Arthur D. Little Exane BNP Report 2012_Lets face it.pdf

March 2012Telecom Operators Let's face it ■ ■ ■ ■ ■ Core telco revenues – the decline is here to stay: -1.8% p.a. until 2015e Over-the-top services: a major threat for mobile but an opportunity for fixed-line Diversification into adjacent markets can add significant revenues, but not enough to stabilise the top-line Big opportunities to transform costs Mega-operator, local hero or infrastructure play: different telcos will make different strategic choices Telecom Operators Contacts Exane BNP Paribas Antoine Pradayrol [email protected] Exane BNP Paribas, London: +44 207 039 9489 ARTHUR D. LITTLE Didier Levy [email protected] Arthur D. Little, Paris: +33 1 55 74 29 62 www.exanebnpparibas-equities.com Please refer to important disclosures at the end of this report. Telecom Operators Executive Summary This 11th edition of the joint annual report by Exane BNP Paribas-Arthur D. Little focuses on the consequences of the move to ‘all IP’ for European telecom operators. Is the opportunity linked to innovative services larger than the risk to legacy revenues? What are the key strategic choices available to telcos across Europe? In preparing the report, we have met with 105 organisations in the telecom-media-technology arena and beyond, across 15 countries. – All in all, we see core telco revenues continuing to decline by 1.8% p.a. until 2015e. – The move to all-IP enables anyone to propose IP-based services over any network. This is the ‘over the top’ (OTT) concept. – In fixed-line, OTT TV is more an opportunity for telcos than a threat – an opportunity to gain market share in TV and to accelerate super-fast broadband adoption. – In mobile, OTT is a direct threat to legacy voice and SMS revenues. SMS can be displaced rapidly by independent and embedded messaging applications. Operators are taking defensive steps, but the downside risk remains significant. – In an all-IP world, everything will be connected. This creates opportunities for telcos in adjacent markets such as automotive, energy and utilities, financial services, etc. We estimate potential revenues at 4-9% of large telcos’ revenues by 2015e, significant but not enough to reverse the overall negative trend. – In this context of prolonged revenue pressure, telcos must accelerate their cost transformation. We identify large cost saving opportunities both in opex (“online-centric” business model) and in capex (network consolidation/sharing). – Operators will increasingly make different strategic choices: 1) ‘mega-operators’, competing (and collaborating) with OTT providers which will require both scale and a range of new capabilities – likely to lead large incumbents to make acquisitions; 2) ‘local heroes’, with limited geographic footprint and a presence in some vertical businesses; 3) ‘infrastructure plays’, focusing on the network while developing a range of partner agreements in services and distribution. Figure 1: Contributions to the sector growth – core telco revenues 6% 5% 4% 3% 2% 1% 0% (1%) (2%) (3%) (4%) (5%) (6%) (7%) 2010 MTR Mobile data 2011 2012e Voice & text Source: Arthur D. Little, Exane BNP Paribas estimates 1 2013e Fixed telephony 2014e Fixed broadband 2015e Pay-TV Telecom Operators Let’s face it, the decline in core telco revenues is here to stay We expect core revenues from European telecom services to continue decreasing until 2015e, by 1.8% per year on average, including a CAGR of -2.4% in mobile and -3.4% in fixed-line, partially offset by +5.8% in pay-TV. The expectation of a decline is consensual among industry participants, but even though we expect strong growth in mobile data (the single most important growth driver in the sector), our overall forecast is more bearish than consensus. In a nutshell, we expect the 2011 trend (-2%) to continue in the coming years, for three key reasons: 1) the risk of cannibalisation of voice and text revenues has significantly increased, with over-the-top services developing fast; 2) in fixed-line, broadband and pay-TV are far from being big enough to offset the decline in traditional telephony; 3) the tough economic context is here to stay, with a direct impact on usage and indirect impacts on competition and consumer behaviour. For incumbents in their domestic markets, we model core revenues down 3.6% p.a., given their higher than average exposure to fixed telephony, despite our expectations of improving broadband market share and increasing pay-TV market shares. The largest uncertainty in the sector is mobile data monetisation: even a small tweak to our 2015e assumptions regarding traffic per smartphone and revenue per GByte could lead the whole sector to return to growth. On the other hand, stronger cannibalisation of voice and text could lead to an even faster decline (-3.8% CAGR). However, our analysis of mobile operators’ return on capital employed shows that a return to growth is too optimistic, as it would imply operators’ increasing their returns despite the tough environment (economy, competition, regulation, network capex) – while the bear case would imply returns of challenger mobile operators falling significantly below their cost of capital, hence driving massive consolidation. OTT: risks in mobile larger than opportunities in TV The ‘over the top’ concept is well know for TV – but actually it applies to all telecom services, including mobile. As smartphone adoption increases, new applications enable users to save on their bills by using mobile voice over IP instead of traditional voice, and messaging instead of traditional SMS. This risk is not new but it is accelerating, as: 1) smartphone penetration has grown strongly; 2) WhatsApp is one of the three most downloaded paid iPhone applications in nine European countries; 3) Google, Microsoft, Apple, etc. all have an interest in upping their game in communication services and the growing integration of hardware and software gives them more firepower. In a bear case scenario, our 2015e mobile revenue estimate – which is already 9% lower than the 2011e figure – would be cut by another 8%. In terms of fixed-line, over-the-top TV offers are evolving very quickly, for both hardware and services – all made possible by ever faster broadband. Viewing habits are changing fast, with a massive generational effect. From the perspective of incumbent pay-TV providers, OTT TV is a threat – but from telcos’ perspective, OTT TV is in our view a positive, on balance: 1) telcos have limited exposure to downside in the traditional pay-TV market; 2) for them, playing the OTT game is an opportunity to differentiate from established pay-TV players; 3) OTT TV should have a positive impact on fixed broadband, pushing towards faster speeds, provided that operators are able to link speeds with higher ARPU. 2 Telecom Operators To make the best of this new world and avoid cannibalisation, the most effective moves expected from telcos are: 1) price bundling – which we think can basically halve the risk of cannibalisation of mobile operators’ legacy revenues; 2) tiered pricing, in mobile but also in fixed – to make sure that revenues increase in line with traffic growth; 3) leveraging ‘the box’, in fixed-line; and 4) developing wholesale revenues from OTT providers, although this is difficult to quantify except for Content Delivery Network (CDN) activity. Diversification opportunities: working hard… for the long term When not only everyone, but also everything is connected, surely telcos should benefit. How big is the ‘internet of things’ opportunity overall? How can telcos best position themselves? Will this new world restore growth to the sector? Thanks to IP technology, a multiplicity of devices will be connected, beyond mobile phones, computers and tablets: cars and other moving objects, utility meters (electricity, gas, water), but also other home appliances or vending machines, as well as medical devices. Mobile phones will become electronic wallets (m-payment). Finally, the increasing power of IT infrastructure, combined with broadband everywhere, is a key driver for remote provision of IT services – this is the ‘cloud’ opportunity. Each of these device types relates to specific ‘vertical’ markets; e.g. automotive, energy and utilities, healthcare, financial services, etc. Each of these is a large market in itself compared to the telecom market, and each can benefit from the ‘smartisation’ of devices, which can bring cost savings as well as enable innovative services to customers. Most of these are very long term opportunities – and opinions on the probability of telcos’ success are divided. We estimate the total potential for incumbent telcos to be 4-9% of their revenues by 2015e – significant but not enough to reverse the revenue pressure elsewhere. The largest operators are already positioning themselves and we believe that payment, cloud services, moving objects (including connected cars and fleet telematics) and building surveillance and automation are all interesting areas to explore. Nevertheless, if they are to capitalise on these opportunities, operators will need to be more proactive about extending their value chain positions, potentially by acquiring early movers in the market. Figure 2: Revenue opportunities from diversification into ‘verticals’ Total telco revenues, EURbn in 2015e, “believers’ case” CDN, 1.2 Cloud, 2.0 Outlook for incumbents’ revenues 110 Building automation, 0.8 Smart metering, 0.5 100 1 1 90 Vending machines & payment terminals, 0.4 3 3 7 3 43 43 43 39 39 2011 2015e - Sceptics 2015e - Believers EURbn 80 Others, 0.5 70 53 60 50 m-payment, 1.4 40 Connected cars, 1.7 Fleet and freight telematics, 2.0 30 20 Mobile Source: Arthur D. Little, Exane BNP Paribas estimates 3 Fixed-line Pay-TV Verticals Telecom Operators Increasingly divergent strategic routes – and no silver bullet Telcos have different visions of the industry’s outlook (more or less negative), different views on key assets to leverage (the infrastructure or the customer), but also very different starting positions (leaders versus challengers, local versus global). Figure 3: Three potential strategic choices for telcos Geographic footprint Ambition in the value chain Local Infrastructure Services Infrastructure play Local hero Mega-operator Global Source: Arthur D. Little, Exane BNP Paribas estimates It is therefore no surprise that they consider a wide range of strategies, with varying levels of emphasis on the retail side (this is the ‘bit pipe’ versus ‘full service’ operator debate) and varying ambitions in terms of geographic footprint (with most European telcos focused on one or a few countries, but a handful looking at a global footprint). Combining these two axes, we find three key strategic routes: 1) the mega-operator; 2) the local hero, i.e. the full service telco focused on a limited geographic footprint; and 3) the local infrastructure play. We believe that: – The ‘mega-operator’ approach can in theory create the most value in the long term, but is the most difficult to execute (need for capital and multi-faceted competitive challenges), so the most risky. In any case only a handful of European telcos can play; – The ‘local hero’ could lead to a slightly better top-line than the ‘infrastructure play’, but it comes with additional opex and capex in the next few years along with execution risks. Due to its focus on one or a few countries, competitive structure in its home market will have a material impact on its success; – The ‘infrastructure play’ is the least risky but also brings the lowest returns in the long term. In any case, it cannot be implemented by operators lacking opex flexibility – due to the requirement to be the ‘low cost’ producer. 4 fixed-mobile).4% p. Figure 4: Potential opex and capex transformation to alleviate revenue pressure 28 24 2 20 EURbn 6 16 12 24 8 14 4 0 2011 EBITDA-Capex 2015e Online centric savings Network consolidation savings Source: Arthur D. both in terms of cost (global purchasing. even though large deals cannot be entirely ruled out in the medium term).a. mobile-mobile. Little. global pooling of IT infrastructure) and as a commercial differentiator (in a few market segments). This requires continued capex notably on FTTx and 4G – hence local scale will matter more and more. but also cross-border (most probably small moves rather than big jumps. which we estimate could reduce a typical integrated operator’s total opex by 9% by 2015e. we conclude that global scale will become more significant in the long run. Exane BNP Paribas estimates Importance of global stature Finally. 2) strong infrastructure. Combining these two transformation opportunities could theoretically enable an operator with revenues declining by 2.. versus an OpFCF CAGR of -12% in a theoretical scenario with flat opex and capex. Since each operator has room to optimise its strategic footprint and pressures on the top-line will not ease quickly. we predict a flurry of M&A: at the local level (fixed-fixed. vertical (acquisition of incremental capabilities to serve adjacent markets).Telecom Operators Accelerating the pace of change We look at the key prerequisites for telcos to succeed: 1) leaner cost base. until 2015e (in line with our industry scenario) to limit the decline in its EBITDA and OpFCF to less than -3% p.a. with notably a large opportunity from the ‘online transformation’ of the business model. Different types of network consolidation can enable typical mobile operators to save 10-30% of network costs (opex+capex) in the coming years. 5 . Gregory Pankert – Michael Zorko – Maxime Rey – William Beavington. Agron Lasku – Switzerland: Klaus von den Hoff. Radek Swoboda. David Borras. Paul Desjonquères – Germany: Klaus von den Hoff. Simon Best. Carlos Abad.Telecom Operators Contributors Arthur D. Ansgar Schlautmann. – Mathieu Robilliard Clemens Schwaiger. Stipe Maric – France: Ignacio Garcia Alves. Michael Opitz. Jean Fisch. Christian Niegel. Vincenzo Basile – Japan: Shinichi Akayama – Netherlands: Martijn Eikelenboom – Spain: Jesús Portal. Lars Riegel – Michael Williams – Belgium: Ignacio Garcia Alves. Nicolai Schättgen. Andreas Tiefengraber. Richard Swinford 6 . Niklas Sondell. marketing analyst – Central Europe : Marcel Hominda. Michal Sladek. Carsten Kahner – Italy: Giancarlo Agresti. Little Exane BNP Paribas Team Didier Levy – Antoine Pradayrol Author – – Richard Swinford – Laurent Barbezieux – Angel Lam – Arnaud Schoenmakers – Karim Taga Other contributors Telecom Operators team – Austria: Karim Taga. Andrea Faggiano. Franck Herbaux. Martin Glaumann. Uli Prommer – UK: Stuart Keeping. Bjorn Thunstrom. Pedro Fernandez – Sweden/Finland: Erik Almqvist. Bertrand Grau. Hans-Peter Erl. Pedro Ugarte. Michael Arnör. BT Germany. ETNO. Swedish Post and Telecom Authority. equipment manufacturers and regulators. Telefónica Germany. GSMA. Microsoft. internet and vertical sectors Agfa Healthcare. Wien Energie. cable and satellite operators. Everything Everywhere. Arqiva. Vodafone Germany. Cegeka. BMW. Telecom operators / Cable / Satellite 1&1. O2 Czech Republic. mobile. CMT. RTR. Qualcomm. TeliaSonera. SFR. software. Cisco. Iberdola. Orange Business Services. Virgin Mobile. Base. Swisscom. Orange Spain. Nokia Siemens Networks Germany. Telenet. O2 UK. Belgacom. Telecom Italia Wholesale. GTS Novera. T-Mobile Austria. Telefónica. KPN. Canal+. Endesa. Bouygues Telecom. UPC Austria. Reggefiber Media. Mnet. undisclosed retail bank Regulators and others AGCOM. Sogecable. UPC Netherlands. T-Mobile Czech Republic. Virgin Media Business. Vivendi. Iliad Free. Alcatel-Lucent Spain. Nokia Siemens Networks Austria. Pages Jaunes. including fixed. Logica. Wind Equipment. A1 Telekom Austria. Ericsson UK. Sky. Orange Austria. Numéricable. Vipnet. Tele2. media groups. ecotel. Telecom Italia. e-plus. Ericsson Sweden. ONO. TalkTalk. Corporación Cooperativa Mondragón. KDG. Vodafone Spain. Little who contributed to this project. KCOM Group. Mobistar. InterXion. Ericsson Germany. Vodafone Czech Republic. vatm 7 . Easynet. internet companies and software developers. Google. Mediaset. We would particularly like to thank all those that we interviewed at the companies listed below.Telecom Operators Acknowledgments We want to thank everyone from outside Exane BNP Paribas and Arthur D. Halebop. TDF. Orange Slovakia. Abertis Telecom. Invitel. BBVA. MSD (Merck). BT. infrastructure and IT Alcatel-Lucent. Deutsche Telekom. Colt. Versatel. KBW. H3G. m-Health – Fitter in the long term ________________________________ 85 Cloud – Attractive but substantial investment needed ________________________ 89 Increasingly diverging routes – and no silver bullet ______________ 95 The prerequisites: strong infrastructure and lean opex _______________________ 96 Local scale is more and more important ___________________________________ 99 Global scale: growing benefits. in the long term ____________________________ 105 Increasingly diverging strategies – Anybody wins? _________________________ 107 Outcome: a flurry of deals?____________________________________________ 112 Arthur D.Telecom Operators Contents Core revenue decline is here to stay __________________________ 9 A decade of no revenue growth __________________________________________ 9 Core market scenario: -1. NFC – About to take off _____________________________________ 67 Smart metering/grid – Hundreds of millions of devices _______________________ 72 Smart home – Room for automation and assistance _________________________ 76 Fleet and freight management – Further growth ahead _______________________ 80 Connected cars – Telcos search for traction _______________________________ 81 e-Health.8% p. for most __________________________ 40 Key tactics to avoid the bear case _______________________________________ 50 Diversification: work hard…for the long term ___________________ 60 m-payment. Little presentation _______________________________ 115 Exane presentation _____________________________________ 115 8 . until 2015 _______________________________ 15 Sensitivity analysis: mobile data the largest uncertainty_______________________ 28 Mobile ROCE sanity check _____________________________________________ 31 Towards an all-IP world: risks larger than opportunities? _________ 33 OTT risk on mobile voice and text: coming of age ___________________________ 34 Content OTT: more opportunity than risk.a. LHS Source: Euromonitor.0% 8% 3.RHS .5% 5% 2. the single most important growth driver in the sector. Indeed. with direct and indirect impacts.5%) (1%) (1. A decade of no revenue growth Telecom spending in Europe has remained stable as a percentage of consumer expenditure since 2002.. network capex) – conversely our bear case is probably too negative as it would see challengers’ ROCE significantly below their cost of capital.0% 6% 2.8%. our overall forecast is more bearish than average.5% 1% 0. 2) in fixed-line. However. For incumbents in their domestic markets. Expectation of a decline is consensual among industry participants but even though we expect strong growth in mobile data.9GB in our core scenario. broadband and pay-TV are still far from big enough to offset the decline in traditional telephony.Telecom Operators ICore revenue decline is here to stay We expect core revenues from European telecom services to continue decreasing until 2015e. On the other hand.a. regulation. and average revenue per GB of EUR7 versus EUR6 in our core scenario.8% CAGR). by 1. partially offset by +5.0%) (2%) (1.8% CAGR).6% p. yoy .4% in mobile and -3. we expect the 2011 trend (-2%) to continue in the coming years. Little.8% in pay-TV. for three key reasons: 1) the risk of cannibalisation of voice and text revenues has increased. including a CAGR of -2.5%) (3%) 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 % of consumer spending .5% 7% 3.0% 4% 1. at around 2. Figure 5: Telco spending stable as a % of consumer spending since 2003 4. would enable the whole sector to return to growth (+0. competition. Arthur D. The largest uncertainty in the sector is mobile data monetisation: assuming 2015e data traffic per smartphone of 2. we model core revenues down 3.8% per year on average. thereby driving massive consolidation in our view (ultimately this would prove positive in terms of market structure).5GBytes/month instead of 1. 3) the tough economic context is here to stay. stronger cannibalisation of voice and text could lead to an even faster decline (-3. due to higher exposure to fixed telephony and despite their opportunity to gain market share in pay-TV.5% 3% 1. our analysis of mobile operators’ return on capital employed shows that the bull case is too optimistic as it would imply operators’ increasing their returns despite the tough environment (economy.4% in fixed-line.0% 0% (0.0% 2% 0. Exane BNP Paribas estimates 9 Telecom spending. a result of growth in the smartphone base (almost +50% yoy in Q4 11) combined with growth in the average traffic per smartphone. for reference. Mobile: strong usage growth continues… With mobile SIM card penetration having surpassed 100% since 2005 in Western Europe. Data traffic from smartphones is growing by more than 100% yoy. and 2) strong volume growth. given the 133% mobile penetration of the population). with good growth in mobile until 2008. 2) SMS usage. driven now primarily by smartphone adoption. However volume growth has continued in European mobile in terms of: 1) voice traffic (+4% in 2011). the UK and the Nordics (penetration >33% as a percentage of mobile customers). to an estimated 35% yoy. smartphone penetration in Europe stood just above 28% of mobile customers (corresponding to up to 38% of the population. but the US remains more advanced (46% of customers at AT&T and Verizon Wireless).Telecom Operators This apparent stability has masked 1) divergent trends in different sub-sectors. offset by a progressive decline in fixed-line. 10 . The majority of handsets sold in Europe are now smartphones (figures publicly quoted by operators vary between 30% and 90% in regards to Q4 11. despite the economic crisis in Europe. The growth in mobile data traffic has slowed. in mobile but also in broadband. this stood at 70-80% at Verizon Wireless and AT&T in Q4). customer growth has slowed to 2% per year since 2009. offset by significant pricing pressures – driven by competition and regulation. which had represented up to 90% of total data traffic in 2009-2010 depending on the countries and which is now declining for several operators (notably Vodafone and Mobistar). Little. Figure 6: Smartphone penetration has doubled in the last two years Smartphone penetration in Europe Smartphone penetration by country (% of mobile users) 40% 50% 38% 45% 35% 35% 40% 31% 30% 28% 30% 26% 25% 35% 25% 22% 21% 20% 20% 19% 17% 15% 15% 10% 10% 5% 0% 5% BE PT DE Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 Q1 11 Q2 11 Q3 11 Q4 11 % of mobile customers % of population Q4 10 IT SP FI FR DK NO UK SE NL US Q4 11 Source: Arthur D. Exane BNP Paribas estimates Smartphone penetration has continued to grow by 2 percentage points (of the mobile customer base) per quarter throughout 2011. We estimate that at the end of 2011. although this is now declining in some markets. The European countries with the highest smartphone penetration are the Netherlands. and 3) data. up from 20% in 2010 and 14% in 2009. but this is largely because of traffic generated by dongles. including: – EUR14.Telecom Operators Traffic per smartphone currently stands in a range of 200-400MByte per month in Europe – but the newest/most advanced smartphones.2 from SMS: SMS revenues still grew in the first nine months of the year but stalled in Q4. down 7% yoy despite the 4% yoy growth in traffic – pointing to a yoy decline in the average price per outgoing minute of more than 10%.4 from data. Mobile revenues represented EUR25. such as the iPhone4S. Arthur D.6 from outgoing voice. a relatively steady pace of growth despite the base effect. compared to the positive contribution of data. estimated down more than 25% yoy given the steep cuts in mobile termination rates (see below). generate much higher traffic (>700MByte/month). – EUR4. ending the period on a very negative note: -4. Exane BNP Paribas estimates 11 . Little.2/month per capita in 2011. video). yoy growth 40% 6% 35% 3% 30% 0% 25% 20% (3%) 15% (6%) 10% (9%) Q1 07 Q2 07 Q3 07 Q4 07 Q1 08 Q2 08 Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 Q1 11 Q2 11 Q3 11 Q4 11 5% SMS Q1 07 Q2 07 Q3 07 Q4 07 Q1 08 Q2 08 Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 Q1 11 Q2 11 Q3 11 Q4 11 Voice 0% Non-SMS data Source: Arthur D. with data revenues up 23% in the year.8% per year over 2008-2011. – EUR2. reflecting the massive negative impact of the decline in voice revenues.0 from incoming voice. – EUR4. data and SMS to the sector’s top-line trend. the wider range of applications and the richer content (e. Figure 7: Mobile data traffic growth TeliaSonera Bouygues Telecom O2 Europe O2 Germany Vodafone Europe Mobistar Q4 10 Q1 11 Q2 11 Q3 11 Q4 11 57% 15% 85% 65% 48% 34% - 79% 21% - 69% 19% - 57% 57% 46% 32% 20% 15% Source: Company reports. due to the faster speeds of the hardware.g. Little. The chart on the left hand side of Figure 8 below shows the contributions of voice. according to our estimates – although the picture varies significantly between markets and operators. European mobile service revenues have been declining by 1. SMS and data contributions Data revenue. Figure 8: European mobile service revenue trends Voice. Exane BNP Paribas estimates …but the decline in voice revenues largely outpaces the growth in data Despite this continued strong growth in mobile usage.2% yoy estimated in Q4 11. Little.e. this impact will continue in 2012 and 2013. Based on glide paths published by national regulators for the next few years. Figure 10: Fixed broadband penetration in Europe Fixed broadband penetration (% of households) Fixed broadband penetration by market. In 2011. This represented an estimated drag of -4% on the European mobile top-line. 2011 (% of households) 75% 100% 70% 90% 80% 65% 70% 60% 60% 55% 50% 50% 40% 45% 30% 40% 20% 35% 10% 30% 0% 2007 2008 2009 2010 NL 2011 Source: Arthur D.041/min. Increasing penetration in fixed broadband… On the fixed-line side. excluding these MTR cuts the sector’s revenue would have been flat in Q4 11. impact of regulation Volume versus price MTR impact 4% 15% 3% 10% 2% 1% 5% 0% 0% (1%) (5%) (2%) (3%) (10%) (4%) (5%) Q1 07 Q2 07 Q3 07 Q4 07 Q1 08 Q2 08 Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 Q1 11 Q2 11 Q3 11 Q4 11 (15%) Voice revenues Traffic Q1 09 Price Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 Service revenue growth Q1 11 Q2 11 Q3 11 Q4 11 Adjusted for MTR Source: Arthur D. more widespread availability of broadband and the development in triple-play and new TV services: better quality (HD) and more features (e. in particular mobile termination rates (MTR). MTRs stood on average at EUR0. catch-up TV).g. growth in broadband has been continuously driven by PC adoption.Telecom Operators Figure 9: Mobile voice revenue drivers: volumes and prices. Exane BNP Paribas estimates 12 FR UK BE EU DE SE SP AT IT PT . i. Little. down 31% yoy. Exane BNP Paribas estimates The decline in voice revenues is notably driven by regulation. albeit at a slightly milder rate. i. Little.). the transition from traditional telephony to broadband comes with a more competitive market. but penetration of fixed telephony remains higher). up 2. Aggregating the total number of subscribers of cable companies. we calculate that pay-TV penetration of European households reached almost 52% at the end of 2011. so there is still growth potential as the lower-penetration countries catch up in the coming years. fixed broadband penetration reached 69% in Western Europe. of which EUR26.Telecom Operators At the end of 2011. …but total fixed-line revenues are declining Excluding pay-TV. Figure 11: Pay-TV* penetration in Europe Pay-TV penetration (% of households) Pay-TV penetration by market.9 percentage points over the period. particularly in markets where IPTV is most advanced such as France.3 is for broadband (ARPU is higher on broadband than on fixed telephony. we include all customers with pay-TV services. Pay-TV a growth market – but small compared to telecom services Pay-TV penetration has also been growing.5% pa. 2011 (% of households) 100% 54% 90% 52% 80% 70% 50% 60% 48% 50% 40% 46% 30% 20% 44% 10% 42% 0% 2008 2009 2010 NL 2011 BE FR PT DE UK EU SE SP IT * In this chart. up 1. cable and IPTV – which leads to some double counting. The most advanced markets show penetration of more than 80% while many are still below 70%. satellite. which is mainly provided by satellite and cable operators. Traditional telephony remains the main negative revenue driver in the sector – as volumes have constantly decreased due to the migration of fixed telephony over the internet (voice over IP) and increasingly social networking has replaced traditional voice calls.5 percentage point yoy. Source: Arthur D.3 is for traditional telephony (including line rental) and EUR23. fixed-line (excluding pay-TV) represented an expenditure of EUR49.e. albeit more slowly than broadband.) not offsetting the decline in traditional telephony (down 7% pa. Exane BNP Paribas estimates 13 . as many IPTV customers also subscribe to a premium pay-TV bouquet (hence are counted as customers of the satellite operator). on the back of broadband adoption. i.6/month in 2011e. incumbents have been losing market share to alternative carriers and cable operators (average incumbent market share on broadband of 42% currently versus 45% in 2007). satellite operators and telcos providing IPTV. with growth in broadband revenues (up 4. fixed-line revenues have been declining by 2% per year over 2009-2011.e. On a per household basis. and the number of broadband customers in Europe was still up almost 5% yoy. In addition. BSkyB in the UK).g. For instance pay-TV in Italy mainly reflects the premium pay-TV services offered by Sky Italia. it makes sense in our view to aggregate the fixed-line and pay-TV markets (see pages 45-47 for our analysis on the importance of TV for telcos). Pay-TV penetration in the US is 85%. In addition. Given the rise in triple-play (pushed by telcos and cable operators across Europe.3 10 40% 0 12.0% 42% 30 13.5% yoy.5 43% 22.5/month). ARPU of EUR24.6 13. penetration in Germany is likely to remain below average given the attractiveness of free-to-air satellite TV). driven by a 4% CAGR in customer numbers combined with increasing ARPU.5% 21. broadband and pay-TV revenues 70 EUR/month per household 60 Broadband market shares 15.a. Figure 12: Fixed-line.5% 45% 11.7 12. Although each market must be analysed on a local basis (e. Germany and France are above 50%. while in France our pay-TV penetration figure includes not only cable and satellite but also all broadband customers using IPTV. the total spend per household on fixed-line and pay-TV reached EUR62. unlike telecom service revenues. Italy and Spain are still below 25% while the UK.4 41% 28.3/month in 2011. As shown in Figure 12 on the left hand side.5% 20 30. we believe that there is further penetration potential in pay-TV in Europe.5 23.7/month in 2011 (penetration of 52%. over 2009-2011.Telecom Operators Penetration discrepancies remain large between markets: e. as the growth in payTV revenues was not sufficient to offset the decline in fixed-line telecom revenues.7 15.0% 44% 50 40 14.4 14. pay-TV revenues have been growing by an average of almost 5% p. Exane BNP Paribas estimates 14 2009 2010 2011 Altnets (lhs) . Average spend per household on pay-TV has reached EUR12. down c1.g. Little. and in one particular case by a satellite operator. broadband and pay-TV trends Fixed-line. and Belgium and the Netherlands are above 95% (cable markets).0% 26.5% 2007 2009 Fixed telephony 2010 Fixed broadband 2011 2008 Incumbents (lhs) Cable (rhs) Pay-TV Source: Arthur D.0 12. These penetration figures reflect different situations in different countries. 