The Investment Incentive Problem

Do monopolies lack an incentive to invest? I suppose they did in the ‘old world’, where business was guaranteed and a government-based owner didn’t care much about maximizing value.

However, things are different in today’s telco marketplace. Governments have largely backed out and the market has taken over. Monopolies are on the brink of extinction. Add to that the natural monopoly of fiber (which gets to be pushed deeper into networks everyday, until we will finally end up at homes (FTTH) and businesses (FTTB) networks) and the rise of IP (which is indifferent to whatever is inside a packet, be it voice, video or data), and what do we get?

Exactly, new monopolies of all-IP, all-fiber networks – whoever may own them.

Now, does the investment incentive problem still exist? I believe not, as long as owners are sensible and try to maximize the value.

Maximizing value in the first place means, quite simply, maximizing sales and thus the number of clients. This entails the end of the retail/wholesale dichotomy and an appreciation of doing business on the wholesale level, as I have stressed before. Competitors should now be looked upon as partners and clients too.

Of course, investing can also have a different purpose: cutting costs in the long run. This is why investing in NGNs and NGAs makes perfect sense.

Attracting wholesale clients entails expanding your portfolio of services, which implies investing in every aspect of your business. Different wholesale clients will focus on different market segments (which at the same time relieves your retail division of marketing to all those different niches), each demanding a different portfolio of services.

It also entails entering adjacent markets. Take a look at utility companies building BPL networks (run by third party service providers) to capture a piece of the broadband market, but also to cut costs (using the network for monitoring services).

In a word, ‘sweat your assets’, as Telefonica’s Santiago Fernández so eloquently put it.

This reasoning is why I keep being surprised when I read about incumbents claiming that (structural) separation would take away the incentive to invest. Which by the way seems to be the conventional wisdom. In the wake of the new EC regulations, telcos like France Telecom (c. 30% state-owned) and Belgacom (53% state-owned) have been making such statements. No Telco 2.0 points for them, I presume.

(PS: BT is quite explicit over their separation costs. Would it be a weird idea to allow incumbents to pass on any separation cost to the government?)

Network operators give limited clarity

Network separation as well as sharing are gaining momentum, but several operators provide limited clarity on their long-term strategies.

• Sprint Nextel: having several networks (iDEN for P2T, CDMA for voice and data) already, it is ready to add WiMAX (for 4G) to the mix. The iDEN networks needs investments for maintaining a certain quality level, while the CDMA network is being upgraded continuously (Rev A, B, C). The company appears to be looking for a partner in WiMAX. Will all networks converge one day?
• Deutsche Telekom: outside Germany and Eastern Europe (where it owns PTTs), the company has a mobile-only strategy (with WiFi). However, buying Orange NL would add an LLU operator. OK, that can be sold on, but to whom?
• France Telecom: selling Orange NL makes sense, given weak market positions in both wireless and LLU. However, the company owns many wireless operators and yesterday added Austria. So far, triple play offerings are limited to France, Poland, the UK and Spain (as well as fixed/BB in several smaller countries). What about the mobile-only operations, like Austria - will they add LLL or BB?

Network sharing versus intramodal competition

As always, the TMT markets are moving rapidly. The interesting thing is that several seemingly unrelated deals can quite easily be connected. Let me set out on this small journey by starting with an Australian newspaper group and ending in the very same country.


The WSJ proves its value

The Wall Street Journal once more proves its value, this time at a very convenient moment. The Bancrofts may be pushing Murdoch for raising his Dow Jones offer, or they might want to entice somebody else to mount a counter offer.

Just two days ago a WSJ story carried this headline: Will Vodafone Be Put in PlayBy ABN-Energized Activists?. And today, John Mayo steps forward with his ECS Assets vehicle to push for the freeing up of up to GBP 38bn.

Bravo WSJ.


Will wireless be a duopoly market as well?

Further, one may question the long-term chances of a standalone wireless operator such as Vodafone, along the lines of consolidation in the European broadband markets: AOL has vanished (as an ISP), Tiscali has retreated to the UK and Italy, Pipex is up for sale, and today France Telecom and Deutsche Telekom are swapping assets (see below).
Vodafone's break-up value could be considerably more than its current market value. For now, mobile is a far more attractive game than broadband, in terms of margins, justifying 3, 4 and 5 player markets (not to mention markets like Bangladesh, served by 6 operators). But in a few years, mobile could be another utility. Look out for cablecos to snap up mobile operators once they have their networks and balance sheets under control.
Also, imagine the kind of cost savings when access networks are shared. In the end, base station networks are extremely overlapping access networks, which may very well be shared.


