The battle lines within the telecoms space are not just about mobile over fixed-line, they are also being drawn over the last few yards of copper connections or superfast fibre optic cables right to your door.

There are essentially two ways UK consumers and business can access high-speed broadband networks that make seamless and quick data downloads: Fibre to the home (FTTH), sometimes referred to as fibre to the premises (FTTP), or fibre to the cabinet (FTTC).

FTTH/P is where the fibre optic cable connects right from the exchange all the way to the user’s home or premises. This is the optimum way to have a fibre optic broadband connection since fibre optics use lasers to transmit the binary signals along the cable.

Where FTTC differs is that it runs fibre most of the way from the exchange, usually to a cabinet at the end of a street, then uses copper wire to connect that cabinet to individual homes and businesses. But those last few yards to you door are where data transfer speeds can shrink substantially since electrical signals sent along copper wire run at a fraction of the speed of lasers used in fibre optic cabling, which effect travel at pretty much the speed of light.

At present most of the superfast broadband coverage in the UK (anything to about 30 megabits per second (Mbps)) is delivered via slower but cheaper and quicker to deploy hybrid-fibre, which is fibre optic mixed with older copper and coax cable solutions like BT’s (BT.A) FTTC technology and Virgin Media’s own cable network.

Until recently the bulk of the United Kingdom’s FTTH/P lines were provided by BTOpenreach’s national telecoms and broadband network. That was part of the group’s £2.5 billion commercial FTTH/P deployment originally set out to make superfast fibre optic available to 2.5 million UK addresses. But high costs and delays, particularly to the user installation process, ultimately saw BT abandon this target in 2013, although it is still pursuing a FFTH/P strategy aimed mainly at commercial customers.

‘Nobody should be surprised by the fact that BT’s premises target has been tippexed out,’ says Mark Jackson of ISP Review. ‘The writing had been on the wall for quite a few years, albeit unofficially.’ BT will now focus on a strategy to improve and extend its FTTC performance and coverage.

But while BT has struggled to make a FTTH/P model work, there are an emerging number of smaller suppliers that believe they can succeed where the UK incumbent has failed. Privately-owned Hyperoptic recently confirmed its FTTH/P network is believed to have passed 35,000 homes earlier this year, up from 20,000
in 2013.

‘Subject to survey, we install a brand new fibre infrastructure to the building, usually at no cost to the building management/residents,’ says Sunita Sharma, head of marketing at Hyperoptic, although a minimum level of confirmed resident demand is required before the company invests. ‘Once the infrastructure is in place, residents can choose to upgrade to include an access point (face plate).’

Other unquoted independents include B4RN, ASK4, Call Flow Solutions and Gigaclear. But investors needn’t miss out, because Hull-based FTSE 250 concern KCOM (KCOM) plus AIM-listed Manx Telecom (MANX:AIM) and CityFibre (CFHL:AIM) are quoted and play into this very space.

Formerly the Hull City Council Telephone Company, KCOM faces no competition from BT or any other cable network (Virgin, for example) since they do not operate in the area. ‘What we have done very successfully in the last five to six years is reinvent the relationship between KC and the local market,’ KCOM’s chairman Bill Halbert tells Shares. ‘It’s a local brand and an integral part of the community, we do a lot of corporate social responsibility activity at the universities, there is an investment fund and a strong affinity between Hull and KC.’

KC, the local operating brand, has more than 150,000 household clients and getting on for 10,000 small and medium-sized enterprises on its books. ‘Broadband penetration here is lower than the national average so we have the opportunity to drive that,’ says Halbert.

The absence of a cable rival gives KC a major chance to deepen its customer relationships and at the same time drive average revenue per user (ARPU) higher. The key to this strategy is Lightstream, KC’s own FTTH roll-out strategy.

‘The network is all ducted so we can blow the fibre through the ducts rather than have to dig up people’s gardens. BT Infinity is costing them a fortune because of the digging alone,’ Halbert states.

Avoiding major infrastructure upheaval is seen as one the key selling points of CityFibre (CFHL:AIM), which floated on 17 January after raising £16.5 million at 60p. It has since raised another £30 million at 70p (23 May) to fund expansion. CityFibre uses existing infrastructure where possible to run out fibre optic networks across small and medium-sized UK cities and then plugs it into BT’s national backbone, thus keeping the capital investment down.

For the main UK operators such a model doesn’t stack up on a cost/benefit analysis. CityFibre believes it can become a profitable ‘little city’ network supplier because its small scale can produce attractive return on investment by targeting cities where it can secure an anchor tenant.

CityFibre already has fibre optic networks up and running in York and Bournemouth, with agreements signed in Peterborough and Coventry. Management have also identified as many as 10 near-term opportunities, say analysts at FinnCap.

May’s fundraising also came off the back of clear progress, most notably the signing of a joint venture with British Sky Broadcasting (BSY) (Sky) and TalkTalk (TALK). ‘It’s a big step forward,’ said Philip Carse in May, an IT and telecoms analyst at consultancy Megabuyte. ‘Anchor tenants are helping fund the development from the existing enterprise focused network to FTTP more quickly than planned, starting in York.’ Two more cities with Sky and TalkTalk are expected soon.

[buy_or_sell b]

We favour KCOM as the best play on fibre optic networks, although we remain supporters of BT’s wider growth strategy.

KCOM (KCOM) 93p

Growth: MEDIUM

With low fibre penetration in its home market KCOM enjoys strong local branding and support. It should be able to extend its reach and drive ARPU and profitability.

Risk: MEDIUM

Expansion could require hefty capital expenditure (capex), while £75 million of net debt and a pension deficit could put strain on the balance sheet and future dividend growth hopes.

Quality: MEDIUM

Cash generation is typically strong and that’s helped positive surprises on net debt and the pension deficit this year. Free cash flow yield is expected to remain comfortably above 6% in the medium-term which should offset dividend growth pressure.

[buy_or_sell b]

[broker_consensus 3 1 0 0]

CityFibre (CFHL:AIM) 71.5p

Growth: MEDIUM

There are potentially multiple medium-sized cities where CityFibre could expand especially as data loads exponentially increase in future. Acquiring new network assets could extend its reach still deeper.

Risk: HIGH

Hefty capex looks likely to pursue its largely unproven goals and further fundraising cannot be ruled out. Failing to secure anchor tenants could slow progress. The company remains in cash burn mode.

Quality: MEDIUM

This is not a ‘build it and they will come’ model since initial capex obligations are derisked, to some degree, by anchor contracts with ICT integrators and managed service providers on behalf of local authorities. But profits remain some way off, and progress could be slow.

[buy_or_sell s]

[broker_consensus 1 0 0 0]