There has to be a Pony in Here Somewhere

As the old story goes, a kid was found whooping and hollaring in the stable when mucking out the stalls. When asked why, the child says “With all this **** around, there must be a pony in here somewhere.” 

One wonders if Internet service providers might just want to whoop and hollar at some point about net-connected TVs and online video in a broader sense, despite the obvious business model challenges the applications now provide. 

The number of online video viewers will grow from 563 million at the end of 2008 to 941 million by 2013, according to ABI Research. Ways to watch online video on standard TVs will be a key enabler of that growth, which explains why firms such as Cisco, not in the past associated with such consumer technology, will be entering the market for devices that allow watching of online video on standard TVs, rather than PC screens. 

While today’s consumer is most likely to watch online video on the PC screen, over time more and more consumers will watch over-the-top video delivered to the living room, ABI projects. That's one reason Netflix will be introducing a net-connected HDTV from LG Electronics at this year's Consumer Electronics Show. The device will connect directly to the Internet, without the need for a PC or other device, a Wi-Fi or other hard-wire connection from the PC or similar intermediary box to the TV. 

Netflix will tailor the TV to access the Netflix online service offers 12,000 movie and television titles. Yahoo  and Intel Corp. separately plan to announce support from several major consumer-electronics companies to sell TV sets that come with widgets that make it easier to call up Web content on TV sets using ordinary remote controls rather than computer keyboards. Yahoo's Widget Channel is an example of that. 

It seems unlikely such net-connected TVs will be a major mass market success any time soon, though. The additional hardware cost will be as much as $300 initially. And then there is the obvious challenge of user experience. Not many broadband connections will have the latency performance--nor assured bandwidth--to deliver large pictures on HDTV screens. 

On the other hand, such devices are a perfect example of an application that really would benefit from quality assurance of the sort ATM was designed to provide, and that traffic shaping, edge caching and other forms of assured content delivery also provide. 

Real-time services require traffic shaping and network management. Net-delivered video to HDTVs is going to prove the thesis. Right now, ISPs are mucking out the stalls. Someday, they will find the pony. 

Small Business: Big Segment

There are several reasons why small business customers are becoming more important to communications service providers of all types. For starters, there is more pressure in the consumer market, chiefly pressure on fixed voice lines and associated revenue-driving features. 

For many service providers, the small business segment is important for the same reason trans-national enterprises are more important for tier one providers.  As growth gets harder "in territory," providers must find new customers "outside of region." And costs being what they are, it is easier to expand out of region when serving business customers. And most of those potential customers are in the small business segment. 

Small business and mid-sized business customers are a key driver of growth strategies for incumbent and attacking providers alike. Smaller business customers have been the key segment for competitive local exchange carriers, value-added resellers, long distance resellers, many Internet service providers, managed service providers and Interconnect companies for decades, in some cases. 

Long Tail Doesn't Apply?

As observers have started to track sales of digital goods more closely, some apparently-contradictory evidence has started to appear about the "long tail" theory of sales in the digital domain. The concept: cheap digital distribution changes the retail sales function, allowing profitable sales of low-volume titles or items on a scale not possible in a physical distribution strategy. Most observers instinctively would agree. 

The key prediction has been that online distribution would allow niche businesses, content and goods to thrive in a digital distribution context impossible to sustain in a physical distribution context. As commonly understood, perhaps an additional 20 percent increase in volume should be feasible, as well as a change in "mass culture" that would fragment demand. 

But some sales data contradicts the notion. A new study by Will Page, chief economist of the MCPS-PRS Alliance, a music royalty collection organization, suggests that online sales success still relies on big hits. The study found that 80 per cent of all revenue came from around 52,000 tracks. For albums, of the 1.23 million available, only 173,000 were ever bought, meaning 85 per cent did not sell a single copy all year.

Frankly, the long tail now appears, in one sense, as the triumph of hope over experience. Many "wanted" online distribution to change purchasing patterns. The notion was that once huge variety was available, tastes would change. It isn't so clear why it is assumed "tastes" will change with different distribution. It is clear why fulfillment will change with cheaper distribution. But efficient, or better, distribution still should result in a "long tail" of demand that is the same as a distribution-induced "short tail" of demand. 

