Firms Now Must Look for Growth Across the Ecosystem

As it consolidates horizontally, the telecom industry (access service providers of all sorts) also  has no choice but to look elsewhere within the internet ecosystem for growth, as “elsewhere” is where long-term growth is to be found.

That is not to downplay the near-term contributions greater scale will make. In the near term, firms will merge to create greater scale. But consolidation will not be enough, over the long term.

“It is no longer appropriate to develop corporate strategies, or to assess policy situations, with a narrow focus on a single segment of the value chain, A.T. Kearney analysts have argued.

For access providers (telcos, cable TV, satellite access providers and other internet service providers), that means looking beyond access services for growth (“up the stack,” mostly).

The reason is that value within the ecosystem  is shifting, while participants increasingly are moving into adjacent or other parts of the ecosystem, perhaps nowhere as extensively as in the apps space.

“As players such as Apple, Facebook, and Baidu expand into adjacent segments, their rationale is based on leveraging scale and integrating services and features into their core products and platforms to create barriers to entry,” A.T. Kearney analysts note.

By 2020, perhaps 52 percent of value will lie in applications, while just seven percent lies in internet access. In other words, between 2015 and 2020, the value contribution of internet access will drop 50 percent, as a percentage of total, even if gross revenues climb in many developing markets.

Will early deployment of 5G networks produce gains, and if so, for whom? Some argue that “value” ultimately drives results. If so, then it already is clear that about half  of value within the internet ecosystem, as expressed in revenue, lies in applications, about 14 percent in internet access.

source: AT Kearney

source: AT Kearney

So think about 5G. Will early deployment of 5G networks produce gains, and if so, for whom?

Ignoring for the moment broader answers, such as “users, society, the economy were the winners,” and looking only at the “telecom” part of the ecosystem, one might argue 3G was one thing, and 4G another, so 5G might not produce winners where one expects to find them.

The winners might be found disproportionately in the applications or device segments of the  business, and less in the network infrastructure or service provider parts of the business, for example, and for different firms in each era.

Roughly speaking, one can argue that 3G produced the biggest winners in the network infrastructure and handset segments of the business, mixed results in the service provider part of the business, and important new inroads by application providers.

One problem is that it is not clear there has been any single killer app, killer use case or killer capability that clearly defines the 3G and 4G eras.

For example, if you had to name a single “killer app” for 3G, what would that be? Some would say there was no killer app for 3G.

So some would say it was “mobile broadband ” or “mobile internet access” was the key advance beyond 2G. And many hoped-for new applications did not materialize in 3G, and arguably only became common features in the 4G era (think video calling).

In fact, some might say text messaging (first introduced by 2G networks) that became something of a killer capability for 3G, even if the 3G network did not introduce it.

Others might say the best example of a killer app was  mobile email (think BlackBerry). In fact, it arguably was the rise and fall of that killer app in the 4G era that lead to the demise of Research in Motion (BlackBerry) as a lead force in the devices portion of the ecosystem.

That might lead some to argue it was the “easy to use smartphone” (think Apple iPhone) that suggests the killer feature of 4G networks, or social networking, or multimedia social networking.

Likewise, the killer app for 4G is similarly elusive. Some might argue it was tethering (internet access) that was a killer use case. And it might well turn out that it is entertainment video that ultimately becomes the killer app for 4G.

Right now, we can only guess at whether a 5G killer app, feature, use case, capability or business model might actually emerge. There are two areas where supporters currently believe such developments could occur: internet of things and full substitution for fixed network internet access.

And there is the worrisome 3G precedent: the hoped-for innovation in value and revenue really did not happen until 4G. So it is unfortunately possible that 5G will be more like 3G than 2G or 4G: producing less than hoped for innovation in new services or revenue.

Or, perhaps more accurately, might 5G produce less new revenue than older revenue streams are cannibalized? At a very high level, voice revenue is being cannibalized by mobile data revenue because better mobile internet access means substitute products are available.

The safest bets right now are that internet application providers are going to win, as well as some handset suppliers. Some infrastructure suppliers will benefit, for a while. But it is not so clear that all service providers will win, or will win to the same degree. In fact, there always is the precedent of 3G.

Though the problem with 3G in some markets was operator overpaying for spectrum, and though that is not likely to happen in the 5G era, the business model could still emerge as a big issue.

So if it is Not the Wi-Fi, Might it Also Not be the Access?

