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Net Neutrality Begins to Shape Service Provider Revenue Models

These are, in many ways, trying times for many telecom, mobile and cable TV service providers, both within the United States and internationally.

Virtually all of the major legacy products are maturing, including mobility services, high speed access and video entertainment services that have driven recent revenue growth.

Network neutrality rules are being applied in ways that directly affect profit margins, revenues and costs.

In many markets, competition is growing. South Korea, which has had a rather stable mobile business, now likely will face the addition of a fourth mobile operator, In many markets, including the United Kingdom, India and the United States, new competitors also are entering the market, will enter the market or new leaders are created as firms merge.

In China, all three mobile companies, for example, recently have had negative revenue growth and negative income growth. That has been the case in many European markets as well.

Globally, some analysts expect, mobile industry revenue will begin declining in 2019.

It therefore is fortunate that a number of potentially-significant new revenue streams, ranging from connected cars to machine-to-machine applications, healthcare, home security and monitoring services seem to be developing in the broader Internet of Things realm.

But even in the near term, many firms find that newer “strategic” services, typically involving IP and Ethernet services for business, consumer Internet and TV, are driving growth.

Firms such as CenturyLink, for example, already find that strategic services comprise a majority of total revenue. For CenturyLink, strategic revenue includes MPLS and Ethernet services, high-speed Internet and “PrismTV,” CenturyLink’s linear video subscription service.

Legacy revenue almost predictably declined in the first quarter of 2015, due primarily to access line losses.

Still, service providers are counting on creation of big new revenue segments now expected to flow from the broad Internet of Things trend. That is a big “if.”

Competition and regulatory trends also are troublesome. Across the globe, regulators are considering or implementing rules about network neutrality that have a direct impact on future Internet service provider revenue models, retail packaging methods and profit margins.

In fact, though the initial impact is in the consumer Internet access business, where packet prioritization and zero rating (sponsored data access) are forbidden, there now also is impact in the carrier interconnection area.

Where traditionally interconnection reflected volume of exchanged traffic, it increasingly is difficult for retail-facing Internet domains to negotiate bilateral interconnection agreements that reflect the volumes of delivered traffic.

The biggest disparities occur when content domains interconnect with retail end user domains (Netflix and any other retail ISP).

Regulatory rules related to network neutrality also direct limit retail packaging models.

The Indian Department of Telecommunications, for example, is highly likely to recommend that zero rating (sponsored apps) should not be lawful in India.

That would ban Internet app practices that are functionally equivalent to toll-free calling. Any such bans would mean that entities such as Internet.org could not provide access to some key Internet apps without requiring purchase of a mobile Internet access plan.

Likewise, it would be unlawful to offer an Internet app form of toll-free calling, where a sponsor pays for a consumer’s use of network resources.

The Indian agency apparently will adopt a policy banning zero rating under network neutrality rules that ban all paid prioritization or app throttling.

All such rules of course shape and condition the retail plans ISPs can offer.

Bharti Airtel, for example, had proposed and then withdrawn its “Airtel Zero” program that w allowed application providers to underwrite usage of their apps.

Google has a similar zero rating initiative called Google Free Zone that has been offered in a handful of countries like Kenya, Sri Lanka, Thailand and the Philippines.

“Zero rated apps” such as provided by Internet.org  have proven effective ways of introducing non-Internet users to the benefits of using the Internet. Under the Internet.org program organized by Facebook, mobile customers can use apps without paying for a data plan.

But such policies are viewed as a violation of network neutrality principles by some.

So here we have an issue of “good things” in conflict. One is the notion that innovation is promoted when every app has an “equal chance” of being discovered and used (even if, in practice, that rarely is true, or possible).

The other good thing is the ability to provide people access to useful apps without those people having to pay. That is especially useful for encouraging non-users to sample the Internet, and useful for people who have not, in the past, purchased mobile Internet access plans.

And it appears one or the other of those good things will not be lawful, eventually.

