Is Switch Partitioning Feasible for CLECs?
Posted: 03/1999
Is Switch Partitioning Feasible for CLECs?
By William H. Tucker
competitive local exchange carrier (CLEC) is seeking efficiency, switch partitioning is
emerging as the fourth viable opportunity–behind bundled resale, leasing unbundled
network elements (UNEs) and network overbuilds–to more effectively serve its customers.
Not everyone embraces the notion of leasing switched minutes of use (MOU) from a
nonaffiliated company. Their concerns are legitimate. For one, it may involve leasing from
a direct competitor. Second, a CLEC may fear it will lose control of the customer; for
example, should a network problem arise, limited assurances exist that the customer will
be given the desired network priority. Third, while not technologically new, switch
partitioning represents a new type of wholesale product. This means that critical
contractual issues, such as pricing and terms, are not standardized yet. Finally, a host
of switching solutions and financing options are available from the larger switch
manufacturers as well as many of the smaller modular switch makers. The wide variety of
vendors and products allows a CLEC to acquire a switching solution tailored to fit its
customer and market needs.
Potential Benefits
Given these concerns, why would a CLEC even consider leasing switching from another
carrier rather than purchasing its own switch? Four primary reasons exist.
Improved Margins Compared to Bundled Resale
As nearly everyone agrees, bundled resale offers very limited opportunities at best to
generate positive operating margins. Most bundled resale discounts range from 15 percent
to 25 percent below retail. Add a requisite 10 percent (or greater) customer discount to
the end user, and it quickly becomes clear that any positive margins with bundled resale
will be very difficult to attain.
Additionally, with bundled resale, the incumbent LEC (ILEC) keeps the switched access
revenues. While switched access charges are the bane of the long distance industry, these
revenues are a boon to the CLEC industry. The benefit from either owning or leasing
switching is that switched access revenues accrue to the CLEC, and no longer to the ILEC,
thus significantly improving operating margins.
Quicker Market Entry
Leasing switching speeds market entry by enabling a CLEC to serve customers during what
is normally the provisioning cycle of the switch. Ordering and provisioning a switch
typically takes from nine months to a year or more. Through leasing, that cycle can be cut
tremendously.
One issue that must be addressed when leasing a switch is the interconnection status of
the switch leaser. To the extent that the leaser already has an interconnection
arrangement with a regional Bell operating company (RBOC), such as GTE Corp. or Sprint
Corp., it also is possible that the leasing company can ride those facilities and escape
the trunk-provisioning phase of implementation. Note however, that if the leaser does not
have interconnection, or if the leaser is unwilling to share the interconnection with the
leasing company, then the leasing company will be fully responsible for arranging new
trunks for interconnection. That process alone can take as long as six months. The best
time savings come when a company leases switching and interconnection capability as a
package.
Switch partitioning is not recommended for a CLEC that plans on purchasing a switch
within a year or so. The effort required to partition the switch, work out the operational
agreements, measure the traffic and subsequently migrate that traffic to its own switching
platform probably is not worth the effort in that time frame.
Fewer Up-Front Costs
Purchasing a switch typically requires a seven-digit investment. For markets where
market share may not support that level of capital outlay, partitioning a switch and
leasing MOUs can offer the benefits of owning facilities without the related large capital
outlay. Switch partitioning offers a pay-as-you-go approach for MOUs. For a CLEC with a
small customer base, the costs are lower, and as that CLEC gets larger, the costs increase
proportionally. Size does matter; eventually there comes a crossover point in which the
larger a CLEC gets, the fewer benefits it will receive from partitioning vs. ownership.
Entry into Small Markets
Many third-tier markets have attractive business prospects, but are not large enough to
support switch acquisition. Some markets already possess a glut of switch-based CLECs.
This may give a CLEC an opportunity to obtain very favorable switching terms. With bundled
resale offering minimal long-term opportunities for positive cash flow and markets often
too small or too crowded to justify switch purchase, leasing switching may allow the
necessary cash margin without the required capital investment.
Considerations
A CLEC that wants to entertain switch partitioning based on any of these potential
benefits needs to pay careful consideration to certain issues–namely pricing, contracts
and terms.
Pricing
Switch partitioning can be priced on a per-MOU basis, on a per-line basis or by paying
for services a la carte. On a per-MOU basis, there are two key considerations: a CLEC
pays for originating and terminating MOUs, not just originating; and a cap on
minutes per line is advisable to avoid paying for hours of customers’ dial-up Internet
time.
A per-line agreement limits exposure to high-traffic users. While it brings certainty
to switching costs, it is, in all likelihood, not a least-cost option. Many business
customers have limited local calling, and paying several dollars per line, per month may
be insurance, but it also may prove unnecessary.
Finally, a CLEC may want to carve out certain components of the switch and pay for
those separately. One example would be technical support, in which it may be better served
with a slightly lower switching rate while agreeing to pay for technical support on an
hourly basis. Other potential cost carve-outs include the initial provisioning work for
trunking as well as provisioning for the turn-up of new customers, disconnects and other
moves and changes.
Terms
Not only must a CLEC understand the price it will pay, but also more importantly, what
it is getting for its money. It is critical to know exactly what products and
services will be provided. For example, all standard features probably are included in the
price, but what about voice mail, remote call forwarding and rotary hunt? And how are
future generic upgrades handled? Does the cost include all new features associated with
all new generic upgrades? And if so, does the MOU cost increase as additional generics and
memory are added to the switch, or are capital upgrades included in the price? How are
items such as recording, signaling system 7 (SS7) transport and dips into the various
databases charged?
Another key item to understand is maintenance. As with an interconnection agreement, a
CLEC will want to establish trouble-resolution metrics and an escalation and notification
procedure. It is important to develop as much certainty as possible with respect to timely
response to customer concerns.
Related to maintenance are provisioning issues. How long does it take to program and
provision a line? And are there different time frames and costs between a line, a key
system trunk, a ground loop start trunk and a Centrex line?
A Real Strategy
Given these uncertainties, will switch partitioning ever make a substantial market
play? It is too early to tell. However, looking at the long distance marketplace as an
indicator, the answer is probably, "yes."
Long distance resellers make their living from purchasing switching and transport from
direct competitors. The issues listed above all have been addressed and standardized to a
large degree by that market segment. Most CLECs are still in a market-share acquisition
stage, and have not spent resources to develop a wholesale market presence for switching.
But at some point, switch-based CLECs will run into market share limitations, and will
start trying to utilize the excess capacity to cost-justify their very expensive switches.
When that happens, it probably will cease to be called switch partitioning, and simply
will be referred to as local minute resale.
William H. Tucker is principal for the Competitive Communications Group (CCG),
Riverdale, Md., a strategy consulting firm offering advice to carriers in the areas of
business development, operations, pricing, employee training and regulation. He can be
reached at BTucker@c-c-g.com.
