CenturyLink Faces a Key Strategic Problem

In some ways, it should come as no surprise that CenturyLink plans to lay off seven percent to eight percent of its fixed network workforce by the end of 2016. Revenue is falling and new revenue sources are not big enough, nor feature high enough profit margins, to offset the legacy losses.

It is not the only firm to face those problems. Virtually all U.S. fixed network operations face the same fundamental problems.

CenturyLink revenue fell 0.7 percent in 2015 to $17.9 billion. Analysts project revenue will decline two percent in 2016, according to Bloomberg. So revenue is shrinking.

“We all understand the pressure caused by the decline in our legacy revenues; it creates a $600 million negative impact on our business each year,” said Glen Post, CenturyLink CEO.

“While we continue to see positive growth in our strategic products, the profit margins of these strategic products and services are considerably lower than those associated with the legacy revenue we are losing,” Post added.

source: Seeking Alpha

CenturyLink faces some of the same issues Frontier Communications an Windstream face. All are former rural fixed network telcos that grew and repositioned, in major ways, as business specialists.

But all three firms are fixed network only operators, in a market where mobile drives revenue growth in the broader market. None of the three firms own mobile revenue streams.

AT&T has become one of the biggest linear video providers in the U.S. market by virtue of its acquisition of DirecTV, and many believe the company will deemphasize fixed network linear video services in favor of satellite delivery.

So the big challenges include how to restructure their businesses for potentially-smaller gross revenues and lower profit margins in the mass market portions of their businesses.

Stranded asset issues are going to grow, as well, as fewer customers deliver revenue to support fixed costs.

So it is not a surprise that CenturyLink is trying to reduce its operating costs. It has to do so.

Sabrina Brady's "My Best Day Ever"

Sabrina Brady's "my best day ever" doogle for Google. Indeed. 

source: Google

Tier-One Telcos Do Not Recover Their Cost of Capital

source: PwC

There is a very good reason why tier-one service providers are working so hard to drive down their capital investment and operating costs: they must do so.

In fact, at least one analysis suggests tier-one service providers have not been recovering their cost of borrowed capital for a decade and a half or more.

Researchers at PwC studied the financial performance of 78 fixed-line, mobile and cable operators with a collective annual capex of some $200 billion, nearly 66 percent of the industry’s total spend.

The research found that, over the past decade, the average long-term return on investment (ROI) has been just six percent.

That is three percentage points less than the cost of the capital itself. In other words, operating revenue is not covering the cost of capital.

Capital investments by telcos globally are growing slightly, according to researchers at Ovum. And that might not be a good thing, as much as investment underpins creation of next-generation networks.

The problem is that service provider revenues are not keeping pace with investment levels. That is one reason why Facebook and Google efforts to create lower-cost access network platforms are important: ISP cost needs to decline. If all facilities-based service providers can use the new platforms, they win.

On a global basis, telecom service provider revenues grew about one percent in the second quarter of 2016, year over year.

That growth is the first for service providers since the third quarter of 2014.

Industry capex over the last 12 months was roughly $340 billion, flat versus the prior two years.

Revenues have been falling, with the result that service capex levels are historically high, at about 20 percent of revenues.

5G Will Create a New "Fiber to Tower" Market

source: SNL Kagan

Among other things, 5G networks should dramatically expand what we have traditionally viewed as the “fiber to tower” backhaul market. There are about 300,000 macro cell sites in the United States and perhaps 200,000 towers.

It remains unclear how many 5G or 4G small cells ultimately will be built. But it is reasonable to assume almost all the growth will come from putting small cells on existing structures, not installing towers.

Looking only at service provider cell sites (not enterprise or consumer), millions of new sites will be added globally by about 2020.

If in some urban areas the density is roughly “fiber to every other light pole,”

If, as expected, millimeter wave small cells have a transmission radius of about 50 meters (165 feet) to 200 meters (perhaps a tenth of a mile), it is easy to predict that an unusually-dense backhaul network will have to be built (by mobile network standards).

In the past, mobile operators have only required backhaul to macrocells to towers spaced many miles apart. All that changes with new small cell networks built using millimeter wave spectrum (either for 5G mobile or fixed use, or for ISP fixed access).

Keep in mind that street lights are spaced at distances from 100 feet (30.5 meters) to 400 feet (122 meters) on local roads.

As a rough approximation, think of a small cell, in a dense deployment area, spaced at roughly every other street light, up to small cells spaced at about every fourth light pole.

That is a lot of new cells, with a low-cost backhaul requirement. That is why dense fiber networks now are seen as a business asset by Verizon and Comcast, for example. Very few other providers will be able to connect “every other light pole” to high-capacity backhaul, affordably.

