Competitive DSL Industry Struggling Despite Demand

April 22, 2001, 01:30 PM

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By Matthew Fordahl, AP

SAN JOSE, Calif. -- Not long ago, the prophets of our digital future were touting DSL as one of the hottest tickets to a broadband revolution that would utterly transform telecommunications.

Homes and businesses would have hassle-free, always-on, affordable and speedy Internet access. And DSL was not just for Web surfing: Interactive television, telephones and kitchen appliances -- all connected -- were supposedly just around the corner.

Digital Subscriber Line technology, which runs over regular copper phone wire, was also supposed to be a powerful vehicle for ending regional telephone companies' domination over local service.

But for independent DSL providers, the reality has fallen far short of the promise. Wall Street lost confidence. Plans to create nationwide networks were scaled back. Many independents are going broke.

Emerging dominant now in the DSL market are the century-old phone companies against whom complaints had piled up for shoddy service and long installation waits.

The independents accuse the regional Bells of anticompetitive behavior, of locking them out of the neighborhood switching offices that link phone lines, the telephone network and the Internet -- of violating the spirit of the 1996 Telecommunications Act, which promised more choice and better service.

"We're on the precipice of disaster, and it's not clear our industry is going to survive," says John Windhausen, president of the Association for Local Telecommunications Services, a trade group for competitive carriers that offer voice and data lines including DSL.

Victims in the DSL drama include bankrupt NorthPoint Communications, which last month sold most of its assets -- but not its customers -- to AT&T for $135 million; Rhythms NetConnections, whose chief executive quit and whose auditors question its viability; Covad Communications, which laid off 800 people and scaled back.

Now, tens of thousands of customers are scrambling for alternative providers or returning to slow dial-up modems.

"It's really tough for me to be giving this up," says John Margarone, a Buffalo, N.Y., computer consultant about to lose his DSL at his home where he invested $10,000 in equipment. "This aspect of my business is dead right now."

The crisis of the upstart DSL providers would seem paradoxical. Demand has never been stronger -- and the major phone companies are now reporting fewer installation troubles.

Last year, U.S. subscribers of DSL shot up by 500,000 to 2.4 million, according to TeleChoice, a research firm. That number is expected to swell to 5.7 million this year but still fall behind the numbers posted by the cable companies' competing services.

Most new DSL business is expected to fall to regional Bell companies including Verizon, SBC Communications, Qwest Communications and BellSouth, which claim 76 percent of all subscribers.

For residential customers, cable or DSL service costs as little as $39.95 a month. That price is difficult for independents to match after they pay the phone company to use its lines.

Under the Telecommunications Act, leased-line charges are negotiated under a formula set by the Federal Communications Commission. If no deal can be reached, state regulators step in.

In the end, charges vary widely -- but the independents say the regional Bells game the system to their advantage. The phone companies say fees should be higher.

Monthly leases for single lines that share both voice and data can cost independent providers as much as $15. New lines cost them as much as $30 each. Plus, the phone companies charge for leasing space, line testing, security and air conditioning.

"It turns out it was a faulty business model," said Michael Goodman, a Yankee Group analyst. "Was it someone else's fault that they built their business model at a competitive disadvantage?"

The DSL buildup began in earnest in 1999, as the stock markets boomed and plentiful venture capital emboldened DSL companies to embark on nationwide rollouts. Internet Service Providers, which worked with pure DSL providers as retail partners, also spent furiously in a quest to grow.

"They were giving away close to a thousand dollars to acquire that customer," said Joe Plotkin of the U.S. ISP Alliance.

Last year, the cash spigot closed as Wall Street stopped prizing growth over profits. ISPs stopped paying their bills just as their DSL partners were deep in the capital-intensive network deployments.

The Bells leveraged what Epoch Partners analyst Mark Langner called their "huge natural advantage," heavily advertising their own DSL service.

Some DSL companies claim the Baby Bells did their best to hinder competitors -- denying access to equipment, losing paperwork and slowing repairs. Such complaints were the basis of antitrust lawsuits Covad filed against Verizon, BellSouth and SBC.

In some cases, would-be DSL customers were told by regional Bells that service provided by an independent was impossible at their address, only to learn later that they could obtain the phone company's retail DSL at the very same location.

When computer programmer Terje Oseberg tried to order service from a competitive DSL carrier, he was told by Pacific Bell that his line would not qualify. A few days later, his roommate called and was told PacBell's retail DSL would work.

"It was installed in two weeks," said Oseberg.

The DSL imbroglio might be best understood in light of the billions in profits to be made in a transformed communications market. DSL lines can carry digitally rendered voice and television service.

That threatens the Bells' decades-old cash cow.

"We're introducing a new technology that threatens the rich revenue stream that they've enjoyed as a monopoly for the last 100 years," said Sal Cinquegrani of New Edge Networks, a competitive carrier.

The regional Bells insist they are being true to the 1996 telecom act, which specified that they cede monopoly control over phone lines as a condition of being allowed to enter the long distance market.

"We have every incentive to provide nondiscriminatory access and indeed do so," said Saralee Boteler, an SBC spokeswoman.

The confusing relationship between the upstart competitors, their partner ISPs and the regional phone company also created headaches, said Claire Beth Nogay, a vice president at Verizon who oversees DSL company relationships.

"It's very difficult for the end user to get a clean picture of what's going on," she said. "That's just the nature of the industry as it stands today. Nobody really wants it this way, but that's the way it evolved."

Critics say there's more to the story -- that the Baby Bells have deliberately encumbered competition.

"I believe the Bells didn't do the training. They didn't hire enough staff to handle the problem," said Bruce Kushnick of the New Networks Institute, a telecom public advocacy group.

"Basically, the rollout has been atrocious," said Kushnick, a telecommunications consultant.

Regulators have occasionally fined regional phone companies. The issue is most hotly debated when the Bells' applications to enter long distance are considered.

In December, during SBC's push to sell long-distance in Kansas and Oklahoma, the Justice Department urged closer scrutiny of competition and access prices. In January, the FCC approved the application.

In Pennsylvania last month, regulators ordered Verizon to split its retail and network operations but stopped short of ordering new separate companies. Florida, Illinois, New Jersey and other states are considering some form of separation.

Both sides have been blaming each other for DSL problems for years, said Ken Johnson, a spokesman for Louisiana Republican Rep. Billy Tauzin, who chairs the House Commerce Committee.

Less, not more, regulation is the answer, he said.

"Frankly, there's plenty of enough blame to spread around," Johnson said. "Let the marketplace determine who is telling the truth."

FCC Chairman Michael Powell appears intent on doing that.

"We will shift from constantly expanding the bevy of permissive regulations to strong and effective enforcement of truly necessary ones," he told Congress last month.

Not all independent DSL providers blame the phone companies for their financial woes.

Those who stay in business will learn to anticipate slow service and other glitches, said Keith Markley, president of DSL.net, a combined competitive carrier and ISP that focuses solely on small and medium-size businesses. The structure makes for higher profit margins and easier problem-solving, he said.

Because it is nearly impossible to compete on price, survival may depend on whether they offer products and service that established phone companies do not. New Edge Networks, for instance, focuses on businesses in cities with fewer than 250,000 people.

Covad, which settled its suit against SBC, now sells directly to small businesses and maintains partnerships with solvent ISPs.

Chuck McMinn, Covad's chairman and co-founder, says demand for faster connections will overcome all the odds.

"The customers love it when they get up and operational," he said. "If you went to them and said we're going to take your broadband connection, you'd better duck because you're going to get hit with something."

(Copyright 2001 by The Associated Press. All Rights Reserved.)