Fiber optic cable technology (fiber), which originated in the 1950s and was substantially improved in the 1970s, involves the transmission of information through pulses of infrared light via glass wires encased in a protective sheath. Fiber has experienced strong growth worldwide since the 1990s and is fast becoming the dominant global data transmission infrastructure due to its: broad adoption in the telecommunications (telecom) industry; high bandwidth (i.e., the quantity of information transmitted per unit of time) relative to both digital subscriber line and copper or coaxial cable; and longevity and durability. In this commentary, we describe fiber and related networks, drivers of demand, and barriers to entry. We also examine how fiber can be funded, focusing on the use of securitization and the associated risks and benefits.

Drivers Behind The Growth In Fiber Demand

One of the main drivers of fiber demand is the widespread use of broadband internet in the home, particularly as the popularity of remote work has increased since the COVID-19 pandemic. To meet this demand in a practical sense, there are various technological models, the most advanced being fiber-to-the-home (FTTH), which involves a fiber connection directly from the source (such as a data center) to the end-user's desk. Other models involve partial fiber connections, with the "last mile" of the connection made up of traditional media (such as copper or coaxial cable) that can constrain bandwidth.

About 40 million Americans are without broadband connection to the internet, according to The Pew Charitable Trusts, and this connectivity gap is most pronounced in sparsely populated and rural areas. To address this gap, the U.S. government has advanced initiatives to increase internet connectivity across the country. For example, the $42 billion Broadband, Equity, Access, and Deployment (BEAD) program funds partnerships between regions and stakeholders to build infrastructure that would allow more Americans to have access to high-speed internet (see "Broadband Equity Access And Deployment Program," BroadbandUSA: National Telecommunications And Information Administration, published May 2022). According to a study by the Pew Charitable Trusts, FTTH accounts for 20% of internet service market share in the U.S., while cable accounts for over 50% (see "How Do Americans Connect To The Internet?, The Pew Charitable Trusts" published July 7, 2022).

Another factor driving fiber infrastructure growth is the need for low latency data transmission (i.e., the time it takes to transfer a data packet between users). Fiber optic cables connect cell towers to data centers and signal switching stations at speeds unmatched by other media. Although 5G fixed wireless access (FWA) can provide competitive speed through high frequency waves (if the user is close to a cell tower and there's minimal network congestion), fiber tends to be more reliable because, unlike 5G FWA, it is unaffected by network congestion and physical barriers. With the explosive growth of cloud computing, generative AI applications, and hyperscale data centers serving a vast number of markets and customers, existing networks and 5G FWA could become more congested and inadequate to serve new use cases, such as real-time customer engagement, virtual reality, or autonomous driving. Edge data centers (i.e., very small structures built close to end-user premises) may be able to bridge some of the latency gap, but they are not yet mainstream. We expect the demand for low-latency data transmission will continue to drive the growth of fiber and other digital infrastructure assets.

The Costs Of Expanding Fiber Infrastructure

Since its invention almost 70 years ago, technological/engineering improvements and new market entrants have led to a broad reduction in costs for fiber. Chart 1 below shows the gradual downward drift in the producer price index (PPI) for fiber optic cable manufacturing between 2004 and 2021.

Chart 1

As was the case with many industries during the pandemic, however, supply chain disruptions caused prices to increase sharply during 2022. Fiber prices have since come down but have yet to revert to pre-pandemic levels. One of the reasons that the PPI sits at levels not seen since the global financial crisis is that general price inflation (which set in shortly after the pandemic and has yet to settle into a sustainable rate) has affected key manufacturing inputs for fiber, including silicon tetrachloride, helium, and energy (see "Sky-High Prices Contribute To Rising Fiber Optic Cable Costs," U.S. International Trade Commission: Executive Briefings On Trade, published March 2023). Moreover, rising demand relative to limited supply is also contributing to the elevated fiber costs.

