article

Knights of the Roundtable

Posted: 02/1998

The Resale Joust A.D. 1998

By Bob Titsch Jr.

Knights of the Roundtable

Jack Burk
president
Integrated TeleServices

Thomas Coughlin
CEO
Vista Communications

Robert George
president and CEO
Discount Long Distance Inc.

Robert Hale
president
Network Plus Inc.

Ron Hooper
chairman and CEO
Avirnex Communications Group

Gene "Skip" Lane Jr.
president and CEO
Network One Inc.

Robert Mocus
Easton Telecom Services Inc.

J. Erik Mustad
president and CEO
USV Telemanagement Inc.

Wayne Phipps
president and COO
The Furst Group Inc.

Zane Russell
chairman and CEO
EqualNet Corp.

Gather all ye readers and follow closely whilst I shareth what transpired at a meeting
of the Round. For 10 noble knights, returned from pilgrimages afar, assembled at the feast
called TRA Fall to speak freely of trade and war in thy business resale.

Several fortnights ago, the Knights of the Editorial Roundtable spoke honestly on the
rigors of local resale and we are all better for it. Sir "Kip" Ripper, whose
mouth freely overflowed at meeting last, journeyed on a Knight’s errand to pursue
commerce. The Round began by mourning his absence.

Bob Titsch, Jr.: First of all, without Kip here, this may not be too
fruitful (LAUGHTER).

Zane Russell: We could do an hour and a half with just him (LAUGHTER).

Tom Coughlin: (To others who didn’t participate in the last
roundtable) We had a guy (Ripper) here last time who filibustered (LAUGHTER).

Titsch: It’s been six months since we talked about local resale. Has
anything changed for any of you since then? Rob?

Rob Hale: I like arguing with Kip so… (LAUGHTER).

Titsch: Bob, are you in the local game?

Robert George: We’ve been talking to BellSouth, but after hearing that
presentation from Dave Jordan with MCI (during a session at the TRA show) about making
sure the contract doesn’t say this and you’re not responsible for that… I’m a little
uneasy. But we’ll continue to look at it–cautiously.

Titsch: Jack?

Jack Burk: We’re a Centrex, shared services reseller for Pac Bell.
There have been some pretty good developments. One, they have a department called CRU, or
customer retention unit, that lied to our clients, scaring the hell out of them by saying
if you go with anyone other than Pac Bell you probably won’t get any service. Your lines
will be cut off. Your information will be left out. However, we’ve complained to the point
that, now, things are very different. Now we’ve got them saying, "Are you going with
another shared provider?" Not that they still don’t try to retain the customer, but
they do it much more politely. So there has been some improvement in that area.

I’ve been trying to renegotiate or extend my contract, and they seem to be stalling,
which I expected from the influence of SBC. No one really knows what’s going to happen
with the revised management, so I’ve witnessed pluses and minuses over the last six
months.

Wayne Phipps: I had a similar experience with Pacific Bell’s CRU. The
operation nightmares were terrible. And, as soon as we sold an account, the CRU was right
on top of those people.

Russell: They went to AT&T’s training class.

Coughlin: The local business was good for Mark Krinsky and CGB
(recently acquired by ICG). He’s a happy man, $48 million happy.

Robert Mocus: We’ve proceeded with getting CLEC status in a number of
states. In Ameritech’s region, you’re dealing with either a tariff state or a contract
state, in terms of providing service. Ohio happens to be a contract state. Negotiations
with Ameritech to get that contract haven’t been any fun at all, and it’s been miserably
one-sided.

Titsch: Okay, that’s a good place to wrap up local resale (LAUGHTER).

Coughlin: So nothing’s changed (LAUGHTER).

George: It’s still all bad news (LAUGHTER).

Titsch: Let’s talk about the carrier-reseller relationship. If there
was something you could get from your underlying carrier, aside from a better buy rate,
what would it be? What might improve your working relationship with underlying carriers?

George: I’d appreciate it if underlying carriers would stop allowing
their retail side to sell minutes for less than my buy rates. I got more e-mail and phone
calls on the editorial I wrote about this very subject (PHONE+, September 1997, p. 10).
The problem is pervasive.

