AboveNet - Meeting Demand for Bandwidth at More Locations

Optical Keyhole September 2, 2005 Q&A with President and CEO William LaPerch.

Introduction

AboveNet is headquartered in White Plains, New York, with a European headquarters in London in the UK. The company has 444 employees and operates a 1.5 million fibre mile (2.4 million km) fiber optic network in fourteen markets in the U.S. and London.

AboveNet provides metro access, long-haul circuits, IP transit, data centre and hosting services to enterprise and service provider customers. The core market focus for the company is the provision of managed metro access solutions for the large corporate sector, with particular success achieved in the financial and media sectors.

What are the origins of AboveNet and what are the key differentiators?

AboveNet, formerly known as Metromedia Fiber Networks (MFN), emerged from bankruptcy in September 2003 in the US having conducted a detailed strategic review to identify where it should position itself in the market. In Europe, principally in the UK, the company went through effectively the same process, although it did not go into bankruptcy.

The outcome of this strategic review was that AboveNet would become a provider of premier last-mile solutions, leveraging its already built metro network infrastructure. This was a far more focused strategy compared to its previous ambitions. By focusing in on last mile solutions, AboveNet was still able to provide IP and data centre services to its customers as part of the last mile solution.

The company has metro networks deployed in fourteen U.S. markets, plus the UK in Europe. AboveNet now intends to offer last-mile solutions to corporate customers in those markets with the realization that these solutions provide viable alternatives to incumbent carrier tariffed offerings.

Is AboveNet’s network infrastructure different to that of MFN when it entered bankruptcy?

No, it is essentially the same. During bankruptcy in the U.S. we essentially preserved the vast majority of our already complete metro networks. We spent significant time shedding non performing assets with the realization that we could always come back and re-enter certain markets on a success based formula.

At the time MFN went into bankruptcy the company operated metro networks in fourteen U.S. cities, although it harboured a grand vision of expanding its footprint to 67 U.S. cities and growing to become a carrier on a par with Verizon or BT. The plan was to generate revenue and build market share without worrying about profitability in the short-term. This was during the telecom boom, when the wide held belief within the industry was that capacity would always be trailing demand. In today’s world, supply is far more in tune with demand, and service providers such as AboveNet only invest to increase capacity in response to customer demand in form of a contract.

When AboveNet emerged from bankruptcy, and you took over the helm, the company apparently possessed a world-class network but lacked a vision of what to do with it. Do you feel the company is now positioned correctly to succeed in the market?

I am confident that AboveNet is where it needs to be to succeed in the present market conditions.

As a former West Point military man, I believe discipline and focus are important attributes. Prior to entering bankruptcy the focus was lacking - highlighted by a nurturing of the idea that the company could be the next Verizon. When we looked hard at what we could be good at, we identified AboveNet’s prime assets. The answer was we had a world-class network and unbelievably experienced staff. Quite simply we sought to direct these resources towards areas where we knew we could succeed. As valuable as our metro fibre assets are, I strongly believe that having the right staff is the most crucial element to success. I believe that AboveNet’s most valuable asset is the unbelievable staff we have put together.

Once we had the correct strategic vision we decided how to leverage them correctly. We came up with a three-tiered approach. First was the realization that metro networks needed efficient connections directly into the Internet. We now connect directly into the Internet with many of our metro offerings. This has proven to be hugely successful.

The second initiative was to connect the separate metro networks via long-haul links. We did this with both our own capacity and by leasing long haul capacity from some of our service providers. Really this represents a significant paradigm shift in that customers now buy local connectivity and then connect them together almost as an afterthought. That says a lot about the value of our metro networks.

The third core business activity highlighted as in need of an overhaul was the data centre operation. The business has been transformed from a stand-alone unit unto a service that is bundled with metro connectivity. The service offering has shifted from a straightforward hosting business, supporting customers’ websites and services, to a network mode supporting customers’ disaster recovery, business continuity and storage needs. The basic notion here is that our data centres, as well as all the other data centres we connect to are but nodes on our metro networks. The new central office is really the data centre and connectivty to data centres within a metro is a core competency of ours.

