Tuesday, September 13, 2016

Reliance Jio Will "Crash Prices" and Drive Some Competitors from the Market

Two developments are virtually certain as Reliance Jio enters the India mobile market: revenue will “crash” and markets will consolidate.

Case studies of seven markets over the last 10 years revealed that whenever a "radically new disrupter" came in it has almost always led to two things: first, crash in voice service prices as consumers make a shift to higher data usage and second, demise of weaker players, an analyst said.

Beyond that, the overall trend in the global telecom business for three decades has been lower prices, greater competition and differentiated business strategies. Over time, the pricing trend for telecommunications products has had a tendency to move towards zero, or marginal cost pricing.

The clear problem with marginal cost pricing is that the supplier only recovers the incremental cost of producing the extra units, not the sunk cost of the infrastructure.

In principle, marginal cost pricing assumes that a seller recoups the cost of selling the incremental units in the short term and recovers sunk cost eventually.

The growing question is how to eventually recover all the capital invested in next generation networks, if retail pricing moves to “marginal cost.”

Indeed, some already argue that tier one telcos do not recover their cost of capital, perhaps an indication that marginal cost pricing is dangerous to the long term health of the industry. .

As a rule, any industry touched by Internet distribution tends to see a trimming of supplier profit margins. In fact, that is an important strategy for digital disruptors, where the strategy literally is to destroy profit margins in a traditional business, gaining share and then dominating the new business, with permanently lower profit margins, and possible lower gross revenues.

That is the theory that underpins the pursuit of “zero billion dollar markets.” One sense of the word is that big markets get created when whole new industries are founded. But one other use is more ominous for incumbents.

That is reliance on marginal cost pricing to literally “destroy” the pricing regime in an existing market, allowing a new competitor with radically lower cost structure to displace the current leaders. That is the essence of the phrase “analog dollars, digital dimes and mobile pennies.”

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