Local access gets blamed for all sorts of problems that could come from devices, signaling, server latency, core networks or far-end access, not to mention normal core networ congestion. If Wi-Fi sometimes is not the experience bottleneck, maybe the same is true for mobile or fixed network access.

https://networkingnerd.net/2017/08/04/its-probably-not-the-wi-fi/

Verizon LAA Test shows 953 Mbps 4G Downlink Speed

Why do mobile service providers want to use Licensed Assisted Access (LAA), aggregating mobile spectrum with unlicensed spectrum? Because doing so allows higher speeds.

In what Verizon calls “a U.S. wireless industry first,” Verizon, Ericsson, and Qualcomm Technologies achieved 953 Mbps downlink  speeds on a commercial 4G network in Boca Raton, Fla.

The demonstration used all commercially available Verizon network components including a cell site, hardware, software, and backhaul. Riding on the backbone of Verizon's most reliable network infrastructure, while Ericsson provided an advanced remote radio head in the industry.

The micro Radio 2205 for LAA, designed for unlicensed spectrum use, provides small dimensions, flexible mounting and superior performance, and is a component of the Ericsson Radio System, an end-to-end modular radio network portfolio of hardware and software designed to fit all site types and traffic scenarios as networks grow in scale and complexity on the road to 5G.

Qualcomm Technologies provided a Qualcomm® Snapdragon™ 835 mobile platform test device, with Gigabit LTE capability thanks to the integrated Snapdragon X16 LTE modem.

Inevitably, as near-gigabit speeds are deployed on 4G, some are going to start complaining about “fake 5G.” For human users, for typical applications, it will not matter, no matter what we call it.

There will be some apps that will benefit from 5G lower latency, but most 4G users likely will not much notice the difference between 4G and 5G latency in normal daily use.

The same sorts of complaints were raised when 4G first was introduced. There was the issue of whether WiMAX was really 4G, for example. I used it. So did lots of other people. We just wanted faster speeds. We couldn’t really have cared much which “G” we were using.

Is it Counter-productive to Try to Create Value by "Unlimited Usage" Plans?

As veterans of the computing industry will willingly attest, it is quite difficult to differentiate on the basis of “feeds and speeds.” Advantage, when it can be gained, is rarely long lasting, since all contestants have access to the same fundamental technology.

On the other hand, where different platforms contest, advantage can be more significant. The best example is internet access supplied by hybrid fiber coax or DSL, or HFC and fiber to the home. In the former case, cable simply is “better.” In the latter case, “quality” is not the case, so much as the business case.

From time to time, one mobile supplier or another can claim advantage, either in terms of geographic coverage, or spectrum assets (capacity), or even air interface. All those differences can lead to quantitative advantages for some time.

“Unlimited usage,” though, is proving to be a case where “speeds and feeds” do not seem to offer sustainable advantage.

To be sure, in 2012, when T-Mobile US made unlimited a key pillar of its Un-carrier strategy, the move triggered a massive surge of market share for T-Mobile US. Sprint also had an unlimited usage plan.

Then Verizon and AT&T were  forced to react. The problem is that any claim of “unique value” becomes harder to demonstrate when all the suppliers offer the feature. Marketing advantage was fleeting.

Not surprisingly, “unlimited usage” encourages customers to use more data, which is the corollary of this method of boosting value.

And that means the effort to boost value this way is problematic. As usage grows, carriers eventually have to add more capacity. That means higher capital investment. So unlimited use ceases to be a meaningful differentiator, but results in higher capex requirements and higher operating costs.

Also, not paradoxically, the effort to provide “value” in the form of “unlimited usage” ultimately is muted, but in turn increases costs. Also, end user experience arguably falls, providing less value.

According to OpenSignal, over the last six months, overall 4G speeds for Verizon and AT&T have dropped.

The impact of unlimited was particularly evident for Verizon, which saw its average LTE download connection fall 12 percent, from 16.9 Mbps to 14.9 Mbps.

AT&T's decline was less pronounced, at 12.9 Mbps, down from 13.9 Mbps. OpenSignal says it has recorded steady decreases in average 4G speed each month for both operators since they unveiled their unlimited plans in February.

The most likely and obvious explanation for slower speeds is higher congestion caused by more customers using more data.

Competing on speeds and feeds remains problematic.

Railroads or Transportation; Transportation or Logistics?

An old adage suggests railroad companies missed their chance to enter other big and growing markets because they defined their business as “railroads” instead of “transportation.”