Russell: The carriers might give you a great interstate rate, but
they’ll have an intrastate rate that’s not competitive, so you have to give it away and
offset that loss somehow. As long as you’re relying on the Big Three, anyway, they’re
never going to give you everything you need to compete, because they don’t want you going
against them head-to-head on the bigger accounts.

Titsch: Obviously, price is key. Are there other issues? What do you
like? What do you dislike?

Mocus: There are certain carriers out there now that are low-balling
the marketplace. These are companies at the low end of the upper tier or upper end of the
middle tier that are just giving it away below cost.

Titsch: For instance?

Mocus: Specifically, Telco/Excel.

Skip Lane: We would all like to see Telco go away.

George: Telco’s not the only one, though.

Lane: No, but they are certainly a major problem. We’d like to be able
to say, "Well, they’re going to go out of business."

I have this to say regarding the carrier-reseller relationship: Is your underlying
vendor going to be in business 12 months from today? That needs to be a yes. Secondly,
members of your account team who are saying, "Trust me, trust me, trust me. I know
the contract says this," might not be there 12 months from now. They could be on a
beach, saying, "Boy, that was a nice deal for us on that merger. We’ve got our stock.
All those things I told you about? You need to talk to a different guy." And that new
contact’s business acumen, strategy and philosophy could be totally different than the
people you sat in the room with 12 months ago.

You’ve got to back-track and ask if they can deliver. We’re all hearing about capacity
problems. And I’ve got problems with some of the carriers exhibiting here today (at the
TRA show) who want to sell me something they can’t deliver. Resellers have to consider how
many acquisitions their vendor has been through and whether quality in provisioning and
delivery has deteriorated as a result.

If resellers rely on one or two vendors to provide them with all their services,
they’re setting themselves up for severe disappointment, regardless of how big the vendors
are.

Mocus: Unless you get a vendor that’s willing to talk to you when it
becomes apparent that the marketplace has changed. They need to be flexible enough to take
another look at what you’ve got in the contract.

Titsch: Rob, you’re mysteriously quiet down there.

Robert Hale: I’m waiting for Kip to come back so we can argue
(LAUGHTER). I’d be happy to throw in two cents on a positive note. I’d have to give our
primary provider a B+ or A-. They are, in my opinion, efficient when working with us.

You asked us not to discuss pricing, but the reality is that, in our primary market
space of $300 to $700 deals, there are other companies out there that are aggressively
underpricing. As a result, price is the lead issue in most discussions with customers.
One’s margins are trimmed as a result. You have to be able to negotiate with your
underlying carrier. It may be that they are not aware of how serious this pricing matter
is. Some of the primary providers look at you as though you’re a dog in a meat locker.
They say, "Why do you keep coming back to me for more and more?" Well, the
reality is that every single one of our customers is getting hit on by a telco-type
person. So your underlying provider has to be prepared to lower your buy rates. And, they
have to accept the fact that we as resellers are not unaware of access prices dropping.
They think that’s some hidden treasure they should keep to themselves. The reality is
their core costs are coming down and that should reflect on our buy rates. From a business
standpoint, Network Plus is pretty well supported by its primary provider, Sprint. There
are mistakes, but things get done. Any time you’re moving millions of units, there will be
mistakes here and there.

Burk: Our biggest problem in California is that many underlying
carriers are selling service to their retail customers at far below the price I’m buying
from them. That’s my chief concern with my two underlying carriers.

Titsch: Through their direct sales forces or agents?

Burk: Through agents or sub-agents they might call franchisers. A
number of resellers and carriers in California are pricing below cost with the intent to
grow their bases quickly and sell them to other carriers. If you plan to be in the
business for the long run, you can’t compete.

Lane: I agree with Jack. We’ve acquired three companies in the last 12
months. People need to realize they can’t build up a base with an average revenue per
switched minute of 8.5 cents, send it to LCI to get to their one-million-a-month
commitment and then sell. It’s short-sighted and unrealistic. Look at the food chain. The
number of carriers that do between $100 million and $700 million is decreasing rapidly due
to consolidation. There are very few people with cash for valuable paper out there–vs.
vaporware–that can purchase these companies. People think their base is worth a multiple
of 12 times monthly revenues, and they have no EBITDA. A matter of fact, in many cases,
the acquirer is assuming severe debt or vendor problems because the company it’s purchased
is upside down on its $10 million take-or-pay with a carrier.

