Both Owned and Leased Fiber Strategies Thrive in Canadian CLEC Market
By following a facilities-based fiber strategy, Canada's MetroNet Communications has assembled a formidable nationwide network, but rival carrier Call-Net makes a $1 billion case for leasing.
By: Erik Kreifeldt
Contents
•Leasing alternative
•Facilities strategy
•City networks
•Data services
•Enviable position
Since its founding in 1995, MetroNet Communications has built or acquired metropolitan fiber networks in 11 Canadian cities and purchased long-haul fiber to link them with cross-border routes into the U.S. The facilities-based strategy has made MetroNet Canada's largest competitive local exchange carrier (CLEC) with an unparalleled combination of local and long-haul broadband facilities and a ripe consolidation candidate, analysts say.
"MetroNet is one of the most compelling CLEC stories in North America. It is now Canada's only national end-to-end local and long-haul fiber network," concludes analyst Jack Grubman at Salomon Smith Barney in a Dec. research report. MetroNet's fiber strategy prompted the brokerage to lift its 12-month price target on MetroNet stock from $30 to $35 on Dec. 14, following a bump from $27 to $30 on Nov. 3. MetroNet stock (METNF on NASDAQ) closed Dec. 17 at $26 per share.
Provisioning speed is the only dark side to an otherwise bright outlook for MetroNet, according to the Salomon Smith Barney analysts (see Figure 1). MetroNet has some 15,000 access lines on backlog, a number that could grow as high as 25,000. The carrier seeks to increase its provisioning rate to 10,000 lines per week from its current rate of 3,000 per week.
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Leasing alternative
Fiber isn't everything in the Canadian market. "I'm not saying that investing in fiber doesn't make sense. I'm saying that you have to make sure you're going to get return-on-capital first," says Juri Koor, chairman and CEO of Call-Net Enterprises, a rival Canadian CLEC that built a $1 billion business primarily on leased facilities.
Conventional wisdom dictates that CLECs can generate higher margins by selling services on their own facilities compared with leasing. Koor agrees that owned facilities offer a cost advantage, but maintains that differences between the Canadian telecommunications market and that of the U.S. complicates conventional wisdom.
Unlike the U.S., Canada did not go through a divestiture of local and long distance services, leaving incumbents that offer both services by leasing each other's facilities. Canada also defines regional traffic as long distance, yielding a smaller local exchange market than that defined in the U.S. Finally, small- and medium-sized businesses make up the lion's share of the telecommunications market in Canada, whereas the opposite is true in the U.S. Koor maintains that these factors make leasing telecommunications features attractive.
The cost of capital is a couple of percentage points higher in Canada than in the U.S., Koor explains, due in part to regulations that limit foreign ownership in Canadian telcos. If the total investments of a CLEC in fiber put up a lower return than leasing, investors will be more interested in companies that lease fiber.
Although Koor makes a case for leasing, Call-Net is developing nearly 10,000 miles of 24-strand fiber cable in Canada, as well as routes with similar fiber counts in the eastern and western U.S. Koor also notes that Call-Net is a major MetroNet customer, and has a vested interest in seeing MetroNet thrive to compete with incumbent telcos and cable TV operators for customer access.
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Facilities strategy
"[MetroNet] has delivered solid results, and in the past six months alone has executed two extremely savvy strategic moves," according to the SSB report. The first move was the $640 million acquisition of Rogers Communications on June 30, 1998, and the second was the $170 million purchase of fiber and electronics from Ledcor and Call-Net.
With the Rogers acquisition, MetroNet added more than 3,100 intracity-route kilometers of fiber and nearly 1,200 on-net buildings-facilities equivalent to a $325 million build, MetroNet estimates. Rogers' synchronous optical network (SONET) networks accelerated MetroNet's entry into Toronto, Vancouver, and Ottawa-Hull, as well as adding London, Kitchener, and Waterloo markets where MetroNet had planned to deploy networks over the next year.
