Going Once, Going Twice...

By Khali Henderson

Posted: 08/2000

Going Once, Going Twice…
Bandwidth’s on the Auction Block
By Khali Henderson

In early June, bandwidth trading floor RateXchange Corp. (www.ratexchange.com) conducted what is believed to be the largest online auction to date.

On behalf of an unnamed carrier, the company commenced on June 7 five separate auctions of bandwidth in Europe valued at more than $40 million. At the close of bidding, 36 hours later, only one auction resulted in a sale. The relative success or failure–depending on how you look at it–calls into question the auction concept’s potency as a channel for procurement and sale of capacity.

“I haven’t seen it work,” says Paula
Brillson, president of the Asia Capacity Exchange Ltd. (www.ace-asia.com), an exchange that has chosen not to conduct auctions for its clients. “I think it’s a good concept, but it’s well before its time.”

Brillson’s concerns are not misplaced. Many of the first auctions were met with mixed results. They either were not consummated or ended up requiring considerable back-end work to make them stick. Auction holders admit the bidding concept for capacity is in the “experimental” stage. Only a handful has been completed to date.

However, these auction holders remain optimistic that early lessons will make auctions for capacity as common as those for the gilded effects of deceased celebrities and aristocrats.

Dynamic Pricing

As e-marketplaces emerge to facilitate the buying and selling of goods and services, trade via real-time models like auctions and exchanges will grow 25-fold during the next five years–reaching $746 billion in 2004, according to Forrester Research Inc.
(www.forrester.com).

While Forrester predicts that these
e-marketplaces eventually will support dynamic pricing on a more integrated basis, today they are being used to offload excess and used inventory, fill spot needs and secure one-off, large dollar purchases.

Bandwidth e-markets are no different; their use by carriers is increasing, but still limited to fulfilling needs. All capacity exchanges are offering trading floors employing a lead generation (bid-ask) format; many also are beginning to incorporate interconnection points for real-time provisioning of bandwidth and/or minute trades. Both methods can be effective for fairly simple commodity transactions. Experts say that where they fall short is with multi-attribute deals, e.g., those with specific QoS requirements, several routes or bundled services.

Enter the custom
auction.

“An auction does not have to be for standard products,” says Ross Mayfield, president and co-founder of RateXchange. “Instead of a DS-3, maybe it’s a burstable IP services bundled with a security.”

Capacity exchanges recognized early on that their core trading models had limitations and began to craft custom auctions to meet the particular needs of carrier patrons. The Global TeleExchange
(www.thegtx.com) began conducting offline reverse auctions–wherein the buyer seeks the best offer from multiple bidders–for carriers as early as July 1999. Competitor Band-X Ltd.
(www.band-x.com) was the first to bring a reverse auction online in September 1999 when it concluded an auction for 2.5gbps clear channel capacity between London and New York. Deutsche Telekom
(www.dtag.de) was the winning bidder.

After mixed reviews from carriers, Andrew Romans, co-founder and CIO for The GTX, says the company moved its reverse auctions online, holding two rounds in fall 1999 and again in February 2000. Although all the deals were consummated, The GTX says it ran into a snag when orders were not fulfilled to unstated buyer expectations. These early lessons have caused The GTX to refine its processes to avoid these mismatches. The company planned several auctions for July and August.

How It’s Done

Auctions conducted by capacity exchanges generally are handled similarly, although each may have its own proprietary methods, financial terms or technological foundation.

First, the exchange makes an agreement with the buyer or seller for which it is holding the auction. This agreement may or may not include a good-faith payment that ensures the participant’s commitment to the process. The service for sale or sought is defined in very specific terms and incorporated into a contract, which is the basis for the auction.

Second, the format and rules for the auction are defined. Conditions, such as duration, participant anonymity and sealed bids, are determined for example.

Photo: RateXchange Custom Auction website

Third, the auction is publicized by the exchange through news vehicles, the exchange’s website and its e-mail engines.

