As I am preparing for my keynote speech for the Annual Dinner event of the Telecom Society Netherlands (TSOC) end of January 2020, I thought the best way was to write down some of my thoughts on the key question “Is the ‘Uber’ moment for the telecom sector coming?”. In the end it turned out to be a lot more than some of my thoughts … apologies for that. Though it might still be worth reading, as many of those considerations in this piece will be hitting a telcos near you soon (if it hasn’t already).
Knowing Uber Technologies Inc’s (Uber) business model well (and knowing at least the Danish taxi industry fairly well as my family has a 70+ years old Taxi company, Radio-Taxi Nykoebing Sjaelland Denmark, started by my granddad in 1949), it instinctively appear to be an odd question … and begs the question “why would the telecom sector want an Uber moment?” … Obviously, we would prefer not to be massively loss making (as is the Uber moment at this and past moments, e.g., several billions of US$ loss over the last couple of years) and also not the regulatory & political headaches (although we have our own). Not to mention some of the negative reputation issues around “their” customer experience (quiet different from telco topics and thank you for that). Also not forgetting that Uber has access to only a fraction of the value chain in the markets the operate … Althans of course Uber is also ‘infinitely’ lighter in terms of assets than a classical Telco … Its also a bit easier to replicate an Uber (or platform businesses in general) than an asset-heavy Telco (as it requires a “bit” less cash to get started;-). But but … of course the question is more related to the type of business model Uber represent rather than the taxi / ride hailing business model itself. Thinking of Uber makes such a question more practical and tangible …
And not to forget … The super cool technology aspects of being a platform business such as Uber … maybe Telco-land can and should learn from platform businesses? … Lets roll!
Uber main business (ca. 81%) is facilitating peer-2-peer ride sharing and ride hailing services via their mobile application and its websites. Uber tabs into the sharing economy. Making use of under-utilized private cars and their owners (producers) willingness to give up hours of their time to drive others (consumers) around in their private vehicle. Uber had 95 million active users (consumers) in 2018 and is expected to reach 110 million in 2019 (22% CAGR between 2016 & 2019). Uber has around 3+ million drivers (producers) spread out over 85+ countries and 900+ cities around the world (although 1/3 is in the USA). In the third quarter of 2019, Uber did 1.77 billion trips. That is roughly 200 trips per Uber driver per month of which the median income is 155 US$ per month (1.27 US$ per trip) before gasoline and insurances. In December 2017, the median monthly salary for Americans was $3,714.
In addition Uber also provides food delivery services (i.e., Uber Eats, ca. 11%), Uber Freight services (ca. 7%) and what they call Other Bets (ca. 1%). The first 9 month of 2019, Uber spend more than 40% of the turnover on R&D. Uber has an average revenue per trip (ARPT) of ca. 2 US$ (out of 9.5 US$ per trip based on gross bookings). Not a lot of ARPT growth the last 9 quarters. Although active users (+30% YoY), trips (+31% YoY), Gross Bookings (+32%) and Adjusted Net Revenue (+35%) all shows double digit growth.
Uber allegedly takes a 25% fee of each fare (note: if you compare gross bookings, the total revenue generated by their services, to net revenue which Uber receives the average is around 20%).
Uber’s market cap, roughly 10 years after being founded, after its IPO was 76 Bn US$ (@ May 10th, 2019) only exceeded by Facebook (104.2 Bn @ IPO) and Alibaba Group (167.6 Bn US$ @ IPO). 7 month after Uber’s market cap is ca. 51 Bn US$ (-33% down on IPO). The leading European telco Deutsche Telekom AG (25 years old, 1995) in comparison has a market capitalization around 70 Bn US$ and is very far from loss making. Deutsche Telekom is one of the world’s leading integrated telecommunications companies, with some 170+ million mobile customers, 28 million fixed-network lines, and 20 million broadband lines.
Peal the Onion
“Telcos are pipe businesses, Ubers are platform businesses”
In other words, Telco’s are adhering to a classical business model with fairly linear causal value chain (see Michael Porter’s classic from 1985). It’s the type of input/output businesses that has been around since the dawn of the industrial revolution. Such a business model can (and should) have a very high degree of end-2-end customer experience control.
Ubers (e.g., Uber, Airbnb, Booking.com, ebay, Tinder, Minecraft, …) are non-linear business models that benefit from direct and indirect network effects allowing for exponential growth dynamics. Such businesses are often piggybacking on under-utilized or un-used assets owned by individuals (e.g., homes & rooms, cars, people time, etc…). Moreover, these businesses facilitate networked connectivity between consumers and producers via a digital platform. As such, platform businesses rarely have complete end-2-end customer experience control but would focus on the quality and experience of networked connectivity. While platform business have little control over their customers (i.e., consumers and producers) experiences or overall customer journey they may have indirectly via near real-time customer satisfaction feedback (although this is after the fact).
Clearly the internet has enabled many new ways of doing business. In particular it allows for digital businesses (infrastructure lite) to create value by facilitating networked-scaled business models where demand (i.e., customers demand XYZ) and supply (i.e., businesses supplying XYZ).
Think ofAirbnb‘s internet-based platform that connects (or networks) consumers (guests), who are looking for temporary accommodation (e.g., hotel room), with producers (hosts, private or corporate) of temporary accommodations to each other. Airbnb thus allow for value creation by tying into the sharing economy of private citizens. Under-utilized private property is being monetized, benefiting hosts (producers), guests (consumers) and the platform business (by charging a transactional fee). Airbnb charges hosts a 3% fee that mainly covers the payment processing cost. Moreover, Airbnb’s typical guest fee is under 13% of the booking cost. “Airbnb is a platform business built upon software and other peoples under-utilized homes & rooms”. While Airbnb facilitated private (temporary) accommodations to consumers, today there are other online platform businesses (e.g., Booking.com, Experia.com, agoda.com, … ) that facilitates connections between hotels and consumers.
Think of Uber‘sonline ride hailing platformconnects travelers (consumer) with drivers (producers, private or corporate) as an alternative to normal cab / taxi services. Uber benefits from the under-utilization of most private cars, the private owners willingness to spend spare time and desire to monetize this under-utilization by becoming a private cab driver. Again the platform business exploring the sharing economy. Uber charges their drivers 25% of the faring fee. “Uber is a platform business built upon software and other peoples under-utilized cars and spare time”.The word platform was used 747 times in Uber’s IPO document. After Uber launched its digital online ride hailing platform, many national and regional taxi applications have likewise been launched. Facilitating an easier and more convenient way of hauling a taxi, piggybacking on the penetration of smartphones in any given market. In those models official taxi businesses and licensed taxi drivers collaborate around an classical industry digital platform facilitating and managing dispatches on consumer demand.
“A platform business relies on the sharing economy, monetizing networking (i.e., connecting) consumers and producers by taking a transaction fee on the value of involved transaction flow.”
E.g., consumer pays producer, or consumer get service for free and producer pays the platform business. It is a highly scaleble business model with exponential potential for growth assuming consumers and producers alike adapt your platform. The platform business model tends to be (physical) infrastructure and asset lite and software heavy. It typically (in start-up phase at least) relies on commercially available cloud offering (e.g., Lyft relies on AWS, Uber on AWS & Google) or if the platform business is massively scaled (e.g., Facebook), the choice may be to own data center infrastructure to have better platform control over operations. Typically you will see that successful Platform businesses at scale implements hybrid cloud model levering commercially available cloud solutions and own data centers. Platform businesses tend to be heavily automated (which is relative easy in a modern cloud environment) and rely very significantly on monetizing their data with underlying state-of-the-art real-time big data systems and of course intelligent algorithmic (i.e., machine learning based) business support systems.
A platform-business’s technology stack, residing in a cloud, will typically run on a virtual machine or within a so-called container engine. The stack really resides on the upper protocol layers and is transparent to lower level protocols (e..g, physical, link, network, transport, …). In general the platform stack can be understood to function on the 3 platform layers presented in the chart to the left; (top-platform-layer) Networked Marketplace that connects producers and consumers with each other. This layer describes how a platform business customers connect (e.g., mobile app on smartphone), (middle-platform-layer) Enabling Layer in which microservices, software tools, business logic, rules and so forth will reside, (bottom-platform-layer) the Big Data Layer or Data Layer with data-driven decision making are occurring often supported by advanced real-time machine learning applications. The remaining technology stuff (e.g., physical infrastructure, servers, storage, LAN/WAN, switching, fixed and mobile telco networking, etc..) is typically taken care of by cloud or data center providers and telco providers. Which is explains why platform businesses tends to be infrastructure or asset lite (and software heavy) compared to telco and data-center providers.
“Many classical linear businesses are increasingly copying the platform businesses digital strategies (achieving an improved operational excellence) without given up on their fundamental value-chain control. Thus allowing to continue to provide consumers a known and often improved customer experience compared to a pure platform business.”
So what about the Telco model?
Well, the Telco business model is adhering to a linear value chain and business logic. And unless you are thinking of a service telco provider or virtual telco operator, Telcos are incredible infrastructure and asset heavy with massive capital investments required to provide competitive services to their customers. Apart from the required capital intensive underlying telco technology infrastructure, the telco business model requires; (1) public licenses to operate (often auctioned, or purchased and rarely “free”), (2) requires (public) telephony numbers, (3) spectrum frequencies (i.e.,for mobile operation) and so forth …
Furthermore, overall customer experience and end-2-end customer journey is very important to Telcos (as it is to most linear businesses and most would and should subscribe to being very passionate about it). In comparison to Platform Businesses, it would not be an understatement (at this moment in time at least) to say that most Telco businesses are lagging on cloudification/softwarisation, intelligent automation (whether domain-based or End-2-End) and advanced algorithmic (i.e., machine learning enabled) decision making as it relates to overarching business decisions as well as customer-related micro-decisions. However, from an economical perspective we are not talking about more than 10% – 20% of a Telco’s asset base (or capital expenses).
Mobile telco operators tend to be fairly advanced in their approaches to customer experience management, although mainly reactive rather than pro-active (due to lower intelligent algorithmic maturity again in comparison to most platform businesses). In general, fixed telco businesses are relative immature in their approaches to customer experience management (compared to mobile operators) possibly due lack of historical competitive pressure (“why care when consumers have not other choice” mindset). Alas this too is changing as more competition in fixed telco-land emerges.
“Telcos have some technology catching up to do in comparison & where relevant with platform businesses. However, that catching up does not force them to change the fundamentals of their business model (unless it make sense of course).”
Characteristic of a Platform Business
Often relies on the sharing economy (i.e., monetizing under-utilized resources).
It’s (exponential) growth relies on successful networking of consumers & producers (i.e., piggybacking on network effects).
Software-centric: platform business is software and focus / relies on the digital domain & channels.
Mobile-centric: mobile apps for consumers & producers.
Cloud-centric: platform-solution built on Public or Hybrid cloud models.
Cloud-native maturity level (i.e., the highest cloud maturity level).
Heavily end-2-end automated across cloud-native platform, processes & decision making.
Highly sophisticated data-driven decision making.
Infrastructure / asset lite (at scale may involve own data center assets).
Business driven & optimized by state-of-art big data real-time solutions supported by a very high level of data science & engineering maturity.
Little or no end-2-end customer experience control (i.e., in the sense of complete customer journey).
Very strong focus on connection experience including payment process.
Revenue source may be in form of transactional fee imposed on the value involved in networking producers and consumers (e.g., payment transaction, cost-per-click, impressions, etc..).
In my opinion it is not a given that a platform business always have to disrupt an existing market (or classical business model). However, a successful platform business often will be transformative, resulting in classical business attempting to copy aspects of the platform business model (e..g, digitalization, automation, cloud transformation, etc..). It is too early in most platform businesses life-cycle to conclude whether, where they disrupt, it is a temporary disruption (until the disrupted have transformed) or a permanently destruction of an existing classical market model (i.e., leaving little or no time for transformation).
So with the above in mind (and I am sure for many other defining factors), it is hard to see a classical telco transforming itself into a carbon copy of a platform business and maybe more importantly why this would make a lot of sense to do in the first instance. But but … it is also clear that Telco-land should proudly copy what make sense (e.g., particular around tech and level of digitization).
Teaser thought Though if you think in terms of sharing economical principles, the freedom that an eSIM (or software-based SIM equivalents) provides with 5 or more network profiles may bring to a platform business going beyond traditional MVNOs or Service Providers … well well … you think! (hint: you may still need an agreement with the classical telco though … if you are not in the club already;-). Maybe a platform model could also tab into under-utilized consumer resources that the consumer has already paid for? or what about a transactional model on Facebook (or other social media) where the consumer actual monetizes (and controls) personal information directly with third party advertisers? (actually in this model the social media company could also share part of its existing spoil earned on their consumer product, i.e., the consumer) etc…
However, it does not mean that telcos cannot (and should not) learn from some of the most successful platform business around. There certainly is enough classical beliefs in the industry that may be ripe for a bit of disruption … so untelconizing (or as my T-Mobile US friends like to call it uncarrier) ourselves may not be such a bad idea.
“There is more to telco technologies than its core network and backend platforms.”
Having a great (=successful) e-commerce business platform with cloud-native maturity level including automation that most telcos can only dream of, and mouth watering real-time big data platforms with the smartest data scientist and data engineers in the world … does not make for an easy straightforward transformation to a national (or world for that matter) leading (or non-leading) telco business in the classical sense of owning the value chain end-to-end.
Japan’s Rakuten is one platform business that has the ambition and expressed intention to move from being traditional platform-based business (ala Amazon.com) to become a mobile operator leveraging all the benefits and know-how of their existing platform technologies. Extending those principles, such as softwarization, cloudification and cloud-native automation principles, all the way out to the edge of the mobile antenna.
Many of us in telco-land thought that starting out with a classical telco, with mobile and maybe fixed assets as well, would make for an easy inclusion of platform-like technologies (as describe above), have had to revise our thinking somewhat. Certainly time-lines have been revised a couple of times, as have the assumed pre-conditions or context for such a transformation. Even economical and operational benefits that seems compelling, at least from a Greenfield perspective, turns out to be a lot more muddy when considering the legacy spaghetti we have in telcos with years and years in bag. And for the ones who keep saying that 5G will change all that … no I really doubt that it will any time soon.
While above platform-like telco topology looks so much simpler than the incumbent one … we should not forget it is what lays underneath the surface that matters. And what matters is software. Lots of software. The danger will always be present that we are ending up replacing hardware & legacy spaghetti complexity with software spaghetti complexity. Resulting unintended consequences in terms of longer-term operational stability (e.g,, when you go beyond being a greenfield business).
“Software have made a lot in the physical world redundant but it may also have leapfrogged the underlying operational complexity to an extend that may pose an existential threat down the line.”
While many platform businesses have perfected cloud-native e-commerce stacks reaching all the way out to the end-consumers mobile apps, residing on the smartphone’s OS, they do operate on the higher level of whatever relevant telco protocol stack. Platform businesses today relies on classical telcos to provide a robust connection data pipe to their end-users at high availability and stability.
What’s coming for us in Telco-land?
“Software will eat more and more of telco-land’s hardware as well as the world.”
(side note: for the ones who want to say that artificial intelligence (AI) will be eating the software, do remember that AI is software too and imo we talk then about autosarcophagy … no further comment;-).
Telcos, of the kinds with a past, will increasingly implement software solutions replacing legacy hardware functionality. Such software will be residing in a cloud environment either in form of public and/or private cloud models. We will be replacing legacy hardware-centric telco components or boxes with a software copy, residing on a boring but highly standardized hardware platform (i.e., a common off the shelf server). Yes … I talk about software definable networks (SDN) and network functional virtualization (NFV) features and functionalities (though I suspect SDN/NFV will be renamed to something else as we have talked about this for too many years for it to keep being exciting;-). The ultimate dream (or nightmare pending on taste) is to have all telco functions defined in software and operating on a very low number of standardized servers (let’s call it the pizza-box model). This is very close to the innovative and quiet frankly disruptive ideas of for example Drivenets in Israel (definitely worth a study if you haven’t already peeked at some of their solutions). We are of course seeing quiet some progress in developing software equivalents to telco core (i.e., Telco Cloud in above picture) functionalities, e.g., evolved packet core (EPC) functions, policy and charging rules function (PCRF), …. These solutions are available from the usual supplier suspects (e.g., Cisco, Ericsson, Huawei, and Nokia) as well as from (relative) new bets, such as for example Affirmed Networks and Mavenir (side note: if you are not the usual supplier suspect and have developed cloud-based telco functionalities drop me a note … particular if such work in a public or hybrid cloud model with for example Azure or AWS).
We will have software eating its way out to the edge of our telco networks. That is assuming it proves to make economical and operational sense (and maybe even anyway;-). As computing requirements, driven by softwarization of telco-land, goes “through the roof” across all network layers, edge computing centers will be deployed (or classical 2G BSC or 3G RNC sites will be re-purposed for the “lucky” operators with a more dis-aggregated network typologies).
