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October 2014

The Glory Days of MCI: A Former CFO Reflects on its Wholesale Bonanza, Internet Gambit, and Carpe Diem Culture

The Glory Days of MCI: A Former CFO Reflects on its Wholesale Bonanza, Internet Gambit, and Carpe Diem Culture

The telecom industry owes a debt of gratitude to MCI.  As the first company to compete for the U.S. long distance business in the 1970s, MCI was a key driver behind the breakup of AT&T and the rise of competitive telecom.

What MCI taught the world was that telecom success was more than scale and reliable engineering.  A certain entrepreneurial daring, marketing savvy, and innovation were just as valuable — and today, of course, absolutely essential.

The new-age telecom culture that MCI propelled is still evident today in and around Washington DC where MCI still operates as a unit of Verizon.  In fact, the companies and telecom talent that work within a 20-mile radius of Dulles Airport have become a kind of telecom epicenter and brain trust.

Joining us now to reflect back on that extraordinary culture and exciting time when telecom kicked into high gear, is Doug Maine, the CFO of MCI for seven years and now an investor and Chairman of Telarix.

Dan Baker: Doug, thanks for joining us.  I’m curious, where was MCI in its life cycle when you first started working there?

Doug Maine: Dan, I joined MCI in 1978 when they had 900 employees and had never made a nickel of profit.  I had never heard of MCI when I was approached by a headhunter for a job as a Finance Manager.  It turns out that MCI ironically had no legal right to sell services anymore.  Conveniently, no one told me that when they interviewed me.

Then literally, the first week I arrived on the job, the Supreme Court decided the so-called MCI Execunet case that opened up long distance competition, and then MCI’s business took off.  I was definitely in the right place at the right time.

What was the wholesale market like in those early days at MCI?

For my early years at MCI we were in the domestic long distance business and not in international LD at all.  The FCC required AT&T, MCI and other facilities based Carriers to allow the resale of our networks, so early on a domestic wholesale market existed.  However if any of our customers called international, we basically steered them to AT&T.

Now it’s an interesting story how we got into International and I can say that I had a small role in our start.

We were searching for a way to get into the international business.  And the crazy thing was that Xerox had bought a company called Western Union International (WUI) to complement their XTEN project which was an ambitious data transmission system that never got off the ground.  WUI was a telex provider and it had a presence all around the world with only two or three competitors.

So MCI bought WUI — and later we also bought one of their competitors, RCA Globecom.  The WUI purchase for $185 Million was MCI’s first acquisition and it was a great learning experience to be on the team that went to Stanford, Connecticut to negotiate the deal.  What attracted us to WUI was they had people who understood international and they had contracts with most of the world’s Telephone Carriers (PTT”s).  The only issue was that WUI was not in the voice business; they were in the telex business!

What was the structure of the international wholesale deals in those days?

Well, buying WUI allowed us to begin building direct voice relationships around the world and that led to the real money, and the real money being what’s called “return traffic”.

The way voice worked back then was that on average, for every two calls that were made from the United States, only one came back.  Said another way, more traffic originated in the US than terminated from foreign carriers back into the US.  And settlement rates determined how much the Carriers paid each other to originate and terminate their international calls.

When we started, foreign PTT’s were happy to terminate MCI’s international calls since they could charge us an exorbitant settlement rate to complete our calls, but they conveniently gave 100% of the return traffic to AT&T.  So we struggled to get that return traffic.  However ultimately we established a policy of proportionate return modeled after the way the telex world worked.

As an example of the math, I’ll use Pakistan, since I remember that the settlement rates were something like $1.85 per minute, among the highest in the world.  When one of our US customers called Pakistan we would charge something like $1.90 per minute.  Then, for every five minutes from the US, Pakistan Tel would send one minute back to the US.  So the math was that we could make $.05 for every minute of traffic that originated with our customers, but we would receive back 20% of the amount we sent Pakistan Tel, and we charged Pakistan Tel $1.85 for each minute that we carried.  You can see how profitable the business was.