Fourth, the exchange culls its sources and membership for prospective bidders (buyers or sellers depending on the case). Bidders are recruited by the exchange through one-on-one phone calls or e-mails. These bidders are invited to participate upon agreement with the contract terms and approval of the sponsor (the buyer or seller for whom the auction is being held typically will have a list of carriers with which it is willing to do business). If the bidders are buyers, appropriate credit screens are completed if not already done as part of their membership in the exchange.

Fifth, the auction is held. The winning bidder is notified by phone and e-mail. The counter-parties are introduced.

Table: Auction Types

In exchange for its efforts, the exchange receives a percentage of the deal averaging about 5 percent. Because of the size of the agreements, these commissions usually are capped, however.

Forward or Reverse?

Although each of the exchanges conducts auctions in similar fashion, RateXchange’s June auction is unique in the bandwidth arena–not because of its dollar value, but because of its format. RateXchange conducted its auction on behalf of the seller, not the buyer. In this, a standard or English auction, prices go up as the seller seeks the highest price from multiple bidders (see “Auction Types” table, below).

Competitors question the viability of this approach in the bandwidth space where
supply outstrips demand.

“Band-X does not conduct traditional auctions,” says James Martino, COO of Band-X Inc., the U.S. subsidiary of London-based Band-X Ltd. “We don’t view it as viable because the scarcity is the buyer, not the seller. We don’t see the rationale of bidding out what there is a thousand of.”

RateXchange’s Mayfield says that
a traditional auction is possible under a format where the exchange takes responsibility for seeking out interested buyers before the sale and where the service is unique or in demand. In this case, the service was a 2.5gbps wavelength network between five European cities.

Most exchanges are in agreement that the traditional auction format would have appeal with other telecom capacity products, such as spectrum, wherein the license holders are few.

RateXchange is the only exchange that publicized its willingness to auction spectrum. Mayfield says that while he does not have the greatest hopes that there will be many sellers of such an appreciable asset, he expects that an auction could offer a license holder an alternate exit strategy to having to build the business first and then sell it.

Gaining Momentum

Some exchanges expect that custom auctions, particularly reverse auctions, will become more commonplace as a way to trade capacity–bandwidth, dark fiber, capacity
or minutes.

Band-X’s Martino says the exchange has seven or eight auction deals under its belt and is conducting auctions about every three weeks. He expects, over time, the frequency of the auctions to pick up to daily and, eventually, several a day.

Mayfield agrees. “If the model is adopted, we could see auctions monthly, weekly or daily,” he says, explaining that complex transactions requiring upfront due diligence could be held weekly, but more standardized deals could be held more frequently. “Technically, I can set one up [using software from Ariba Inc.,
www.ariba.com] within one minute.”

The reason for their collective optimism is carriers’ current willingness to try the system. Martino says that more than a dozen large and small carriers have participated in its online tender process. Mayfield says that the “very fact that a larger international carrier would hold an auction” is testimony to its viability and “the large number of carriers participating was a good sign” that carriers are experimenting with the electronic model.

“There’s no cost and no risk,” he says. “Why wouldn’t a carrier take advantage of it?”

Martino says the auction model is especially useful in large deals, such as 10-year indefeasible rights of use
(IRUs) for STM-1s, or complex deals, such as a 25-node frame relay network. An auction also can assist a carrier building out its network with specific needs for collocation and interim capacity,
he says.

“From the buyer side, there is tremendous improvement by competitively bidding out their buying needs. They are impressed with the pricing and they are getting what they need,” Martino says.

The GTX’s Romans adds there is a fundamental driver that creates the need for exchanges to assist in this process. “The one-on-one relationship is no longer efficient for more than a certain set of contacts, depending on the size of the company. [For example,] AT&T [Corp.,
www.att.com] openly states that it can only maintain effective direct negotiations with a maximum of 200 companies, not 2,000,” Romans says.

He explains that exchanges enable large carriers to do business more cost-effectively with small emerging providers and enables small, emerging providers to find good deals despite limited resources and inadequate provisioning staff.

The ultimate proof will be in repeat customers–something that Band-X already is claiming. “Once they have tried it, they are hard-pressed to do it better another way,” Martino says.

Khali Henderson is editor in chief of PHONE+ magazine.