Adding Up Tacoma's Cable Bill

In a strike against overbuilders, AT&T Broadband claims the local power company's cheap cable service is a money loser. Will that pitch sway subscribers?

Three years after Tacoma Power launched Click! Network, its broadband and cable arm, it is still locked in a fierce battle for customers with AT&T Broadband, the incumbent cable franchisee of Tacoma, Washington.

Faced with a lower-priced rival, AT&T is fighting back with both traditional marketing efforts and a special campaign designed to tell citizens that the utility is losing money in the cable business.

Click! is one of the largest municipal or utility overbuilders in the country, and AT&T is going to great lengths to show other cities and potential competitors that competing in the cable business doesn't pay off. Or does it?

Several analysts nationwide have concluded that for small, rural municipalities and utilities, getting into the cable business is a money-losing proposition. But according to a study by The Strategis Group, larger competitors serving customers in denser areas with additional voice and data services have the best chance of making money.

"The cable overbuilder business model is tough to do," said Keith Kennebeck, an analyst with The Strategis Group, a Washington, D.C.-based market research company. "But we found [that] with favorable demographics, a dense service area and a large system make the business model much more favorable, and with favorable financing, a system can generate a positive net return over ten years."

That's what Click! aims to do, only by a lot sooner than ten years from now.

Tacoma Power's foray into the cable business began back in 1992, when executives began to explore ways to remain competitive when deregulation of the electric industry arrived. The plan was to build a fiber-optic network to improve communications throughout the utility's far-flung operations, says Diane Lachel, Click's director of corporate information.

Offering cable television was just one of several services the utility planned to offer, she says.

So far it's spent $88 million to build a robust 670-mile, two-way hybrid fiber coaxial telecommunications network, and has hired several former cable executives, including Lachel, who previously worked at Viacom Cable, to help them run the new division.

Click turned on its first customers in August 1998.

In March 1999, Click began offering high-speed broadband connections to businesses, and wholesaling bandwidth to competitive local exchange carriers. By the end of 1999, Click had finished testing additional technology that allowed it to wholesale the network to multiple service providers. Today, four Internet service providers offer high-speed Internet services to Click's customers.

Click is just one of about 80 municipalities and utilities around the country offering cable services, according to the American Public Power Association. However, many of those are operating in communities of 25,000 or less, says Ron Lunt, director of telecom services for the association, based in Washington, D.C.

Most of the new competitors are constructing their own networks in response to citizen complaints about poor service and high rates from their incumbent cable provider.

Since turning its first node on three years ago, Click has nabbed 7,000 AT&T customers, as well as some 10,800 new customers for its cable services. At a monthly rate of $25 per customer, that means Click stole about $2.1 million in annual revenue from AT&T.

AT&T has about 39,000 customers, says Steven Kipp, AT&T Broadband Northwest Division executive director of communications. That's down from roughly 46,000 in previous years, he said

Click's network passes 63,000 homes compared with AT&Ts 89,000 homes. AT&T's coverage is larger because the cable company has secured exclusive agreements with many of the 30,000 multi-dwelling units in the area, Lachel explains.

"Our initial plans called for a 25% penetration of homes passed, and today we have 28%," she says.

AT&T on the other hand has a 45% penetration rate, down from about 52% prior to Click's arrival.

In response to Click's jump into the cable business, AT&T Broadband spent tens of millions to upgrade its system to 750-megahertz, enabling it to offer nearly 150 more channels. In the past year, it has also offered high-speed AT&T@Home service and phone services.

AT&T isn't battling with its service alone. In March, AT&T released a study, prepared by accounting firm Arthur Andersen, that contends that Click is an unprofitable venture that hasn't lived up to its initial business plan.

"We did it to show that the emperor has no clothes," says Kipp. "They've spent a lot of time and effort going around the country showing everyone what a great success they have been, and we had a feeling it was otherwise."

The study is a tool for AT&T to use in its efforts to discourage other cities from following in Tacoma's footsteps, Kipp says.

