The Key To DSL Survival: Avoid Consumers

Providing high-speed Internet access is a risky proposition if you are not
one of the four Baby Bells in the U.S. In fact, the playing field of
nationwide independent digital subscriber line (DSL) providers has
essentially shrunk down to several survivors.

Two of those survivors — Covad Communications and DSL.Net — are announcing their second quarter 2002 results Thursday
and the one item both have in common is their renewed strategy to pursue
lucrative business-class contracts.

Both companies found out the hard way that residential service doesn’t pay.
Last year, asymmetric DSL (ADSL) was the subject of an all-out pricing war
between the telephone companies who owned the DSL network and the
competitors who leased from the incumbents.

When an ADSL line from the Bell costs $35 a month to lease and you have to
price your service competitively at $39 to $40 a month to subscribers, the
only way to make money is on volume — something companies like Covad and
DSL.Net were unable to do.

Most of those national, independent, residential DSL providers folded up
and became a footnote in Internet history. The rest, the remaining Internet
service providers (ISPs) and competitive local exchange carriers (CLECs),
quickly scrapped residential service and hurried to sign on business- class
customers.

Although ADSL prices have been on the rise this year ($51.67, on average,
according to research firm ARS), providers get the most bang for the buck
with business-grade symmetric DSL (SDSL) and ISDN DSL (IDSL).

Charging anywhere from $200-$500 a month, companies like DSL.net can also
tie in voice service and T-1 contracts with the businesses’ basic Internet
package, making even more revenue.

Then there’s the technical savvy of business customers, who in many cases
have their own IT staff: customer support calls is a revenue-burning
operation. Ask any ISP support rep, and you won’t find one who hasn’t
fielded at least a dozen ‘you mean my telephone cord has to connect to the
PC?’ queries or complaints by online gamers for ping rates above 100
milliseconds.

Ray Allieri, DSL.Net spokesperson, said their company actively pursues DSL
customers from other providers who are giving up on DSL. Earlier this week,
the company bought up the rights to acquire the DSL customers of Aplus.net.

Any residential customers garnered from these deals are not by design,
Allieri said.

“We’ve been actively acquiring DSL lines, which is less than the cost to
organically grow DSL numbers,” he said, “(but) any residential customers we
get are purely incidental. The margins just aren’t there.”

DSL.Net’s financial results today are proof of the continuing efforts the
provider is making to switch to a business DSL outfit. The company had
revenues of $11.6 million for the second quarter of 2002, a slight gain of
two percent from the previous quarter. Earnings before interest, taxes,
depreciation and amortization (EBITDA), however, is still a negative $3.8
million.

Robert DeSantis, DSL.Net chief financial officer, said the number is an
improvement over previous quarters and reflects “the company’s
restructuring actions taken last year.”

Even the Baby Bell’s have had a hard time with residential service. Earlier
this year, Qwest surrendered management of its DSL service to MSN to cut
down on costs. DSL clearly isn’t in the incumbent phone company’s game plan
anymore, as Richard Notebaert, Qwest’s new chairman and chief executive
officer, tries to rein in the carrier’s massive debt load.

“We are aggressively taking the steps necessary to maximize the
profitability of our core operations, deliver our balance sheet and improve
the delivery of services to our customers,” he said shortly after Qwest
posted a net loss of $1.14 billion in its second quarter results today. The
company’s report shows data and Internet revenues dropped 2.5 percent over
the second quarter.

Since emerging from Chapter 11 bankruptcy late last year, Covad has been
signing on residential customers as in the past but is focusing more on its
business subscribers.

Last month, the independent carrier signed a deal with Sprint Mark Kersey, broadband industry analyst at research firm ARS said Covad has a
pretty even split between consumer and business subscribers, though they
certainly would prefer more business accounts. Getting them, however, is
another question.

“That’s something all the DSL carriers are wrestling with right now, I
think they realize they need to target the business customer; it’s just a
question of actually getting it done,” he said. “But more than 80 percent
of DSL is residential subscribers, so that being the case, the question is
‘how do I get to the small to medium sized businesses?”

Like DSL.Net, Covad’s bottom line signals the carrier’s attempts to turn
its business around after last year’s bankruptcy. The company posted a net
loss of $40.8 million in the second quarter, down from $56.8 million the
previous quarter.

Covad predicts its revenue growth in the third quarter to be flat, at best.

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