Mobile Service Providers Somehow Must Gain 2 Orders of Magnitude in Cost Savings, Really

No telco executive with profit and loss responsibilities is unmindful about the urgency of addressing the twin challenges of revenue and cost in the business.

Precisely how to change, and how much benefit can be obtained by making changes, is the issue.

And though it is easy to conclude that access providers simply are not very good at creating new revenue streams while attacking cost elements of the business, that common perception--however correct--trivializes the “really hard problem” being faced.

Consider one obvious problem, namely the impact of rapidly-growing video bandwidth consumption.

The biggest problem--and the issue arguably affects mobile access providers at about  two orders of magnitude more than a fixed network access provider--is that dramatically higher demands for Internet bandwidth on the part of customers does not automatically translate into “revenues” for the access provider.

Instead, such demand creates a requirement for continual investment in facilities, without directly providing incremental revenues to match. As the conundrum often is described by Norman Fekrat, Lemko Corporation chief strategy officer, mobile service provider Internet data costs are “$10 a gigabyte when they need to be 15 cents a gigabyte.”

Some will immediately be tempted to quibble about those figures of merit, but the larger point is the two orders of magnitude gap between mobile and fixed network costs per gigabyte of delivered data.

As a working hypothesis, assume that a $10 per gigabyte retail price, with a 40 percent margin, means the network-related cost is about $6 per gigabyte in the mobile realm, and something more like $1 per gigabyte in the fixed network realm.

The “problem” with Internet access is that it represents about 15 percent of revenue but 85 percent of utilization of network resources, one study estimates.

We are talking about “costs” that substantially involve allocated charges, so keep in mind the total actual cost of any service involves not only direct “network” costs, but also some allocated portion of all the other marketing, depreciation, interest expense, legal and regulatory fees, pension plan and other necessary expenditures as well.

In fact, indirect costs that must be allocated represent as much as 66 percent of total costs, by some estimates. “Interconnection,” largely to support voice and messaging services, could represent 19 percent of direct costs, for example.

Network operating costs could represent 38 percent of total operating expense, including personnel costs.

Marketing and sales overhead might amount to nine percent of revenue, excluding direct sales commissions.

Some see “transit costs” and assume that is the actual underlying cost of providing Internet access, but that really represents only a portion of total costs. Even looking only at the physical  cost of delivering useful bandwidth, transit is part of cost (across the backbone), not including “access,” which, traditional rules of thumb suggest, are about 80 percent of end-to-end cost.

The larger point is that to reduce “cost per gigabyte” by two orders of magnitude, while retaining the advantages of mobility, an access provider necessarily must attack costs across a range of essential activities.

Simply reducing “transit” or wide area network transport, between points of presence, will not, by itself, achieve the required change in cost profile, especially if the dominant network-related costs are in access.

Then there is the rest of the cost profile. If one assumes capital investment of about 12 percent to 15 percent of revenues on a sustainable basis (newer networks spend more; fixed networks spend less; mobile networks sometimes more), some part of that represents costs that possibly could be avoided.

Dividend-paying telcos have other huge requirements, though, such as dividend payments that can represent 50 percent of free cash flow.

Pension liabilities might represent a claim on five percent of revenue. Information technology might represent up to five percent of revenue.

In other words, there are many cost drivers. Still, reducing network capital requirements, as well as network operating costs, across all supported revenue-generating services, could be quite significant, the biggest potential savings coming from reducing overhead associated with operating the network, rather than the cost of capital investment in facilities.

The point is that dramatic changes, likely across a range of functional activities, probably is required to reduce the cost of supplying mobile gigabytes to end users from $6 a gigabyte to the fixed network level of perhaps $1 a gigabyte.

Right now, offload of mobile data is the most useful way of achieving that aim, for a mobile service provider. The issue is whether there are other ways of doing so in the core or access networks.

Access providers who own spectrum have one set of options. Access providers who own fixed access assets likely have a different set of options. Non-facilities-based providers have a third set of options.

Large, dividend-paying firms face substantially harder tasks. How one handles the packet core, and the access network are key. But even vast improvements in those areas only address a fraction of total direct and indirect costs.

If it were easy to bring about dramatic cost reductions, service providers already would have done so.

Big U.S. Mobile Price War Could Damage Equity Values

A marketing battle in the U.S. mobile business has broken out, and some will begin to wonder whether a possibly financially-ruinous price war now is possible.

T-Mobile US is offering to pay early termination fees for customers who cancel their service plans with any of the other major national carriers, up to about $650 per account, in some circumstances.

AT&T has quickly responded with its own ETF refund plan, up to about $4500 per customer.