So we went country by country to negotiate the arrangements.  The first country was New Zealand.  Belgium was the second country, I think, and we whacked away at that till we had these arrangements throughout the world.

So when we got through all this, international represented something like 40% of MCI profits — only 10% of revenue but 40% our profits.

Wow, 40% of profits is astounding.  And for all the public at large knew, MCI was making its money exclusively in the battle for domestic traffic.

Well, the reason international was so lucrative was that AT&T was milking that business: since they had no competitors, they enjoyed keeping the settlement rates high.

As I think back myself as a customer of MCI, you certainly got the sense that this they quite an innovative culture because they came up with great marketing like the famous Friends and Family plans which are still very much with us today with Shared Data plans and the like.

MCI had a more innovative culture than our rivals, and we used that difference to make a point.  Our Chairman, founder, and CEO Bill McGowan had a philosophy of “whatever practices the Bell companies have we were to do the opposite.”

So since the Bells practiced nepotism, we prohibited any sort of hiring of family or relatives.  Since the Bell companies often had company gyms, McGowan told our people that if they wanted to exercise they should go climb a microwave tower.  The Bells offered customer service only 9 to 5, Monday through Friday and we pioneered 24 x 7 customer service because it was the opposite of what they did.

McGowan was a former venture capitalist and entrepreneur and almost all of our executives came out of industries other than Telecom.  We were loaded with former IBM’ers and a little known fact: after we bought Satellite Business Systems from IBM in 1986 for $360 Million with MCI stock (not cash), IBM was our largest shareholder owing 17% of our equity.

One outgrowth of that culture was that MCI became one of the earliest investors in the internet.

Well that’s another slice of life I witnessed at MCI.  And if you look back, we were very close to making a real mark in that space.

If you turn the clock back to 1990, the Internet, such as it was, used a network called NSFnet, or the National Science Foundation network, later operated by a group called Merit which was a joint venture including IBM, MCI and the State of Michigan.  NSFnet was basically just a T1 network connecting a half dozen major research universities, Cornell, Carnegie Mellon, Illinois, UCSD and I believe Princeton.

Vint Cerf, the co-inventor of TCP/IP, was an employee of MCI and it was he and a couple of others who talked our engineering and technical services chief, Dick Liebhaber, to propose that MCI should engineer and essentially donate the first high speed T3 backbone for the internet.  Our thought was that in so doing, it would allow “this Internet thing” to become commercial.

So Dick went to my boss Bert Roberts, who was the MCI CEO at that time, and Bert said, “Listen, giving away a T3 network is very costly,” (around $40 Million), but if you can convince our CFO (me) that it’s a good idea, he would support it.  So Dick approached me, and I asked him to tell me about the potential of the Internet.  Frankly, all I knew about it was what I had read in an article Time Magazine and I thought that it was a glorified email system.  However when he explained its potential I got really excited and agreed to go to MCI’s Board for the investment approval.

As the day was nearing for our Board meeting, I had no idea how to justify giving away $40 million for an Internet network.  So I asked Vint Cerf for help and Vint coached me to use the analogy of the gold rush of 1848. “It wasn’t the miners who made the money, but the people who sold the picks, shovels and covered wagons.” So that’s how we got approval: it was little more than a gut feel that if we built the Internet network, others will figure out how to use it and we’ll make money carrying the traffic.

One of the perplexing things I’ve often thought about is that it was the telecom carriers who were right there at the onset of the net.  Just as I did back in 1991, I saw MCI as a network provider and I believe that’s how other Carriers saw themselves.  But today, who’s making money off it?  It’s companies like Amazon and Google who didn’t even exist back then.  So it’s a shame that telecom carriers didn’t step up into some of that culture.

It’s a mindset, of course.  You think that your business is defined in such and such a way, so you keep pursuing that and miss the bigger opportunities.

That’s right.  But before I sell MCI short, I should tell you that we later on had the foresight to see that the Internet could be huge and that led to us spending $2 billion dollars to own 13.5% of Rupert Murdoch’s News Corporation, and the plan was to develop what we called “digital network products” together.