Telcos (should) have very strong desires for platform-like automation as we know it from platform businesses cloud-native implementations. For a telco though, the question is whether they can achieve cloud-native automation principles throughout all their network layers and thus possibly allow for end-2-end (E2E) automation principles as known in a cloud-native world (which scope wise is more limited than the full telco stack). This assumes that an E2E automation goal makes economical and operational sense compared to domain-oriented automation (with domains not per see matching one to one the traditional telco network layers). While it is tempting to get all enthusiastic & winded-up about the role of artificial intelligence (AI) in telco (or any other) automation framework, it always make sense to take an ice cold shower and read up on non-AI based automation schemes as we have them in a cloud-native cloud environment before jumping into the rabbit hole. I also think that we should be very careful architecturally to spread intelligent agents all over our telco architecture and telco stack. AI will have an important mission in pro-active customer experience solutions and anomaly detection. The devil may be in how we close the loop of an intelligent agent’s output and a input to our automation framework.
To summarize what’s coming for the Telco sector;
Increased softwarization (or virtualization) moving from traditional platform layers out towards the edge.
Increased leveraging of cloud models (e.g., private, public, hybrid) following the path of softwarization.
Strive towards cloud-native operations including the obvious benefits from (non-AI based) automation that the cloud-native framework brings.
We will see a lot of focus on developing automation principles across the telco stack to the extend such will be different from cloud-native principles (note: expect there will be some at least for non-Greenfield implementations but also in general as the telco stack is not idem ditto a traditional platform stack). This may be hampered by lack of architectural standardization alignment across our industry. There is a risk that we will push for AI-based automation without exploring fully what non-AI based schemes may bring.
Inevitable the industry will spend much more efforts on developing cognitive-based pro-active customer experience solutions as well as expanding anomaly detection across the full telco stack. This will help in dealing with design complexities although might also be hampered by mis-alignment on standardization. Not to mention that AI should never become an excuse to not simplify designs and architectures.
Plus anything clever that I have not thought about or forgot to mention 🙂
So yes … softwarization, cloudification and aggressive (non-AI based) automation, known from platform-centric businesses, will be coming (in fact has arrived to an extend) for Telcos … over time and earlier for the few new brave Telco Greenfields …
Artificial intelligence based solutions will have a mission in pro-active customer experience (e.g., cellwize, uhana, …), zero-touch predictive maintenance, self-restoration & healing, and for advanced anomaly detection solutions (e.g., see Anodot as a leading example here). All are critical requirements in the new (and obviously in the old as well) telco world is being eaten by software. Self-learning “conscious” (defined in a relative narrow technical sense) anomaly detection solutions across the telco stack is in my opinion a must to deal with today’s and the future’s highly complex software architectures and systems.
I am also speculating whether intelligent agents (e.g., microagents reacting to an events) may make the telco layers less reliant on top-down control and orchestration (… I am also getting goosebumps by that idea … so maybe this is not good … hmmm … or I am cold … but then again orchestration is for non-trusting control “freaks”). Such a reactive microagent (or microservice) could take away the typical challenges with stack orchestration (e.g., blocking, waiting, …), decentralize control across the telco stack.
And no … we will not become Ubers … although there might be Ubers that will try to become us … The future will show …
I also greatly acknowledge my wife Eva Varadi for her support, patience and understanding during the creative process of writing this Blog. Also many of my Deutsche Telekom AG, T-Mobile NL & Industry colleagues in general have in countless of ways contributed to my thinking and ideas leading to this little Blog. Thank you!
Mike Isaac, “Super Pumped – The Battle for Uber”, 2019, W.W. Norton & Company. A good read and what starts to look like a rule of a Silicon Valley startup behavior (the very worst and of course some of the best). Irrespective of the impression this book leaves with me, I am also deeply impressed (maybe even more after reading the book;-) what Uber’s engineers have been pulling off over the last couple of years.
Chris Anderson, “Free – The Future of a Radical Price”, (2009), Hyperion eBook. This is one of the coolest books I have read on the topic of freemium, sharing economy and platform-based business models. A real revelations and indeed a confirmation that if you get something for free, you are likely not a customer but a product. A must read to understand the work around us. In this setting it is also worth reading “What is a Free Customer Worth?” by Sunil Gupta & Carl F. Mela (HBR, 2008).
Sangeet Paul Choudary, “Platform Scale”, (2015), Platform Thinking Labs Pte. Ltd. A must read for anyone thinking of developing a platform based business. Contains very good detailed end-2-end platform design recommendations. If you are interested in knowing the most important aspects of Platform business models and don’t have time for more academic deep dive, this is most likely the best book to read.
Laure Claire Reillier & Benout Reillier, “Platform Strategy”, (2017), Routledge Taylor & Francis Group. Very systematic treatment of platform economics and all strategic aspects of a platform business. It contains a fairly comprehensive overview of academic works related to platform business models and economics (that is if you want to go deeper than for example Choudary’s excellent “Platform Scale” above).
Jean-Charles Rochet & Jean Tirole, “Platform Competition in Two-sided Markets” (2003), Journal of the European Economic Association, 1, 990. Rochet & Tirole formalizes the economics of two-sided markets. The math is fairly benign but requires a mathematical background. Beside the math their paper contains some good descriptions of platform economics.
Todd W. Schneider, “Taxi and Ridehailing Usage in New York City”, a cool site that provides historical and up-to-date taxi and ride hailing usage data for New York and Chicago. This gives very interesting insights into the competitive dynamics of Uber / Ride hailing platform businesses vs the classical taxi business. It also shows that while ride hailing businesses have disrupted the taxi business in totality, being a driver for a ride hailing platform is not that great either (and as Uber continues to operate at impressive losses maybe also not for Uber either at least in their current structure).
Uber Engineeringis in general a great resource for platform / stack architecture, system design, machine learning, big data & forecasting solutions for a business model relying on real-time transactions. While I personally find the Uber architecture or system design too complex it is nevertheless an impressive solution that Uber has developed. There are many noteworthy blog posts to be found on the Uber Engineering site. Here is a couple of foundational ones (both from 2016 so please be aware that lots may have changed since then) “The Uber Engineering Tech Stack, Part I: The Foundation” (Lucie Lozinski, 2016) and “The Uber Engineering Tech Stack, Part II: The Edge and Beyond” (Lucie Lozinski, 2016) . I also found “Uber’s Big Data Platform: 100+ Petabytes with Minute Latency” post (by Reza Shiftehfar, 2018) very interesting in describing the historical development and considerations Uber went through in their big data platform as their business grew and scale became a challenge in their designs. This is really a learning resource.
Wireless One, “Rakuten: Japan’s new #4 is going all cloud”, 2019. Having had the privilege to visit Rakuten in Japan and listen to their chief-visionary Tareq Amin (CTO) they clearly start from being a platform-centric business (i.e., Asia’s Amazon.com) with the ambition to become a new breed of telco levering their platform technologies (and platform business model thinking) all the way out to the edge of the mobile base station antenna. While I love that Tareq Amin actually has gone and taken his vision from powerpoint to reality, I also think that Rakuten benefits (particular many of the advertised economical benefits) from being more a Greenfield telco than an established telco with a long history and legacy. In this respect it is humbling that their biggest stumbling block or challenge for launching their services is site rollout (yes touchy-feel infrastructure & real estate is a b*tch!). See also “Rakuten taking limited orders for services on its delayed Japan mobile network” (October, 2019).
Justin Garrison & Chris Nova, “Cloud Native Infrastructure”, 2018, O’Reilly and Kief Morris, “Infrastructure as Code”, 2016, O’Reilly. I am usually using both these books as my reference books when it comes to cloud native topics and refreshing my knowledge (and hopefully a bit of understanding).
Murat Uenlue, “The Complete Guide to the Revolutionary Platform Business Model”, 2017. Good read. Provides a great overview of platform business models and attempts systematically categorize platform businesses (e.g., Communications Platform, Social Platform, Search Platform, Open OS Platforms, Service Platforms, Asset Sharing Platforms, Payment Platforms, etc….).
Mobile data adaption can be (and usually is) very un-healthy for the mobile voice revenues.
A Mega Byte of Mobile Voice is 6 times more expensive than a Mega Byte of Mobile Data (i.e., global average)
If customers would pay the Mobile Data Price for Mobile Voice, 50% of Global Mobile Revenue would Evaporate (based on 2013 data).
Classical Mobile Voice is not Dead! Global Mobile Voice Usage grew with more than 50% over the last 5 years. Though Global Voice Revenue remained largely constant (over 2009 – 2013).
Mobile Voice Revenues declined in most Western European & Central Eastern European countries.
Voice Revenue in Emerging Mobile-Data Markets (i.e., Latin America, Africa and APAC) showed positive growth although decelerating.
Mobile Applications providing high-quality (often High Definition) mobile Voice over IP should be expected to dent the classical mobile voice revenues (as Apps have impacted SMS usage & revenue).
Most Western & Central Eastern European markets shows an increasing decline in price elasticity of mobile voice demand. Even some markets (regions) had their voice demand decline as the voice prices were reduced (note: not that causality should be deduced from this trend though).
The Art of Re-balancing (or re-capture) the mobile voice revenue in data-centric price plans are non-trivial and prone to trial-and-error (but likely also un-avoidable).
An Unbearable Lightness.
There is something almost perverse about how light the mobile industry tends to treat Mobile Voice, an unbearable lightness?
How often don’t we hear Telco Executives wish for All-IP and web-centric services for All? More and more mobile data-centric plans are being offered with voice as an after thought. Even though voice still constitute more than 60% of the Global Mobile turnover and in many emerging mobile markets beyond that. Even though classical mobile voice is more profitable than true mobile broadband access. “Has the train left the station” for Voice and running off the track? In my opinion, it might have for some Telecom Operators, but surely not for all. Taking some time away from thinking about mobile data would already be an incredible improvement if spend on strategizing and safeguarding mobile voice revenues that still are a very substantial part of The Mobile Business Model.
Mobile data penetration is un-healthy for voice revenue. It is almost guarantied that voice revenue will start declining as the mobile data penetration reaches 20% and beyond. There are very few exceptions (i.e., Australia, Singapore, Hong Kong and Saudi Arabia) to this rule as observed in the figure below. Much of this can be explained by the Telecoms focus on mobile data and mobile data centric strategies that takes the mobile voice business for given or an afterthought … focusing on a future of All-IP Services where voice is “just” another data service. Given the importance of voice revenues to the mobile business model, treating voice as an afterthought is maybe not the most value-driven strategy to adopt.
I should maybe point out that this is not per se a result of the underlying Cellular All-IP Technology. The fact is that Cellular Voice over an All-IP network is very well specified within 3GPP. Voice over LTE (i.e., VoLTE), or Voice over HSPA (VoHSPA) for that matter, is enabled with the IP Multimedia Subsystem (IMS). Both VoLTE and VoHSPA, or simply Cellular Voice over IP (Cellular VoIP as specified by 3GPP), are highly spectral efficient (compared to their circuit switched equivalents). Further the Cellular VoIP can be delivered at a high quality comparable to or better than High Definition (HD) circuit switched voice. Recent Mean Opinion Score (MOS) measurements by Ericsson and more recently (August 2014) Signals Research Group & Spirent have together done very extensive VoLTE network benchmark tests including VoLTE comparison with the voice quality of 2G & 3G Voice as well as Skype (“Behind the VoLTE Curtain, Part 1. Quantifying the Performance of a Commercial VoLTE Deployment”). Further advantage of Cellular VoIP is that it is specified to inter-operate with legacy circuit-switched networks via the circuit-switched fallback functionality. An excellent account for Cellular VoIP and VoLTE in particular can be found in Miikki Poikselka et al’s great book on “Voice over LTE” (Wiley, 2012).
Its not the All-IP Technology that is wrong, its the commercial & strategic thinking of Voice in an All-IP World that leaves a lot to be wished for.
Voice over LTE provides for much better Voice Quality than a non-operator controlled (i.e., OTT) mobile VoIP Application would be able to offer. But is that Quality worth 5 to 6 times the price of data, that is the Billion $ Question.
Figure Above: illustrates the compound annual growth rates (2009 to 2013) of mobile voice revenue and the mobile data penetration at the beginning of the period (i.e., 2009). As will be addressed later it should be noted that the growth of mobile voice revenues are NOT only depending on Mobile Data Penetration Rates but on a few other important factors, such as addition of new unique subscribers, the minute price and the voice arpu compared to the income level (to name a few). Analysis has been based on Pyramid Research data. Abbreviations: WEU: Western Europe, CEE: Central Eastern Europe, APAC: Asia Pacific, MEA: Middle East & Africa, NA: North America and LA: Latin America.
In the following discussion classical mobile voice should be understood as an operator-controlled voice service charged by the minute or in equivalent economical terms (i.e., re-balanced data pricing). This is opposed to a mobile-application-based voice service (outside the direct control of the Telecom Operator) charged by the tariff structure of a mobile data package without imposed re-balancing.
If the Industry would charge a Mobile Voice Minute the equivalent of what they charge a Mobile Mega Byte … almost 50% of Mobile Turnover would disappear … So be careful AND be prepared for what you wish for!
There are at least a couple of good reasons why Mobile Operators should be very focused on preserving mobile voice as we know it (or approximately so) also in LTE (and any future standards). Even more so, Mobile Operators should try to avoid too many associations with non-operator controlled Voice-over-IP (VoIP) Smartphone applications (easier said than done .. I know). It will be very important to define a future voice service on the All-IP Mobile Network that maintains its economics (i.e., pricing & margin) and don’t get “confused” with the mobile-data-based economics with substantially lower unit prices & questionable profitability.
Back in 2011 at the Mobile Open Summit, I presented “Who pays for Mobile Broadband” (i.e., both in London & San Francisco) with the following picture drawing attention to some of the Legacy Service (e.g., voice & SMS) challenges our Industry would be facing in the years to come from the many mobile applications developed and in development;
One of the questions back in 2011 was (and Wow it still is! …) how to maintain the Mobile ARPU & Revenues at a reasonable level, as opposed to massive loss of revenue and business model sustainability that the mobile data business model appeared to promise (and pretty much still does). Particular the threat (& opportunities) from mobile Smartphone applications. Mobile Apps that provides Mobile Customers with attractive price-arbitrage compared to their legacy prices for SMS and Classical Voice.
“IP killed the SMS Star” … Will IP also do away with the Classical Mobile Voice Economics as well?
Okay … Lets just be clear about what is killing SMS (it’s hardly dead yet). The Mobile Smartphone Messaging-over-IP (MoIP) App does the killing. However, the tariff structure of an SMS vis-a-vis that of a mobile Mega Byte (i..e, ca. 3,000x) is the real instigator of the deed together with the shear convenience of the mobile application itself.
As of August 2014 the top Messaging & Voice over IP Smartphone applications share ca. 2.0+ Billion Active Users (not counting Facebook Messenger and of course with overlap, i.e., active users having several apps on their device). WhatsApp is the Number One Mobile Communications App with about 700 Million active users (i.e., up from 600 Million active users in August 2014). Other Smartphone Apps are further away from the WhatsApp adaption figures. Applications from Viber can boast of 200+M active users, WeChat (predominantly popular in Asia) reportedly have 460+M active users and good old Skype around 300+M active users. The impact of smartphone MoIP applications on classical messaging (e.g., SMS) is well evidenced. So far Mobile Voice-over-IP has not visible dented the Telecom Industry’s mobile voice revenues. However the historical evidence is obviously no guaranty that it will not become an issue in the future (near, medium or far).
WhatsApp is rumoured to launch mobile voice calling as of first Quarter of 2015 … Will this event be the undoing of operator controlled classical mobile voice? WhatsApp already has taken the SMS Scalp with 30 Billion WhatsApp messages send per day according the latest data from WhatsApp (January 2015). For comparison the amount of SMS send out over mobile networks globally was a bit more than 20 Billion per day (source: Pyramid Research data). It will be very interesting (and likely scary as well) to follow how WhatsApp Voice (over IP) service will impact Telecom operator’s mobile voice usage and of course their voice revenues. The Industry appears to take the news lightly and supposedly are unconcerned about the prospects of WhatsApp launching a mobile voice services (see: “WhatsApp voice calling – nightmare for mobile operators?” from 7 January 2015) … My favourite lightness is Vodacom’s (South Africa) “if anything, this vindicates the massive investments that we’ve been making in our network….” … Talking about unbearable lightness of mobile voice … (i.e., 68% of the mobile internet users in South Africa has WhatsApp on their smartphone).
Paying the price of a mega byte mobile voice.
A Mega-Byte is not just a Mega-Byte … it is much more than that!
In 2013, the going Global average rate of a Mobile (Data) Mega Byte was approximately 5 US-Dollar Cent (or a Nickel). A Mega Byte (MB) of circuit switched voice (i.e., ca. 11 Minutes @ 12.2kbps codec) would cost you 30+ US$-cent or about 6 times that of Mobile Data MB. Would you try to send a MB of SMS (i.e., ca. 7,143 of them) that would cost you roughly 150 US$ (NOTE: US$ not US$-Cents).
