Comcast Plunges Into Telephony


Comcast Corp. wrapped its arms a little more tightly around the telephony business last week — albeit gingerly — through its proposed merger with AT&T Broadband.

At the same time, the Philadelphia-based MSO maintained a relationship with software giant Microsoft Corp. that's financial, rather than operational.

The deal to create AT&T Comcast Corp. weds two disparate telephony agendas. AT&T has rolled out circuit-switched telephony to 924,000 subscribers in more than a dozen markets, with 6.2 million homes passed.

But Comcast — save for a handful of circuit-switched operations inherited from MediaOne Group Inc. and Jones Intercable Inc. — has steered clear of telephony, preferring to wait until suitable Internet-protocol technology arrives.

The Broadband deal has changed that tune. Comcast executives now express enthusiasm for rolling out telephony a year from now, when the deal is set to close. And that change help seal the merger, according to some analysts.

Comcast's conversion to a pro-telephony stance occurred during due-diligence discussions this fall. That's when executives realized AT&T Broadband had already spent much of the necessary capital to get into the business and returns could come quickly.

"We've identified for a long time that telephone was a major opportunity for the cable business," said Comcast cable unit president Stephen Burke. "The advantage of being combined with AT&T Broadband is that they've been going through all of the hard work, all of the development, all of the investment both financial and in terms of people and systems to understand the telephone business."

Merging with an MSO so heavy into telephony "wasn't a shift in terms of long-term strategy," said Comcast president Brian Roberts. Rather, it was a look at cable's telephony opportunity over the next five years.

"We haven't started in earnest, but there is no bigger revenue opportunity," Roberts acknowledged.


But it's still undetermined whether AT&T Comcast will roll out IP or circuit-switched technology next year.

Saying telephony was "a smashing business for us," AT&T Broadband CEO William Schleyer said the MSO wants to roll out telephony across the largest possible footprint, as quickly as it can.

About 80 percent of Comcast's cable subscribers are in markets served by AT&T switches. In a slide show presented to analysts, AT&T talked about introducing telephony to 1 million Comcast homes in Philadelphia and Detroit next year.

"We would anticipate this year rolling it out to at least another couple of million homes, and then assist Steve [Burke] and crew in getting ready to roll it out at the end of 2002," Schleyer said.

He noted that AT&T's cable-telephony business will break even in first-quarter 2002, and said the economics of the business would only improve with time.

The incremental costs of providing telephony — now at $700 per home — will drop to the $500 range by 2005, even without IP technology, he said. Yearly EBITDA telephony revenue per home will climb from $300 to the high-$300 range.

That still leaves Comcast inheriting millions of dollars of circuit-switched telephony gear.

But former AT&T Broadband chief technology officer Tony Werner doesn't think the switched network now in the field will necessarily hinder a conversion to IP.

Given the constant-bitrate, switched telephony now in place, the conversion to IP using a Data Over Cable Service Interface Specification (DOCSIS) cable-modem channel "isn't necessarily radical," Werner said. "I think that AT&T was looking more and more at moving and graduating toward IP anyway."

In areas where circuit-switched technology is already deployed, "you'll probably continue deploying the constant-bitrate product for a while because you have got the investment sunk, it's working and you have got the OSS and all of that," Werner said. "But as you start turning up new markets, or start to exhaust capacity even within these markets, I think you will see them quickly start leveraging the IP approach.

"My belief is that you would keep a parallel track for a long time, and it's not a big issue," he added. "It's like having two different types of set-top boxes in your system. Just because you come up with a brand-new fancy set-top has never meant you go and throw the old stuff out."


Microsoft's stake poses another key technology question. The software giant will convert its $5 billion debt investment in AT&T Broadband into 115 million shares of the new company.

"From Microsoft's perspective, it is a market-based transaction in converting the debt to equity," Roberts said. "And there is really no strings attached, so I think it was just an opportunity to allow us to convert one investment where they could only get a five percent return. They believe in broadband and hopefully they will be successful, but that will be their judgment."

Redmond, Wash.-based Microsoft declined to estimate how much of an ownership stake its shares will buy, saying that would be determined only when the deal closes.

But in a statement, Microsoft said it had "enjoyed a successful partnership with Comcast and AT&T for many years and we are pleased to support the combined new company, and have long believed in the vision of both Comcast and AT&T. Microsoft's support is consistent with our long-term commitment to advancing broadband deployment and software services."

Janco Partners Inc. cable analyst Matt Harrigan said Microsoft's strategy in the Comcast-AT&T merger was aimed more toward handing a defeat to longtime nemesis AOL Time Warner Inc.

"I think some of it is defensive, and clearly they look very long-term and they are anxious to be on the winning side on the interactive-TV software," he said. "That's the essence of it. But I think that Redmond's record on investments has been mixed at best."

And there's no guarantee the cash will ensure Microsoft a position in AT&T Comcast's ITV lineup. Microsoft made a $1 billion investment in Comcast several years ago, but has not won an interactive software deal with the MSO.

"The answer is that the only way they really get there is if their technology is optimal for the operators," Harrigan said. "The investment in and of itself doesn't matter, because you can't afford to jeopardize your brand equity by going with Microsoft, and frankly there have been a lot of issues."