Should such a framework remain in place for a long time, more new apps are going to move away from “Internet” delivery, though. Some apps work better when quality of service measures are available. And some apps might have life-threatening consequences if absolute low latency or bandwidth is unavailable.

Such apps will move away from the public Internet and into “walled gardens.” That might be useful, in some instances. Medical apps, driverless cars and other automated processes arguably would benefit from higher performance guarantees than can lawfully be provided using the consumer Internet.

Altogether, service providers face a challenging environment. Their core legacy revenues are mature or maturing. They face new limits on retail pricing and packaging. Promising new replacement services are visible.

But lots of hard work remains before service providers can assess how important those new revenue sources might be in the future.

But service providers are hopeful. By 2020, Business Insider Intelligence estimates that 75 percent of cars shipped globally will be built with the necessary hardware to connect to the internet.

In other words, those vehicles will be connected cars, equipped with internet connections and software that allow people to stream music, look up movie times, be alerted of traffic and weather conditions, and even power driving-assistance services such as self-parking.

Those connections will virtually certainly rely on mobile networks.

The overall connected-car market is growing at a five-year compound annual growth rate of 45 percent, Business Insider researchers say.

In 2020, that will mean 69 million connected vehicles, and an installed base of perhaps 220 million total connected cars on the road globally in 2020.

Perhaps 88 million of these vehicles will represent sales of connected services to vehicle-based systems, rather than tethering in the cars to user smartphones or other devices.

Embedded connections will win, Business Insider Intelligence argues, since those sorts of capabilities also allow auto companies to collect data on cars’ performance and send updates and patches to cars remotely, avoiding recalls related to the car’s software.

Separately, Research and Markets has forecast the connected car machine-to-machine services market in the United States will grow at a compound annual growth rate of 14 percent.

The firm also forecasts the connections (access) market for the U.S. connected car M2M will grow at a 28.5 percent compound annual growth rate between 2015 and 2019.

The connected car M2M services market includes driver assistance, safety and security, infotainment, vehicle management and on-drive management, for example.

Such is the magnitude of the opportunity. Service providers will need plenty of such opportunities.

 

Satellite Internet Access is Going to be Disrupted

Something very big is happening in the Internet access business, beyond the much-publicized move to gigabit networks by a growing range of providers in the U.S. market. In fact, the full impact of the shift to gigabit access speeds has repercussions beyond the actual number of consumers that elect to buy it.

As CenturyLink executives have noted many times, gigabit marketing drives adoption of 20-Mbps, 40-Mbps and 80-Mbps access services. In other words, gigabit Internet access drives most consumers to consider upgrading to faster speeds, even when they opt not to buy a full gigabit service.

In the global satellite business, something similar is happening. Over the last few years, new high throughput satellites operating in the Ka bands  have been launched, and continue to be launched, offering aggregate throughput much higher than for Ku-band satellites. The actual amount of additional bandwidth varies, but can range as high as two orders of magnitude over the present generation of satellites.

But there is more afoot. Up to this point, most consumer satellite service platforms have used the geosynchronous orbit. That has clear advantages in terms of ability to support low-cost consumer terminals.

The drawbacks include high latency.

But many new proposed satellite constellations are  operating, or are in preparation, including OneWeb, LeoSat and SpaceX, to name a few. Those new ventures plan to use low earth orbit.

The two clear advantages for such an approach are much lower latency and much higher bandwidth.

O3b already is in operation, using a fleet of 12 medium earth orbit satellites in medium earth orbit, again providing latency and bandwidth advantages over a geostationary approach.

But even geostationary platforms now benefit from use of the Ka band frequencies and ower earth station costs.

Satellite entrepreneurs such as Kacific now are aiming to disrupt the traditional value-price relationship for satellite communications, using new technology as much as two orders of magnitude better than prior platforms.

In the past, price points of older satellite bandwidth caused decision makers in island countries of the Pacific and Southeast Asia to rule out satellite as an economically viable way to enable connectivity in their country, focusing on cable to power fixed and mobile internet networks, notes Cyril Annarella, Kacific executive director.

