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

November 20, 2003 • TechKnowledge No. 66

On Monday, November 24, Americans will gain a de facto property right in their telephone numbers. Thanks to new Federal Communications Commission (FCC) rules that go into effect that day, wireless and wireline carriers will be forced to let customers in major metropolitan areas take their phone numbers with them when they decide to switch providers. All Americans will gain this right by next May.

Hailed as a pro‐​competitive move in most circles, the FCC adopted this “number portability” measure under the assumption that it would generate more customer churn by allowing consumers to take their phone numbers with them when they want to shop around for better deals. Of course, if anyone had property rights in phone numbers it was probably the carriers that originally assigned them to us, but the FCC ignored that and re‐​assigned the rights to end users 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. In fact, telecom industry pundits are increasingly talking about the “perfect storm” that now looms for the wireline telecom sector in the wake of the following developments:

(1) Internet Telephony: Although stuck on the drawing board for many years, VoIP (voice over IP) technology is now poised to quickly transform the telecom sector and poses a very serious long‐​term threat to the hegemony of traditional circuit‐​switched wireline telephone networks and providers. As Peter Huber, Michael K. Kellogg, and John Thorne, authors of Federal Telecommunications Law, summarize, “The advent of the Internet generally, and IP telephony in particular, will be profoundly destabilizing for the entire telecommunications industry.” “Over the next 10 years, IP networks will take over the core of telecommunications,” argues AT&T Chief Technology Officer Hossein Eslambolchi. And network guru David Isenberg of Isen​.com recently told The Wall Street Journal that VoIP “destroys the incumbent telephone company business model.”

It may very well do so since VoIP is a classic example of a “disruptive technology” that few telecom incumbents saw coming. Worse yet for the telcos, the cable sector, which is currently winning the broadband race by a 3‐​to‐​1 margin, is getting very serious about deploying VoIP. Once cable is capable of providing video entertainment, high‐​speed Internet access and IP telephony in one bundled bill, incumbent telcos could start hemorrhaging customers to cable rivals who have the economic resources to market themselves as the one‐​stop telecom and entertainment 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 wireline telecommunications have all been losing business to wireless substitution.” While formal data is elusive, the FCC report sites a variety of studies claiming significant wireline displacement by wireless services. The FCC notes that one analyst estimates that wireless has now displaced about 30% of total wireline minutes and that, for the average household, wireless represents 27% of total telecommunications expenditures. Wired magazine recently reported that roughly 3% of homes have dropped their landlines and 8% are expected to follow suit in next five years. Another report by CNN noted that 7.5 million Americans have completely “cut the cord” already, although other estimates are much higher. A January 2002 USA Today poll confirmed that a gradual societal shift to wireless is well underway in America, with 18%-almost one in five‐​of cell phone owners surveyed saying their cell phones was their “primary phone.” A more recent study by PriMetrica Inc. suggested that roughly half of U.S. households would be willing to dump wireline for cellular as wireless prices fall.

If these trends continue, “The vast majority of us are going to be using wireless phones as our main phones,” in 5 to 10 years argues telecom analyst Jeff Kagan. Indeed, the U.S. is somewhat behind the rest of the world in going wireless. A recent telecom survey by The Economist noted, “Only 20 years ago, there was little reason to think that mobile phones were about to become the most popular communications devices on the planet.” But now, “a mere two decades later, in 2002, the number of mobile phones overtook the number of fixed‐​line ones (globally).” With only 50% penetration today, the United States lags behind Europe and Asia, where roughly 80% of the population carries a wireless phone. While many incumbent wireline operators say they are ready for the wireless onslaught since they have their own wireless affiliate, behind closed doors they probably acknowledge that a customer lost to wireless‐​even their own wireless unit‐​is a serious setback since wireless subscribers are harder to retain and probably not as profitable as an old wireline subscriber over the long haul.

(3) Number Portability: And now comes the number portability decision, which adds more fuel to the VoIP and wireless substitution fire. “I think it will certainly increase the move toward substituting wireless for wire‐​line phones,” notes Rebecca Arbogast, an analyst with Legg Mason. And Scott Cleland, chief executive of Precursor, told the Washington Post that number portability would create entire classes of people‐​retirees, nomads, frequent travelers and college students‐​who would abandon wired phones.

For the incumbent wireline operators, the impact of this “perfect storm” can already be seen in recent data on wireline access line losses. The FCC has noted that “Verizon, SBC, and BellSouth saw business 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 hit because of wireless substitution. Significant revenue downturns have accompanied these access line losses. Wireline revenue dropped by 5% last year according to Wired magazine, and telecom consultancy Adventis predicts massive wireline losses of $14–18 billion by 2010.

And yet, the regulatory status quo prevails. If this sort of perfect storm were developing in any other industry, many policymakers would likely be considering steps to shelter companies from the damage. But the exact opposite is occurring in the wireline telecom sector today. Incumbent operators continue to be shackled with a staggering array of regulations that prevent them from responding to these new competitive threats. Especially problematic are the open access mandates that force incumbents to share almost every element of their networks with rivals at regulated rates that don’t cover their sunk costs.

Some regulators and opponents of incumbent telephone companies will claim it’s too early to deregulate the wireline portion of the industry, or argue that new services are not on par with old wireline networks in terms of reliability. But VoIP and wireless service need not be “five nines” (99.999%) reliable to be a close substitute for traditional wireline service. Consumers are willing to trade a few dropped calls now and then for the added convenience and competition that VoIP and wireless phones offer. So while the FCC’s janissary will undoubtedly say it’s too soon to deregulate, it’s more likely the opposite is the case; we’ve already waited far to long to loose the chains that bind the wireline sector. Communications is an increasingly competitive, contestable market. It’s time to deregulate before more damage is done.

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