Federal subsidy sparks rural feuds; Western Wireless taps universal service fund to expand operations

Federal subsidy sparks rural feuds; Western Wireless taps universal service fund to expand operations

Lynnette Luna

Small rural wireless companies aren’t usually known for blazing new trails in the industry. However, when Western Wireless Corp. embarked on a strategy eight years ago to compete with local exchange carriers in rural areas, and obtain federal money to do it, the carrier paved the way for other wireless operators to tie into a whole new revenue stream.

“We’ve taken a lot of arrows for the industry, and I think our faces may be on a few rural telco dart boards,” says Mikal Thomsen, president of Western Wireless. “It is clearly an easier process for wireless folks starting up the engine than when we began.”

Western Wireless saw an opportunity to aggressively compete with rural LECs with the passage of the 1996 Telecommunications Act. That legislation set aside federal funding, known as the universal service fund (USF), to ensure that rural Americans receive the same telecommunications services as those in urban areas by essentially subsidizing the build out of rural networks through taxes on the long-distance bills of urban callers. Telecommunications carriers wishing to compete with incumbents in rural areas can petition a state’s public utilities commission (PUC) to obtain eligible telecommunications carrier (ETC) status and earn USF money to underwrite above-cost equipment costs. The entrenched incumbents are subsidized the same way.

Today, Western Wireless receives subsidies in 14 states, offering CDMA-1x service to places such as the Pine Ridge Indian Reservation in South Dakota, where residents never had access to basic telephone service, let alone the high-speed data capabilities the 1x system is offering. In other areas, Western Wireless is providing local residents a choice of operators for the first time.

ROCKING THE BOAT

“It’s an extremely smart strategy, so much so that you can almost make the case for a lot of other wireless carriers to make this an opportunity,” says Craig Mallitz, wireless services analyst with Legg Mason. “The ILECs have enjoyed this cushy revenue stream for so many years, and Western Wireless has really rocked the boat and created competition.”

While universal service funds represent just 5% of Western Wireless’ total revenue, these subsidies are almost 100% margin revenue, according to Mallitz. He estimates that USF revenues equate to approximately 11% of the carrier’s EBITDA, which helps the company deploy more capital. With those numbers in mind, other carriers have begun to take Western Wireless’ lead. Alltel, Nextel Partners, Rural Cellular Corp. and United States Cellular Corp. are among the carriers that have pursued and/or received subsidies.

Their tasks have been made easy through Western Wireless’ efforts. When it initially sought out funding, the carrier on multiple occasions found itself stonewalled by many PUCs that said wireless carriers were not eligible for funding because the telecom act did not envision wireless-to-wireline competition. While some states granted the carrier ETC status after some heavy lobbying, others denied the company’s request. That prompted Western Wireless to appeal to the FCC, which forced PUCs to recognize wireless carriers as viable competitors to wireline.

Local incumbents erected more roadblocks. For example, when Western Wireless turned on its wireless local loop service in tiny Regent, N.D., population 211, in early 1999, the LEC there terminated numbers assigned to Western Wireless, claiming the carrier didn’t have a valid interconnection agreement. The matter was later resolved, but Western Wireless still faces continued opposition from incumbent players that argue USF support is intended to reduce the investment of higher cost companies, not wireless companies who attest to providing quality, affordable service.

ACCESS TO FUNDS

“We have higher costs as well,” says Thomsen. “For us to truly become a strong competitor that is able to put service in every nook and cranny in very rural markets, we need to have access to the same types of funding that has allowed telephone companies to string wire.”

The carrier is currently battling that notion in Montana, where it has entered its fifth year butting heads with the state PUC. “We still don’t have a penny to show for it,” says Thomsen. “Nor are we feeling like we are much closer to our goal. The LECs are clearly fighting it hard, and they have a sympathetic ear in the PUC there. They have favored the incumbents to the detriment of their residents.”

Western Wireless is also leading the industry on another front–the battle to overhaul the universal service fund, which, under its current funding scheme, will run out of money. Universal service funding comes from taxes on long-distance revenues, which are shrinking as consumers pay one price for both local and long-distance services and migrate to VoIP services, which don’t include a USF tax.

Last fall, Western Wireless urged the FCC to discontinue using the Rate-of-Return regulatory system, which sets rates targeted to recover a rural local exchange carrier’s embedded cost. Western Wireless argues many rural exchange carriers add costs into the process that aren’t associated with providing service. Others insist the USF rules should be changed to address the differences between wireline and wireless service. Wireline proponents are fighting to eliminate wireless carriers from receiving USF money altogether.

A joint state and federal board is expected to release a recommendation to the FCC this spring, and Mallitz predicts the commission will craft tougher criteria for those operators seeking ETC status going forward. Reimbursement rates may even fall.

Inside Sources

Market Execution: Western Wireless provides the largest wireless telecommunications network devoted to rural communities in the United States, and has embarked on a niche strategy to compete with local exchange carriers in rural areas using federal subsidies. In some markets, the carrier competes head-to-head with the incumbent provider, offering wireless local loop service directly to homes. Other markets support mobile offerings competitively priced to match the local incumbent’s pricing plans.

Technology: Western Wireless is migrating its analog wireless systems to CDMA 1xRTT technology to offer both basic telephone service and high-speed data services to rural areas. 1x technology is available in approximately 65% of the carrier’s markets.

Network Reach: The Western Wireless network covers more than 820,000 square miles, including more than 39,000 miles of state and interstate highway systems. The company owns licenses covering about 30% of the continental United States. It owns and operates cellular systems in 88 Rural Service Areas (RSAs) and 18 MSAs with a combined population of more than 10 million people.

Competitive Factors: With changes in the universal service fund coming down the pipe, Western Wireless will find itself in a better position than other wireless operators seeking those funds because the company’s efforts to date will likely be grandfathered. Regulators may choose to reduce reimbursement rates, which could affect any incremental growth. However, wireline-to-wireless number portability rules go into effect in May in the markets Western Wireless serves, which may prompt many customers who didn’t want to part with their home numbers to cut the chord. Western Wireless is planning an aggressive marketing campaign.

Our Read: Western Wireless has a strong management team that is successfully competing in the industry on something other than price. Changes in the universal service fund are unlikely to dramatically affect the carrier, and any shrinking universal fund revenues will remain nearly 100% margin revenue, assisting the company in its CDMA-1x deployments.

COPYRIGHT 2004 Advanstar Communications, Inc.

COPYRIGHT 2004 Gale Group