A Telecom Capital No Longer
By Jerry Knight
Washington Post
Monday, February 21, 2005

Washington's days as the center of the telecommunications revolution are over.

MCI Inc., the inventor of phone competition, is being courted by two of the former Baby Bell phone companies. Whether MCI hooks up with Verizon or Qwest doesn't matter. In either case, it'll be the corporate equivalent of marrying the enemy.

Nextel Communications Inc., whose walkie-talkies wiggled into the mobile-phone business through regulatory loopholes, is merging with Sprint Corp., the biggest communications company outside the former Bell family.

American Online Inc., which literally put America online, has become little more than a sideline for the multimedia moguls of Time Warner Inc.

The Washington region still boasts a dozen-and-a-half publicly traded telecommunications companies, but only a few of them have made money for their shareholders over the past year.

What once was the region's most promising growth industry has been largely reduced to a few struggling providers of phone and Internet services -- more mom-and-pop than Ma Bell -- and some small suppliers of hardware and services to the big boys.

Why did Washington lose its leadership role?

Because Washington has lost its relevance.

Government regulation made Washington the birthplace of competition in communications, but the era when regulation determines who can provide what services to whom is past.

"Telecom World War I is over," said Scott C. Cleland, chief executive of the Precursor Group, Washington's best-known telecom think tank. "This is the formal end to the era of managed competition" under government communications regulation.

That war pitted the independent long-distance services led by MCI against AT&T and the seven regional phone companies that were spun off from it to transform the phone business from a monopoly to a competitive market.

AT&T and the spinoffs won that one. MCI may have carried the battle that opened up competition in the long-distance market, but its disastrous marriage to WorldCom pushed the company into bankruptcy and then the arms of the enemy.

Telecom's World War II is underway, Cleland said. This time it's a multi-front war between the phone companies and the cable companies, between the phone companies and the technology companies working on ways to make conventional calling obsolete, and between the phone companies and the Internet.

MCI and Nextel will be influential in this war, but as parts of bigger companies.

AOL will be on the side of the cable industry this time because Time Warner is the nation's No. 2 cable company.

The most extreme threat facing the phone companies, Cleland said, "is that technology companies can figure out how to do voice over the Internet for free, or nearly free."

Millions of early adopters are already making calls over the Web using voice over Internet protocol. There are technology and voice quality problems, but if they can be conquered, the old-line phone companies will likely lose Telecom World War II.

Washington lawyers and lobbyists will be mobilized in the fight for the future of electronic communications. But they are not going to be the decisive combatants they were in the fight that began 30 years ago when William G. McGowan filed the lawsuit that won MCI the right to compete in the long-distance business.

Since then, competition has driven down the price of long-distance calls -- and the value of the long-distance companies. MCI was sold to WorldCom for $30 billion. After Chapter 11 reorganization, what remains of the MCI-WorldCom operation has attracted bids from Qwest Communications International Inc. and Verizon Communications Inc. that range from $6.75 billion to $8 billion.

Cheaper phone calls and cheaper phone stocks are the free market at work, dollars-and-cents examples of the "creative destruction" that capitalism can unleash.

Washington investors know the list of casualties all too well. PSINet Inc., once the biggest Internet network, and Teligent Inc., the company that was going to make wires obsolete by linking offices through wireless networks, both are gone. Other local telecoms are in the limbo of Chapter 11 bankruptcy reorganization.

Many of those companies were taken down by the very government regulations that created their business. Cleland said misguided government policies triggered the telecom crash. Encouraged by Washington policymakers, too many firms built fiber-optic networks and too many decided they could compete against the local phone companies.

As the strongest survivors of that debacle, Nextel and MCI are leading the consolidation of the industry, which is likely to lead to the sale of some of the smaller players in the region.

The only really revolutionary communications company left in the Washington area is XM Satellite Radio Holdings Inc., which has yet to turn a profit, but has made an enormous amount of money for investors in the past two years. XM stock is up 44 percent over the past 12 months after gaining 877 percent in 2003.

In the fall of 2002, when it looked like XM might not make it, the stock fell as low as $1.75 a share. XM stock closed Friday at $32.62 after hitting $40 a share before technology stocks pulled back this year.

XM has signed up 3.2 million customers for its pay-to-listen satellite broadcasting service and expects to pass the 5 million mark by year-end.

The question for investors now is not whether XM will survive, but whether its stock is overpriced. Despite such reservations, XM is rated as "buy" by 14 of the 25 analysts whose ratings are reported to Bloomberg.

Just four other local telecom stocks have produced positive returns for investors over the past 12 months:

First Avenue Networks Inc. of Charlottesville, up 279 percent. First Avenue acquired the fixed-wireless operations of Teligent after that company went into bankruptcy.

Essex Corp. of Columbia, up 133 percent. Essex's niche as a provider of high-security communications for the Defense Department and other government agencies makes it more of a defense contractor than a communications company.

NII Holdings Inc. of Reston, up 65 percent. Formerly known as Nextel International, NII offers Nextel-brand wireless service overseas, primarily in Latin America.

Visual Networks Inc. of Rockville, up 2.6 percent, Visual Networks makes equipment for monitoring and managing fiber-optic networks.