Large potential market for fiber, but installation a significant barrier to entry

Despite the high costs related to construction and other capital expenditures, there is a large potential market for fiber technology in the U.S. and elsewhere. Unless operators with existing ducts provide access to fiber providers, however, enhancing and expanding existing infrastructure involves digging and laying new fiber in the ground or installing the fiber on existing telephone poles above ground, according to The Pew Charitable Trusts (see "Broadband Basics: How It Works, Why It's Important, And What Comes Next," The Pew Charitable Trusts, published Aug. 18, 2023). Because this can be costly, internet service providers (ISPs) will prioritize dense urban regions with developed infrastructures to generate eventual profits. In some cases, fiber providers may enjoy a first-mover advantage, with limited competition from other fiber providers. If, however, the provider is expanding into a rural or sparsely populated region, the first-mover advantage may be offset by the unfavorable economics of investing in infrastructure with a limited potential client base, high infrastructure cost per home in low density areas, and the resulting penetration rates required to break even (unless there exist subsidies or other transfer payments). In many cases, it may be advantageous to use shared infrastructures or network co-investment to reduce costs. Given the growth opportunity across the country, it is expected that ISPs will be incentivized to "overbuild" existing infrastructures (i.e., develop fiber infrastructure in currently served areas) and expand their footprints in the telecom space.

Fiber Financing

Fiber expansion is a capital-intensive business, and funding sources for operators typically encompass secured and unsecured corporate loans, warehouse facilities, public and private equity, project finance funding, and securitization. Maturities vary widely depending on the need of the sponsor and underlying business model. Development projects often take three to four years in the construction phase before the fiber network reaches a sustainable level of operations such that operating cash flows are sufficient to support further rollouts. However, government subsidies and the associated terms and conditions may restrict borrowers from accessing certain financing options.

In parts of Europe where regional or national wholesale telecom companies are comparable to utilities that benefit from a supportive regulatory framework and quasi-monopolistic pricing (due to the lack of competition in the form of overbuilding in certain areas), we have seen both a lower cost of funding for fiber builds on balance sheet, as well as an increased use of project financing (see "Shedding Light On Fiber Project Financing In Europe," published March 19, 2024). In the latter case, assessing construction risk for initial and subsequent rollouts is critical for the analysis of a major fiber expansion.

In the U.S., most fiber companies are not monopolies, and costs of funding can be higher than those of European counterparts. As such, securitization may be the economically optimal mechanism for financing a fiber project. Key considerations will likely include the network's penetration rate, level of competition for retail or enterprise customers, and maturity of assets. Given fiber's performance reliability and maintenance simplicity, once it's fully built and tested, stabilized assets may be appealing to many asset-backed securities (ABS) investors because of diversification of the obligor base in FTTH or long lease terms in hyperscale/enterprise operations. So far, we have seen fiber securitization primarily in the U.S.

Because securitization often offers fiber operators access to cost-efficient financing options to a large investor base, several telecom companies are now funding fiber investments through securitization, as opposed to tapping the corporate bond markets or raising equity. According to Finsight, there have been six fiber issuers and roughly a dozen fiber ABS transactions since 2020, with deal sizes ranging from $150 million to almost $2 billion (see table 1).

Table 1

A Look At Fiber ABS Securitization

Structure

Fiber ABS structures to date have been similar to those of data center ABS, which typically feature a master trust, 30-year legal final maturity, five-year anticipated repayment date, and a liquidity reserve. The underlying collateral generally comprises rights and interest in customer contracts; fiber assets (e.g., fiber optic cables, related equipment, and access rights); and funds held in transaction accounts. Credit enhancement is derived primarily from senior-subordinate structuring. As with many other ABS transactions, fiber transactions employ a cash trap/sweep mechanism, in which cash accumulates in an ABS account if a specified condition is triggered. Such conditions include the debt service coverage ratio falling below a threshold or the churn rate (i.e., the periodic fraction of customers that unsubscribe to a provider's service) exceeding a threshold. If the cash trap persists, a sweep condition will eventually be triggered such that a portion of the notes will be paid down. Fiber transactions are structured with an anticipated repayment date; after which, if the issuer fails to repay the notes in full, additional interest will accrue and the outstanding principal balance will begin to amortize if excess cash flow is available.

