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US Telecoms Market Further Deteriorating

Some worrying signs are emerging in the USA.

During the last decade I have questioned the economic viability of two parallel telecoms infrastructures. When these two network rollouts commenced no issue existed in relation to conflicting interests—one delivered telephone services, the other broadcasting services. But this all began to change when it became possible to use the HFC network to deliver broadband and telephony as well as broadcasting, and to use the telephone network to deliver broadband in addition to phone services.

In the early to mid-00s we began flagging that these new developments would necessitate further network upgrades to keep pace with the relentless market developments, and that eventually both networks would need to be upgraded to fibre.

We also indicated that when this happened the question would be whether there would be room for two fibre networks to the home. Our answer of course was that there would not.

At that stage we assumed that commonsense would prevail, and that there would be a functional split or specialisation, with infrastructure ending up in the hands of the telcos and content in the hands of the media companies. Unfortunately commonsense has become a scarce commodity in the USA.

However, it now seems that this will not be the way events will pan out. The handful of players involved in this market are monopolists with huge egos, and, thanks to their enormous lobbying powers, they more or less have complete control over the regulatory regime in the USA. Their influence over politicians allows them to dominate this market, with hardly any intervention to the contrary if other operators, including municipalities, try to roll out networks.

Most of the time these players are supported by the state authorities. Given this monopolistic environment, involving a severe lack of competition, the positive economic outcome that we anticipated a decade ago has not materialised.

So the telcos and the cable companies continue their struggle for dominance. The telcos have bought up large chunks of content to compete with the cable companies, and the cable companies have upgraded their networks to high-speed broadband (DOCSIS 3.0). The telcos have not really created an advantage for themselves here as their services are roughly equivalent in content to those of the cable companies.

By now it can be concluded that the cable companies are coming out on top. They remain the key players in the content market and have a far better understanding of this media and advertising business than the telcos. As well as that, their HFC networks offer a superior broadband quality for subscribers.

The only way forward for the telcos is to look at fibre networks. They have tried this in the past, but for all the reasons that we have put forward so many times in the past it is not economically viable to build successful, large-scale FttH networks based on competing infrastructure (so-called ‘overbuild’). This business model can work in small wealthy markets where people are prepared to pay $125 a month for a fibre connection (often also retaining their cable subscription), but it will not work in mass markets. In order to roll out FttH in any economically viable way operators require an uptake of at least 60%. With competing infrastructure, especially in the initial years, this will not be possible. Successful fibre builds, judiciously regulated to avoid duplicated network construction, are a reality, as the experience of Switzerland testifies.

While all of this is happening, in the USA, as in other markets, the revenues in traditional telecoms services are declining. Because of the new developments in OTT services it is becoming increasingly difficult for telcos to develop services that can create new revenue streams at the margins they have become used to as monopolists in the telecommunications market.

So they are losing the battle with the cable companies—not just in content but also in broadband, while at the same time their revenues from traditional voice services are either stagnating or declining. Add to this the uneconomic business case for FttH investments and one can see a massive telecoms problem emerging in the USA.

Verizon and AT&T have essentially cancelled their FttH plans, so the path to a future where they can successfully compete with the cable companies has been abandoned (see USA—Broadband Market—Fibre to the Home (FttH)—Overview, Statistics and Forecasts).

Furthermore, there are signs that with declining revenue, and no prospect of increasing that revenue, the telcos may not be able to maintain the current level of telecommunication services demanded by customers. AT&T has indicated that it will start concentrating on markets where it is making money, and that it is looking at divesting markets that are not sufficiently profitable. Over the last two years revenue growth for these telcos has remained below growth in GDP.

These are the words that AT&T used:

...we will accelerate our efforts to improve our overall growth profile. We will do that by looking at opportunities to either divest or restructure low performing and nonstrategic assets. —AT&T Chairman and CEO Randall Stephenson, January 26, 2012

This means that several of these markets—for instance, low-performing fixed-line consumer markets—will be left behind as road-kill on the telecoms superhighway. Estimates are that this could be between 30% and 50% of their fixed consumer markets. Divesting might improve the margins and it might be good for shareholders, despite the fact that overall revenues will shrink—but who is going to pick up the pieces? There will not be many companies interested in investing in markets where revenues and margins are contracting. In the end, whether politicians like it or not, it will be the government that will need to step in. After all, it is their failed policies and regulations that have led to this situation. They allowed the market to develop into one that stopped being competitive a long time ago, and today’s state of affairs is the result of this. The reality, however, is that government intervention is unlikely to happen any time soon. The situation will have to deteriorate significantly before something like that happens.

Spin-offs will mean even less competition and the market in the USA will further be monopolised by the cable companies. We have already seen how hard it is for smaller companies to compete with the large ones. Guess what will happen? Prices for consumers will go up.

The Obama administration tried to do something about this, using stimulus policies to pump $7.2 billion into regional and rural broadband. However, from the very start we have said that probably 75% of this money will be wasted, since the regulatory framework is not in place to allow for sustainable investments in regional broadband. The vested interests will make sure that they either get the money (or the stranded assets that will result from this plan) or they will make things difficult for any funded projects that look like becoming successful. In areas which hold no attraction for the vested interests the newcomer will become the de facto monopoly and questions will arise regarding innovations and competitive prices (see USA—National Broadband Plan—Overview and Analysis.)

Open access is proving to be the key to FttH rollouts. Legislation has already been passed in countries such Australia, New Zealand and Singapore. In Switzerland the regulator recently completed its network-sharing format, so all operators know the score and consumers can seamlessly switch between providers very cost-effectively. Without these provisions in place FttH would be an uphill battle.

As we have been predicting for a decade, ‘vertical integration’ is dead. Throwing more money at it is not going to achieve anything; structural changes are the only solution. This is also particularly critical to the country’s economy. Structural changes are essential if the USA wants to maintain its leading economic status in the digital economy.

These developments also make a mockery of the country’s National Broadband Plan, delivering 100Mb/s broadband to consumers. We refer to our analysis of these plans. It would seem that, given the current developments, that promise is moving further and further away. While DOCSIS 3.0 theoretically can provide downstream speeds at 100Mb/s (so that its existence technically meets the plan’s goal) in reality no one will be able to get such speed consistently—cable networks are shared networks and the more people on it, the lower the speed.

By Paul Budde, Managing Director of Paul Budde Communication

Paul is also a contributor of the Paul Budde Communication blog located here.

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