Under Siege

Capital crunch, heightened market competition threaten survival of carriers that wire buildings

The pain of the current capital crunch on building local exchange carriers likely wont extend much past their own boardrooms.

Certainly, Eric Yopes isnt feeling a thing.

Yopes is the managing director of investments at Shorenstein, a privately owned San Francisco company that manages major downtown office buildings around the country.

Over the last few months, a half-dozen BLECs have gone out of business, and most of the rest have had to radically scale back their operations just to stay afloat. But Yopes says there is no shortage of companies to wire his buildings with high-speed pipes.

Shorenstein, like most owners of the largest office buildings in the country, is the belle of the ball when it comes to broadband suitors. Nearly every BLEC wants to be its partner, and they are willing to pay for access to Shorensteins high concentration of business customers.

"The BLEC future may appear uncertain, but the demand is there, and someone will fill the void," says Steven Weinberg, an analyst at New Paradigm Resources Group in Chicago.

No Danger Here

BLECs are telecommunications service providers to office buildings, hotels and other multitenant units (MTUs). Typically, they install modern wiring and hardware on the premises to run these services.

Shorensteins two BLEC partners — Allied Riser Communications and Cypress Communications — though financially hobbled, are still in business and capable of serving customers. But if they falter, Yopes says, many other providers are waiting in the wings.

Regardless of how these BLECs perform, Yopes is in talks with other telecommunications companies to bring additional broadband links to Shorensteins properties. For example, he is negotiating with Gigabit Ethernet companies such as Cogent Communications and Yipes Communications. He has also cut a deal with Metromedia Fiber Network, which will pay to connect its dark fiber network to the 25 million square feet of commercial space that Shorenstein owns or manages.

Then there are always the regional Bells, which can provide T1 (1.5-megabit-per-second) lines to just about any office building in the country. And thanks to continued competition, pricing on these connections are falling rapidly.

"I guess theres fewer competitors than last year, but theres still plenty of options," Yopes says.

Certainly, more than a few BLECs should survive. New business plans and improving technology, as well as less demanding deals from landlords, will make life easier for the remaining BLECs.

Some providers, for example, are reducing their capital outlays by asking landlords to share in the expense of wiring each building. Some landlords, knowing broadband connections are quickly becoming an essential service like electricity and water, are willing partners.

Industry analysts predict that demand for broadband connections will help survivors prosper in years to come. NPRG predicts that revenue generated by BLECs will grow from $71 million last year to nearly $1 billion in 2004.

While broadband services to businesses will continue to grow one way or another, the remaining BLECs face no easy task, and survival is now their primary goal.

Fueled by astounding stock prices and the growth-oriented dot-com mentality, most BLECs were swept away in a land grab, trying to secure the rights to as many buildings as possible and then wire those buildings as quickly as possible. Customers were considered an afterthought, since the stock market and eager venture capitalists seemed more than willing to provide the BLECs with as much cash as they needed to build their ambitious telecommunications services.

But the stock market meltdown changed all that. Most BLECs are undergoing radical retrenchment, have filed for bankruptcy or have closed their doors altogether. The casualties include BroadBand Office, OnSite Access and Urban Media.

Those still afloat, including Allied Riser, Cypress, eLink Communications, Everest Broadband Networks, Eureka/GGN and PhatPipe, are circling the wagons. All have been desperately trying to acquire as much additional funding as possible while reducing costs. Most have now established plans that they hope will allow them to survive and reach profitability in either 2002 or 2003.

"The market quickly changed from a game show of Who Wants to Be a Millionaire to Survivor," says PhatPipe CEO Don Ankeny.

Survival Strategies

Survival tactics include paring operations to include only the most lucrative markets in the major metropolitan centers around the U.S. Those plans often include significant layoffs, as all of the players have come to accept that they must be content as much smaller companies than they previously imagined.

Cypress, for example, lured Frank Blount out of retirement to head the company, after conducting an IPO in early 2000. Blount had been CEO of Australias Telstra, one of the largest telecommunications companies in the world, and had spent 30 years at AT&T.