I think over the next 12 months we’re going to see a lot of companies in big trouble.
There are no buyers. There are no buyers for junk. And I think that’s good. We’re going to
see multiples come down. Sharply. And the bottom line is, whether it’s a two mulitiple,
three multiple or four multiple, a lot of buyers are going to say, "Sell it to
somebody else. We’ll just wait and pick the pieces up on the street."

Hale: Getting back to price, at the retail level, consumers are aware
that the numbers are declining. We’ve mentioned Telco a lot, but other companies price
similarly. Yes, customers make it harder on you because price continues to be more of a
factor, but if you have quality salespeople giving quality sales presentations, and they
are committed to long-term success, they can win deals–without attacking competitors.
Yes, providers selling under cost are getting in the way of progress, but the reality is
that you can paint a picture of a long-term business plan vs. a short-term one, and most
customers will understand that.

We have a carrier that’s opened an office in our city, and it’s out there buying or
overpaying for personnel and underpricing the market. In that situation, you’ve got to try
to explain to your internal team and to your potential and existing clients that your
company is built for the long haul and that it’s planning to be here for years and years.
Also, you might ask your prospective clients to get references from a carrier that’s
underpricing, and they won’t get positive answers.

Mustad: Agents today will say, "Listen, guys, we can’t sell your
services anymore because you’re not priced competitively." We say, "Price is not
everything. You cannot gauge our service by the price alone. You have to consider quality,
support and other things." We’re very fortunate in that we have a great distribution
channel in interconnect companies. They help us identify customers who are interested in
more than just rates. They bundle their equipment products with fair long distance rates,
which earns them substantial commissions and sustains good margins.

Ron Hooper: Our industry is changing. It’s become the commodity of
commodities. And prices will continue to go down. If you’re competing strictly on price
with the big boys, you are not going to prevail. Over a period of time they’re going to
control that pure commodity. The best way to compete is not to compete. I agree with Erik.

What can you do that they can’t do? Find markets where you can provide a level of
service that the big boys can’t. They have historically done a bad job in markets that
require more than discount long distance. And guess what we’re doing more than anything in
the resale marketplace: discount long distance. You expose yourself if you’re a one-trick
pony with a cheaper minute. The big guys do not care whether you survive or not. In fact,
they’re not trying to put us out of business, they just don’t really care.

George: I got tired of dealing with the larger carriers, and that’s
when I hooked up with Cincinnati Bell Long Distance (CBLD). It’s a very strong regional
carrier. And they’re truly supporting my business. So when some of the larger carriers
come back to me now and say, "Let’s talk some more, we’ve got some new pricing
available," I say, "No, the people who took care of me and helped me continue to
grow to this point are the ones I’m hooking my wagon to."

Mocus: What I’m hearing here is a bunch of different experiences with
the different carriers. I use Frontier, and I’m real happy. We need to decide among
ourselves who wants to do business with us, and who doesn’t care. There are differences.
CBLD has gone out of its way to get business from me, and the only reason it hasn’t is
because I’m very happy with Frontier.

George: Exactly. But for every one of you, with all carriers, there
are others who feel differently.

Mocus: Potentially. Rob is happy with Sprint. There probably are
people who aren’t.

Lane: It has to do with money too. Rob’s got a lot of volume with
Sprint. His voice carries tremendous weight. If I call Sprint up, they won’t return my
phone call.

Mocus: I’m not saying Sprint is the–

Lane: –I think they’re all that way. And even with regional carriers,
it comes down to your account team. In four years’ time, you can cycle through a good,
bad, okay, combative and good again relationship with any carrier, depending on the
account teams you’re working with.

I saw an ad in USA Today for 7.9 switched. Fax in your orders. That’s not selling.
That’s building junk. Selling on relationships and value-added service is key, not only to
our survival, but to building a diamond of a customer base. And a profitable customer base
gives us more opportunity, whether it’s an IPO, a merger with another company or whatever.

Russell: We won’t see another switchless reseller do an initial public
offering.

Lane: No question.