But new high-throughput satellites are changing the economics of the access business because they “allow data connections at a much lower cost per bit than older generations satellites,” says Cyril Annarella, Kacific executive director.

High throughput satellites provide as much as two orders of magnitude more throughput than earlier generation satellites, significantly reducing cost per bit profiles.

ViaSat-1 and EchoStar XVII (Jupiter-1) provide more than 100 Gbps of capacity, which is more than 100 times the capacity offered by a conventional Ku-band satellite, for example.

When it was launched in October 2011 ViaSat-1 had more capacity (140 Gbps) than all other commercial communications satellites over North America combined, to illustrate the capacity advances.

Kacific is building on several technology advances, in additon to availability of HTS. The Ka-band spectrum inherently “carries more information,” says Annarella, much as millimeter wave frequencies or even 2.5 GHz frequencies can carry more information than signals of equivalent bandwidth at 800 MHz.

Also, the success of HTS-based services in the United States,  such as Viasat and Hughes networks Jupiter, has driven the cost of user terminals well below US$500, enabling an interesting mass market value proposition that older generations of satellite services were never able to achieve, Annarella says.

In many markets, including Indonesia, the Philippines, Papua New Guinea and the Island nations of the Pacific, satellite might be the only affordable way to bridge the digital divide, Annarella argues.

Kacific believes there is a mass market for Internet broadband if the price to bring internet at the point-of-consumption can be brought sufficiently low. In most of its target markets, the existing choice  is mobile access at speeds no faster than 2 Mbps.

Kacific plans to provide more than that, especially using anchor sites at government buildings or schools as community access points.

In its target countries, Kacific is “currently the only possible proposition that completely addresses the requirements of universal access plans defined by the regulators,” says Annarella.

Kacific was founded mid-2013 by a group of experienced entrepreneurs with space, finance and IT background, he says.

The first phase of the project logically involved convincing potential customers of service viability and affordability, defining technical specifications and raising capital.

“This phase is now closing, and the second step of the project, finishing late 2017, will see the construction and launch of Kacific first satellite K1a, for a commercial service opening in the first quarter of  2018.

But it would not be unreasonable to argue that it is the new LEO constellations which will play a role similar to gigabit fixed network access in stimulating demand for Internet access at higher speeds.

Space Exploration Technologies (Space X), for example,  has asked the Federal Communications Commission for permission to create and launch a new  low earth orbit satellite constellation of thousands of satellites that would be able to provide Internet access at unprecedented speeds anywhere on the globe.

The LEO constellations now proposed would provide a key challenge to fixed or mobile facilities in the Internet service provider business, at least in terms of coverage. In principle, every inch of the earth’s surface would be covered.

The unknown issue is the business model. It isn’t clear what the retail pricing would be, or how much market share any LEO constellation might be able to obtain.

Orbiting the earth at just an altitude of around 750 miles, the new constellation would orbit at lower than conventional communications satellites at 22,000 miles.

That has huge implications for bandwidth and latency, potentially enabling bandwidth between 50 Mbps and gigabits for any specific end user, a huge and qualitative advance over what has been possible in the past.

If everything goes right, LeoSat could begin launching its new satellite constellation in December 2018, offering bandwidth to any single user site at speeds from 50 Mbps on the low end to a high of 1.2 Gbps.

LeoSat, which plans to launch a new constellation of 80 or more low earth orbit satellites to provide high-throughput Internet access covering every square inch of the earth, thinks its wholesale business model and high bandwidth makes it a potential partner for virtually every other satellite capacity supplier or retailer, aside from the core markets it has identified.

For starters, LeoSat is focusing exclusively on wholesale capacity for business customers, not the consumer business and not business segment retail.

“We wouldn’t compete with anybody in the current milieu,” says Fotheringham. “Our lowest service tier begins where traditional satellite ends.”

The lowest tier of service offers 50 Mbps to 100 Mbps of Internet connectivity. The middle range offers 100 Mbps to 500 Mbps while the top tier supports 500 Mbps up to 1.2 Gbps.

