Build or Buy Content Assets?

Netflix likely has proven that a streaming service does need to create original content to achieve market leadership, but also suggests such a firm does not need to own a separate content creation company to do so. Apple’s recent decision to acquire the services of Oprah Winfrey might also validate the principle.

Does that mean that Comcast, Verizon and AT&T (or other connectivity services providers) could do the same? That cannot be determined, as each has acquired content creation firms.

But there are other reasons why Comcast, AT&T and Verizon have done so. Ownership of content assets, at scale, creates the foundation for advertising revenue streams, wholesale content revenue streams and some retail bundling opportunities as well.

That matters as content creation and aggregation might represent as much as 70 percent of the total value of the TV content ecosystem, with distribution representing about 30 percent.

In other emerging ecosystems requiring distribution and connectivity, the percentage of value earned by connectivity providers might be as low as five percent to 15 percent.   

source: Liberty Global

In other words, connectivity providers have reasons for buying content creation assets that are related to new roles in the ecosystem and additional revenue sources, not simply the cost of acquiring content and creating original content assets.  

Except for Asia, Africa, Mobile Phone Business has Saturated

If you want to know why mobile service providers are so interested in internet of things, this graph suggests a key reason: sales of services and products to human beings using mobile phones is near saturation, and actually went to negative growth rates on two continents in the first quarter of 2018.

On other continents, growth rates were in low single digits. Africa and Asia are the two continents where double-digit growth continues to happen.

source: Ericsson

Projections of potential IoT connectivity revenue also suggest why many tier-one service providers will be looking beyond connectivity, at other parts of the ecosystem, for new revenue and roles. Simply put, most IoT connections will not use the mobile networks.

Though mobile internet of things connectivity will grow fast, most of the connections will use some other form of connectivity, a couple of new forecasts suggest. However, by about 2023, mobile connections might take leadership, in terms of new sales.

That should provide a major warning for service providers who see a huge bonanza from internet of things connectivity revenue.

In 2017, almost three-quarters of all low power wide area network connections used non-cellular LPWA network technologies. By “2023, non-cellular LPWA will cede its market share dominance to NB-IoT and LTE-M, as cellular LPWA moves to capture over 55 percent of LPWA connections,” say researchers at ABI Research.

The Ericsson Mobility Report has about doubled its forecast for mobile network IoT connections, mostly due to ongoing large-scale deployments in China. Of the 3.5 billion cellular IoT connections forecast for 2023, North East Asia is anticipated to account for 2.2 billion, Ericsson says.

That noted, in 2023, Ericsson estimates that mobile IoT connections will represent 15 percent of IoT connections, with short-range networks handling as much as 67 percent of links.

source: Ericsson

Asset tracking, which includes tracking stationary or slow-moving assets, will have the largest share of LPWA connections in 2023, accounting for over 45 percent worldwide, ABI Research predicts.

Smart meters deployed by energy and water utilities will be the second largest vertical IoT application in 2023 contributing over one-third of the global LPWA device connections.

In 2017, SIGFOX had the largest share of public LPWA connections worldwide benefiting from its first mover advantage in Europe.

Is Verizon Strategy Built on 5G Connectivity Revenues?

With the exception of its buying Vodafone’s interest in Verizon Wireless for $130 billion, most of Verizon’s acquisitions have been far smaller. The overall pattern might indicate that Verizon spends most of its acquisition funds on network assets.

So it probably is not surprising that the choice of Hans Vestberg as the next Verizon CEO suggests to most observers an investment priority on 5G assets, not content or other “up the stack” assets, or even operating efficiencies.

Some of us would not necessarily agree with that view. It is true that Verizon sees itself as the leader in network quality and a first mover where it comes to each next generation network. Iin its acquisition strategies, Verizon has emphasized connectivity assets.

The issue is whether the choice of Vestberg suggests Verizon will focus its revenue growth plans on connectivity services, or has something else in mind. Some of us would argue that Verizon has something else in mind.

Verizon has for some time been acquiring “up the stack” assets. Verizon sees its solution and platform assets as being built on top of the network platform, so the Vestberg pick likely indicates Verizon retains that view. But Vestberg also is considered a merger and acquisitions expert, so it is possible to suggest that Verizon believes it has to pair its 5G leadership with clever picks of firms and assets that can supply value “up the stack.”

