In the competitive era of connectivity services, asset owners have confronted a fundamental strategic issue where it comes to revenue growth: stick to their core businesses or diversify.
The former almost ensures slow growth; the latter poses debt and cash flow issues. Even the most skillful practitioners have yet to find that diversification contributes much to overall revenue growth, while posing other risks.
Though global service supplier revenue has grown, it has done so primarily because of the shift to mobile communications, especially in areas of the world where use of communications has been low. In developed areas, mobility services have mostly cannibalized fixed network services.
Once the coverage issues have been solved, and most people are able to buy and use mobile services, revenue tends to grow less than the overall economic growth rate. In past decades service providers have sought to add growth by investing in different geographies, but debt burdens and established competitors now make this a riskier proposition.
Also, profit margins in the global industry have been falling for decades, largely because competition has wrung monopoly-era profits out of the business and in part because new digital technology allows firms to maintain profit margins at lower gross levels of revenue.
Viewed as financial assets, connectivity services have been--in either monopoly or competitive eras--low growth businesses similar to other “utility-type” and infrastructure industries.
So the advice to obtain growth has been predictable: connectivity providers need to take on additional roles within the value chain, which allows them to add growth, profit margins and asset valuations typical of firms in those segments of the value chain, and escape complete reliance on the connectivity function.
That has proven problematic. Such diversification moves often have failed. But even when the moves succeed, telcos often find the additional revenue is valued in a lower “connectivity service provider” manner, rather than at levels commonly expected of firms that are pure plays in the other roles and value chain segments.
Looking at NTT, and only since 2000, the firm has made many moves into additional functions, roles or industry segments. And while the contributions to revenue or asset value are easier to identify, the contributions those assets have made to boosting profit margins are much harder to pin down.What is almost impossible to illustrate are any changes to NTT valuation metrics beyond those one would expect from higher revenue or growth rates.
Almost perversely, when tier-one firms have made diversification moves--assuming they are positive in terms of adding revenue--calls inevitably rise for divestment, typically because those asset acquisitions have created debt burdens seen as more problematic than the value of the increased revenue gained.
In essence, the desire for higher growth, higher profit margins and asset appreciation are at odds with the demands for maintaining cash flow and producing dividends. Were it possible to organically create new lines of business at sufficient scale, funded solely from retained earnings, there might not be a problem.
The issue is that connectivity is a scale business, so acquisitions frequently are the only way to add new capabilities at scale big enough to affect bottom lines. But that means taking on debt burdens.
And that is a fundamental problem. Sticking to the connectivity core almost inevitably means slow growth. But diversification might create as many new problems as it solves.
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