OVERBUILDERS: The New Generation

DEBBIE NARROD

Half a dozen new companies have been formed, and funded, in the past year to offer broadband services in already-cabled metropolitan areas.

It's a new generation of overbuilders.

Fifteen years ago, there were two dozen small communities in the United States where one cable operator overbuilt another. Those situations frequently ended as one bought out the other.

A decade ago, the typical overbuilder was an operator who targeted multiple dwelling units and housing developments, said to be "cream skimming" from the incumbent cable operator. RCN and Knology started that way but now, like the new breed of overbuilder, are offering voice, video and data services where traditional operators are working to upgrade their systems to offer the same.

Part of the reason there are so many overbuilds today can also be traced to ease in getting municipal franchises for new systems, with federal regulations clearly allowing competition. The real draw is that the new overbuilders see a huge profit potential, building out fiber-optic and hybrid systems that offer bundled services, and getting these services to subscribers often more quickly than existing operators, whose plants are in need of upgrade.

The new broadband service providers frequently don't even see themselves as competitors to the incumbent operators: "We don't think of ourselves as cable overbuilders," says Mark Haverkate, president/CEO of Wide Open West. "We are after the whole broadband Internet market ... If it were only cable, we wouldn't be there."

WOW was set to break ground on its overbuild system in the Denver area the first week of November. It has franchises in the market for 700,000 homes. WOW is also locating facilities for its planned network in Ft. Worth, Texas, and its suburbs.

"We are building a revolutionary fiber-to-home network, a data network first and foremost," says Shiraz Moojasee, VP-business development for WINfirst, formerly Western Integrated Networks. "Our primary goal is a data network; secondary are voice and video. We are revolutionary, rather than evolutionary."

WINfirst is focusing its sights on tier 1 and 2 Western U.S. cities; Moojasee says more than 50% of the world's data traffic originates in the Western half of the United States. The company has begun building in the San Antonio and Austin, Texas, areas.

"We are coming at it from a different angle than cable," says a spokesperson for McLeodUSA, which is a telecommunications firm known more for its telephony involvement than cable TV, although it does own a few small systems. As a "pilot project," though, McLeod is overbuilding the cable system in Cedar Rapids, Iowa, and surrounding suburbs, offering video, voice and data. The project is about one-third completed.

Well-heeled backers These young companies have raised hundreds of millions of dollars from a variety of sources to fund their builds. Investment firms, cable funds and, in particular, utility companies have responded eagerly to back cable overbuilds by the broadband service providers.

Two of the companies claim home-state records for fundraising: Grande Communications, for example, says it set a Texas fundraising record of $233 million from investors, while Everest Connections earlier this year landed what was reported to be about $300 million in seed capital from UtiliCorp United of Kansas City. That amount topped the total of all venture investments in Missouri for 1999, also a record year.

Utility companies are playing a big role in the growth of these new BSPs.

Tipton Ross, EVP-corporate planning and development for Grande Communications, says Reliant Energy's $25 million investment in Grande (and obligation for another $25 million) was based on two factors.

First, he says, Reliant's venture group wants to maximize earnings for shareholders, and, secondly, the company is preparing for 2002, when utility competition comes to Texas.

"Reliant wants to get different ways to provide value to its customers," Ross says, calling Reliant's investment a "multipurpose initiative."

With the UtiliCorp infusion, Everest's CLEC status and its alliance with contracting services provider Quanta Services, Everest is expecting to turn on its first subscriber in December - eight months after its initial funding.

"We are operating at a pace few in the industry can replicate," say president/ COO Michael Roddy.

Another example is Northern States Power, which in 1996 created a "think tank" unit, Seren Innovations, to explore areas the company might enter as deregulation of utilities seemed imminent. The company has turned on service in St. Cloud, Minn., having overbuilt the existing Bresnan Communications Co. plant and offering 233 channels of service, "the most in Minnesota," according to a Seren spokesperson. Seren is building a system in California as well.

Other partnerships To build their broadband services, the companies are forging relationships with top-of-the-line technology firms for their construction. Some examples:

- Grande and Qwest signed a 25-year, $3.3 million agreement to exchange "dark fiber" in the Texas I-35 corridor where Grande is building. The partnership includes fiber and fiber maintenance in Qwest's central business district ring.

