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October 01, 2012

When Incumbents Should Divest Their Networks

By Gary Kim, Contributing Editor

Despite growing financial risk, there is a reason most fixed network service provider executives prefer to take the chance of long-lived investments in network construction, rather than supporting a shift to a non-facilities-based wholesale framework, where a single third party owns all the access infrastructure and retail providers simply lease the capacity and services they want to sell from the wholesale entity.

A service provider with a strong and leading market position might prefer to “block” other contestants by maintaining control over access facilities. But the strategy is complicated. In many markets, where an incumbent retains ownership of the actual facilities, mandatory wholesale regulations might effectively undercut the value of network ownership and exclusivity or scarcity.

On the other hand, there are some scenarios in which the cost of building new infrastructure is so high, and other available investment alternatives so compelling, that it might make sense even for an incumbent to support a shift to a “one network” wholesale model.

The financial logic behind fixed network access facilities is therefore driven by a larger framework, namely the competing returns from investing in out of region mobile businesses – or even for more prosaic reasons, such as reducing debt.

Where those other opportunities are big enough, it can make sense to forego network ownership, even if that leads to an increase in competition.

Some wholesale models include rental of the full network (access, transport, switching), while others require or allow some differentiation in the form of retailers owning their own routing, aggregation or switching networks, while leasing access and transport, for example.

The passive layer of the network (civil works and dark fiber), can account for up to 80 percent of the total network cost and has a payback period of approximately 15 years. So the clear logic for an incumbent is to give up the access monopoly to avoid making all those investments.

The second is the active infrastructure layer, where the intelligence of the network concentrates, with a five- to seven-year rate of return. That time frame is more within the bounds of what executives believe investors will tolerate, so it makes sense to support a framework that allows retail providers to own those parts of the network, while leasing access or possibly transport.

The point if that even if service providers have historically preferred to own and control their own facilities and access networks, there are new reasons for considering divesting those networks.

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Edited by Braden Becker
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