The reason derives from the theory itself. The idea behind the "long tail" is not actually new, and dates back to an Italian economist, Vilfredo Pareto, who in 1906 coined the Pareto Principle, popularly known as the 80-20 rule. Basically, the idea is that in much of life and nature,  roughly 80 percent of the effects come from 20 percent of the causes.

The same concept is known as Bradford's Law. 

As implied by the theory of the long tail, online distribution should allow retailers to sell small volumes of hard-to-find items, instead of selling a smaller number of highly-popular items. Most people can grasp that. What isn't so clear is why that expected distribution curve will be a "new" Pareto curve, instead of validating the existing Pareto curve. 

Under any normal set of circumstances, a Pareto distribution is what one would expect to see. Some have pointed to music sales at Rhapsody, an online music service. Of the 735,000 items for sale, 39,000 account for 78 percent of sales, while 796,000 titles represent 22 percent of sales. 

Likewise, Netflix data suggests 20 percent of total rentals are of "tail" or low-volume titles, while 80 percent of rentals are basically "hit movies" one would expect most people to be interested in. 

Is that confirmation of the operation of a Pareto distribution? Yes. Does it represent incremental sales of 22 percent that might not occur in a physical distribution scenario? Yes. Are the results unexpected? Not if one expects to see a Pareto distribution. 

Is the idea wrong, or useless? Not really. A Pareto distribution can assume a 70-30 pattern, for example, suggesting a bigger role for niche products than before. That represents an important shift of opportunity for providers of niche services and products because of online or Web distribution. 

But the long tail might not mean a revolution. Forrester Research, for example, estimates seven percent of retail sales in 2008 will have been made online, up from 3.2 percent in 2007. What does that mean? Most sales follow a Pareto curve: 97 percent of things sold still are sold the traditional way. There will be further shifts, of course.

But Pareto would suggest online sales will settle in at around 20 percent of total sales, at best, on a sustainable basis. 

Business Fixed Lines Up, Not Down

Fixed voice lines used by consumers appear to have fallen since June 2000. Overall fixed voice lines have fallen as well since then. All that would lead a rational observer to conclude that fixed voice lines sold to small and medium-sized businesses have fallen as well. But that is not in fact correct. 

Fixed voice lines sold to business customers have increased from about 45.7 million to about 64.6 million in December 2007, according to the latest Federal Communications Commission data. 

What is not clear is the degree to which mobile voice lines have affected overall enterprise or SMB voice lines in service. Since 2001 wireless voice accounts in service have increased from 124 million to 249.3 million. A reasonable assumption is that business use of mobile voice has accelerated since 2001. 

Researchers at IDC reported in 2006 that surveyed IT managers think nearly 30 percent of their supported employees use their mobiles as their primary work phone. About 41 percent of wired voice lines are used by business customers. If the same percentage of wireless devices likewise are used primarily in business mode, then there are about 102 million wireless devices used in a business mode. 

Surprising SMB Trends

Service provider prospects in the small and medium-sized business market appear to be relatively immune from economic disruption, though it would be an obvious prediction that some enterprise communications needs have decreased because of reduced headcount. 

Despite the highly-publicized wave of enterprise layoffs in November and December 2008, generally unreported is another  trend: smaller businesses are not generally participating in the waves of highly-reported downsizings. In fact, there is new evidence that hiring actually increased throughout 2008, while 75 percent of small business CEOS plan to increase hiring in 2009. That, in turn, is important for service providers as much communications service demand is created by headcount. 

A survey conducted by online payroll service SurePayroll has found that nearly four out of 10 small business owners have not seen their business negatively impacted by the down economy, and an additional four percent indicated that their businesses are actually doing better. 

Still, 18 percent of surveyed SMB CEOs have seen a significant drop in revenues while 42 percent have seen small decreases. That is not especially helpful for anybody, but does not suggest communications services will be hit by reduced headcount. 

According to SurePayroll's monthly tracking surveys, small business hiring actually increased every month between January 2008 and November 2008 (December data are not available yet). What is significant is that the U.S. economy was in recession for that entire period. 

Separately, Entrex Inc, a Chicago firm that markets information on privately held companies, conducted a survey which found 72 percent of small and medium-sized business CEOs plan to increase the number of full time employees in 2009. Also, despite all the news regarding staff reductions, the remainder of the survey respondents indicated they would maintain the current number of full time employees. 

