March 2001

DSL 2000: The End Of The Beginning

BY JIM MACHI

It�s been a little over a year since I wrote about digital subscriber line (DSL) � and what a year it�s been! Winston Churchill might have been thinking of 2000 when he said, �Now this is not the end. It is not even the beginning of the end. But it is, perhaps, the end of the beginning.�

In the beginning, DSL inspired wild optimism, which was fueled by proactive telecom deregulation, market demand, and abundant capital. Today DSL vendors, service providers, and investors are shaken and staggered -- having been pummeled by the rapid and unexpected boom-to-bust cycle in global capital markets. When I last checked, former high-fliers like Copper Mountain and Covad were trading in single digits, while other DSL value chain members were suffering similar, if less dramatic, declines.

Does this spell the demise of DSL and by extension, the death of pure IP dialtone delivered over broadband pipes?

What's Happened???
It all began last October when Copper Mountain and Covad announced their 2000 third-quarter financial results. Copper Mountain, a market-leading DSLAM supplier to the data CLECs, announced lowered guidance for the fourth quarter and for 2001. The vendor cited lowered capital expenditures by its customers. That was strike one. Covad followed this bombshell by announcing a deeper-than-expected third-quarter loss due to late payments from its ISP customers. Strike two. The strikeout pitch was delivered by Verizon in November when it unceremoniously announced its intention to withdraw its acquisition of DSL wholesaler Northpoint. Verizon cited "deterioration" in Northpoint's financial condition and called off the deal. Strike three -- and the DSL sector, already under severe pressure, was now on a bona fide losing streak.

What It Means
It is clear we are seeing a significant slowdown in network build-out among CLECs, data CLECs, and other next-generation service providers. Capital has suddenly tightened up. Where once all that was needed was subscriber growth, now investors are demanding profitable subscriber growth. Reorienting around this new business objective will not be quick or easy for many vendors.
The implications are many. First, we may see significant consolidation in the service provider space. Second, equipment suppliers to the telecom segment will be increasingly squeezed as their customer base contracts and capital spending slows. Third, the long-predicted consolidation in the ISP space will likely begin. (There are roughly 7,000 ISPs in the U.S.)

Market Demand Is A Given
Despite these circumstances, the market remains good. Why? There is no doubt the fundamental demand drivers for high-speed Internet access remain in place. No technology has emerged to threaten DSL. The battle is still between cable modem and DSL -- and as long as this is a two-horse race, DSL will certainly claim a significant share of the overall market, if not the leading share.
The pace of DSL subscriber growth is picking up in North America, though it is somewhat hampered by installation hassles. According to Telechoice, U.S. DSL lines in service have increased from 500,000 at year-end 1999 to 1.7 million at the end of the third quarter of 2000 -- a three-fold increase. Add in another 287,000 lines from Canada and you have a North American installed base of 2 million DSL lines. This is just the beginning. IDC's 2000 year-end forecast shows global DSL lines increasing from 4.4 million in 2000 to 66 million in 2004, a CAGR of 96 percent. Meanwhile, Asia is seeing pockets of high growth in places like Singapore, Taiwan, Korea, and Hong Kong

Technology Trends for 2001
This year will see the emergence of g.shdsl (ITU g.991.2) as a strong contender, particularly in the small business space. This new standard has a lot going for it including excellent spectral compatibility, abundant symmetrical bandwidth, multi-rate capability, and the promise of a single standard for both the U.S. and Europe.

What about Voice over DSL? Still in the promise phase, this market is potentially huge. As of the third quarter of 2000, there were probably fewer than 20,000 paying customers for VoDSL -- at least according to some remarks made by a CLEC executive at last fall's DSLcon tradeshow. While his company was rolling out VoDSL, he was careful to keep expectations within line and to make sure the service was working and ready for his customer base. However, there is still a feeling that this market is poised to take off. The service provider margins, estimated by CLEC NetPlus at 70 percent, are simply too compelling to ignore. Of course, those margins require some rather substantial investments in CO equipment like VoDSL gateways. And given the sour investment climate, the dollars for that equipment may not be so abundant. We'll have to carefully monitor this one. The market may ramp up more slowly if the investment climate remains difficult in 2001.

So where does that leave us in 2001? DSL demand will remain strong. Deployment will proceed briskly, but largely paced by the ILECs rather than the CLECs. My bet is that only a few of these will survive, and the ILECs will emerge to serve the largest portion of the broadband access market. As for IP dialtone over broadband pipes, it may happen but more slowly than many have thought. The investment capital needed for softswitches, VoDSL gateways, and other equipment may not be there. But no need to worry -- it's only the end of the beginning.

Jim Machi is director, product management, CT Server and IPT Products, for Dialogic Corporation (an Intel company). Dialogic is a leading manufacturer of high-performance, standards-based computer telephony components. Dialogic products are used in fax, data, voice recognition, speech synthesis, and call center management CT applications. For more information, visit the Dialogic Web site at www.dialogic.com.

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