CLECs search for new business models

Recent months have been tough for competitive local exchange carriers (CLECs), as their allies get gobbled up by competitors and the government dismantles network-sharing regulations. But CLECs say they will survive by adopting new business models and focusing on customer relations.

CLECs, competitors to the four large incumbent local carriers in the U.S., have seen a commonly used business model whittled away by the U.S. Federal Communications Commission (FCC) as the agency strikes down regulations that required incumbents to share their networks with CLECs at a discount. Since late January AT&T Corp. and MCI Inc., two of the largest national carriers that sided with CLECs on policy issues, have announced plans to merge with two of the incumbent carriers, collectively called the regional Bells.

These two developments have raised questions about the viability of CLEC business models.

"The CLEC model that relied heavily on use of the (incumbents') facilities is certainly challenged if not inviable anymore," said Al Kurtze, director of executive business development for Cap Gemini Ernst & Young's Telecom, Media and Entertainment division.

Kurtze and other analysts see little future in that old CLEC model, which depended on the discounted network prices set up in the Telecommunications Act of 1996. Without the discounts, CLECs depending on the incumbent Bells' networks to carry their traffic have little chance of beating the Bells on price, Kurtze said.

The '96 Act's network-sharing rules were designed to foster competition with the regional Bells, which inherited large chunks of their networks after the government breakup of the old AT&T monopoly in 1984.

The FCC, under outgoing Chairman Michael Powell, has moved away from these network-sharing rules, often called UNE-P, or unbundled network element pricing. The Bells have continued to press the FCC to abandon more UNE-P rules, arguing that they discourage them from upgrading their networks and investing in new technologies.

As the FCC has moved away from UNE-P, major Bell competitors AT&T and MCI have announced merger deals with two of the Bells. AT&T, in particular, actively supported CLEC positions before federal regulators, but it announced Jan. 31 its plan to be acquired by SBC Communications Inc.

"I am concerned ... there is no one left to fight," said Jeff Storey, president and chief executive officer of WilTel Communications LLC, a long-haul carrier based in Tulsa, Oklahoma. "The largest voices have been silenced."

Even with the uncertainty caused by recent events, however, Storey and other Bell competitors say they can compete. CLECs are betting on a variety of approaches to survive: owning their own networks, excelling at customer service or focusing on niche markets, such as small and medium-size businesses. Some say they found an edge in lower cost software-based infrastructure, instead of hardware-based networks.

In WilTel's case, the company provides a menu of services, including voice, videoconferencing, Internet access and managed services.

Even with the consolidation among major carriers, Storey still sees a role for CLECs. Customers want a choice of carriers, he said, and the mergers could provide a major distraction for SBC and for MCI's two suitors, Verizon Communications Inc. and Qwest Communications International Inc. "They will be even bigger and more distracted than before," he said.

The distractions may allow CLECs to build on an advantage they have long touted over their Bell rivals: customer service, CLEC executives said.

"If you're a customer, and you have a problem, you can call me," said Aaron Cowell Jr., chief executive officer of US LEC Corp., a CLEC based in Charlotte, North Carolina.

Customer service with a personal touch is a major reason Charlie Hounchell chose CLEC Trinsic Inc. as his company's voice and data provider. Hounchell is president and chief executive officer of Zeneks Inc., a 15-employee medical cost management company in Tampa, Florida.

Hounchell searched for a "one-stop shop" telecom vendor, and with Trinsic, he found the services he needed, plus a 30 percent savings on his monthly telecom bill. He stayed away from the large telecoms, he said, preferring a carrier that focuses on serving small-business customers.

"With Trinsic, we can call a contact person and not be treated like another number," he said.

Unlike Trinsic, which has traditionally been a UNE-P reseller, US LEC owns its network facilities, a voice and data network stretching from Florida to New York, competing for business customers with regional Bells Verizon and BellSouth Corp. A number of other CLECs are either moving toward a facilities-based business model, or have already had success owning their networks.

US LEC, founded in 1996, had revenues of US$356 million in 2004, up from $311 million in 2003, and posted a net loss of $36 million last year, compared to a $29.5 million loss in 2003. The company, however, added 5,500 business customers in 2004, and now has 22,000 business customers, Cowell said.

About the time US LEC was founded, the '96 Act encouraged some CLECs to build business models based on the UNE-P rules, without investing millions of dollars on network facilities. But US LEC decided that owning its network gave it more control over the services it could offer, making for a more loyal customer base, Cowell said.

US LEC has focused its marketing efforts on pitching a bundle of local phone service, long distance, data and Internet services to medium-sized businesses, such as car dealerships, hotels and hospitals. Finding the right niche is important, Cowell said.

Others CLECs are following suit. Trinsic, formerly called Z-Tel Communications, rolled out an IP (Internet Protocol) network in its hometown of Tampa in December and in New York in early February.

Trinsic, then the largely UNE-P dependent Z-Tel, saw its top two executives resign in August 2004. The company's projected net loss for the fourth quarter of 2004 is $1.9 million on revenue of $58 million, compared to revenue of $74.5 million and a net loss of $4.5 million in the fourth quarter of 2003, when the company largely depended on UNE-P.

Trinsic changed its focus to operate its own IP networks in cities, said Frank Grillo, the company's chief operating officer. The company is focusing on providing telecom and Internet services to small and medium-sized businesses that want a high level of support.

The company, by deploying software-based switches instead of expensive hardware, doesn't "need millions of customers" to be successful, Grillo said.

Grillo sees opportunity in providing network access at wholesale prices to other CLECs, and Trinsic isn't the only CLEC focusing on partnerships with other telecom providers. While most talks of CLEC partnerships are in the beginning stages, Cap Gemini's Kurtze suggested that CLECs look at joint marketing agreements, or consortiums made up of carriers that agree to carry each others' traffic.

"The big challenge in all of these things is the marketing," Kurtze said of CLECs. "It's hard to get enough good (sales) guys or gals knocking on doors."

Many CLEC executives have decried the end to UNE-P rules and suggest the large mergers will limit customers' choices. But with the mergers come opportunities for CLECs to offer choices, said H. Russell Frisby Jr., chief executive officer of CompTel/Ascent, a trade group representing CLECs.

"I don't think the business model is dead; I think our companies have just decided to make do in the current regulatory environment," Frisby said. "Our members have been around since the '70s in one form or another, and our members will continue to serve in one form or another."