There is another way to look at what might otherwise be called a ”5G first” strategy, and that is to look at the revenue lift that strategy might provide, compared to alternative investments of capital.

And the essential reality is that incremental 5G revenue is unlikely to provide all that much revenue lift.

If Verizon is successful using its 5G network to attack a fixed wireless opportunity worth about $7.5 billion, and  internet of things connectivity revenues of about $5.4 billion, that implies something like $13 billion annually in incremental revenues, in perhaps five years time.

Here are the assumptions: Verizon believes it can address about 30 percent of  U.S. homes, mostly out of territory, using 5G fixed wireless.

If there are some 130 million U.S. homes, that implies access to about 39 million potential new accounts, a significant new opportunity if one assumes each new account could generate $80 a month in recurring revenue.

Were Verizon to get 20 percent of potential customers as new accounts, 5G-based fixed wireless could generate $960 per account, per year, on a base of 7.8 million locations, it could realize $7.5 billion a year in additional annual revenue.

That is about 5.5 percent incremental revenue lift for Verizon. That is interesting, but not transformational in any way.

GSMA has predicted that connectivity revenue will be about five percent of the total IoT revenue opportunity.

That might work out to as much as $50 billion in annual global revenue. Verizon’s opportunity is a fraction of that. If U.S. revenues are a third of total, that implies $16.5 billion in connectivity revenue. If Verizon gets a third of that, it might realize $5.4 billion in annual incremental revenues.

Again, that is nice, but hardly transformational. Verizon might believe it will do much better than that, longer term.

So some might argue that something else must be at work. And that likely is a move into other parts of the value chain built on 5G, including internet of things apps, as the amount of new connectivity revenue from IoT likewise will be interesting, but not transformational.

The point is that incremental new revenue Verizon can drive directly on 5G connectivity services is not so large as to constitute a growth strategy.

Consider that, if approved, the AT&T acquisition of Time Warner might generate $31 billion in incremental revenue for AT&T, immediately.

There are “size of debt” issues, but Time Warner is a “book revenue now” gambit, in addition to changing AT&T’s business sources profile.

For Verizon, additional acquisitions arguably are necessary, eventually. The reason is simply that both Verizon and AT&T have gotten most of their revenue growth from acquisitions, not internal and organic growth.

source: Deloitte

Since 2013, AT&T has dramatically changed its revenue profile by acquiring DirecTV, immediately becoming the largest U.S provider of linear video.  International acquisitions, though smallish, also indicate where AT&T could go next, beyond content.

Verizon’s biggest deal since 2013 was acquiring Vodafone's stake in Verizon's mobile business for about $130 billion in 2014. But debt load from that deal also limit Verizon’s ability to make other big asset purchases.

source: AT&T

Although the appointment of Hans Vestberg as the new CEO of Verizon has been interpreted as a focus by Verizon on “5G,” as opposed to some other strategy, such as getting into content ownership in a bigger way, beyond the Oath brands.

That might not necessarily mean Verizon has in mind a strategy something like “doubling down” on connectivity services as a driver of growth, which is one way the strategy might be interpreted.

Instead, 5G investments are “only” the way Verizon keeps its claim to be the quality network leader, where it comes to connectivity services, while actively making acquisitions to build its “up the stack” assets in internet of things areas, for example.

Growth by Acquisition or Organic Means: What Options, What Impact?

If approved, the AT&T acquisition of Time Warner might generate $31 billion in incremental revenue for AT&T. If Verizon is successful using its 5G network to attack a fixed wireless opportunity worth about $7.5 billion, and then add internet of things connectivity revenues of about $5.4 billion, that implies something like $13 billion annually.

Though debt levels are an issue, one might argue AT&T’s decision makes sense, despite the debt load issue, compared to a rival decision by Verizon to focus on 5G connectivity services.

That is, of course, assuming Verizon does not have other plans in mind, and even if AT&T cannot produce additional revenue, cost savings, reduced churn or other advantages from Time Warner assets.

And one wonders. If the AT&T acquisition of Time Warner is not approved, what other assets or investments could AT&T make to generate $31 billion in incremental revenue, immediately. Perhaps somebody else has an idea. My cursory check at other assets and revenue streams suggests it would not be easy to boost revenue $31 billion any other way, at any price AT&T could afford to pay.

