Number Portability Decision Adds to Wireline Telecom Sector’s Perfect Storm

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On Monday, November 24, Americans will gain a de facto propertyright in their telephone numbers. Thanks to new FederalCommunications Commission (FCC) rules that go into effect that day, wirelessand wireline carriers will be forced to let customers in majormetropolitan areas take their phone numbers with them when theydecide to switch providers. All Americans will gain this right bynext May.

Hailed as a pro-competitive move in most circles, the FCCadopted this "number portability" measure under the assumption thatit would generate more customer churn by allowing consumers to taketheir phone numbers with them when they want to shop around forbetter deals. Of course, if anyone had property rights in phonenumbers it was probably the carriers that originally assigned themto us, but the FCC ignored that and re-assigned the rights to endusers so they can more easily jump from one provider to another.And jump ship they will, in very large numbers in all likelihood,especially from the wireline side of the business to wireless. Infact, telecom industry pundits are increasingly talking about the"perfect storm" that now looms for the wireline telecom sector inthe wake of the following developments:

(1) Internet Telephony: Although stuck on thedrawing board for many years, VoIP (voice over IP) technology isnow poised to quickly transform the telecom sector and poses a veryserious long-term threat to the hegemony of traditionalcircuit-switched wireline telephone networks and providers. AsPeter Huber, Michael K. Kellogg, and John Thorne, authors ofFederal Telecommunications Law, summarize, "The advent ofthe Internet generally, and IP telephony in particular, will beprofoundly destabilizing for the entire telecommunicationsindustry." "Over the next 10 years, IP networks will take over thecore of telecommunications," argues AT&T Chief Technology OfficerHossein Eslambolchi. And network guru David Isenberg of Isen.com recently toldThe Wall Street Journal that VoIP "destroys the incumbenttelephone company business model."

It may very well do so since VoIP is a classic example of a"disruptive technology" that few telecom incumbents sawcoming. Worse yet for the telcos, the cable sector, which iscurrently winning the broadband race by a 3-to-1 margin, is gettingvery serious about deploying VoIP. Once cable is capable ofproviding video entertainment, high-speed Internet access and IPtelephony in one bundled bill, incumbent telcos could starthemorrhaging customers to cable rivals who have the economicresources to market themselves as the one-stop telecom andentertainment provider of choice in many communities.

(2) Wireless substitution: A recent FCC survey of the wireless sector noted that,"The long distance, local, and the payphone segments of wirelinetelecommunications have all been losing business to wirelesssubstitution." While formal data is elusive, the FCC report sites avariety of studies claiming significant wireline displacement bywireless services. The FCC notes that one analyst estimates thatwireless has now displaced about 30% of total wireline minutes andthat, for the average household, wireless represents 27% of totaltelecommunications expenditures. Wired magazine recentlyreported that roughly 3% of homes have dropped their landlines and8% are expected to follow suit in next five years. Another reportby CNN noted that 7.5 million Americans have completely "cut thecord" already, although other estimates are much higher. A January2002 USA Today poll confirmed that a gradual societal shift towireless is well underway in America, with 18%-almost one infive-of cell phone owners surveyed saying their cell phones wastheir "primary phone." A more recent study by PriMetrica Inc. suggested thatroughly half of U.S. households would be willing to dump wirelinefor cellular as wireless prices fall.

If these trends continue, "The vast majority of us are going tobe using wireless phones as our main phones," in 5 to 10 yearsargues telecom analyst Jeff Kagan. Indeed, theU.S. is somewhat behind the rest of the world in going wireless. Arecent telecom survey by The Economist noted, "Only 20years ago, there was little reason to think that mobile phones wereabout to become the most popular communications devices on theplanet." But now, "a mere two decades later, in 2002, the number ofmobile phones overtook the number of fixed-line ones (globally)."With only 50% penetration today, the United States lags behindEurope and Asia, where roughly 80% of the population carries awireless phone. While many incumbent wireline operators say theyare ready for the wireless onslaught since they have their ownwireless affiliate, behind closed doors they probably acknowledgethat a customer lost to wireless-even their own wireless unit-is aserious setback since wireless subscribers are harder to retain andprobably not as profitable as an old wireline subscriber over thelong haul.

(3) Number Portability: And now comes thenumber portability decision, which adds more fuel to the VoIP andwireless substitution fire. "I think it will certainly increase themove toward substituting wireless for wire-line phones," notes Rebecca Arbogast, an analyst with LeggMason. And Scott Cleland, chief executive of Precursor, told the Washington Post that numberportability would create entire classes of people-retirees, nomads,frequent travelers and college students-who would abandon wiredphones.

For the incumbent wireline operators, the impact of this"perfect storm" can already be seen in recent data on wirelineaccess line losses. The FCC has noted that "Verizon, SBC, and BellSouth sawbusiness and consumer access lines fall 3.6, 4.1, and 3.2%,respectively, in 2002, for a total decrease of 5.5 million lines,with wireless substitution being a significant factor." Similarly,payphone and prepaid calling cards are also taking a big hitbecause of wireless substitution. Significant revenue downturnshave accompanied these access line losses. Wireline revenue droppedby 5% last year according to Wired magazine, and telecomconsultancy Adventis predicts massive wireline losses of $14-18 billion by2010.

And yet, the regulatory status quo prevails. Ifthis sort of perfect storm were developing in any other industry,many policymakers would likely be considering steps to sheltercompanies from the damage. But the exact opposite is occurring inthe wireline telecom sector today. Incumbent operators continue tobe shackled with a staggering array ofregulations that prevent them from responding to these newcompetitive threats. Especially problematic are the open access mandates that force incumbents to share almostevery element of their networks with rivals at regulated rates thatdon't cover their sunk costs.

Some regulators and opponents of incumbent telephone companieswill claim it's too early to deregulate the wireline portion of theindustry, or argue that new services are not on par with oldwireline networks in terms of reliability. But VoIP and wirelessservice need not be "five nines" (99.999%) reliable to be a closesubstitute for traditional wireline service. Consumers are willingto trade a few dropped calls now and then for the added convenienceand competition that VoIP and wireless phones offer. So while theFCC's janissary will undoubtedly say it's too soon to deregulate,it's more likely the opposite is the case; we've already waited farto long to loose the chains that bind the wireline sector.Communications is an increasingly competitive, contestable market. It's time to deregulatebefore more damage is done.