What, in Telecommunications, has Changed Over the Last Decade?

What has changed in telecommunications over the last decade? For Ofcom, the U.K. communications regulator, quite a lot.

Since 2005, broadband adoption increased 2.5 times, from 31 percent to 78 percent. High speed access at a minimum of 30 Mbps now is available to 78 percent of locations, while adoption has grown to 27 percent.

Mobile broadband availability has increased significantly, with 3G coverage increasing from

82 percent to 99 percent of premises, and 4G services available to 73 percent of premises.

More significantly, mobile broadband adoption now is 67 percent.  

Purchasing of bundled services has more than doubled from 29 percent to 63 percent.

About 44 percent of high speed access connections now are supplied by retailers using the wholesale approach, up from 17 percent in 2005.

Supplier consolidation also has been significant, including the formation of EE from

Orange and T-Mobile and acquisitions of smaller broadband ISPs (O2, Tiscali,

AOL, Be, Easynet).

The qualitative changes are just as significant.

A decade ago, the key issue was how to create a wholesale fixed network structure.

Now, Ofcom says, “a strategic review focussed on the market structure in fixed telecommunications risks being overly backward looking.” That means mobile and over the top apps and services must be a fundamental part of the examination.

“Increasingly, digital communications encompasses a combination of fixed, wireless

and mobile connectivity, and communications services provided over these networks,” Ofcom says.  

“For this review to be genuinely strategic, it needs to take account of digital communications infrastructure and competition more broadly,” Ofcom says.

The context includes increasing convergence between fixed and mobile communications, associated developments in wireless networks, and the ever increasing importance of “over the top” services, Ofcom notes.

Put another way, that means analysis and has to include fixed, mobile and untethered modes, plus over the top services that compete directly or substantially with carrier-offered services.

Policy, as a corollary, will likewise take into account the full range of access and services supply to ensure “competition, investment and innovation.” Ofcom suggests that, in addition to creating a climate for investment, while protecting consumers, it also will look at instances where deregulation is possible because competition (especially in voice and messaging) will discipline the market.

Lost Viewers Only the Start of Problems for TV Networks

In the third and fourth quarters of 2014, perhaps 40 percent of cable TV network ratings declines were caused by consumers who watched over the topp subscription video services instead of the linear channels, according to the Cabletelevision Advertising Bureau.

Total TV viewing fell 10 percent year over year in the third quarter and nine percent, year over year, in the fourth quarter, according to Todd Juenger, Sanford C. Bernstein analyst.

In the first quarter (through February), linear video network viewing was down about 12 percent.

“We believe the U.S. television industry is entering a period of prolonged structural decline,” said Juenger.

Should those rates of decline continue, at least some channels will face pressure to reconsider their business models. That will be a tough challenge. Linear distribution has one huge advantage: it creates huge potential audiences for advertising.

A la carte distribution will not carry such premiums. Most networks will find they simply cannot replace lost advertising revenues, in any switch to over the top distribution, by substitute subscriber fees.

The rough comparison is earnings of five cents to seven cents per viewer rather than 30 cents, on a much-smaller base of units, for the network.

The cumulative revenue shift would be catastrophic for most programming networks. Unbundling Analysts at Needham and Company have estimated that half of U.S. linear video ecosystem revenue would evaporate in any full shift to completely unbundled content access.

In other words, $70 billion in revenue would disappear. As a direct result, fewer than 20 channels would survive in an a la carte world where consumers are required to bear 100 percent of the cost of the content in the form of subscription or other fees, and advertising essentially disappears.

In 2012, the TV ecosystem generated total revenue of approximately $150 billion, about

$77 billion from advertising and $74 billion from subscription fees

paid to cable, telco and satellite distributors.

TBS, which historically was the second cable channel to be created, and the first ad-supported cable channel, generates about $1.5 billion of revenue from subscription fees plus $2 billion from advertising revenue, according to Needham.

Needham estimates that TBS charges distributors about $1.20 a month. Consumers might theoretically pay about $1.60 at retail, in a bundle. Nobody knows what TBS might cost as a stand-alone streamed channel, but something in the range of $5 to $10 is probable.

The reason is that TBS distribution costs would need to be covered, at the same time TBS loses much of its advertising and distributor revenue.

In a full a la carte regime, where channels are purchased as part of over the top Internet subscriptions, both revenue streams would be severely disrupted.

Networks would lose most of their subscribers and most of their ad revenue. The present TV ecosystem generally splits revenue 50-50 between content and distribution partners. The content provider generally earns 80 percent of all advertising revenue.

“Consumption of network and cable content is taking place in ways that allow viewers to circumvent high monthly cable bills, avoid watching commercials, or both. Every single one of

these changes represents a move to a revenue model that is less profitable than the one currently enjoyed by TV networks,” said analyst Gary Brode. “It is only a matter of time before the revenue and profitability of the networks begins to fall.”

Consumers Might Find Bundles A Good Deal, Eventually

Precisely what is happening in the linear video and over the top subscription businesses is unclear, even if most observers would agree the business clearly is in slow decline.

