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The Starting Line: SBC's regulation rant falls flat

SBC Communications finds a new bogeyman to blame for its sluggish third-quarter results: regulators.

SBC Communications found a new bogeyman to blame for its sluggish third-quarter results: regulators.

In a rant analysts called "uncharacteristically blunt," the telecommunications giant's CEO, Edward E. Whitacre, said regulators--not the economy or even the Sept. 11 attacks--carried much of the blame for its quarterly results, which failed to impress analysts.

The telecommunications giant reported third-quarter earnings of $2 billion, or 59 cents a share, on revenue of $13.5 billion. Excluding the sale of selected SBC assets, the company reported revenue growth of 3 percent from a year ago.

Those results, which fell short of First Call consensus estimates by a penny, had already put Wall Street in a bad mood. Analysts could handle SBC's blaming of the sluggish economy and slowdown related to the Sept. 11 terrorist attacks, but they scoffed when Whitacre got on his regulation soapbox during a conference call.

"I cannot overstate the impact regulation has had on growing our business," Whitacre said. "We are more heavily regulated than ever."

Analysts said SBC isn't any more regulated than other Baby Bells including Verizon Communications and BellSouth, but they acknowledged that perhaps Whitacre was peeved about recent events.

• The Federal Communications Commission last week said that SBC should pay a $2.52 million fine for allegedly providing the commission with inaccurate information while vying for approval to offer long-distance service in Oklahoma and Kansas.

• Earlier this month a group of California Internet service providers ended talks to settle a dispute over SBC's high-speed Internet access services. The group is asking state regulators to curb what they allege is SBC's monopoly of the market.

• Last month SBC agreed to pay the federal government $2.4 million in fines for not meeting goals to provide rivals access to its networks. The FCC also raised red flags about SBC's effort to sell long-distance voice and data service in Missouri and Arkansas.

Whitacre's biggest beef was that SBC has to conform to several rules, such as those governing its long-distance service and its expansion in the broadband market, primarily offering digital subscriber line (DSL) service.

The CEO said regulation has boosted the cost of doing business, and that's why SBC is cutting its capital spending by 20 percent and eliminating "several thousand jobs." Also, SBC will stop offering DSL service in "tier two" areas--cities and suburbs that have less population per central office than major metropolitan areas.

Although Whitacre's regulation rant was passionate, analysts weren't buying it.

Analysts said SBC's decision to slow its launch of broadband services can't be completely pinned on regulation problems. The company has had problems with its "Project Pronto" and is mostly likely cutting expansion plans to save its earnings amid slowing sales growth.

"For them to blame regulation for weak results is specious at best," said Chris King, an analyst at Legg Mason. "They had the same regulation last quarter and not a word was said."

King's view summed up the consensus view on Wall Street. But the California Internet Service Provider Association went further.

"That is a big lie," said David Simpson, counsel for CISPA, which has filed suit against SBC over its domination of the DSL market in California. "It's not a credible argument. SBC is regulated because it monopolizes."

SBC, which recently raised its DSL subscription fees, controls 90 percent of the wholesale DSL lines in California, according to CISPA.

The motives
SBC's earnings report had many analysts questioning the motives behind the company's regulation rant.

Analysts said one motive could be to turn up the heat on legislators and push along a bill in the House of Representatives that would end state regulation of Internet access services.

"SBC wants broadband relief, but it's going to be tough," said Thomas Morabito, an analyst at McDonald Investments. "Do you think Congress really cares about this bill right now?"

An SBC spokesman said the company didn't have any motives other than to point out that "inconsistent public policy" has hurt results just as much as a slowing economy has.

SBC could be getting tough with the regulation rhetoric because its rivals are too weak to stop it. Upstart rivals urged on by the Telecommunications Act of 1996 have been hit with bankruptcy and capital problems. In the DSL market, Covad Communications has filed for bankruptcy, and a host of other telecommunications providers are also struggling.

"They are emboldened by the fact that CLECs (competitive local exchange carriers) have gone out of business," said Mike Jackman, executive director for CISPA.

The company may have also wanted to deflect attention away from its operating results. Although Whitacre said SBC "is in a strong position to manage through this environment," most of the company's primary measures for success, such as revenue from second phone lines and data services, were down.

Will it backfire?
SBC's regulation talk may have distracted analysts for a day, but most said that the move is likely to backfire and could hurt the telecommunication company's credibility at a time when it's applying to offer long distance in numerous states.

Morabito said SBC is obviously trying to pressure state governments, but the plan may backfire and harden regulators in key states such as Ohio and Illinois, where SBC eventually plans to offer long-distance services.

Indeed, Salomon Smith Barney analyst Jack Grubman cut SBC to a "neutral" from a "buy" and said that the company's "regulatory environment seems to be worsening" compared with its peers.

Grubman said "an increasingly contentious" relationship with the FCC, the CA Public Utilities Commission (PUC) and the regulators in Ameritech's Midwest states could hurt its move into new markets.

"On the Hill, SBC wants to look like a poor cousin to cable, but it's just not credible," Simpson said. "If anything, this could affect SBC's credibility. Credibility is a hard thing to build up and an easy thing to lose."