Telco/cableco duopoly nearing in the Netherlands

As to the FT/DT swap: today Ya.com is snapped up by France Telecom and Orange NL goes to T-Mobile.
Spain is consolidating:

• three major players (Telefonica, France Telecom, Vodafone)
• two standalone operators (Yoigo in mobile, Jazztel in fixed)
• cable company Ono.

The Netherlands too:

• it will be a 3-player mobile market (KPN, Vodafone and T-Mobile).
• there is no obvious buyer for the Wanadoo-part (ISP) of Orange NL.

What could happen to the former Wanadoo-part of Orange NL?

• I am sure T-Mobile is not interested - unlike FT, DT has a mobile-only strategy 'abroad'.
• KPN is restricted, as the regulator barely allowed its recent Tiscali NL takeover.
• Tele2/Versatel could be a serious candidate; if not, do not be surprised to see Tele2 abandoning the country altogether.
• Scarlet could step in and move to a facilities-based business plan (following the Tele2 example).
• Vodafone doesn't seem interested, as it uses Tiscali NL as its broadband partner for its 'Total Communications' strategy.
• Finally, bbned (Telecom Italia) is a candidate, but its commitment to the Netherlands is doubtful.

In other words, the Netherlands seems to be advancing toward this telco/cableco duopoly.

I believe PTT's are increasingly proving to be winners, but so far this seems to be visible in the Netherlands only. Pushing fiber deeper into their networks (FTTC: fiber to the street cabinet - not to mention FTTH) makes LLU a thing of the past and effectively forces altnets to follow or die (see below).

Unless PTT's allow munifiber to get a too strong foothold, will many markets move toward a US-style duopoly of telco v. cable.


If SLU is impossible, network sharing should be considered

As I have written several times before, KPN is trying to kill LLU by moving to an All-IP network, which includes FTTC. The most obvious replacement would be SLU (sub-loop unbundling: from the street cabinet, instead of the central office), but Analysys has shown that this is not economically viable.
OPTA, the local NRA, is grapling with this dilemma. A 'full alternative' to LLU was promised for Q2, but so far hasn't emerged from OPTA's offices.

In my view, the obvious way out would be the Australian way, where 9 altnets have come together to propose an alternative to Telstra's fiber plans. Sure, altnets are backed by competing companies, but shouldn't they set aside their differences to work locally on a country-by-country basis? It simply makes no sense for 9 altnets to want to each compete with a strong incumbent.

Still, one may question the long-term viability of intramodal competition (operating active elements like DSLAMs on the incumbent telco network). Fiber will be extended - sooner or later all the way to the user: FTTH. Any xLU model (LLU, SLU, ?LU) would imply altnets replicating more and more of the incumbent's network, in the end actually replicating the whole thing, as the copper last mile gets shorter and shorter. The only way out seems to be to sooner or later admit that a single fiber network is the only economically viable situation. Now that LLU is coming under strain seems to be the time to acknowledge this. In other words, altnets should aim for network sharing with incumbents. However, the PTT could be tempted into wanting to go it alone. Hence, an NRA like Arcep (France) is trying to facilitate network sharing.

The viability of intramodal competition in general was questioned earlier this week by the Australian Kevin Morgan. He referred to this an arbitrage game. Frankly, I hadn't looked at it that way before, but I suppose he has a point as altnets are merely kept alive by regulatory intervention. It reminds me of what the Bells over in the US kept repeating a few years ago, when the 1996 Telecom Act was replaced and intramodal competition was effectively killed: after 8 years of competition and cherry-picking, altnets should have built their own networks. However, Kevin does not acknowledge one important thing: how LLU operators have increased competition, driving prices down and broadband penetration up.

Anyway, the end of intramodal competition seems to be nearing. FTTH, fiber in the last mile, seems to be a natural monopoly. If PTTs do not see this, newcomers (like Reggefiber, Iliad, neuf Cegetel) will.

Which leaves cablecos: will they follow?

Does anybody want to compete in the Netherlands?

As I've written before, LLU is coming to and end in the Netherlands. France Telecom yesterday in a way referred to this, meandering on its strategy regarding Orange NL.