Cypress, based in Atlanta, had big plans. Using cash generated by the IPO, the company hoped to expand its voice and data services to hundreds of office buildings in 54 markets across the U.S. Its employment rolls quickly reached 600.

But Blount says all of that changed last October, when stock prices started dropping and public and private investors suddenly wouldnt touch telecommunications companies with a 10-foot pole. Rather than building a telecommunications empire, Blount now is working to keep the company alive.

Blount says he has seen plenty of fierce competition and shakeouts in his years in the business, but never a financial freeze to match the one now afflicting the telecommunications industry.

"The industry has never been through a capital crunch like this," Blount says. "You had to look at your balance sheet and realize you werent going to get any more help."

With that thought in mind, Cypress has radically reversed its business plan. The company is focusing only on the seven markets in which it has the most infrastructure in place and the most buildings wired, including Atlanta, Seattle and other prime cities, for a total of 366 buildings. It has also slashed payroll down to 200 employees.

Cypress hopes to recruit 30 percent of the customers in each building, which will put the company on schedule for profitability by 2003. Blount says Cypress will use its focus on customer service and bundled telecommunications offerings as competitive selling points. Much of Cypress revenue comes from voice traffic, rather than data.

Blount says Cypress has enough cash on hand — about $62.2 million at the end of March — to carry it into the black.

Most remaining BLECs face the difficult task of reaching profitability before running out of cash.

Although Everest has managed to continue to attract venture financing — including a $50 million third round of financing that closed in January — the company expects to run out of money "a little before" reaching profitability, in mid-2002, says Joe Varello, executive vice president of corporate marketing and development at Everest.

Varello says that, within two years, Everest needs to recruit an average of 25 percent of the customers in each of the 170 buildings in which it has infrastructure in place. It now meets that goal in only 12 buildings.

Many BLECs, such as Everest, have begun offering cost-effective services to their existing infrastructure, hoping to spur greater revenue. Earlier this year, Everest launched a voice offering in addition to its basic broadband connection service. Varello says his company also plans to use Internet Protocol telephony technology to offer voice service later in the year.

Improving Options

Regardless of what happens to the current crop of BLECs, the options for business broadband connections should continue to improve, especially for companies in downtown office buildings in major markets.

New telecom companies offering broadband connections using Gigabit Ethernet technologies are entering the market. These include Cogent, GiantLoop Network, Looking Glass Networks, Telseon and Yipes.

The new Gigabit Ethernet technology promises unheard of price-to-bandwidth value. Some of these companies offer 100-Mbps connections for less than the typical cost of a T1 line.

But these providers tend to target only prime office space in the city center in major markets. Cogent, for example, is limiting its service to 750 office buildings in the countrys 20 largest cities.

Cogent CEO Dave Schaeffer says that serving any but prime downtown offices just wont prove profitable.

These Gigabit Ethernet companies are under their own cash restrictions. Cogent has about $200 million in cash and financing lined up, but Schaeffer says it will last only two years — just long enough to reach profitability.

Cogent is now up and running in 45 buildings, with only a couple of dozen customers.

New technology is also providing hope of profits for BLECs and others trying to service companies operating out of office buildings. Jerry Dusa, CEO of RC Networks, a San Diego equipment vendor with patented technology for running Symmetric DSL at up to 2.3 Mbps over telephone wires, says his company has been enjoying a surge of interest from a variety of service providers over the last 120 days. Competitive carriers that "wouldnt even talk to us a year ago" have begun to call, Dusa says.

Whether its because of new technology, better marketing or just improved cash management, more than a few BLECs are likely to make it through this challenging market transition, and that would be an impressive feat in its own right.

But although the grandiose plans of many BLECs may be dashed for good, that doesnt mean they cant be successful companies, Shorensteins Yopes says. "I think the best BLECs will survive, but on a much smaller scale than they had hoped," he says.