5 228.8%) * Excluding revenues from ‘verticals’ and including mobile termination rate cuts Source: Arthur D. – pay-TV revenues CAGR of +5.8% 5.7 86.4%. Figure 13: Central scenario – Estimates for the core services of European telecom operators* EURbn 2010 2011e 2012e 2013e 2014e 2015e 2011-2015e CAGR Mobile service revenues Mobile voice Interconnect Outgoing Mobile data SMS New data Fixed-line revenues Fixed telephony Fixed broadband Pay-TV Total revenue incl pay-TV 110.2 15.1 51.3 42.2 47.1%) (11.5 46.9 50.2 26. with telephony down 10% per year and broadband up 3%.3 11.9 48.8% (1. revenue CAGR of -2.1 218.4 8. we are even more so Compared to a few years ago.2 35.5 61. revenue CAGR of -3. Exane BNP Paribas estimates The industry is cautious.6 16.8 66.7 223.7 17.4%) (12. the consensus regarding the sector outlook among the companies interviewed has deteriorated significantly.9 29. and 2) our forecast of persisting growth in mobile data revenue over the whole period.a.4 83. by c.5% in 2014e and by c.4% in 2012e and 2013e.7 40.1 70.6 213.7 23. operators focusing on a specific sub-segment with better fundamentals.Telecom Operators Core market scenario: -1. reflecting local conditions).9 49.8 23.8 56.4%) (10.1 209.2%) 2. Little.1%) 11.8 62. by c.8%) (30.7 97.2 97.0 38.6 107.8 31. until 2015 We expect overall revenues of European telecom operators’ core services to keep declining in the coming years.2 3. Our overall sector forecasts reflect: – on mobile.8 2. 15 . -8% on SMS and +23% on mobile data.7 5.7%) 23.1.8% (2011-2015 CAGR).8% p.6 28.9 92.9 47.4%.4% (7. The two reasons for the progressive improvement are 1) the end of large MTR cuts in 2014e. – This year.8 56.0 22.8 54. – The weighted average expectation of the 79 interviewees that provided an estimate stands at -0.8%.4 80.3 89.7 207.1 43. – on fixed-line. and operators in specific markets such as the Nordics or Austria.7 (2.4 17. the overwhelming majority expect revenues to decline between 2011 and 2015: only 20% expect revenues to remain stable over the period.7 103.9 43.4 44.2 95.8 25.6 15.2.1% in 2015e – hence a CAGR of -1. and 9% expect them to grow (those expecting growth fall into three categories: challengers gaining market share.7 44.9 28.1 40.1 17.4 12.6 32.9 36.6 99.7 36.2% (3. as detailed below.8%.9 44. with -13% on voice.1 45.2 2.8 18.3 53.8 78.9 41. 2% in Q1 12. and merely to stabilise in 2013e. 2) our expectation that the fixed market will continue to decline.8% CAGR forecast is more cautious than this industry consensus. limited hopes of underlying improvement in consumer confidence or business trends in the coming years. over the period.3% in 2012e. driven by regulation. competition but also cannibalisation by data.Telecom Operators Figure 13: Interview feedback – 71% expect the industry revenues to decline % of respondents split by their expectations for the sector’s top-line over the next few years 35% 30% 25% 20% 15% 10% 5% 0% <-2% -2% / -1% -1% / 0% Flat 1%+ Source: Arthur D. The key drivers of our scenario are: 1) our view that pressure on legacy mobile revenues i. The tough macro context is here to stay: direct and indirect impacts The European economy has deteriorated in recent quarters. Exane BNP Paribas estimates Our -1. Given the long term nature of the ongoing ‘deleveraging’ process in Europe.1% pa. 16 . excluding pay-TV) would decline by 2. as the compound effect of austerity measures (lower spending. Telecom Italia recently published its 2011-2014 plan which is based on the group’s expectation that the overall Italian telecom services market (fixed + mobile. Little. with growth drivers such as broadband and pay-TV not big enough to offset the decline in traditional telephony. As shown in the charts below. consumer spending in the Eurozone is expected to decline by 0. and 3) an expectation that the difficult macroeconomic environment in Europe is here to stay – i. As another point of reference. consumer spending declined by 0.8% in Q4 11 and is expected to decline by 1.e. voice and SMS can increase further. In the Eurozone.e. Exane BNP Paribas economists expect the economic environment to remain difficult not only for a few quarters but for several years. higher taxes) increasingly impacts consumer spending. Nordics Italy. the European mobile service revenue trend (restated for MTR cuts) slowed from +2. 1) Direct impact: In 2009. ex-MTR) 7% 4% 6% 3% 5% 2% 4% 3% 1% 2% 0% 1% (1%) 0% (2%) (1%) (2%) (3%) (3%) (4%) (4%) Q1 09 (5%) 2008 Service revenue 2009 2010 Ex-MTR 2011 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 Q1 11 Q2 11 France. UK. Figure 15: European mobile trends have shown they are not immune to the economy YoY service revenue trends versus GDP The North vs. a weak economic environment has a direct impact on B2B revenues – the area most impacted in 2009. Germany.8%). in particular on mobile (lower traffic.7% in 2008 to -4. and consumers are likely to optimise their bills.7% to +0. In the following year. in particular less international travel. Little. Belgium. including telecoms. the ex-MTR service revenue trend returned to +2. corporate customers getting tougher at renegotiations). increasing the risk of voice and SMS substitution by data. as well as two types of indirect impact: low-cost challengers should be more successful than they would have been in a growing economy. Such macro-pressures on the sector are likely to continue in the coming years. Corporate customers are themselves less active (less lines and less traffic) and focus on efficiency in all domains. consumers more budget-conscious.2%. In particular.1% in 2009.Telecom Operators Figure 14: The tough macro-environment is here to stay GDP and consumer spending growth in the Eurozone GDP growth in selected European countries 5% 8% 4% 6% 3% 2% 4% 1% 2% 0% 0% (1%) (2%) (2%) (3%) (4%) (4%) (6%) SE 2013e 2012e 2010 2011e 2009 2008 2007 2006 2005 2004 2003 2002 2001 2000 1999 1998 1997 1996 (5%) DE UK 2010 GDP * European Union average NL EU* 2011e BE FR SP 2012e IT PT 2013e Consumer spending Source: Exane BNP Paribas Economics Team We believe that this economic context will have both a direct impact on telecom revenues. Spain. Portugal GDP Source: Arthur D. Exane BNP Paribas estimates 17 Q3 11 Q4 11 . as GDP returned to growth (+1. as European GDP dipped from +0.1%. South divide (yoy service revenue. combined with the controversial claim that French customers have been paying too much for their mobile services for years. both on the fixed broadband side and on the mobile side. at the expense of mobile leaders Telefónica and Vodafone. Spanish challengers have seized the opportunity with growing success. while the outgoing voice minutes per customer were down 4% yoy – both reversing from growth less than a year ago. Spain is a good example of this: since the end of 2008. Exane BNP Paribas estimates The chart above shows that: – between Q4 08 and Q4 11. the difference between Northern and Southern Europe in terms of mobile service revenue evolution is telling.Right * Mobile leaders: Telefónica and Vodafone Source: Arthur D. the combined market share of Orange and Yoigo went up from 19% to 25% during the same period. customers are getting more sensitive to price. 3) Consumer behaviour impact: Finally.Right Orange + Yoigo . Even though it is early days. has generated a huge buzz effect and massive customer intake.Telecom Operators As shown by the right-hand chart above. where KPN has suffered from an unprecedented cannibalisation of SMS usage by data. – in mobile. fixed broadband . the tough macro-environment can accelerate shifts in consumer behaviour.Left 19% 5% 74% 52% Jazztel Mobile leaders* . 18 . Little. The most striking example is that of the Dutch mobile market. We expect challengers to continue to benefit from such a favourable backdrop in the coming years – driving continued price pressure and market share redistribution in telecom markets in Europe. highlighting how contrasting macro-economic environments lead to contrasting mobile revenue trends. The company’s aggressive SIM-only offers. the number of SMS per customer was down 19% yoy at KPN’s Consumer division. Telefónica’s broadband market share has shrunk from over 58% to 51% (Telefónica has lost customers in absolute terms since Q2 11). the Free Mobile launch in France is also interesting. while Jazztel has more than doubled its share from 4% to almost 10%. In Q4 11. Figure 16: Market share trends in the Spanish fixed broadband and mobile markets Leading operators’ market shares Challengers’ market shares 62% 82% 12% 26% 11% 25% 10% 24% 60% 80% 58% 23% 9% 78% 22% 8% 56% 21% 7% 20% 76% 54% 6% 72% 50% 48% 18% 4% 17% 3% 16% 2% 70% 15% Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 08 08 08 08 09 09 09 09 10 10 10 10 11 11 11 11 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 08 08 08 08 09 09 09 09 10 10 10 10 11 11 11 11 Telefonica. 2) Competitive impact: As the economic backdrop worsens. 19 . Exane BNP Paribas estimates Interviewees have also pointed to other growth drivers for telecom operators – much more emphatically than in previous years – in particular: ICT (including cloud services) and new/adjacent services such as m-payment.Telecom Operators Figure 17: KPN mobile consumer usage trends Voice minutes per customer SMS traffic per customer 120 35% 70 35% 30% 30% 60 25% 115 20% 25% 20% 50 15% 15% 110 40 10% 5% 105 10% 5% 30 0% 0% 20 (5%) 100 (10%) -5% -10% 10 -15% (15%) 95 (20%) Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 08 08 09 09 09 09 10 10 10 10 11 11 11 11 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 08 08 09 09 09 09 10 10 10 10 11 11 11 11 MoU per month -20% 0 YoY Outgoing SMS per customer per month YoY Source: KPN. We focus on these new growth opportunities in pages 60-94. and generally machine-to-machine applications (M2M). etc. Figure 18: Contributions to sector growth 6% 5% 4% 3% 2% 1% 0% (1%) (2%) (3%) (4%) (5%) (6%) (7%) 2010 MTR Mobile data 2011 2012e Voice & text 2013e Fixed telephony 2014e Fixed broadband 2015e Pay-TV Source: Arthur D. Little. Arthur D. We detail our assumptions for these key growth drivers in the following pages. while fixed-broadband and pay-TV are also incrementally positive. utility meters. Exane BNP Paribas estimates Where is growth going to come from? Mobile data is currently the key growth driver in the sector. Little. The chart below highlights the key role expected from mobile data as well as the positive contributions also expected from fixed broadband and pay-TV. This corresponds to the use of wireless technology to enable all kinds of machines to communicate – including cars. this is fully consistent with the industry view. As shown in Figure 19 below. and SMS revenue dropping from EUR4.5 (including the impact of MTR). Figure 20: Forecasts for mobile service revenue per inhabitant in Europe EUR per month per pop.7 0.5 10 3.5 0.0.2/month in 2011e to EUR22.0 15.2 15 10. from EUR25.0 2.8 2.7 14.5 6.2 to EUR3.4 5.5 2010 2011 2012e 2013e 2014e 2015e 0 Mobile termination Voice outgoing Source: Arthur D.3 11.6 20 4. Cloud New TV services New/adjacent services Pay-TV M2M mpayment. we therefore model mobile revenue per inhabitant dropping by 2. Exane BNP Paribas estimates 20 SMS Mobile data .5 to EUR9.1 4.1 3.0 1.2 4.4/month per inhabitant in 2011 to EUR10.4 5 9. Little.2 4. Overall. B2B. NFC CDN Wholesale Gaming 0 5 10 15 20 25 30 35 40 45 50 Source: Arthur D.7% per year.9 3. Little.6 13.Telecom Operators Figure 19: Interview feedback – Mobile data to remain the key growth driver Number of interviewees having quoted different potential growth drivers for telecom operators Mobile data Fixed broadband ICT.7 8. 30 25 3.3 0.5 in 2015e.9 10. Exane BNP Paribas estimates Mobile revenues expected to decline despite strong growth in data Our estimates point to mobile data revenues more than doubling from EUR4. we model mobile voice revenue per inhabitant falling from EUR16.1/month in 2015e – but over the same period. we calculate that the average revenue per GByte in the European mobile industry was EUR40-50 in 2011 (versus more than EUR80 in 2010). Based on the current data revenues and estimated traffic. This leads to mobile data revenue CAGR of 23% over 2011-2015e.9GByte/month.4 20 0. Figure 21: Key assumptions on smartphone penetration.e. As discussed below. only a mild acceleration compared to the increase observed during 2011 (+12ppt).8 30 0. any small move in either of the variables can have a massive impact on trends for the whole sector. basically in line with the 24% CAGR observed over 2009-2011.8 80 1.2 10 0.4 60 1.Telecom Operators There is little doubt that mobile data traffic has a bright future: – smartphone penetration has grown faster than we anticipated in 2010. We discuss this assumption in page 53. Exane BNP Paribas estimates 21 EUR/GB EUR per GByte Smartphone penetration and data traffic growth . However.0 2009 2010 2011 2012e 2013e 2014e 2015e Smartphones % of pop.0 0 2009 Total traffic 2010 2011 2012e 2013e 2014e 2015e Traffic per smartphone (GB) Source: Arthur D. How will this huge usage increase translate at the revenue level for telcos? This is arguably the largest unknown in the sector. We now model 95% population penetration by 2015e.6 70 1.2 50 1. – the average traffic per smartphone currently stands in the 200-400MByte/month range. 2. usage and revenue 7 80% 6 70% 5 60% 4 50% 40% 3 30% 2 20% 1 10% 0% GB/month per smartphone 90% Data traffic (millions of TB/month) 8 100% Smartphone penetration (% of pop) Traffic per smartphone versus price per GByte 0 90 1. we must emphasise that visibility is very low regarding the balance between the expected growth in traffic and the expected decline in prices. corresponding to a pace of 14 percentage points per year. The growth in data traffic impacts network capacity requirements hence capex. Little. and operators need to establish a link between consumption and revenue generation. providing room to increase long term penetration estimates. and under our core scenario we estimate this will grow to 1. CAGR of -40% until then. and under our core scenario we estimate that this will drop to EUR6 by 2015e i. The growth in data revenues is key not only for the whole sector revenue outlook (the single biggest contributor in the next five years) but also for its profitability.6 0.0 40 0. 2 8.1 1.2 13 28 25 3. down from EUR0.6 15.0 0.8 4.028 0. On average.8 1. ex regulation 2010 2011 2012e 2013e 2014e 2015e 2011-2015e CAGR 882.8 2.0 1.0%) (10.1 22.8) 1. slowing down only modestly compared to the latest trend (+2. or iMessenger in Apple’s devices) – see details in page 34. the rate of decline should be slightly milder from 2012e – as shown in the table below – but the MTR impact will not stop being significant before 2014e.9 11.e.5 3.8 38 57 58 4.359 0.329 0.5 3.0 9.3 10 23 15 2.011 0.7 (1.3%) 18.4) 3.01/min by 2014.1%) (8.6 1. We expect SMS revenues to be cannibalised over time by messaging applications.09/min to EUR0. Exane BNP Paribas estimates 22 .1 7. (EUR/mth) SMS revenue per pop.4) 0. This does not include a large cannibalisation of traditional mobile voice traffic by mVOIP or by messaging – which represents a risk to our scenario. (EUR) Voice interconnect (EUR) Voice outgoing (EUR) Voice revenue per pop.6%) Source: Arthur D.386 0.077 0.069 961.1) * Average over the full year.841 0. Figure 22: Core scenario – Revenue outlook for mobile voice and SMS Mobile voice & SMS drivers Total traffic (million minutes) Average revenue per min.8 1. per country. – we expect the average price per outgoing minute to decrease by 12% per year. the average mobile termination rate in Europe stood at EUR0.5 3.3 (1.5 7. We estimate that this corresponded to a drag of 4% on the European mobile topline in the year.2 3.097 919.3 1.060 970.4 3.4% voice traffic CAGR until 2015e.7 2.4% (13.8 2. our core scenario largely reflects continuity compared to current trends: – we model +1.5 2.7 3.8 5.0%) (12.4 4.8 1. On SMS however.1 1.6 23 37 30 4.015 0. from the current EUR0.4 6.009 0.5 4.5 19.7 14.9 6. Little. Visibility on MTRs in the coming years is good.0 0. it has already been reached in many offers across many markets. in line with European Commission recommendations.7 1.9 8.Telecom Operators Regarding voice.8 1.2) (29%) (30%) (28%) (30%) (31%) (27%) (27%) (20%) (17%) (25%) (12%) (31%) (29%) (1. This is a sharp decline.973 0. Little.0 10 19 10 2. Figure 23: Mobile termination rates in Europe* EURcents per minute 2009 2010 2011 2012e 2013e 2014e 2015e CAGR 09-15e France Netherlands UK (GBpence) Italy Germany Spain Portugal Sweden (SEK) Denmark DKK Norway (NOK) Finland Belgium Average big 8 YoY in EURc 5. i.3 5.042 0. Exane BNP Paribas estimates Regulation to remain a significant drag until 2014 2011 was the year with the biggest impact from MTR cuts ever.6 4.041 0.0 12.8 16.049 0.6 7. Source: Arthur D.041/min.057 0.059/min in 2010.7 4.3 29 48 50 4.059 0.5 14.087 937.7 3. In 2011.7 1.05/min by 2015e.052 1.4) 2.5 0.2 18.5 5.8 8.3 6.3% in Q4 11).9%) (31. Voice & text per pop.1 (0.1 (1.089 0.2 20.5 4.2 10 21 12 2.0 (13.9 (1.3 1. They are expected to reach EUR0.8 17. an important change of trend compared to the last few years (SMS revenues were up 3% in 2011).2 7.774 0.5 3.3 4.7 1.0 1.9 16.1 0. we take a more aggressive stance: we expect this revenue stream to decrease by 8% per year in the period 2011-2015e.6 2.3 4.5 5.067 0.5 14.2 0.5 12.078 951. Voice & text per pop.3 2.2) 0.4 12. with MTRs of different operators weighted by market shares.1%) (12.9 0.9 (0. both independent services (such as WhatsApp or equivalent) and smartphone-native applications (such as RIM Blackberry Messenger.8 6.4 (1.0 1.4) 0.7 18.7 1.0 6.3 1.05/min could prove optimistic.0 3. Such cannibalisation has started notably in the Netherlands (see Figure 17). but again in line with the latest trend and the long term level of EUR0. driven by +4.The European Parliament is pushing for steeper reduction in retail roaming fees than proposed by the European Commissioner Nelly Kroes in 2011.RHS Source: Arthur D. Under the Parliament's proposal. rather than 3G).8% per year until 2015e. proposing: EUR0.e. 20% of broadband customers by 2015e).05 (versus EUR0. allowing customers to sign up (from 1 July 2014) for a cheaper mobile roaming contract.Telecom Operators Further risk on roaming . This is a potential additional negative for the sector. a continued pace of penetration of three percentage points per year. Discussions are ongoing to reconcile the two sets of proposals. e-commerce. e.10). Figure 24: Key drivers of our fixed-broadband and pay-TV revenue estimates Penetration (% of households) ARPU (EUR/month) 80% 18% 50 70% 16% 45 14% 60% 12% 50% 40 35 30 10% 25 40% 8% 30% 20 6% 15 4% 10 10% 2% 5 0% 0% 0 20% 2009 2010 2011 2009 2012e 2013e 2014e 2015e Normal broadband 2010 2011 Normal broadband Pay-TV Pay-TV Super-fast bband . with an incremental ARPU of EUR10/month i.20/MB (versus EUR0. We model super-fast broadband penetration growing from 3% of households at the end of 2011e to 16% in 2015e (i. Roaming rate reductions are therefore likely to end-up being more aggressive than anticipated.7% CAGR in customers and -1.8% CAGR in ARPU. Roaming still represents 5-8% of European mobile operators' revenues and a slightly greater share of EBITDA.g. etc. and 3) an internet connection is becoming increasingly necessary in the every day life (e-administration. separate from their contract for national mobile services.15/min for voice calls (versus Kroes’ proposal of EUR0. the caps proposed by Ms. whilst using the same phone number. we believe that such growth can be sustained in the coming years because fixed broadband will become indispensable for more and more households: 1) it is becoming an increasingly popular way to convey TV/video services – see page 40. Even though our penetration estimate may look optimistic. Kroes would come into force in July 2012. 2) the explosive growth of connected devices within homes (smartphones and tablets) will require faster and faster broadband (most tablets are connected to the internet thanks to fixed broadband connections. EUR40 versus EUR30 in the long run (NB: these figures refer to ‘broadband only’ ARPU.e.50) and SMS capped at EUR0. The Commission is also willing to introduce structural measures to boost competition in the roaming market. not double-play or triple-play ARPU).).e. via WiFi.24). Exane BNP Paribas estimates 23 2012e 2013e 2014e 2015e Super-fast bband . Still growth in broadband We model broadband revenue growth of 2. We expect broadband penetration to reach 82% of households by 2015e compared to 69% in 2011 – i. Little. data capped at EUR0. but the steeper cuts would be implemented from 2013. 6% 9.1% 78.332 124.2 10.1% 66.1 40.2 10.986 99.0 -1.140 104.080 37.6% 0.4 21.5% 2.9 23.105 19.771 44.9 13.8% 25.5 12.969 2.3 10. i. and telcos’ TV ARPU around EUR10). while cable operators’ TV ARPU is around EUR20/month. – ARPU expected to continue growing by 2% pa.8 25.8 15.294 104.0 32. Little.736 1.4% 12.3% Broadband revenues (EURm) of which super-fast of which normal Broadband customers (000) of which super-fast of which normal Broadband penetration (% of HH) of which super-fast of which normal Super-fast in broadband customers Broadband ARPU (EUR/month) of which super-fast of which normal Super-fast premium Pay-TV customers (000) Pay-TV penetration (% of HH) Pay-TV ARPU (EUR/month) 2.3% -3.9% 64.888 56.434 40. cable and IPTV providers.775 4.2 33.007 1. Figure 26: European Pay-TV KPIs Split of customers between legacy providers (cable and satellite) and incumbents IPTV services 2011 TV ARPU of selected players* 90 50 80 45 40 70 EUR/month Customers (m) 35 60 50 40 30 25 20 30 15 20 10 5 10 Legacy pay-TV DTH (satellite) Incumbents IPTV Cable PT Orange F DTE KPN BGCM Ziggo Zon TNET VMED Sky DE Sky IT Sky UK Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 09 09 09 09 10 10 10 10 11 11 11 11 Canal+ 0 0 IPTV * Belgacom’s IPTV ARPU is stated as reported.7 -10.3 23.217 129.355 53.1% 66.e.559 8.4 91.8% 54.6 22.965 41.0 80.0 33.0 3.619 25.3% 2.7% 24. Exane BNP Paribas estimates Pay-TV: customer growth and ARPU growth In pay-TV.4% 26.0 26.211 5.7 41.0 33.695 4.8% 12.4% 65.3 30.327 46.100 48.9% 69.8% 66.4% Source: Arthur D. per HH 28.8 12.2% 1.0% 35.356 113.2 10.5% 5.626 14.5% 8.6% 66. with the discount offered to pack customers applied proportionately to telephony.2 34.8% until 2015e. in the region of EUR40/month.0% 82.5 83.1 19.1 25.0 34.109 50.0% 0.615 51.419 103. Our core scenario points to European pay-TV revenue CAGR of +5. per HH Pay-TV rev.3% 4.7% 55.935 40. driven both by penetration and ARPU: – penetration expected to increase by six percentage points i.8 88.1% -2. we include the activities of satellite.811 2.0% 16.6% 20.3% 25.5 24.2 42.0% 27..4 12.888 104.5/month to EUR27 in 2015e (NB: the ARPU of pure-play pay-TV operators such as satellite players is much higher.2 31.682 58.2 14.043 118. Exane BNP Paribas estimates 24 .Telecom Operators Figure 25: Core scenario – Revenue outlook for fixed broadband and pay-TV Fixed-line drivers 2010 2011e 2012e 2013e 2014e 2015e 2011-2015e CAGR Fixed telephony rev.4% 42.2% 24. to 58% in 2015e versus 52% in 2011e.0 32.924 103.515 41.2% 16.8 34.3% 5.2 10.572 43.1% 75.276 47.5% 102. Little.2 32.891 11.983 107.0% 78.7 23.e. broadband and TV ARPU rather than only applied to TV ARPU.1 86.5 14.8% -2.1% 72. from the current blended average of EUR24.8% 66. in line with the trend observed in 2011 (our estimate).8 43.1 46.842 3.9 16.1% 2. Source: Arthur D. per HH Fixed broadband rev.6 44.460 39.113 54.183 9. Belgium). but the evolution of the mobile market overall. incumbents core scenario Broadband market share Triple-play penetration and pay-TV share 45% 60% 40% 50% 35% 30% 40% 25% 30% 20% 15% 20% 10% 10% 5% 0% 0% 2009 2010 2011 2012e 2013e 2014e 2010 2011 Triple-play penetration Revenue share 2012e 2013e 2014e 2015e 2015e Net adds market share Pay-TV revenue share Source: Arthur D.hence the migration from traditional telephony towards broadband is a negative for them. – A stabilising broadband share. Italy. in most markets. Focus on incumbents: core revenues to decline by 3.4%). – Mobile revenues expected to decline by 3. Germany.6% pa. 2) they have been losing market share in both mobile and broadband. Exane BNP Paribas estimates 25 Pay-TV customer share . Little.6% over 2011-2015e (versus -1. we model incumbents’ revenue CAGR of -3.g. the incumbents have been gaining market share in pay-TV. reflecting a revenue market share drop from 40. This implies incumbents capturing 32% of fixed broadband revenue growth between 2011 and 2015e. that incumbents will increase FTTx investment to improve their competitive positions in fixed broadband – hence we model better market shares of net additions in the coming years. for two key reasons: 1) they have the largest exposure to the decline in fixed telephony revenues – with an estimated market share of c70% .g. based on the following drivers. the cable operator(s).5% in 2011e to 39. but given the smaller market size this is far from sufficient to offset the decline in other revenue lines. a minor underperformance versus the market (-2. This implies a future pace of market share loss at half the rate observed in the past two years.8% for the sector). Spain – but also France) and from cable operators promoting superfast broadband in the North of Europe (e.e. the Netherlands. Incumbents’ share of net additions dropped to 22% in 2011.0% pa. This is also consistent with our view that the move towards super-fast broadband will lead to a consolidation of broadband markets around two or three leaders per country. In contrast.e. The main uncertainty here is not incumbents’ market share. Figure 27: Key drivers. including the incumbent and. due to the combined push from low-cost alternative carriers in Southern Europe (e. we expect a stronger growth in pay-TV as we model continued share gains both in terms of customers and revenues.Telecom Operators For telcos in particular.4% in 2015e. i. In our core scenario. We stick to the view developed in our 2011 report focusing on super-fast broadband – i. Incumbent operators experience tougher revenue trends than the overall telecom market. much lower than that of satellite and cable operators. e. Source: Arthur D. we expect incumbents’ pay-TV ARPU to increase. telcos logically have more aggressive pricing. notably Telecom Italia (4%). The penetration of triple-play in incumbents’ customer bases stood at 24% at the end of 2011. Incumbents’ pay-TV ARPU stands in the EUR10-15/month range. We note that several incumbents are already far more advanced than this. and 3) telcos do not compete in the premium/exclusive content market. In the coming years.g. Belgacom (64% penetration of TV in the consumer broadband customer base) and KPN (52%) – as shown in the left hand side chart. up from 21% a year before. Exane BNP Paribas estimates 26 100% . Little. for three reasons: 1) as challengers in pay-TV. Deutsche Telekom (13%) and Telefónica (15%).e.Telecom Operators A continued strong push into pay-TV. and we model this increasing to 40% by 2015e. BT (12%). Figure 28 – while several large telcos are far below average. Portugal Telecom (91% penetration by the end of 2011). double-play is not offered separately from triple-play. KPN penetration based on TV customers as a % of consumer broadband customers. 