Paradoxically, consumers might eventually find that video bundles--even mostly linear--provide more value than a la carte streaming "channels" and services.

To be sure, strains in linear video are growing. In fact, by about 2020, smaller U.S. cable TV companies are going to experience zero profit margins on their linear video programming businesses, according to the American Cable Association.

Some would argue Verizon Communications likewise will have a hard time earning a profit on its own widespread investment in fiber to home networks, at least in part because revenue from new services has been less than anticipated.

Meanwhile, profit margins for linear video, in particular, have been rather low, Verizon now maintains, though in the past Verizon has claimed it earned good margins on video entertainment.

It would be going too far to argue video service providers are aggressively taking the bundle apart. It would be fair to say they are taking unprecedented steps to control costs, either by shrinking bundles or replacing expensive networks with cheaper apps.

Nor is the linear video business declining fast. 

The biggest U.S. linear video subscription providers lost about 125,000 subscribers in 2014, on a net basis. Within the category, AT&T and Verizon gained about a million customers, while cable TV operators lost about 1.2 million accounts, on a net basis.

On an installed base of 95 million accounts, that barely registers, a tenth of one percent over a year’s time.

Of course, it is worth noting, the number of accounts does not speak to average revenue per account, or account profit margin, higher retention and acquisition costs, or other measures of segment health.

Presumably, those metrics are under pressure.

With the upcoming launch of HBO Now and Sling TV, we might see some indication of whether the rate of change--in terms of abandonment of linear subscriptions for over the top subscriptions--is about to increase.

But we might eventually find that cord cutting has demand more limited than many suppose. The reason is that cord cutting might not save most consumers money, and that arguably is the key attraction.

Some consumers buy a linear video subscription, plus Amazon Prime and Netflix. In other words, monthly spending is at about the $100 a month level. By switching to Sling TV and HBO Now, and keeping the other services, a consumer might replace an $80 linear subscription with an alternative $20 Sling TV subscription plus $15 a month for HBO Now, a savings of possibly $45 a month.

But that assumes the buyer is content to lose lots of channels. And the thing about linear video consumers is that each of us tends to watch only about a dozen channels, and perhaps only about seven on a regular basis.

Each consumer will evaluate how many of those "most watched" seven are sacrificed, to get lower recurring prices. If not, the consumer has to calculate the cost of obtaining them on a streaming basis. At a hypothetical cost of $10 per channel, those seven represent $70 a month in costs.

For some consumers, Sling TV represents none of the most-viewed channels. For others, Sling TV will represent a few of the most-watched channels. In other words, it isn't clear that unbundled streaming costs less than bundled linear service.

True, the ability to watch your subscription content “on any Internet-connected device” is valuable. But that probably will stop being a “unique” value at some point, when most content is available from one or more online sources, on an on-demand or subscription basis.

At that the point, the issue is going to be “cost,” compared to value. And it remains exceedingly hard to envision how a full on-demand business case will lead most consumers to pay less. In fact, they almost certainly will face higher costs for an a la carte approach.

Are We Nearing an Inflection Point for Over the Top Video?

A study of North American linear subscription video customer churn suggests an uptick in churn rates since the earlier quarters of 2014. In the fourth quarter of 2014, quarterly churn was nearly nine percent, up about two percent compared to the same quarter of 2013.

That works out to about a three percent monthly churn rate, which perhaps is high by recent comparisons. The issue is whether that is a quarterly issue, or something representing a new trend.

Nor does the churn rate, by itself, tell us much. If most of the customers who churn then buy a similar service from another provider, that only speaks to the level of competition in the market, not to a change in end user demand for the product.

The worrisome trend, for service providers, is churn of a different type, where consumers simply stop buying the product from any current supplier. The study does not address that question, though it found about four percent of subscribers claimed they would end their subscriptions at some point in the next six months.

Another 2.6 percent claimed they would switch to an online app sometime in the next six months.

With the caveat that consumers quite frequently do not follow through, dissatisfaction ratings seem to be climbing. Comparing attitudes in 2014 compared to 2013, about four percent fewer respondents claimed they were satisfied with their linear service, while three percent more claimed they were dissatisfied. That is a net swing of about seven percentage points in a year.

The study found that 5.7 percent of subscribers switched service providers during the final three months of 2014.

That works out to a monthly churn rate of less than two percent, which is about in line with recent historical norms, and down dramatically from levels of several decades ago, when three percent churn rates would not have been unusual for any consumer communications or entertainment service.

The study suggests a potentially continuing incremental shift away from linear subscriptions and a growing use of over the top online services. But the change remains slow and incremental.

The coming launches of stand-alone streaming services from HBO, CBS and a comedy-focused service from NBCUniversal, plus the new Dish Network service, will provide more evidence about whether the rate of change finally is about to hit a knee of inflection.

Zero Profit Margins for Linear Video by 2020, Small Cable Ops Say

By about 2020, smaller U.S. cable TV companies are going to experience zero profit margins on their linear video programming businesses, according to the American Cable Association.

