumstances. Also, VOIP could undermine laws aimed at funding 911 services and guaranteeing phone connections to almost every U.S. household. That's why the Federal Communications Commission announced in early November that it will now examine regulatory issues surrounding VOIP.

I wouldn't count on any major regulatory relief for the old world of copper wire, however. Most likely, the FCC and Congress will oversee the transformation without interfering with the choices already made by Big Blue and millions of consumers. Let a thousand phone companies bloom on the Net. Salkever is Technology editor for BusinessWeek Online. Follow his Nothing But Net column every week on BusinessWeek Online


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