Verizon provides FiOS update

Verizon this week provided an update on its fiber-based FiOS service rollout in an effort to appease squeamish investors and analysts on the project’s return on investment.

FiOS is Verizon’s fiber-to-the-premises () buildout intended to bring high-speed Internet and video services to homes and small business. The project’s total cost is $18 billion over six years, $23 billion in the fiber rollout minus $5 billion in spending on copper.

Wall Street tends to cringe at that figure, believing that Verizon may be spending too much to run fiber directly to homes, while AT&T and BellSouth are running it only to the curb or neighborhood node, a strategy some believe could provide comparable service at reduced cost. FiOS provides bandwidth tiers of 5Mbps to 30Mbps downstream, with 50Mbps downstream in a few select areas, and plans to boost rates to 100Mbps.

So Verizon sought to assuage the skittish this week, proclaiming that FiOS investments would generate positive economic returns based on increasing broadband market share, early TV success, service differentiation driving new market opportunities, and network and operating cost reductions.

Verizon said it plans to pass 18 million premises with its fiber network by the end of 2010, or more than 50% of the approximately 33 million households in the company’s 28-state wireline service area. The FiOS network build-out is on target to pass a total of 6 million premises by year-end 2006, with an additional 3 million a year planned through 2010, the carrier says.

Verizon said that FiOS will generate positive operating income beginning in 2009, based in part on growing revenues from FiOS services combined with declining operational costs because of fiber network efficiencies. The project will generate profitable growth within four years of initial investment, the carrier says, based on expectations of attracting up to 7 million Internet customers and up to 4 million TV customers by year-end 2010.

 Verizon says that about 70% of FiOS Internet subscribers are new Verizon broadband customers. The carrier has set a target of 725,000 FiOS Internet customers by year-end 2006, with the service available for sale to 5 million premises.

This would represent a market penetration of about 15%, toward a 2010 goal of 35% to 40%, or 6 million to 7 million FiOS Internet customers. This is an increase from the previously announced target of about 30% FiOS Internet market penetration by 2010.

This change is based on stronger-than-expected customer take-rates, Verizon says. In areas where FiOS Internet has been introduced for sale, market penetration rates have averaged 12% after the first nine months and 15% after the first year, the carrier says.

By the end of the third quarter 2006, Verizon expects to have more than 500,000 FiOS Internet customers, compared with 375,000 FiOS Internet customers at the end of the second quarter 2006. Monthly churn rates, a measure of customer turnover, have been below 1.5%, indicating customer loyalty that Verizon says exceeds its initial expectations.

Verizon is also seeing strong customer demand for FiOS TV, which was launched in its first market a year ago. By the end of the third quarter 2006, Verizon expects to have more than 100,000 FiOS TV customers, and the company estimates that about two-thirds of FiOS TV customers have discontinued their cable TV service.

Verizon has set a target of 175,000 FiOS TV customers by year-end 2006, making the service available to 1.8 million households. This would be a market penetration rate of about 10%. More than 1 million households are eligible to purchase FiOS TV services, the carrier says.

Verizon’s goal is for FiOS TV to have a market penetration rate that ranges from 20% to 25% by 2010, or from 3 million to 4 million FiOS TV customers, based on its estimate that about 15 million households will be video-ready by then.

Nearly 80% of FiOS TV customers have purchased three services - voice, data and video - from Verizon, and monthly churn rates have averaged less than 1.5%, again exceeding the carrier’s expectations.

On the payback side, Verizon said it expects to realize savings of about $1 billion in annual, ongoing operating expenses by 2010 as a result of the efficiencies gained from fiber network facilities. Also, the cost to pass and connect a home to Verizon's fiber network continue to decline, the carrier says.

 Last month, average capital expenditures to pass a home were $873, less than the previously announced year-end 2006 goal of $890. The new year-end target is $850.

Connection expenses are still higher than the carrier wants. Last month they averaged $933, higher than the year-end 2006 goal of $715, but lower than an average of $1,220 in January 2006, Verizon says  The new year-end target is $880.

By 2010, Verizon expects costs to average $700 to pass a home and $650 to connect a home.

Some analysts are heartened by the update and believe investors will be too.

“We believe today’s new FiOS data should help to alleviate the biggest overhang on Verizon shares,” states UBS Warburg Analyst John Hodulik, in research note to investors.

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