Mar 29 2010
A Perspective from the Chair: Short Version
This writing addresses the issue as to whether Seattle should build and own a broadband system, also referred to as a “fiber network” for its residents and businesses. This is a condensed version. While Mayor Nickels and previous Councilmembers have supported the concept and invested in determining the feasibility of building a fiber network, Mayor McGinn has announced that Seattle should build a citywide fiber network. Mayor McGinn plans to prepare an application for federal grants and is developing a plan for local financing.
The issue: Should Seattle build a fiber network for all of its residents and businesses?
Analysis: To sustain a successful business and learning environment, we must make sure affordable, next-generation broadband access is available to all residents and businesses. Our neighbors in other smaller cities and regions are investing in stronger technology systems to attract people and businesses. Maintaining the status quo regarding Internet speed and capacity could mean Seattle is left behind. Moreover, there are parts of Seattle that receive poorer broadband access than others.
Seattle is a technology and business leader. To continue that leadership and remain a renowned hub of innovation, Seattle should have a network that provides residents with download speeds of 20 Mbps to 100 Mbps and upload speeds of 10 Mbps to 50 Mbps. The network infrastructure should be capable of offering symmetrical download and upload speeds of 100 Mbps by 2020. This type of high-speed Internet would advance our access to medical monitoring tools, distant learning tools, and running a small business from your home.
To a practical user, what does a 50Mbps or 100 Mbps connection mean? If you just surf web pages, upload some photos, watch streaming videos or download music, then the bandwidth capacity from today’s broadband and DSL services are fine; 1 to 6 Mbps. But web services are rapidly increasing and the “New Internet” will require higher bandwidth for its applications and services. Internet video accounts for one-third of all consumer traffic and is expected to reach 60% of all consumer traffic by 2013. The culmination of all video modes (television cable, video on demand, Internet streaming videos, and peer-to-peer) will comprise 91% of global consumer traffic by 2013. On February 16, 2010, the Federal Communications Commission finally put a jolt in America’s broadband position by calling for 100 Mbps Internet Access by 2020.
This means that we cannot stay on the same track regarding Internet capacity and speed. We can lose any advantages that we now have. Providers such as Comcast and Qwest recognize this issue and are offering more speed and capacity. Critics suggest that these offerings are based on coaxial or twisted pair wiring solutions as opposed to high-speed fiber; are only offered in limited areas and to limited customers; and, are too expensive.
Who should build it? As a strategy, the City should aggressively incentivize the private market providers to enter. This approach smartly uses the healthy market forces of competition to drive better service and pricing points. It allows the core competencies of technology companies to penetrate an emerging market and compete for our business. These market forces can be lost in a system that lends itself to a monopoly and, in particular, one owned by the government. However, if the private market cannot or chooses not to meet this emerging
need and a record is established that demonstrates this conclusion, the City should aggressively fill this void by lawfully investing into this opportunity as cities have done in other jurisdictions throughout the country.
The City’s business case should include, among other things, a demonstration of the private market’s unwillingness to enter the market; an analysis of the customer take-rate that will be necessary to repay the revenue bonds necessary to build the network; and, whether a limited market trial should be established prior to city-wide deployment. Since fiber is capable of providing cable television, Internet and landline phone services, a decision as to what line of business the City should offer should also be established. Comcast and Verizon, for example, offer bundled services referred to as “triple play” and Seattle should decide whether it would also provide a triple play. I believe an “Internet only” play, for a variety of reasons, makes better sense.
What role should the City play? The City can stimulate the market by building fiber-to-the-neighborhood (FTTN) which entails approximately 800 miles of new fiber strands at a cost of roughly $150 million. The City already has approximately 450-500 miles in place, 200 of which connect 10 high schools, 9 middle schools, and eventually 70 elementary schools. In this scenario, the City would attract private companies to complete the “last mile” to the premise and would pay back the bonds that paid for this construction through access fees assessed to the private company. The other option is for the City to actually build a fiber-to-the-premise (FTTP) network, running fiber all the way to the home or building. In the most recent financial model, to equip all homes and businesses with fiber, the investment needed could easily be
upwards of $700 to $800 million dollars.
Bottom line? I believe we should immediately determine whether we have exhausted all measures of collaboration with current service providers. The City of Seattle has established monopolies in providing power, water and solid waste services, as examples. Establishing another city-controlled monopoly, even if using a wholesale model, requires a heightened justification. If we have a record that the private market is unwilling to meet the needs of our city and clearly understand the business basis for that decision, then Seattle should build a fiber network under the conditions described in this memorandum.
Are Seattle’s current needs met?
Our current infrastructure to deliver Internet, cable television, and phone/voice within the 84 square miles in Seattle is a hybrid system consisting of a fiber backbone with copper running the last few miles to the home or premise. Copper refers to twisted pair telephone lines as well as coaxial cable. The major wired service providers in Seattle are Comcast, Qwest, and Broadstripe.
If service providers do not provide next generation broadband speeds at competitive prices, the most important reason for a City to build a fiber network is the strategic advantage that residents and businesses will have compared to other cities in terms of competition, innovation, and high-speed fiber capacity. Proponents of a citywide system will answer the “needs met” inquiry with a resounding “no.” However, service providers will point out the fact that 74% of residents already have high-speed Internet access and that the businesses’ needs of 20 Mbps are already met by existing commercial offerings. Service providers will argue that there is a limited demand for 50 Mbps in the residential market and had there been such a demand, they would respond to it.
This is, of course, a major difference of opinion. Therefore, Seattle must know with certainty whether such a market exists for this type of capacity.