1 Mobile MB = 5 US$-cent Data MB < 30+ US$-cent Voice MB (6x mobile data) << 150 US$ SMS MB (3000x mobile data).
A Mega Byte of voice conversation is pretty un-ambiguous in the sense of being 11 minutes of a voice conversation (typically a dialogue, but could be monologue as well, e.g., voice mail or an angry better half) at a 12.2 kbps speech codec. How much mega byte a given voice conversation will translate into will depend on the underlying speech coding & decoding (codec) information rate, which typically is 12.2 kbps or 5.9 kbps (i.e., for 3GPP cellular-based voice). In general we would not be directly conscious about speed (e.g., 12.2 kbps) at which our conversation is being coded and decoded although we certainly would be aware of the quality of the codec itself and its ability to correct errors that will occur in-between the two terminals. For a voice conversation itself, the parties that engage in the conversation is pretty much determining the duration of the conversation.
An SMS is pretty straightforward and well defined as well, i.e., being 140 Bytes (or characters). Again the underlying delivery speed is less important as for most purposes it feels that the SMS sending & delivery is almost instantaneously (though the reply might not be).
All good … but what about a Mobile Data Byte? As a concept it could by anything or nothing. A Mega Byte of Data is Extremely Ambiguous. Certainly we get pretty upset if we perceive a mobile data connection to be slow. But the content, represented by the Byte, would obviously impact our perception of time and whether we are getting what we believe we are paying for. We are no longer master of time. The Technology has taken over time.
Some examples: A Mega Byte of Voice is 11 minutes of conversation (@ 12.2 kbps). A Mega Byte of Text might take a second to download (@ 1 Mbps) but 8 hours to process (i.e., read). A Mega Byte of SMS might be delivered (individually & hopefully for you and your sanity spread out over time) almost instantaneously and would take almost 16 hours to read through (assuming English language and an average mature reader). A Mega Byte of graphic content (e.g., a picture) might take a second to download and milliseconds to process. Is a Mega Byte (MB) of streaming music that last for 11 seconds (@ 96 kbps) of similar value to a MB of Voice conversation that last for 11 minutes or a MB millisecond picture (that took a second to download).
In my opinion the answer should be clearly NO … Such (somewhat silly) comparisons serves to show the problem with pricing and valuing a Mega Byte. It also illustrates the danger of ambiguity of mobile data and why an operator should try to avoid bundling everything under the banner of mobile data (or at the very least be smart about it … whatever that means).
I am being a bit naughty in above comparisons, as I am freely mixing up the time scales of delivering a Byte and the time scales of neurological processing that Byte (mea culpa).
Figure Above: Logarithmic representation of the cost per Mega Byte of a given mobile service. 1 MB of Voice is roughly corresponding to 11 Minutes at a 12.2 voice codec which is ca. 25+ times the monthly global MoU usage. 1 MB of SMS correspond to ca. 7,143 SMSs which is a lot (actually really a lot). In USA 7,143 would roughly correspond to a full years consumption. However, in WEU 7,143 SMS would be ca. 6+ years of SMS consumption (on average) to about almost 12 years of SMS consumption in MEA Region. Still SMS remain proportionate costly and clear is an obvious service to be rapidly replaced by mobile data as it becomes readily available. Source: Pyramid Research.
The “Black” Art of Re-balancing … Making the Lightness more Bearable?
I recently had a discussion with a very good friend (from an emerging market) about how to recover lost mobile voice revenues in the mobile data plans (i.e., the art of re-balancing or re-capturing). Could we do without Voice Plans? Should we focus on All-in the Data Package? Obviously, if you would charge 30+ US$-cent per Mega Byte Voice, while you charge 5 US$-cent for Mobile Data, that might not go down well with your customers (or consumer interest groups). We all know that “window-dressing” and sleight-of-hand are important principles in presenting attractive pricings. So instead of Mega Byte voice we might charge per Kilo Byte (lower numeric price), i.e., 0.029 US$-cent per kilo byte (note: 1 kilo-byte is ca. 0.65 seconds @ 12.2 kbps codec). But in general the consumer are smarter than that. Probably the best is to maintain a per time-unit charge or to Blend in the voice usage & pricing into the Mega Byte Data Price Plan (and hope you have done your math right).
Example (a very simple one): Say you have 500 MB mobile data price plan at 5 US$-cent per MB (i.e., 25 US$). You also have a 300 Minute Mobile Voice Plan of 2.7 US$-cent a minute (or 30 US$-cent per MB). Now 300 Minutes corresponds roughly to 30 MB of Voice Usage and would be charged ca. 9$. Instead of having a Data & Voice Plan, one might have only the Data Plan charging (500 MB x 5 US$cent/MB + 30 MB x 30 US$/cent/MB) / 530 MB or 6.4 US$-cent per MB (or 1.4 US$-cent more for mobile voice over the data plan or a 30% surcharge for Voice on the Mobile Data Bytes). Obviously such a pricing strategy (while simple) does pose some price strategic challenges and certainly does not per se completely safeguard voice revenue erosion. Keeping Mobile Voice separately from Mobile Data (i.e., Minutes vs Mega Bytes) in my opinion will remain the better strategy. Although such a minutes-based strategy is easily disrupted by innovative VoIP applications and data-only entrepreneurs (as well as Regulator Authorities).
Re-balancing (or re-capture) the voice revenue in data-centric price plans are non-trivial and prone to trial-and-error. Nevertheless it is clearly an important pricing strategy area to focus on in order to defend existing mobile voice revenues from evaporating or devaluing by the mobile data price plan association.
Is Voice-based communication for the Masses (as opposed to SME, SOHO, B2B,Niche demand, …) technologically un-interesting? As a techno-economist I would say far from it. From the GSM to HSPA and towards LTE, we have observed a quantum leap, a factor 10, in voice spectral efficiency (or capacity), substantial boost in link-budget (i.e., approximately 30% more geographical area can be covered with UMTS as opposed to GSM in apples for apples configurations) and of course increased quality (i.e., high-definition or crystal clear mobile voice). The below Figure illustrates the progress in voice capacity as a function of mobile technology. The relative voice spectral efficiency data in the below figure has been derived from one of the best (imo) textbooks on mobile voice “Voice over LTE” by Miikki Poikselka et all (Wiley, 2012);
Figure Above: Abbreviation guide; EFR: Enhanced Full Rate, AMR: Adaptive Multi-Rate, DFCA: Dynamic Frequency & Channel Allocation, IC: Interference Cancellation. What might not always be appreciate is the possibility of defining voice over HSPA, similar to Voice over LTE. Source: “Voice over LTE” by Miikki Poikselka et all (Wiley, 2012).
If you do a Google Search on Mobile Voice you would get ca. 500 Million results (note Voice over IP only yields 100+ million results). Try that on Mobile Data and “sham bam thank you mam” you get 2+ Billion results (and projected to increase further). For most of us working in the Telecom industry we spend very little time on voice issues and an over-proportionate amount of time on broadband data. When you tell your Marketing Department that a state-of-the-art 3G can carry at least twice as much voice traffic than state-of-the –art GSM (and over 30% more coverage area) they don’t really seem to get terribly exited? Voice is un-sexy!? an afterthought!? … (don’t even go brave and tell Marketing about Voice over LTE, aka VoLTE).
Is Mobile Voice Dead or at the very least Dying?
Is Voice un-interesting, something to be taken for granted?
Is Voice “just” data and should be regarded as an add-on to Mobile Data Services and Propositions?
From a Mobile Revenue perspective mobile voice is certainly not something to be taken for granted or just an afterthought. In 2013, mobile voice still amounted for 60+% of he total global mobile turnover, with mobile data taking up ca. 40% and SMS ca. 10%. There are a lot of evidence that SMS is dying out quickly with the emergence of smartphones and Messaging-over-IP-based mobile application (SMS – Assimilation is inevitable, Resistance is Futile!). Not particular surprising given the pricing of SMS and the many very attractive IP-based alternatives. So are there similar evidences of mobile voice dying?
NO! NIET! NEM! MA HO BU! NEJ!(not any time soon at least)
Lets see what the data have to say about mobile voice?
In the following I only provide a Regional but should there be interest I have very detailed deep dives for most major countries in the various regions. In general there are bigger variations to the regional averages in Middle East & Africa (i.e., MEA) as well as Asia Pacific (i.e., APAC) Regions, as there is a larger mix of mature and emerging markets with fairly large differences in mobile penetration rates and mobile data adaptation in general. Western Europe, Central Eastern Europe, North America (i.e., USA & Canada) and Latin America are more uniform in conclusions that can reasonably be inferred from the averages.
As shown in the Figure below, from 2009 to 2013, the total amount of mobile minutes generated globally increased with 50+%. Most of that increase came from emerging markets as more share of the population (in terms of individual subscribers rather than subscriptions) adapted mobile telephony. In absolute terms, the global mobile voice revenues did show evidence of stagnation and trending towards decline.
Figure Above: Illustrates the development & composition of historical Global Mobile Revenues over the period 2009 to 2013. In addition also shows the total estimated growth of mobile voice minutes (i.e., Red Solid Curve showing MoUs in units of Trillions) over the period. Sources: Pyramid Research & Statista. It should noted that various data sources actual numbers (over the period) are note completely matching. I have observed a difference between various sources of up-to 15% in actual global values. While interesting this difference does not alter the analysis & conclusions presented here.
If all voice minutes was charged with the current Rate of Mobile Data, approximately Half-a-Billion US$ would evaporate from the Global Mobile Revenues.
So while mobile voice revenues might not be a positive growth story its still “sort-of” important to the mobile industry business.
Most countries in Western & Central Eastern Europe as well as mature markets in Middle East and Asia Pacific shows mobile voice revenue decline (in absolute terms and in their local currencies). For Latin America, Africa and Emerging Mobile Data Markets in Asia-Pacific almost all exhibits positive mobile voice revenue growth (although most have decelerating growth rates).
Figure Above: Illustrates the annual growth rates (compounded) of total mobile voice revenues and the corresponding growth in mobile voice traffic (i.e., associated with the revenues). Some care should be taken as for each region US$ has been used as a common currency. In general each individual country within a region has been analysed based on its own local currency in order to avoid mixing up currency exchange effects. Source: Pyramid Research.
Of course revenue growth of the voice service will depend on (1) the growth of subscriber base, (2) the growth of the unit itself (i.e., minutes of voice usage) as it is used by the subscribers (i.e., which is likely influenced by the unit price), and (3) the development of the average voice revenue per subscriber (or user) or the unit price of the voice service. Whether positive or negative growth of Revenue results, pretty much depends on the competitive environment, regulatory environment and how smart the business is in developing its pricing strategy & customer acquisition & churn dynamics.
Growth of (unique) mobile customers obviously depends the level of penetration, network coverage & customer affordability. Growth in highly penetrated markets is in general (much) lower than growth in less mature markets.
Figure Above: Illustrates the annual growth rates (compounded) of unique subscribers added to a given market (or region). Further to illustrate the possible relationship between increased subscribers and increased total generated mobile minutes the previous total minutes annual growth is shown as well. Source: Pyramid Research.
Interestingly, particular for the North America Region (NA), we see an increase in unique subscribers of 11% per anno and hardly any growth over the period of total voice minutes. Firstly, note that the US Market will dominate the averaging of the North America Region (i.e., USA and Canada) having approx. 13 times more subscribers. So one of the reasons for this no-minutes-growth effect is that the US market saw a substantial increase in the prepaid ratio (i.e., from ca.19% in 2009 to 28% in 2013). Not only were new (unique) prepaid customers being added. Also a fairly large postpaid to prepaid migration took place over the period. In the USA the minute usage of a prepaid is ca. 35+% lower than that of a postpaid. In comparison the Global demanded minutes difference is 2.2+ times lower prepaid minute usage compared to that of a postpaid subscriber). In the NA Region (and of course likewise in the USA Market) we observe a reduced voice usage over the period both for the postpaid & prepaid segment (based on unique subscribers). Thus increased prepaid blend in the overall mobile base with a relative lower voice usage combined with a general decline in voice usage leads to a pretty much zero growth in voice usage in the NA Market. Although the NA Region is dominated by USA growth (ca. 0.1 % CAGR total voice growth), Canada’s likewise showed very minor growth in their overall voice usage as well (ca. 3.8% CAGR). Both Canada & USA reduced their minute pricing over the period.
Note on US Voice Usage & Revenues: note that in both in US and in Canada also the receiving party pays (RPP) for receiving a voice call. Thus revenue generating minutes arises from both outgoing and incoming minutes. This is different from most other markets where the Calling Party Pays (CPP) and only minutes originating are counted in the revenue generation. For example in USA the Minutes of Use per blended customer was ca. 620 MoU in 2013. To make that number comparable with say Europe’s 180 MoU, one would need to half the US figure to 310 MoU still a lot higher than the Western European blended minutes of use. The US bundles are huge (in terms of allowed minutes) and likewise the charges outside bundles (i.e., forcing the consumer into the next one) though the fixed fees tends be high to very high (in comparison with other mobile markets). The traditional US voice plan would offer unlimited on-net usage (i.e., both calling & receiving party are subscribing to the same mobile network operator) as well as unlimited off-peak usage (i.e., evening/night/weekends). It should be noted that many new US-based mobile price plans offers data bundles with unlimited voice (i.e., data-centric price plans). In 2013 approximately 60% of the US mobile industry’s turnover could be attributed to mobile voice usage. This number is likely somewhat higher as some data-tariffs has voice-usage (e.g., typically unlimited) embedded. In particular the US mobile voice business model would be depending customer migration to prepaid or lower-cost bundles as well as how well the voice-usage is being re-balanced (and re-captured) in the Data-centric price plans.
The second main component of the voice revenue is the unit price of a voice minute. Apart from the NA Region, all markets show substantial reductions in the unit price of a minute.
Figure Above: Illustrating the annual growth (compounded) of the per minute price in US$-cents as well as the corresponding growth in total voice minutes. The most affected by declining growth is Western Europe & Central Eastern Europe although other more-emerging markets are observed to have decelerating voice revenue growth. Source: Pyramid Research.
Clearly from the above it appears that the voice “elastic” have broken down in most mature markets with diminishing (or no return) on further minute price reductions. Another way of looking at the loss (or lack) of voice elasticity is to look at the unit-price development of a voice-minute versus the growth of the total voice revenues;
Figure Above: Illustrates the growth of Total Voice Revenue and the unit-price development of a mobile voice minute. Apart from the Latin America (LA) and Asia Pacific (APAC) markets there clearly is no much further point in reducing the price of voice. Obviously, there are other sources & causes, than the pure gain of elasticity, effecting the price development of a mobile voice minute (i.e., regulatory, competition, reduced demand/voice substitution, etc..). Note US$ has been used as the unifying currency across the various markets. Despite currency effects the trend is consistent across the markets shown above. Source:Pyramid Research.
While Western & Central-Eastern Europe (WEU & CEE) as well as the mature markets in Middle East and Asia-Pacific shows little economic gain in lowering voice price, in the more emerging markets (LA and Africa) there are still net voice revenue gains to be made by lowering the unit price of a minute (although the gains are diminishing rapidly). Although most of the voice growth in the emerging markets comes from adding new customers rather than from growth in the demand per customer itself.
Figure Above: Illustrating possible drivers for mobile voice growth (positive as well as negative); such as Mobile Data Penetration 2013 (expected negative growth impact), increased number of (unique) subscribers compared to 2009 (expected positive growth impact) and changes in prepaid-postpaid blend (a negative %tage means postpaid increased their proportion while a positive %tage translates into a higher proportion of prepaid compared to 2009). Voice tariff changes have been observed to have elastic effects on usage as well although the impact changes from market to market pending on maturity. Source: derived from Pyramid Research.
With all the talk about Mobile Data, it might come as a surprise that Voice Usage is actually growing across all regions with the exception of North America. The sources of the Mobile Voice Minutes Growth are largely coming from
Adding new unique subscribers (i.e., increasing mobile penetration rates).
Transitioning existing subscribers from prepaid to postpaid subscriptions (i.e., postpaid tends to have (a lot) higher voice usage compared to prepaid).
General increase in usage per individual subscriber (i.e., few markets where this is actually observed irrespective of the general decline in the unit cost of a voice minute).
To the last point (#3) it should be noted that the general trend across almost all markets is that Minutes of Use per Unique customer is stagnating and even in decline despite substantial per unit price reduction of a consumed minute. In some markets that trend is somewhat compensated by increase of postpaid penetration rates (i.e., postpaid subscribers tend to consume more voice minutes). The reduction of MoUs per individual subscriber is more significant than a subscription-based analysis would let on.
Clearly, Mobile Voice Usage is far from Dead
Mobile Voice Revenue is a very important part of the overall mobile revenue composition.