At least in part, rapidly-growing content costs are an issue, the ACA says.

To the extent that linear video constitutes a key part of the business case for fixed network operations, that collapse of the linear video model will imperil further investments in networks, the ACA also argues.

The broader point might be the growing importance of scale as a driver of the linear video business model, and a growing potential threat to the survival of the business model as over the top alternatives, costing less, become more available.

Should that happen, the business model even for the larger service providers will be challenged.

source: American Cable Association

Telco Cloud Computing Revenue Opportunity is Still on Training Wheels

CenturyLink, like many other telcos, sees cloud computing as a key opportunity in the enterprise and business services segment of the communications business. There are several reasons for that belief.

Data centers now are primary generators of capacity demand. For example, Cisco’s latest Global Cloud Index estimates that global data center traffic will grow nearly 300 percent between 2013 and 2018.

By 2018, 76 percent of all data center traffic will come from the cloud, while 75 percent of data center workloads will be processed in the cloud.

But that might not even be the most significant prediction. Quantitatively, the impact of cloud computing on data center traffic is clear, Cisco argues.

Most Internet traffic has originated or terminated in a data center since 2008.

Where in the past most traffic (voice) functionally originated and terminate at a central office, though that traffic was passively transmitted to an end user telephone, now most global traffic originates and terminates at a data center.

At the same time, it is possible to argue that “cloud” now is becoming the architecture for computing in the present era, directly embedding the need for wide area and local area communications into the basic fabric of computing itself.

Where one might have argued that the addressable market for WAN transport providers was perhaps $232 billion in 2012, the addressable market now is much bigger. In fact, Bill Barney, Global Cloud XChange CEO argues the addressable market is six times larger.

That includes involvement in the $600 billion "software" business, as most software now is delivered or used "in the cloud."

The market also touches the $965 billion enterprise "information technology" business and the $103 billion data center business as well.

That doesn't necessarily mean WAN transport and services will displace most of the revenue in the extended ecosystem, only that WAN providers now play more central roles in those other areas, and for that reason will be generating additional revenue within the ecosystem.

That noted, cloud services still represent only about five percent of enterprise information technology spending. That is virtually certain to grow, as public cloud remains the first option for a minority of enterprise IT managers at the moment.  

According to Gartner, 75 percent of organizations use public cloud services today, “though sparingly,” while 78 percent plan to increase their investment in cloud services in the next three years.

Some 91 percent of organizations across all industries plan to use external providers to help with cloud adoption, Gartner says. That accounts for the belief that cloud computing can be a new revenue source for capacity suppliers, directly or indirectly.

In some cases, capacity suppliers own data centers as a way of generating direct revenue from data center clients, not just profiting from the communications into and out of the data centers.

By 2018, “data center to end user traffic” will constitute 17 percent of total “data center” traffic. About nine percent of traffic will move from data center to data center.

About 75 percent of global data center traffic will stay within the building, moving from server to server. That illustrates the value of generating direct revenue from data centers. Even if most clients will move data between servers in the center, that in-building traffic still eventually moves out onto the wide area network.

For most suppliers,  the primary revenue opportunity therefore is capacity.

Sometimes, Gigabit Access Primarily Leads to Sales of 20-Mbps and 40-Mbps Access

Investing in gigabit Internet access networks might be among the most-effective marketing tactics for at least some Internet service providers. But it might not be a product that many customers actually buy, in some cases.

Much depends on the range of available offers, the degree of competition in a local market and the positioning of gigabit offers by competing ISPs in a market.

Where gigabit access sells for closer to $100 a month, and is but one of several offers, gigabit headline speeds might lead to higher sales of 20-Mbps and 40-Mbps services, even if relatively few customers actually buy the gigabit service.

In fact, one example of demand dynamics explains why that might be so. In my own neighborhood in Denver, I can buy a gigabit access service for $110 a month, guaranteed for a year.

If what I want to buy is a 100-Mbps service, that costs $70 a month, with the price guaranteed for a year.

The 40-Mbps service costs $30 a month, guaranteed for a year. All those prices are for stand-alone service, with no phone service.

In that sort of environment, many consumers are going to conclude that 40 Mbps is “good enough,” and provides a better price-value relationship.

Where the only speed offered is a gigabit, priced at $70 to $80, take rates might well be higher. The issue is what other choices are available.

While CenturyLink hasn’t seen much demand for the gigabit Internet access service it began selling in Omaha in 2013, the product has helped CenturyLink sell slower speed services, according to Stewart Ewing, CenturyLink CFO said.

“No one takes a gig service,” Ewing said. “But they take a 20-meg or 40-meg service, and that’s fine.”

The other problem is that upgrades to gigabit speeds, or even 105 Mbps, might not actually lead to better end user experience. My own subjective experience is that 100 Mbps does not actually improve my experience, compared to 15 Mbps.

That might not be true for a household where multiple users are using the connection at peak hours. But that is not my own typical use case.