The consequences of the next stage in copper-based competion:

• KPN thinks it's so clever, forcing the competition out of the market. Only a player like KPN can afford to build a FTTC + VDSL network ('All-IP'). However, the plans could backfire: OPTA could go the separation route; OPTA could allow UPC to merge with @Home to form an MSO with near-national coverage (and create a duopoly US style); altnets could band together Australian style (the G9 consortium, proposing a FTTN network of its own).
• OPTA, the local NRA, together with all market participants, is studying a Full Alternative for LLU. Could it be SLU (FTTC + unbundling from the street cabinet)?
• Altnets have invested very little over the past two years or so. Coverage of their ADSL-networks has not expanded.
• Municipalities are cleverly moving in, building FTTH. There seems to be kind of an arms race between KPN (also buying up ISPs) trying to get involved and Reggefiber (the Dick Wessels company).
• Orange NL was put up for sale in February (rumours, but I had them sort of confirmed). Then in March, at the final 2006 results, it was denied. Now, at the Q1 results, France Telecom acknowledges all options are open. The same happened to Telecom Italia subsidiary bbned: for sale, and then all of a sudden it wasn't. This can only mean one thing: FT and TI want out, but they can't. And with market regulator NMa still studying the KPN takeover of Tiscali NL (report due May/June), KPN is no longer a buyer.

No potential buyers and LLU coming to an end - do I hear monopoly? Is duopoly the simplest answer to this? Or can altnets overcome their cultural differences and build a joint G9-style network?

Deutsche Telekom: strategy update brings little news

Deutsche Telekom has a strategy update and investor day, which unfortunately bring little real news.

Summary:

A. Four key areas.

1. Improve competitiveness in Germany.

• IP-technology.
• Productivity in customer care.
• Savings targets remain: EUR 2.0bn for 2007; EUR 4.2-4.7 mrd for 2010 relative to 2005.
• Broadband for IPTV and triple play:
  Available to 17m homes by year-end 2007. Target 1.5m IPTV-subs by late 2010.
  VDSL (50 Mbps) for HDTV: 50 cities by end of 2008.
  ADSL2+ (16 Mbps) for SDTV: 750 towns and villages.
• T-Mobile:
  Focus on existing products web'n'walk and @Home.
  New products, such as MyFaves (personalisation, proven success in the US)
• Branding:
  T-Home for the home, T-Mobile for on the road, T-Systems for businesses.
  A second brand, to be launched before the summer, for basic products, F/M bundles, low tariffs, young demographics.
  T-Mobile for outside of Germany.

2. Growth abroad with mobile, possibly with acquisitions.

• FMS.
• Data: WiFi, data handsets/terminals, web'n'walk handsets.
• Takeovers, both in existing and new markets.

3. Mobilizing the internet and the Web 2.0 trend.

• Personal & social networking, like mobile blogging.
• Open, multiportal internet access.
• Partnerships.

4. Developing key ICT accounts with a strategic partner.

• International footprint & scale are essential.
• A partner.

B. The planned sale of non-core assets:

1. T-Systems Media & Broadcast
2. DeTeImmobilien and Sireo (real estate)
3. Club Internet and Ya.com (triple play providers in France and Spain)
4. Tower business in Germany (Deutsche Funkturm) and the US (US Towers).
   

Comments:

1. The German fixed network is where the trouble is. Moving to IP and increased efficiency is all fine and dandy, but almost meaningless when the associated cost savings are hard to reap.
2. Germany gave its go-ahead to the VDSL-network, including a regulatory holiday, but the EC started a procedure to hault it. Also, the target of 1.5m IPTV subs looks uninspiring (cf. BT aiming for 2-3m in the mid-term).
3. Will the regulator allow DT to introduce a new F/M convergence brand? I'm not sure about this (over here in the Netherlands, OPTA wouldn't allow KPN to do this, but apparently the German governent is much more lenient on the local PTT).
4. Abroad, DT aims for a purely mobile approach (unlike FT/Orange in the UK and Spain). That makes a lot of sense: mobile markets are larger and more profitable than broadband markets. Acquisitions could be expensive though. Focus must be on Easter Europe and France, where a fourth UMTS license will be auctioned off.
5. T-Mobile is leading the way, with 3UK and Vodafone, in opening it's network for internet access and web 2.0 partnerships. As long as they can do the rebalancing act, that looks OK.
6. The planned sale of Club Internet and Ya.com is not a surprise. It is part of the new mobile focus. Should T-Mobile buy Orange NL, it will sell-on the DSL-network. FT/Orange will not bid for Club Internet (giving it too much market share), but Ya.com certainly makes sense. Similarly, Telefonica will not buy Ya.com but may look at entering France through both Club Internet and the new UMTS license.
7. DT is committed to the ICT-market, which will add to growth. Therefore, no sale of T-Systems, but no acquisition either, as the unit is now looking for a partner.
   