Russell: The public market won’t take a switchless reseller. It’s lost
faith in the switchless market, and rightfully so. At one time, it believed in the
marketplace, and, what (investment bankers) bought into was that major long distance
carriers were going to partner with switchless resellers for a small portion of the
business–the customers under $200 or something like that–hat they were going to utilize
them as a channel. Every one of the carriers has walked away from that. Carriers are not
looking at the switchless segment as a channel of the future. Numerous bankers have told
me we will never see another IPO from a switchless reseller because they don’t control
their own destinies.

Mustad: We’re a switchless reseller that went public last year. Our
gross margin is strong because we have a unique distribution channel. But if it hadn’t
been for that distribution channel, we would probably be suffering like the other
switchless resellers that went public. The trick, in my opinion, is to simplify your
business by finding a unique distribution channel and putting all of your capital
investment into developing that channel. Then, do whatever it takes to give customers more
than they expect. Reports that help them. Kissing them. Holding them. Cards in the mail.
Whatever it takes. We’re doing this and holding a 40 percent gross margin today. That’s a
pretty unique number.

Mocus: I’d say it’s real unique (LAUGHTER).

Russell: If you have a unique marketing plan that’s great. But that’s
not what I’m talking about. I’m talking about the common switchless reseller. You look at
every one of them that’s gone public, whether it’s Phoenix Network, Midcom, EqualNet, all
of us have run into a brick wall. If you don’t control your own destiny, you cannot play
in the public game.

Mustad: I don’t want to get into the facilities-based business. I
dread that. There are so many other companies with facilities out there, that I should be
able to get what I need.

Coughlin: Listen, if you publish this discussion you’re going to have
people putting bullets in their heads (LAUGHTER).

Titsch: Let’s go a different direction then: Who employs a direct
sales force? (about half raise their hands). Who works with agents? (about half raise
their hands). Okay, tell me how things are going and what you plan to do on a go-forward
basis.

Lane: You will not win this game on price. Selling on price is a
short-term strategy. Too often agents look for one thing: 9.9 (cents) and 20 percent
(commission). I’m, like, "See ya." That mentality is responsible for all the
garbage that’s for sale right now. People say, "I’m going to build a base and sell
it." But the buyers out there are saying, "You’re doing $500,000 a month? Good.
How much are you losing? $100,000 a month?" That’s why multiples (for selling
customer bases) are going down.

Mocus: It’s hard to deal with agents, because you have to compete
against everybody else who has agent programs. So you have to bring something to them that
gives them an advantage, whether it’s data services, Internet products, local service or
whatever. You really must try and differentiate yourself to your customer base, which, in
our case, is distributors (agents) as well as end users. Whether it’s product, better
reporting, paying them on time, paying them fairly, accurately and all those good things
that make them come to you.

Russell: We initially started with a direct sales force; however, as a
switchless reseller, we had difficulty competing for the sizable accounts that support a
direct sales force. So we totally went away from it. As we bring up network and have
competitive rates across the board, we can revisit the idea of having a direct sales
force. If you can’t close $500 customers, you probably don’t want to capitalize a direct
sales force.

At the same time, the agent market has changed. When we first started working with
agents in 1990, they went out and sold for us on commission. They didn’t require any money
up front. Then this game started with who pays out the most "advance dollars."
Agents are consumed with who is going to give them more money up front.

Mocus: Or equity.

Russell: Or equity. And now, I hate to say this, but in a lot of
cases, an agent has almost turned into nothing but a telemarketing room. In many cases,
it’s a guy that does insurance one day and something else the next.

Titsch: Skip, you’ve offered agents an equity opportunity or buyout
option, isn’t that right?

Lane: That’s right. We’ve tried telemarketing, direct sales and
agents. And I think many of us around the table can attest to this: You cannot telemarket
to a customer that spends $10,000 or maybe $5,000 a month; or a person who says I want my
wide area network circuits, my local, my minutes and, by the way, interstate and
intrastate at the same price. The agent goes home with a migraine. Forget it. It’s not
going to happen. Then you’ve got to look at costs. Many of us have gone to the
agent/dealer community because of the cost factor. The fixed overhead with direct sales is
tremendously capital intensive. Forget the cost of training. Salaries are getting
ludicrous. We have 24-year-old kids coming in demanding a $90,000 base. I say, "What?
You’ve been in the workforce all of two years." In Atlanta, we have zero
unemployment. If you have any skills at all, a degree and any telecom background, you can
make a lot of money. And so, we work with agents/dealers.