It might make very good sense to spend a bit more time on strategizing voice, than appears to be the case today. If mobile voice remains just an afterthought of mobile data, the Telecom industry will loose massive amounts of Revenues and last but not least Profitability.
Post Script: What drives the voice minute growth?
An interesting exercise is to take all the data and run some statistical analysis on it to see what comes out in terms of main drivers for voice minute growth, positive as well as negative. The data available to me comprises 77 countries from WEU (16), CEE (8), APAC (15), MEA (17), NA (Canada & USA) and LA (19). I am furthermore working with 18 different growth parameters (e.g., mobile penetration, prepaid share of base, data adaptation, data penetration begin of period, minutes of use, voice arpu, voice minute price, total minute volume, customers, total revenue growth, sms, sms price, pricing & arpu relative to nominal gdp etc…) and 7 dummy parameters (populated with noise and unrelated data).
Two specific voice minute growth models emerges our of a comprehensive analysis of the above described data. The first model is as follows
(1) Voice Growth correlates positively with Mobile Penetration (of unique customers) in the sense of higher penetration results in more minutes, it correlates negatively with Mobile Data Penetration at the begin of the period (i.e., 2009 uptake of 3G, LTE and beyond) in the sense that higher mobile data uptake at the begin of the period leads to a reduction of Voice Growth, and finally Voice Growth correlates negatively with the Price of a Voice Minute in the sense of higher prices leads to lower growth and lower prices leads to higher growth. This model is statistically fairly robust (e.g., a p-values < 0.0001) as well as having all parameters with a statistically meaningful confidence intervals (i.e., upper & lower 95% confidence interval having the same sign).
The Global Analysis does pin point to very rational drivers for mobile voice usage growth, i.e., that mobile penetration growth, mobile data uptake and price of a voice minute are important drivers for total voice usage.
It should be noted that changes in the prepaid proportion does not appear statistically to impact voice minute growth.
The second model provides a marginal better overall fit to the Global Data but yields slightly worse p-values for the individual descriptive parameters.
(2) The second model simply adds the Voice ARPU to (nominal) GDP ratio to the first model. This yields a negative correlation in the sense that a low ratio results in higher voice usage growth and a higher ration in lower voice usage growth.
Both models describe the trends or voice growth dynamics reasonably well, although less convincing for Western & Central Eastern Europe and other more mature markets where the model tends to overshoot the actual data. One of the reasons for this is that the initial attempt was to describe the global voice growth behaviour across very diverse markets.
Figure Above: Illustrates total annual generated voice minutes compound annual growth rate (between 2009 and 2013) for 77 markets across 6 major regions (i.e., WEU, CEE, APAC, MEA, NA and LA). The Model 1 shows an attempt to describe the Global growth trend across all 77 markets within the same model. The Global Model is not great for Western Europe and part of the CEE although it tends to describe the trends between the markets reasonably.
Figure Western & Central Eastern Region: the above Illustrates the compound annual growth rate (2009 – 2013) of total generated voice minutes and corresponding voice revenues. For Western & Central Eastern Europe while the generated minutes have increased the voice revenue have consistently declined. The average CAGR of new unique customers over the period was 1.2% with the maximum being little less than 4%.
Figure Asia Pacific Region: the above Illustrates the compound annual growth rate (2009 – 2013) of total generated voice minutes and corresponding voice revenues. For the Emerging market in the region there is still positive growth of both minutes generated as well as voice revenue generated. Most of the mature markets the voice revenue growth is negative as have been observed for mature Western & Central Eastern Europe.
Figure Middle East & Africa Region: the above Illustrates the compound annual growth rate (2009 – 2013) of total generated voice minutes and corresponding voice revenues. For the Emerging market in the region there is still positive growth of both minutes generated as well as voice revenue generated. Most of the mature markets the voice revenue growth is negative as have been observed for mature Western & Central Eastern Europe.
Figure North & Latin America Region: the above Illustrates the compound annual growth rate (2009 – 2013) of total generated voice minutes and corresponding voice revenues. For the Emerging market in the region there is still positive growth of both minutes generated as well as voice revenue generated. Most of the mature markets the voice revenue growth is negative as have been observed for mature Western & Central Eastern Europe.
PS.PS. Voice Tariff Structure
Typically the structure of a mobile voice tariff (or how the customer is billed) is structure as follows
Fixed charge / fee
This fixed charge can be regarded as an access charge and usually is associated with a given usage limit (i.e., $ X for Y units of usage) or bundle structure.
Variable per unit usage charge
On-net – call originating and terminating within same network.
Off-net – Domestic Mobile.
Off-net – Domestic Fixed.
Off-net – International.
Local vs Long-distance.
Peak vs Off-peak rates (e.g., off-peak typically evening/night/weekend).
Roaming rates (i.e., when customer usage occurs in foreign network).
Special number tariffs (i.e., calls to paid-service numbers).
How a fixed vis-a-vis variable charges are implemented will depend on the particularity of a given market but in general will depend on service penetration and local vs long-distance charges.
I greatly acknowledge my wife Eva Varadi for her support, patience and understanding during the creative process of creating this Blog. I certainly have not always been very present during the analysis and writing. Also many thanks to Shivendra Nautiyal and others for discussing and challenging the importance of mobile voice versus mobile data and how practically to mitigate VoIP cannibalization of the Classical Mobile Voice.
A Mature & Emerging Market Profitability Analysis … From Past, through Present & to the Future.
I dedicate this Blog to David Haszeldine whom has been (and will remain) a true partner when it comes to discussing, thinking and challenging cost structures, corporate excesses and optimizing the Telco profitability.
Opex growth & declining revenue growth is the biggest exposure to margin decline & profitability risk for emerging growth markets as well as mature mobile markets.
48 Major Mobile Market’s Revenue & Opex Growth have been analyzed over the period 2007 to 2013 (for some countries from 2003 to 2013). The results have been provided in an easy to compare overview chart.
For 23 out of the 48 Mobile Markets, Opex have grown faster than Revenue and poses a substantial risk to Telco profitability in the near & long-term unless Opex will be better managed and controlled.
Mobile Profitability Risk is a substantial Emerging Growth Market Problem where cost has grown much faster than the corresponding Revenues.
11 Major Emerging Growth Markets have had an Opex compounded annual growth rate between 2007 to 2013 that was higher than the Revenue Growth substantially squeezing margin and straining EBITDA.
On average the compounded annual growth rate of Opex grew 2.2% faster than corresponding Revenue over the period 2007 to 2013. Between 2012 to 2013 Opex grew (on average) 3.7% faster than Revenue.
A Market Profit Sustainability Risk Index (based on Bayesian inference) is proposed as a way to provide an overview of mobile markets profitability directions based on their Revenue and Opex growth rates.
Statistical Analysis on available data shows that a Mobile Markets Opex level is driven by (1) Population, (2) Customers, (3) Penetration and (4) ARPU. The GDP & Surface Area have only minor and indirect influence on the various markets Opex levels.
A profitability framework for understanding individual operators profit dynamics is proposed.
It is shown that Profitability can be written as withbeing the margin, with ou and ru being the user dependent OpEx and Revenue (i.e., AOPU and ARPU), of the fixed OpEx divided by the Total Subscriber Market andis the subscriber market share.
The proposed operator profitability framework provides a high degree of descriptive power and understanding of individual operators margin dynamics as a function of subscriber market share as well as other important economical drivers.
I have long & frequently been pondering over the mobile industry’s profitability.In particular, I have spend a lot of my time researching the structure & dynamics of profitability and mapping out factors that contributes in both negative & positive ways? My interest is the underlying cost structures and business models that drives the profitability in both good and bad ways. I have met Executives who felt a similar passion for strategizing, optimizing and managing their companies Telco cost structures and thereby profit and I have also met Executives who mainly cared for the Revenue.
Obviously, both Revenue and Cost are important to optimize. This said it is wise to keep in mind the following Cost- structure & Revenue Heuristics;
Cost is an almost Certainty once made & Revenues are by nature Uncertain.
Cost left Unmanaged will by default Increase over time.
Revenue is more likely to Decrease over time than increase.
Majority of Cost exist on a different & longer time-scale than Revenue.
In the following I will use EBITDA, which stands for Earnings Before Interest, Taxes, Depreciation and Amortization, as a measure of profitability and EBITDA to Revenue Ratio as a measure of my profit margin or just margin. It should be clear that EBITDA is a proxy of profitability and as such have shortfalls in specific Accounting and P&L Scenarios. Also according with GAAP (General Accepted Accounting Principles) and under IFRS (International Financial Reporting Standards) EBITDA is not a standardized accepted accounting measure. Nevertheless, both EBITDA and EBITDA Margin are widely accepted and used in the mobile industry as a proxy for operational performance and profitability. I am going to assume that for most purposes & examples discussed in this Blog, EBITDA & the corresponding Margin remains sufficiently good measures profitability.
While I am touching upon mobile revenues as an issue for profitability, I am not going to provide much thoughts on how to boost revenues or add new incremental revenues that might compensate from loss of mobile legacy service revenues (i.e., voice, messaging and access). My revenue focus in particular addresses revenue growth on a more generalized level compared to the mobile cost being incurred operating such services in particular and a mobile business in general. For an in-depth and beautiful treatment of mobile revenues past, present and future, I would like to refer to Chetan Sharma’s 2012 paper “Operator’s Dilemma (and Opportunity): The 4th Wave” (note: you can download the paper by following the link in the html article) on mobile revenue dynamics from (1) Voice (1st Revenue or Service Wave), (2) Messaging (2nd Revenue or Service Wave) to todays (3) Access (3rd Revenue Wave) and the commence to what Chetan Sharma defines as the 4th Wave of Revenues (note: think of waves as S-curves describing initial growth spurt, slow down phase, stagnation and eventually decline) which really describes a collection of revenue or service waves (i.e., S-curves) representing a portfolio of Digital Services, such as (a) Connected Home, (b) Connected Car, (c) Health, (d) Payment, (e) Commerce, (f) Advertising, (g) Cloud Services (h) Enterprise solutions, (i) Identity, Profile & Analysis etc.. I feel confident that adding any Digital Service enabled by Internet-of-Things (IoT) and M2M would be important inclusions to the Digital Services Wave. Given the competition (i.e., Facebook, Google, Amazon, Ebay, etc..) that mobile operators will face entering the 4th Wave of Digital Services Space, in combination with having only national or limited international scale, will make this area a tough challenge to return direct profit on. The inherent limited international or national-only scale appears to be one of the biggest barrier to turn many of the proposed Digital Services, particular with those with strong Social Media Touch Points, into meaningful business opportunities for mobile operators.
This said, I do believe (strongly) that Telecom Operators have very good opportunities for winning Digital Services Battles in areas where their physical infrastructure (including Spectrum & IT Architecture) is an asset and essential for delivering secure, private and reliable services. Local regulation and privacy laws may indeed turn out to be a blessing for Telecom Operators and other national-oriented businesses. The current privacy trend and general consumer suspicion of American-based Global Digital Services / Social Media Enterprises may create new revenue opportunities for national-focused mobile operators as well as for other national-oriented digital businesses. In particular if Telco Operators work together creating Digital Services working across operator’s networks, platforms and beyond (e.g., payment, health, private search, …) rather than walled-garden digital services, they might become very credible alternatives to multi-national offerings. It is highly likely that consumers would be more willing to trust national mobile operator entities with her or his personal data & money (in fact they already do that in many areas) than a multinational social-media corporation. In addition to the above Digital Services, I do expect that Mobile/Telecom Operators and Entertainment Networks (e.g., satellite, cable, IP-based) will increasingly firm up partnerships as well as acquire & merge their businesses & business models. In all effect this is already happening.
For emerging growth markets without extensive and reliable fixed broadband infrastructures, high-quality (& likely higher cost compared to today’s networks!) mobile broadband infrastructures would be essential to drive additional Digital Services and respective revenues as well as for new entertainment business models (other than existing Satellite TV). Anyway, Chetan captures these Digital Services (or 4th Wave) revenue streams very nicely and I recommend very much to read his articles in general (i.e., including “Mobile 4th Wave: The Evolution of the Next Trillion Dollars” which is the 2nd “4th Wave” article).
Back to mobile profitability and how to ensure that the mobile business model doesn’t breakdown as revenue growth starts to slow down and decline while the growth of mobile cost overtakes the revenue growth.
A good friend of mine, who also is a great and successful CFO, stated that “Profitability is rarely a problem to achieve (in the short term)”;“I turn down my market invest (i.e., OpEx) and my Profitability (as measured in terms of EBITDA) goes up. All I have done is getting my business profitable in the short term without having created any sustainable value or profit by this. Just engineered my bonus.”
Our aim must be to ensure sustainable and stable profitability. This can only be done by understanding, careful managing and engineering our basic Telco cost structures.
While most Telco’s tend to plan several years ahead for Capital Expenditures (CapEx) and often with a high degree of sophistication, the same Telco’s mainly focus on one (1!) year ahead for OpEx. Further effort channeled into OpEx is frequently highly simplistic and at times in-consistent with the planned CapEx. Obviously, in the growth phase of the business cycle one may take the easy way out on OpEx and focus more on the required CapEx to grow the business. However, as the time-scales for committed OpEx “lives” on a much longer period than Revenue (particular Prepaid Revenue or even CapEx for that matter), any shortfall in Revenue and Profitability will be much more difficult to mitigate by OpEx measures that takes time to become effective. In markets with little or no market investment the penalty can be even harsher as there is no or little OpEx cushion that can be used to soften a disappointing direction in profitability.
How come a telecom business in Asia, or other emerging growth markets around the world, can maintain, by European standards, such incredible high EBITDA Margins. Margin’s that run into 50s or even higher. Is this “just” a matter of different lower-cost & low GDP economies? Does the higher margins simply reflect a different stage in the business cycle (i.e., growth versus super-saturation)?, Should Mature Market really care too much about Emerging Growth Markets? in the sense of whether Mature Markets can learn anything from Emerging Growth Markets and maybe even vice versa? (i.e., certainly mature markets have made many mistakes, particular when shifting gears from growth to what should be sustainability).
Before all those questions have much of a meaning, it might be instructive to look at the differences between a Mature Market and an Emerging Growth Market. I obviously would not have started this Blog, unless I believe that there are important lessons to be had by understanding what is going on in both types of markets. I also should make it clear that I am only using the term Emerging Growth Markets as most of the markets I study is typically defined as such by economists and consultants. However from a mobile technology perspective few of those markets we tend to call Emerging Growth Markets can really be called emerging any longer and growth has slowed down a lot in most of those markets. This said, from a mobile broadband perspective most of the markets defined in this analysis as Emerging Growth Markets are pretty much dead on that definition.
Whether the emerging markets really should be looking forward to mobile broadband data growth might depend a lot on whether you are the consumer or the provider of services.
For most Mature Markets the introduction of 3G and mobile broadband data heralded a massive slow-down and in some cases even decline in revenue. This imposed severe strains on Mobile Margins and their EBITDAs. Today most mature markets mobile operators are facing a negative revenue growth rate and is “forced” continuously keep a razor focus on OpEx, Mitigating the revenue decline keeping Margin and EBITDA reasonably in check.
Emerging Markets should as early as possible focus on their operational expenses and Optimize with a Vengeance.
Well well let ‘s get back to the comparison and see what we can learn!
It doesn’t take to long to make a list of some of the key and maybe at times obvious differentiators (not intended to be exhaustive) between Mature and Emerging Markets are;
Side Note: it should be clear that by today many of the markets we used to call emerging growth markets are from mobile telephony penetration & business development certainly not emerging any longer and as growing as they were 5 or 10 years ago. This said from a 3G/4G mobile broadband data penetration perspective it might still be fair to characterize those markets as emerging and growing. Though as mature markets have seen that journey is not per se a financial growth story.
Looking at the above table we can assess that Firstly: the straightforward (and possible naïve) explanation of relative profitability differences between Mature and Emerging Markets, might be that emerging markets cost structures are much more favorable compared to what we find in mature market economies. Basically the difference between Low and High GDP economies. However, we should not allow ourselves to be too naïve here as lessons learned from low GDP economies are that some cost structure elements (e.g., real estate, fuel, electricity, etc..) are as costly (some times more so) than what we find back in mature high/higher GDP markets. Secondly: many emerging growth market’s economies are substantially more populous & dense than what we find in mature markets (i.e., although it is hard to beat Netherlands or the Ruhr Area in Germany). Maybe the higher population count & population density leads to better scale than can be achieved in mature markets. However, while maybe true for the urban population, emerging markets tend to have substantially higher ratio of their population living in rural areas compared to what we find in mature markets. Thirdly: maybe the go-to-market approach in emerging markets is different from mature markets (e.g., subsidies, quality including network coverage, marketing,…) offering substantially lower mobile quality overall compared to what is the practice in mature markets. Providing poor mobile network quality certainly have been a recurring theme in the Philippines mobile industry despite the Telco Industry in Philippines enjoys Margins that most mature markets operators can only dream of. It is pretty clear that for 3G-UMTS based mobile broadband, 900 MHz does not have sufficient bandwidth to support the anticipated mobile broadband uptake in emerging markets (e.g., particular as 900MHz is occupied by 2G-GSM as well). IF emerging markets mobile operators will want to offer mobile data at reasonable quality levels (i.e., and the IF is intentional), sustain anticipated customer demand and growth they are likely to require network densification (i.e., extra CapEx and OpEx) at 2100 MHz. Alternative they might choose to wait for APT 700 MHz and drive an affordable low-cost LTE device ecosystem albeit this is some years ahead.
