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Telecom Services Equity ResearchTelecom Services Equity ResearchBroadband, Economic Growth and the Financial Crisis
January 30th, 2009
Christopher C. King
443-224-1329
Current Broadband Statistics
Broadband currently available to 85%-90% of homes nationwide
95% of cable plant has access to broadband
According to latest Pew Internet & American Life Survey, only 55% of households subscribe to broadband
Thus, approximately 30% of households have access and choose not to pay for broadband
According to the survey, 33% of those that do not have broadband access say they are simply not interested
Only 12% of those that do not use the Internet at all say it is because they don’t have access
Broadband Subscriber Growth Slowing
Source: Company data, Stifel Nicolaus estimates
Total Subscribers
.02.55.07.5
10.012.515.017.520.022.525.027.530.032.5
3Q03 3Q04 3Q05 3Q06 3Q07 3Q08
Su
bsc
rib
ers
in m
illi
on
s
1.00x1.10x1.20x1.30x1.40x1.50x1.60x1.70x1.80x1.90x2.00x2.10x2.20x2.30x2.40x
Cab
le/D
SL
rat
io
DSL Cable Cable/DSL ratio Cable/RBOC ratio
Net Additions
200
400
600
800
1,000
1,200
1,400
1,600
1,800
2,000
3Q03 3Q04 3Q05 3Q06 3Q07 3Q08
Su
bscri
bers
in
th
ou
san
ds
30%
40%
50%
60%
70%
80%
90%M
SO
sh
are
ILEC MSO MSO/Total MSO/(Bell+MSO)
Year-over-year High Speed Net Adds Growth
0.0%
5.0%10.0%
15.0%20.0%
25.0%
30.0%35.0%
40.0%45.0%
50.0%
3Q03 3Q04 3Q05 3Q06 3Q07 3Q08
Grants in “Unserved Areas”
More coordinated stimulus likely requiredShould include both tax credits and ongoing support mechanisms
Why??
Case Studies—CenturyTel October 2007 FCC Ex Parte Filing
Rosendale, Missouri
Gorin, Missouri
Rosendale, Missouri
288 Access Lines (88% residential; 12% small business)10 miles of fiber will have to be trenched, attached to poles ($330,000); DSLAM ($6,000) and additional electronics ($14,000) purchasedTransport costs of $1,200 per month will be incurred for T-1’s to backhaul traffic to Internet nodeBuild will not cover everyone in the exchange because slightly less than half of households live well beyond 18,000 feet from central officeAssuming a 40% take rate over 5 years—yields 40 DSL customers at end of year 5DSL priced at $35 declining to $28 per month over 5 yearsRetail revenues from DSL would be $48,000 over 5 years while recurring operating expenses would be $93,300 (excluding the $350,000 in capital costs)Broadband rates would have to average $90 per month just for the carrier to break-even on operating expenses—not allowing for any return and ignoring capital commitments
Gorin, Missouri
149 access lines (77% residential and 23% small business)
A new $6,000 DSLAM would need to be deployed
No additional fiber transport required, but 2 T-1’s would need to be purchased from RBOC at a cost of $1,640 per month to backhaul data traffic to Internet node
Initial build will cover 76% of the market or 113 access lines
Over five years, assume 36 DSL customers and pricing declining from $35 to $28 per month
Broadband revenues of $43,400 over five years versus operating expenses of $117,600
Broadband rates would need to be priced at an average of $129 per month over the five-year period for company to break-even on an expense basis—ignoring capital outlays and not allowing for a return on investment
More RLEC Economics
A quick survey of 6 RLECs suggest an average cost of between $2,000 and $3,000 to provide DSL service to an unserved customerIncremental investment is required to upgrade existing infrastructure by extending fiber into access plant to reduce loop lengths and installing broadband-enabling electronics into the networkIncreasing downstream speeds to 6 Mbps appears to approximately double the per-home investment costs
RLEC Conclusion
Current plans unlikely to do much to stimulate private-sector investment in unserved areas
Comprehensive support structure neededCapital commitment support
Grants
Operational Expense supportTax credits to offset middle-mile investment
Potential re-regulation of special access
Tax Credits
ITIF (Information Technology and Innovation Foundation) has suggested tax credits of 60% in unserved areas and at least 35% to promote additional advanced broadband deployment
Capital spending for telecom is expected to fall between 10%-15% in 2009 versus 2008 levels
The CWA (Communications Workers of America) has recommended that tax credit programs assume that capital spending above 85% of 2008 levels be eligible for tax credits
Companies such as Clearwire and Qwest are unlikely to benefit at all from tax credits, given their current financial situations
Other Issues
Underserved AreasHigh-speed thresholds in current proposals (45/15 Mbps) will likely only benefit Verizon’s FiOS and possibly cable’s DOCSIS 3.0 platforms today
Wireless broadband plans could benefitClearwire-WiMax
Verizon/AT&T LTE
Two Significant Potential Issues in Senate Bill
Draft language appears to suggest restricting company participation to public-private partnerships
Significant complication which will likely disincent investment, in our view
Failed Municipal WiFi Model
Definition of “underserved area” to include areas with only one broadband provider
Would appear to artificially incent competition against incumbent broadband provider
Failed UNE-P Model
Conclusion
Solutions must address both the initial investment costs of the network and the ongoing operating deficits in “unserved” areas
Could include substantial tax credits for capital expenditures that would also include “middle mile” investment
USF-like Lifeline and Link-Up programs for advanced services that would aid low-income families by relieving them of monthly fees
Support mechanisms that not only include grants for broadband deployment in rural areas, but also ongoing support that would help offset material operating expenses
Conclusion
We believe significant tax credits for broadband deployment is likely the most effective stimulus tool at policymaker’s disposal
Tax incentives are available on day one after legislation is signed; easy for companies to implement and normally have a quick impact on investment decisions
Tax credits also leverage substantial private investment by companies that have the capability to deploy advanced networks and generally come with very few strings, giving companies ample flexibility—particularly important in a period of economic uncertainty
Conclusion
We are wary of plans that include artifically incenting competition in the broadband market
This includes both a strained definition of “underserved markets” as well as a mandate for public-private partnerships to be eligible to receive grant monies
Disclosures
Important Disclosures and Certifications I Christopher C. King, certify that the views expressed in this research report accurately reflect my personal views about the subject securities or issuers; and I Christopher C. King, certify that no part of my compensation was, is, or will be directly or indirectly related to the specific recommendation or views contained in this research report.