We then went out and hired employees and developed some applications.  One was Scott Kurnit who had been involved with Prodigy and Scott had a concept that we now know as Yahoo and Google that he was developing as our employee.  After he left MCI, he called it and it was a real success.  So who knows what we would have happened if MCI and News Corp stayed together.  What did happen was the Worldcom deal and I left MCI and our direction completely changed.  There would be more telecom and much less Internet with Worldcom’s Bernie Ebbers in charge.

What’s amazing about the internet is that 20 years later it keeps producing multi-billion dollar businesses.  So the question becomes: where next?  Doug, tell us about your current role at Telarix and your current outlook as an investor.  Where do you see opportunity?

Well, first, I am the non-executive Chairman -- of Telarix, so I am not an employee, but am a partial owner of the business and I work for the Wall Street firm Brown Brothers Harriman (BBH) and BBH and Edison are the primary investors in Telarix.

In addition to Telarix, I’m involved in eight other companies as a director or advisor.  One area of opportunity that I will call out is the cloud — it has great promise.  Telarix now offers its platform in a SaaS offering that is being well received.  Another company I’m on the board of is BroadSoft, who provide VOIP software to Telecom Carriers.and they developed a cloud offering largely for smaller carriers, but right out of the chute, a Tier 1 carrier picked it up.  That surprised me, but it looks like carriers large and small are embracing the cloud.

My sense is that ten years from now, we’ll look back and say, “Remember those days when companies actually had their own data centers, doing our own hosting?  That was a so 2000-ish kind of thing.”

The cloud is shaking up the business model of lots of companies.  When you combine the cloud and big data, the CIO is no longer really driving things like they used to.

I don’t know that I would go that far, and CIO’s have plenty of job security if you ask me, but the cloud really helps them.  I don’t know if you are aware, but 80% to 85% of the CIO’s budget is basically to keep the lights on.  It is not spent for new feature functionality that their users want.  So CIOs budgets generally can’t afford to fund innovation.  With the cloud it can provide significant savings and those savings can then be plowed back into areas better helping the business.

Now coming back to Wholesale and tying in the points that I just made on CIO’s resources, as a general rule, CIO’s don’t have developers within their organization building Wholesale solutions.  And that means companies like Telarix have stepped up to fill that role.  In fact, the Carriers come directly to us with their requirements because there’s no other way for them to get them met.

Another thing to consider is that the Wholesale business is still relatively new.  It started with voice, but now there’s SMS, and there’s a great deal of interest in IPX and also public IP.

So it’s fair to say that the Wholesale market today is very much like the early days at MCI when we acquired our first international partners and tried to latch onto the internet.  We had no idea what all these things would amount to.  The important point was to be flexible and have an inquisitive culture that constantly explores new business models and experiments with new technologies.

Doug, it’s great.  Your historical perspective was both interesting and full of lessons learned we can apply today.

Copyright 2014 Telexchange Journal


About the Expert

Douglas Maine

Douglas Maine

Douglas Maine is a Senior Advisor to BBH Capital Partners and is actively involved in sourcing, investment evaluation and providing post-investment value-added oversight to portfolio companies.  He is a director of Nobel Systems Corp, a BBH Capital Partners portfolio company.

Doug retired from IBM Corp. in 2005, after serving as its CFO, the general manager of and the general manager of IBM Consumer Products Industry.  Prior to joining IBM, Doug spent 20 years with MCI Communications Corp. (later merged into Verizon), where he was CFO and prior to that, the president of its 14-state Southern Division.

In addition to his responsibilities with BBH Capital Partners, Doug serves on the board of directors of two public companies — Albemarle Corp. (NYSE: ALB) and Orbital-ATK, Inc. (NYSE: OA) — and is a member of the PCAOB — SAG and is an Executive in Residence for Columbia University’s School of Business.  Doug graduated from Temple University and received an MBA from Hofstra University.

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