Deregulation deja vu

In the wake of telecommunications deregulation, everyone agrees that the next few years will be filled with confusion and turmoil in this industry. Local exchange carriers such as Ameritech and Bell Atlantic will invade the turf of interexchange carriers like MCI and AT&T-and vice versa-in this new environment. The coming years will be critical, filled with opportunity and peril for all companies involved.

Who will the winners and losers be? Which companies will prosper and which will struggle? Although no one knows for sure, it may be possible to make some accurate predictions based on the experiences of the airline industry since 1978.

The most obvious similarity between the two industries is that both were essentially regulated monopolies within their franchise areas before deregulation. The LECs had a monopoly with dial tone services, and the airlines had a monopoly with air routes. Airlines and telcos weren't called "common carriers" for nothing. The price protection afforded the airlines through route (service) monopolies led to their mentality of increasing profits by increasing revenues-hiking fares-rather than decreasing costs. The same mentality is present in all regulated rate-of-return environments, as opposed to the free market supply-and-demand environment that deregulation imposes.

During the airline deregulation hearings, an American Airlines training manual was introduced that proclaimed in bold letters, "American's basic sales policy is to sell the highest-priced product that the customer is willing to buy to obtain the service he prefers." Perhaps until recently, telcos have taken the same attitude with regard to ISDN sales.

In addition, the infrastructures of the two industries are similar. Both deal in networks, routes, trunks, hubs and connections. An airline generates revenue by filling up seats on a airplane just as a telco generates revenue by filling up channels in a trunk. The airline seats all have to take off whether paying passengers are in them or not. Likewise, idle channels in trunks are still streaming idle bit patterns all day. If a regulated airline lost money on one of its routes, the solution was to raise fares. If a regulated telco loses money providing a service, it assumes the service is priced too low, so the solution is to raise rates with the cooperation of the regulating agency. It's pretty hard to go belly up in a regulated world where guaranteed profits are the rule.

Dwindling Carriers Of the 11 airlines dominating the industry in 1978, only three-United, American and Delta-have avoided Chapter 11 bankruptcy, mergers or outright disappearance. Some have been in and out of bankruptcy more than once (Continental, for example). Others have merged into oblivion (Eastern), and some have flown into the sunset (Pan Am).

Braniff filed for Chapter 11 in 1982, only four years after the airline industry was deregulated. It was the first major airline to do so since the advent of the Federal Aviation Administration in the 1930s. Will there be a "Braniff" in the telecom industry?

Meanwhile, the Big 3 have gobbled up 80% of all domestic air traffic and 67% of all trans-Atlantic passengers, but unfortunately, the future is still not bright even for these top airlines. All have had periods of loss, and none has gained the confidence of investors or the general public. Life has turned out to be lonely at the top.

Other airlines actually thrived under deregulation-Southwest Airlines, for one. Before deregulation, Southwest was a regional carrier operating only in Texas. What distinguished Southwest from many other airlines was the fact that, as an in-state carrier only, it was never regulated by the Civil Aeronautics Board. In the telecommunications industry, the IXCs have been deregulated since 1984, which could be an advantage today.

In the area of mergers, the SBC/Pacific Telesis and Bell Atlantic/Nynex deals could be interesting when taking the airline industry example into consideration. Some of the airline mergers quickly turned into nasty struggles. Once the dust had settled on Pan Am's brutal fight with Texas International for control of National, Pan Am had paid twice what National was actually worth and was so weakened by the skirmish that it couldn't survive. Likewise, the hostile atmosphere surrounding the rebounding Texas International's takeover of Eastern poisoned the relationship from the start and led to disaster for both airlines.

In the area of labor, both the airline industry and telecommunications industry have large numbers of union workers whose contracts have to be rewritten or adjusted to reflect the newly merged environment. Pan Am's international work pace and schedule had resulted in higher pay and stricter work rules for its personnel. These rules made no sense for the less hectic domestic routes that National flew. However, the unions received Pan Am's higher pay and reduced work hours after the merger.

TWA took an opposite approach to labor relations in the new environment but with the same disastrous results. TWA demanded more concessions and sacrifices from workers and unions until the whole corporate atmosphere was choking with resentment and cynicism. Even at an annual awards dinner, the TWA chief was not above threatening pay cuts and demanding further union concessions.