The apparent strategic choices being made--or attempted--by AT&T and Verizon might be positioned as practical, near-term choices, even if there are strategic implications.

Still dealing with the debt load from acquiring all of its mobility business, where it comes to Verizon, additional acquisitions arguably are necessary, eventually. The reason is simply that both Verizon and AT&T have gotten most of their revenue growth from acquisitions, not internal and organic growth.

source: Deloitte

Since 2013, AT&T has dramatically changed its revenue profile by acquiring DirecTV, immediately becoming the largest U.S provider of linear video.  International acquisitions, though smallish, also indicate where AT&T could go next, beyond content.

Verizon’s biggest deal since 2013 was acquiring Vodafone's stake in Verizon's mobile business for about $130 billion in 2014. But debt load from that deal also limit Verizon’s ability to make other big asset purchases.

source: AT&T

The appointment of Hans Vestberg as the new CEO of Verizon has been interpreted as a focus by Verizon on “5G,” as opposed to some other strategy, such as getting into content ownership in a bigger way, beyond the Oath brands.

That might not necessarily mean Verizon has in mind a strategy something like “doubling down” on connectivity services as a driver of growth, which is one way the strategy might be interpreted.

To be sure, Verizon does have a bigger opportunity than AT&T, for example, in using 5G-based fixed wireless to attack other carriers in the consumer internet access business. Verizon believes it can address about 30 percent of  U.S. homes, mostly out of territory, that way.

If there are some 130 million U.S. homes, that implies access to about 39 million potential new accounts, a significant new opportunity if one assumes each new account could generate $80 a month in recurring revenue.

Were Verizon to get 20 percent of potential customers as new accounts, 5G-based fixed wireless could generate $960 per account, per year, on a base of 7.8 million locations, it could realize $7.5 billion a year in additional annual revenue.

That is about 5.5 percent incremental revenue lift for Verizon. That is interesting, but not transformational in any way.

So some might argue that something else must be at work. And that likely is a move into other parts of the value chain built on 5G, including internet of things apps, as the amount of new connectivity revenue from IoT likewise will be interesting, but not transformational. Indeed, GSMA has predicted that connectivity revenue will be about five percent of the total IoT revenue opportunity.

That might work out to as much as $50 billion in annual global revenue. Verizon’s opportunity is a fraction of that. If U.S. revenues are a third of total, that implies $16.5 billion in connectivity revenue. If Verizon gets a third of that, it might realize $5.4 billion in annual incremental revenues.

Again, that is nice, but hardly transformational. Verizon might believe it will do much better than that, longer term.

Still, the nagging question has to be asked. If Verizon cannot do much more than add those incremental revenues, is it a sustainable strategy to focus on “5G” connectivity services? I doubt that is what Verizon has in mind, frankly.

Pay Attention to Product Life Cycles

The demise of long distance was the first indication that product life cycles operate in the telecom industry, as they do in all other industries. Decades ago, profits from the lucrative long distance calling business (driven by the business segment) were used to support money-losing consumer operations.

Once that ceased to be the case, service providers had to turn elsewhere for revenue and growth, notably to mobile services, which has been the global growth driver for decades.

Skype and other over the top alternatives have made the decline sharper.  

“Unintended consequences” might represent the more-significant of outcomes from the last two major transformations of U.S. telecom law.

The breakup of the AT&T system--a historical anomaly, as it turned out--was designed to “solve” the problem of high long distance prices. The Telecommunications Act of 1996 was intended to “solve” the problem of high prices for local telecommunications services.

The 1984 divestiture completely missed the coming role of mobile services. In fact, mobile arguably had more to do with falling long distance prices than did competition among fixed network service providers.

The U.S. Department of Justice concluded in 2007 that divestiture did not work as expected, and that similar outcomes (much lower prices and much higher usage) would have been produced by less-complicated measures.

source: U.S. Department of Justice

The 1996 Telecommunications Act, likewise, was supposed to introduce local telecom competition, in the same way the the 1983 breakup of the Bell system was intended to spur competition in long distance voice.

The Act opened competition in the “local” telecom business, initially driven by mandatory wholesale policies that allowed new competitors wholesale access to existing facilities, and then on a reliance on facilities-based supply.