2) the quality of TV over DSL is lower than with cable and satellite (however this should be solved with FTTx). but not to catch-up with that of leading players: we model EUR13 by 2015e. i. they target a lower-end segment than BSkyB or Canal+. 2-play (EUR) 16 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 14 SP 12 10 PT 8 DE BE 6 IT UK 4 NL 2 FR* 0 PT 2009 BE NL FR 2010 SP DE UK IT 0% 20% 40% 60% 80% Incumbents' IPTV penetration 2011 *In France. hence an inferred price premium of zero **Belgacom penetration based on unique TV customers (excluding multi-boxes equipment) as a % of consumer broadband customers. Figure 28: Penetration of IPTV in incumbents’ broadband customer base IPTV % of incumbents’ broadband customers** IPTV penetration versus price point 100% Telcos price delta 3-play vs. 847 40.941 48.211 26.228 38.392 18.6% 70.183 47.510 46.647 93.771 44.4% 6.621 99.9% 70.667 18% 86% 88.778 53.113 15.987 2.885 43. etc.188 97.6%) 5.632 41% 50% 4.8%) 41.139 209.235 12% 55% 80.7% 39.842 25.105 50.e.0% 41. Little.market Mobile service revenues Fixed telephony Fixed broadband Pay-TV Total revenue incl pay-TV Incumbents' market shares Mobile service revenues Fixed telephony Fixed broadband Pay-TV Sector revenue share Incumbent revenues Mobile service revenues Fixed telephony Fixed broadband Pay-TV Total Capture share of growth Mobile service revenues Fixed telephony Fixed broadband Pay-TV Overall broadband customers Incumbents broadband customers Share Share of net additions Overall pay-TV customers IPTV customers Share Share of net additions Triple-play penetration IPTV ARPU 2010 2011e 2012e 2013e 2014e 2015e CAGR 110.658 103.304 22.327 42.302 16% 79% 86.526 2.6% 40.681 (2.175 47.007 22.1% 9.8 36% 12.2 32% 11.4 40% 13.2% 70.329 17.2%) 2.4% 44.6 28% 11.0% 41.357 18.1% Source: Arthur D.5% 40.359 20.144 31.301 97.8% 4.335 34.630 43% 27% 107.829 28.860 44.1% 43.683 41% 30% 124.148 218.534 86.0%) (10.4% 45.7% 41.296 39.671 31.5% 42.Telecom Operators Figure 29: Core scenario – Incumbents’ revenue outlook Reminder .134 14% 76% 83.192 3.620 213.626 48.2% 70.3% 18% 41% 21% 9.891 29.5% 40.705 207.682 21.8% (1.3% (3.30% of the market’s revenue growth in the coming years.109 9.561 107.619 53.168 38. incumbents capturing c. We discuss the potential impact of over-the-top TV services on the telcos’ pay-TV opportunity in page 53.069 49.698 42% 22% 113.328 41.855 36.323 19.0% 41.1% 78.4% 70.0% 41.960 162% 70% 23% 34% 61% 70% 19% 25% 50% 70% 25% 24% 47% 70% 30% 28% 52% 70% 40% 32% 68% 70% 50% 37% 102. our estimates point to incumbents increasing their pay-TV revenue market share from 5% in 2011 to more than 10% in 2015e – i. VOD. 27 .615 11.775 45.105 83.722 223.3% 10.8% 5.599 37.453 23% 111% 3. reflecting 1) the growth potential into traditional pay-TV (via IPTV) but also 2) new TV services. Exane BNP Paribas estimates Overall.0% 41.4%) (10.969 44.7% 4.875 41% 40% 129. time-shifting.055 89.1% 7.0% 41. including web-based TV.9 24% 10.300 1.0 Capture share of growth 54% 70% 32% 29% (3.050 42% 25% 118.559 28.5% 70.8% 5.402 18.728 97.0% 42.576 1.1% 39.131 43. This positive view on telcos’ opportunity in pay-TV is backed by companies surveyed for this report: 32 of the 74 respondents see pay-TV as a key growth driver (more than for fixed broadband).2%) 2.361 21% 97% 91.970 988 101.888 18.5% 24.736 23.355 13.450 228.785 25.9% 39. 5/month per pop. mobile voice and text cannibalisation. the sector top-line CAGR could theoretically vary between -4.g.5/month.8% (versus -1. Based on a range of scenarios for mobile data monetisation. current increase in data allowances observed in several markets such as France or Denmark). ‘Bull and bear combined’ refers to a scenario combining all alternative scenarios. Source: Arthur D. etc. We have built a bull case assuming 2. A modest change to these assumptions can shift the whole sector outlook.9% and +1. fixed broadband developments and pay-TV pressure from OTT. which would lead to data revenue of EUR15.) – the two aspects may go hand in hand as strong volume growth would mean less capacity available in the networks and scarcer mobile frequencies. The total revenue per inhabitant.8%). driven by a combination of 1) stronger volume growth and 2) pricing discipline and innovation (i.1/month on mobile data in 2015e (excluding SMS) based on 1. and ‘Bull x2’ refers to a scenario combining our bull case n°1 (on mobile data) and our bull case n°2 (on broadband).8%. tiered pricing. which currently stands at EUR52. versus our core scenario of -1. 28 . with our core scenario pointing at EUR48: see Figures 30 and 31 below. would vary between EUR43 in 2015e in the bear case and EUR55 in the bull case. Exane BNP Paribas estimates Bull case N°1: better mobile data monetisation The main positive driver for the sector would be better than expected monetisation of mobile data. There is already evidence that such stability in the price per GB in high-end bundles will be difficult to maintain between now and 2015e (e. In such a scenario the mobile service revenue trend would turn positive (+3% CAGR) and so would the whole sector: +0.4%. Our core scenario points to average spend per person of EUR10.Telecom Operators Sensitivity analysis: mobile data the largest uncertainty The sensitivity of the sector revenue outlook in the next five years to a few key parameters is large – this is consistent with the lack of visibility acknowledged by many industry participants. this scenario seems unlikely as it would imply accelerating traffic combined with no decrease in the price per gigabyte for high-end users between now and 2015e.5GBytes per month and average revenue of EUR7/GByte (basically in line with the current average data pricing for large smartphone users). However.. Figure 30: Sector yoy revenue trends in key scenarios* 6% 4% 2% 0% (2%) (4%) (6%) (8%) 2011 Core scenario 2012e Bear x2 2013e 2014e Bull x2 2015e Bull and bear combined * ‘Bear x2’ refers to a scenario combining our bear case n°1 (on mobile voice and text) and our bear case n°2 (on pay-TV).9GBytes/month per smartphone and a data price of EUR6/GByte. Little.e. Figure 31: Core scenario – Incumbents’ core revenue outlook Mobile data Traffic per smartphone in 2015e (GB/month) Average revenue per GByte in 2015e (EUR) Mobile data revenue CAGR 2011-2015e Data revenue per pop 2015e (EUR/monthà Mobile voice & text Voice traffic growth in 2014-2015e Voice revenue CAGR SMS revenue trend in 2014e SMS revenue CAGR Voice & text revenue per pop 2015e (EUR/month) Core Bull mobile data 1.4%) (3.8% 0.0 (2.3 Pay-TV 2015e pay-TV penetration 2015e pay-TV ARPU Pay-TV revenue per pop 2015e (EUR/month) 58% 27 6.4%) 5.0 23.1 53.0% (3.4/month generated by voice and text by 2015e.7%) 12.0%) (7. In particular they are increasingly bundling voice. leading to the revenue per inhabitant from voice and text falling to EUR8. In our core scenario we have assumed that voice traffic would grow by 1% p.8%) 8. We think that implementing this strategy could at least halve the impact of this bear case cannibalisation scenario on the sector’s revenue (see page 52).4%) (1.7%) (3.5 1.6 52% 22 5. Little.7% per year in 2011–15e. However we believe that operators have understood the risk of such a scenario and are already starting to implement defensive tactics to avoid this bear case.0% (12.2%) (2.9 2011-2015e CAGR Mobile service revenue Fixed-line & broadband Pay-TV Total sector Total revenue per pop 2015e (EUR/month) Bear voice & text Bull fixed broadband Bear Pay-TV (10.7/month in 2015e – and pointing to total mobile service revenue down -6.4 Fixed broadband 2015e super-fast broadband % of broadband 2015e super-fast broadband incremental ARPU Broadband revenue per pop 2015e (EUR/month) 20% 10 11.4 46.8%) 48. As always.2% 10.4 49.5 44.7 in 2011. and that SMS revenues would fall only progressively (stable in 2012e. which in effect renders the total revenue stream insensitive to the usage mix.2%) (2.e. the rollout of LTE/4G will bring more capacity into the market and lower unit costs to operators – thereby constituting a potential trigger for mobile data price deflation. versus EUR20.8%) (26%) (20. In our bear case (see page 38) we assume rapid cannibalisation of voice and SMS revenues by over-the-top applications. the main risk to this tactic is competition.8%) 3.8%) (10. and the whole sector would see revenues decline by 3.8%) (2.5 7.0 37. i.3 Source: Arthur D.0%) (18.8% (1.4%) 5.8% pa. down 5% in 2013e. then down 10% in 2014e) – pointing to revenue per inhabitant of EUR12.8% (6.9 6. depending on competitive intensity in each market.4%) 5.1 2.4%) (3.8% (3. insensitive to a potential drop in voice and/or SMS traffic.1% 15.Telecom Operators In addition. even in the medium term. Exane BNP Paribas estimates Bear case N°1: strong cannibalisation of mobile voice & text The flipside of mobile data growth is the risk of cannibalisation for voice and text. 29 .7 40% 15 12.8%) 5.8% (1. as challengers’ may choose to continue gaining market share via aggressive pricing rather than let leaders stabilise their core revenues.a.4%) (2. SMS and data into integrated tariffs. be much more important for ‘incumbent’ pay-TV players such as satellite players and.8% pa versus -3. to some extent. remain at 52% (versus 58% in 2015e in our core scenario) and that pay-TV ARPU would decline from the current EUR24. and sector top-line would reach -1. for instance driven by a faster adoption and higher willingness to pay for super-fast broadband? This could be triggered by massive adoption of over-the-top TV services. This bull case is based on 40% of broadband customers having migrated to super-fast offers by 2015e versus 20% in our core scenario – and an ARPU uplift of EUR15/month versus EUR10 in our core scenario.6/month per household by 2015e versus EUR25.8%.Telecom Operators Bull case N°2: super-fast broadband explosion What would happen if broadband revenues developed more rapidly. This scenario clearly shows that fixed broadband is not as material a parameter for the sector as mobile data. Bear case N°2: pay-TV cannibalisation by OTT Finally. Given the relatively small size of pay-TV revenues compared to the pure telecom services it is logical that the impact of such a scenario on telcos would be minimal. It would.4% in the core scenario.8 in our core scenario.e. either by capping pay-TV penetration or by putting pressure on the high ARPU levels derived by premium pay-TV providers. to a lesser extent.2% versus -1.8% in the core scenario). 30 . cable and. This combination of optimistic assumptions would point to fixed broadband revenues of EUR28. the rise of over-the-top-players could end-up derailing growth in the pay-TV market. which would put the overall sector CAGR at -2. by extension. however.2% versus +5.8% (versus -1. as customers willing to watch movies or video over the internet would rapidly become very sensitive to the speed and quality of their broadband connection (see pages 45-47). Fixed-line revenues would decline by only 1. cable operators.8% in our core scenario). telcos (see page 40). This scenario would entail a declining pay-TV market (CAGR -2. In our bear case around this theme we have assumed that pay-TV penetration would not grow between 2011 and 2015e i.5 to EUR22 (versus slight growth to EUR27 in our core scenario). in particular satellite players but also. 1% 10% 5% 5% 0% 0% 2009 EBITDA margin Leaders 2010 2011 2012e 2013e 2014e 2015e Capex/sales ROCE Challengers Mobile leaders Mobile challengers Source: Arthur D.e. 31 . the sector’s return on capital employed (ROCE) still reached almost 18% (posttax). with leaders at 22% and challengers at 12%. core scenario EBITDA margin and capex/sales.a. the 2010 level. the sector’s ROCE should fall to 15% by 2015e. because a significant portion are variable costs but also because they have opportunities to transform their business model. the long term ROCE of the sector would return to 20%. such a scenario is unlikely as it would mean that all players. We estimate that in 2011. at 8%. 2011 40% Mobile ROCE estimates. it would indicate a significant return of pricing power. but with challengers continuing to struggle. but more significantly by the weight of the fixed assets (capex/sales of 16% at challengers versus 10% for leaders). and 2) to control capex despite the large growth expected in traffic. Importantly.e. Figure 32: Mobile ROCE analysis. we estimate that mobile leaders still enjoy a ROCE of more than 20%.8% 33. which looks unlikely given competitive pressure and regulation.. thanks notably to network sharing opportunities (see analysis on opex and capex. while challengers’ ROCE stand at 9% .Telecom Operators Mobile ROCE sanity check The European mobile sector has historically been very profitable. this outlook is based on our view that operators will be able 1) to reduce costs by 2% p.9% 15% 10% 10. Exane BNP Paribas estimates In our core scenario.2% 35% 25% 30% 20% 25% 15% 20% 15. 2009-2015e 30% 35. Little. lower than in 2009 (21%) but still high compared to the sector’s cost of capital of c8% . In our bull case on mobile (Bull case N°1).a difference driven to some extent by EBITDA margins (36% for leaders in 2011 versus 33% for challengers).indicating that the sector continues to create value. given the scale factor in this industry (see page 99). on average. Importantly. including 18% for the leaders. still a healthy return. large and small. would create much more value than today – i. on average. i. In our view. page 101-104). Telecom Operators Conversely, in our bear case (Bear case N°1), the long term returns would fall to 12% on average, with 15% for leaders (still fine) but only 6% for challengers, i.e. significantly below their cost of capital. This would be an unsustainable level, similar to that achieved by T-Mobile USA in 2011 and the key reason why Deutsche Telekom has decided to seek a structural solution for the business. In other words, we believe that should this bear case unfold, smaller operators would seek consolidation in a majority of European markets. Figure 33: Impact of scenario analysis on the sector’s ROCE 30% 26% 24% 25% 22% 21% 21% 20% 20% 20% 18% 17% 15% 15% 15% 12% 12% 10% 8% 9% 8% 8% 6% 5% 0% 2009 2010 2011 ROCE Mobile leaders Source: Arthur D. Little, Exane BNP Paribas estimates 32 2015e - Core 2015e - Bull 2015e - Bear Mobile challengers Telecom Operators Towards an all-IP world: risks larger than opportunities? For mobiles, as smartphone adoption increases, new applications enable users to save on their bills by using mVOIP instead of traditional voice and messaging instead of SMS. This risk has been around for at least a year, but it is accelerating, as: – smartphone penetration has increased faster than expected; – WhatsApp, which already carried 5% of the world’s SMS traffic in November 2011, is one of the three most downloaded paid iPhone applications in nine European countries; – Google, Microsoft, Apple, etc. all have an interest in upping their game in communication services and the growing integration of hardware and software (Google/Motorola, Nokia/Microsoft/Skype, Apple) gives them new firepower. In a bear case scenario, our 2015e mobile revenue estimate – which is already 9% lower than the 2011 figure – would be cut by another 8%. For fixed-line, over-the-top TV propositions are evolving very quickly in terms of both hardware and services – all made possible by ever faster broadband. Viewing habits are changing fast, with a massive generational effect. From the telcos’ perspective we believe that OTT TV is not risk free, but it is overall more a positive than a negative: 1) whatever the impact on pay-TV, telcos have limited exposure to downside in this market; 2) playing the OTT game is an opportunity for telcos to differentiate from legacy pay-TV players; 3) last but not least, OTT TV should have a positive impact on fixed broadband, pushing towards faster speeds. Operators are generally concerned by the OTT risk on mobile and see OTT content as an opportunity. They are not standing on the sidelines in this respect. The most effective moves expected from telcos are: 1) price bundling – which we think can basically halve the risk of cannibalisation of mobile operators’ legacy revenues; 2) tiered pricing, in mobile but also in fixed – to make sure that revenues increase in line with traffic growth; 3) leveraging the box, in fixed-line; and 4) developing wholesale revenues from OTT providers, although this is difficult to quantify except for the CDN activity, a relatively small opportunity. The risk for telcos of becoming ‘dumb pipes’ Voice (fixed and mobile) revenues are declining while data is growing – on both fixed and mobile. This current rapid migration towards an “all-IP” world is not only driving accelerated traffic growth but also enables new forms of competition to traditional players, called the “over-the-top” competition. – The “Over-the-top” (OTT) acronym initially applied to TV and was related to customers’ ability to stream or download movies or TV shows directly from the internet via a broadband connection, bypassing the traditional pay-TV business model. Over-the-top TV has large implications for both the pay-TV operators, cable operators and telcos. In particular, OTT TV can cannibalise pay-TV revenues as customers can choose content from new, less costly sources – and it can drive huge internet traffic growth. – This OTT concept also applies to communication services. Thanks to web-based service providers, customers can make voice calls over IP rather than with their legacy operator (Skype being the historical example on fixed telephony) – and/or send emails/messages via WhatsApp, RIM’s Blackberry Messenger or Apple’s iMessenger rather than SMS. Transporting a minute of voice or an SMS over IP is much less costly for the customer – so as mobile data adoption grows, so does the risk of cannibalisation of voice and SMS revenues. 33 Telecom Operators As shown in the chart above, three quarters of companies surveyed consider over-thetop services as a risk to mobile operators’ voice and SMS revenues (NB: The 11% responding that OTT voice is an opportunity are mainly new entrants/challengers i.e. operators that have the opportunity to gain market share from a change in consumer habits – these are the disruptive players in the market). On the other hand, more than half consider OTT content services as an opportunity, versus 26% a risk. Figure 34: Interview feedback – OTT a risk or an opportunity? Voice Messaging Opportunity 11% Neutral 26% Neutral 15% Content Opportunity 0% Risk 74% Neutral 21% Risk 74% Risk 26% Opportunity 53% Source: Arthur D. Little, Exane BNP Paribas estimates OTT risk on mobile voice and text: coming of age The number of OTT communication applications available for smartphones has increased exponentially in the past two years. These include: – pure service players i.e. over-the-top applications such as Skype, WhatsApp, Google Voice, Viber or Tango, which can be downloaded by users onto their smartphones; – applications integrated by device manufacturers and/or OS developers into all their devices such as Apple’s Facetime and iMessenger, or Blackberry Messenger. Such applications bring “free voice” and/or “free SMS”. For customers, this is particularly appealing for international and roaming calls, but also potentially for national calls and SMS, depending on each operator’s retail tariffs. This “arbitrage” opportunity stems from the difference between the price of voice calls and SMS on one side, and that of data on the other side. When transformed into data, voice (transformed into voice over IP) and SMS (transformed into IP messaging) usually cost much less than what operators charge for them on a standalone basis: an SMS transformed into data is virtually free, and an hour of voice is equivalent to 5MBytes of data so even assuming a high price of data at EUR40 per GByte, one hour on voice over IP would cost only EUR0.20. However, beyond the appeal of “free” voice or SMS, these OTT applications also bring a richer user experience/interface. For instance Skype and Facetime enable video calling, many enable conferencing (a feature which is usually available only to B2B customers), Skype and Google Voice enable transferring files in parallel to the conversation, etc. (see Figure 35 below). This is all made possible by the computing power of smartphones (i.e. their ability to run applications), the faster speed of mobile data networks (in particular to ensure a reasonable quality of voice over IP services) and improvements in VOIP technology (e.g., adaptive codec). 34 and hundreds of thousands in the case of Skype. the number of users of OTT platforms globally can be counted in tens of millions for most applications. Redirection Voicemail Conferencing Other Video/Data Block callers IM SMS File transfer Voice chat Video call 9 9 9 9 9 (normal call) 9 9 (B2B) 9 9 9 9 9 9 9 9 (B2B) 9 9 Least cost routing Video conference Source: Arthur D. and switching barriers are low – so users often use several applications. continuously adding services ClassicTelco services* 9 9 9 9 9 9 9 9 9 9 9 9 9 9 9 9 9 9 9 Video conference 9 9 9 9 9 Advanced management Integration with social networks 9 9 9 mVoIP Voice Voice chat Call out Phone No.Telecom Operators Figure 35: OTT players are strong innovators.5% penetration within smartphone customers). Exane BNP Paribas estimates Mobile OTT penetration remains low but is likely to accelerate As shown in the chart below. 35 . Exane BNP Paribas estimates The number of active users is much lower. Little. Little. price.Tango grew twice as fast as Skype 425 420 US accounts have access to Google voice service. We estimate that the penetration of mVOIP applications in the European mobile customer base currently stands at less than 2% (c.Skype is the leader with ~0. services planned for H1 2012 in Europe 400 380 17m users in 9 months 5% of world SMS 360 350 50 50 ? 50 Only major OTT service belonging to telco 35 40 23 20 13 20 0 Skype facebook Gmail (mobile) BBM Whats app NimBuzz mig33 ooVoo Tango JaJah „ Convenience. switching barriers are extremely low – Users use several applications RebTel Source: Arthur D. Figure 36: Number of global users of leading OTT service platforms Number of registered users per voice OTT company Telcos In m 680 663 Industrial players (HW. and brand awareness determine active usage „ Nevertheless.7bn users 440 „ The speed of user base build is accelerating: . SW) Comments Independent OTT ~20% of worldwide international calls 660 Messaging only (no Skype integration on mobile) „ The user base among OTT communication suite companies is increasing rapidly . Facebook and Google (if one includes Gmail). 5) the likely viral effects which will take place when the OTT customer base will increase (e. Denmark and Norway. Except for specific calls like international calls to friends and family. Voice and messaging applications are likely to develop. WhatsApp is spreading fast not only in the Netherlands: – In Q3 11. meaning that Skype-Out calls have remained relatively expensive. tech savvy customers). which justified part of its profit warning at its Q1 11 results by a change in consumer behaviour on mobile – notably due to the rise of OTT applications such as WhatsApp. We therefore believe that unless operators take decisive action (see page 50). While the quality of mVOIP has improved greatly. WhatsApp was still the most downloaded paid application on the Apple iTunes store in the Netherlands but also in Spain. 2) the progressive rollout of 4G/LTE networks. WhatsApp is a multi-platform unlimited messaging service on iPhone. carrier class quality is not expected before 4G is rolled out. Finland. there have been more than 10m downloads on Android. Indeed: – regarding voice. 36 . and 3) high mobile termination rates. the penetration of OTT applications on mobile phones is likely to rise strongly in the coming years due to a combination of factors: 1) the rising penetration of smartphones. – In early 2012. Belgium and Greece. which are often first-movers in promoting or allowing VOIP with their customers (e. – regarding SMS. Finally. Android. The application is generally not free – although the price is low (EUR0. SMS revenues could be rapidly cannibalised.g. which is equivalent to c5% of the global SMS volume. However. quality of the service remains an issue. in addition to rapidly spreading applications such as WhatsApp. which will dramatically improve the quality of voice over IP on mobile. WhatsApp had already been adopted by 85% of its Hi brand customers (these are typically young. new messaging systems are embedded into handset (e. By Q2 11. WhatsApp was the top-selling iPhone application in 61 countries. messaging applications propose a superior user experience compared to basic SMS.g. and overall the application was used in 250 countries on 750 mobile networks. By November 2011. customers are not ready for lower voice quality or dropped calls. Apple’s iMessenger).g. As well as being free. Austria. WhatsApp experience in the Netherlands). but we believe that the largest risk lies with SMS. namely voice (voice still represents 63% of bills in Europe). Blackberry and Nokia. the average SMS traffic per KPN mobile customer started to fall significantly: it was down 19% yoy in Q4 11. WhatsApp: example of a fast-spreading threat WhatsApp was brought to the world’s attention by KPN. On the other hand. handling a short data message such as a SMS is very easy and does not suffer from quality issues. Switzerland and Ireland. WhatsApp announced that it was delivering 1bn messages a day worldwide. it was not in the top-10 in France. mVOIP can be very appealing because it promises to cut the customer’s main expense in mobile. 