More than likely some of the answers of why emerging markets have a much better margins (at the moment at least) will have to do with cost-structure differences combined with possibly better scale and different go-to-market requirements more than compensating the low revenue per user.
Let us have a look at the usual suspects towards the differences between mature & emerging markets. The EBITDA can be derived as Revenue minus the Operational Expenses (i.e., OpEx) and the corresponding margin is Ebitda divided by the Revenue (ignoring special accounting effects that here);
The EBITDA & Margin tells us in absolute and relative terms how much of our Revenue we keep after all our Operational expenses (i.e., OpEx) have been paid (i.e., beside tax, interests, depreciation & amortization charges).
We can write Revenue as a the product of ARPU (Average Number of Users) times Number of Users N and thus the EBITDA can also be written as;
. We see that even if ARPU is low (or very) low, an Emerging Market with lot of users might match the Revenue of a Mature Market with higher ARPU and worse population scale (i.e., lower amount of users). Pretty simple!
But what about the Margin? , in order for an Emerging Market to have substantially better Margin than corresponding Mature Market at the same revenue level, it is clear that the Emerging Market’s OpEx (O) needs to be lower than that of a Mature markets. We also observe that if the Emerging Market Revenue is lower than the Mature Market, the corresponding Opex needs to be even lower than if the Revenues were identical. One would expect that lower GDP countries would have lower Opex (or Cost in general) combined with better population scale is really what makes for a great emerging market mobile Margins! … Or is it ?
A Small but essential de-tour into Cost Structure.
Some of the answers towards the differences in margin between mature and emerging markets obviously lay in the OpEx part or in the Cost-structure differences. Let’s take a look at a mature market’s cost structure (i.e., as you will find in Western & Eastern Europe) which pretty much looks like this;
With the following OpEx or cost-structure elements;
Usage-related OpEx:typically take up between 10% to 35% of of the total OpEx with an average of ca. 25%. On average this OpEx contribution is approximately 17% of the revenue in mature European markets. Trend wise it is declining. Usage-based OpEx is dominated by interconnect & roaming voice traffic and to a less degree of data interconnect and peering. In a scenario where there is little circuit switched voice left (i.e., the ultimate LTE scenario) this cost element will diminish substantially from the operators cost structure. It should be noted that this also to some extend is being influenced by regulatory forces.
Market Invest: can be decomposed into Subscriber Acquisition Cost (SAC), i.e., “bribing” the customers to leave your competitor for yourself, Subscriber Retention Cost (SRC), i.e., “bribing” your existing (valuable) customers to not let them be “bribed” by you’re a competitor and leave you (i.e., churn), and lastly Other Marketing spend for advertisement, promotional and so forth. This cost-structure element contribution to OpEx can vary greatly depending on the market composition. In Europe’s mature markets it will vary from 10% to 31% with a mean value of ca. 23% of the total OpEx. On average it will be around 14% of the Revenue. It should be noted that as the mobile penetration increases and enter into heavy saturation (i.e., >100%), SAC tends to reduce and SRC will increase. Further in markets that are very prepaid heavy SAC and SRC will naturally be fairly minor cost structure element (i.e., 10% of OpEx or lower and only a couple of % of Revenue). Profit and Margin can rapidly be influenced by changes in the market invest. SAC and SRC cost-structure elements will in general be small in emerging growth markets (compared to corresponding mature markets).
Terminal-equipment related OpEx: is the cost associated by procuring terminals equipment (i.e, handsets, smartphones, data cards, etc.). In the past (prior to 2008) it was fairly common that OpEx from procuring and revenues from selling terminals were close to a zero-sum game. In other words the cost made for the operator of procuring terminals was pretty much covered by re-selling them to their customer base. This cost structure element is another heavy weight and vary from 10% to 20% of the OpEx with an average in mature European markets of 17%. Terminal-related cost on average amounts to ca. 11% of the Revenue (in mature markets). Most operators in emerging growth markets don’t massively procure, re-sell and subsidies handsets, as is the case in many mature markets. Typically handsets and devices in emerging markets will be supplied by a substantial 2nd hand gray and black market readily available.
Personnel Cost: amounts to between 6% to 15% of the Total OpEx with a best-practice share of around the 10%. The ones who believe that this ratio is lower in emerging markets might re-think their impression. In my experience emerging growth markets (including the ones in Eastern & Central Europe) have a lower unit personnel cost but also tends to have much larger organizations. This leads to many emerging growth markets operators having a personnel cost share that is closer to the 15% than to the 10% or lower. On average personnel cost should be below 10% of revenue with best practice between 5% and 8% of the Revenue.
Technology Cost (Network & IT):includes all technology related OpEx for both Network and Information Technology. Personnel-related technology OpEx (prior to capitalization ) is accounted for in the above Personnel Cost Category and would typically be around 30% of the personnel cost pending on outsourcing level and organizational structure. Emerging markets in Central & Eastern Europe historical have had higher technology related personnel cost than mature markets. In general this is attributed to high-quality relative low-cost technology staff leading to less advantages in outsourcing technology functions. As Technology OpEx is the most frequent “victim” of efficiency initiatives, lets just have a look at how the anatomy of the Technology Cost Structure looks like:
Technology Cost (Network & IT) – continued: Although, above Chart (i.e., taken from my 2012 Keynote at the Broadband MEA 2012, Dubai “Ultra-efficient network factory: Network sharing and other means to leapfrog operator efficiencies”) emphasizes a Mature Market View, emerging markets cost distribution does not differ that much from the above with a few exceptions. In Emerging Growth Markets with poor electrification rates diesel generators and the associated diesel full will strain the Energy Cost substantially. As the biggest exposure to poor electrical grid (in emerging markets) in general tend to be in Rural and Sub-Urban areas it is a particular OpEx concern as the emerging market operators expands towards Rural Areas to capture the additional subscriber potential present there. Further diesel fuel has on average increased with 10% annually (i..e, over the least 10 years) and as such is a very substantial Margin and Profitability risk if a very large part of the cellular / mobile network requires diesel generators and respective fuel. Obviously, “Rental & Leasing” as well as “Service & Maintenance” & “Personnel Cost” would be positively impacted (i.e., reduced) by Network Sharing initiatives. Best practices Network Sharing can bring around 35% OpEx savings on relevant cost structures. For more details on benefits and disadvantages (often forgotten in the heat of the moment) see my Blog “The ABC of Network Sharing – The Fundamentals”. In my experience one of the greatest opportunities in Emerging Growth Markets for increased efficiency are in the Services part covering Maintenance & Repair (which obviously also incudes field maintenance and spare part services).
Other Cost: typically covers the rest of OpEx not captured by the above specific items. It can also be viewed as overhead cost. It is also often used to “hide” cost that might be painful for the organization (i.e., in terms of authorization or consequences of mistakes). In general you will find a very large amount of smaller to medium cost items here rather than larger ones. Best practices should keep this below 10% of total OpEx and ca. 5% of Revenues. Much above this either means mis-categorization, ad-hoc projects, or something else that needs further clarification.
So how does this help us compare a Mature Mobile Market with an Emerging Growth Market?
As already mentioned in the description of the above cost structure categories particular Market Invest and Terminal-equipment Cost are items that tend to be substantially lower for emerging market operators or entirely absent from their cost structures.
Lets assume our average mobile operator in an average mature mobile market (in Western Europe) have a Margin of 36%. In its existing (OpEx) cost structure they spend 15% of Revenue on Market Invest of which ca. 53% goes to subscriber acquisition (i.e., SAC cost category), 40% on subscriber retention (SRC) and another 7% for other marketing expenses. Further, this operator has been subsidizing their handset portfolio (i.e., Terminal Cost) which make up another 10% of the Revenue.
Our Average Operator comes up with the disruptive strategy to remove all SAC and SRC from their cost structure and stop procuring terminal equipment. Assuming (and that is a very big one in a typical western European mature market) that revenue remains at the same level, how would this average operator fare?
Removing SAC and SRC, which was 14% of the Revenue will improve the Margin adding another 14 percentage points. Removing terminal procurement from its cost structure leads to an additional Margin jump of 10 percentage points. The final result is a Margin of 60% which is fairly close to some of the highest margins we find in emerging growth markets. Obviously, completely annihilating Market Invest might not be the most market efficient move unless it is a market-wide initiative.
Albeit the example might be perceived as a wee bit academic, it serves to illustrate that some of the larger margin differences we observe between mobile operators in mature and emerging growth markets can be largely explain by differences in the basic cost structure, i..e, the lack of substantial subscriber acquisition and retention costs as well as not procuring terminals does offer advantages to the emerging market business model.
However, it also means that many operators in emerging markets have little OpEx flexibility, in the sense of faster OpEx reduction opportunities once mobile margin reduces due to for example slowing revenue growth. This typical becomes a challenge as mobile penetration starts reaching saturation and as ARPU reduces due to diminishing return on incremental customer acquisition.
There is not much substantial OpEx flexibility (i..e, market invest & terminal procurement) in Emerging Growth Markets mobile accounts. This adds to the challenge of avoiding profitability squeeze and margin exposure by quickly scaling back OpEx.
This is to some extend different from mature markets that historically had quiet a few low hanging fruits to address before OpEx efficiency and reduction became a real challenge. Though ultimately it does become a challenge.
Back to Profitability with a Vengeance.
So it is all pretty simple! … leave out Market Invest and Terminal Procurement … Then add that we typically have to do with Lower GDP countries which conventional wisdom would expect also to have lower Opex (or Cost in general) combined with better population scale .. isn’t that really what makes for a great emerging growth market Mobile Margin?
Hmmm … Albeit Compelling ! ? … For the ones (of us) who would think that the cost would scale nicely with GDP and therefor a Low GDP Country would have a relative Lower Cost Base, well …
In the Chart above the Y-axis is depicted with logarithmic scaling in order to provide a better impression of the data points across the different economies. It should be noted that throughout the years 2007 to 2013 (note: 2013 data is shown above) there is no correlation between a countries mobile Opex, as estimated by Revenue – EBITDA, and the GDP.
Well … GDP really doesn’t provide the best explanation (to say the least)! … So what does then?
I have carried out multi-linear regression analysis on the available data from the “Bank of America Merrill Lynch (BoAML) Global Wireless Matrix Q1, 2014” datasets between the years 2007 to 2013. The multi-linear regression approach is based on year-by-year analysis of the data with many different subsets & combination of data chosen including adding random data.
I find that the best description (R-square 0.73, F-Ratio of 30 and p-value(s) <0.0001) of the 48 country’s data on Opex. The amount of data points used in the multi-regression is at least 48 for each parameter and that for each of the 7 years analyzed. The result of the (preliminary) analysis is given by the following statistically significant parameters explaining the Mobile Market OpEx:
Population – The higher the size of the population, proportional less Mobile Market Opex is spend (i.e., scale advantage).
Penetration – The higher the mobile penetration, proportionally less Mobile Market Opex is being spend (i.e., scale advantage and the incremental penetration at an already high penetration would have less value thus less Opex should be spend).
Users (i..e., as measured by subscriptions) – The more Users the higher the Mobile Market Opex (note: prepaid ratio has not been found to add statistical significance).
ARPU (Average Revenue Per User) – The higher the ARPU, the higher will the Mobile Market Opex be.
If I leave out ARPU, GDP does enter as a possible descriptive candidate although the overall quality of the regression analysis suffers. However, it appears that the GDP and ARPU cannot co-exist in the analysis. When Mobile Market ARPU data are included, GDP becomes non-significant. Furthermore, a countries Surface Area, which I previously believed would have a sizable impact on a Mobile Market’s OpEx, also does not enter as a significant descriptive parameter in this analysis. In general the Technology related OpEx is between 15% to 25% (maximum) of the Total OpEx and out that possible 40% to 60% would be related to sites that would be needed to cover a given surface area. This might no be significant enough in comparison to the other parameters or simply not a significant factor in the overall country related mobile OpEx.
I had also expected 3G-UMTS to have had a significant contribution to the Opex. However this was not very clear from the analysis either. Although in the some of the earlier years (2005 – 2007), 3G does enter albeit not with a lot of weight. In Western Europe most incremental OpEx related to 3G has been absorb in the existing cost structure and very little (if any) incremental OpEx would be visible particular after 2007. This might not be the case in most Emerging Markets unless they can rely on UMTS deployments at 900 MHz (i.e., the traditional GSM band). Also the UMTS 900 solution would only last until capacity demand require the operators to deploy UMTS 2100 (or let their customers suffer with less mobile data quality and keep the OpEx at existing levels). In rural areas (already covered by GSM at 900 MHz) the 900 MHz UMTS deployment option may mitigate incremental OpEx of new site deployment and further encourage rural active network sharing to allow for lower cost deployment and providing rural populations with mobile data and internet access.
The Population Size of a Country, the Mobile Penetration and the number of Users and their ARPU (note last two basically multiplies up to the revenue) are most clearly driving a mobile markets Opex.
Philippines versus Germany – Revenue, Cost & Profitability.
Philippines in 2013 is estimated to have a population of ca. 100 Million compared to Germany’s ca. 80 Million. The Urban population in Germany is 75% taking up ca. 17% of the German surface area (ca. 61,000 km2 or a bit more than Croatia). Comparison this to Philippines 50% urbanization that takes up up only 3% (ca. 9,000 km2 or equivalent to the surface area of Cyprus). Germany surface area is about 20% larger than Philippines (although the geographies are widely .. wildly may be a better word … different, with the Philippines archipelago comprising 7,107 islands of which ca. 2,000 are inhabited, making the German geography slightly boring in comparison).
In principle if all I care about is to cover and offer services to the urban population (supposedly the ones with the money?) I only need to cover 9 – 10 thousand square kilometer in the Philippines to capture ca. 50 Million potential mobile users (or 5,000 pop per km2), while I would need to cover about 6 times that amount of surface area to capture 60 million urban users in Germany (or 1,000 pop per km2). Even when taking capacity and quality into account, my Philippine cellular network should be a lot smaller and more efficient than my German mobile network. If everything would be equal, I basically would need 6 times more sites in Germany compared to Philippines. Particular if I don’t care too much about good quality but just want to provide best effort services (that would never work in Germany by the way). Philippines would win any day over Germany in terms of OpEx and obviously also in terms of capital investments or CapEx. It does help the German Network Economics that the ARPU level in Germany is between 4 times (in 2003) to 6 times (in 2013) higher than in Philippines. Do note that the two major Germany mobile operators covers almost 100% of the population as well as most of the German surface area and that with a superior quality of voice as well as mobile broadband data. This does not true hold true for Philippines.
In 2003 a mobile consumer in Philippines would spend on average almost 8 US$ per month for mobile services. This was ca. 4x lower than a German customer for that year. The 2003 ARPU of the Philippines roughly corresponded to 10% of the GDP per Capita versus 1.2% of the German equivalent. Over the 10 Years from 2003 to 2013, ARPU dropped 60% in Philippine and by 2013 corresponded to ca. 1.5% of GDP per Capita (i.e., a lot more affordable propositions). The German 2013 ARPU to GDP per Capita ratio was 0.5% and its ARPU was ca. 40% lower than in 2003.
The Philippines ARPU decline and Opex increase over the 10 year period led to a Margin drop from 64% to 45% (19% drop!) and their Margin is still highly likely to fall further in the near to medium-term. Despite the Margin drop Philippines still made a PHP26 Billion more EBITDA in 2013 than compared to 2003 (ca. 45% more or equivalent compounded annual growth rate of 3.8%).
Germany had ca. 3x more mobile subscribers compared to Philippines.
German Mobile Revenue was 14x higher than Philippines.
German EBITDA was 9x higher than that of Philippines.
German OpEx was 23x higher than that of Philippines Mobile Industry.
Mobile Margin of the Philippines was 64% versus 42% of Germany.
Germany’s GPD per Capita (in US$) was 35 times larger than that of Philippines.
Germany’s mobile ARPU was 4 times higher than that of Philippines.
in 2013 (+ 10 Years)
Philippines & Germany have almost the same amount of mobile subscriptions.
Germany Mobile Revenue was 6x higher than Philippines.
German EBITDA was only 5x higher than that of Philippines.
German OpEx was 6x higher than Mobile OpEx in Philippines (and German OpEx was at level with 2003).
Mobile Margin of the Philippines dropped 19% to 45% compared to 42% of Germany (essential similar to 2003).