What was missed? The internet. Ironically, to the extent the Telecommunications Act of 19996 has succeeded, it is because of value created by the internet and its apps and services, not new competition for local voice services.

The point is that, however well intentioned, major efforts to revamp communications policy have succeeded (in a generous interpretation)  “despite the new policies,” as much as “because of the new policies,” as maturing product life cycles eviscerated the very markets policymakers tried to make “more competitive.”

It is the two major unintended developments--mobility and internet--that have lead to higher value and lower prices for consumers, not the intended changes (breaking up AT&T, opening local telecom to competition). In the case of the divestiture, policymakers missed mobility; in the case of the Telecom Act, they missed the internet.

The point is a huge dose of humility should be brought to the whole process of shaping policy to promote investment and competition in communications facilities and services. Our track record is not very good.

What is the Long Term Telecom Imperative?

Differences of opinion are what makes markets: for every seller there must be a buyer. And in the case of AT&T and some other tier-one service providers, those differences might tend to center on near-term issues such as debt loads, while longer-term strategic issues center on whether any tier-one service provider can make a sustainable business out of access services, and only access services.

In the former case, acquisitions such as DirecTV and Time Warner are problematic mostly because of the implications for debt load. In the latter case the objection is that investment capital should be spent elsewhere.

My own views are clear enough: surviving tier-one service providers must move up the stack, must take on additional roles in the  value chain, must develop big new revenue sources beyond connectivity.

In large part, that belief flows directly from the marginal cost or near-zero levels of pricing for all connectivity services. Pricing that falls to nearly zero is a problem for the telecom or any other industry selling products.  

But stranded assets also are a growing problem in competitive markets, as competition increases capex per customer and increases business risk.

The big strategic problem is that the global telecom service provider market is likely very close to an absolute peak, the point at which  future revenues are smaller. For that reason, a simple reliance on access revenues is a guarantee of shrinking revenues.

Issues such as debt loads and other typical financial ratios are important. Mistakes can be fatal, in that regard. But beyond proper management, there are larger strategic issues, such as the future role of access services in the internet, app, retail and other parts of every  ecosystem that uses communications.

If you believe telecom access revenue is bound to start a permanent decline, then business leaders must--absolutely must--develop new business models.

Comcast Acquisition of NBCUniversal Did Not Cause Anti-Competitive Behavior; Precedent for AT&T Time Warner?

One objection--perhaps the major objection--to the proposed AT&T acquisition of Time Warner is that the merger would lead to higher prices. That also was alleged when Comcast bought NBCUniversal.

And though Department of Justice officials have said they do not believe in behavioral remedies (essentially, price controls and oversight), the evidence from one study suggests “either that there was no net positive effect on incentives to raise prices above competitive levels following the vertical merger, or else that the behavioral remedies placed on the Comcast-NBCU merger have been effective.”

In other words, the seminal Comcast acquisition of NBCUniversal, which essentially is the model for AT&T, did not lead to higher prices paid by distributors who buy NBCUniversal content.

That might be reason for believing that the proposed acquisition of Time Warner would not inevitably or necessarily lead to higher prices paid by distributors wanting access to key Time Warner content. In fact, some argue AT&T has clear incentive not to take unfair advantage of its programming customers.  

To be sure, DoJ lawyers--aside from opposing the proposed deal--also favor structural remedies (asset divestitures) in place of behavioral remedies that require the agency to continually monitor firm actions. And AT&T has said it will not offer such concessions.

Some argue the government’s case will fail, as federal antitrust officials have not won a vertical integration case in half a century, presumably because vertical mergers do not reduce competition in markets.

That is not to say anticompetitive actions are impossible, even after a merger that does not reduce competition. But such actions are anything but automatic, and Federal Trade Commission enforcement remains present.

Typically, the reasons for a vertical merger have to do with internal operating costs or some other advantage related to reducing input costs. In other cases, the rationale is to reduce reliance on revenue from only one segment of a full value chain, especially if the existing role is under financial or strategic pressure.

The point is that vertical mergers do not eliminate competition, by definition, and are not therefore automatically injurious to consumer welfare. There does not seem evidence that the Comcast acquisition of NBCUniversal, for example, caused problems in that regard.

And that is one reason for believing that an AT&T acquisition of Time Warner might well benefit AT&T, as well as its customers.