CONSOLIDATION://Orange NL for sale

A newspaper in the Netherlands reports France Telecom has hired Lazard to shop Orange NL around. The unit has 600k BB subs and 2.0m mobile subs and should bring in EUR 800-850m.

Observations:

• Fixed NL: KPN is forcing a choice upon altnets, building its All-IP network: retreat (or be a reseller) or step up investments to make SLU work, as the old paradigm (FTTEx + ADSL2+ = LLU from up to 1300 exchanges) is replaced by a new one (FTTN + VDSL2 = SLU from up to 28k street cabinets). The outcome is still up in the air, as OPTA seems to be backtracking on earlier support of KPN's plans, but Orange seems to think neither option is very attractive. Telecom Italia, through bbned, and Tele2/Versatel seem to be committed to the Dutch market.
• Mobile NL: The mobile market is going to a three-player model if T-Mobile or Vodafone moves in. T-Mobile could even go from a mobile-only strategy (as in the UK) to a triple play offering (as in France). Unless of course China Mobile, Weather, Telefonica, Telecom Italia, Belgacom, Swisscom, CPW or TeliaSonera (cf. Xfera in Spain) deems the time right for a new market entry.
• France Telecom: Going from 5 to 4 countries for its triple play offering (France, UK, Spain, Poland).

Consolidation is continuing, driven by a need for scale economies in mobile and LLU (not to mention SLU). More units could be put up for sale (DT France, DT Spain, Tiscali UK, Tiscali Italy, SFR). What is intriguing is:

• Companies are abandoning saturated markets, like Scandinavia and now the Netherlands (the Tiscali NL sale to KPN is pending at the NMa) and are turning to emerging markets.
• Vodafone, according to the newspaper, wouldn't be interested in Orange NL. Puzzling. Could this be the first step of Vodafone putting even more focus on emerging markets?
• If T-Mobile isn't interested, they might as well leave the market altogether.
• Telefonica is definitely a consolidator. Will they bid for Orange NL, or target the bigger prize: KPN?
• Will this be the European entry of an 'eastern' company (after Hutch and Weather)?
• As PTTs are fighting each other in their home markets, could this sale mark the formation of a pan-European kartel, e.g. FT and DT getting out of each other's markets?

UPDATE: obviously, existing players could strengthen their current presence:

• Telecom Italia: to add a retail business (and mobile) to their bbned offering.
• Tele2: to gain scale and a mobile license, in order to migrate their current reseller business.
• Scarlet: to mirror Tele2's strategy of turning into a facilities-based operator.
• Cableco: to add mobile and to sell the fixed business to somebody else.

REGULATION://Extending fiber deeper into the network challenges LLU

Deutsche Telekom is switching back to ADSL2+, apparently to have wider coverage for IPTV (T-Home). VDSL roll-out is haulted and stays at 10 cities (original target: 50).

Big changes are ahead in the European telecom sector. DT cites regulatory uncertainty for haulting the VDSL deployments.

Upgrades to ADSL2+ left the competitive landscape, based on LLU, unchanged, but VDSL and FTTH have created different environments. I believe Europe will support the survival of 'inter-copper' competition, but now it has to come up with an alternative to LLU. This is a hot topic in Germany, but even more so in the Netherlands, where OPTA has to come up with a fully-fledged alternative to LLU. Watch out for this to happen in Q2. OPTA will host an analyst meeting in The Hague next Friday (Jan 19).

So now operators have a choice:

• ADSL2+, with fiber not extending beyond the exchange. This is the case at BT, which sees no business case for FTTN/FTTC, let alone FTTH. This makes the UK an attractive market for LLU-based competition.
• FTTN + VDSL: KPN, Belgacom, DT (now haulted), TI. This renders LLU-based competition quite uncertain at the moment. Will regulaors find a fully-fledged alternative, and/or will altnets be prepared to step up their investment program to keep track with the incumbent?
• FTTH: FT (at least partly, further decisions in 2008). FT is responding to both Iliad and neuf cegetel (and Verizon), by making the network future-proof.
• A mixture of all: Most notably at Swisscom and Telefonica, but I suppose in many other countries too. FTTH is probably pretty common now for new builds.