One might surmise that present thinking about the impact of autonomous vehicles could represent a similar opportunity to redefine present businesses, or to miss a big growth opportunity.

In a recent survey of 455 U.S.-based companies across nine verticals, ABI Research found 30 percent  of transportation industry respondents plan to introduce robotics into their business operations within the next year, with another 22 percent actively assessing the technology.

Still, 44 percent  of respondents are not familiar with autonomous vehicle technology for transport. ABI also says there is a a resistance to share data with potential partners who also are competitors.

Only two percent of respondents highly rank sharing operational data with peers and only 14 percent see data sharing  with key partners as being of high importance.

Some 34 percent of respondents favor “freight as a service,” but only two percent of respondents highly anticipate that it will grow their customer bases. Most of the currently-envisoned innovations have to do with improving current operations (vehicle tracking, for example).

Only four percent of respondents rank navigation and guidance applications as a priority.

“Transportation providers may view intelligent transportation technologies as solutions to evolve their existing transportation operations versus opportunities for developing new revenue streams and business models,” says Susan Beardslee, Senior Analyst at ABI Research.

Perhaps we should not be too surprised by the findings. Rare is the executive with profit-and-loss responsibilities who instinctively looks to future opportunities and innovation, when the existing business is where rewards lie.

You might remember we have seen this before. You might argue FedEx saw something other than "transportation" as the foundation of its business model; something more like logistics than transpotation.

"Value" is Key for Internet Access, as for All Telco Access Services: 5G Might be the Answer

Consumer perceptions of the value of internet access largely explain the divergence between telco and cable products since about 2006, when cable operators deployed DOCSIS 3.0 platforms.

But that does raise an important question: telcos have to boost “value” (perceived quality in relationship to price) to compete in the internet access business. That is a “defensive” move, designed to preserve as much consumer access revenue as possible, even if such access revenue is not expected to drive overall revenue growth.

Unless you believe it is possible for a tier-one access provider to divest the consumer assets, and retain only assets to support its enterprise, small business and mobile businesses, ownership of the mass market access network is unavoidable.

So the challenge there is to retain as much legacy revenue as possible, with margin, while focusing revenue growth efforts elsewhere.

That is true even if one also believes that capital must be reserved for other important purposes, such as investing in new apps (and revenue) “up the stack” or making horizontal acquisitions to boost access scale in the near term, plus other business model requirements such as paying dividends.

source: FCC

Consider the key matter of market share. “When overall industry revenue growth is stagnant, as it is with most telco markets, market share movements become the determining factor of an operator’s top-line performance,” says James Sullivan, J.P. Morgan head of Asia equity research (except for Japan).

In other words, telcos cannot afford to sacrifice more consumer internet access market share, as that directly affects top-line revenue performance. That is why there is so much interest in fixed wireless, combined with deep-fiber networks and use of small cells.

Aside from what those investments mean for the health of the mobile business, the same set of core investments should enable a new alternative for consumer internet access, namely gigabit fixed access without full capital investment in fiber to the home.

In that sense, 5G might be the most important innovation in the fixed network access business we have seen to date, as important as G.fast and FTTH are.

If Access Networks are "Not Commoditized," Then Higher Telco Capex is Required

Networks “are not commoditized and therefore value is a function of price and quality,” argues James Sullivan, J.P. Morgan head of Asia equity research (except for Japan). So it is “value” that ultimately drives usage, capex and opex.

If so, then U.S. telcos have a key choice to make: increase the value of their internet access services to keep pace with cable competitors or lose even more market share.

Back in 2004, cable modem and digital subscriber line internet access speeds were fairly similar (average between 3 Mbps and 6 Mbp), even if cable had a speed edge. By 2006, when cable operators introduced DOCSIS 3.0, cable took a lead it has not relinquished,  while DSL only grew speeds a bit.

Still, as recently as 2013, when typical cable modem connections were substantially faster than typical digital subscriber line connections, and by which time U.S. consumers were showing a clear preference for cable modem service, some might still have argued that DSL was competitive, from an end user experience perspective, with cable modem service.

That seems to have changed dramatically in 2014, as cable operators widely deployed DOCSIS 3.0 systems.