In local currencies, Philippines increased their EBITDA with ca. 45%, Germany remain constant.
Both Philippines and Germany has lost 11% in absolute EBITDA between the 10 Year periods maximum and 2013.
Germany’s GDP per Capita (in US$) was 14 times larger than that of the Philippines.
Germany’s ARPU was 6 times higher than that of Philippines.
In the Philippines, mobile revenues have grown with 7.4% per anno (between 2003 and 2013) while the corresponding mobile OpEx grew with 12% and thus eroding margin massively over the period as increasingly more mobile customers were addressed. In Philippines, the 2013 OpEx level was 3 times that of 2003 (despite one major network consolidation and being an essential duopoly after the consolidation). In Philippines over this period the annual growth rate of mobile users were 17% (versus Germany’s 6%). In absolute terms the number of users in Germany and Philippines were almost the same in 2013, ca. 115 Million versus 109 Million. In Germany over the same period Financial growth was hardly present although more than 50 Million subscriptions were added.
When OpEx grows faster than Revenue, Profitability will suffer today & even more so tomorrow.
Mobile capital investments (i.e., CapEx) over the period 2003 to 2013 was for Germany 5 times higher than that of Philippines (i.e., remember that Germany also needs at least 5 – 6 times more sites to cover the Urban population) and tracks at a 13% Capex to Revenue ratio versus Philippines 20%.
The stories of Mobile Philippines and of Mobile Germany are not unique. Likewise examples can be found in Emerging Growth Markets as well as Mature Markets.
Can Mature Markets learn or even match (keep on dreaming?) from Emerging Markets in terms of efficiency? Assuming such markets really are efficient of course!
As logic (true or false) would dictate given the relative low ARPUs in emerging growth markets and their correspondingly high margins, one should think that such emerging markets are forced to run their business much more efficient than in Mature Markets. While compelling to believe this, the economical data would indicate that most emerging growth markets have been riding the subscriber & revenue growth band wagon without too much thoughts to the OpEx part … and Frankly why should you care about OpEx when your business generates margins much excess of 40%? Well … it is (much) easier to manage & control OpEx year by year than to abruptly “one day” having to cut cost in panic mode when growth slows down the really ugly way and OpEx keeps increasing without a care in the world. Many mature market operators have been in this situation in the past (e.g., 2004 – 2008) and still today works hard to keep their margins stable and profitability from declining.
Most Companies will report both Revenues and EBITDA on quarterly and annual basis as both are key financial & operational indicators for growth. They tend not report Opex but as seen from above that’s really not a problem to estimate when you have Revenue and EBITDA (i.e., OpEx = Revenue – EBITDA).
Thus, had you left the European Telco scene (assuming you were there in the first place) for the last 10 years and then came back you might have concluded that not much have happened in your absence … at least from a profitability perspective. Germany was in 2013 almost at its Ebitda margin level of 2003. Of course as the ones who did not take a long holiday knows those last 10 years were far from blissful financial & operational harmony in the mature markets where one efficiency program after the other struggled to manage, control and reduce Operators Operational Expenses.
However, over that 10-year period Germany added 50+ Million mobile subscriptions and invested more than 37 Billion US$ into the mobile networks from T-Deutschland, Vodafone, E-plus and Telefonica-O2. The mobile country margin over the 10-year period has been ca. 43% and the Capex to Revenue ratio ca. 13%. By 2013 the total amount of mobile subscription was in the order of 115 Million out of a population of 81 Million (i.e., 54 Million of the German population is between 15 and 64 years of age). The observant numerologist would have realized that there are many more subscriptions than population … this is not surprising as it reflects that many subscribers are having multiple different SIM cards (as opposed to cloned SIMs) or subscription types based on their device portfolio and a host of other reasons.
All Wunderbar! … or? .. well not really … Take a look at the revenue and profitability over the 10 year period and you will find that no (or very very little) revenue and incremental profitability has been gained over the period from 2003 to 2013. AND we did add 80+% more subscriptions to the base!
Here is the Germany Mobile development over the period;
Apart from adding subscribers, having modernized the mobile networks at least twice over the period (i.e, CapEx with little OpEx impact) and introduced LTE into the German market (i.e., with little additional revenue to show for it) not much additional value has been added. It is however no small treat what has happen in Germany (and in many other mature markets for that matter). Not only did Germany almost double the mobile customers (in terms of subscriptions), over the period 3G Nodes-B’s were over-layed across the existing 2G network. Many additional sites were added in Germany as the fundamental 2G cellular grid was primarily based on 900 MHz and to accommodate the higher UMTS frequency (i.e., 2100 MHz) more new locations were added to provide a superior 3G coverage (and capacity/quality). Still Germany managed all this without increasing the Mobile Country OpEx across the period (apart from some minor swings). This has been achieved by a tremendous attention to OpEx efficiency with every part of the Industry having razor sharp attention to cost reduction and operating at increasingly efficiency.
Philippines story is a Fabulous Story of Growth (as summarized above) … and of Profitability & Margin Decline.
Philippines today is in effect a duopoly with PLDT having approx. 2/3 of the mobile market and Globe the remaining 1/3. During the period the Philippine Market saw Sun Cellular being acquired and merged by PLDT. Further, 3G was deployed and mobile data launched in major urban areas. SMS revenues remained the largest share of non-voice revenue to the two remaining mobile operators PLDT and Globe. Over the period 2003 to 2013, the mobile subscriber base (in terms of subscriptions) grew with 16% per anno and the ARPU fell accordingly with 10% per anno (all measured in local currency). All-in-all safe guarding a “healthy” revenue increase over the period from ca. 93 Billion PHP in 2003 to 190 Billion PHP in 2013 (i.e., a 65% increase over the period corresponding to a 5% annual growth rate).
However, the Philippine market could not maintain their relative profitability & initial efficiency as the mobile market grew.
So we observe (at least) two effects (1) Reduction in ARPU as market is growing & (2) Increasing Opex cost to sustain the growth in the market. As more customers are added to a mobile network the return on thus customers increasingly diminishes as network needs to be massively extended capturing the full market potential versus “just” the major urban potential.
Mobile Philippines did become less economical efficient as its scale increases and ARPU dropped (i.e., by almost 70%). This is not an unusual finding across Emerging Growth Markets.
As I have described in my previous Blog “SMS – Assimilation is inevitable, Resistance is Futile!”, Philippines mobile market has an extreme exposure to SMS Revenues which amounts to more than 35% of Total Revenues. Particular as mobile data and smartphones penetrate the Philippine markets. As described in my previous Blog, SMS Services enjoy the highest profitability across the whole range of mobile services we offer the mobile customer including voice. As SMS is being cannibalized by IP-based messaging, the revenue will decline dramatically and the mobile data revenue is not likely to catch up with this decline. Furthermore, profitability will suffer as the the most profitable service (i.e., SMS) is replaced by mobile data that by nature has a different profitability impact compared to simple SMS services.
Philippines do not only have a substantial Margin & EBITDA risk from un-managed OpEx but also from SMS revenue cannibalization (a la KPN in the Netherlands and then some).
Let us compare the ARPU & Opex development for Philippines (above Chart) with that of Germany over the same period 2003 to 2013 (please note that the scale of Opex is very narrow)
Mobile Germany managed their Cost Structure despite 40+% decrease in ARPU and as another 60% in mobile penetration was added to the mobile business. Again similar trend will be found in most Mature Markets in Western Europe.
One may argue (and not being too wrong) that Germany (and most mature mobile markets) in 2003 already had most of its OpEx bearing organization, processes, logistics and infrastructure in place to continue acquiring subscribers (i.e., as measured in subscriptions). Therefor it have been much easier for the mature market operators to maintain their OpEx as they continued to grow. Also true that many emerging mobile markets did not have the same (high) deployment and quality criteria, as in western mature markets, in their initial network and service deployment (i.e., certainly true for the Philippines as is evident from the many Regulatory warnings both PLDT and Globe received over the years) providing basic voice coverage in populated areas but little service in sub-urban and rural areas.
Most of the initial emerging market networks has been based on coarse (by mature market standards) GSM 900 MHz (or CDMA 850 MHz) grids with relative little available capacity and indoor coverage in comparison to population and clutter types (i.e., geographical topologies characterized by their cellular radio interference patterns). The challenge is, as an operator wants to capture more customers, it will need to build out / extend its mobile network in the areas those potential or prospective new customers live and work in. From a cost perspective sub-urban and rural areas in emerging markets are not per se lower cost areas despite such areas in general being lower revenue areas than their urban equivalents. Thus, as more customers are added (i.e., increased mobile penetration) proportionally more cost are generated than revenue being capture and the relative margin will decline. … and this is how the Ugly-cost (or profitability tail) is created.
I just cannot write about profitability and cost structure without throwing the Ugly-(cost)-Tail on the page.I strongly encourage all mobile operators to make their own Ugly-Tail analysis. You will find more details of how to remedy this Ugliness from your cost structure in “The ABC of Network Sharing – The Fundamentals”.
In Western Europe’s mature mobile markets we find that more than 50% of our mobile cellular sites captures no more than 10% of the Revenues (but we do tend to cover almost all surface area several times unless the mobile operators have managed to see the logic of rural network sharing and consolidated those rural & sub-urban networks). Given emerging mobile markets have “gone less over board” in terms of lowest revenue un-profitable network deployments in rural areas you will find that the number of sites carrying 10% of less of the revenue is around 40%. It should be remembered that the rural populations in emerging growth markets tend to be a lot larger than in of that in mature markets and as such revenue is in principle spread out more than what would be the case in mature markets.
Population & Mobile Statistics and Opex Trends.
The following provides a 2013 Summary of Mobile Penetration, 3G Penetration (measured in subscriptions), Urban Population and the corresponding share of surface area under urban settlement. Further to guide the eye the 100% line has been inserted (red solid line), a red dotted line that represents the share of the population that is between 15 and 64 years of age (i.e., who are more likely to afford a mobile service) and a dashed red line providing the average across all the 43 countries analyzed in this Blog.
Sources: United Nations, Department of Economic & Social Affairs, Population Division. The UN data is somewhat outdated though for most data points across emerging and mature markets changes have been minor. Mobile Penetration is based on Pyramid Research and Bank of America Merrill Lynch Global Wireless Matrix Q1, 2014. Index Mundi is the source for the Country Age structure and data for %tage of population between 15 and 64 years of age and shown as a red dotted line which swings between 53.2% (Nigeria) to 78.2% (Singapore), with an average of 66.5% (red dashed line).
There is a couple of points (out of many) that can be made on the above data;
There are no real emerging markets any longer in the sense of providing basic mobile telephone services such as voice and messaging.
For mobile broadband data via 3G-UMTS (or LTE for that matter), what we tend to characterize as emerging markets are truly emerging or in some case nascent (e.g., Algeria, Iraq, India, Pakistan, etc..).
All mature markets have mobile penetration rates way above 100% with exception of Canada, i.e., 80% (i.e., though getting to 100% in Canada might be a real challenge due to a very dispersed remaining 20+% of the population).
Most emerging markets are by now covering all urban areas and corresponding urban population. Many have also reach 100% mobile penetration rates.
Most Emerging Markets are lagging Western Mature Markets in 3G penetration. Even providing urban population & urban areas with high bandwidth mobile data is behind that of mature markets.
Size & density does matter … in all kind of ways when it comes to the economics of mobile networks and the business itself.
In Australia I only need to cover ca. 40 thousand km2 (i.e., 0.5% of the total surface area and a bit less than the size of Denmark) to have captured almost 90% of the Australian population (e.g., Australia’s total size is 180+ times that of Denmark excluding Greenland). I frequently hear my Australian friends telling me how Australia covers almost 100% of the population (and I am sure that they cover more area than is equivalent to Denmark too) … but without being (too) disrespectful that record is not for Guinness Book of Records anytime soon. in US (e.g., 20% more surface area than Australia) I need to cover in almost 800 thousand km2 (8.2% of surface area or equivalent to a bit more than Turkey) to capture more than 80% of the population. In Thailand I can only capture 35% of the population by covering ca. 5% of the surface area or a little less than 30 thousand km2 (approx. the equivalent of Belgium). The remaining of 65% of the Thai population is rural-based and spread across a much larger surface area requiring extensive mobile network to provide coverage to and capture additional market share outside the urban population.
So in Thailand I might need a bit less cell sites to cover 35% of my population (i.e., 22M) than in Australia to cover almost 90% of the population (i.e., ca. 21M). That’s pretty cool economics for Australia which is also reflected in a very low profitability risk score. For Thailand (and other countries with similar urban demographics) it is tough luck if they want to reach out and get the remaining 65% of their population. The geographical dispersion of the population outside urban areas is very wide and increasing geographical area is required to be covered in order to catch this population group. UMTS at 900 MHz will help to deploy economical mobile broadband, as will LTE in the APT 700 MHz band (being it either FDD Band 28 or TDD Band 44) as the terminal portfolio becomes affordable for rural and sub-urban populations in emerging growth markets.
In Western Europe on average I can capture 77% of my population (i..e, the urban pop) covering 14.2% of the surface area (i.e., average over markets in this analysis), This is all very agreeable and almost all Western European countries cover their surface areas to at least 80% and in most cases beyond that (i.e., it’s just less & easier land to cover though not per see less costly). In most cases rural coverage is encourage (or required) by the mature market license regime and not always a choice of the mobile operators.
Before we look in depth to the growth (incl. positive as well as negative growth), lets first have a peek at what has happened to the mobile revenue in terms of ARPU and Number of Mobile User and the corresponding mobile penetration over the period 2007 to 2013.
Source: Bank of America Merrill Lynch Global Wireless Matrix Q1, 2014 and Pyramid Research Data data were used to calculated the growth of ARPU as compounded annual growth rate between 2007 to 2013 and the annual growth rate between 2012 and 2013. Since 2007 the mobile ARPUs have been in decline and to make matters worse the decline has even accelerated rather than slowed down as markets mobile penetration saturated.
Source: Mobile Penetrations taken from Bank of America Merrill Lynch Global Wireless Matrix Q1, 2014 and Pyramid Research Data data .Index Mundi is the source for the Country Age structure and data for %tage of population between 15 and 64 years of age and shown as a red dotted line which swings between 53.2% (Nigeria) to 78.2% (Singapore), with an average of 66.5% (red dashed line). It s interesting to observe that most emerging growth markets are now where the mature markets were in 2007 in terms of mobile penetration.
Apart from a very few markets, ARPU has been in a steady decline since 2007. Further in many countries the ARPU decline has even accelerated rather than slowed down. From most mature markets the conclusion that we can draw is that there are no evidence that mobile broadband data (via 3G-UMTS or LTE) has had any positive effect on ARPU. Although some of the ARPU decline over the period in mature markets (particular European Union countries) can be attributed to regulatory actions. In general as soon a country mobile penetration reaches 100% (in all effect reaches the part of the population 15-64 years of age) ARPU tends to decline faster rather than slowing down. Of course one may correctly argue that this is not a big issue as long as the ARPU times the Users (i.e., total revenue) remain growing healthily. However, as we will see that is yet another challenge for the mobile industry as also the total revenue in mature markets also are in decline on a year by year basis. Given the market, revenue & cost structures of emerging growth markets, it is not unlikely that they will face similar challenges to their mobile revenues (and thus profitability). This could have a much more dramatic effect on their overall mobile economics & business models than what has been experienced in the mature markets which have had a lot more “cushion” on the P&Ls to defend and even grow (albeit weakly) their profitability. It is instructive to see that the most emerging growth markets mobile penetrations have reached the levels of Mature Markets in 2007. Combined with the introduction and uptake of mobile broadband data this marks a more troublesome business model phase than what these markets have experienced in the past.Some of the emerging growth market have yet to introduce 3G-UMTS, and some to leapfrog mobile broadband by launching LTE. Both events, based on lessons learned from mature markets, heralds a more difficult business model period of managing cost structures while defending revenues from decline and satisfy customers appetite for mobile broadband internet that cannot be supported by such countries fixed telecommunications infrastructures.
For us to understand more profoundly where our mobile profitability is heading it is obviously a good idea to understand how our Revenue and OpEx is trending. In this Section I am only concerned about the Mobile Market in Country and not the individual mobile operators in the country. For that latter (i.e., Operator Profitability) you will find a really cool and exiting analytic framework in the Section after this. I am also not interested (in this article) in modeling the mobile business bottom up (been there & done that … but that is an entirely different story line). However, I am interested and I am hunting for some higher level understanding and a more holistic approach that will allow me to probabilistically (by way of Bayesian analysis & ultimately inference) to predict in which direction a given market is heading when it comes to Revenue, OpEx and of course the resulting EBITDA and Margin. The analysis I am presenting in this Section is preliminary and only includes compounded annual growth rates as well as the Year-by-Year growth rates of Revenue and OpEx. Further developments will include specific market & regulatory developments as well to further improve on the Bayesian approach. Given the wealth of data accumulated over the years from the Bank of America Merrill Lynch (BoAML) Global Wireless Matrix datasets it is fairly easy to construct & train statistical models as well as testing those consistent with best practices.