From Ledcor and Call-Net, MetroNet acquired 12 fiber strands that will traverse 9,700 km when completed in late 1999 (see Canadian Fiber Moguls Expand Networks.) In addition to fiber that circulates throughout Canada and U.S. border crossings, MetroNet gained transmission equipment sites, backup power, network maintenance, and rights of way in the deal. MetroNet plans to assemble an Internet protocol (IP) network with dense wavelength division multiplexing (DWDM) systems and SONET rings. The build is approximately 50% complete, and the competitive carrier expects to finish the job in 1999 (see Figure 2).
"The transaction makes tremendous financial and strategic sense," according to the SSB report. MetroNet should recover the cost of the fiber acquisition in five years, based on operating costs eliminated by terminating leased long-haul capacity and migrating resold long distance services onto their own network. MetroNet could further cash in by entering the wholesale capacity business or leasing dark fiber, the analysts add.
Ledcor also extended MetroNet the option to participate in the construction company's future long distance fiber builds in North America. Through its Worldwide Fiber subsidiary, Ledcor is developing a 23,000-kilometer North American fiber network. With the network featuring spurs extending from Calgary to Seattle in the west and Toronto to Quebec City in the east, additional long-haul fiber acquisitions may be in store for MetroNet.
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City networks
In eight cities so far (Vancouver, Edmonton, Calgary, Winnipeg, Toronto, Ottawa, Montreal, and Quebec City), MetroNet has built intra-city SONET networks supplied by Nortel Networks, according to Vivian Hudson, Nortel vice president for high-capacity optical networks. MetroNet recently extended its agreement with Nortel to spend at least $200 million over the next three years on transport, switching, and access systems. The arrangement builds on a Mar. 1997 deal for $70 million in Nortel gear.
After previously lagging behind the pace of U.S. competitive carrier network deployment, Hudson says, the telecom equipment market in Canada has undergone a growth spurt and is as robust now as it is in the U.S. "Canada is seeing some real market development, and MetroNet is a big part of that," she concludes.
MetroNet uses Nortel's AccessNode and AccessNode Express systems, DMS-500 Local/Long Distance switching systems, and S/DMS TransportNode OC-48, OC-12, and OC-3 Express products. The equipment will be deployed throughout MetroNet's point-of-presence locations, along with incumbent local exchange carrier co-location sites for local loop access.
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Data services
On the data side, MetroNet deployed an ATM network of Fore Systems TNX 1100 Core switching nodes, which provide ATM capacity at OC-3, initially between its networks in Vancouver, Calgary, Edmonton, Toronto, and Montreal, with plans to expand. In Ottawa, Metronet recently scored a three-year, multimillion dollar contract with Internet service provider Cyberus Online Inc. to transmit dialup traffic and provide an OC-3 ATM connection.
"They've got a complete solution," says Cyberus Executive Vice President Parm Gill of MetroNet's offerings. "There's no other telco in Canada that can offer that now." Beyond upwards of 20% cost savings on bills in the neighborhood of $65,000 per month, Gill describes the level of service and support Cyberus gets from the CLEC as "phenomenal" compared with those from the incumbent telco.
MetroNet's CLEC networks extend to more than 3,400 intracity route kilometers, with an average fiber count of 48. Connecting its metropolitan networks with the acquired long-haul fiber give it unsurpassed end-to-end connectivity, according to Solomon Smith Barney analysts. Local broadband access differentiates MetroNet from long-haul efforts by Call-Net, Bell Canada, and others, the analysts say.
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Enviable position
MetroNet's broadband access position makes in an attractive consolidation candidate, the Salomon Smith Barney analysts conclude. In the near term, members of the crumbling Stentor alliance will need partners with local access to go national, and MetroNet is the only non-Stentor option for a merged BC Tel and Telus in the East or Bell Canada in the West.
"MetroNet would provide a foreign suitor with a near-ideal entry into Canada's business local, long-distance, data, and Internet market," the analysts say. They note that while Canadian regulations limit the stake foreign companies can hold in telecom companies, they expect the government to ease the restrictions over the next three to five years.
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About the author…
Erik Kreifeldt is managing editor of Fiber Optics Online. He can be reached at 202-452-8675; ekreifeldt@fiberopticsonline.com.