Sprint meanwhile has loosened rules about family plans to make it easier for customers to form “framily plans” that include up to 10 lines on a single account.

Verizon Wireless hasn’t announced any response so far, but some wonder whether it will be able to stand pat for too long, if it starts to see defections to any of the other service providers.

The business problem is simple enough: a price war will hit gross revenues, raise marketing costs, and hit profit margins, even if a carrier is lucky enough to avoid losing any appreciable number of customers.

Of course, it also is possible to ask whether carriers can win a price war. A rational mobile service provider would rather avoid having to fight such a war. But it might also be said that if a firm cannot avoid a price war, it probably has to try and win that war, despite the likelihood that “winning” means “losing.”

Price wars often lower market revenue and profit margins for all contestants, no matter which carrier believes it has won the war.

Ignoring for the moment the likelihood that such a price war bleeds cash that might have been deployed more usefully elsewhere in the business, customer churn virtually always increases.

Beyond that, consumers learn to expect better and better price deals, and the downward pricing spiral then can gain momentum.

But there arguably is an important difference between “losing less” and “losing more,” in a price war. An attacking carrier often does gain significant market share, and that share gain can be relatively long lasting.

In a market with four contending providers, even the defending carriers will care which of them loses least, and which loses most market share, despite the likelihood that the overall market opportunity will decline, and that equity values could take a hit as well.

In fact, a decline in average revenue per user probably will have a bigger financial impact on a mobile carrier than losing hundreds of thousands to a million customers.

And Sprint has yet to launch its expected assault, likely also to include price elements.

It has been some time since a serious price war broke out in the U.S. market, and the impact might not be pretty, at least for mobile service providers.

China's Disposable Income Grew Two Orders of Magnitude in a Decade

China is a big deal for business in general, the Internet, mobile and application businesses. But it is easy to forget how fast the underpinnings of the market are growing. A decade ago, disposable income per person was about $472. 

By 2013, disposable income had reached $24,565 per person. That's astounding. Disposable income grew by two orders of magnitude. 

Never Underestimate what the Apple IPhone Can Do for Customer Acquisition

Docomo finally has gotten the right to sell the Apple iPhone. Other mobile service providers who have gotten the right to sell the iPhone have seen immediate subscriber gains.

It appears that has been the case for NTT Docomo as well. Docomo added more subscribers than its rivals KDDI and SoftBank for the first time since December 2011, gaining 279,100 net users.

That one statistic tells you something about sources of value in the mobile ecosystem. 

T-Mobile US Claims "Fastest" LTE Network

At least for the moment, it appears that T-Mobile US has the fastest average Long Term Evolution 4G speeds in the United States, at 17.8 Mbps, an Ookla Speedtest.net speed test has found.

That wouldn't be the first time T-Mobile has had at least a temporary advantage, or at least gained parity, in access speed. Some would say T-Mobile's HSPA+ network, at least for a time, was as fast as the early Verizon Long Term Evolution network.

But T-Mobile US has rapidly built out its own LTE network and CEO John Legere repeated the claim that T-Mobile US now has the fastest LTE network at the recent Consumer Electronics Show.

At least where it is available, T-Mobile US LTE Networks gain that advantage by using twice as much spectrum as typically is the case.

The Verizon Wireless and AT&T Mobility networks use channels of 10 MHz, while T-Mobile US uses 20 MHz channels, at least in some local markets, including New York City, Miami, Chicago and San Francisco.

In those markets, T-Mobile's 4G LTE service has been measured as high as 72 Mbps for downloads, and 27 Mbps for uploads.

But there likely are other, more prosaic issues at work. Any network will perform well when it is lightly loaded, and conversely less well once it becomes highly used. At the moment, T-Mobile US has fewer users on its LTE network than Verizon Wireless supports on its LTE network, for example.

Some might argue laws of physics are at work, as well. At least in principle, LTE using higher frequency signals could deliver more data. Australian LTE speeds provide an example, some have argued.

But frequency isn’t necessarily the reason. Australia uses wider channels, which automatically support higher bandwidths.

But sustainable leads in the “speed” category tend to be fleeting, as rival carriers respond. That is likely to happen to T-Mobile US as well. Verizon Wireless, for example, already has deployed a 20-MHz LTE network in New York.

Eventually, rival carriers acquire more spectrum and deploy it. That will happen to T-Mobile US as well. And then the first shall be last. At least momentarily.

Sustainable competitive advantage, where it comes to the speed of a network, is hard to achieve.

Universal Internet Access, Globally, Within a Decade, Not Only is Possible; It is a Near Certainty

If you have a long enough memory, and think about what you have seen, you’ve learned at least a modicum of circumspection often is in order when assessing what “can” and “cannot,” what “should” and what “should not” be done.