The Chart below comprises 48 countries Revenue & OpEx growth rates as derived from the “Bank of America Merrill Lynch (BoAML) Global Wireless Matrix Q1, 2014” dataset (note: BoAML data available in this analysis goes back to 2003). Out of the 48 Countries, 23 countries have an Opex compounded annual growth rate higher than the corresponding Revenue growth rate. Thus, it is clear that those 23 countries are having a higher risk of reduced margin and strained profitability due to over-proportionate growth of OpEx. Out of the 23 countries with high or very high profitability risk, 11 countries have been characterized in macro-economical terms as emerging growth markets (i.e., China, India, Indonesia, Philippines, Egypt, Morocco, Nigeria, Russia, Turkey, Chile, Mexico) the remaining 12 countries can be characterized as mature markets in macro-economical terms (i.e., New Zealand, Singapore, Austria, Belgium, France, Greece, Spain, Canada, South Korea, Malaysia, Taiwan, Israel). Furthermore, 26 countries had a higher Opex growth between 2012 and 2013 than their revenues and is likely to be trending towards dangerous territory in terms of Profitability Risk.
Source: Bank of America Merrill Lynch Global Wireless Matrix Q1, 2014. Revenue depicted here is Service Revenues and the OPEX has been calculated as Service REVENUE minus EBITDA. The Compounded Annual Growth Rate (CAGR) is calculated with X being Revenue and Opex. Y-axis scale is from -25% to +25% (i.e., similar to the scale chosen in the Year- by-Year growth rate shown in the Chart below).
With few exceptions one does not need to read the countries names on the Chart above to immediately see where we have the Mature Markets with little or negative growth and where what we typically call emerging growth markets are located.
As the above Chart clearly illustrate the mobile industry across different types of markets have an increasing challenge to deliver profitable growth and if the trend continues to keep their profitability period!
Opex grows faster than Mobile Operator’s can capture Revenue … That’s a problem!
In order gauge whether the growth dynamics of the last 7 years is something to be concerned about (it is! … it most definitely is! but humor me!) … it is worthwhile to take a look at the year by year growth rate trends (i.e. as CAGR only measures the starting point and the end point and “doesn’t really care” about what happens in the in-between years).
Source: Bank of America Merrill Lynch Global Wireless Matrix Q1, 2014. Revenue depicted here is Service Revenues and the OPEX has been calculated as Service REVENUE minus EBITDA. Year on Year growth is calculated and is depicted in the Chart above. Y-axis scale is from -25% to +25%. Note that the Y-scales in the Year-on-Year Growth Chart and the above 7-Year CAGR Growth Chart are the same and thus directly comparable.
From the Year on Year Growth dynamics compared to the compounded 7-year annual growth rate, we find that Mature Markets Mobile Revenues decline has accelerated. However, in most cases the Mature Market OpEx is declining as well and the Control & Management of the cost structure has improved markedly over the last 7 years. Despite the cost structure management most Mature Markets Revenue have been declining faster than the OpEx. As a result Profitability Squeeze remains a substantial risk in Mature Markets in general.
In almost all Emerging Growth Markets the 2013 to 2012 revenue growth rate has declined in comparison with the compounded annual growth rate. Not surprising as most of those markets are heading towards 100% mobile penetration (as measured in subscriptions). OpEx growth remains a dire concern for most of the emerging growth markets and will continue to squeeze emerging markets profitability and respective margins. There is no indication (in the dataset analyzed) that OpEx is really under control in Emerging Growth Markets, at least to the same degree as what is observed in the Mature Markets (i.e., particular Western Europe). What further adds to the emerging markets profitability risk is that mobile data networks (i.e., 3G-UMTS, HSPA+,..) and corresponding mobile data uptakes are just in its infancy in most of the Emerging Growth Markets in this analysis. The networks required to sustain demand (at a reasonable quality) are more extensive than what was required to provide okay-voice and SMS. Most of the emerging growth markets have no significant fixed (broadband data) infrastructure and in addition poor media distribution infrastructure which can relieve the mobile data networks being built. Huge rural populations with little available ARPU potential but a huge appetite to get connected to internet and media will further stress the mobile business models cost structure and sustainable profitability.
This argument is best illustrated by comparing the household digital ecosystem evolution (or revolution) in Western Europe with the projected evolution of Emerging Growth Markets.
Above Chart illustrates the likely evolution in Home and Personal Digital Infrastructure Ecosystem of an emerging market’s Household (HH). Particular note that the amount of TV Displays are very low and much of the media distribution is expected to happen over cellular and wireless networks. An additional challenge is that the fixed broadband infrastructure is widely lagging in many emerging markets (in particular in sub-urban and rural areas) increasing the requirements of the mobile network in those markets. It is compelling to believe that we will witness a completely different use case scenarios of digital media consumption than experienced in the Western Mature Markets. The emerging market is not likely to have the same degree of mobile/cellular data off-load as experienced in mature markets and as such will strain mobile networks air-interface, backhaul and backbone substantially more than is the case in mature markets. Source: Dr. Kim K Larsen Broadband MEA 2013 keynote on “Growth Pains: How networks will supply data capacity for 2020”
Same as above but projection for Western Europe. In comparison with Emerging Markets a Mature Market Household (HH) has many more TV as wells as a substantially higher fixed broadband penetration offering high-bandwidth digital media distribution as well as off-load optionality for mobile devices via WiFi. Source: Dr. Kim K Larsen Broadband MEA 2013 keynote on “Growth Pains: How networks will supply data capacity for 2020”
Mobile Market Profit Sustainability Risk Index
The comprehensive dataset from Bank of America Merrill Lynch Global Wireless Matrix allows us to estimate what I have chosen to call a Market Profit Sustainability Risk Index. This Index provides a measure for the direction (i.e., growth rates) of Revenue & Opex and thus for the Profitability.
The Chart below is the preliminary result of such an analysis limited to the BoAML Global Wireless Matrix Quarter 1 of 2014. I am currently extending the Bayesian Analysis to include additional data rather than relying only on growth rates of Revenue & Opex, e.g., (1) market consolidation should improve the cost structure of the mobile business, (2) introducing 3G usually introduces a negative jump in the mobile operator cost structure, (3) mobile revenue growth rate reduces as mobile penetration increases, (4) regulatory actions & forces will reduce revenues and might have both positive and negative effects on the relevant cost structure, etc.…
So here it is! Preliminary but nevertheless directionally reasonable based on Revenue & Opex growth rates, the Market Profit Sustainability Risk Index over for 48 Mature & Emerging Growth Markets worldwide:
The above Market Profit Sustainability Risk Index is using the following risk profiles
Very High Risk (index –5): (i.e., for margin decline): (i) Compounded Annual Growth Rate (CAGR) between 2007 and 2013 of Opex was higher than equivalent for Revenue AND (ii) Year-on-Year (YoY) Growth Rate 2012 to 2013 of Opex higher than that of Revenue AND (iii) Opex Year-on-Year 2012 to 2013 Growth Rate is higher than the Opex CAGR over the period 2007 to 2013.
High Risk (index –3): Same as above Very High Risk with condition (iii) removed ORYoY Revenue Growth 2012 to 2013 lower than the corresponding Opex Growth.
Medium Risk (index –2): CAGR of Revenue lower than CAGR of Opex but last year (i.e., 2012 t0 2013) growth rate of Revenue higher than that of Opex.
Low Risk (index 1): (i) CAGR of Revenue higher than CAGR of Opex AND (ii) YoY Revenue Growth higher than Opex Growth but lower than the inflation of the previous year.
Very Low Risk (index 3): Same as above Low Risk with YoY Revenue Growth Rate required to be higher than the Opex Growth with at least the previous year’s inflation rate.
The Outlook for Mature Markets are fairly positive as most of those Market have engaged in structural cost control and management for the last 7 to 8 years. Emerging Growth Markets Profit Sustainability Risk Index are cause for concern. As the mobile markets are saturating it usually results in lower ARPU and higher cost to reach the remaining parts of the population (often “encouraged” by regulation). Most Emerging Growth markets have started to introduce mobile data, which is likely to result in higher cost-structure pressure & with traditional revenue streams under pressure (if history of Mature Markets are to repeat itself in emerging growth markets). The Emerging Growth Markets have had little incentive (in the past) to focus on cost structure control and management, due to the exceedingly high margins that they historically could present with their legacy mobile services (i.e., Voice & SMS) and relative light networks (as always in comparison to Mature Markets).
Cautionary note is appropriate. All the above are based on the Mobile Market across the world. There are causes and effects that can move a market from having a high risk profile to a lower. Even if I feel that the dataset supports the categorization it remains preliminary as more effects should be included in the current risk model to add even more confidence in its predictive power. Furthermore, the analysis is probabilistic in nature and as such does not claim to carve in stone the future. All the Index claims to do is to indicate a probable direction of the profitability (as well as Revenue & OpEx). There are several ways that Operators and Regulatory Authorities might influence the direction of the profitability changing Risk Exposure (in the Wrong as well as in the Right Direction)
Furthermore, it would be wrong to apply the Market Profit Sustainability Risk Index to individual mobile operators in the relevant markets analyzed here. The profitability dynamics of individual mobile operators are a wee bit more complicated, albeit some guidelines and predictive trends for their profitability dynamics in terms of Revenue and Opex can be defined. This will all be revealed in the following Section.
Operator Profitability – the Profitability Math.
We have seen that the Margin M an be written as
with E, R and O being EBITDA, REVENUE and OPEX respectively.
However, much more interesting is that it can also be written as a function of subscriber share
being valid forwith being the margin and the subscriber market share can be found between 0% to 100%. The rest will follow in more details below, suffice to say that as the subscriber market share increases the Margin (or relative profitability) increases as well although not linearly (if anyone would have expected that ).
Before we get down and dirty on the math lets discuss Operator Profitability from a higher level and in terms of such an operators subscriber market share (i.e., typically measured in subscriptions rather than individual users).
In the following I will show some Individual Operator examples of EBITDA Margin dynamics from Mature Markets limited to Western Europe. Obviously the analysis and approach is not limited emerging markets and can (have been) directly extended to Emerging Growth Markets or any mobile market for that matter. Again BoAML Global Matrix provides a very rich data set for applying the approach described in this Blog.
It has been well established (i.e., by un-accountable and/or un-countable Consultants & Advisors) that an Operator’s Margin correlates reasonably well with its Subscriber Market Share as the Chart below illustrates very well. In addition the Chart below also includes the T-Mobile Netherlands profitability journey from 2002 to 2006 up to the point where Deutsche Telekom looked into acquiring Orange Netherlands. An event that took place in the Summer of 2007.
I do love the above Chart (i.e., must be the physicist in me?) as it shows that such a richness in business dynamics all boiled down to two main driver, i.e., Margin & Subscriber Market Shared.
So how can an Operator strategize to improve its profitability?
Let us take an Example
Here is how we can think about it in terms of Subscriber Market Share and EBITDA as depicted by the above Chart. In simple terms an Operator have a combination of two choices (Bullet 1 in above Chart) Improve its profitability through Opex reductions and making its operation more efficient without much additional growth (i.e., also resulting in little subscriber acquisition cost), it can improve its ARPU profile by increasing its revenue per subscriber (smiling a bit cynical here while writing this) again without adding much in additional market share. The first part of Bullet 1 has been pretty much business as usual in Western Europe since 2004 at least (unfortunately very few examples of the 2nd part of Bullet 1) and (Bullet 2 in above Chart) The above “Margin vs. Subscriber Market Share” Chart indicates that if you can acquire the customers of another company (i.e., via Acquisition & Merger) it should be possible to quantum leap your market share while increasing the efficiencies of the operation by scale effects. In the above Example Chart our Hero has ca. 15% Customer Market Share and the Hero’s target ca. 10%. Thus after an acquisition our Hero would expect to get ca. 25% (if they play it well enough). Similarly we would expect a boost in profitability and hope for at least 38% if our Hero has 18% margin and our Target has 20%. Maybe even better as the scale should improve this further. Obviously, this kind of “math” assumes that our Hero and Target can work in isolation from the rest of the market and that no competitive forces would be at play to disrupt the well thought through plan (or that nothing otherwise disruptive happens in parallel with the merger of the two businesses). Of course such a venture comes with a price tag (i.e., the acquisition price) that needs to be factored into the overall economics of acquiring customers. As said most (Western) Operators are in a perpetual state of managing & controlling cost to maintain their Margin, protect and/or improve their EBITDA.
So one thing is theory! Let us see how the Dutch Mobile Markets Profitability Dynamics evolved over the 10 year period from 2003 to 2013;
From both KPN’s acquisition of Telfort as well as the acquisition & merger of Orange by T-Mobile above Margin vs. Subscriber Market Share Chart, we see that in general, the Market Share logic works. On the other hand the management of the integration of the business would have been fairly unlucky for that to be right. When it comes to the EBITDA logic it does look a little less obvious. KPN clearly got unlucky (if un-luck has something to do with it?) as their margin decline with a small uplift albeit still lower than where they started pre-acquisition. KPN should have expected a margin lift to 50+%. That did not happen to KPN – Telfort. T-Mobile did fare better although we do observe a margin uplift to around 30% that can be attributed to Opex synergies resulting from the integration of the two businesses. However, it has taken many Opex efficiency rounds to get the Margin up to 38% that was the original target for the T-Mobile – Orange transaction.
In the past it was customary to take lots of operators from many countries, plot their margin versus subscriber markets share, draw a straight line through the data points and conclude that the margin potential is directly related to the Subscriber Market Share. This idea is depicted by the Left Side Chart and the Straight line “Best” Fit to data.
Lets just terminate that idea … it is wrong and does not reflect the right margin dynamics as a function of the subscriber markets share. Furthermore, the margin dynamics is not a straight-line function of the subscriber market share but rather asymptotic falling off towards minus infinity, i.e., when the company have no subscribers and no revenue but non-zero cost. We also observed a diminishing return on additional market share in the sense that as more market share is gained smaller and smaller incremental margins are gained. The magenta dashed line in the Left Chart below illustrates how one should expect the Margin to behave as a function of Subscriber market share.
The Right Chart above shows has broken down the data points in country by country. It is obvious that different countries have different margin versus market share behavior and that drawing a curve through all of those might be a bit naïve.
So how can we understand this behavior? Let us start with making a very simple formula a lot more complex :–)
We can write the Marginas the ratio of Earning before Interest Tax Depreciation & Amortization (EBITDA)and Revenue R:, EBITDA is defined as Revenue minus Opex. Both Opex and Revenue I can de-compose into a fixed and a variable part: O = Of + AOPU x U and R = Rf + ARPU x U with AOPU being the Average Opex per User, ARPU the Average (blended) Revenue per User and U the number of users. For the moment I will be ignoring the fixed part of the revenue and write R = ARPU x U. Further, the number of users can be written as with being the market share and M being the market size. So we can now write the margin as
with and .
being valid for
The Margin is not a linear function of the Subscriber Market Share (if anybody would have expected that) but relates to the Inverse of Market Share.
Still the Margin becomes larger as the market share grows with maximum achievable margin of as the market share equals 1 (i.e., Monopoly). We observe that even in a Monopoly there is a limit to how profitable such a business can be. It should be noted that this is not a constant but a function of how operationally efficient a given operator is as well as its market conditions. Furthermore, as the market share reduces towards zero .
Fixed Opex (of) per total subscriber market: This cost element is in principle related to cost structure that is independent on the amount of customers that a given mobile operator have. For example a big country with a relative low population (or mobile penetration) will have higher fixed cost per total amount of subscribers than a smaller country with a larger population (or mobile penetration). Fixed cost is difficult to change as it depends on the network and be country specific in nature. For an individual Operator the fixed cost (per total market subscribers) will be influenced by;
Coverage strategy, i.e., to what extend the country’s surface area will be covered, network sharing, national roaming vs. rural coverage, leased bandwidth, etc..
Spectrum portfolio, i.e, lower frequencies are more economical than higher frequencies for surface area coverage but will in general have less bandwidth available (i.e., driving up the number of sites in capacity limited scenarios). Only real exception to bandwidth limitations of low frequency spectrum would be the APT700 band (though would “force” an operator to deploy LTE which might not be timed right given specifics of the market).
General economical trends, lease/rental cost, inflation, salary levels, etc..
Average Variable Opex per User (ou): This cost structure element capture cost that is directly related to the subscriber, such as
Any other variable cost directly associated with the customer (e.g., customer facing functions in the operator organization).
This behavior is exactly what we observe in the presented Margin vs. Subscriber Market Share data and also explains why the data needs to be treated on a country by country basis. It is worthwhile to note that after the higher the market share the less incremental margin gain should be expected for additional market share.
The above presented profitability framework can be used to test whether a given mobile operator is market & operationally efficient compared to its peers.
