Breakup blues: Regulators slow to move on structural separation

Structural separation, the splitting of a local telco's wholesale and retail operations, is taking on a new twist as federal regulators order some RBOCs to provide data services through separate affiliates.

Regulators want to ensure fair play between incumbent local exchange carriers (ILECs) and new competitors in order to goad them into the era of local phone competition envisioned by the Telecommunications Act of 1996.

According to the competitive LECs (CLECs), the best way to level the playing field is to break up the ILECs. But, as in romance, breaking up is hard to do.

In its pure form, structural separation involves splitting an ILEC into two independent companies - a wholesaler of network services to other carriers and a retailer of voice and data services to business and residential customers.

Some CLECs insist that structural separation is the only way to force ILECs to lease local loops and other network pieces on the same terms given to the ILECs' own retail arms.

"Where you have an organization that is both a competitor and a wholesale provider, there's a human tendency to give your own retail [business] preference over others," said James B. Ginty, president of AT&T-Pennsylvania.

ILECs often don't follow interconnection agreements' terms for network access, said Kim Kirby, vice president of state affairs of the Association for Local Telecommunications Services. "It's a problem with the conduct," she said. "Structural separation seems like the only way to go now."

Telcos, however, say that breaking them up is bad policy that only adds costs and inefficiencies, which get passed on to consumers.

"We think it's absolutely unnecessary in law and fact. In law, the Telecom Act does not require us to separate. There's no benefit to be derived from it," said a spokesman for Bell Atlantic-Massachusetts.

Section 272 of the Telecom Act requires RBOCs to form separate affiliates to sell competitive services, including in-region, long-distance service.

Despite the CLECs' push, structural separation hasn't caught fire with regulators. Some states don't have the legal authority to order it; those that do are busy with other issues or don't want to ruffle ILEC feathers, according to some experts.

And there has not been a good test to see if structural separation really works.

The Pennsylvania Public Utility Commission last September became the first state commission to order the operational split of an RBOC when it told Bell Atlantic to create separate units for wholesale and retail services.

The split hasn't occurred because Bell Atlantic is fighting it in three courts. A proposed settlement, in which the RBOC would form a separate subsidiary for data services only, also is on hold.

The settlement "is not as complete and devastating as what the commission proposed," said Ron Weigel, Bell Atlantic-Pennsylvania's director of government relations.

Some carriers voluntarily separated their wholesale and retail businesses. Rochester Telephone in New York (now Frontier Corp.) voluntarily split in 1994 under market conditions much different from today's. Connecticut regulators approved Southern New England Telecommunications' request to split in 1997, but the carrier later abandoned the plan. SBC Communications bought SNET the following year.

Given this checkered history, structural separation currently is morphing into a less radical version that involves separate subsidiaries for data services only. ILECs find this form more palatable. CLECs say it draws a false distinction because incumbents own the lines that carry voice and data traffic.

The FCC, not the states, leads the charge now. It required SBC to form a data services subsidiary as a condition of its merger with Ameritech, finalized last year. Bell Atlantic formed a similar company shortly after it gained approval to sell long-distance service in New York last December.

Creating these subsidiaries is "a challenge" because ILECs must make financial and operational breaks, said Nancy Kaplan, vice president of Renaissance Strategy, a consulting firm. They must buy new equipment, hire sales forces and make a profit on their own, with no help from the parent company.

Starting a company from scratch was "a very massive effort," said Marian Dyer, SBC's vice president of federal regulatory affairs. "You have to get people and systems and figure out what assets you have to have."

Advanced Solutions Inc., SBC's advanced-services affiliate, sells frame relay, DSL and other data services throughout SBC's territory. Pacific Bell and Nevada Bell sell these services in California and Nevada while licenses for ASI are pending.

Bell Atlantic's data subsidiary, Bell Atlantic Network Data, will be fully operational in New York by July 1, said President and CEO Amy McIntosh. "This affiliate will face the telco the same way as any data CLEC," she said.

The call for entire wholesale-retail splits hasn't totally died. The idea keeps popping up on the state level (see table).

In the long run, though, the allure of structural separation may fade as RBOCs gain approval to sell long-distance service in their territories. ILECs will satisfy the Telecom Act's checklist of market-opening requirements, supposedly calming CLECs' fears of unfair play.

The push for structural separation also may die because it simply takes too long to implement, Kaplan said. CLECs want relief sooner rather than later, and market changes may make the policy a thing of the past, she added.

Ohio House Bill 613, introduced in March, allows the Ohio PUC to penalize ILECs that don't open local markets by 2002, including leveraging fines and structural separation. Hearing held in April

Illinois House Bill 3982/Senate Bill 1665, introduced in January, are similar to Ohio bill above

Massachusetts Nextlink proposes wholesale/retail split of Bell Atlantic to gain state's OK for long-distance entry; no action by the state's Department of Telecommunications and Energy

New Mexico Gov. Gary Johnson (R.) proposes structural separation of U S West in white paper to state legislature; no action taken