- Everest is working with Quanta Services unit PAR Electrical Contractors, broad-band company ADC and Lucent Technologies. Quanta's unit will construct Everest's broadband hybrid fiber coaxial network in the greater Kansas City area. Like Grande's deal with Qwest, the deal includes maintenance to the completed network, as well as 24-hour emergency service. The build contract is valued at $400 million.

- WINfirst signed a five-year, $800 million deal with Lucent Technologies for equipment, software and services to build a fiber-to-home network in WINfirst's targeted areas, which include Dallas, Houston, San Antonio, Austin, San Diego, Sacramento, Calif., and Portland, Ore. Winfirst also penned a deal valued at $200 million over five years for data switching equipment from Avaya.

Attractive markets What makes a market attractive to an overbuilder? Nearly all the sites targeted or involved in overbuilds are urban and suburban markets, where the state-of-the-art cable systems were installed more than a decade ago. Rebuilding and updating those systems probably costs the incumbent operator more than what the overbuilders will be spending on their systems, new from scratch, the companies say.

"The important things are density per mile and demographics of Internet usage," says Grande's Ross. He says 53% of Austin homeowners use the Internet, and 36% of those in San Antonio. Another reason Grande chose its Texas site is a proliferation of personnel in the medical community, in universities and in high-tech industries.

"We're not going to put (the incumbent cable operators) out of business," Ross says. "We need a relatively small percentage of the market to make our bundled offerings profitable."

Everest is going after several smaller communities, where, says Roddy, "The cable companies have been unregulated monopolies and mistreated their customers. They created the opportunity we're now pursuing."

He, too, expects the bundled voice, video and data services to be attractive to subscribers.

RCN VP-technology and market development Rick Rioboli says density, demographics and construction perimeters are the primary factors RCN looks for. He says RCN, a publicly held company, considers whether the build will have to be aerial or underground and explores the cost of that construction. Most of RCN's 200,000 video subscribers are in overbuild areas, Rioboli says, with MDU subs representing 10% to 20% of its business. When RCN started, it was totally MDU-oriented.

Moojasee of WINfirst says his company seeks cities with "above medium demographics ... cities that are part of the new economy. That's where the demand is the highest." WINfirst also looks for a "friendly construction environment," a decent climate and, on the political side, "How welcome are you as a competitor?"

Several markets are so attractive that more than one overbuilder applied for franchises. Portland, Ore., for instance, had applications from four companies, says David Olson, city cable director. RCN has started construction in Portland and nearby Beaverton, Olson says, while WINfirst is still getting its franchise documents completed.

WOW was also awarded a Portland franchise, but it decided not to pursue the business there.

"Portland got too complicated," Haverkate says. "It's a challenging business, but even more complicated when there's more than one new company. You don't know who you're dealing with."

RCN's Rioboli says it would now likely cost more to build Portland, but adds his firm is committed to the build.

Other markets that have issued franchises to more than one overbuilder include:

- Nashville, Tenn., where public company Knology and Digital Access have recently been awarded franchises.

- Houston, with Grande and WOW.

- Austin and San Antonio, with Grande and WINfirst.

- Minneapolis suburbs, with Seren and Everest.

Results of competition Just what happens when the overbuilder competes head-to-head with the incumbent operator varies market by market. RCN, with more experience competing with an incumbent than the new companies, has seen the existing operator go both ways.

"Some seem to be more aggressive than others," Rioboli says.

When RCN went against Comcast in the Lehigh Valley area of Pennsylvania, Comcast froze rates for customers who committed to it and ran lots of advertising.

In Boston, RCN's seen little reaction from incumbent Cablevision Systems - an observation back-handedly confirmed by a city telecommunications office spokesperson who says, "I'm a Cablevision subscriber waiting for RCN."

In Portland, where the competition is just about to begin, Olson characterized the incumbent operator, AT&T, as being in a "permanent state of transition" for the past two years.

The operator recently brought in a new manager, and Olson says the company seems to be beginning the process of responding to market pressures.

"It seems to have been a long time coming," he adds.

A Seren spokesperson says that when Seren began operating in the Minneapolis area, the then-TCI system sped up its upgrading of its system and suspended rate increases. A similar move occurred this year in Concord, Calif., according to Peter Dragorich, assistant to the city manager. With the impending competition from Seren, Concord's incumbent operator was the only one of 66 AT&T systems in the area that had no rate increase.

"That's close to $1 million in savings this year for our people," he adds, noting that customer services have been steadily improving since Seren's presence became known. "It's a trend we hope continues."