“We do what they cannot,” Fotheringham says of the comparison with legacy satellite services. So he believes LeoSat will have “many chances to align with incumbents who are delivery partners.”

Strictly focused on business-to-business customers, LeoSat’s primary focus will be delivering “ industrial-grade communications to major organizations,” both commercial and government, says Fotheringham.

At the same time, by using a mesh network, LeoSat will avoid a key stranded assets problem that has plagued most prior constellations using the low earth orbit.

The point is that something very new, and potentially very big, is happening in the satellite Internet access business, and it parallels what is happening in the fixed network business, namely disruptive increases in delivered bandwidth.

What Drives Fixed Network Revenue Growth? It Depends.

Service provider strategy has been getting more diverse since the 1980s, when it would still have been possible to argue that tier-one service provider strategy in nearly every market was the same. Since then, strategies have diverged.

Since the 1980s, service providers have taken different stances on mobile, international expansion, embrace of over the top services, digital media, financial services, information technology services for enterprise customers, entertainment video and consumer apps.

Fixed network service provider strategy remains as challenging as ever, as illustrated by product trends.

At the end of 2014, the largest U.S. cable TV operators had about 52 million high speed access accounts in service, according to Leichtman Research Group.

At the end of 2014, those same firms had some 49 million linear video customers. In other words, the major legacy product now has been surpassed by the “newer” high speed access product.

Likewise, at the end of 2014, the largest U.S. telcos had about 35.4 million high speed access accounts in service.

At the end of 2013, all U.S. telco retail consumer voice accounts in service, by all providers, had dropped to 36 million.

Using roughly the same methodology as used by Leichtman Research, the top U.S. telcos might have served about 30 million voice lines, or about one in four U.S. households.

As in the case of cable TV, the major legacy produce–voice–has been surpassed by the newer high speed access product.

For cable TV operators, revenue growth now is lead by business services, secondarily by high speed access. For fixed network telcos, revenue growth is more complicated.

In some cases, revenue growth is lead by video entertainment. In other cases, high speed access drives revenue growth. In yet other cases, business services are the leading growth category.

Among the areas of biggest upside for many service providers are enterprise and business services.

In its first quarter of 2015, Comcast Internet access revenues grew 10.7 percent while business services grew 21.4 percent.

Year over year, Comcast gained 407,000 high speed Internet access customers and 77,000 voice customers and lost 8,000 video customers.

In other words, not only does the “new” Internet access business represent more customers, it also is the fastest-growing consumer service. Video subscribers actually are shrinking. But it is business services that sport the highest growth rates.

At CenturyLink, a similar trend might be noted. CenturyLink is in many ways a hybrid company, including a healthy base of rural telephone access assets, several access networks in metro areas of the western United States and then long haul and enterprise assets originally part of Qwest Communications.

CenturyLink is not alone. Windstream and Frontier Communications are some combination of rural telephone assets and business-focused assets.

One might argue that, in all three cases, revenue growth is driven, on a net basis, by the enterprise and small-to-medium business operations.

At CenturyLink, strategic services sold to enterprises are growing, the legacy access business dwindling. Total business segment revenues in the first quarter of 2015 were about $2.7 billion, while consumer segment revenues were $1.5 billion.

At Windstream, total revenues were $1.4 billion in the first quarter of 2015. Consumer  broadband service revenues in the first quarter were $123 million. Overall consumer service revenues in the first quarter were $312 million.

Enterprise and small business service revenues were $741 million in the first quarter, representing fully 53 percent of total revenues. Add in carrier service revenues of $177 million and the business segment represented 66 percent of total revenue.

At Frontier Communications, first quarter 2015 revenue amounted to  $1,371 million. Total residential revenue was $617 million, while total business revenue was $616 million. So business revenues represented about half of total revenue.