SurePayroll surveys show that,  year-to-date, small business hiring is up 3.3 percent nationwide.

One can argue there could be some weakening of business fixed line buying, but available evidence so far is that business lines in service have increased since 1996, not decreased, though propelled by increased buying of special access circuits more than voice lines. Still, increases in the number of small businesses over the last 10 years have increased SMB voice line buying. 

In 2002, for example, there were 23.3 million small business firms in operation. In 2004 there were 25.4 million small businesses in operation. In 1988 small businesses employed 87.8 million workers. In 2004 small businesses employed 115 million workers. That doesn't mean smaller businesses will fail to take measures to contain their operating costs. It is to suggest they do not seem to be any more willing to cut back on key communications capabilities than in past recessions.

Consumer and IT Spending in Recessions: The Record

Recessions affect consumer spending unequally. During the 1990–1991 and 2001 to 2002 downturns, for example, U.S. consumers changed their priorities, instead of making across-the-board cuts.

Daily amenities such as eating out, purchases of personal-care products and apparel buying tended to suffer, according to analysts at McKinsey & Co.

But categories such as groceries and reading materials, which substituted for more expensive options, actually benefitted from higher spending, as did insurance and health care. Spending on education showed the biggest increase.

What one probably cannot glean from this particular set of data is that "communications" and "multi-channel video entertainment" spending does not change much.

During recessions, tech spending has historically fallen more than gross domestic product has, say McKinsey researchers. "Our research covering economic downturns in 50 countries over the past 13 years indicates that information technology spending typically fell five to seven times farther than GDP, with the most severe declines in hardware (which fell eight to nine times GDP and less severe ones in software and services, falling three to to five times GDP, McKinsey says.

The decline was much larger during the 2001 downturn because spending on computing and telecommunications equipment as a percentage of GDP (IT intensity) had previously soared to historic levels. A boom in tech start-ups, along with Y2K fears, promoted a spending surge on communications equipment, servers, and a range of other products.

When the economic slowdown arrived, start-ups foundered, many companies had too much tech and telecom capacity, and spending cuts across the economy were severe, McKinsey notes. Chastened by that experience, many companies have since
pressured their CIOs to manage IT more effectively.

As the economy enters the current slowdown, the growth of IT intensity is closer to its historic trend, even slightly below the 10-year average. Still, "it does seem likely that the sector’s experience could be more in line with historic trends than it was in 2001."

Broadband: Where We're Going

It's tough to maintain meaningful metrics in the communications business, in large part because the essential business inputs change over time.

Telephone company "access lines" and "basic cable subscriptions," once useful metric s, no longer adequately capture business performance. So we have the substitute "revenue generating unit."

Something along the same lines now will happen in the broadband access area, where counting "lines" once made sense, but increasingly will not capture business performance.

For starters, "average" speeds and "prices" will not be so useful as higher speeds become commonplace, rendering "average" price less meaningful than perhaps "average price per Mbps of service." Also, as wireless broadband becomes more prevalent, we routinely will begin to exceed 100-percent broadband penetration per household, in at least most households.

Broadband: Where We've Been

In 2004, the average monthly Digital Subscriber Line price was $38, compared to $31.50 in 2008. The average cable modem monthly price was $41 in 2004, down to $37.50 a month in 2008. International Telecommunications Union data also show that the trend of higher speeds and lower prices has been underway since 2003 at the very least.

In 2003, each 100 kbps of capacity cost about $11.50. By 2006, 100 kbps of capacity cost less than $6. Over that same period, capacity rose from 1.5 Mbps in the downstream to more than 4 Mbps.

In 2009, Sell to the Federal Government, If You Can

U.S. federal government spending on telecom, applications, outsourcing, services, support, network hardware, computer hardware and IT personnel will grow about 5.6 percent in 2009, after growing about 5.3 percent in 2008, representing about $80.6 billion worth of spending, says  Compass Intelligence. The annual growth rate in 2007 was 6.5 percent.

By 2012, the federal government will spend $98.5 billion on IT goods and services, Compass Intelligence says. Initiatives to support a mobile workforce, E-government, a high-tech military, cybersecurity and green technology are among the federal spending priorities.  "Federal government IT spending is expected to remain rather steady, despite economic conditions," says Stephanie Atkinson, Compass managing partner. 