The overall Margin dynamics is shown above Chart for the various settings of fixed and variable Opex as well as a given operators ARPU. We see that as the fixed Opex (in relation to the total subscriber market) increasing it will get more difficult to get EBITDA positive and increasingly more market share is required to reach a reasonable profitability targets. The following maps a 3 player market according with the profitability logic derived here:
What we first notice is that operators in the initial phase of what you might define as the “Market-share Capture Phase” are extremely sensitive to setbacks. A small loss of subscriber market share (i.e. 2%) can tumble the operator back into the abyss (i.e, 15% Margin setback) and wreck havoc to the business model. The profitability logic also illustrates that once an operator has reached Market-share maturity adding new subscribers is less valuable than to keep them. Even big market share addition will only result in little additional profitability (i.e., the law of diminishing returns).
The derived Profitability framework can be used also to illustrate what happens to the Margin in a market-wise steady situation (i.e., only minor changes to an operators market share) or what the Market Share needs to be to keep a given Margin or how cost needs to be controlled in the event that ARPU drops and we want to keep our margin and cannot grow market share (or any other market, profitability or cost-structure exercise for that matter);
Above chart illustrates Margin as a function of ARPU & Cost (fixed & variable) Development at a fixed market share here chosen to be 33%. The starting point is an ARPU ru of EUR25.8 per month, a variable cost per user ou assumed to be EUR15 and a fixed cost per total mobile user market (of) of EUR0.5. The first scenario (a Orange Solid Line) with an end of period margin of 32.7% assumes that ARPU reduces with 2% per anno, that the variable cost can be controlled and likewise will reduce with 2% pa. Variable cost is here assumed to increase with 3% on an annual basis. During the 10 year period it is assumed that the Operators market share remains at 33%. The second scenario (b Red Dashed Line) is essential same as (a) with the only difference that the variable cost remains at the initial level of EUR15 and will not change over time. This scenario ends at 21.1% after 10 Years. In principle it shows that Mobile Operators will not have a choice on reducing their variable cost as ARPU declines (again the trade-off between certainty of cost and risk/uncertainty of revenue). In fact the most successful mature mobile operators are spending a lot of efforts to manage & control their cost to keep their margin even if ARPU & Revenues decline.
The above chart illustrates what market share is required to keep the margin at 36% when ARPU reduces with 2% pa, fixed cost increases with 3% pa and the variable cost either (a Orange Solid Line) can be reduced with 2% in line with the ARPU decline or (b Red Solid Line) remains fixed at the initial level. In scenario (a) the mobile operator would need to grow its market share to 52% to main its margin at 36%. This will obviously be very challenging as this would be on the expense of other operators in this market (here assume to be 3). Scenario (b) is extremely dramatic and in my opinion mission impossible as it requires a complete 100% market dominance.
Above Chart illustrates how we need to manage & control my variable cost compared to the –2% decline pa in order to keep the Margin constant at 36% assuming that the Operator Subscriber Market Share remains at 33% over the period. The Orange Solid Line in the Chart shows the –2% variable cost decline pa and the Red Dashed Line the variable cost requirement to keep the margin at 36%.
The following illustrates the Profitability Framework as described above applied to a few Western European Markets. As this only serves as an illustration I have chosen to show older data (i..e, 2006). It is however very easy to apply the methodology to any country and the BoAML Global Wireless Matrix with its richness in data can serve as an excellent source for such analysis. Needless to say the methodology can be extended to assess an operators profitability sensitivity to market share and market dynamics in general.
The Charts below shows the Equalized Market Share which simply means the fair market share of operators, i.e., if I have 3 operators the fair or equalized market share would 1/3 (33.3%), in case of 4 operators it should be 25% and so forth, I am also depicting what I call the Max Margin Potential this is simply the Margin potential at 100% Market Share at a given set of ARPU (ru), AOPU (ou) and Fixed Cost (of) Level in relation to the total market.
Netherlands Chart: Equalized Market Share assumes Orange has been consolidated with T-Mobile Netherlands. The analysis would indicate that no more than ca. 40% Margin should be expected in The Netherlands for any of the 4 Mobile Operators. Note that for T-Mobile and Orange small increases in market share should in theory lead to larger margins, while KPN’s margin would be pretty much un-affected by additional market share.
Germany Chart: Shows Vodafone to slightly higher and T-Mobile Deutschland slight lower in Margin than the idealized Margin versus Subscriber Market share. At the time T-Mobile had almost exclusive leased lines and outsourced their site infrastructure while Vodafone had almost exclusively Microwaves and owned its own site infrastructure. The two new comers to the German market (E-Plus and Telefonica-O2) is trailing on the left side of the Equalized Market Share. At this point in time should Telefonica and E-Plus have merged one would have expected them eventually (post-integration) to exceed a margin of 40%. Such a scenario would lead to an almost equilibrium market situation with remaining 3 operators having similar market shares and margins.
I greatly acknowledge my wife Eva Varadi for her support, patience and understanding during the creative process of creating this Blog. I certainly have not always been very present during the analysis and writing.
Short Message Service or SMS for short, one of the corner stones of mobile services, just turned 20 years old in 2012.
Talk about “Live Fast, Die Young” and the chances are that you are talking about SMS!
The demise of SMS has already been heralded … Mobile operators rightfully are shedding tears of the (taken-for-granted?) decline of the most profitable 140 Bytes there ever was and possible ever will be.
Before we completely kill off SMS, let’s have a brief look at
The average SMS user (across the world) consumed 136 SMS (ca. 19kByte) per month and paid 4.6 US$-cent per SMS and 2.6 US$ per month. Of course this is a worldwide average and should not be over interpreted. For example in the Philippines an average SMS user consumes 650+ SMS per month pays 0.258 US$-cent per SMS or 1.17 $ per month.The other extreme end of the SMS usage distribution we find in Cameroon with 4.6 SMS per month paying 8.19 US$-cent per SMS.
We have all seen the headlines throughout 2012 (and better part of 2011) of SMS Dying, SMS Disaster, SMS usage dropping and revenues being annihilated by OTT applications offering messaging for free, etcetcetc… & blablabla … “Mobile Operators almost clueless and definitely blameless of the SMS challenges” … Right? … hmmmm maybe not so fast!
All major market regions (i.e., WEU, CEE, NA, MEA, APAC, LA) have experienced a substantial slow down of SMS revenues in 2011 and 2012. A trend that is expected to continue and accelerate with mobile operators push for mobile broadband. Last but not least SMS volumes have slowed down as well (though less severe than the revenue slow down) as signalling-based short messaging service assimilates to IP-based messaging via mobile applications.
Irrespective of all the drama! SMS phase-out is obvious (and has been for many years) … with the introduction of LTE, SMS will be retired.
Resistance is (as the Borg’s would say) Futile!
It should be clear that the phase out of SMS does Absolutely Not mean that messaging is dead or in decline. Far far from it!
Messaging is Stronger than Ever and just got so many more communication channels beyond the signalling network of our legacy 2G & 3G networks.
Its however important to understand how long the assimilation of SMS will take and what drivers impact the speed of the SMS assimilation. From an operator strategic perspective such considerations will provide insights into how quickly they will need to replace SMS Legacy Revenues with proportional Data Revenues or suffer increasingly on both Top and Bottom line.
SMS2012 AND ITS GROWTH DYNAMICS
So lets just have a look at the numbers (with the cautionary note that some care needs to be taken with exchange rate effects between US Dollar and Local Currencies across the various markets being wrapped up in a regional and a world view. Further, due to the structure of bundling propositions, product-based revenues such as SMS Revenues, can be and often are somewhat uncertain depending on the sophistication of a given market):
2012 is expected worldwide to deliver more than 100 billion US Dollars in SMS revenues on more than 7 trillion revenue generating SMS.
The 100 Billion US Dollars is ca. 10% of total worldwide mobile turnover. This is not much different from the 3 years prior and 1+ percentage-point up compared to 2008. Data revenues excluding SMS is expected in 2012 to be beyond 350 Billion US Dollar or 3.5 times that of SMS Revenues or 30+% of total worldwide mobile turnover (5 years ago this was 20% and ca. 2+ times SMS Revenues).
SMS growth has slowed down over the last 5 years. Last 5 years SMS revenues CAGR was ca. 7% (worldwide). Between 2011 and 2012 SMS revenue growth is expected to be no more than 3%. Western Europe and Central Eastern Europe are both expected to generate less SMS revenues in 2012 than in 2011. SMS Volume grew with more than 20% per annum the last 5 years but generated SMS in 2012 is not expected to more than 10% higher than 2012.
For the ones who like to compare SMS to Data Consumption (and please safe us from ludicrous claims of the benefits of satellites and other ideas out of too many visits to Dutch Coffee shops)
2012 SMS Volume corresponds to 2.7 Terra Byte of daily data (not a lot! Really it is not!)
Don’t be terrible exited about this number! It is like Nano-Dust compared to the total mobile data volume generated worldwide.
The monthly Byte equivalent of SMS consumption is no more than 20 kilo Byte per individual mobile user in Western Europe.
Let us have a look at how this distributes across the world broken down in Western Europe (WEU), Central Eastern Europe (CEE), North America (NA), Asia Pacific (APAC), Latin America (LA) and Middle East & Africa (MEA):
From the above chart we see that
Western Europe takes almost 30% of total worldwide SMS revenues but its share of total SMS generated is less than 10%.
And to some extend also explains why Western Europe might be more exposed to SMS phase out than some other markets. We have already seen the evidence of Western Europe sensitivity to SMS revenues back in 2011, a trend that will spread in many more markets in 2012 and lead to an overall negative SMS revenue story of Western Europe in 2012. We will see that within some of the other regions there are countries that substantially more exposed to SMS phase-out than others in terms of SMS share of total mobile turnover.
In Western Europe a consumer would for an SMS pay more than 7 times the price compared to a consumer in North America (i.e., Canada or USA). It is quiet clear that Western Europe has been very successful in charging for SMS compared to any other market in the World. An consumers have gladly paid the price (well I assume so;-).
SMS Revenues in Western Europe are proportionally much more important in Western Europe than in other regions (maybe with the exception of Latin America).
In 2012 17% of Total Western Europe Mobile Turnover is expected to come from SMS Revenues (was ca. 13% in 2008).
WHAT DRIVES SMS GROWTH?
It is interesting to ask what drives SMS behaviour across various markets and countries.
Prior to reasonable good quality 3G networks and as importantly prior to the emergence of the Smartphone the SMS usage dynamics between different markets could easily be explained by relative few drivers, such as
(1) Price decline year on year (the higher decline the faster does SMS per user grow, though rate and impact will depend on Smartphone penetration & 3G quality of coverage).
(2) Price of an SMS relative to the price of a Minute (the lower the more SMS per User, in many countries there is a clear arbitrage in sending an SMS versus making a call which on average last between 60 – 120 seconds).
(3) Prepaid to Contract ratios (higher prepaid ratios tend to result in fewer SMS, though this relationship is not per se very strong).
(4) SMS ARPU to GDP (or average income if available) (The lower the higher higher the usage tend to be).
(5) 2G penetration/adaptation and
(6) literacy ratios (particular important in emerging markets. the lower the literacy rate is the lower the amount of SMS per user tend to be).
Finer detailed models can be build with many more parameters. However, the 6 given here will provide a very decent worldview of SMS dynamics (i.e., amount and growth) across countries and cultures. So for mature markets we really talk about a time before 2009 – 2010 where Smartphone penetration started to approach or exceed 20% – 30% (beyond which the model becomes a bit more complex).
In markets where the Smartphone penetration is beyond 30% and 3G networks has reached a certain coverage quality level the models describing SMS usage and growth changes to include Smartphone Penetration and to a lesser degree 3G Uptake (not Smartphone penetration and 3G uptake are not independent parameters and as such one or the other often suffice from a modelling perspective).
Looking SMS usage and growth dynamics after 2008, I have found high quality statistical and descriptive models for SMS growth using the following parameters;
(a) SMS Price Decline.
(b) SMS price to MoU Price.
(c) Prepaid percentage.
(d) Smartphone penetration (Smartphone penetration has a negative impact on SMS growth and usage – unsurprisingly!)
(e) SMS ARPU to GDP
(f) 3G penetration/uptake (Higher the 3G penetration combined with very good coverage has a negative impact on SMS growth and usage. Less important though than Smartphone penetration).
It should be noted that each of these parameters are varying with time and there for in extracting those from a comprehensive dataset time variation should be considered in order to produce a high quality descriptive model for SMS usage and growth.
If a Market and its Mobile Operators would like to protect their SMS revenues or at least slow down the assimilation of SMS, the mobile operators clearly need to understand whether pushing Smartphones and Mobile Data can make up for the decline in SMS revenues that is bound to happen with the hard push of mobile broadband devices and services.
EXPOSURE TO LOSS OF SMS REVENUE – A MARKET BY MARKET VIEW!
As we have already seen and discussed it is not surprising that SMS is declining or stagnating. At least within its present form and business model. Mobile Broadband, the Smartphone and its many applications have created a multi-verse of alternatives to the SMS. Where in the past SMS was a clear convenience and often a much cheaper alternative to an equivalent voice call, today SMS has become in-convenient and not per se a cost-efficient alternative to Voice and certainly not when compared with IP-based messaging via a given data plan.
74 countries (or markets) have been analysed for their exposure to SMS decline in terms of the share of SMS Revenues out of the Total Mobile Turnover. 4 categories have been identified (1) Very high risk >20%, (2) High risk for 10% – 20%, (3) Medium risk for 5% – 10% and (4) Lower risk when the SMS Revenues are below 5% of total mobile turnover.
As Mobile operators push hard for mobile broadband and inevitably increases rapidly the Smartphone penetration, SMS will decline. In the “end-game” of LTE, SMS has been altogether phased out.
Based on 2012 expectations lets look at the risk exposure that SMS phase-out brings in a market by market out-look;
We see from the above analysis that 9 markets (out of a total 74 analyzed), with Philippines taking the pole position, are having what could be characterized as a very high exposure to SMS Decline. The UK market, with more than 30% of revenues tied up in SMS, have aggressively pushed for mobile broadband and LTE. It will be very interesting to follow how UK operators will mitigate the exposure to SMS decline as LTE is penetrating the market. We will see whether LTE (and other mobile broadband propositions) can make up for the SMS decline.
More than 40 markets have an SMS revenue dependency of more than 10% of total mobile turnover and thus do have a substantial exposure to SMS decline that needs to be mitigated by changes to the messaging business model.
Mobile operators around the world still need to crack this SMS assimilation challenge … a good starting point would be to stop blaming OTT for all the evils and instead either manage their mobile broadband push and/or start changing their SMS business model to an IP-messaging business model.
IS THERE A MARGIN EXPOSURE BEYOND LOSS OF SMS REVENUES?
There is no doubt that SMS is a high-margin service, if not the highest, for The Mobile Industry.
A small de-tour into the price for SMS and the comparison with the price of mobile data!
The Basic: an SMS is 140 Bytes and max 160 characters.
On average (worldwide) an SMS user pays (i.e., in 2012) ca. 4.615 US$-cent per short message.
A Mega-Byte of data is equivalent to 7,490 SMSs which would have a “value” of ca. 345 US Dollars.
Yes! It would be if that was the price a user would pay for mobile broadband data (particular for average consumptions of 100 Mega Bytes per month of Smartphone consumption) …
However, remember that an average user (worldwide) consumes no more than 20 kilo Byte per Month.
One Mega-Byte of SMS would supposedly last for more than 50 month or more than 4 years.
This is just to illustrate the silliness of getting into SMS value comparison with mobile data.
A Byte is not just a Byte but depends what that Byte caries!
Its quiet clear that an SMS equivalent IP-based messaging does not pose much of a challenge to a mobile broadband network being it either HSPA-based or LTE-based. To some extend IP-based messaging (as long as its equivalent to 140 Bytes) should be able to be delivered at better or similar margin as in a legacy based 2G mobile network.
Thus, in my opinion a 140 Byte message should not cost more to deliver in an LTE or HSPA based network. In fact due to better spectral efficiency and at equivalent service levels, the cost of delivering 140 Bytes in LTE or HSPA should be a lot less than in GSM (or CS-3G).
However, if the mobile operators are not able to adapt their messaging business models to recover the SMS revenues (which with the margin argument above might not be $ to $ recovery but could be less) at risk of being lost to the assimilation process of pushing mobile data … well then substantial margin decline will be experienced.
Operators in the danger zone of SMS revenue exposure, and thus with the SMS revenue share exceeding 10% of the total mobile turnover, should urgently start strategizing on how they can control the SMS assimilation process without substantial financial loss to their operations.
I have made extensive use of historical and actual data from Pyramid Research country data bases. Wherever possible this data has been cross checked with other sources. Pyramid Research have some of the best and most detailed mobile technology projections that would satisfy most data savvy analysts. The very extensive data analysis on Pyramid Research data sets are my own and any short falls in the analysis clearly should only be attributed to myself.