The inflation-adjusted average employee wage in the airline industry declined from $42,928 in 1978 to $37,985 in 1988. Ironically, employee productivity rose by 43% during the same 10-year period.

In a regulated industry, managers-especially upper management-don't move from company to company as often as they do in private fields. No one would raise an eyebrow if a financial company's vice president moved to a similar position at a manufacturing firm. But in the predivestiture days of both the airline and telecom industries, upper managers from other fields were considered rank outsiders who just couldn't understand the system.

With deregulation, all rules change. Managers and officers feel unable to cope with new market pressures and competition. Sales representatives cease to be mere order-takers and must actually sell their products; more importantly, they must believe in what they are selling.

After divestiture, AT&T, by its own chairman's admission, did not know how to sell telecommunications services until almost eight years after the breakup-and a lot of the old hands were gone by then. Many marketing efforts have quickly deteriorated to mere gimmickry. (Just what is "True Voice" anyway? Was it "False Voice" before?)

After years with the CAB's route "moratorium," which froze airline routes and prevented entry by start-up airlines, deregulation brought on a feverish market expansion-especially among smaller airlines. The larger ones remained conservative. On the first day of deregulation, for example, United Airlines asked the CAB to approve exactly one new route: Orlando to Buffalo. Braniff, on the other hand, had a wish list of 400 new market opportunities to exploit.

It is also important to realize that expanded services require money. Many airlines raised the necessary cash by increasing their long-term debt, which was the biggest factor determining who survived and who perished. A 1991 government report examined airlines' long-term debts as a percentage of total capitalization during the 1980s. Eastern (gone) rose from 79% to a whopping 473%. Pan Am (gone) went from 62% to 273%. TWA (bankrupt) went from 62% to 115%. Continental (bankrupt twice) went from 62% to 96%. In contrast, United and Delta held their ratios to less than 60%, and American's actually declined to 34%.

In the telecom arena, states have sought to limit entry into market areas through a lengthy and complex qualification process. The process aims at avoiding the scenario of an under-funded company being granted prized wireless bandwidth or access to local loops, for example, and not having the capital to exploit them. This ongoing "co-carrier" program is equivalent to the CAB approval process that still existed after full deregulation of the airlines.

Lower prices in the airline industry led to a world where many airlines could not meet the new demands for service. This scenario probably sounds familiar to public network carriers forced to deal with the sudden popularity of ISDN in the past year and a half, thanks in large part to the explosion of the Internet and the World Wide Web. What will happen with full deregulation?

Service Bottlenecks For the airlines, the airports often became the traffic bottlenecks. Between 1974, when the Dallas-Fort Worth airport started up, and 1995, when Denver International opened, only five new runways were built in the United States. Yet the number of air travelers increased from about 200 million in 1974 to 500 million in 1995. Runways and, to a lesser extent, terminals and gates are still the bandwidth-limited "local loops" of the airline industry.

State regulators sometimes express similar fears about telco services in rural areas. For years, city dwellers essentially subsidized the longer loops needed to reach rural customers. In a completely free and market-driven deregulated environment, such a system may not only be impractical but could become illegal. If such a strictly cost-based rate system prevails, telecommunications competition may create many Bakersfields and Chattanoogas-two communities that lost United service following airline deregulation-especially with regard to newer broadband services.

It is unlikely that state regulators, which still maintain a large degree of say about who does what and where in the telecom industry, will grant the same degree of freedom with regard to services and pricing to the incumbent carriers in a given market. However, this is not the same as forcing an incumbent to deploy new broadband services.

Most likely, the same charges of "cream skimming" and resulting loss of revenues made against the upstart airlines and new long-distance companies after 1984 will be used to justify the slow deployment of broadband services in low revenue potential service areas. So although no one will actually lose any services, a deregulated telecommunications world might not have video-on-demand in smaller markets for some time to come.

Still, no matter what the outcome of the current evolution may be, one thing is clear in the telecom industry: The die is cast and there is no turning back.

Walter Goralski is a Senior Member of Technical Staff at Hill & Associates, a data communications education and consulting firm in Colchester, Vt.