4) the competition from mobile challengers. 3 UK with Skype several years ago). In H2 11. 3) the reinforcement of net neutrality rules in Europe (see page 51).99 per year).Telecom Operators Skype has been a feature on the fixed-line for years – but has failed to take off on mobile devices because of a combination of 1) operators’ initiatives to block mVOIP on their networks.99) and enables free usage for a year (then the price is USD1. 2) quality issues. It was in the top-3 in Germany. Italy. However. Ireland.g. Arthur D.). Little. They also show that the interest for Viber remains far smaller. Greece and Italy. Little. depending on countries Netherlands Spain UK France * Yellow lines = Skype. Google is the leading force behind Android. so expanding its services to pure messaging and telephony would be a logical step. and to a lesser extent in the UK. – Google: the group sees communication services as a key way to attract users to its websites. and the lack of take-off in France. It has recently integrated all its services (search. Facebook. which can be leveraged for new applications such as Google Voice. Exane BNP Paribas estimates The charts below. Spain. Germany and Italy – as opposed to countries where the heavy SMS users have already migrated to unlimited SMS bundles (e. and 2) countries where operators’ SMS pricing offers an arbitrage opportunity to customers. blue lines = WhatsApp. the UK or Denmark). in particular the Netherlands. Arthur D. Google. 37 . Skype voice and video calls are already integrated in Facebook. email. Global internet leaders all have an interest in OTT Whatever the success of specific applications such as WhatsApp. etc. red lines = Viber Source: Google. and to gather data – hence to generate more advertising revenues. France. Indeed it is an area of strong interest for the world’s internet and tech giants such as Apple. Microsoft and Amazon. which compare the number of searches in Google for “WhatsApp” to the well established “Skype” reference (and also to “Viber”). Spain.Telecom Operators Figure 37: WhatsApp one of the most downloaded paid applications on the Appstore (rank) Country 27 Jan 12 28 Feb 12 NL SP AT CH IR BE GR DE IT PT UK SE FI FR DK NO 1 1 1 1 1 1 1 2 1 2 2 1 2 2 3 3 3 3 4 4 6 6 6 6 >10 >10 >10 >10 >10 >10 >10 >10 Source: Apple. Figure 38: The growing popularity of WhatsApp according to Google Trends. – Facebook: communication between users is the social network’s core proposition. messaging. etc.g. e. Exane BNP Paribas estimates The current difficult economic environment is certainly a factor in customers’ interest in downloading applications such as WhatsApp onto their smartphone. social network. show the strong take-off of WhatsApp throughout 2011 in particular in the Netherlands and Spain. if they find that they can optimise their bill by using the application instead of their operator’s SMS service – so the markets where it is taking off are a mix of 1) countries where the economy is under strong pressure. we believe that OTT is here to stay. Skype has become the largest operator in the world for international traffic. it is leveraging its powerful IT infrastructure with its cloud offering (Amazon Web Services). cloud „ Revenues: low margin in all businesses „ Web search Customer identity „ Google account Billing relationship „ Free services to attract users and gather data „ Put user’s life on FB „ Core activity is to make users communicate with other users „ Facebook website (c. One-clic shop „ Grow new revenue fields „ Business: HW & OS Customer gateways „ « Digitalization of the world » to gather and monetize data „ Revenues: Ads leveraging user data „ Business: OS & productivity Communication services „ Gmail (c. 38 .Telecom Operators – Microsoft has been established in messaging services for a long time (Microsoft Messenger) and has more recently acquired Skype. etc. and pushing into the mobile device arena (Kindle. – Apple: the group’s core business is to sell hardware (iPhone. Extension of services through SW „ HW opportunities : iPhone . Consumer out-of-bundle and prepaid revenues represented respectively 12% and 26% of Vodafone Europe service revenues in Q4 11 (see chart below). iPad „ HW devices „ iTunes account „ Credit-card number for iTunes „ Still limited in services „ Apple stores „ Selling content. Apple has a billing relationship with customers via iTunes so it is a bigger threat regarding paying services. Skype could be fully integrated into Windows (on fixed-line and smartphones) and into the Xbox environment. but the group sees any means to boost its content business as an opportunity to develop new revenues. Indeed. unlike the in-bundle voice and SMS usage – which could be impacted over time. Facetime is an example of the power of Apple’s platform.30-40% margin per device) „ Business: eCommerce. not regular revenue for non-corporate „ Integrated HW ecosystem . Little. Xbox Live. Hotmail (330m) „ United profile with Windows 8 „ For business. with an estimated global market share having grown from c3% in 2005 to 20% in 2010 (in number of minutes). For instance. The impact on telcos’ fixed international voice revenues has been significant. Kindle service „ Limited monetization of users „ Android market Source: Arthur D. Unlike Google and Facebook. Fire).800m) „ Facebook account „ Development of virtual money (« Facebook credits ») „ Try to sustain position in PC ecosystem „ Skype buy-out probably to integrate to Office & Xbox environment „ Windows. Could cannibalisation affect mobile operators. for voice and/or for SMS? The voice and SMS revenues most at risk of cannibalisation are the out-of-bundle and prepaid parts – which are directly driven by usage. but a bundling strategy with data can protect them. Exane BNP Paribas estimates How big is the revenue risk for telcos? In fixed-line. Figure 39: Positioning of key internet leaders in communication services Original business & main revenue driver „ Business: Web search „ Revenues: Ads „ Business: Social network Overall strategy „ Revenues: SW licences „ Revenues from HW (c. we estimate that more than 85% of the growth in international voice traffic has been captured by Skype in 2010. iPad. monthly fees (Office 365) . – Amazon’s core activity is e-commerce. in particular selling content (originally books). Like Apple.200m) „ Website. Amazon has a billing relationship with customers. getting in the cloud „ Leverage infrastructure for cloud services „ HW devices „ Amazon account „ Credi-card number of eCommerce.) but it also develops services (in particular iTunes and the AppStore) as an additional revenue stream and as a side benefit to its hardware activity. 8 11.2 5.4 8.3 8.6 9.6 4. Figure 40: Assessing operators’ revenue exposure to voice and text cannibalisation Split of Vodafone Europe service revenues. with smartphone % of smartphone customers using MVOIP & IM % of pop using MVOIP & IM 38% 5% 2% 51% 16% 8% 67% 28% 18% 82% 39% 32% 95% 50% 48% 150% 140% 130% 120% 110% (0.8 1.6 9.5 8.1 3.2 0. to -6.4% per year until 2015e – but in a bear case with a strong cannibalisation of voice and text revenues by OTT applications.1 3.3 14.7 19.4 11.9 6.8 3.8 3.0 0. incoming 5% Consumer contract.6 8.5 0.5 23.4 21. Mobile voice Interconnect Outgoing Mobile data SMS New data 22.4 24.7% per annum until 2015e.2 16.7 4.8 13.5 19.7 11.5 9. Exane BNP Paribas estimates Figure 41: Assessing the cannibalisation risk – Bear case scenario EUR/month 2011e 2012e 2013e 2014e 2015e 25.0 8.6%) (5.6 2.9 6.0 10.2 4.1 (9%) (11%) (11%) (11%) 0% (25%) 0% (25%) (6%) (13%) 0% (25%) 0% (12%) (15%) (15%) (15%) 0% (31%) 0% (44%) (9%) (20%) 0% (39%) 0% (15%) (19%) (19%) (19%) 0% (38%) 0% (63%) (10%) (27%) 0% (54%) 0% (17%) (23%) (23%) (23%) 0% (44%) 0% (81%) (10%) (34%) 0% (68%) 0% (17%) (28%) (28%) (28%) 0% (50%) 0% (100%) (9%) (41%) 0% (83%) 0% Bear case – Mobile service revenue per pop.5%) Core scenario – Mobile service revenues per pop.2%) (0.4 0.2 18.7 0.4 13. we estimate that the mobile service revenue decline could more than double.8 10.0 14.9 10.5 9.3 6.5 11.3 5. Exane BNP Paribas estimates 39 .5 10.9%) (2.Telecom Operators In our core scenario. Arthur D.3 12.2 22.0 8.5 1. mobile service revenues are expected to decline by 2. out of bundle 12% 1 Consumer contract. in bundle 22% 0 SP NL IT DE PT BE FR UK DK Source: Vodafone. Little.5 2. Q4 11 Other 5% Qualitative assessment of the risk of SMS revenue cannibalisation by country 5 Enterprise 30% Consumer prepaid 26% 4 3 2 Consumer contract.1 % of pop.6 3.6 4.3 9.0 13.7 6.8 1.6 2.2 11.9 14.7 1. Little. Mobile voice Interconnect Outgoing Mobile data SMS New data ARPU impact of using MVOIP & IM Mobile voice Interconnect Outgoing Enterprise Prepaid Postpaid in bundle Postpaid out of bundle Mobile data SMS In bundle Out of bundle New data ARPU of MVOIP customers versus average Impact on mobile service revenue Source: Arthur D.3 12.3 8.0 10.8 10.8 0.7 22.0%) (7. telcos have limited exposure to downside in this market. on any device – in practice this depends on access to content – see below) – combined with the ability for the customer to save on their payTV bill. The hardware players developing these boxes have signed content deals. but it is overall more positive than negative: 1) whatever the impact on pay-TV. sold 2m units as of Nov 2011). Content OTT: more opportunity than risk. However this capex will not be driven by OTT TV. – cut prepaid voice and text revenues by 50%. Canal+ and cable operators. PS3. in theory. with a massive generational shift occurring. – have no impact on either the postpaid in-bundle revenues. We have used the above-mentioned data published by Vodafone. Viewing habits are changing fast. enabling an alternative lineup essentially focused on video on demand. pushing towards faster speeds. OTT video started on the PC. cutting total European mobile service revenues by 7.e.g. playing the OTT game is an opportunity to differentiate from legacy pay-TV players. Compared to our core scenario. but rather by the need for telcos to keep up with super-fast broadband competition from cable operators. even in the US – and from the telcos’ perspective we believe that OTT TV is not risk free. both on the hardware side (from the PC to boxes to smart TV sets) and on the services side (from the Youtube of the early days to TV stations’ catch-up TV propositions and Netflix) – all made possible by ever faster broadband. for most Over-the-top television propositions are evolving very quickly. but also gaming consoles (Xbox 360. with the rise of Youtube – which was initially quite limited in terms of quality and type of content (mainly user generated). OTT TV should have a positive impact on fixed broadband. price USD99. but also a large part of the national out-of-bundle revenues).e. and these would: – reduce the out-of-bundle usage of voice and text to zero for contract customers (hence including international and roaming revenues. if not to the premium football fans. this bear case would reduce the total voice and text revenue per inhabitant by 31% (from EUR12. These boxes compete with operators’ own boxes (e.4/month in our core scenario in 2015e to EUR8. content is an issue – but not one which will block them from launching appealing offers to at least a significant part of the market. Initially. Fundamentally. 3) last but not least. non-SMS data.5% compared to the core scenario. Orange’s Livebox.). etc. 2) for them. any programme or film at any time. Interconnect revenues are assumed to be cut proportionally to voice and text. anywhere. What does OTT TV offer to customers? OTT video services provide a non-linear TV experience (i. including dedicated hardware such as TiVo in the US or the Apple TV (re-launched in 2010. For OTT providers. OTT video then evolved to boxes. OTT service “unbundles” pay-TV content: the customer can watch (pay to watch) specific programmes rather than having to subscribe to a bundle of traditional pay-TV channels – the likes of BSkyB. Freebox Revolution. 40 . The impact of OTT on pay-TV has yet to be proven a significant negative.6). or enterprise revenues. We have not changed our view that fixed-line operators need to invest more in FTTH networks. Wii). 48% of the population by 2015e would use such OTT services. BT Vision.Telecom Operators This is based on a scenario whereby 50% of smartphone users i. Telecom Operators Figure 42: Evolution of over-the-top video content services and key figures for the German market 1st Generation 2nd Generation PC Set-top box 3rd Generation Multiscreen „ Streams or downloads of videos directly from the web onto the PC „ Video access through set-top boxes and consoles connected to the TV „ Internet connectivity directly embedded into TV sets „ Strongest focus on short-form videos „ Pre-installed services to watch free and paid for video „ Innovative interface: 2nd screen apps, voice, gesture „ Mainly user-generated content and other small clips „ Increasing focus on long-form videos „ Short- & long-form videos directly consumed on several screens „ In Germany, 79% of households have got at least one PC (Internet access 69%) „ In Germany, 20% of households have got gaming consoles „ 68% of Germans access online video „ 40% of German households have got a laptop „ There will be a boost in the sales of set-top boxes by the termination of analogue satellite TV in Germany in 2012 „ 3m tablets sold in 2010 and 2011 „ 20% penetration for smart TVs expected in 2012 Source: Arthur D. Little, Exane BNP Paribas estimates The latest trend is the rise of connected TVs, with consumer electronics manufacturers such as LG or Samsung now launching a second generation of such TVs. Once connected to a broadband line (with no need for a box), ‘smart TV’ sets aggregate content from a variety of sources, including OTT video services such as Netflix or Youtube, but also integrate communication services such as Facebook. These players, in particular Samsung, also forge local content partnerships and have widgets of local content producers and broadcasters in their app stores. The next key steps could involve: 1) a launch by Apple of its own TV set, “iTV” as reported by the press, and 2) a further push by Google on the Google TV concept – with the strategic aim of lodging its OS and services in connected TV sets (similar to the Android push into smartphones) – with for instance Sony having signed a partnership to launch Google TV in the UK in 2012. Another sign that Google is seriously looking at the TV market is the report that the company is seeking permission to establish a satellite dish station in the US, able to receive satellite-based content feeds from TV stations. In terms of services, beyond Youtube (which is getting content of its own, and evolving towards HD etc.), the most successful services are: – A few ‘independent’ services such as Netflix (24m customers in the US at end 2011), just launched in the UK and other countries in Europe should follow. Netflix is hardware agnostic i.e. it is available on the PC but also on the TV if connected to the PC or via the leading game consoles (Wii, PS3, Xbox360, Vita). In the UK, competitors include notably Lovefilm (owned by Amazon) and Blinkbox (owned by Tesco). – Services launched by content owners and TV stations such as Hulu in the USA, BBC iPlayer and ITV Player in the UK, M6 Replay in France, maxdome by ProSiebenSat1 and Mediathek by ZDF in Germany, or ipla in Poland. Viewing habits are definitely changing Viewing habits are changing in Europe and we believe that this change is likely to accelerate rather than slow in the coming years – fostered by 1) the expansion of the number of screens per person, 2) technological evolution – in particular faster broadband speeds, and 3) a strong generation effect. 41 Telecom Operators In Western Europe, the number of screens available per person has grown from 1.7 in 2000 to 3.6 in 2011e. This has mainly been driven by PCs, mobile phones and other mobile devices (such as tablets) – while the number of TV sets grew only slightly. These additional screens are a key driver for new ways to access video content: TV viewing continues to increase in Western Europe, but Internet delivery is capturing most of the growth in terms of time spent. This is made possible by the digitalisation of content and the “all-IP” nature of networks and devices, combined with the increases in broadband speeds (in particular with the advent of super-fast broadband on cable, and progressively on telcos). For example, a UK Ofcom report in 2011 showed that customers who migrated from classic broadband to super-fast broadband increased their usage of OTT content services: +63% for streaming of HDTV programmes or films, +54% for streaming of SDTV programmes or films, +35% for watching short video clips (e.g. on Youtube). Figure 43: Key trends in content consumption Hours spent per media per week (Western Europe) Number of screens per person In hours per week +1% 50,6 46,1 CAGR 48,2 48,0 12.0 12.3 +5.74% 3.9 3.8 -2.78% 4.9 4.7 -1.98% 13.2 12.4 1.7 2.6 3.3 3.6 1,477 11.3 8.8 4.0 4.5 5.2 5.3 13.0 14.8 Installed screens (in millions) 1,335 1,021 158 -0.78% 144 583 541 678 405 151 14.5 2004 15.3 2006 14.2 2008 Internet Radio* Magazines Television* 14.8 313 258 320 0.34% 63 2000 2010 Newspapers 352 363 123 184 218 2005 2010 2011 335 Other mobile devices Mobile phones TVs PCs * Excluding TV and radio via the internet Source: IEAA Mediascope 2010, Arthur D. Little, Exane BNP Paribas estimates Finally, there is a strong generation effect at play: 1) in the US, consumers aged 18-34 watch twice as much video on the internet than those aged 50-64, on average, and they spend 30-40% less time watching TV, according to Nielsen; 2) in Germany, 90% of the 14-29 years old access online video, versus only 24% of the 50+ years old. As under-25s grow older, they are likely to keep some key consumption habits. Overall, we believe that Europe is progressively getting ready for the rise of OTT TV, with a few countries at the forefront. This is notably the case of the UK, where customers have been accustomed to OTT content thanks to the BBC iPlayer, and the first country where Netflix has launched in Europe. The company has recently described its UK launch as “very successful” (“We’re seeing faster member growth than we did when we launched [in] Canada”). In Central and Eastern Europe, OTT video has also seen significant success, with multiple independent and broadcaster-backed platforms competing for audience (e.g. in Poland alone there are at least five platforms such as ipla, and Romania also has multiple OTT platforms, amongst others dolce.tv). 42 Telecom Operators Can the content challenge block the rise of OTT? When OTT services try to move beyond the market fringes and become significant players, they face a dual challenge: 1) they need to build a content line-up which is attractive to the mainstream audience – this will trigger an increase in content costs, and 2) they arrive on the radar screens of content production companies such as Hollywood majors – an industry which is more organised than many in terms of protecting and maximising the value of its intellectual property. In 2011, Netflix, which has in excess of 20m customers in the US, has faced renegotiation of its content rights with several majors. It has ended up paying significantly more than in the past for some of its key content. According to industry sources, Netflix was able to renew its agreement with NBC Universal only by agreeing to increase its payments tenfold (to USD300m/year). Also, negotiations with Starz Entertainment failed, and the company decided not to renew its agreement with Netflix in order to “protect the premium nature of our brand by preserving the appropriate pricing and packaging of our exclusive and highly valuable content” (Starz CEO). In Q2 11, Netflix changed its pricing policy, proposing separate offers for streaming and DVD rental, each for USD7.99/m, versus USD9.99/month for both previously, causing a customer backlash. This generated significant churn in Q3 11 (see Figure 44, right chart) and accelerated the transformation of Netflix into a streaming-only company. OTT players realise that they must strengthen their content portfolio: – In the short term, they will probably not invest in sport/mass media entertainment but rather invest in different types of content, e.g. more niche/viral/long-tail content. – Major OTT players like Netflix and Hulu not only acquire rights but also finance exclusive content, e.g. Hulu plans to invest USD500m in new content initiatives in 2012 and air web-only premium content (e.g. “Battleground”), and Netflix financed “Lilyhammer”. Not many OTT players will be able to do the same. – In Europe, Netflix’ CEO recently admitted that competition would be tough in the UK, particularly against BSkyB, but he warned that Netflix would attempt to steal valueadded content such as Hollywood studio rights from this key competitor – when such rights come up. “As our membership in the UK and Ireland grows, we’ll be able to invest more and more in content”. Will content providers move to sign deals with OTT players? Generally, companies we have surveyed have underlined that content owners have existing, long-lasting relationships with established pay-TV operators – so for them, deciding to deal with a new entrant OTT provider rather than with the incumbent pay-TV company represents a risk. For a content provider, putting pressure on one’s main client (the established pay-TV player) by signing with a new entrant is not a logical move, at least initially. However, longer term, content producers may find it increasingly difficult to favour the traditional pay-TV operators over global OTT players, especially in small-size markets where the local pay-TV operators may be small compared to global OTT players. In addition, the situation in Europe is made complex by the fact that content rights legislation varies by country – forcing players into country-by-country negotiations. This makes the process much slower, and reduces the advantage of global or panEuropean players versus local ones. Overall, we conclude that: – size will be a key factor in the OTT game, as only the biggest players on a local and/or global basis can maintain power in content negotiations over the long run; 43 including IPTV customers.e. pressure on providers’ ability to charge a premium for content or ad-hoc VOD usage) – or both. Despite early challenges and hiccups. Exane BNP Paribas estimates As shown on the left above. but given the economic environment it is hard to attribute the slowdown to the OTT factor alone.000 50 1. Figure 44: Limited evidence of cord-cutting in the US Pay-TV customers in the US (m) Netflix subscribers and quarterly net additions (000) 30. the total number of pay-TV customers in the US has continued to rise by c. This is slightly down from +2% in 2009 and H1 10. 44 . customer numbers at the traditional US pay-TV players (the four big cable operators plus satellite players) have dipped since Q4 10. and a few high profile content propositions. customers cutting their pay-TV subscription).000 2.000 40 30 500 10. the rise of OTT TV could trim the value of the pay-TV market overall – either via a lower penetration of pay-TV (e. The US market is both very mature in terms of pay-TV penetration (85%) and very advanced in terms of OTT development (Netflix has more than 24m subscribers).8%).000 0 20 (500) 5. most telcos have been able to grow into successful triple-play providers. customers sticking with double-play and watching OTT content via their broadband line rather than moving to a fully-fledged triple-play bundle) or via a lower pay-TV ARPU (i.000 1...g. the rise of OTT has not led to significant “cord-cutting” (i..000 90 4.Telecom Operators – in any case. Little. We have nevertheless modelled the sensitivity of the overall sector top-line to alternative scenarios on pay-TV.500 15.500 60 20.000 3.000 3. This means that OTT services should position themselves in a similar way as telcos on IPTV.000) 0 Cable (big 4) Satellite IPTV Subscribers Q3 2011 Q1 2011 Q3 2010 Q1 2010 Q3 2009 Q1 2009 Q3 2008 Q1 2008 Q3 2007 (1. The situation is not so advanced in Europe – with pay-TV penetration at 52% – so the risk of cannibalisation should be milder. Impact on pay-TV has yet to be proven As an alternative way of accessing video content. but they do a good job versus the basic-TV offerings of cable operators.000 70 2.8% versus -1. However.e.1%. But at this stage.500 80 25. Arthur D. A bear case assuming no increase in pay-TV penetration between 2011 and 2015e (stalling at 52%) and ARPU decreasing to EUR22/month in 2015e (compared to EUR27 in our core scenario) would deflate the total sector revenue CAGR (including fixed+mobile+payTV) by 1% (-2.000 10 (1.500) Q1 2007 Q3 2011 Q2 2011 Q1 2011 Q4 2010 Q3 2010 Q2 2010 Q1 2010 Q4 2009 Q3 2009 Q2 2009 Q1 2009 Q4 2008 Q3 2008 Q2 2008 Q1 2008 0 Net adds Source: IEAA Mediascope 2010. OTT players are likely to focus their offers on cheaper content rather than premium content – including free-to-air TV and relatively inexpensive channels. catalogues of older movies and shows. They do not compete head-on with the very high-end of premium content satellite players. a flexible pricing scheme (choice between unlimited access. the downside risk associated with potential pay-TV cannibalisation by OTT TV services is limited.0% 64% -2.7% -1.6% -2.2% -2. BSkyB is also letting catch-up TV services from the BBC (iPlayer) and ITV onto its box. Little. Telcos have limited exposure to downside on pay-TV .8% -2. Figure 46: Sensitivity of incumbents’ top-line to the triple-play outlook 2015e IPTV ARPU (EUR/month) 8 0% 13 18 8 -4.8% -1.2% -2. Exane BNP Paribas estimates 45 2015e triple-play penetration 20% 40% 60% -4.3% -1. – in the UK.0% versus -3. the total incumbent revenue CAGR would reach -4.4% -2. connected TVs). BSkyB’s online streaming service ‘Sky Go’ is only open to Sky customers.99/month with no commitment.6% -3.2% -1. Separately.5% -0.9% -4.0% -3. Canal+ has launched an SVOD service (subscription video-on-demand) called Infinity.Telecom Operators Figure 45: Sensitivity of incumbents’ top-line to the triple-play outlook 2015e pay-TV ARPU (EUR/month) -1.2% -1. This pre-empts potential moves from OTT players and widens the potential customer base of Canal+ to all French broadband households.8% -2.7% 80% -3. tablets.7% -3. game consoles.5% -1.8% 52% 22 27 32 -2. Also.0% -3. incumbents’ top-line shows relatively limited exposure to bear case scenarios on the broader pay-TV market. Little.2% . and hence accelerate their penetration of the pay-TV market. with less control over the user interface and editorial control of front pages. available to non-Sky customers. An opportunity rather than a risk for telcos For telcos. as of now. – the rise in OTT could accelerate the take-up of super-fast broadband by customers.4% Source: Arthur D.6% in the core scenario. given their low starting point in terms of revenues – while in our view OTT represents two attractive opportunities for them: – teaming up with OTT. telcos could propose innovative triple-play offers compared to legacy pay-TV providers. Exane BNP Paribas estimates Pay-TV players have identified the risk and are developing initiatives to fend off the OTT risk on their core business.2% -4.3% -3. but the company plans to launch a standalone OTT service in H1 12.5% -4.5% -4. mobile phones. potentially boosting telcos’ broadband revenues. the sensitivity is relatively low to a bear case in which IPTV ARPU would be declining rather than growing in the long run. Sky announced accessibility for a wide range of devices (PCs.8% Source: Arthur D. If triple-play penetration remained flat at 24% rather than increasing to 40% by 2015e.6% 2015e pay-TV penetration 55% 58% 61% -2.0% -1. which is available to SFR and Free broadband customers (soon on Bouygues Telecom’s Bbox) for EUR9.As shown in the table below.5% -2. For instance: – in France. with no minimum commitment. pay monthly or pay-for-use) and selective access to Sky’s content portfolio. with the Apple iPhone and AppStore driving mobile data traffic: even though mobile operators are not getting any revenue from applications.6% in the core scenario. Indeed. As one interviewee put it.5 0. this is what TeliaSonera.6-3. to differentiate themselves from legacy payTV players.1 Source: Exane BNP Paribas estimates 46 . which is good”.2 0. OTT video services require up to 3. Orange France.48-0. “OTT content is pulling broadband. This is a similar phenomenon as that observed on mobile. this would point to revenue CAGR of -3.0% versus -3. making content available on any device. For instance. Indirect positive impact on broadband .e. 2) more generally. in the UK. the UK or Germany). or by the latest Bouygues Telecom Bbox in France.Telecom Operators OTT as an opportunity to differentiate – Telcos could use the new OTT trend to be more disruptive in the pay-TV market i. KPN or SFR (France) are doing on the music side with Spotify – or what Orange could do in France via its partnership with Dailymotion (in which it has acquired a 49% stake). for mobile-only operators which have yet to significantly enter the triple-play market.g. – pushing the “multi-platform” angle i. Italy. In any case.8 0.8Mbit/s of actual streaming speed for HD quality video. admittedly from a low base).A positive impact from the development of OTT for the sector (including both telecom and cable operators) could be to drive broadband revenues by: 1) expanding fixed broadband penetration – potentially enabling a stabilisation or even a return to growth in the number of fixed lines in the markets which have suffered most from fixed-mobile substitution (e.27-1.7 >1 Up to 0. For instance. Telekom Austria growing its number of fixed lines by 21k in 2011. as shown in the table below. 