What do they want? They say up front commissions. Sixty percent cash paid up front. You
have to cash flow them until they start making some money, and the residuals start coming
in. The new buzz word is equity. But they forget another word that goes with that:
dilution. I’m very disappointed with the quality of the agents that we have attracted in
the telecom business. As an entrepreneur and business person I ask them, "What’s your
exit strategy?" They say, "I’m going to will my residuals to my kids who are yet
unborn," and I’m saying, "Hello. You think we’re going to be selling 10-cent
minutes four years from now?" I ask them what kind of minutes they sold last year.
Or, I take them back two years, and I say, "Okay, you have the same amount of minutes
today. Are you making the same dollars you were then?" The answer is no, even at the
same commission percentage. Revenue per minute is dying. Agents are making less money.
Yet, I’ve gone to them and said, "Here’s a fixed buyout based on your revenue. You’ve
got the trigger–every 12 months." That would put a contingent liability on my books,
and you know how many agents took that deal? None. And we were talking about a good
multiple. Cash. But not one person took it. You know what they wanted? Another one point
on their residual. I said, "You got it. There goes your up front. There goes your
buyout. Here’s another point. Goodbye."

George: Give me 100 agents or distributors, and if I get five good
ones, I’m ecstatic. If I get one, I’m happy.

Hale: You have to partner with people who have the same philosophy as
you. I firmly believe both the direct sales and agent channels have a lot to offer us.
We’ve got 180 direct salespeople who believe in an entrepreneurial partnership where they
get paid a salary–which is not enormous–but a residual commission that grows, so as they
keep clients that grow with you, they earn more income. You have to attract agents in the
same vein. Our plan is long-term. We don’t intend to leave this business shortly. So if we
attract like-minded agents, we can grow together. If we were short term, we could put cash
into them and expect to get cash shortly thereafter. But that’s not our philosophy, so if
agents come to us and say, "Give me cash or give me equity," we say,
"Thanks for talking, but there’s no need to continue this discussion. If you would
like to join us in a partnership where we pay you for the long-haul, and you can grow with
us because that’s what we’re about," then it works perfectly.

You have to partner with people who have the same values and philosophy as you do.
There’s nothing wrong with short term. I’m sure Don Burns at Telco, who cashed in for more
than $300 million, is a pretty happy guy right now. We’re not in business to do that.
We’re in it for the long-haul.

Mustad: If someone offered you $500 million, you wouldn’t take it?

Hale: Candidly, probably not.

Hooper: We’re an international facility-based carrier that does
everything from callback to call-through to enhanced voice services. We have to work
through agents. The problem with direct sales is not the hiring of salespeople, but
finding the leaders and management to keep them on track. We’ve learned some things over
the years, and we’ve really changed our direction and moved up the food chain when it
comes to agents that are willing to invest both human and financial resources into the
partnership. We create software for them and a turnkey system. And we’ve been successful.
The key, of course, is to be in business with agents who solicit the customer base you
want–in our case, industrial, manufacturing, service and distribution.

Titsch: Let’s go around the table, starting with Wayne, and look into
the crystal ball. Where will your companies be at the turn of the century? And, where will
the industry be, collectively?

Phipps: We’re currently working on a three-year to five-year plan. I
think the people who are in this business right now, and in this business alone, also are
going to be in some other business that compliments the telecom business. What that is, I
don’t know. We’re all looking at different things.

Titsch: Can you tell us about The Furst Group?

Phipps: We’re aiming towards energy.

Mocus: The Internet is going to have a profound effect on all of us.
Not just voice. It’s an opportunity for us if we partner with the right people to provide
those services to our business customers, because they’re going to demand it. I’ve been
doing more Internet business in the past six months than I ever dreamed, and I’m just
scratching the surface. I don’t mean selling Internet services. I mean my suppliers and
customers are demanding that I communicate with them via the Internet. Data services,
local services, Internet services and the traditional long distance voice services are
going to be Easton’s Foundation.

