Investing in Dumb Pipe Not so "Dumb"

Telco executives sometimes appear to be “conflicted” about their core revenue strategies.

Many decry “dumb pipe” access revenues, even though those dumb pipe access revenues now provide the growth engine for fixed line telco, cable TV and mobile service providers alike.

Others say service providers will be able to overcome that “dumb pipe” issue by creating new content or application or enabling businesses.

Some say “over the top messaging” is a revenue opportunity; others say it will destroy most of the revenue now earned by text messaging services. In part, that is because many users seem to prefer OTT messaging to text messaging.

Half of US users claimed they prefer OTT messaging services over text messaging, a study by Acision suggests. “Speed” was viewed as an advantage, but also “rich features,” such as the ability to see when a message is delivered, and reliability.

In the United Kingdom, speed likewise was said to be a top reason users preferred OTT messaging over text messaging. In the U.K. market, cost also was a key value, presumably because fewer U.K. users have unlimited domestic texting plans.

Granted, both types of statements will be true for some suppliers, in some roles, in some markets, to some degree. In a service provider’s core markets, over the top messaging might be a revenue threat. Outside a service provider’s area of service, OTT messaging or apps could well be a net revenue generator.

But some might say that, for the most part, more significant revenue results will be obtained by improving the value provided by dumb pipe access, compared to all the new initiatives.

Part of the reason is that small changes to existing services can generate vastly more revenue than brand new business ventures.

Consider a “small change” to post paid customer bills. AT&T mobile customers on postpaid accounts will be paying a new 61 cent a month “administration fee” that will raise $512 million a year in revenue ($7.32 per year per post paid customer), on a base of roughly 70 million customers.

That might seem a "small" thing, and in one sense it is. But it another sense it is a big deal. The amount of money AT&T makes from that 61-cent charge will be roughly equal, every month, to the amount of gross revenue Verizon Communications fixed network operations makes from all small business customer operations every month.

That is a practical example of the ways large telcos most easily can create new $1 billion annual revenue streams, namely by creating small revenue enhancements to products most of their customers already buy.

Generating $1 a month in incremental revenue from 70 million customers creates $840 million a year in incremental revenue.

By way of comparison there probably are very few “new lines of business” initiatives launched by telcos that have reached that level, if any have done so.

In the messaging business, mobile service providers might well make more money by changing the way they package text messaging, than by investing in new OTT services of their own.

Mobile service provider text messaging revenue will decline on average by around 40 percent across Europe and the Middle East, many telco executives seem to believe. Mobile voice isn't that far behind, with a 20 percent decline foreseen, STL Partners predicts.

As a practical matter, it will be hard to create brand-new revenue streams that equal in magnitude the loss of 40 percent of SMS revenue, or 20 percent of voice revenue. Some might argue retail packaging (making unlimited domestic texting part of a basic connection fee) will have more revenue impact than most new lines of business.

That has implications for investment. Telstra Global Managing Director Martijn Blanken says telcos face "a fine balancing act," when it comes to plowing cash into their networks without having a clear view on what the return on that investment will be.

In other words, there not only still is money to be made in plain old connectivity, and big returns might come from ways to enhance those services, or at least package them in ways that retain significant revenue, if not as much as had been the case in past years.

"You don't want to over-invest," Blanken warns. But that's the issue: what balance of investment in core products and new lines of business.

For large telcos making capital investments, the "80/20" rule holds, a study suggests. Some 80 percent of the attention goes to decisions that produce less than 20 percent of operating results. 

Conversely, decisions that drive 80 percent to 90 percent of operating results tend to get 10 percent to 20 percent of attention, when capital investment choices are to be made.

Firms that earn more from their capex expenditures typically have proposals justified on the basis of improving performance metrics from existing services or territories, a PwC study has found.

Most of the telecoms executives in the survey distinguish between ‘business-as-usual’ capex and ‘project’ capex (also known as ‘innovation’ or ‘growth’ capex).

But though project capex typically represents just 20 percent to 30 percent of an operator’s total capex, it receives 80 percent to 90 percent of the capex committee’s attention. That is not to say innovation and revenue growth is unimportant. It is to note that capital allocation is failing to pay attention to the 20 percent of decisions that drive at least 80 percent of the financial impact (the “80/20 rule”).

That might seem to run counter to the notion that tier-one telcos must find new revenue sources. It isn’t. It means that the emphasis for capital investment has to be related to actual impact on revenue generation.

The logic is simple enough. A $5 a month swing in revenue has huge impact when the revenue-generating units involved number in the scores of millions, compared to a $5 a month revenue swing on a revenue-generating service involving a hundred thousand units.

In other words, $5 a month incremental revenue on a base of 30 million units generates $150 million a month, or $1.8 billion a year. A $5 a month incremental increase in revenue on a service with 100,000 units generates $500,000 a month, or $6 million a year.

PwC analysed the financial performance of 78 fixed-line, mobile and cable telecoms operators around the world and then surveyed 22 senior telecoms executives from a representative cross-section of companies in terms of size, services, location and financial performance.

“The telecoms industry is at an inflection point ,” a PwC report argues. It’s spending lots

of money on new infrastructure, but it’s not optimizing financial returns. PwC claims “most

telecoms executives admit as much.