You might think it is impossible that U.S. consumers someday will rather routinely be connected to the Internet at 1 Gbps. You might think it is unlikely that within about a decade, the 60 percent of people in developing regions will have routine access to the Internet at more than dial-up speeds.

But history suggests both will happen, as incomprehensible as it seems. Despite all the obvious obstacles--people cannot afford terminals, or access fees, are not literate, live too far away from backhaul facilities and Internet points of presence--universal Internet access will happen globally, and speeds will rather routinely be in in the gigabit range in the United States.

Some will loudly maintain U.S. ISPs are too greedy, too stupid, too mendacious to pull this off, or look at the difficulties in developing regions and conclude that infrastructure is too expensive and demand is too low.

Such conclusions are unwarranted, and have proven quite wrong, in similar instances, in the immediate past.

One would have to look back to the 1980s, when similar concerns would rightly have been voiced about how difficult it would be to provide basic voice communications to people--billions who had never made a phone call--around the world.

Then something unexpected happened. Around 2003, mobile penetration hit an inflection point in the developing world. Today, the lowest mobile phone adoption you are generally likely to find is in the 70-percent range. The exceptions are Myanmar, one of the least developed markets, and North Korea.

But Myanmar recently has licensed two new mobile service providers. And adoption is growing fast in Africa, one of the last continental-sized markets where mobile penetration has been lower than average.

The big point is that an apparently unsolvable problem--how to get communications to people who never could make a phone call--is close to being solved, completely. That’s a big policy problem that is solved, and was done by the normal operations of humans and companies operating in markets.

Internet access is the present challenge, and one might argue the barriers are higher. Efforts for decades have attempted to create a “$100 computer” that people in developing regions could use. None of those non-governmental organization efforts have succeeded.

But now we have commercial tablets and smartphones that are doing the job. So that problem has receded. Now the challenge is making Internet access available and affordable. That remains a problem, but not an insurmountable problem.

Most expect the same mobile networks that have enabled voice communications will enable widespread Internet communications as well, augmented in important ways by fixed or possibly other forms of access in some cases.

Nor will it take that long. The widespread adoption of mobile communications took a decade. It won’t take longer than that to achieve widespread Internet access, either. We are solving the terminal and access network problems.

People themselves will conclude they want and need the Internet, creating the demand.

To be sure, one might have wondered whether people would spend a rather high percentage of annual income to acquire phones and use them. They have.

Speeds are a subtended issue. But even in the U.S. market, where complaints abound, the history of speed increases shows a minimum doubling about every five years, and an order of magnitude increase in speeds (up to two orders or magnitude) about every decade.

To be sure, there is a difference between the typical speed tier a consumer buys, and what ISPs make available, but either way the growth is palpable.

Though it might seem improbable that typical purchased speeds could reach the gigabit level by 2020, that is indeed likely, based strictly on past precedent.

In August 2000, only 4.4 percent of U.S. households had a home broadband connection, while  41.5 percent of households had dial-up access.

A decade later, dial-up subscribers declined to 2.8 percent of households in 2010, and 68.2 percent of households subscribed to broadband service.

In other words, from 2000 to 2012, the typical purchased access connection grew by about two to three orders of magnitude.

As crazy as it seems, Internet access, and the quality of access, is a solvable problem, globally. Internet adoption rates offer hope: reasonable hope, that past trends will continue.

Not Every "On Demand" Video Entertainment Format Works

TV viewing is fragmented, including growing use of non-traditional displays including tablets,

smartphones and PCs. 

But revenue magnitudes are not so fragmented. The video subscription business represents something on the order of $90 billion annually. Netflix will earn something more than $4 billion in 2014, by way of comparison.

But there are some video products that never have gotten much traction, video on demand being one of them. According to an analysis by Parks Associates, about 74 percent of video subscription customers never purchase anything from the VOD catalog. So perhaps 26 percent of subscription TV customers buy VOD content.

At those purchase rates, VOD is less popular than traditional “premium” channels such as HBO, which tends to be purchased by about 30 percent of homes buying a traditional video subscription.

By way of comparison, use of online streaming services is quite widespread, likely being used by 35 percent of video subscription customers. By the end of 2014, some predict Netflix along might reach subscriber adoption at 39 million U.S. households. That would put Netflix adoption at more than 40 percent of U.S. video subscription homes, in all likelihood.

video subscription business represents something on the order of $90 billion annually. Netflix will earn something more than $4 billion in 2014, by way of comparison. The traditional video on demand business might represent $1.5 billion, after decades of availability.