2) pushing towards faster speeds and hence potentially driving broadband ARPU up. even if no direct pay-TV revenue is captured by telcos.8-3. These opportunities to differentiate could be especially relevant: 1) in markets where telcos have failed so far to grow in triple-play and where existing TV providers are well entrenched (e. Opportunities include: – striking partnerships with OTT providers and bundling their services into their tripleplay packages. in a seamless way. For instance. the Youview JV could help BT and TalkTalk to expand further into triple-play. anywhere. For instance this is the type of service proposed by Mobistar’s Starpack offer in Belgium (not successful so far due to activation issues and its reliance on satellite).375-1.5 0.g. the sensitivity of incumbents’ revenues to a bull case is relatively limited. if we assumed that they would be able to seize their ‘fair share’ of the pay-TV market i. that their customer market share of pay-TV would in the long run equate their customer market share in broadband (42%e).e.e. Figure 47: Broadband speeds required by different OTT video services Service Broadband speed (Mbit/s) Netflix HD Netflix SD BBC iPlayer Hulu M6 Replay HD SeeSaw Blinkbox 2. they are getting a benefit from increased mobile data usage and customers moving from higher speed services. This clearly highlights the need for faster broadband speeds for customers willing to use OTT services – providing a competitive edge to operators able to provide faster speeds.7% -1. we believe that telecom operators also need to accelerate the rollout of super-fast broadband services.4% -1. Little.2 7.0 3.3 6. to 5Mbit/s.0 4. Arthur D. in the Netherlands.3 22% 15% 45% 47% 26% 7% 24% 29% 29% 26% 33% 25% 40% 28% 34% Weighted average 29% 5. Exane BNP Paribas estimates Another opportunity for telcos associated with OTT could be to generate wholesale revenues by charging them either for bandwidth or for additional services (e.5 5.0% -1. according to Akamai Country % >5Mbit/s Average speed (Mbit/s) Q3 11 Q3 10 YoY IT FR SP AT UK SE DE FI PT NO CZ DK CH BE NL 14% 15% 18% 30% 31% 31% 33% 36% 40% 40% 50% 51% 51% 54% 68% 4.g.8 6.3 2. Belgium and Portugal).3 5. billing.3 4.1 5.5% -1.5 6.8 4. Figure 48: Broadband speeds in Europe.4 5.4 4.7% -1. 47 .8% -1.0 3. Little. CDN.1% -2.9 4.3 3. but there are still only 29% of customers getting an average speed in excess of 5Mbit/s – and this percentage is below 20% in France.9 26% Source: Akamai.4 4.9 5.2% versus -1. but as detailed in our 2011 report. % of broadband customer base 10% 20% 30% 40% 2015e incremental ARPU (EUR/month) -2.0% -1.0 4.): we discuss these in page 57. Massively increasing the penetration to 40% of the broadband base and assuming an incremental ARPU of EUR15 would lead to a bull case scenario whereby the sector’s revenue would decrease by a milder 1.8% in the core scenario. Italy and Spain. the average speed of broadband access in Europe has increased by 26% yoy.7 4.0 5. Figure 49: Sensitivity of the sector’s revenue CAGR to super-fast broadband 2015e penetration. Exane BNP Paribas estimates The table below shows the sensitivity of the overall sector revenue CAGR to assumptions regarding super-fast broadband penetration and ARPU in the long run.4% -1.0 5. Our core assumptions are 20% penetration of the broadband base by 2015e (versus 4% today) and an incremental ARPU of EUR10.9% 5 10 15 -2.g.3 5. This is currently mainly cable operators (e.9% -1.2% 50% -1.5 3.8 3.8% -1.3 7.1 6.Telecom Operators According to Akamai.0% Source: Arthur D.7 5.8% -1.2 8. etc. Facebook). Apple or Google as their main service provider.g. large OTT players do not necessarily worry about direct revenues and profits from these OTT communication services. Indeed. it would have been dangerous to confront them so directly. but rather aim at boosting their core business in a different field. WhatsApp.g. advertising-based model (Youtube). and this is an additional device rather than the core device/handset. – A few years ago. The value chain would evolve with the risk that the telcos get disintermediated over time and end up being purely commodity ‘dumb pipes’. At this stage. of which the core component would be data traffic. 48 . Nevertheless. e. Apple considered introducing ‘soft’ SIM cards in its iPhone handsets (as opposed to classic SIM cards which are controlled by the operator). operators’ relationship with customers as a data provider will remain important. such as hardware sales (Apple) or advertising (Google. this risk has remained contained. WhatsApp. Google. This shift in “customer ownership” from operators towards OTT players is not only theoretical: there is a growing trend among customers to use OTT platforms (e.g. This remains small in the scheme of things. Facebook. regarding pure OTT players. The official goal is to foster innovation and new usages through ultrahigh-speed networks. in messaging. we believe in a ‘winner takes all’ situation. Spotify in music (already profitable).g. However. but this remains a very local case. – Google is rolling out a 1Gbps fibre network in Kansas City (USA). Amazon is selling Kindle e-reader devices with embedded 3G connectivity and no monthly fee for GBP149. The risk for telcos would be much more significant if OTT players were to become operators or even just MVNOs i. Telcos would continue charging for access – but OTT players would increasingly charge for services (or get advertising revenues to support these services).Telecom Operators Are OTT services Trojan horses about to capture the customer? OTT service providers will develop their own customer base over time – either on a paying basis (e. – In the UK. Deezer or Dailymotion in France). considering that telcos are the main distributors of iPhone. The extent to which such a scenario would be negative for operators depends on the split of value between access and services. its recent assault on SMS revenues (making iMessenger a native application in its mobile devices) was viewed as a painful precedent by some mobile operators.e. Netflix) or on a free. Customers would continue paying mobile operators for an access bundle. The risk could be significant for mobile: customers could increasingly see Skype. However. were able to capture the whole customer relationship. etc. not just for some marginal services but also for core communication services such as voice and messaging. a move which could have led telcos to lose their control of the customer. etc. Since the ‘real value’ will increasingly be in data while voice and SMS will increasingly be commoditised.) to manage their primary contact databases and diaries as opposed to storing and managing these data in the handset. (albeit with room for smaller OTT players if they manage to differentiate and provide services adapted to the local context e. But there are two types of exceptions: 1) some markets have had no subsidies historically (Italy.e.000 25. that telcos need to upgrade to super-fast broadband and that this will require higher capex.000 10. according to Cisco. – Given the importance of devices for customers (“the device is king”). Belgium).000 15. 2010–2015 CAGR PB per Month 35.000 Internet video +48% File sharing +23% Web. Figure 50: Evolution of the global consumer* IP traffic. could change further if they were to significantly reduce their retail footprint and/or device subsidies to cut costs. The core networks are scalable: capacity in the core network has always and will continue to be increased as traffic grows. Capex risk on the fixed-line side. and 2) a few others are currently moving away at least partially from subsidies (Denmark and France). Regarding fixed-line. we believe that telcos need to increase capex in fixed-line to catch up in super-fast broadband.000 20. for super-fast broadband OTT data is the main driver of the exponential growth in global IP volumes. we reiterate the view we expressed last year. which is also the most costly.000 5. previously in favour of telcos.000 Voice over IP (VoIP) Others 0 2010 2011 2012 2013 2014 2015 * Consumer traffic accounts for ~80% of world traffic in 2010 and ~87% in 2015F Source: Cisco 49 +4% +132% . i. email. and data +29% Video calling +41% Online gaming +43% 30. which are expected to quadruple by 2015. notably when operators make strategic decisions about distribution or SIM-only. This mainly relates to the access part of the network. and less than 15% of gross additions. the player in control of the distribution of devices has a stranglehold over the value chain. this risk of disintermediation should not be ignored. while players like Apple develop their own retail networks. At this stage. we estimate that SIM-only represents less than 5% of the customer base in Europe. The balance of power.Telecom Operators In any case. but not massively so in mobile. – SIM-only leads to separating the handset from the service provider and could also be a strategic risk for telcos. Will this exponential traffic growth force telcos to increase capex massively? We stick to the views developed in our 2010 and 2011 reports on mobile and fixed-line capex. trust & billing Control and monetise QoS and bandwidth Develop partnerships with them Offer them wholesale services such as CDN Leverage brand. and. 10% of Western Europe's mobile data traffic was offloaded in 2011.5m tablets sold worldwide in 2010 were 3G-enabled).Telecom Operators As for mobile. Operators are already preparing the LTE rollout by swapping their networks to a single-RAN technology which is 4G ready. for a fee. For instance. try to “block them”) was only quoted by a handful of those surveyed. the negative approach (i. tablets are largely connected via WiFi rather than 3G (according to GFK only 23% of tablets sold in France in 2011 were 3G-enabled. we see no real concern. Figure 51: Interview feedback – Operators in constructive mode with OTT? Number of responses regarding Telcos’ levers to face competition from over-the-top players Leverage customer contact. this proportion should grow to 25% by 2016. only 29% of the 16. to whom they can offer a better quality of service. language Launch own OTT services Leverage customer data More price/service bundling It will be difficult Leverage STB (better than OTT) Block them and ask for money This is only a minor subject Push for regulatory changes 0 5 Source: Arthur D. Key tactics to avoid the bear case Operators’ attitude towards OTT-related risks has changed significantly in the past few years. for several reasons: – Traffic is much more modest and sometimes not growing as fast as could be expected a few years ago.. Exane BNP Paribas estimates 50 10 15 20 25 30 35 40 45 50 . As shown in the chart below. etc. Little. According to Cisco. At this stage. because operators have managed to control/reduce traffic from mobile dongles. guaranteed bandwidth. while according to Park Associates. The most advanced example of this would be Verizon’s Digital Media Services initiative (see below). – Recreating a clear link between traffic/usage and revenues. the figures are 30% in 2011 and 34% by 2016. so that ARPU becomes insensitive to the actual usage mix. either on the customer front (tiered pricing) and/or on the OTT provider front. the billing relationship. and most companies articulated responses revolving around two key themes: – Telcos should compete with OTT on the customer front by leveraging existing customer relationships in their local markets (leveraging customer trust. Many telcos envisage developing partnerships with OTT providers. the local language. Vodafone Europe’s data traffic growth has slowed to around +20% yoy since Q2 11. – There is potential to offload a large part of the traffic on fixed-line via WiFi. with dongle traffic reported flat in Q4 11. 'local hero'. on the fixed broadband side.e. the ‘local hero’ status versus the ‘global’ OTT. Focusing specifically on mobile data traffic originating from handsets and tablets. – Technologies provide more and more capacity for the same cost – the next move being LTE. They should at the same time protect their existing revenue streams through more aggressive bundling by bundling services that can be cannibalised (voice and SMS) with services that can cannibalise them (data). the box). in fixed-line. e-plus and O2 both allow VOIP. citing net neutrality rules. 51 . In most markets.Telecom Operators In our view the most effective responses are: 1) price bundling. while 3 and O2 are allowing Skype. In the UK Ofcom has recently put pressure on operators banning Skype. to ensure revenues increase in line with traffic growth. Blocking OTT: not a long-term option The initial response of many mobile operators has been to block VOIP on their networks. which we think can basically halve the risk of cannibalisation of mobile operators’ legacy revenues. which is a relatively small opportunity. Little. which points to the “potential of anti-competitive and discriminatory behaviour in traffic management. the resolution states that as of now. The European parliament passed a ‘Net Neutrality Resolution’ in November 2011. and 4) developing wholesale revenues from OTT providers. there is “no clear need for additional European-level regulatory intervention on net neutrality”. However we believe that blocking OTTs will not be a long-lasting solution. 2) tiered pricing. Exane BNP Paribas estimates In any case. Figure 52: Operators’ attitudes towards mobile voice over IP Market position (shares) Leader Challenger Partner with VoIP provider Allow use with data plan Impose a surcharge Prohibit use of VoIP Action towards mobile VoIP Source: Arthur D. in particular by vertically integrated companies” and underlines that “ensuring quality in time-critical service traffic shall not be an argument for abandoning the best effort principle”. in the UK. so leaders may have to follow. among those surveyed. It also said it will wait for the publication of new guidelines by BEREC (the body comprises all European national regulators) in Q2 12 before deciding whether further regulatory measures are needed. For instance. although this is difficult to quantify except for the CDN activity. Everything Everywhere is blocking Skype. Interestingly. not just in mobile but also in fixed. Similarly. in Germany. European regulators have said that they are opposed to such blocking. 3) leveraging ‘the box’. On the other hand. Vodafone is allowing Skype on its relatively high-end contracts but charging GBP15/month to use Skype with lower-end contracts. competitive pressure is likely to make this tactic unsustainable. the challenger(s) are not blocking VOIP. only four (from 93 responses) mentioned blocking OTT as a possible long-term solution. This is particularly the case with many leaders. but only on higher tier data plans. Indeed. there are still many monthly plans for smartphones which offer data usage but do not include unlimited SMS in Spain (this is the case in particular at Telefónica and Orange) and. This has neutralised the appeal of Skype to French consumers.Telecom Operators Pricing response #1 = Bundling Bundling services is a great way to avoid cannibalisation of one service by another. However. and these two figures have been climbing in parallel.e. as shown in the chart below. in the Vodafone Europe contract customer base Vodafone Europe. to a lesser extent. Countries where operators have rearranged their tariffs this way include France (unlimited SMS in all monthly plans giving access to data). rather than bundling SMS with data). but only progressive SMS allowances offered by O2. to the extent that 65% of fixed telephony traffic in France was carried via operators’ broadband boxes in Q3 11 and only 35% over the PSTN. Exane BNP Paribas estimates 52 UK Revenues from integrated bundles . evolution over time Vodafone Europe and Vodafone UK – Q4 11 45% 80% 40% 70% 35% 60% 30% 50% 25% 40% 20% 30% 15% 20% 10% 10% 5% 0% 0% Q4 10 Q1 11 Smartphone penetration Q2 11 Q3 11 Q4 11 Europe Revenues from integrated bundles Smartphone penetration Source: Vodafone. It has reported that these efforts are particularly well advanced in the UK (68% of consumer contract revenues from integrated bundles in Q4 11) and the NL (49% in Q1 11). Vodafone is pushing this bundling strategy throughout its European footprint. compared to smartphone penetration. Arthur D. operators’ core response to averting voice and SMS cannibalisation by data is to bundle voice and SMS with data. in Germany (unlimited SMS offered in most smartphone plans at Vodafone and E-Plus. In mobile. the UK (unlimited SMS from relatively low price points of GBP15–20 for most operators) and Denmark (unlimited SMS in all bundles). hence better defending pricing. 37% of consumer contract revenues are generated from integrated bundles — a commendable achievement since the penetration of smartphones in the contract customer base is 42%. to make sure that customers cannot access a large data bundle without also paying for voice and SMS. Figure 53: Revenue contribution from ‘integrated bundles’ (as a % of consumer contract revenues). and no SMS included at T-Mobile) and Belgium (Mobistar has been offering customers the choice between unlimited SMS and data. At the Vodafone Europe level. Bundling the new and the old revenue streams This approach has been very successfully implemented by fixed-line operators when they were attacked by fixed VOIP players like Skype a few years ago. in France. telcos have included unlimited fixed VOIP calling in their broadband offers (alternative carriers have included unlimited calls not only to France but also to more than 100 international destinations). For instance. Little. and to enrich an operator customer proposition. i. notably on the fixed-line front. and Spotify with TeliaSonera in Sweden and KPN in the Netherlands. This would increase the perceived value of the whole bundle.Telecom Operators Such an approach should in our view keep the risk of revenue cannibalisation in check. because the operator can integrate the specific content in its core proposition (see specific point on the box strategy below). Adding OTT services into the bundles to add value To defend against the threat of becoming “dumb pipes”. This approach is popular among industry participants: of 93 interviewees. but in most countries. so most operators have moved away from unlimited data pricing. and EUR8. 27 talked about the opportunity of developing partnerships with OTT players. Telecom Italia proposes a “Super Internet Offer” starting from EUR4/month enabling speed increase (up to 1Mbit/s in upload.) and Virgin Media has tiered broadband pricing. For instance. from which operators do not get additional revenues. The risk here is that operators could fail to convince the consumer of the value added of such service bundles. unlimited data usage is the norm (with caps in some markets). so monetising data is essential.5GByte/month).e.5-1GByte/month). and Spotify with 3UK or SFR in France. prioritized traffic. This is especially so given that the growth in data traffic is driven mainly by OTT applications.2-0. including VAT. the sensitivity of operators’ revenue to cannibalisation would be drastically reduced. In mobile. Pricing response #2 = Tiered pricing – an absolute necessity Data has become the main source of traffic (and of traffic growth) both in fixed-line and mobile. and putting them in categories depending on the size of the data allowance (see chart below) we have calculated approximate average prices: EUR24 per GByte for entry-level users (0. prices differ by broadband speed – a simple form of tiered pricing. BT’s discount brand plusnet proposes a “Pro” option for gamers and home workers for GBP5/month (lower latency and ping. For instance: in the UK. Furthermore. telcos develop fixed broadband tiered-pricing through extra options. another pricing response from operators is to bundle core services with specific OTT services with which they have partnered. etc. The impact of our “bear case” cannibalisation scenario on operators’ revenue would be at least halved. to better defend the operator’s core revenues. is that the offer can include enhanced service quality relative to that available from an independent OTT offer. and also music services such as Deezer with Orange France. EUR13 per GByte for mid-tier users (0. – in fixed-line. And there are already many examples of such an approach. for instance Deezer with Orange France and Orange UK. 53 . FTTH) is an opportunity to increase ARPU. In fixed-line. the best examples being Youtube and Facebook. The value added here. the bundling of video content services such as BBC iPlayer and TiVO by Virgin Media. 10–20Mbit/s in download).0 technology) and on telecom networks (VDSL. The first step has been to introduce fair usage policies.4 per GByte for the heaviest users (more than 1GByte). followed by the design of a price ladder depending on traffic. SMS and data top-ups together). and assuming that prepaid tariffs would also be increasingly ‘integrated’ (i. the bundling of music services. both in fixed broadband and in mobile: – in mobile. selling voice. The move towards super-fast broadband. both on cable (with DOCSIS3. the incremental cost of a GB of data is significant and spectrum is a scarce resource. in Italy. Using a wide sample of offers in six countries. assuming that operators would be able to reduce the share of out-ofbundle revenues from roughly a third of consumer contract revenues to less than 10% by 2015e. 5 * Origami Style 120 includes unlimited access to Deezer Premium (EUR4.4 10.5 20.4 30.5 2 2 2 SFR (France) Web 120 Web 180 37 43 1 2 Bouygues (France) Relax 120 Smartphone 120 Smartphone 120 Smartphone 180 Smartphone UL B&You B&You 22 35 35 39 69 38 38 Orange UK Panther 100 Panther 400 Panther 600 Vodafone UK Offer 2 Price Data EUR/GB Zen 120 Style 120 Zen 180 Zen 300 21 29 29 37 0 0.25 0.1 8.5 31 36 0.25 0.75 1 Dolphin 100 Dolphin 400 Dolphin 600 15. Figure 54: Mobile data pricing examples from six European markets EUR per GByte.25-0.3 16.5 30.5 44.5 0 0 16. which generates data consumption.7 125 min/SMS 225 min/SMS 325 min/SMS 20.1 0.0 20.25 12.5 26 31 36 0.35 1 1 1 1 1 1 Classic 120 Classic 120 Relax 120 Relax 180 Relax UL B&You B&You 18 18 22 31 64 25 33 0 0 0.25 0.1 0.0 29.5 0.1 0. Exane BNP Paribas estimates Figure 55: Mobile data does not come for free Examples of mobile offers with different amounts of data.5 0. the UK and the Netherlands.5 0.5 0.3 8.0 7.5 0.5 26 26 0 0 0 0 20.0 20. and calculation of implied price of data Operator Offer 1 Price Data Orange France Style 120* Star 120 Star 180 Star 300 29 37 45 55 0.0 10.5 0.2 KPN NL 100 min/SMS 200 min/SMS 350 min/SMS 450 min/SMS 30 37.75 1 100 min/SMS 200 min/SMS 350 min/SMS 450 min/SMS 20 28.3 0.0 6.5 36.5 Vodafone NL 125 min/SMS 225 min/SMS 325 min/SMS 28.4 17.8 0.75 300 min 600 min 900 min 900 min 15.5 40 50 0 0 0 0 100.5 47.0 5.0 0 0 0 28.0 11.0 10.0 0. Little.5 11.0 Connect 120 Connect 180 24 34 0.5 0.7 300 min 600 min 900 min 900 min 20.5 17.0 16.Telecom Operators Figure 54 below shows how we have calculated the implied price of mobile data on a subset of mobile contract pricing examples in France.5 10. Source: Arthur D.25 0.3 20.5 300 min 600 min 900 min 15.3 T-Mobile UK 300 min 600 min 900 min 25.6 35.6 0 0 0 20.0 9.4 10.4 20.3 39.0 36.5-1GB >1GB Source: Arthur D.99/month).35 0.0 10.5 26 31 0. Exane BNP Paribas estimates 54 .3 6. by comparing the price of bundles with equivalent voice and text allowances but different data allowances. Little.0 13.5 0.5 57.5 0.5GB >0.5 0.0 14. including VAT 70 65 60 55 50 45 40 35 EUR24 30 25 EUR13 EUR8 20 15 10 5 0 0. Virgin Media in the UK with its BBC iPlayer partnership and the successful launch of the TiVo box. T-Mobile’s Full Monty bundle including unlimited texts and unlimited internet with no fair usage policy). given the competitive pressures in many mobile markets. In our view: 1) the box will still act as the gatekeeper in the next few years. operators can prolong the life of the box by ensuring that the hardware and OS remain up-to-date and by enriching the content offering via partnerships with OTT players. – the ability to get specific local content that OTT players do not have. and. etc. the adoption of fully tiered data pricing is not a given. Operators can exploit the user’s trust in its local provider for the storing of personal pictures. In the long run. the quality of the delivery can be ensured. so the revenue per GByte of EUR6 that we have used actually assumes only a limited price decline compared to today’s offers for the heaviest users (EUR8. movies. in the UK. a number of operators are trying to leverage the box to offer a superior service compared to those available directly from OTT players. Google (Android) and potentially Microsoft (notably supported by Nokia).e. with the figure falling to EUR6 for 2015e. use the ITV Player to get ITV content and subscribe to Netflix for specific drama series or movies. able to directly connect to OTT services. 55 . 