According to the study, Click posted $2.5 million in cable television revenue for 1999 rather than an earlier projected $14.4 million. At the same time, operating expenses were lower than anticipated, coming in at $6.3 million compared to a forecasted $14.3 million. The end result: Click posted a $3.6 operating loss rather than a projected $1.9 million in profit.

"This should be the salad days for them," Kipp says. "They shouldn't be at an 18% market share, they should be somewhere up in the 50% to 60% range."

"Cable TV is just one small part of our network," Lachel says, noting that the study is filled with flaws. "The network was created to assist and benefit Tacoma Power in a deregulated environment. We have five current applications planned and cable is just one of them. Click is much bigger than a cable story, but they have to attack it because it's all that they know."

Several weeks after the AT&T study, Click released its 2000 financial results, revealing that the subsidiary had revenues of $6.97 million and an operating loss, before taxes and depreciation, of $11.47 million. "At that time, the whole system was only fully operating for six months," says Dana Toulson, Click's general manager.

"In mid-2001, after just one full year of operation, our revenues will exceed expenses," Lachel adds. "In that time, we've launched three revenue-generating businesses."

Click executives also claim that AT&T sends people to try to look at its books.

"Based on some of the things that they are requesting, we know some are coming from AT&T," said Lachel. "Some of the names are familiar to us."

Some of the freedom of information requests are granted, while others, which typically are seeking very detailed financial information that could be used against the publicly owned utility, are not.

Due to such scrutiny of its operations, Click executives this year started to break out and reveal revenues and expenses it allocates to its power applications and its commercial broadband and cable operations.

For the first two months ending in February, Click's broadband applications generated $1.39 million in sales and a tiny profit of $22,603.

"My impression is that the battle is lost in Tacoma," says Michael Reid, consulting director of E Source, a research and information service company that's part of Financial Times Energy Inc. "Click is not going away."

But the nationwide power shortage is taking its toll on Click.

Executives recently decided to shelve a request for $31 million, money that was earmarked in part to help expand the broadband network to some 10,000 more homes.

"Because of the power crisis, our parent doesn't have the funds," said Toulson.

To successfully compete in the broadband and cable space, Click will have to continually reinvest money in the system and keep its technology state-of-the art, and keep its customer-service standards high, analysts said.

"Unless they provide extra value, I don't know how that business is going to grow," said Strategis' Kennebeck. "To do well, they have to have a digital video network with the latest services. If they don't get continual capital to reinvest in the system--generated through subsidies or positive cash flow--they're doomed."

Click's strategy is to offer better programming and customer service. The company was the first to offer WorldGate's Internet service on the West Coast, a service that has seen a high take-rate, Lachel said.

Click's basic package is priced at $23.50, compared to AT&T's $35. AT&T could lower that price, a move the company has taken in other areas.

Bob Jones, a consultant with Strategis Group, cautions against price wars, but notes that high prices are typically one of the driving forces for municipalities and utilities to get into the business in the first place.

"If they get into a price war, they'll just bleed to death," he said. "So the answer has to be better technical quality and better customer service. But people have to change companies and experience that before they know it's better."

AT&T Broadband is striking back with more services, some of which are being throw in for free for a limited time. In addition, the company plans to begin offering WorldGate service in addition to @Home, and continues to market its customer service. Kipp conceded that under the former TCI, service was abysmal, which is one of the reasons Click was able to gain its initial foothold.

At the end of April, AT&T launched a new campaign--beginning first in Tacoma--promising that an installer would hook up customers to cable, phone and Internet services in one visit.

"We're launching it in Tacoma and then rolling it out throughout the rest of the area," Kipp says. It should be noted that Tacoma is getting the service before Seattle, its much larger neighbor just 40 miles away.

In the grand scheme of things, AT&T executives aren't that worried about Click, Kipp says.

"We're much more concerned about the satellite-dish companies, which have had a greater impact on our business," he says. "And we're in fierce competition with Qwest and Verizon for high-speed access."

"So far, our customers have been very loyal and we've exceeded our business plan goals," says Toulson, Click's general manager. "We're really not doing anything special, but offering old-fashioned customer service."

Only time will tell if that's enough.

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