At CenturyLink and Windstream, entertainment video likely will be a high-growth product, coming from a low base. It isn’t so clear whether video entertainment will do the same at Frontier Communications, which has been relying on satellite video, and experienced a net loss of 7,700 video customers in the first quarter, including 3,500 satellite video customers.

Windstream just launched its “Kinetic” IPTV service, so growth is almost certain. At CenturyLink, consumer segment revenue growth is lead by high speed access and television services.

The point is that fixed network revenue growth strategies now are distinct, at various firms. Sometimes the key revenue drivers are the business segment. In other cases it is high speed access or entertainment video, and sometimes all three are important.

Eventually, all three sources will dwindle. What comes next is key. So far, there is no clear answer, other than that the Internet of Things might hold the key.

When You Accumulate Anomalies, Get Ready for a Paradigm Shift: That’s Coming for Telcos, Cable

Thomas Kuhn, in his foundational book The Structure of Scientific Revolutions might teach you to look for anomalies in business, not just science. The theory is simple enough: under normal circumstances, knowledge grows incrementally.

When an established paradigm is about to break, people keep running into anomalies–facts that don’t fit the existing paradigm.

We are at the beginning of just such a period, in terms of the dominant retail paradigm for any access provider in the U.S. market, and many other markets. For more than a decade, the triple play has been the key retail strategy in the fixed network access market.

There are several reasons for that reality. Single-purpose networks (the old telephone network, the old cable TV network and others) had a different business model than today’s multi-purpose networks.

In the past, one service, delivered on a purpose-built network, worked when there essentially was no competition, allowing take rates as high as 80 percent to 95 percent.

In an era characterized by multiple-purpose networks that can deliver any popular service (voice, video, data, messaging), no service provider can expect to get penetration rates as high as in the past.

To use a couple of obvious examples, telcos never again will have 90 percent voice share, or cable TV providers 85 percent video share. In a two-provider market, each of those contestants might expect to get about half of whatever market remains.

In other words, each might get as much as 40 percent voice share, and as much as 35 percent video share (assuming satellite gets reasonable share).

Those figures also show the extreme danger of stranded assets: if a network is built to pass 100 percent of homes, but only 40 percent to 50 percent are buyers, half the investment produces zero revenue.

The triple play bundle developed because selling three services to a smaller number of customers still produces as much revenue as selling one service to most homes can generate. Service providers also figured out that bundled service customers do not churn as much.

In recent days, many fixed network Internet service providers (including Google Fiber) have argued that video entertainment is essential to make the fixed network investment work.

Even if Google Fiber does not sell voice, it relies on high speed access and video to make the business case work. Telco and cable TV rely on the triple play.

There are anomalies, however. Netflix and many other streaming video services might indicate the market is at an important inflection point.

And that matters because it threatens to undermine the value of the linear video component of the triple play. That is potentially hugely disruptive.

All ISPs relying on a video-plus-Internet access retail package would face revenue issues if streaming gains traction faster.

Fewer and fewer consumers actually rely on fixed network voice, many continuing to buy largely because doing so allows purchase of other desired services (video and Internet access) at better prices.

And consider what could happen once fifth generation mobile networks go commercial, offering every end user at least a gigabit of Internet bandwidth, and as much as 10 Gbps.

At that point, voice would face huge competition from mobile, video would face over the top streaming and high speed access also would face substitution from mobile high speed data.

That would undermine the economics of the triple play.

The huge issue is what fixed network service providers would do to cope.

In the wake of the Comcast decision not to bid for Time Warner Cable, some suggest Comcast itself must prepare its own over the top streaming service, as it cannot grow through acquiring more fixed network customers and assets.

That also would be hedge against an eventual diminution of the linear video revenue stream. Verizon and AT&T have very different views about the future for linear video. Verizon thinks OTT will destroy the linear business faster, while AT&T thinks the decline will be more gradual. But both can conceive of a future where the strategic product is high speed access.

Those are big anomalies: all three constituent parts of the triple play bundle, are under threat. So the next decade is going to even more thrilling, from a service provider perspective, than the last decade.