2) in the longer term. Product response #1 = The box On the fixed broadband side. some interviewees believe that the box will soon become an irrelevant piece of hardware. A significant part of what TV users want to watch is local or regional. Unlike TV signals carried over the broader internet.e.99/month for unlimited voice. series. – the ability to bring a wide variety of services together on the customer’s screen. sports (football). While with OTT the customer may (at least initially) have to go to different websites/service providers (and potentially to subscribe to multiple services) to get all the content desired (e. the power of aggregation. Examples include Iliad in France with the Freebox Revolution.9GB/month. and from Free Mobile in France (EUR19. the advantages of integrating services into the box are: – the ability to provide a superior quality of service.Telecom Operators In our industry revenue model. and make it possible to watch them on several devices. the role of the box as a multi-media storage device. the long-term sustainability of such a ‘box strategy’ in fixed-line can be questioned. etc. especially now that the key element has become the operating system. i. mainly because it is provided by a trusted operator and enables a simple and rich experience.e. However. such a box strategy is very specific to the fixed-line: mobile operators do not control the device. – the ability to bundle all this with the management of the user’s personal content i. unlimited SMS and 3GBytes of data). Importantly.4 per GByte). one needs to go on the BBC iPlayer website to get BBC content. the Freebox Revolution or the Bouygues’ new Telecom Bbox Sensation. because the TV stream is provided via a dedicated channel (or set of channels). As such. we have used an average revenue per GByte of EUR26 for 2012e.. Compared to OTT. average traffic per smartphone is expected to reach 1. For instance. dominated by Apple (iOS). and TV sets are becoming increasingly “smart” i. including news. Content is moving into the “cloud” anyway. IPTV or cable TV is superior to internet TV and is likely to remain so.g.g.). e. However. etc.g. the well structured tiers launched by UK and French operators could be disrupted by the respective push on unlimited data pricing from 3 and T-Mobile in the UK (e. Orange.Telecom Operators Product response #2 = Own OTT services? A few operators have mentioned launching their own OTT services as a way to counter the threat from the OTT pure plays. It highlighted that the main benefit of RCS would be that. with the intention of using Jajah’s communication platform and R&D expertise. which employ thousands of software developers worldwide. in the specific regions they cover. Orange has announced that it targets 20m RCS handsets in its customer base by 2015. the ‘TV Everywhere’ concept launched by US cable operators and by BSkyB in the UK (see page 45) Even though such a strategy could be interesting. – On the fixed broadband/content side. and against start-up companies i. Calling cards (UK…) „ Product launch follows TEF footprint: – Europe: SP. Since then new products and partnerships have indeed been created. Telefónica’s acquisition of the mVOIP player Jajah is the boldest example. Telefónica. unlike OTT services. small groups of very motivated and innovative people. set top) „ Facebook calling on Android platform „ Cooperation with Microsoft for Lync / Office (for SMEs) „ Twitter calling(@call@) „ New products launched: « Phone a Friend » (DE). The company paid EUR145m in 2009. it would be a daunting task to develop their own successful OTT offers from scratch. – On the mobile side. video calls and file sharing. as can be seen from many past examples: – for telcos. Figure 56: Jajah’s new developments with Telefónica New products & partnerships Integration to social networks „ Further development of Jajah platform (web. Most interviewees have highlighted the cultural differences between these software specialists and large telcos. In this field. UK – Latin America: 6 countries planned „ Importance of social network integration: – Re-integrated social network communications in Telefonica network – These communications are not free: drive revenues Source: Arthur D. – it is also very difficult to acquire start-ups as the start-up spirit and culture can easily and rapidly get diluted by big organisations like the large telcos. it will be difficult for telecom operators to execute.e. GE. RCS services would be interoperable between different handsets. PC. and leveraging it to create new services and attract innovative developers. Moreover. messaging. the risk for a large telco is to acquire an ‘also ran’ start-up company rather than the leader in its field. they would be competing against both web giants. OTT services are fundamentally services developed to be rolled out globally – on all networks – whereas telcos’ target is to grow or defend revenues from their existing customer base. as highlighted by several interviewees. 56 . These are two very different approaches. based on the existing RCS (Rich Communication Suite) technology. Vodafone. Examples of such a strategy follow. Exane BNP Paribas estimates – In an attempt to emulate the success of SMS. Deutsche Telekom and Telecom Italia recently announced the launch of an initiative to create a new standard for advanced communication services. Little. when the world of OTT is very much a ‘winner takes all’ market. In addition. Services will include enhanced contact management. mobile. Indeed. consistent with Telefónica’s broader strategy. in particular the OTT TV players. internet traffic is not symmetrical at all: OTT TV players send huge amounts of traffic in the direction of customers connected to the local telcos’ networks.). For instance. but they still need to invest in their networks to keep up with this traffic increase. Content Delivery Network or CDN). At this stage. It will soon include value-added services such as local ad insertion.e. personalized direct-to-consumer content delivery offers. the most common situation is that the Youtubes and Netflixes of the world are sending traffic through telecom networks on the basis of symmetrical peering agreements that have governed relationships between players since the inception of the internet. they could create a new “guaranteed quality delivery” service. but operators see their contribution as largely insufficient. in some cases. BT Wholesale introduced such a service in 2011. operators are increasingly looking at generating revenues from service providers utilising their networks. The aim is to provide a platform to content providers. These different types of approaches have been mentioned by a large number of respondents: 39 of 93 talked about telcos monetising the quality of service and bandwidth of their networks. for a fee. 57 .e. they can provide “dynamic advertising insertion” i. and 17 about offering wholesale services such as CDN services to OTT players. including notably 1) hosting. Operators view the traditional peering system as unfair because.Telecom Operators Wholesale response = double-sided business model opportunity Apart from maximising revenues from customers. A second opportunity is to provide more value-added wholesale services to the OTT players. The first business opportunity for telcos is to propose differentiated levels of quality at different prices. and 2) services monetising operators’ knowledge of their customers. with video services. This traffic is generating no incremental revenue for telcos. etc. This platform positions Verizon to be able to cater to OTT players willing to move towards “unicast” i. insert advertising tailored to each customer’s profile (localisation. as currently and 2) premium delivery with a guaranteed quality. For instance operators can track customers’ usage and sell this information to advertisers. free delivery. They do pay content delivery services (CDN) as well as for quality of service. preferences. retailers and advertisers to deliver any content on any device with guaranteed QoS. One of the most advanced initiatives combining these different approaches is Verizon’s launch of a “Digital Media Services” division.e. content storage and delivery (i. enabling video streaming companies to choose between two options: 1) basic. Exane BNP Paribas estimates The CDN opportunity . Deutsche Telekom has been partnering with Edgecast for IPTV since 2009. KPN launched its own CDN in 2009 with JetStream. Arthur D. Little. Little.e. BT has a CDN offer through BT Wholesale.All large operators have made moves in this direction: AT&T launched its own CDN in 2008. Telecom Italia has a partnership with CDNetworks and Telefónica launched its own CDN in 2010. being paid by content providers to cache content closer to the customer. i. and 2) the reduction of network costs: replicating the most heavily demanded content at the edge of the network reduces the need for network capacity. and are hence closer to the customers. Exane BNP Paribas estimates Figure 58: Verizon Digital Media Services initiative – 2/2 Source: Verizon. Telcos have a competitive advantage compared to global pure CDN players: they can cache content in many more places. Arthur D.Telecom Operators Figure 57: Verizon Digital Media Services initiative – 1/2 Source: Verizon. Telcos have two reasons to play the CDN market: 1) the monetisation of content delivery. 58 . Telecom Operators Telcos could build a winning proposition by combining the following. enabling global content providers to put their content into all the local CDNs of different telcos. – A potential proposal of a global CDN offer to global content providers. However. The market is currently dominated by Akamai (see chart below). and their ability to coordinate to provide a federated CDN.023 In bn$ CAGR 12 12 +46% 183 Limelight 10 8 115 Internap 6 6 Highwinds +27% 100 4 Amazon Cloudfront 75 Level 3 60 Cotendo 2 0 2006 20 2008 2010 2012 2014 "Status quo" scenario "Push from Telcos" scenario Source: Arthur D. the opportunity for telcos can be estimated at EUR800m.5% of total telecom sector revenues by 2015. and it is unlikely to exceed USD10bn by 2015 even in a bullish scenario. Indeed most content providers expect a global footprint from their CDN operators to avoid dealing with several counterparts (although there is a national CDN market. Our estimates thus range from EUR400m by 2015. hence maximising the benefit of caching and storing content to reduce traffic flows and improve latency.2bn if telcos capture 50% of the market (which also means that they would make a stronger push in this market and thus fuel overall growth). where demand from CDN would be driven by the development of more attractive CDN offers by telcos. for national TV channel websites for instance). CDN revenues most probably will not represent more than 0. Standardization initiatives have started (e. – The strength of their local presence: each local telco can build CDN servers closer to the customer in each country. technically. Little. which is a global player. via a single contract and. In any case. compared to telcos Revenues of the main CDN players In m$ (2010) Akamai Total CDN market revenue forecasts 1. a single entry point. In Europe. in a scenario of moderate market development and a 25% market share. Figure 59: The CDN market is a small one.g. which are providing global coverage to their clients through a combination of their own network and agreements with local telcos. IETF CDNi) but the technical and economic aspects of such a federation are still to be specified. Exane BNP Paribas estimates 59 2016 . A possible solution for telcos is to federate their national CDNs. but it depends very much on operators’ level of commitment. Another solution is to sell a national CDN service to global CDN players like Akamai. to EUR1. the size of the global CDN market is estimated at only USD2bn–3bn in 2011. Each of these types of devices relate to specific ‘vertical’ markets e.Assisted Living . combined with broadband everywhere.Security/Surveillance . a multiplicity of devices will be connected. gas. automotive.Medical Equipment . energy and utilities. Finally. surely telcos will benefit. as well as medical devices. utility meters (electricity. is a key driver for remote provision of IT services – this is the ‘cloud’ opportunity.Infrastructure Moving Objects Includes: . etc.Smartphones . Little. the increasing power of IT infrastructure. computers and tablets: cars and other moving objects.Connected cars . and opinions on the probability of telcos’ success are divided. The largest operators are already positioning themselves and we believe that cloud services.Appliance Automation . We estimate the total potential for incumbent telcos to be 4-9% of their revenues by 2015e – potentially significant even though this will not reverse the sector’s revenue decline before 2015e.Media .Mobile Computers -… Energy “Smart Metering & Smart Grid” Mobile Devices Medical & Health Includes: .eHospital .Sports/Training Smart Home Smartization Smartization Areas Areas Industrial Retail Vending MachiProcesses nes & POS Source: Arthur D. Exane BNP Paribas estimates 60 Includes: .Telecom Operators Diversification: work hard…for the long term When not only everyone.Commercial fleets . financial services. Figure 60: Seven areas offer business potential for players along the value chain Includes: . but also everything will be connected. healthcare. water). Each of those is a large market in itself compared to the telecom market and can benefit from the ‘smartisation’ of devices. How big is the ‘internet of things’ opportunity overall? How can telcos best position themselves? Will this new world bring the sector back to growth? Thanks to IP technology.Consumer electronics . other home appliances and vending machines.Freight / Containers . which can bring cost savings as well as enable innovative services to customers. Mobile phones will become electronic wallets (m-payment).Table PCs . beyond mobile phones.Logistics & Tracking . All these are very long-term opportunities. moving objects (including connected cars and fleet telematics) and building surveillance and automation are all interesting areas to explore.g. The telecom-based services that can be provided in these vertical markets are mainly based on machine-to-machine (M2M) applications. Figure 61: Consumer spending in telecoms compared with key ‘verticals’ areas Share of household expenditure Telecommunications: 2. Others 2.7% Financial services: 2.8% for telcos.Telecom Operators How big is the opportunity overall? These “vertical” opportunities relate to large markets: energy and health each represents around 4% of consumer spending versus 2. Ericsson touts a potential market of about 50bn connected devices globally (see chart below) while the GSMA forecasts 24bn connected devices globally by 2020. SIM cards embedded in machines (cars. For instance. etc.2% Transportation: 13. Equipment 0.1% 0. Cisco forecasts that the total number of M2M modules will grow from 67m in 2011 (already up 71% from 2010) to 381m by 2016. i.5% 1.2% 0.8% Solid Fuels Liquid Fuels Health: 4.5% Telecom. In Western Europe.2% Household appliances: 0.) that send and receive data to and from servers.7% Source: Arthur D.4% 6. these M2M applications represent hundreds of millions or even billions of SIM cards. utility meters.5% Outpatient Service Purchase of cars & other vehicles Operation of personal transport equip.9% 2.4% 4. Exane BNP Paribas estimates In terms of volumes of SIM cards.7% 0.3% Gas 1. Medical Appliances & Equipment 1. while transportation represents as much as 13% (of which the purchase of cars is 4%).4% 2. Little. Services Energy: 3.e.0% Heat Energy Hospital Service 0. Orange targets to have sold 10m M2M SIM cards by 2015.7% 1.4% Telecom.9% 0. 61 .8% Electricity Pharmaceutical Products. 4% 207.5% - 207.454 77% 51% 54% 47% 40% 56% 77% 109% 63% Core sector revenues Core + Verticals Verticals % of core 228.395 1.0% -1. it generated revenues of EUR13m with an end-of-year SIM card base of 417k.115 5.767 75% 7.978 1. Exane BNP Paribas estimates However. which is in charge of M2M for the Orange group. up from 193k a year earlier.713 47% 26% 25% 25% 25% 41% 54% 69% 39% 1.2% -3.661 212. they might achieve a higher proportion of revenue (up to 9%).9% - 84. if these incumbents are more aggressive. point to verticals altogether bringing revenues equivalent to between 2% and 5% of the telecom sector’s revenues by 2015e (more by 2020e) – see table below. catch up and dominate the value chain. However. Figure 63: Overall view of telcos’ diversification opportunities Sceptics’ case EURm Believers’ case 2010 2015e 2010–2015e CAGR 2015e 2010–2015e CAGR 97 254 58 111 84 150 114 20-40 898 664 800 177 343 258 847 989 409 225 4.9% -1.7% 84.6% -2.017 496 754 447 1.2% -3.535 88.4% by 2015e.840 92.608 9.374 2.661 218. Little.0% - Connected cars Fleet and freight telematics Smart metering Building automation Vending machines m-payment Cloud CDN Others (including e/m-health) Total Source: Arthur D. large incumbents would capture 75% of the “verticals” revenues. Assuming a reasonably successful strategy built upon existing connectivity capabilities and other strengths. these are SIM cards with very low ARPU (for instance.885 75% 674 102. which would represent incremental revenue of c. Arthur D.0% - Core incumbent revenues Incumbents share of verticals Verticals revenues captured Core + Verticals Verticals % of core 101. potentially by acquiring other providers. Our analysis of the largest “verticals”. has released figures showing that in 2011. and by partnering with existing service providers. pointing to ARPU of EUR3–4/month in 2011).302 4.685 2.9% -1.460 0. particularly if they move quickly.767 75% 3. Little.203 480 10.6% -2.561 229. Exane BNP Paribas estimates 62 . as detailed in the following pages. Mobistar.3% -1.559 0.Telecom Operators Figure 62: Vision statement by Ericsson Source: Ericsson. smart network wholesale (EUR5bn).. applications. energy. media distribution and connected cars. security. – Vodafone has not given a target for its own revenues but said that the addressable market for “new services” will reach EUR10bn by 2020. Apps & video Orange Energy Deutsche Telekom eHealth Cloud Connected cars Smart cities Energy Cloud eHealth Connected cars Connected home Vodafone Fin. Arthur D. voice) Others T-Systems (incl. Figure 64: Examples of diversification projects by large European telcos Telefonica Growth area focus in verticals M2M Cloud Security eHealth Fin. it stated that EUR500m of revenues were expected from cloud services in 2015. and utilities and transportation (EUR10bn).Telecom Operators Operators’ official targets Large incumbents have publicly announced the following objectives: – Telefónica targets EUR5bn–7bn revenues in 2013 in “Services beyond connectivity”. Serv. and targets new markets such as e-Heath.5bn in 2011).5% 28 Addressable market (bn€) 10. i.25 2010 2013F 2010 2015F 2011 Source: Operators. NFC).e.9% Connected Home Revenues (bn€) Revenues (bn€) 46 8 6 50 6 8 CAGR other business 32 2010-15: -2. machine to machine and cloud. m-payment/NFC (EUR20bn addressable market by 2015). Little. up from around EUR7bn in 2010 (mobile & fixed data for B2C and B2B). Although Orange has not given a breakdown of this figure per vertical market. Cloud) Mobile Internet Group growth objectives Revenues (bn€) 61 3 11 63 5 15 CAGR 47 other business 43 2010-13: -2. – Deutsche Telekom targets EUR1bn new revenues in 2015 from “intelligent networks”. & billing M2M NFC Advertising New services Data & New services Verticals VF "new services" BB connectivity Internet Access Online Consumer Services Addressable market Others (incl.00 62 6 13 Revenues (bn€) 1 4 0 2 1 8 10 7 No indication for total 45 CAGR 2011-15 group 37 0. i. and EUR8bn revenues in 2015 from T-Systems which includes cloud services (up from EUR6. machine-to-machine and advertising. third-party billing. eHealth. health.e.e. Exane BNP Paribas estimates 63 2015F 2010 2020 . financial services. up from EUR3bn in 2010. including financial services (among which near field communication technology i. video. Serv. – Orange targets around EUR13bn revenues from “Data & new services”. 4 0.6 0.Telecom Operators The chart below shows which verticals are seen as most promising by interviewees.1 0. but is included in this chart as a reference in terms of revenue expectations. 64 . ‘smart home’ and ‘smart city’ are more in the concept/initial consultation phase. e-health is at the stage of pilot projects as are electric cars.5 0. incumbents are logically the more hopeful – because they need it most (by contrast. financial services (mpayment). altnets and cable operators still have growth ahead from market share gains) and because they have more means to actually execute such a strategy. OTT content delivery* Financial services Smart metering Moving objects Health Home automation mCommerce/mAdvertising 0. Unsurprisingly. the debate is very open in the industry. As shown in the chart below.7 0. compared to OTT content delivery (see pages 40-50) i.2 0.8 0. Can telcos get more than mere connectivity revenues? Which share of the value created in these verticals will telcos manage to capture in the coming years? They should certainly capture revenues from connectivity/pure communication services – but can they hope to get more? Doing so would require telcos to invest to claim a longer portion of the value chain of each vertical – basically to build a diversification strategy. Exane BNP Paribas estimates It is important to keep in mind that these verticals are at different levels of maturity: smart meters and cloud services are already at the commercial level. Little. using: 0 for <1% of revenues by 2015. and 2 for 5%+.9 * OTT content delivery is not a vertical as per this section. smart metering and moving objects.0 0. Source: Arthur D. while a majority either believe that they should not diversify or that it will be difficult to do so. By type of operator.e. 40% of interviewees believe that telcos should diversify into verticals. 1 for 1-4%. as are m-payment services based on NFC technology. Figure 65: Interview feedback – Index reflecting the perceived size of the revenue opportunities of different verticals Average scores based on 86 responses.3 0. connected cars are just moving to commercial. we believe that the main challenges for telcos are: 1) their ability (or lack thereof) to innovate and execute in new markets. out of a total of 67 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% They should They should try. key areas include: – their customer relationships including their access to a large customer base. In any case. datacenters – and more generally their ability to handle ‘big data’. depending on the specific vertical market. – Appropriate capital commitment. etc.) and other partners able to offer specific skills (e. tech/equipment specialists bringing specific medical equipment in the eHealth space. Another example is the Telefónica Digital partnership with the cloud services company Jovent. 2) the uncertainty over the willingness of different players in each ecosystem to collaborate with telcos (many see them as potential competitors and would prefer telcos to only provide connectivity on a wholesale basis). Here again. 3) the uncertain ability to expand their brand beyond the core telecom business and 4) their willingness/ability (or lack thereof) to invest in areas that are less profitable than their core business. with Telefónica contributing to its latest USD85m fund raising.e. telcos need to enter into JVs with other players in the ecosystem of each vertical. Based on our interviews with both telcos and their potential partners and competitors in these verticals. some telcos are well positioned but some verticals are dominated by large IT services companies such as IBM. The benefits of creating such dedicated business units include the ability to attract talent and capital. IT services/software companies/datacenter specialists in the ‘big data’ field). – their ICT capabilities.Telecom Operators Figure 66: Interview feedback – Should telcos try to diversify? % of respondents. However vertical partners such as utilities also have access to large customer bases. but difficult They should not Source: Arthur D.g. necessary to foster ‘disruptive innovation’ within large groups such as telcos. banks for financial services. Exane BNP Paribas estimates What do telcos bring to the table? Beyond the core network capabilities. Key success factors for telecom operators in this area include in our view: – A significant adaptation of organisational structures. with appropriate specialisation by vertical (matching the size of the organisation to the size of the target market). i. This is for instance the case when setting-up a specific JV. so this may or may not be an asset that telcos can monetise. potentially both the industry specialists (car manufacturers for connected cars. and avoid interference from regulated areas. as for instance the “m2o city” JV by Orange and Veolia to develop smart metering in water distribution (said to aim at equipping 5m meters within 10 years). 65 . billing capabilities and trust from customers. Little. Operators need to create dedicated business units with dedicated responsibilities for verticals. 66 . First. others offer direct cross-border scale synergies (e. Telcos need to develop partnerships with the vertical industry players driving the ‘IP-isation’ of the sector. Tuenti and O2 Media. which are still growing through market share gains). France Telecom. they have greater financial and personnel capabilities. Little. They are hence more interested in exploring potential additional growth avenues.g. based in London. healthcare and smart metering). Wayra and VCs „ Own valuation & financing channels „ London: proximity with financial markets „ Avoid some regulatory constraints „ 2. Arthur D. Deutsche Telekom. Terra.500 staff … in an attractive location HQ London: „Cosmopolitan workplace. as seen with the worldwide M2M competence centre by Mobistar in the Orange group. M2M. which regrouped all its OTT activities under one business unit called Telefónica Digital. smart vehicles). Exane BNP Paribas estimates As discussed in pages 106-107. encompassing notably Jajah. and their US counterparts. the ability to leverage platforms across several countries and/or several verticals can be an advantage. proximity with start-ups „Local government support (“Silicon Roundabout”) „2012 Olympic games: trial of new technologies & services Regional offices: Madrid. cloud … Objective of this reorganization is to “play the OTT game” to attract talent and create an innovative business unit Source: Telefónica public releases. Telefónica. Second.g. Asia + smart metering . Silicon Valley.Telecom Operators – Strong partnering. While some verticals are local and specific (e. innovation-driven „ Coordination with internal capital fund Amerigo. Industry participants share the view that the best placed are the largest telcos such as Vodafone. In addition. incumbents’ core businesses are facing greater challenges than other industry players (such as altnets and cable. – A strong effort to build machine-to-machine platforms that can be leveraged across verticals and across national borders. Figure 67: Telefónica Digital case study Pooling of activities… … in a dedicated structure… „ Avoiding conflicts of interest with other businesses Apps Social network TV VoIP … with appropriate capital commitment… „ Manage investments in new digital business „ Own corporate culture. The most advanced example of such an organisational move is that of Telefónica. size matters in the “verticals” game – and large incumbents are best placed. Sao Paulo. 7% of the sector’s revenues then. m-payment looks like the most mature of the ‘vertical’ opportunities that we have identified. Figure 68: DoCoMo strategy. and m-commerce – see Figure 68. Little. This time round. loyalty services. According to many people.g. etc. i.e. NTT DoCoMo targets generating 20% of its revenues from “new services” by 2015. 2010–2020 New services growth objectives Revenues (¥bn) 2011 M2M Aggregation platform Enverionment Safety 2015F 70 Media/Content Finance/ Payment Commerce e/m-Health Partnerships for mobile business 210 180 60 270 180 4 28 10 70 10 70 3 30 15 2011: ¥352bn 45 2015: ¥903bn Source: Arthur D.4bn at the European level by 2015e. We model potential revenues of EUR1. Exane BNP Paribas estimates m-payment.). equivalent to 0. NFC – About to take off M-payment relates to payment services over mobile phones. both on the consumer (NFC-enabled phones) and on the retailer front. more users. basically planning to transform itself from a telecom operator to an “integrated services company” focused on mobile services but expanding into adjacent markets. and additional revenues to be generated by telcos as an add-on to m-payment e. similar in size to the other verticals that we discuss. The EUR10bn target represents c.Telecom Operators Case study – NTT DoCoMo The global operator with the biggest announced ambitions in verticals is NTT DoCoMo in Japan. It suffers from a “chicken and egg” problem: customers are not adopting the technology as there is no application. The mitigating factor in our view is that the revenue opportunity for telcos should not be overestimated. versus EUR4bn in 2010. In total. 