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JULY 29, 2002 NEWS ANALYSIS End of the Telecom Turmoil? WorldCom's climactic fall may signal an era's end. Unfortunately, the new era will be marked mostly by a dearth of competition
Today, with once-mighty WorldCom having filed for bankruptcy protection, its legacy of competition is seriously threatened. "If WorldCom disappears, that's going to be devastating," says Reed E. Hundt, former chairman of the Federal Communications Commission. NEW MONEY. However, WorldCom may be remembered more as marking the end, rather than the beginning, of the telecom implosion. Nearly 80% of the 300 telecom upstarts founded in the second half of the 1990s already have disappeared, says market researcher Probe Research. There's still hope for a handful, such as Time Warner Telecom (TWTC ) and Allegiance Telecom (ALGX ), that avoided taking on massive debt loads and carved out their own niches in the industry. Remarkably, some of these companies are managing to raise new money, perhaps more because of the implosion than in spite of it. On July 8, a group of investors led by Warren E. Buffett put $500 million into long-distance upstart Level 3 Communications (LVLT ). Three days later, Bank of America, GE Capital, and other investors put $22 million into Integra Telecom, a Portland (Ore.) company that provides service to small and midsize businesses in Western and Midwestern states. That's the good news: All told, such upstarts served just 9.9% of U.S. phone lines in 2001, according to the Association for Local Telecommunications Services. Alas, as the death rate of telecom small fry mounts, that number won't edge up more than 2% by 2003, according to New Paradigm Research -- far less than industry observers once thought. RESTRUCTURING DEBT. Life will be difficult for the remaining upstarts. Many carry huge debt burdens that they can't support, and most of those have found it nearly impossible to raise cash to keep operating. As a result, some may have to file for bankruptcy, turn equity over to their creditors, and then try to make a go of it. Analyst Glenn A. Waldorf of UBS Warburg thinks that every telecom upstart, except Time Warner Telecom, will have to restructure its debt, in most cases by going the Chapter 11 route. Royce Holland, Allegiance's chief executive, vows that his company won't go into bankruptcy, though. "We have enough liquidity to go cash-flow positive [unless] an asteroid hits," he says. Even so, in the wake of WorldCom's debacle, telecom's competitive landscape will be vastly changed. Overall, the level of competition will decline sharply, though it will thrive in some markets for some customers. Large and midsize businesses in major cities like New York and Chicago will benefit from being able to choose among a handful and as many as 20 options, since margins for corporate customers are juicier and it's less expensive to operate phone networks in urban areas. The prospects for competition in the residential and small-business markets will be hit or miss, however. And alternative service in the nation's small towns will be virtually nil. FRUGAL CHILD. Already, the future of telecom competition rests in the hands of a precious few. Time Warner Telecom, started in 1993 by Time Warner Cable, is now an independent company that provides voice and data services to businesses in 44 markets, including Tucson and Austin, Tex. Yes, Time Warner Telecom started life with a deep-pocketed corporate parent, but it spent its money wisely. It built its own telephone network instead of reselling the Bells' local service, which is what many upstarts did. "Being dependent on your biggest competitor for your business just doesn't make sense," says Larissa Herda, Time Warner Telecom's CEO. And it used a targeted approach, laying phone lines only after a large customer, say a hospital, had agreed to buy service. Allegiance also used a conservative approach in targeting corporate customers. CEO Holland carefully avoided taking on too much debt, which is why he says Allegiance now has enough cash to last through 2003. And when it seemed that sluggish revenue growth would put Allegiance in violation of its bank covenants, Holland solved the issue this year by buying three back-office telecom-equipment companies, boosting revenue by $60 million for 2002. The competitive telecoms are also improving customer service, one reason Allegiance is still signing up 500 new accounts a day at the expense of the Bells. BAD FOR LOCAL CALLING. What about the Internet? WorldCom's fall isn't likely to jeopardize competition for directing traffic over the Net. Its UUNET division, which handles half of the world's Net traffic, may end up in the hands of a big rival such as Verizon Communications. But given the glut of capacity in long-distance networks, competition for carrying Net traffic should remain vigorous. AT&T, Sprint Corp., and several others all compete in this market. The WorldCom scandal breaks at probably the worst time for the residential local-phone market. Competition in this sector is still in the very early stages. Rivals have snared only 5% of the Bells' residential customers, up from 2% in 1999, according to UBS Warburg. A year ago, startups, such as Z-Tel Communications, with about 200,000 customers, had high hopes of taking their services nationwide. Now, Z-Tel's fate is uncertain. The company, which leases lines to MCI/WorldCom, counts on revenue from the beleaguered carrier. Given that exposure, investors have bailed, causing the stock to sink from $2.69 in January to about $1.30. LOST GLORY. The reality is that for many consumers, WorldCom's local residential phone service offering, known as The Neighborhood, is the only alternative to the local Bell phone company. It's available in 32 states, unlike AT&T's plan, which is offered in about a half-dozen. Now, with WorldCom's growing financial problems, it's increasingly likely this offering could be shut down. Try as they might, none of the survivors are likely anytime soon to recapture the power and glory that WorldCom enjoyed on the way up. As its executives sit stone-faced before congressional investigators, America is witnessing more than just the demise of a powerful company. The country is entering an era when the expectations for competition will be a heck of a lot more modest than during WorldCom's heyday.  By Roger O. Crockett in Chicago Edited by Douglas Harbrecht Get BusinessWeek directly on your desktop with our RSS feeds.  Add BusinessWeek news to your Web site with our headline feed. Click to buy an e-print or reprint of a BusinessWeek or BusinessWeek Online story or video. To subscribe online to BusinessWeek magazine, please click here. Learn more, go to the BusinessWeekOnline home page  | | JULY |
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