Russell: We were a switchless reseller for a long time and were
betting on some things that didn’t pan out. We’re moving towards becoming a nationwide,
facilities-based carrier. And we’ve partnered with a group that has the money and
resources for whatever we need going forward. If we need X, our partner is willing to put
X into the formula. So we’re transitioning into a facilities-based carrier that can do
some of the things we thought we could do before. We’re going to do some of those same
things but be at a point where we can control our own costs. We’d like to get into new
markets such as the wholesale business, to name one. I am keen on working with switchless
resellers and agents who are running into the same problems we’ve run into for years.
That’s a niche we look forward to serving.

Hale: I think that the marketplace will now answer to a different
street. Everyone hears the call of Wall Street. But I think Main Street is going to
dictate the direction our industry moves. Consumers will tell us what they want, and we
will give it to them, or we will perish. I don’t believe anyone will be effective
marketing just long distance. Network Plus’ intention is to work with the same clientele
in the same region. We’re very effective in marketing to that set of customers–small
businesses, perhaps residential–and we plan on adding more value and convenience through
a wide mix of products.

Titsch: Do you think the number of telecom service providers that
cross-market non-telecom products will skyrocket?

Hale: Yes. I can’t imagine how they will survive if they don’t. We’re
approaching the point where pricing is no longer the issue. The issue is whether customers
want to stay with you. And to make them stay with you, you have to bring added value on
several levels.

Mustad: In a couple of years we’ll be selling through several unique
channels throughout the United States to users who average $700 a month. I want to provide
everything a customer wants, including a telephone system that has a wireless connection
to the public switched network. I want to provide multiple services that users can access
via a handset 24 hours a day with one number portability. In so doing, I’ll capture all
his usage, seven days, 24-hours-a-day. In addition to that, I want to be involved with
voice over frame relay technology on an international basis.

George: With change comes opportunity, and we’re taking advantage of
it. We’re doing website development right now, and I can’t believe the margins. Internet
services are key for us.

I think something’s coming our way that’s much needed: In some ways I hate to see the
Bell companies coming into the long distance business, but when they do, we’ll have more
wholesale buying options. The Bell companies will want our business to make their own
volume commitments to long distance carriers. More competition for our business can’t
hurt.

Burk: I think everyone in this business is maturing at a rate much
faster than the last few years, and that’s good. Many outfits that were banking on being
acquired will be gone. And a much more mature, healthier group of companies will remain.
They’ll be faster on their feet and able to adjust to market changes. As important as the
Internet will be, it will depersonalize business relationships. I’m convinced that we as
service providers can take advantage of that by offering something that larger companies
usually can’t: individual, personal attention.

Lane: You must control your costs and be facilities-based. You have to
focus on revenue growth, but the bottom line also. As my board always reminds me: No
company ever went out of business making money. The one thing we can count on is change.
If you ask us the same question six months from now, you may get different answers.

George: Six weeks from now.

Lane: I see a lot of changes coming down the pike, but the
Internet–particularly Internet telephony–will change our business more than we know.

Coughlin: But that’s also true of five years ago. As I sat at the
table here listening to everybody talking about minutes and pricing and so forth, it
occurred to me that was the same discussion we had five years ago. But we’re all still
sitting here. And I think the reason we’re all still sitting here is that we kept doing
what we were doing. Sure, we’ve dabbled in some things, and we have to experiment. But to
take your eye off the ball, and start refocusing on something we don’t know a lot about,
is dangerous. This is an entrepreneurial, reseller organization. I’m not developing
technology. I’m trying to find a margin by selling it. That being said, if minutes of use
get so cheap that there is absolutely no margin in it for me, then I better be someplace
else.

I’m fortunate enough to still make a margin on my minutes. I have a different niche.
One of my suppliers is sitting here at the table. It’s pretty hard to project out too much
farther than a year from now, but six months from now, we’ll be doing the same thing we’re
doing now and a few new telecom and non-telecom things.

Hooper: I agree with Rob. Main Street will dictate what we do in the
future. The consumer will dictate that we simplify their communications. We have to
integrate voice, data and multimedia services into a single point of entry. The location
of the customer and the device that he uses needs to be a non-factor. We’ll be servicing a
more mobile society with products that make it easy for them to communicate regardless of
location. They’ll need products that are mobile, allowing them to work from home as if
they were at the office.

We have to create products that make it easier for our consumers to communicate,
because minutes will get cheaper to the point where there is no margin, and we can’t make
any money. We’ll make our money on the enhanced features that we sell to users.


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