To be sure, many would argue that, in some instances (where access lines are short), G.fast will make a difference, closing the performance gap. Others are betting on fixed wireless using 5G.

source: FCC

DOCSIS version[13]	Initial release date	Maximum downstream capacity	Maximum upstream capacity	Features
1.0	1997	40 Mbit/s	10 Mbit/s	Initial release
1.1	2001	40 Mbit/s	10 Mbit/s	Added VOIP capabilities, standardized the DOCSIS 1.0 QoS mechanisms
2.0	2002	40 Mbit/s	30 Mbit/s	Enhanced upstream data rates
3.0	2008	1.2 Gbit/s	200 Mbit/s	Significantly increased downstream/upstream data rates, introduced support for IPv6, introduced channel bonding
3.1	2016	10 Gbit/s	1 Gbit/s	Significantly increased downstream/upstream data rates, restructured channel specifications
3.1 Full Duplex	TBD	10 Gbit/s	10 Gbit/s	Introduces support for fully symmetrical speeds

source: Wikipedia

source: FCC

source: MyBroadband

source: CableLabs

Windstream Takes Another Big Gamble

Windstream already has taken a couple big gambles, betting on becoming a business services provider and spinning off its network assets into a real estate investment trust. It now has taken another big gamble, eliminating its dividend.

It likely is never a good sign when a former dividend-paying company eliminates its dividend, as Windstream now has done. There are two ways to look at the move, and both suggest high degrees of risk.

Nearly two decades ago, a few dividend-paying telcos or platform suppliers had to consider eliminating their historic dividends, so severely had the business model become. The potential upside was that such moves would allow the firms to invest scarce capital in plant and other potential growth initiatives, such as making acquisitions.

The big potential downside was that such moves were a gamble; an effort to replace one whole class of investors (dividend seekers) with a new class of investors (seekers of growth). The big gamble, in that regard, was the ability to make the transition from a utility-like business model to a true “growth” profile.

A few firms in such predicaments did cut dividends. Perhaps more firms decided to sell themselves.

It is not yet clear whether Windstream’s move, which will conserve capital, will succeed, long term. The firm already had spun off its network assets into a separate telecom real estate investment trust. The result is that the Windstream operating business actually does not own the networks it uses to provide its retail services.

Windstream, in essence, is a fixed network version of a mobile virtual network operator. It also is a big competitive local exchange carrier with a big incumbent network, sort of on the CenturyLink model.

And that is the gamble Windstream now appears to have taken: move further in the direction of being a business services specialist.

"Overinvestment" is as Bad as "Underinvestment"

“Overinvestment” arguably is as big a problem as “underinvestment” where it comes to access facilities. Consider the matter of internet access capabilities. As a marketing platform, “gigabit internet access” now increasingly matters, as it is becoming the U.S. market norm.

But the cost to gain that capability matters, as numerous internet service providers have found that take rates for that package are less robust than might have been expected. CenturyLink, for example, acknowledges it is losing customer accounts in the “under 20 meg” service areas. That mostly is because cable alternatives in such areas are in the hundreds of megabits per second range already, and are heading for a gigabit.

“But when you get to 20, 40 and above, we're seeing growth year-over-year in subscribers,” said said Maxine Moreau, CenturyLink president of consumer markets. “And what we say is as the customers move in higher-speed tiers, we see a corresponding reduction in churn.”

“Even in the markets where we have gig, customers they're not buying gig,” said Moreau. “They might buy 40 meg, 100 meg even though we have one gig available.”

Avoiding “overinvestment” is precisely why Google Fiber, Verizon and AT&T will be looking at 5G-based fixed wireless alternatives to more fiber to the home deployments.

Harvesting of Legacy Revenues Still Matters

Relying on “legacy” services is not a strategy for revenue growth at most tier-one telcos, nor is it a “safe” strategy for the longer term.

On the other hand, incremental gains in the legacy business can be a huge contributor to maintaining revenue and profit margins as growth initiatives are launched.  In other words, in the near term, it still matters to harvest as much legacy revenue as possible.

And that is what Frontier Communications hopes to achieve over the next quarter and year as it looks to grow business revenues in the Texas, California and Florida assets Frontier purchased from Verizon.

One strategy is to leverage the installed distribution and access fiber to boost business revenues in those areas.

And getting more leverage out of legacy assets is a big concern at CenturyLink as well. Note the language in CenturyLink’s second quarter earnings call.

“Second quarter operating revenue on a consolidated basis was approximately $4.1 billion, a seven-percent decrease from second quarter 2016 operating revenues.”