It must be noted: a survey conducted in 2008 showed that 75% of Seattleites believe the City has a major role in ensuring that students, parents, and teachers have high-speed Internet access. The survey also indicated that 49% of the respondents said the City should build a publicly-financed communications network.
Other significant benefits. Data shows that a $500 million plus, fiber-to-the-home investment in Seattle will lead to 10,000 direct and indirect jobs. The environmental monetary savings for Seattle will total $324 million in terms of offsetting vehicle expenses, traffic congestion, electricity, and improved teleconferencing. The monetary health care benefits totals $602 million from reduced costs and enhancing quality of healthcare. Medical cost savings associated with cardiovascular and diabetes total $500 million. The reduction of vehicle miles and teleconferencing could lead to an annual reduction of 535 million kilograms of CO2 emissions, which is equivalent to removing 102,294 vehicles from the road (conversion from http://www.epa.gov/RDEE/energy-resources/calculator.html).
The issue of a municipally-owned fiber system is not as simple as determining whether Seattle should build one; it also requires an examination of what they would actually own and who their customers would be.
Let me describe the different fiber network scenarios:
Option 1, Fiber-to-the-neighborhood (FTTN): The City builds and controls a fiber-to-the-neighborhood network in Seattle. The initial $150 million dollar capital to build the fiber-to-the-neighborhood network attracts investments from other companies to build the “last mile.” The customer at the premise or business can also contract with a company to build the last mile to their home. Private companies will be selected to operate the network and offer services to these residencies and businesses and will pay the City an access fee to use the City’s neighborhood fiber network. These access fees will pay back the $150 million dollar revenue
Option 2, Fiber-to-the-premise (Wholesale model): The City builds and controls a fiber-to-the premise network in Seattle. The capital investment will total $450 – $500 million dollars with a recent study mentioning an $800 million dollar price tag. The City will run 1600-1800 new miles of fiber in the City. Because of the elimination of the upfront capital costs, companies would be enticed to provide service on the City network and pay the City an access fee. The City does not generate content but instead provides the pipe. Revenues from the access fee will pay back the revenue bonds. This is called the wholesale network model.
Option 3, Municipal Fiber-to-the-premise (Retail Model): The City builds, controls, and sells retail services to customers. This is the direct retail model and would be a new Utility similar to Seattle City Light. 2,000 customers would need to be added per month to meet the market share of 24% to be successful. Compared to the wholesale model, the retail model needs a smaller percentage of market penetration to pay back the revenue bonds.
Option 4, Municipal Fiber-to-the-premise (Hybrid Model): This model combines the retail and wholesale models. The City builds, controls, and sells retail services for seven years. This period would require the City to capture a significant market share to generate enough revenue to pay back the revenue bonds. After seven years or when the City repays the bonds, the fiber network would be opened up for all retailers. The market share required for this model to be successful is projected at 24%.
Comparing the 4 options: Of the three models: retail model, wholesale model, and hybrid model, the retail model would require the biggest bond at $478 million. The hybrid model is $473 million and the wholesale model is $459 million. The retail model would require the most employees at 190; 161 for the hybrid model; and, 33 employees for the wholesale model.
Problems with the Wholesale Model: Data from 2007 identifies several issues with the wholesale model. Because service providers will be paying the City an access fee to use the fiber-to-the-premise network, one significant issue could arise as to whether they would cherry pick the customer base. The numbers from that study suggested that the City needed to collect at least $40 for access to residential customer to pay back the FTTP network. The retailer would therefore target customers willing to pay $75 per month on services. Households that spend $40 or $50 per month would likely be excluded from the fiber network since no retailer
would choose to serve them.
For small business customers at $75 per month and $150 per month for large businesses, the same vulnerability to cherry picking exist. In most markets, roughly 20% of customers buy the most expensive full package of products and a cherry picker will target that 20% of the market and, if they do, well, there will not be enough sales to sustain Seattle, as the wholesale network owner.
The Retail Model: The retail model in which the City builds and sells services on the fiber-to-the-premise network presents different risks than the wholesale model. Data shows that the City would need to provide a 15-20% discount from today’s incumbent prices for all services in order to achieve the needed market share for success. Data also shows that the City should only compete for services for residential customers and small business customers. The data recommends that the City not compete for large business customers because of the complexity of large business networks. Fiber access or the option for fiber is already available for downtown buildings.
The End Game:
Because of the technological capabilities, innovation, economic and educational development that could result from building a fiber-to-the-premise network, no one debates the merits of such a network. The elephant in the room is the cost and how to go about building one where incumbent providers exist. Both retail and wholesale models have pros and cons and would generate enough cash to pay back over 20 years depending on market penetration. From a financial perspective, the retail model is a better model, generating $270 million in surplus cash over 20 years at 30% market share. The wholesale model would only generate $7 million. At 40% market share, the retail model would generate $488 million in surplus. Because to date, no private company has decided to build and operate such a fiber network in Seattle, the retail model does present itself as an option for the City of Seattle.
Competitor Reactions: I would anticipate the fact that if the City became a service provider for fiber service(s), it would provoke litigation from the incumbent carrier similar to what occurred in other cities. For the City to enter the telecommunication service arena, we would be competing against companies with more experience and with strategic plans that have examined decades of consumer behavior. This is a huge undertaking and of the three fiber services, a strong argument could be made that the City should only enter the Internet business.
Conclusion: To suggest that Seattle has neglected a plan to deploy high speed fiber is somewhat naïve and inaccurate. There is a reason why no major city has launched their own system. However, a city-build within the confines of these parameters makes sense and I would like the Council and the Mayor to be in a position within six to eight months to move forward with a clear plan. There is much outreach and education that goes along with this plan, given the fact that we are essentially building another City-owned utility and an acceptable amount of residents and businesses must agree with this plan in order for it to work.