How does AboveNet, as a metro network operator, manage the long-distance portion of its service offerings?

As mentioned, AboveNet connects its metro network assets - and thus the cities it serves - as an enhancement to the metro connectivity it provides.

AboveNet had acquired some very good long haul assets and maintains excellent relations with numerous long haul providers as a way to provide inter city connectivity to their customers.

As previously discussed it seems that customers are more eager to make sure they have the metro connectivity portion of their solution available before they worry about the long haul portion. But when they do get around to connecting the local solutions together it is relatively easy to find the long haul connectivity. The key point is that the customer is not concerned with the long-distance portion of the service - the overriding concern is with provision of network services within the cities where it has a presence.

What proportion of AboveNet’s installed dark fibre is currently lit?

As an overall average across its network, AboveNet is operating at fibre utilisation rates of between 25% and 30%. This figure represents a crude average and it is important to note that AboveNet installs solutions tailored to each customer’s needs, therefore the capacity and utilisation rate in one area or market may differ significantly from another.

AboveNet, as MFN, originally installed backbone networks of 432 fibre or 864 fibre cables. In some markets this capacity has subsequently been increased; in New York, for example, two 864-fibre cables have been added as overbuilds to meet demand.

I can state that currently there are no locations on AboveNet’s network where demand cannot be met due to capacity restrictions.

Does AboveNet provide communications services or simply transport?

AboveNet delivers services, although the first step in doing so may entail providing simple transport. AboveNet will supply dark fibre to a customer, with the aim of subsequently winning the business of managing services carried over that fibre. We have several customers that have evolved from dark fibre to managed services customers with AboveNet.

At what level do you define the services that you offer, for example, do you provide Ethernet, video transport or triple play services?

AboveNet is best known for providing services of 50 Mbit/s and above, and has particular expertise in delivering 1 Gbit/s-and-above solutions. When customers define what AboveNet offers they usually mention the secure, private network. For example, customers in the financial sector use AboveNet’s services to comply with regulatory requirements such as stipulations relating to data storage. These requirements necessitate the use of remote data centres, disaster recovery and business continuity sites.

Today this expertise translates well into specific vertical markets. Both the financial sector and media sector, who are traditionally huge users of bandwidth, are important customers for AboveNet. As other sectors see an increased need for bandwidth AboveNet’s metro solutions will start to make more sense for them.

When addressing different vertical market sectors, does AboveNet change its approach as far as marketing and service offering is concerned?

Yes! Because the company is aiming to deliver managed services, not simply dark fibre or a ’big pipe’, it is important to understand the needs of customers within different vertical markets. Sales staff in different markets will focus on different applications, so that the sales office in New York, addressing the financial sector, will be offering different applications to that in Los Angeles, where the focus is the media sector.

While the underlying technology delivering the services is the same, the applications will be different; sales staff will be able to advise customers from different market segments on how applications may be best implemented to support their particular business.

How does AboveNet manage the services it delivers to customers?

AboveNet operates a 24x7 network operations centre. The company offers managed services with industry leading SLAs, including 24x7 support and ’five-nines’ reliability.

In previous roles with MCI and Verizon, I have not seen any more rigorous service agreements. The bottom line is that customers are putting mission critical applications on our metro networks and we have to provide the level of service that allows them to be successful.

Do you regard AboveNet as an opportunistic company, or one that will relinquish business in order to maintain its focus?

We are both. We have shown the discipline and focus to redefine our data centre business, our IP business and our professional services business. To me this is more in line with our current strategy and vision. I think that took a tremendous amount of discipline for our company. But in the end it resulted in a more focused company.

As regards opportunism, AboveNet has been sufficiently successful since exiting bankruptcy that it can now consider investing to develop opportunities with the right customers. This means that customers in the financial and media sectors can be viewed as opportunities in the medium-to-long-term not just the short-term. An initially low-margin deal may represent an opportunity in that, once signed up to AboveNet, it is likely to stay, and its needs are likely grow over time - which means more business for AboveNet.