67 . The largest opportunities targeted by DoCoMo are in finance and m-payment. We believe that 2012 will see very strong acceleration in m-payment. the technical infrastructure is getting in place.20% of the group’s total revenue. the fast-growing emerging NFC-based payment activity. and retailers are not adopting it since no customers are equipped. an opportunity which has been touted for many years but has not really taken off yet. This includes a slow growing legacy m-payment business. media and content (websites. DoCoMo’s target is for all “new services” to generate revenues of EUR10bn by 2015. Exane BNP Paribas estimates 68 „ 2011: 65% of Docomo customers (37. We believe that money transfer is a feature for emerging markets but not for developed markets. generates EUR120m of transactions. >50% of parking tickets are bought via mobile phones in Austria).4m shops accept Osaifu-Keitai system . However this remains a small market. which was launched in 2005. which provides the service as a partner to the local government in Vienna.e. and FeliCa by NTT Docomo in Japan. on which it keeps a small fraction in fees. a parking slot. domestic person-to-person money transfer. etc. given the very high banking penetration in developed markets. Some applications are well developed e. Figure 69: NTT DoCoMo’s NFC offering NTT DoCoMo – NFC offering Ticketing Landmarks Parking Remote & Proximity Remittances „ 2004: FeliCa Networks is founded by Sony. – mobile banking corresponds to the mobile access to selected internet banking functions e. and will be driven by the adoption of NFC technology. m-payment is neither ‘mobile money transfer’ nor ‘mobile banking’: – mobile money transfer mostly corresponds to fund movements initiated via a mobile phone e.Telecom Operators What are we talking about? We define m-payment as relating to electronic payments (for goods or services) which are initiated via a mobile phone.4m shops. Remote mobile payment has existed for many years. 2) overall m-payment transactions are estimated around EUR1bn in Germany today. NTT DoCoMo and East Japan Railway Co Shopping Vending Travel „ 2005: Softbank licenses Felica/ Osaifu-Keitai (“wallet phone”) „ 2008: More than 50 % of all handsets support mobile Felica..g. or international remittances. balance inquiries. today. This elimination of the need for cash would be more convenient for the customer and also more cost effective for the merchant. Mobile Felica is integrated into every new handset „ 2008: McDonalds start e-couponing using Osaifu Keitai Member cards Key ID Source: Arthur D. a transport ticket. etc.g. account-to-account transfers. 1. For instance: 1) Paybox. using the mobile handset basically as a replacement for a debit or credit card when buying something in a shop.g. As such.5m Docomo clients (65% of the customer base) own an NFC-enabled handset and can use it in 1. This has yet to develop. examples of well developed m-payment applications include Octopus in Hong Kong. etc. 37.5m) own NFC-enabled phone .g. 2) Proximity payments i. Little. SMS-based payment for parking slots in many Central European countries (e. This is already well developed although it remains a relatively small niche – excluding ring tones. Outside Europe.g. Docomo has built an NFC ecosystem based on Sony’s FeliCa NFC technology. and also real goods or services e. This includes: 1) Remote payments: buying either virtual goods such as ring tones. m-payment needs to bring additional benefits to the customer and the merchant to be well received by both. especially for services such as loyalty and couponing. 69 . What is needed are: – An NFC antenna in the phone – this would mean the customer needs a new smartphone. Given the pace of renewal of handsets in Europe. Beyond this important cost advantage versus cash. for which mail can be replaced by a direct push to the customer’s smartphone. the merchant requires an NFC-enabled pointof-sale equipment. using in particular the Google Wallet system (see below). in addition to the convenience of not having to carry cash. the types of coupons redeemed. – From the merchant’s point of view. the press reports that Apple’s iPhone5. Some big retailers already have NFC-enabled point-ofsale. This should not be disregarded – and the players involved must earn the trust of customers – but we note that in the past. The technology allows a chip (e. his/her location. due to launch in H2 12. etc. etc. so the ramp-up could be quick. There are solutions using a specific SD card or embedding the module directly in the handset. in the handset. A clear rationale for NFC-based m-payment is to reduce the cost of transactions by obviating the use of cash.Telecom Operators What is NFC and why is it attractive? NFC stands for Near Field Communication. but new SIM cards launched today in key European markets already have the secure element capability included. Samsung. will be NFCenabled. it will promote new applications such as targeted ‘couponing’. This is expected to take off quickly. in Europe. all potentially in real time. – On the other side of the transaction. HTC. and 2) the data collected on the customer’s purchases can lead to highly value-added customised propositions. in a card) to communicate with a nearby reader/terminal. Obviously. – A ‘secure module’ to store the highly sensitive data/code/etc. At the end of 2010. credit cards are very developed for midsize to large transactions. Ingenico said that 21% of its terminal sales in 2010 were already NFC-enabled. but 87% of transactions of less than EUR20 at the point of sale remains cash-based.g. but the most common solution for now is for the secure module to be embedded in the SIM card. the integration of ‘loyalty cards’ into the handset phone. starting in earnest in H2 12. etc. Facebook. such issues have not blocked the development of applications collecting large amounts of data from customers such as credit cards. as notably proposed by Google Wallet technology.. For instance. and of the evolution of data protection legislation. These are renewed every three to four years by the large retailers. an NFC solution brings two major benefits: 1) a better communication channel. as do Nokia and RIM (Blackberry). using profiling information on what the customer likes to buy. it is absolutely possible that more than half of the customer base could have an NFC-enabled smartphone by 2015e. In addition. This implies one has to change SIM cards. such potential applications raise the key issues of customer acceptance for such tracking of purchasing behaviour. Orange announced that it targeted to sell 500k NFCenabled mobile phones by the end of 2011. Indeed. and we believe this to be indeed the case with NFC-based m-payment: – From the customer’s point of view. LG and many others already offer smartphones that are NFC-enabled. Telecom Operators Who’s doing what? A large number of experiments of NFC-based m-payment solutions are ongoing globally. VISA is investing at least EUR100m per year to support and promote NFC developments in Europe (both mpayment and contactless card-based). Figure 70: Visa and Google mobile wallet initiatives VISA Google The Visa Mobile Wallet The Google Mobile Wallet „ mWallet to handle multiple cards. We believe that a number of wide-scale launches are approaching. 2) the group is part of the ‘m-pass’ cross-operator initiative in Germany offering NFC services. For instance. and more. Subway. 3) in the US. Exane BNP Paribas estimates – VISA and MasterCard are also strongly involved in competition on m-payment. there are already 300k merchants technically equipped and ready for the solution. – Telcos have clearly understood that there is an opportunity for them and are participating in many industry initiatives. involving many different types of companies along the value chain. First Data and Citi. it is participating in the ‘Isis’ cross-operator initiative alongside AT&T and Verizon in offering NFC payment. Little. 70 . Deutsche Telekom is furthering its global NFC ambitions with several initiatives: 1) a mobile wallet service. Worldwide. cross-channel payment solution. credit card number never fully displayed Source: Arthur D. Other handset/OS makers such as Apple. to be launched in more than five countries. RIM and Microsoft are likely to offer competing payment solutions. but also Macy’s. The Google Wallet uses the NFC chip embedded in the handset for enabling proximity payments at the point of sale. A similar participation in Netherlands was recently halted by T-Mobile on concern over potential regulatory constraints. Customers can get discounts at the point of sale based on saving offers they find on their smartphones. For instance. – Global internet giants and handsets/OS leaders are active in m-payment. which is for them both a key expansion area (ability to capture transactions which are predominantly done in cash today) and a way to secure their existing positions against initiatives from other players in the value chain. Google is developing its Google Mobile Wallet in the US in cooperation with not just Mastercard Paypass. We believe that such a solution could be rolled out in Europe in the next two years. merchant offers – Encryption of credit card information. Walgreens. Toys ‘R Us. payment solutions through multiple financial networks „ mWallet will run on most smart devices and supports NFC „ Partnerships with 14 banks and financial service providers „ Google wallet uses embedded (in the phone) NFC chips for enabling proximity payments at PoS „ Existing credit cards can easily be added „ Multi level Security is provided – Phone lock and Google pin „ Features: Click2buy. In particular. preference management. Telecom Operators – Banks see telcos mainly as partners. Local incumbents are those most likely to seize this opportunity: our mid-range estimate equates to 1.g. this is not a key profit driver for them (e. But they can also leverage their billing capabilities and billing relationship with millions of customers. we estimate a range of potential revenues for telcos of EUR850m–1. In total.2–0. and it is also an opportunity for telcos – so competition for these data is likely to be fierce. Even though they do not see this as an immediate concern. We have taken this opportunity into account by assuming that loyalty programmes could yield c. We assumed that revenues would reach EUR200m in 2015e. they are viewed as more trustworthy than global internet giants regarding customers’ private data).5% for credit cards and as much as 7–8% for credit cards on the web – pointing to a rough average of 2%. equivalent to 0. Merchant fees typically range from 0. couponing.g.g. 71 . Given expectations for m-payment transactions in Europe.4–0. Finally. it is probably also where the most value can be extracted because retailers can benefit from partnering with telcos and web giants. where single-digit growth can be expected. would rather fit in the OTT section.400m by 2015e.3% of their revenues by 2015e. M-Pass in Germany) is uncertain. e. Furthermore. advertising. ring tones. What role and what revenues for telcos? Telcos will obviously operate the network and distribute a large part of the NFCenabled handsets and/or SIM cards.EUR700m in addition to the above-mentioned fees. In terms of potential revenues. and 3) the trust that customers put in them (e. banks obviously want to maintain their customer relationships. we would expect telcos to get a fee in the range of 0. Although payment services are a core function of banks.3% for debit cards to 2. including web giants. payment is a local market (banking is fragmented) so telcos have an advantage versus global internet giants. but we did not include this upside here since 1) virtual goods. there is pressure from regulators on commissions between banks) so they see payment more as a tool to enable the securing of clients. The strengths of telcos in this market relate to 1) their control of the SIM card. e.g. telcos will continue to drive revenues from SMS-based payment solutions. and they could expand into the IT side of the m-payment business. up from EUR150m in 2010.3% of the transaction value. and 2) for physical goods. This will be a contested arena between different types of players. the development of non-NFC mobile wallet solutions based on PIN codes (e. The fact that Google plans to exchange revenues from transaction fees for revenues from advertising/customer data indicates that significant revenues can be expected. providing the servers enabling the applications. 2) their billing competence and billing relationship with customers. Additional revenues could come from operators providing services to merchants interested in a better communication channel and ‘big data’ capabilities. expected to increase to potentially EUR50bn–120bn by 2015e. other remote payment solutions are also likely to be further developed. loyalty schemes etc. In this context.7% of the sector’s revenues then. In addition. this could lead to telcos’ share in transaction fees reaching EUR150m–400m by then. The attraction of the ‘payment data’ is indeed what drives global internet giants such as Google into this field. However. in m-payment. and it is difficult to value at this stage. the first revenue stream is potentially a share of the transaction fee paid by the merchant.g. but some do also see them as potential future competitors. and also ensure that vending machines are appropriately stocked with enough supplies to meet demand. another area related to payment will generate revenues for telcos: vending machines and payment terminals. rather than from a few power generation stations (hence the need for utilities’ grids to become 'smart'). to reach the European objective of 80% of households being connected with smart meters by 2020. Smart metering is a way to improve the management of energy consumption in a context where the cost/price of energy is increasing. wind.Telecom Operators Vending machines and other payment terminals – Still value to play for Besides the development of NFC and m-payment.EUR450m by 2015e.e. and further strong growth is due after 2015. online authentication/payment. solar). 72 . with less predictable production patterns (e.We have made an estimate of the opportunity for telcos in vending machines based on the revenues they can drive from network access revenues. an opportunity to offer value-added services to customers. hotels and banks. system integration and service provision. However. The company’s B2B revenues heavily depend on the adequate supply and reliability of its coffee machines. smart systems can play a key role to balance demand and supply across the power grid – which is then called a ‘smart grid’ – in a world where energy production can be better distributed across regions. and synergies here could allow them to capture half of it by 2015. This is already true for electricity and gas and could be as well for water at some point. Potential revenues for telcos . customers and also other potential players such as telcos). communications will become increasingly essential for the utility business. Telcos’ development in m-payment (NFC) would give them an incentive to also target this B2B market. In addition. as well as the potential upside in online authentication/payment enabling. vending machines or parking meters can improve maintenance and repair with remote diagnosis. Most projects are still in their early stages (except in Italy and Sweden) and nothing major is expected to emerge early in 2012. Smart metering/grid – Hundreds of millions of devices Smart metering is viewed by many interviewees as the biggest ‘vertical’ opportunity and indeed our estimate for 2015e revenues is consistent with this view. performance measurement. For instance. the number of smart meters is expected to double in Europe by 2015 (to 100m smart meters). We estimate the opportunity at c. As such. embedded M2M modules in unmanned gas stations. power generation from an increasing number of locations across a country. telcos provide M2M connectivity to retail/vending machine operators. an opportunity to lower operational costs and 2) from the point of view of all parties involved (utilities.g. which typically represent 20% of the value chain. Smart meters are due to be rolled out widely in Europe The smart meter market has been off to a slow start. re-fill and repair notification. The expected growth in renewable energies means strong growth in distributed generation i. In this B2B market. Benefits expected from smart metering are: 1) from the utilities point of view. Connectivity can be made in unexpected places: Orange Business Services will provide M2M connectivity for Nespresso. The market can be segmented according to the different types of services provided: alarm systems. 3 0.6 m 7. a timetable for the implementation with a window of up to 10 years must be prepared. but significantly lower in Germany. based on public announcements Country 2010 2015e 2020e CAGR 10–15e CAGR 10–20e Germany France UK Italy Spain Sweden Total 0.8 5.1 92% 89% 164% 6% 18% 0% 15% 61% 61% 91% 4% 13% 0% 16% Comment Electricity Electricity Electricity & Gas Electricity & Gas Electricity Electricity Source: Arthur D. Connectivity is therefore their home turf. – Connectivity: telcos have the network and spectrum.2% of the sector’s mobile revenues then.26–0. member states must produce cost-benefit assessments for the rollout of smart metering for electricity and gas by September 2012.3 10.2 7. Little. Exane BNP Paribas estimates Compared to the number of households in each market. based on public Million meters CAGR +118% 250 200 229 235 2019f 2020f 197 150 169 CAGR +109% 135 100 108 ►Mass take-off Germany 88 50 51 74 65 57 ►Start UK ►Start France 0 2010 • • • • Italy: Spain: Sweden: Others: 2011f 2012f 2013f 2014f 2015f 2016f 2017f 2018f Upgrade+ Replacement 34. and using 2G may lead to the inability to ‘refarm’ the 2G spectrum in the medium term). Telcos’ role and potential revenues Overall.0 53. Figure 71: Smart meter installed base forecast.2 46. we derive a potential revenue opportunity of up to EUR500m for telcos at the European level by 2015e.1 34.9 7. though there are three ‘buts’: 1) The network part of the smart metering business does not require broadband. This is equivalent to 0. many of these figures point to penetration rates of more than 100% because they include 1) both electricity and gas meters – in the UK and Italy – and 2) both residential and professional premises. at least 80% of households shall be equipped with intelligent electricity metering systems by 2020. As part of the business case.0 5.0 50.5 48.3 0. France and the UK). There are no implementation targets for gas smart metering.38/month per meter (of which a third is pure connectivity revenues and the remainder ancillary services) and an estimated penetration of smart meters of 65–70% of households by 2015e (very high in Italy and Spain. It can be done via GPRS (although operators may actually decide to provide this service over 3G because these are very long-term contracts.2 7. Little.8 18. 73 .5 95. When the business case is assessed positively.Telecom Operators Indeed.2 35. Exane BNP Paribas estimates Figure 72: Smart meter installed base estimates in key countries. unique assets compared to others in the value chain.8 m 5. according to European law (Directives 2009/72/EC and 2009/73/EC).9 35.5 m 4m Source: Arthur D. using an ARPU of EUR0.4 26.5 205. Europe.2 5. – B2B or B2C model? Both look possible in theory. Market organisation varies by country Each country’s market is organised differently. Payment services would be the main value proposition (e. but the revenue opportunity on billing is very small: estimated at only EUR1 per year per meter. However. data collection and aggregation. offering different opportunities (or lack thereof) for telcos. and last but not least Powerline Communication (sending data along the electricity cable).g. and they are often seen as not having the competency. Exane BNP Paribas estimates The debate in the industry regarding the potential role of telcos’ in the value chain is quite open. notably to be able to provide guaranteed data collection from smart meters to ensure the appropriate billing of customers. and so not a meaningful addition. they would have a limited role in the value chain. 74 . mostly large incumbents. – Many interviewees are very sceptical about telcos’ ability to get beyond the mere connectivity layer. operators could propose a package of network connectivity and billing). but it is difficult to imagine many utilities letting telcos operate their core business. highlight the need for telcos to fight to provide "complete solutions" rather than just SIM cards and connectivity and try to become the key enablers of smart grids.Telecom Operators 2) Telcos and their wireless modules (2G. Little.e. telcos need to collaborate with utilities on the system integration and service enabler roles. 3G) are not the only possible connectivity solution and sometimes lack coverage to reach in-building meter locations in cellars and stair cupboards. they could position themselves on the design of the platform. – A few interviewees. Indeed the smart metering business is seen as too distant from their core business. Figure 73: The evolving smart metering/smart grid value chain Source: Arthur D. and could even support utilities with "dynamic pricing". Alternatives include the ‘International Scientific and Medical’ technology (but risk of interference with ISM equipment) and WiFi (although this would need the customer to have a fixed broadband connection nearby). – Ability to develop and run the platform. – Customer care capabilities. Possible role of ‘enabler’ of smart solutions/smart grid. so the B2B model looks more likely. i. The revenue opportunity is difficult to assess and more project-based than recurring. In any case. telcos are not the only ones able to do that. billing and customer trust. In addition to transport and billing. and solutions will vary across markets given their different organisation. 3) Telcos need to adapt their networks to the quality requirements of utilities’ networks. This offers opportunities for telcos. third party services can interact with the smart meters. developed by ERDF).. creating an opportunity for value-added services. Ofgem = Office of Gas and electricity Markets (UK regulator). competing with Telvent-Vattenfall and Telven-E. – Italy: Enel basically controls the whole value chain. Telcos will therefore get only connectivity revenues. Deutsche Telekom plans to offer ‘Energy Box’ for metering management and services. The law requires only monthly readings of meters. resulting in a very limited rollout at this stage.. The focus is mainly on efficiency benefits for Enel rather than on developing VAS for consumers. Little. These will be connected to low-voltage posts through Power Line Communications technology. It developed its own smart meters using a hybrid system including the Echelon Power Line Communications technology but also machine-to-machine on 2G. the Telenor-Fortum JV. DCC = Central Data and Communications Company Source: Arthur D. including the smart meters (‘Linky’. e.On.g. The meter rollout is based on customer demand rather than a centralised push. then data will be carried over the air to the control centre.Telecom Operators – Sweden: the utilities control the rollout but often adopt ‘turnkey’ solutions. although the system design is ‘open’ i. – France: ERDF controls all elements in the value chain. e-on. – Germany: the utility market is very fragmented (although with some major regional players such as RWE. Exane BNP Paribas estimates 75 .e. on both the utility and ICT fronts. potentially opening longer term service opportunities. via a M2M MVNO agreement (GPRS). For instance. EnBW) and there are attempts at launching independent ‘metering operators’.1bn. DECC = Department of Energy & Climate Change. The total investment has reached EUR2. and telcos are active in this field. The utility provides a smart meter but the customer can choose any player on the market to offer metering services instead of the utility. but many utilities have enabled hourly reading. Figure 74: Examples of smart metering market organisation Sweden –Competitive market for DSO’s and connectivity and service providers Italy – DSO Enel controls market Germany – Competitive market for DSO’s and Meter Operators UK – Government controls market via DCC DSO = Distribution System Operator. The smart home controls company Philips Dynalite offers solution to control all domains of a smart home. home surveillance is viewed as an application with good revenue potential as surveillance is based on emotions (fear) and therefore customers’ willingness to pay can be high. LG has developed HomNet. In addition. As shown in the chart below. lighting. gas and water. in which telcos are already active. according to recent surveys.e.4bn (USD5bn worldwide). Companies that win the tender will have to partner along the value chain to offer a turnkey solution. networked. Of the various fields. some companies expect telcos to have a role in all household oriented applications i. Honeywell and Johnson Controls have developed smart home concepts. Smart home – Room for automation and assistance Beyond smart metering for electricity. in surveillance applications. The rollout of the system. wireless and fixed-line communications. etc.5bn in 2015 and USD8. demand has not fully matured. which should be fully rolled out by 2016. online portal. air conditioning. automation and controls. Still. connectivity is ‘mission critical’ and requires relatively high bandwidth. with a focus on grid and operations efficiency at this stage. 76 . often focusing on energy efficiency.4bn in 2020 (ABI Research. home energy and home appliances. with service fees over the duration of the contracts worth a total of GBP4. and could reach USD3. Finally. Home automation Home automation refers to the process of turning conventional products and appliances into smart. the increasing appetite of customers (multi-screen households. The development of this market is driven by the growing penetration of fixed and mobile connectivity. so the role of telcos may be to provide only the connectivity. security and home energy management appear as the most interesting for customers. with a focus on “ambient living” and lighting control. Smart home solutions require products and technologies from a wide range of areas and players: electrical power distribution. – Spain: Endesa is implementing a proprietary solution based on Enel technology. Facit Research). so this is quite attractive and quite close to telcos’ core network business. potentially enabling solutions in security. Both companies are developing their networks. IT-empowered devices. digital natives) and the ability to meet existing and growing needs in energy efficiency and safety solutions. humanmachine interface. a comprehensive solution encompassing entertainment. energy. home control. the growing number of connected devices and the lack of a consistent ecosystem in consumer electronics have created a growing market space for technical assistance in households. communications.59bn (over 9–20 years). There will be tenders to build wide area network and data services to support smart meters.Telecom Operators – UK: a Central Data and Communications company (DCC) is due to oversee access to the data (privacy issues). security – with the view that the "smart home" can be a natural opportunity for telcos. and is thus difficult to forecast. many different types of players are involved in this market. Customer services will be rolled out gradually. The market size for Home automation in Europe is estimated at USD1. the decreasing prices for connectivity components. which includes power line communication (PLC) combined with GPRS machine-to-machine communication is being performed by the company itself with little cooperation from telcos. Each large mobile operator hopes to get its fair share of this market. utilities and appliances control. Iberdrola is also developing its own PLC technology in collaboration with technology firms. In particular. DCC controls the network operators and service providers. Large equipment players including LG. Bouygues Telecom (Bbox Energie in partnership with Ijenko). telemedicine. Z-Wave. but they also aim to develop the platform managing the services and selling it – as a bundle or as an extra to connectivity. SFR (HomeScope: home remote monitoring with camera) and Telecom Italia (Energy@Home with Electrolux. Indesit). Figure 75: Main groups of players in the smart home market Electrical Power Distribution/ Building Automation & Application Players Smart Building Specialists Service Providers (Telecom Operators. 