 

Application spending is expected to be the fastest growing segment, experiencing annual growth between 8.6 and 9.8 percent. Telecom services spending will be driven by wireline data, including IP telephony and broadband services, as well wireless data investments.

 

The Defense segment represents about two thirds of total Federal Government IT spending. 

Suppliers not already certified to sell to military and federal agencies may miss the direct opportunity, though. It takes time to build the relationships and supply the features required by many federal agencies, and none of that can be done fast. 

On the other hand, some suppliers will benefit from indirect federal spending, as they will receive tax credits or grants as part of a government stimulus package starting in 2009, though. 

The caveat is that most, if not all of that support will go to facilities-based service providers with access networks. In many cases, those recipients also will be "carriers of last resort."

Birch Communications Flips Switch on IP Network

Birch Communications a competitive local exchange carrier that serves small and medium-sized businesses in the North Texas market, has launched an Internet Protocol network to replace the company’s current digital network.

The objective of the launch, which utilizes MetaSwitch and Zhone Technologies equipment, is to provide customers with high-performing network services, Birch says.

Atlanta-based Birch serves clients in 31 states throughout the Southeast, Southwest and Midwest.

Clearwire Sued for Patent Infringement

A Dallas-based company has filed a lawsuit against Clearwire Corp. and Sprint Nextel Corp., alleging patent infringement related to the use of six patents held by Adaptix Inc., which has filed the lawsuit.

Adaptix says its patents on multi-carrier communications with group-based subcarrier-cluster allocation, adaptive subcarrier-cluster configuration and selected loading, medium access control for orthogonal frequency division multiple access, multi-carrier communications with adaptive cluster configuration and switching and adaptive subcarrier cluster configuration and selective loading are being infringed.

As is the case with such high-profile cases, it is doubtful the issue will result in a shutdown of the Clearwire network, though that cannot be discounted as a possibility if the parties cannot agree on a settlement.

Mediterranean Cable Cut Disrupts Europe-Asia Traffic

Internet and telephone communications between the Middle East and Europe were disrupted after three submarine cables between Italy and Egypt in the Mediterranean Sea were damaged, according to Bloomberg. France Telecom SA, which plans to send a maintenance boat to fix the problem, said the situation should be back to normal by Dec. 31.

Three cable systems carrying more than 75 percent of traffic between the Middle East, Europe and America have been damaged, according to the U.K.'s Interoute. The cables run from Alexandria in northern Egypt to Sicily in southern Italy. In January, an anchor severed the cables outside Alexandria after bad weather conditions forced ships to moor off the coast.

``The information we have is a bit sketchy, but chances are that it will have been an anchor again,'' Jonathan Wright, Interoute's director of wholesale products, said in a telephone interview. ``Close to 90 percent of all the data traffic between Europe and the Middle East is carried on these three cable systems,'' Wright said.

A January 2008 cable cut off Egypt brought down 70 percent of the Internet network in India and the Middle East.

Vodafone Group Plc's Egyptian unit is among service providers affected by the cable failure.

France Telecom's Orange mobile-phone unit said the cable failure ``greatly disturbed'' the traffic between Europe and parts of Asia. At one point as much as 55 percent of voice traffic in Saudi Arabia, 52 percent in Egypt and 82 percent in India was out of service, according to Orange.

Internet traffic from Mumbai to London now has been re-routed via Hong Kong which may lead to congestion and increased latency on this route,'' Reliance executives said.

The fault is affecting the SMW4 cable near the Alexandria cable station, the FLAG FEA cable and the SMW3 cable system.

Reliance Globalcom doesn't know exactly what happened, but there will be suspicions of an anchor snagging the cables.

The SMW4 cable, also known as SEA-ME-WE 4or South East Asia- Middle East-Western Europe 4 cable network, connects 12 countries: Pakistan, Indonesia, Singapore, Malaysia, Bangladesh, India, Sri Lanka, United Arab Emirates, Saudi Arabia, Egypt, Italy and France.

Downturn Changes "Build or Buy" Economics

SureWest Communications plans to pull back on the expansion of its fiber-to-the-home network next year in an effort to free up cash to buy other telecommunication companies, according to the Kansas City Business Journal. The possible change in growth strategy is a direct result of the decline in equity values that now makes it more affordable to buy assets rather than build new broadband access infrastructure. 