In addition, as AboveNet wins new customers and extends its network it gains in terms of efficiency and cost structure. When we win a contract for a multiple node network from a large enterprise, we also gain a presence in multiple buildings, which presents further opportunities with other companies that are located inproximity to these buildings. The value in a metro network emanates from the number of points it is connected to.

I would like to mention that on the last five occasions AboveNet has come up against the traditional competitors - AT&T, MCI and Verizon - it has won on four occasions, and should have won the other as well!

You have mentioned AboveNet’s activities in the UK - do you feel the company is international enough, considering that Europe is a fragmented market?

I can envisage in 18 months to two years time looking at the European market with a view to expanding there. The reason that the operation in the UK has been so successful is, first, the high quality network, and second, the strong links between the financial sectors in the U.S. and the UK - specifically New York and London.

Regarding market focus, AboveNet has disposed of metro network assets in cities in continental Europe, although it maintains IP connectivity to locations such as Amsterdam, Frankfurt, Paris and Vienna.

If a financial customer required services in Frankfurt, how would that be handled?

If the customer required IP connectivity that would not be a problem; if the customer needed metro services, this is simply not something that AboveNet can provide. The only option would be for AboveNet to lease fibre in that location on the customer’s behalf.

Has this situation arisen?

Yes, AboveNet does lease fibre in locations where it does not have a presence in response to a specific customer need.

The typical situation would be where an existing customer, utilising AboveNet’s services in a number of locations, required connectivity to an area that is not served. As an example, in New York a customer had five nodes on AboveNet’s network and required a link to a sixth that was not on the network. It was found that the most cost-effective way to achieve this was to lease fibre from a third-party service provider.

When lighting fibre, who invests in the equipment, and does AboveNet select equipment based on the customer requirements or are there cases where a customer will specify the equipment?

There are four types of contract that AboveNet typically encounters, which cover the scenarios you cite. In some instances the customer simply purchases dark fibre and nothing more; in other situations the customer buys dark fibre and then tenders for a service provider to light it, which could well be AboveNet; or a customer could purchase dark fibre, install the equipment to light it, and then select AboveNet to manage the network; finally, a customer may hand over the entire process - from supply of dark fibre to managing the network - to AboveNet.

Do certain of these scenarios complicate matters for AboveNet’s engineers, given the array of equipment and vendors in the market?

AboveNet is theoretically vendor-agnostic. However, in reality the company is a major user of Nortel equipment, with experience of Cisco, ADVA and Ciena solutions. Installing, operating and supporting systems from a range of manufacturers is certainly a challenge, but the vendors are extremely helpful in providing training and support.

Therefore, while it is true that the range of equipment that could potentially be installed into AboveNet networks could be an issue, particularly considering the third scenario cited above, to date this is not a problem as a majority of the systems deployed are supplied by Nortel.

How many direct competitors does AboveNet have?

Addressing customers on the enterprise side, the competitors most often encountered are Verizon, AT&T and SBC - companies fighting to save their legacy TDM business. AboveNet can compete based on its agility, flexibility and pricing in these green-field situations.

The obvious competitors are companies such as Level 3, Looking Glass Networks, OnFiber Communications and FiberNet. All of these are similar in nature to AboveNet but none has the same business plan. Level 3 is focusing on the VoIP market, the other companies mentioned lack the network footprint and density that AboveNet can offer and tend to concentrate on lower bandwidth, shared network platform services supplied to small-to-medium sized enterprise customers.

Does the fact that you have no direct competitors concern you?

No! The only thing that I am focused on is becoming the world’s best provider of metro access solutions.

What is AboveNet’s sales proposition?

Large enterprise customers are interested in the technology underlying the services that they receive, not solely how the technology can be applied to their business and what the service will cost. This allows AboveNet to emphasise the quality of its infrastructure during the sales process.

AboveNet’s fibre DWDM network, based on the latest technology with the capability to deliver any application, is important to corporate customers. A typical AboveNet customer is a Fortune 500 or Fortune 1000 corporation that maintains an IT department with an understanding of not only the services AboveNet offers but also how these services are delivered.