S&P Global Ratings' rating approach

While S&P Global Ratings does not currently rate any ABS fiber securitizations, the transaction structures suggest that a framework akin to our methodology for data center ABS may be appropriate. Some key attributes observed in the U.S. securitizations are presented in table 2.

Table 2

Operational risk

The fundamental premise of securitization is that we can rate through the insolvency of the operating company and differentiate the rating on the securitization debt from the creditworthiness of the operating company. S&P Global Ratings applies its operational risk assessment framework (see "Global Framework For Assessing Operational Risk In Structured Finance Transactions," published Oct. 9, 2014) to assess the securitization's exposure to the severity, portability, and disruption risk of the operating company's default. Transactions with significant exposure to operational risk--including cases for which there is no clear operator replacement mechanism--may not be eligible for ABS.

Many telecom companies are highly levered due to the capital-intensive operating model and the declining revenue from their legacy copper-based products. In the U.S., most local and regional telecom companies ("operators") carry speculative-grade corporate ratings or are unrated as opposed to wholesale and national telecom companies who tend to be rated investment grade. Operator transition risk is present, especially in bankruptcy scenarios. While we believe the day-to-day operation (such as managing existing contracts and negotiating renewals) after the construction and rollout could be straightforward, this would depend on the amount of infrastructure that the operator is obligated to maintain beyond the fiber network itself. For example, on April 15, 2020, U.S.-based telecom service provider Frontier Communications Corp. (Frontier) and its subsidiaries filed for voluntary Chapter 11 bankruptcy protection, due to liquidity constraints despite the long-term growth prospect in its fiber expansion. It's worth noting that Ziply Fiber took over Frontier's northwest operations and assets, serving Washington, Oregon, Idaho, and Montana.

Technological change risk

Fiber is currently the technology with the highest bandwidth and most reliable mode of data transmission. While the long-term viability of the asset class is unknown, there is no replacement technology on the horizon. Indeed, fiber technology itself is believed to be physically robust, although the quality of the underlying networks presents a potential risk factor and needs to be monitored. Importantly, any technology is always at risk of being surpassed by a superior one in the future. If this turns out to be the case with fiber, it is unclear whether current infrastructures would be rendered obsolete, or rather suffer from new competitive forces. In either case, this could pose a threat to the performance of long-dated (30-year) notes.

Overbuilding risk

High economic barriers to entry and the myriad regulatory and zoning issues associated with creating a fiber infrastructure make direct competition unlikely. Depending on the population density of the region within the specific country, however, there is always the risk that a competing fiber provider will enter a currently served market, overbuild its fiber infrastructure, and compete for the same customers. Overbuilding poses challenges for new and existing providers, in that they need to assess the capacity and penetration rate of their networks, and determine the potential for price competition in the absence of increased market demand. Nevertheless, there is a substantial first-mover advantage in the fiber space if many customers already commit, at least in the short term, to the original provider (usually the retailer in the U.S.) who may be an operator dealing directly with consumers or as an operator who is a wholesaler to other retailers that contract with consumers. Moreover, the broad lack of fiber connectivity across the U.S. suggests that a telecom company might be better off doing business in an unserved area, depending on the population density (considering the trade-off between unit-level capital expenditure and potential client base, as discussed above).

Concentration and churn risk

Because asset diversification varies widely in fiber securitization, the scale and diversity of the customer base must be taken into consideration. For example, a built-to-suit fiber line for a single hyperscaler (usually a large cloud service provider) exposes the transaction to significant renewal risk if the tenor of the contract is shorter than the liabilities, despite the typically strong credit quality of the off-taker. Another example of concentration risk occurs when wholesale fiber agreements feature arrangements with a small number of retailers. In this case, the number of lines leased depends on the retailer's ability to maintain subscribers and retain revenue. Assets can be concentrated in one geographic region for the ease of legal enforcement but vulnerable to the regional economic factors. Securitizations to date are regionally concentrated, in some cases entirely (or almost entirely) in one state. Despite regional concentration, fiber to the premise (e.g., residence, homeowners association, or enterprise) should be possible to achieve a diversified customer base that presents a churn rate in line with historical norms. However, it doesn't eliminate the possibility of customers churning away due to relocation to an out-of-service network, technology migration to alternative products, or simply dissatisfaction of the internet service provided.

