In a most unusual setup, start-up carrier Velocita Corp. is readying a nationwide broadband network funded in large part by Cisco Systems Inc. and based on AT&T Corp.'s extensive rights-of-way.
The company, which has been operating since 1998, is building a big chunk of AT&T's next generation optical network in return for the rights-of-way, US$220 million and other incentives, according to a Velocita 10-Q filed last fall. Cisco may be forking over $485 million in funding and equipment financing, according to an 8-K filed 10 days ago. The Cisco funding still needs approval from the U.S. Securities and Exchange Commission.
Velocita will initially be a carrier's carrier, but may eventually offer an alternative to enterprise customers concerned about using other new carriers that are scrounging around for new funding. A rash of competitive local exchange carriers failed in recent months, stranding customers and leaving unpaid debts on the doorstep of overenthusiastic equipment makers that supplied gear to CLECs on credit.
While Velocita is happy to have AT&T and Cisco supporting it, the company hopes to make a name for itself by delivering a slew of advanced services such as managed wavelengths, VPNs and high-speed private lines.
Cisco, which has proven particularly vulnerable to the CLEC meltdown, seems certain it won't be stung by Velocita. The vendor's equity stake in the new carrier is valued at $200 million and the financing at $285 million.
This is the first time Cisco has taken an equity stake in one of its customers.
"It's unusual, but what Cisco needs is a prototypical network that they can point to and say, 'This is how we believe networking needs to go,' " says Current Analysis analyst Chris Nicoll. "Cisco's got a very different viewpoint than Nortel or Lucent on how an intelligent optical network should be architected. They can't point to a WorldCom, or Broadwing, or someone who's got a network in the field and say, 'This is the implementation of our strategy.'"Forcing Cisco's handOthers say today's capital environment is forcing Cisco to invest more if it eventually wants to receive more.
"In the past, Cisco has opted not to purchase equity as it did not want to have an ownership interest in any of its customers," investment firm UBS Warburg stated in a recent report. "We believe Cisco has broken this policy [because] the capital markets are virtually shut for new, emerging carriers. We believe Cisco will only do a small number of such equity investments and only as long as equity markets remain tight."
UBS Warburg added that Velocita's unique arrangement with AT&T and its management team attracted Cisco's unusual investment. But the start-up carrier's relationship with AT&T adds another twist.
Velocita may end up competing with AT&T, but the more likely scenario is that AT&T will work out an exclusive arrangement with Velocita where that will not occur.
"AT&T's network is archaic and the cost of operating it is much higher than its competitor's networks that have been built in the last five years," says Christine Heckart, president of TeleChoice. "The company's choices are to outsource its network operations and concentrate on its customers or to buy another provider."
"AT&T is going to try to maximize the value in its existing network as well as position itself for the future," Nicoll says.
AT&T owns warrants that, if exercised, would result in a 9.5 percent ownership stake in Velocita.
The new company's management team includes Chairman Bob Annunziata, former CEO of Global Crossing and founder of Teleport; CEO Buddy Pickle, former president of Teligent and UUNET; and President Bob Collet, formerly of Teleglobe Communications and Sprint.
All are industry veterans with a track record of innovation and sustained growth. A Cisco spokeswoman confirmed that this was a big incentive for Cisco's investment, as was Velocita's unique arrangement with AT&T and "shared vision for an end-to-end IP+optical network."
"While we typically will not invest in customers, we will evaluate select opportunities as they come up," the spokeswoman says.
Velocita will initially purchase $225 million in Cisco gear over two years, including: the ONS 15800 dense wavelength division multiplexing system for long-haul transport; the ONS 15454 SONET add/ drop multiplexers for metropolitan and regional applications; the 12400 series gigabit routers; and the 7600 Optical Services Router.
The carrier will essentially be an all-Cisco shop.
"Cisco brings the ability to integrate the optronics, data and higher-level layers into one system," Collet says. "It's a very powerful motivator for working with Cisco. I've been in the business a long time. It's an absolute nightmare to work with multiple vendors."
Velocita will use the Cisco gear to light an 18,500-mile nationwide OC-192 fiber-optic network over the AT&T rights-of-way. Velocita will spend $984 million by year-end to light the first 10,800 miles of the network, according to the 10-Q.
"We're in the process of lighting routes between Jacksonville, [Fla.] and Houston before the end of the second quarter," Collet says. This will be the first portion of the Velocita network that's supporting traffic. It will start offering wavelength services soon after.
Velocita may be unique in its ability to build networks of this type. The company was launched in 1998 as PF.Net, a network construction company modeled after the utility industry, which has a depth of expertise in pipeline construction and the difficulties of conquering terrain.
In the fall of 1999, PF.Net won a contract from AT&T to upgrade the carrier's nationwide fiber-optic network. The contract enabled PF.Net to build over 5,000 miles along AT&T's rights-of-way, and to construct its own network alongside the AT&T conduits.
A year later, PF.Net won a second contract with AT&T, extending the network to more than 18,000 miles.
PF.Net - which changed its name to Velocita in January - was one of three companies that AT&T chose to construct its next-generation network. The other two are Touch America and Cap Rock. Those companies also have access to AT&T's rights-of-way but Velocita is the only company that's taking full advantage.
Velocita is swapping fiber with Touch America, and also has an agreement with AT&T to jointly market and sell dark fiber on the routes of joint construction.
Other Velocita investors include PF Holdings and Odyssey Investment Partners. PF and Koch each own 31 percent of Velocita. Odyssey invested $125 million in the company and $225 million from private investors