It could be said that many major corporations own and operate their own telecommunications network and so have no need to go to a traditional service provider - such companies own a fibre network linking the main facilities that supports transport, data storage and VoIP services. This strategy solves issues of privacy, control and security arising from use of the shared public network.

To what degree is price a factor with the large corporations, and to what extent can AboveNet compete on pricing?

The large enterprise customers are very concerned with the cost of communications services that they buy and will be constantly checking to see whether they can get a better deal with a different service provider.

However, AboveNet is able to attract the interest of corporate customers by offering a private and scalable optical network. If a customer needs to upgrade from 1 Gbit/s to 2.5 Gbit/s or 10 Gbit/s, the only investment required is in new line cards at network nodes. Contrast this with purchasing tariff services from a carrier such as Verizon or BT. The company gets a link with a set capacity - such as DS3 or T1 - and when it requires more bandwidth it must buy another circuit.

It should be noted that this scenario is only cost effective for customers with high bandwidth requirements, for lower capacity needs purchasing a circuit from a carrier will be the better option.

Is AboveNet able to measure its market share?

No, not in any traditional or generally understood sense. AboveNet is effectively offering a replacement strategy for corporations wishing to shift from buying traditional telecommunications services.

Internally, AboveNet tracks its progress in the market by assessing penetration rates in vertical markets and growth within customers. I can state that within the financial sector, all of AboveNet’s existing customers have increased their business with the company following the initial contract.

In the media sector, we have made fabulous progress over the past 12 months to become a very strong player in this segment as well. I predict healthcare, oil and gas and the retail sector as our next bid opportunity.

Has AboveNet lost any customers?

AboveNet has lost customers, but this is an infrequent occurrence. The most common reasons prompting a company to terminate a contract are relocation - moving to a location that AboveNet does not serve, or changing service requirements - taking the customer out of AboveNet’s target market.

The majority of losses have been with IP and data centre customers as these services have become increasingly commoditised. It should be noted that AboveNet has not lost any customer following investment in metro network infrastructure to serve that customer.

Given the consolidation in the financial sector, do you believe that a company such as AboveNet has a niche that will ensure its survival over the next decade?

As a supplier of wholesale services as well as network services to large corporate customers, I believe that AboveNet has a secure niche in the medium-term at least - I am focusing on the next three to five years.

AboveNet has, since exiting bankruptcy in 2003, built up a substantial customer base; the plan is to continue this effort over the next two to three years, by which time it will have developed a recognised presence in its core markets sufficient to secure its longer-term future.

What changes does AboveNet see taking place in the markets that it addresses?

The principal changes happening today are related to post-9/11 requirements. Companies are now implementing the necessary steps to meet regulatory directives as regards redundant data centres, business continuity and disaster recovery plans.

More generally, this question returns to the idea that, for the major corporations, the traditional telecommunications carrier is obsolete.

Do you believe that AboveNet’s business is dependent on one single factor, for example, a specific type of customer, service or technology?

I believe that the only factor AboveNet’s business is wholly dependent upon is a continued demand for bandwidth delivered to more locations, for whatever purpose.

AboveNet’s optical network has been built to meet this demand on an economically viable basis.

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About AboveNet, Inc.
AboveNet, Inc. provides fiber connectivity solutions for businesses. Its private optical network, delivers key network and IP services in and between 14 top U.S. metro markets and London. AboveNet’s network is widely used in demanding markets such as financial services, where the majority of top investment banks and five of the top 10 U.S. banks rely on AboveNet for mission critical services.

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This news release contains forward-looking statements that involve risks and uncertainties. Factors that could cause or contribute to such risks and uncertainties include, but are not limited to, general economic and business conditions, competition, changes in technology and methods of marketing, and various other factors beyond the Company’s control. This also includes such factors as are described from time to time in the SEC reports filed by AboveNet, Inc. including the most recently filed Forms S-3 and 8-K.