Marketing Costs are One Reason Video Streaming Business Model Suffers

The video streaming business, going direct to consumer, has higher costs than the older linear video subscription model for the same reason other retail distribution models come with higher costs than wholesale models. 

Wholesale is a business-to-business transaction with a few customers. Retail is a business-to-consumer transaction with many to millions of customers. Wholesale avoids the costs associated with selling to actual end users, including marketing, stocking, point-of-sale operations and handling of returns, plus lots more customer service and billing and payments processes. 

Cost element	Video streaming	Linear video
Content	Higher	Lower
Marketing	Higher	Lower
Technology	Higher	Lower
Operations	Lower	Higher
Total costs	Higher	Lower
Revenue	Subscriptions	Advertising

In the case of the older linear video subscription business, content providers and channels could rely on distributors for most of the marketing, retail operations and also allowed simplified business-to-business billing. 

In the direct-to-consumer business, streaming services must handle all that themselves. 

Cost	Linear	DTC
Acquisition marketing	$5-$10 per subscriber	$10-$15 per subscriber
Retention marketing	$1-$2 per subscriber	$2-$3 per subscriber
Avoided expenses	$2-$3 per subscriber	$0
Total marketing costs	$8-$13 per subscriber	$12-$18 per subscriber

Smartphones Do Not Drive Mobile Subscriptions Anymore

It is unquestioned wisdom in the mobile industry that the correlation between smartphone sales growth and mobile subscription growth is positive. But that correlation is not necessarily “causation.” For example, mobile subscriptions grew at high rates before smartphones were available. 

Once smartphone adoption reaches saturation levels, sales are mostly for replacement of older devices, and do not directly influence subscription figures overall, though such replacement sales are, to some extent, correlated with choosing different mobile service suppliers. 

In 2023, perhaps 75 percent to 80 percent of smartphone sales are of the “replace an existing smartphone” type. Counterpoint Research estimates 75 percent of smartphone sales are replacements of existing devices, while IDC estimates as much as 80 percent of such sales are for replacement. 

And although not all new mobile subscriptions use smartphones, most new devices sold are in this category. According to IDC, about 98 percent of new devices sold are smartphones. 

Year	Smartphone sales growth (%)	Mobile subscription growth (%)
2000	N/A	19.8%
2001	N/A	13.2%
2002	N/A	11.3%
2003	N/A	9.7%
2004	80.9%	10.2%
2005	45.2%	8.7%
2006	27.9%	7.5%
2007	32.6%	6.1%
2008	24.7%	4.6%
2009	-10.6%	2.5%
2010	49.4%	6.3%
2011	39.7%	5.1%
2012	15.9%	3.7%
2013	13.3%	3.2%
2014	12.6%	3%
2015	7.3%	2.8%
2016	4.3%	2.5%
2017	3.2%	2.2%
2018	2.3%	1.9%
2019	1.4%	1.7%
2020	-11.0%	0.7%
2021	9.5%	5.6%
2022	2.5%	3.9%

The point is that although it often is axiomatic that smartphone sales drive mobile subscriptions, that increasingly is not the case. 

"Free Riding" by Hyperscale App Providers?

To hear some connectivity service providers, the industry is in dire straits because of a “free riding” problem. Free riding is a situation where an entity or person benefits from something without paying for it. And that is essentially what some telcos allege happens when a few hyperscale app providers use internet access networks. 

The argument always is that a few hyperscalers represent a disproportionate amount of internet access demand, “forcing” internet service providers to invest in their networks without compensation. 

Among the key arguments:

• ISP profit margins are far below those of the hyperscale app providers

• This is somehow “unfair”

• A few hyperscalers represent a majority of traffic load

• ISPs will not be able to afford continued investment without compensation

Some might point to low research and development spending on the part of telcos, with such work as does occur having been essentially outsourced to third parties, principally the industry infrastructure supplier base. 

Other arguments against such “fair share” arguments include:

• Current infra investments by hyperscalers

• Violation of network neutrality principles

• Negative impact on app and content innovation, quality and prices

• Source of demand is ISP customer behavior, to which hyperscalers respond. 

On any number of financial metrics, though, it can be argued that ISPs and telcos are in the broad middle of all industries where it comes to financial performance. Profit margins and other measures of financial performance vary across industries, and telcos do not seem particularly disadvantaged on most of those metrics. 

Consider the price/sales ratio, which compares a company's market capitalization to its annual revenue. It is calculated by dividing the company's stock price by its sales per share. 

A high P/S ratio means that the market is willing to pay a high price for each dollar of the company's sales, typically because the company is expected to grow rapidly in the future, or because it has a strong competitive advantage.

 A low P/S ratio typically means a company or industry is not expected to grow rapidly, or because it has a weaker competitive advantage. Telco executives might emphasize the latter; others the former. 

Industry	P/S Ratio
Biotechnology	5.78
Pharmaceutical	4.38
Software & IT Services	3.67
Cloud Computing	3.41
Consumer Discretionary	2.80
Retailing	2.67
Technology Hardware & Equipment	2.52
Media & Entertainment	2.47
Telecommunications Services	2.45
Financial Services	2.18
Industrials	2.14
Energy	1.86
Materials	1.76
Agriculture	1.69
Utilities	1.66
Consumer Staples	1.65
Transportation	1.59

But telecom has never been a high-growth industry. It is akin to other industries with a “utility” or “natural monopoly” character. And such industries tend to have lower P/S ratios. In other words, “unfair” share of ecosystem or value chain revenue or profits is not the issue. 

Access networks are utilities, with utility-type valuations. “Unfairness” is not the issue.