Legal risk

In a typical fiber ABS transaction, the sponsor transfers a specific network, a pool of end-user contracts, and/or other assets to a special-purpose vehicle (SPV) issuer. In addition to reviewing standard structured finance asset isolation and bankruptcy remoteness legal considerations, S&P Global Ratings would generally consider whether (i) some or all fiber network assets have been contributed and/or will be contributed to the securitized entities as part of a transaction, and (ii) a first-priority perfected security interest is achieved over such assets. To the extent investors rely instead on the trustee's ability to foreclose on the equity interest of the issuing SPV, we review whether the equity interest of the issuing SPV is properly pledged. Finally, in the case of shared infrastructures, we would assess inconsistencies between any rights non-SPV parties may have to securitized assets (and the related infrastructure) and principles of asset isolation and bankruptcy remoteness.

One important consideration for fiber securitization is how and to what extent the security interest in the collateral is perfected, which will vary by country. For example, in the U.S., digital infrastructure assets typically will fall under one (or more) of the following categories: personal property, fixtures, or real property. While data center collateral is typically treated as real property, such that security interests in such collateral is perfected through mortgage filings and protected by title insurance, fiber collateral may be treated as a fixture or personal property, such that security interest is perfected through uniform commercial code filings. The determination of whether the property is deemed real or personal can vary by state and may be influenced by local tax considerations. Because fiber networks can span great physical distances and cross multiple states/jurisdictions, enforcing security interests on each segment of the network--especially for larger fiber networks--may be difficult.

Given the relative novelty of securitized fiber financings, we may consider other relevant legal risks on a case-by-case basis.

Shared infrastructure

Because of the enormous build cost for expanding a fiber network, it's common for fiber operators to take advantage of shared infrastructure to reduce development costs, which can take on various forms. For example, a telecom company can build fiber alongside existing sewage systems, gas and power networks, water supply lines, or copper broadband networks. While shared infrastructure may be a cost-effective option for expansion, it introduces challenges in managing the infrastructure. Issues such as temperatures, pressurization, or accidental damage from excavations can cause signal loss or plague the fiber lines. Asset isolation, operating responsibilities division, or access to easement and right-of-way of the fiber networks from the shared infrastructure could lead to additional legal wrinkles when setting up the securitization. If the issuing SPV does not have direct ownership of the fiber networks, the transaction may not benefit from the liquidation recovery of such physical assets should a default occur.

Fiber (And Securitizations) Are Expected To Grow

It is becoming increasingly difficult for people to perform day-to-day functions (making purchases, scheduling appointments/meetings, communicating with friends, etc.) without internet access. As the gap between households/businesses with broadband and those without closes, there is a strong incentive for telecom companies to invest in fiber, especially when there are government incentives such as the BEAD program. Moreover, the data center space is rapidly growing and requires significant bandwidth. It is also ideally suited to fiber, which provides a secure method for data centers to transfer large data packets quickly. Finally, new and evolving technologies such as generative AI will likely boost demand for high-speed internet connections in both the home and workplace. This suggests that despite the risks inherent to the sector, fiber is expected to grow, and securitization should have a role to play in funding these projects under suitable circumstances.

Related Research

S&P Global Ratings research

• Credit FAQ: Telecom Fiber Sales: Limited Financial Benefits And Big Credit Questions, Nov. 30, 2020

Other research

• Sky-High Prices Contribute To Rising Fiber Optic Cable Costs, U.S. International Trade Commission: Executive Briefings On Trade, March 2023
• Broadband Basics: How It Works, Why It's Important, And What Comes Next, The Pew Charitable Trusts, Aug. 18, 2023
• How Do Americans Connect To The Internet?, The Pew Charitable Trusts, July 7, 2022
• Broadband Equity Access And Deployment Program, BroadbandUSA: National Telecommunications And Information Administration