Gartner: Carrier Challenges Abound as "Structural Separation" Looms

In the next five years the telecom market will change so dramatically and rapidly that government intervention and market engineering will be inevitable in some countries, according to Gartner Inc. At the center of this is the global trend toward telecom "structural separation," which Gartner defines as the deconstruction or breaking apart of a telecom carrier's vertically integrated business model into a more horizontally structured model.

"In the past 20 years, carriers have increasingly focused on operational efficiency -- via a tighter coupling of business assets (vertical integration) -- to compete more effectively against new market entrants with lower cost structures," said Alex Winogradoff, research vice president at Gartner. "Despite government moves (such as unbundling and accounting separation) to encourage competition and stimulate investment, progress has been meager in most countries. Regulators believe that continued vertical integration is the primary reason for this lack of progress and are increasingly seeking separation as a policy tool."

Gartner said that telecom regulators have been pursuing accounting separation and are now considering functional and ownership separation as a last measure to achieve their policy goals. The difference between these types of separation is the level of control that carriers will be able to exercise over their separated units:

• Accounting separation means the keeping of separate revenue and cost accounts for different activities to achieve a detailed and accurate statement of the costs incurred and profits made by an operator for a specific activity.
• Functional separation means the establishment of operationally fully separated entities, the ownership of which remains with the parent company. The separate entities have separate accounts, but they are not legally independent entities.
• Ownership separation means that a carrier division with some of the network or the entire network is placed in a separate legal entity and owned by a company other than the parent company. The term structural separation is often used in this more fully separated context.

Winogradoff explained that not all separation scenarios will fit neatly into these variants, and regulators in different regions and countries may have different definitions driven by their individual laws and telecom policies. However, he said that functional and ownership separation are global trends and will particularly impact developed countries where the telecom market is mature and regulators are trying to inject more direct market competition as a stimulus for innovation and greater investment in next-generation broadband.

Gartner found that functional separation is being considered by regulators in most developed countries in Western Europe and Asia, where it could strongly compromise cost efficiencies currently enjoyed by vertically integrated carriers. Furthermore, experience in the past 20 years in the United States and Japan has demonstrated that this kind of forced separation of incumbent carriers has an overall negative effect on them.

In Europe, it is still too early to tell whether functional or ownership separation has had a negative or positive effect on network investment by BT and other carriers that have pursued separation. All national regulatory authorities and European Union regulators are watching this issue carefully. Experience of separation in other industries -- for example, electric utilities and railways -- has shown that customer experience and service quality are often negatively affected.

"All incumbent carriers that have global ambitions should consider two distinct strategies to deal with forced structural separation: First, focus on defending their incumbent franchise; and second, take advantage of strategic positioning opportunities in foreign countries where structural separation of the incumbent is being considered," Mr. Winogradoff said.

Additional information is available in the Gartner report "Dataquest Insight: Telecom 'Structural Separation' Is a Global Trend." The report is available on Gartner's Web site at . (Due to its length, this URL may need to be copied/pasted into your Internet browser's address field. Remove the extra space if one exists.)