Why I'm Filing Chapter 11

Friday, May 21, 2004
The Wall Street Journal
By David C. McCourt

Sometime in the next week or so, I anticipate that one of my companies, the cable, phone and video provider, RCN, will file for what is known in the business as a consensual, pre-arranged Chapter 11 bankruptcy. That hardly makes me unique. Since 2000, nearly 70 major telecom companies have filed for bankruptcy. Hundreds, if not thousands, never even made it to Chapter 11.

The prevailing wisdom on Wall Street is that these bankruptcies and the whole telecom meltdown were the inevitable result of too much capacity chasing insufficient demand. In Washington, meanwhile, the White House and lawmakers are worried that record-low phone rates might begin to creep up. But by any measure, phone competition has been a wild consumer success. Long distance rates have plummeted over the last seven years and the innovations of Voice-over-IP (VoIP) promise still cheaper, better service.

Having built, bought, or started 10 telecom companies in the last 25 years, I think both Wall Street and Washington overlook the most persistent problem: The cable industry remains in the grip of a monopoly mindset. Despite all the innovation, the surge in new players, and the billions of dollars lost since the passage of the 1996 Telecom Act, cable rates have soared 40% and the industry giants continue to think in terms of how to dominate markets rather than how to drive innovation. The bankruptcies that sidelined so many upstart cable providers have effectively spared the cable incumbents from facing competitive pressures - at least for the moment.

Competition in both the voice and video sectors was suppose to start after the passage of the Telecom Act. The deployment of fiber-optic networks was also critical because, when coupled with the Internet, they instantly erased artificial barriers between phone, cable and data service. Suddenly, one pipeline to the home could potentially offer everything faster, better and cheaper.

RCN was one of the "overbuilders" that started constructing a fiber pipeline in densely populated neighborhoods where competition was unknown. I believed - and still do - that a new infrastructure to the home was the critical step to creating a system that can bundle and deliver every type of service that consumers would want. Not just phone, cable and Internet, but home security, energy monitoring and even appliance diagnostics.

RCN's strategy depended on vast amounts of capital, and a calculated bet that we could manage the balance sheet and replace debt with equity. When the capital markets suddenly shut down in the face of the stock market collapse, that financial strategy was no longer viable. But the calculated risk on the balance sheet was never a bet on the business model itself.

That idea of building a network that could attract multiple streams of revenue was drawn on the economics I learned as a freshman in college. Those economic principles dictated that if you have a network, you want to make it as expansive as possible and that if you own the content you want to deliver it over as big a network and to as many people as possible.

Until 1996, the entire telecom industry operated on exactly the opposite principle. The incumbents depended on closed, proprietary systems guarded by regulations and old technology. The strategy was like building a road system that only goes to your store, or a railroad that only goes to your town.

Desperate to survive, the phone companies changed their ways quickly. They realized that the telephone service was becoming a commoditized product, not a business. So for the first time in over 100 years, they started invading one another's markets to offer additional services, lower prices and better service.

By contrast, the major cable companies still divide-and-rule territory. When one company buys close to another, the rivals simply exchange geographic service areas, so that each side can expand their local fiefdoms - the same business model championed by Tony Soprano.

The cable companies have also relied on closed, proprietary technology to inhibit open competition. Rather than let customers go to Radio Shack and buy a standardized set-top box, they force you to rent their proprietary converter boxes. Over the last five years, RCN has had to spend nearly half a billion dollars replacing proprietary equipment each time a customer switched to our service.

Even more irritating to consumers is the way the cable giants package their programming. This may be the only business in the world in which you have to purchase a product you don't want in order to get the product you do. If you want to watch a ball game, you are forced to buy the garden channel. If you want to watch a movie, you're forced to buy kids' channels, even though your kids may have left home long ago. In some systems, cable operators own nearly 50% of cable programming, so they have decided that consumers are going to pay for it. Can you imagine if Wal-Mart insisted that you buy a hairbrush when all you wanted is a toothbrush? Or toilet paper when you only want wallpaper?

Comcast's recent bid to acquire Disney would have taken this anticompetitive approach one step further. Had the merger plan taken-off - and if not this one, other, similar mergers will - then Disney's content would have been harder to get, more expensive, or less convenient to find for any consumer not part of the Comcast family.

Fortunately, the telecom story is not over. For many telecom companies - including my own - bankruptcy is not the end, but a new lease on life. I believe that the wave of bankruptcy filings will help launch a new era in telecom. Over the next year or two, I suspect we will see many companies re-emerging from bankruptcy, now in a much better position to compete without the dead weight of debt on their back. These may well be the companies that bring Voice-over-IP technology to the cable world, creating "Video-over-IP" competitors who change the way customers bring television into their homes. That possibility should worry today's cable giants who have been ignoring the logic of economics, the possibilities of technology and the interests of consumers for far too long.

Mr. McCourt is chairman and CEO of RCN Corporation.

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