North Carolina Municipal ISP Cannot Operate Outside its Jurisdiction, But Could a CLEC Affiliate Do So?

Much of telecommunications regulation revolves around jurisdiction: which level of government, and which entities, have the right to regulate some particular part of the telecommunications business.

And, as always, every regulatory framework fundamentally shapes telecom services business models.

And all debates about the desirability of municipal-owned Internet access and communications set aside for the moment, the issue of which unit of government has the right to regulate the scope of operations for municipal communications networks now also includes the issue of whether a municipality can serve customers outside its jurisdiction.

So it is that a municipal Internet access service in Wilson, N.C., which also has been serving customers outside its jurisdiction, will have to shut down those out-of-district operations.

Ignore for the moment the long-standing dispute about appropriateness of local government competing with private firms able to supply services or performance of private firms in that regard.

The latest issue is that, where lawful, can municipal service providers operate outside their jurisdictions? At the moment, the answer seems to be “no.” What remains unclear is whether a separately-constituted “competitive local exchange carrier” could do so, if that CLEC is owned by a municipality.

Telecom Capex is a Problem: Spending as a Percentage of Revenue Has to Drop

Capital investments by telcos globally are growing slightly, and that might not be a good thing, as much as investment underpins creation of next-generation networks.

The problem is that service provider revenues are not keeping pace with investment levels. That is one reason why Facebook and Google efforts to create lower-cost access network platforms are important: ISP cost needs to decline. If all facilities-based service providers can use the new platforms, they win.

On a global basis, telecom service provider revenues grew about one percent in the second quarter of 2016, year over year.

That growth is the first for service providers since the third quarter of 2014.

Industry capex over the last 12 months was roughly $340 billion, flat versus the prior two years.

Revenues have been falling, with the result that service capex levels are historically high, at about 20 percent of revenues.

The trick is understanding how to balance capital investments between acquisitions and network investments. In many instances, revenue or profit might be more immediately affected, and to a greater degree, by acquiring assets, rather than investing in existing facilities.

That is one sense in which constantly-growing network capex is a “bad thing.” Money might more profitably be spent elsewhere.

The other issue is the cost of next-generation networks, in circumstances where all legacy revenue sources are declining. It is simple common sense that investments must match revenue expectations. If revenue is falling, or flat, so must capex fall or remain flat, over time.

As a practical matter, capex often is “lumpy” and “staircase” shaped, as investments are made to upgrade, then ratcheted back, and then boosted again to gain the next important increment of network capabilities.

And even if telecom has been a standards-driven and regulation-heavy industry for half a century, at least, a greater percentage of those standards might be created in new ways in the future, as a way of attacking costs.

To wit, competing carriers might begin to identify essential functions that do not confer competitive advantage, and collaborate with key rivals to lower costs in such areas.

Many carriers already have sold their mobile towers, or share tower costs, for example.

A few have outsourced operations tasks not seen as providing the ability to differentiate. In many markets, wholesale networks are the way retailers get use of those functions.

That sometimes is seen as the capital-efficient way to do things. Sometimes that is seen as the only way to boost competition when investment in facilities by other contenders is deemed extremely unlikely.

By definition, that approach fundamentally leads to commoditization of the access function, as all suppliers have the same speeds and quality of service.

So there are strategic reasons why various service providers might not want to open source or otherwise share business functions. Most importantly, every operator will try and gain some source of distinctiveness in their offers, if possible.

The trick is figuring out which essential functions offer the possibility of creating business value, and which do not; which functions are essential and which are not.

Competition and Investment are Rival Goods in the Telecom Market

As regulators in the European Community have found, there is a tension between policies that promote competition and policies that promote investment in facilities.

It is impossible to argue that the wholesale regime in EC countries has not dramatically boosted competition. It has done so.

In France, Orange in late 2013 had about 41 percent market share.  In Germany, Deutsche Telekom in 2013 had about 33 percent mobile market share.  

In the United Kingdom, BT, the former incumbent, had about 27 percent market share before its acquisition of EE, and now has 31 percent market share.  

source: Point Topic   

But EC regulators also are grappling with a perceived slowness to upgrade to next-generation networks. Service providers always argue the very policies that make wholesale attractive are the very rules that make aggressive investment less attractive.

Basically, policies that support one objective nearly automatically work to undermine the other objective.

If regulators want both, there is a balancing act to be undertaken.

The same process is at work in the U.S. special access market. A proposed Federal Communications Commission policy to re-regulate prices will boost competition, but limit investment.

That will help small business buyers of special access, non-facilities-based mobile service providers and non-facilities-based competitive local exchange carriers.

But those same rules will discourage additional investment in legacy special access, especially in rural areas.