The economic downturn has lowered the stock values of many other telecommunications companies, while SureWest’s stock price has ticked upward. That happy prospect now makes possible acquisitions that some other firms might not be able to pull off. It’s at least temporarily become cheaper to buy telecom companies and networks than to build out a network, SureWest CEO Steve Oldham says. 

The company plans to cut its capital expenditures by about a third in 2009. In 2008, SureWest’s capital expenditures are expected to total about $86 million. Next year, SureWest plans to reduce its capital expenses to between $55 million and $60 million, with 17 percent dedicated to a network expansion. 

If acquisition opportunities don’t arise for SureWest in the coming months, the company would put more money back into adding more fiber connections on its existing network, Oldham says. 

One predictable outcome of the current recession, as always is the case, is a wave of mergers and acquisitions, and SureWest looks to be a buyer. 

2009 Business Comms Spending Probably Flat

Overall spending by all U.S. businesses on wired and cellular calling is forecast to reach nearly $140 billion by the close of 2009, says a new market research report from Insight Research. Insight doesn't make a specific forecast for how that will stack up against 2008 spending, but the company's other forecasts suggest slight growth in 2009. 

Wholesale trade; financial, insurance, and real  estate services; professional business services and communications verticals accounted for 70 percent of total  business telecom expenditures by the end of 2008. Add durable manufacturing and healthcare and these six verticals would account for over 80 percent of total business telecom expenditures.

The study predicts that cellular calling will account for just over 41 percent of the U.S. corporate phone bill for telecommunication services in 2009, and is the fastest growing  expense area. 

Insight Research estimates that businesses spent $81.4 billion on wireline services in 2008. Over the forecast period, an increasing percentage of the business revenue growth will come from enhanced services, often for vertical industries, as telecom providers seek to avoid damaging price competition by positioning their services as value-added solutions rather than commodities.

Insight estimates that the total U.S. telecom wireless market will reach $147.7 billion in 2008. The CAGR for the forecast period is 

estimated to be 15.2 percent. Thus, unlike the wireline market, the wireless market will continue to grow over the next five years, reaching $299 billion by 2013. 

In the fourth quarter of 2005, Verizon Wireless accounted for 40 percent of the company’s total revenue, as compared to the fourth quarter of 2004 in which wireless revenues accounted for 35 percent of the company’s total revenue. In terms of 2006 annual revenues, 

Verizon reported the following: Verizon Wireless contributed $38 billion to the bottom line; Verizon Telecom contributed $33.3 billion; and Verizon Business contributed $20.5 billion. For 2007, Verizon Wireless contributed $43.9 billion to the bottom line, up 15.3 percent from 

2006; Verizon Telecom contributed $31.9 billion, which was a drop from 2006; and Verizon Business contributed $21.2 billion.

All the data suggests that wireless will continue growing faster than all other segments.

 

Wireless service revenues are expected to grow at a compounded rate of nearly 16 percent annually from 2008 to 2013, while growth in wired services remains essentially flat.

Possible Increase in Wireless Substitution

If survey respondents act the way they say they might, we could see an acceleration of wireline voice substitution during the recession.  

Sprint sponsored a survey that found 32 percent of respondents are likely to eliminate their landline service and rely solely on a mobile phone in order to save money. About 18 percent of respondents already do not have landline phone service at their home.

When asked why they would give up their landline phone, 76 percent said they would disconnect in order to save money.

The findings are significant as all service providers are watching for signs of churn behavior, service downgrades and other actions consumers could take if they really are interested in saving money during the recession. 

Some 36 percent of respondents say "a mobile phone is the only phone they will ever need." 

The recession will end, of course. People will not have the same motivation to cut their landline service for financial reasons.  But there is one question we are not asking that will bear on demand for wireline voice service: if one argues there is a secular trend for people to abandon wired voice lines for wireless, one has to account for the reasons millions of consumers are keeping their voice lines, but moving them to cable providers. 

The question might more appropriately be asked: what value-price relationship is compelling enough for people to continue using wireline voice? At the moment, part of the answer seems to be that the service still is viewed as useful, when it does not cost as much. Certainly that would seem to be the cable digital voice customer profile. 

What nobody has had a chance to test on a wide scale is fixed broadband voice, delivered at a price so compelling the value-price relationship is changed. Someday we'll see such tests.