“Core revenue, defined as strategic revenue plus legacy revenue, was $3.66 billion for the second quarter, a decrease of 7.9 percent from the year ago period.”

“Enterprise segment generated $2.22 billion in operating revenues, which decreased nine percent from the same period a year ago. Second quarter Enterprise strategic revenues were $985 million, a decrease of 8.9% compared to the second quarter 2016.”

“Legacy revenues for the segment declined 10.1 percent for second quarter 2016.”

The consumer segment decreased 6.2 percent, year over year. Consumer strategic revenues declined four percent year-over-year.  

“We do anticipate coming in slightly below our full-year 2017 revenue and adjusted diluted EPS guidance, primarily driven by higher legacy revenue decline and lower consumer broadband revenue growth than anticipated,” CenturyLink said.

Many would doubt it is possible for CenturyLink or Frontier Communications to reverse those trends in the legacy business.

Slow, steady decline is how Moody’s recently described the outlook for U.S. telcos Windstream, CenturyLink and Frontier Communications. But Moody’s also said that higher capital investment could help those firms avoid that fate. CenturyLink has boosted its capex to raise internet access speeds.

One might suggest another possibility: in addition to higher capex, it might be possible to boost internet access speeds at lower cost than previously was thinkable, using newer access technologies, ranging from G.fast for augmenting digital subscriber line to fiber to the home to fixed wireless.

Harvesting matters, in part, because it buys time for a transition to new revenue sources and business models.

80/20 Rule for Fixed Network Assets in the 5G Era

The function of the fixed network has been changing for decades, and should change still more in the 5G era. Originally, the fixed network was the mechanism for supplying retail services to consumer and business customers.

In the 5G era, more of the value of the fixed network will come from its trunking capabilities, to support fixed wireless, small cell, macrocell and business customers, and less from retail fixed network services for consumers.

That seems to provide yet one more example of the 80/20 rule, or Pareto distribution, in business and life. Even if 80 percent of the value of the fixed network eventually comes from 20 percent of the use cases, an access provider likely must continue to operate the full network for all potential use caes.

Several years ago it was possible to argue that three major “rural telecom services providers” had made a clear strategy switch to focus on business customer segments. CenturyLink provides the foremost example. After the acquisition of Level 3 closes, CenturyLink will earn a massive 88 percent of total revenue from business customers.

Windstream and Frontier Communications also had made moves in the direction of business segment revenue. As recently as 2015, all three former rural carriers earned a majority of revenue from business customers. Windstream earned 78 percent of its revenue from business customers, for example.

Then Frontier Communications made a major shift by acquiring Verizon accounts in California, Texas and Florida, representing about 3.7 million voice accounts, mostly of the consumer variety. That backed business revenue down from a high of about 46 percent to 40 percent.

source: Frontier Communications

For Windstream and CenturyLink, then, a big issue is that their legacy mass market networks are generating a relatively small portion of total revenue, but likely driving a disproportionate share of costs.

In its second quarter of 2017, CenturyLink earned about $2.2 billion from its enterprise segment and about $1.4 billion from its consumer segment.

But traditional rules of thumb suggest that about 80 percent of total costs come from the access network, and that relatively little of the access network cost actually supports business customers. The other problem is stranded assets.

CenturyLink like has less than half its access lines serving the consumer segment earning revenue, as cable TV competitors tend to have more than 50-percent share in the consumer market. So the cost of the asset base is supported by an account base that is about half what it once was.

That is why CenturyLink  says its operating expense per access line increased by more than 50 percent from 2007 to 2015, from approximately $650 to nearly $1,000.

Enterprise costs per data circuit also increased from $18,831 to $20,832, from 2011 to 2015. But the rate of increase was less than in the consumer services segment, and revenue from enterprise services also is much higher.

It never has been clear that any tier one service provider’s mass market access network could be “spun off,” retaining only the core assets required to support its enterprise customers.

The big challenge is that the mass market network contributes some revenue, but not the growth, for a tier one fixed network such as CenturyLink operates. Verizon’s customer base is different, so consumer arguably makes a bigger growth contribution.

This might be one of those instances where the 80/20 rule operates. At a high level, 80 percent of the growth comes from 20 percent of the network, but no operator can afford to dispense with those assets.

It remains striking that the rather-extensive access networks operated by the former rural carriers generate so much of their total revenue from a relatively small portion of the asset base. That is less true for the cable networks, which were legacy consumer market suppliers, but the portion of cable operator business revenue will continue to grow.