77 . Energy management solutions are also being proposed by some telcos. Enel. e. Powerline) or non-IP based (ZigBee. IT. in partnership with two of the four main energy providers in Germany (e. Deutsche Telekom is developing its ‘Smart Connect’ platform (launch expected by mid-2012).on and EnBW). telcos have a natural potential role as home area network manager. though often limited to security. etc.). DECT. Exane BNP Paribas estimates In this complex communication ecosystem. This move is part of the group’s commitment to develop into four “Intelligent Network” fields (smart energy. Several European telcos have launched home automation services. media distribution and connected car – see page 63).g.g. Utilities) Smart Home / Home Automation Market SW. Telekom Austria (aonAlarmServices: alarm system). Telcos are now launching more ambitious and integrated home automation solutions.Telecom Operators All these devices and services use various communication protocols. e. For instance. as well as Miele and eQ-3. Little. which can be IPbased (WiFi. Communication Equipment Players Household Appliances Players Source: Arthur D. Ethernet. For instance. but if some operators decide to provide extended solutions. with for instance remote diagnosis and preventive maintenance for elevators and printers. Potential revenues for telcos – All these services ultimately need network access. US telcos are already active in this field. Vodafone is proposing M2M connectivity to facility management firms and services companies. surveillance. Most telcos are operating in this market in partnership or conjunction with other parties.) and is linked to a cloud services platform via ADSL. Verizon launched a home monitoring and control service offering different packages. to provide complete security solutions to local authorities. not least because security service retail (above and beyond the M2M component) has in the past proved sensitive to economic growth as it is linked to the housing market. Verizon The system. etc. some operators are participating in the shaping of the home automation platforms. given the extent of on-site presence involved in installation. Deutsche Telekom expects 50% of German households to have at least one “smart” application in 2020 and says that its home automation solution can provide energy savings of up to 20%. KNX. Z-Wave. etc. This could involve designing a dedicated box or an extension of the functionalities of their current boxes. where they provide M2M for security firms. M2M modules can enable various services such as the remote management of machines. police and public transport companies. access control and asset tracking. Fagor and Gorenje. Managed network access could represent c. service integrator and provider. alarm sensors. For instance. including EDF. which should provide home energy management and device automation functionalities. AT&T recently set up a separate organisation (AT&T Digital Life Services) and acquired Xanboo. a European funded project on home energy management involving eight partners. is based on a box (Smart Connect Box) which supports various types of connectivity (ZigBee. emergency attendance. Telcos also have activities in B2B markets. We model revenues from this segment rising to up to EUR750m by 2015e if telecom operators can achieve significant expansion beyond their current role. government or facility management companies. a home system specialist.20% of the addressable market. they could tap other parts of the value chain. 78 . support. BT established a dedicated business unit. Telefónica is a member of the Beywatch project. but the extent to which telcos can drive significant revenues from these services depend on their involvement as enabler.Telecom Operators Figure 76: Examples of telcos’ smart home concepts and offers Deutsche Telekom ‘Smart Connect’ architecture Verizon home monitoring and control offers Source: Deutsche Telekom. They could play the role of integrator of the smart home solution and provide assistance to customers. There is uncertainty on the pace of this market development. Telcos’ ability to monetise this market will depend on their level of commitment in the ecosystem. To secure revenues beyond the provision of mere connectivity into the home (which telcos already provide anyway). BT RedCare. telcos can expect to drive some revenues and also use the opportunity to differentiate itself from the competition. WiFi networking. or networking fault diagnosis and rectification. IT Sofort-Service Comfort (EUR9. TV-internet. first aid assistance. For hardware vendors and for telcos.). routers.g.Telecom Operators Technical assistance The development of smart home networks and appliances generates increasing complexity for households. including networking peripherals. media centre-TV. Exane BNP Paribas estimates Examples of telcos’ offerings in this space include: – BT Home IT Support (UK): 1) general IT support service which may include set up and configuration of a customer’s PC. Little. This could lead to increased demand for technical assistance services provided to the home. For many market players (e. theft insurance.95/month): phone help for OS and software problem and installation. including telecommunications products (internet access. and ensure the take-up of new services. etc. IT assistance (PC configuration. such a decision is also driven by the need to ensure a satisfactory “total consumer experience”.g. Technical assistance refers to services aiming at facilitating the installation. repair and use of communication and electronic devices and services.). gaming console-internet.). etc.). the decision to enter the technical assistance market is driven by customer demand for this type of services. etc. The size of the potential market is difficult to estimate since it is heavily linked to the hardware. other services companies) as a way to generate additional revenues and also increase client stickiness. digital home integration (PC-TV. 79 .95/month): phone help (same as Basic) + up to four interventions per year. – Virgin Media Digital Home Support (UK): PC Healthcheck (a free application). and is thus hard to reconstruct. It also includes training as well as insurance and warranties (hardware repair. – DT Technical Services (Germany): IT Sofort-Service Basic (EUR4. distributors. distributors or independent service providers). virus removal. printer). In particular. home networking (domestic network configuration. game consoles. equipment or software. smartphone/PDA.). etc. Some sources expect the US market for “premium assistance” to reach USD3bn in 2012. 2) broadband accelerator service (“assess the set-up of your current BT Total Broadband service and try to improve the speed available for you”) and 3) broadband repair service. This area is increasingly considered by telecom operators as well as other players (e. installation of new devices (router. etc. improve customer satisfaction. reduce churn. Figure 77: Main groups of players in the assistance market Telecom operator Distributor Independent Service Provider Marketplace Vendor Ecosystem Source: Arthur D. and Live Expert Help (online/phone assistance) for a price of GBP6/month for one computer or GBP10 for three computers and all devices: printers. software and connectivity markets. substitution. IPTV. virus and spywares. which were then connected to satellites and mobile networks. 80 . vehicle management (fuel cost reduction) and better customer service (time management). An increasing number of telecom operators partner with telematics and fleet management service providers. Beyond the value chain roles that they already control. through better route planning (increased productivity). telcos can try expanding into provisioning. The penetration rate of fleet management services is estimated at less than 5% today. which will provide fleet management services. These solutions are integral parts of much larger information systems such as supply chain optimisation programmes for logistics services. they are increasingly also deployed in lighter vehicles. – Extended end-to-end involvement. platforms and technical support. a basic fleet management system for trucks.000 upfront (hardware cost per truck) with service costs from EUR40/month (per heavy truck) can often still be paid back within a year thanks to the savings generated. This is a competitive market but competitors are often small and could be bought out and integrated (indeed some have recently been acquired).e. For instance. which can be provided directly to the fleet owner but also through vehicle manufacturers (for new vehicles) and third party vendors (of services or hardware. For example Telefónica recently announced a partnership with the major European fleet management solution provider Masternaut. Fleet management services (FMS) are vehicle-based systems incorporating data logging. including pre.and post-sales support. – Partnering with third party companies.Telecom Operators Fleet and freight management – Further growth ahead What are we talking about? The fleet and freight management segment emerged in the 1980s with early on-board vehicle computers in transport vehicles. heavy goods vehicles). while Telefónica will contribute with its commercial network. especially due to the short pay-back period for high value loads. for retrofit FMS installations).6m are heavy trucks/trailers). enablement and system integration roles. The products will be distributed under the Telefónica brand. typically costing EUR2. protection against theft and hijacking. and customer care. Fleet management services can help avoid congestion (ensuring timely product delivery).29m vehicles. Indeed the commercial vehicle installed base in Europe stands at c. and ensure that work time directives are respected by drivers – but the main benefit of such systems is direct savings. Whilst these systems are clearly of large value for important vehicles and high value loads. There is a broad opportunity for systems to be deployed to support fleets of other types – for example monitoring and managing fleets of hire vehicles (which vastly outnumber HGV i. Potential revenues for telcos Although the fleet management market is already bigger than other ‘verticals’ and even though fleet sizes are roughly stable (anti-HGV legislation and economic downturn). it still has growth potential due to the current low penetration level. including 6. applications. and third parties expect it to reach at least 17% of heavy trucks and trailers by 2015e. enable automated road charging. satellite positioning (GPS) and data communication to a back-office application. Telecoms operators already tap this market today but could increase their exposure: – Provision of connectivity services. This aspect drove market adoption.2m medium and heavy trucks (of which 3. speeding alert. – Navigation and information: navigation. personal messaging. automatic driver license check. performance management. address book. – Remote vehicle services: remote diagnosis. 3) mobile operators: mobile broadband infrastructure is in place and they want to leverage it. dynamic routing. but also 4) regulators and governments. etc. – Traffic management: car-to-car communication. The system cannot be used for car-related remote services due to security concerns and e-Call implementation is problematic. insurance. “there will be SIMs in all cars”. it faces some privacy issues. applications. environmental scanning. access to cloud storage. The market for connected cars is expected to grow strongly. calendar.g. maintenance. – Financial services: pay-as-you-use. advertising. extending customer relationship. either automatically via the activation of in-vehicle sensors or manually.g. No specific mobile plan is required. pushed by many different parties: 1) car manufacturers: cars are increasingly complex. tracking and e-Call – a system currently being designed to enable emergency calls to the “112” number in case of car accident. – Communication and entertainment: voice communication. parking space finder and other location based services. reflecting the growing penetration of mobile data and applications in the consumer market.) can be integrated. one of the largest contributors to M2M divisions today. monitoring of street conditions. Connected cars – Telcos search for traction What are we talking about? As one interviewee put it. It is expected to cut emergency response times by 40-50%.Telecom Operators Fleet management and supply chain services are already worth hundreds of millions of Euros in revenue to telcos. large incumbents with wide geographic footprints appear best positioned in this market. need to manage repairs efficiently for customers & service stations. External CPEs (e. growing integration of multimedia in cars. logistics. in which telcos also capture a 35% share of the enabler. etc. etc.). – Smartphone-based model: connectivity is provided by the customer’s smartphone. Three models are typically envisaged for connected car services: – Embedded SIM: the car is fitted with a closed communication system with integrated controls and a dedicated SIM card. navigation. with electronic components a key driver of failures. revenues may exceed EUR2bn by 2015e (through deep partnerships with a lead telco role. gaining behavioural data and building brand loyalty. Connected car systems can provide a very wide range of services: – Safety: crash-management. system integration and solution providing roles from established players. etc. fleet tracking. We estimate that connectivity revenues could reach EUR800m by 2015e – the base case of what telcos can capture – while in a more assertive case. etc. voice control. MP3 player. video & games. 2) customers. tolling. Given the trans-national nature of transport fleets in Europe. hard disk drive. notably because the system includes an in-vehicle ‘blackbox’. music. internet radio. financing. The system is expected to communicate a standardised minimum set of data and also to open a voice communication channel between the vehicle occupants and the emergency responders. etc. and the need for efficiency in the B2B segment e. remote management. airbag control. field management) and logistics (tracking. environmental information. However. environmental benefits and tolling. 81 . with objectives in terms of security. or M&A). – Professional services such as fleet management (data logging. which enables entertainment and navigation applications. 1m at the end of 2010) to 25m in 2015e – equivalent to 10% penetration of the EU27 vehicles (and higher if we consider only Western Europe and only passenger cars).Telecom Operators – Hybrid model: includes both an embedded SIM for the car-related services and the integration of the customer’s smartphone for multi-media services and apps. The active user base is expected to grow from 7. Little. but do not secure the client relationship or move into direct provision of advanced services. Exane BNP Paribas estimates Market forecasts and potential revenues for telcos Sales of car-related telemetric systems by the main car manufacturers in Europe are expected to grow from 5. Figure 78: Connected car – installed base estimates. In both cases we exclude hardware revenues.12m vehicles by 2015e. This assumes that the telcos fulfil significant roles beyond the pure provision of embedded SIMs (a fraction of the above). 82 . In terms of potential revenues for operators. etc. we have assumed revenues of EUR3-5 per unit per month for SIMs. This would move telcos closer to services that car manufacturers and third parties (like OnStar) currently retail at EUR20+/month in pioneer markets. we have assumed that telcos capture the above but also succeed in deepening their service set (into entertainment.) and their involvement in the value chain (into system integration. communications. Arthur D.3m in 2015e – including both the embedded systems and those based on external mobile devices.g. speed/radar warning. Western Europe 30 25 million 20 15 10 5 0 2010 2011 2012e 2013e 2014e 2015e Source: Berg Insight.8m in 2011 to 13. connectivity and supply of basic services including e-Call and recovery assistance – pointing to revenue of c. iSupply. – In the believers’ case. In this scenario we assume that telcos capture (on average) at least 50% of this across a base of c. through M&A). we have built two scenarios reflecting widely different views on the share of the market value that telcos can capture: – In the sceptics’ case. Revenues could reach EUR1.7bn by 2015e.EUR600-700m by 2015e. provisioning and the customer care relationship).17m within the EU-8 countries by 2015e. and that the base of vehicles taking at least this level of service would be c. platform management. telcos would need to take a leading partnership role with existing providers (and secure the entire market volume) or eliminate/absorb existing providers (e.8m at the end of 2011 (up from 4. To achieve this. since the value added by telcos here is minimal relative to other suppliers. Both platforms are secured by firewalls to ensure security. Members include Allianz. BMW Connected Drive) ƒ ƒ Global M2M M2M City Connected Car business unit M2M. Exane BNP Paribas estimates Figure 80: Potential positioning of telcos in the value chain Hardware Content Network Service enabler System integrator Service provider Sales OEM OEM OEM Telcos managed HW Partnership Ext. we think most of the value will go to the largest global telcos (e. service provision. Efkon. which is notably working on the definition of eCall (due in 2014). integration and middleware roles for a car manufacturer – and displace (or acquire) the existing suppliers – there is very significant value to be created. NEC. Little. simple e-Call. NXP. Provider Ext. and can minimise the roaming element of service costs if bandwidth usage from vehicles rises rapidly in the future. navigation (Google Maps) & Infotainment Network Provider in Connected Car field ƒ “M2M City“ with focus on telematics in passenger cars and fleet & process management ƒ Network Provider for TomTom and Digicore (European wide connectivity management) ƒ Partnership with Gemalto for emergency call services ƒ Installed base: 200. Figure 79: Major European telcos are already active in connected cars Entity in charge Activities M2M competence center ƒ ƒ Orange Business Services ƒ ƒ International “Global M2M“ competence center with over 100 employees Own “Connected Car Initiative“. TomTom.competence center with focus on Connected Car & Digital Home Sales of Fleet Management products through Kuantic (FR) und Aeromark (UK) – with a focus on Tracking & Tracing and Navigation Network Provider in Connected-Car field Source: Arthur D. Little.Telecom Operators This range of outcomes highlights that if operators can successfully play the aggregation.g. Nissan. then the opportunity is smaller. Vialis. covering a third of the world population or more) who can offer the best deals for global car manufacturers.000 BMW cars with M2M solutions (e. Examples of operators participating in industry alliances aimed at developing the connected car market include: – Ertico – a global development platform founded by the European Commission in 1991. but if telcos are relegated to a SIM supplier role for telematics solutions (positioning. Exane BNP Paribas estimates Given the cross-border nature of these services. Continental. VW. cross. Honda. Volvo. cooperation with SEAT on “eCar“ – integration of eCall. Mitsubishi. maintenance info). Cobra. and among operators: Telecom Italia and Vodafone. Fiat. Logica. 83 . there are moves in both directions – hence visibility is low. BMW.& Upselling) Telco with ext. Partners Source: Arthur D.g. Provider Embedded services Embedded SIM Provider of Smartphones Standard HW Integration Smartphone Telco OEM Partner Management & Integration Smartphone Management of Providers Centralized Connected Car Platform Interfaces & Vehicle integration White Label Service provisioning Sales Support (e. At this stage.g. Ericsson. Exane BNP Paribas estimates However this is a very long term project and the government objectives point to still very low penetration by 2020. smart grid integration Berlin: largest integratd project testing business models and consumer behaviour Paris (Autolib): carsharing system (100 vehicles. Electric vehicle initiatives are gaining significant traction in many European cities. Exane BNP Paribas estimates Figure 82: Electric cars demonstration projects in Europe Non-exhaustive London (Polar): charging infrastructure (M2M by O2 with Chargemaster) Denmark: battery swopping. 84 . Audi. on the manufacturers’ side: Jaguar/Land Rover. Bell Canada. Telenor. charging stations Karlsruhe/Stuttgart: smart grid features. Figure 81: Integration of electric car to infrastructure Source: Arthur D. vehicle-to-grid. utilities and municipalities. KPN. below 10m by 2020e and below 20m by 2025e. and. the objective is that electric cars represent 3-10% of sales by 2025. Little. The contribution of this segment to telcos revenues should therefore be negligible by 2015e. cross-border integration Ireland: Advanced integration studies. Electric cars & urban mobility Electric cars will require specific technologies to manage the new constraints brought by the batteries and integrate the car to the grid infrastructure.Telecom Operators – Connected Car Forum – created by the GSMA in 2011. 30+ stations) Ireland Dublin Denmark Cork Copenhagen / Bornholm UK London Berlin Poland Germany Barcelona: electric mobility service citizen office. a platform between telcos and car manufacturers. kWh billing system. BMW China and Fiat. Nissan. Members include Orange. corss-border connection with Strasbourg Barcelona Rome Spain Strasbourg: Plug-in hybrid vehicles. Vodafone. AT&T. and aggregating the targets published by different countries for different timeframes. crossborder connection with Karlsruhe/Stuttgart Italy Malaga Greece Kozani Italy: innovative services & user interfaces. business model testing Source: Arthur D. we estimate that the installed base of electric cars could remain below 5m in Europe by 2015e. bi-directional charing. buildingto-grid. Little. For instance. e-motorbike demonstration Paris Karlsruhe Strasbourg France Budapest Hungary Pisa Madrid Malaga: embedment in smart city concept. Telefónica. Telecom Italia. Toyota. driven by converging interests of OEMs. Hyundai. at the EU level. NTT DoCoMo. by saving time and avoiding visits to hospitals) and save large amounts of money. which refers to the use of mobile communication technologies.6 1. Telcos can provide fixed and mobile connectivity. especially in aging developed countries like those in Europe. e-Health solutions can be theoretically implemented in any healthcare field and for any disease. as well as small devices at home (blood pressure. Exane BNP Paribas estimates e-Health.01 - 2. we believe the opportunity for telcos to find incremental revenue streams in this field remains remote.55 Source: Arthur D. and 3) the rollout of unified networks in hospitals.3 0. m-Health – Fitter in the long term Healthcare is a huge and growing market. Electronic health records or telemedicine are particular e-Health applications.g. etc. but the current experiments in Europe generally reflect the priorities of the different healthcare systems.0 3.0 - 0. and enabling digital processing of medical data. etc. Little.) Figure 84: m-Health – Four examples of use cases Aging Independently „ An adult child helping their elderly parents age gracefully in their own home „ Basic life monitoring as appropriate Health and Wellness Disease Management „ Weight loss „ Vital sign monitoring „ Fitness „ Medication reminders and compliance „ Email / chat / video „ Appointment scheduling „ Personal Health Records „ Trend analysis and alerts „ Connect with family care givers Young Families „ Allergy tracking and analysis „ Managing pediatrician appointments „ Vaccination management „ Holistic management of family health issues Source: Arthur D. diabetes. What are we talking about? e-Health refers to the implementation of electronic processes and communication in healthcare practices. given the complexity of the healthcare ecosystem and the sensitive nature of the services. Communication technology enables many ‘e-Health’ and ‘m-Health’ solutions.Telecom Operators Figure 83: Government targets regarding hybrid and electric cars (installed base) Targets (m) 2014e 2015e 2020e 2030e 2040e France Germany Netherlands Spain Sweden UK 1. 2) websites where patients can store their medical data. However. several experiments are related to chronic diseases with high treatment costs (e. Exane BNP Paribas estimates Examples of e-Health solutions include: 1) the secure exchange and management of medical data. including interacting with consumers via mobile apps. heart failures. Little.) which can be connected to remote servers.2 - 0. 85 . For instance. for instance to remotely monitor patients’ health and provide care.g. which could both make peoples’ lives easier (e. handle mobile devices and in theory could help manage the growing flows of medical data. m-Health is a particular field of e-health.0 1. the potential savings are very large. In developed countries.800–3. the m-Health app market is expected to reach USD392m in 2015 (Frost & Sullivan). hypertension.3% per year (Business Insights). the time spent in hospitals can be reduced thanks to mobile medical devices and health data remote reporting. chronic ischemic heart disease. industry and healthcare professional groups are also working on standardization. costs are also reduced thanks to better treatment (e. Finally. with growth of c. For instance. the IHE (Integrating the Healthcare Enterprise) initiative aims at defining common IT and communication standards (e. healthcare is a very large market. Beyond convenience. potential savings relating to four chronic diseases (diabete. – better quality of life: a tele-consultation at home gives patients access to qualified medical staff. Generally.6bn based on recent trials. – savings: remote care is more cost-effective (shorter stays in hospitals. In the US.3bn in 2012 (research2guidance).and m-health solutions is the amount of potential savings.g. hence to a lower and better use of medical help. 2) the scattered nature of medical data – sometimes not digitalised. Examples of such savings include: 1) potential savings of EUR7. Between 2002 and 2006. As such. the equivalent of USD2. 3) the financing constraints. The global market for mobile healthcare applications is estimated at USD718m in 2011 and is expected to grow to USD1. HL7) to help implement electronic health records. What are telcos doing? The European healthcare environment is dominated by three types of players: 1) the service providers (healthcare practitioners. less transport and patient handling).Telecom Operators The main benefits expected from e-health and m-health are: – better care: the real-time tracking of health indicators can improve the diagnosis and improve the handling of patients. it spent EUR200m on eHealth projects. Large potential market reflecting large potential savings There are few consistent data points regarding the size of the e-Health and m-Health market opportunities. 2) the paying authority and 3) the patient (and informal caregivers e. in particular on e-Health solutions providing personalised healthcare and mobility. in a context where healthcare expenses are growing faster than the economy (+4/+5% per year). cardiac insufficiency. pharmacies.7bn in Germany relating to four telemedicine applications (cerebro-vascular diseases. representing 9–11% of GDP in European countries. The implementation of e-health solutions is challenging due to: 1) the stringent requirements on the security of medical data. and 4) the sector being strongly driven by regulation.g. The global telemedicine market is estimated at USD50bn–60bn in 2010 and the European e-Health market at around EUR15bn. personalised treatment based on electronic health record). e-Health is believed to lead to stronger patient input. families).g.700 per year per capita. and has put e-Health on the Digital Agenda. a key benefit expected from e. 86 . The European Union has been funding eHealth R&D since 1989. and 3) in France. diabetes type two. notably driven by the fact that populations are ageing. The 2007–2013 Framework Programme for Research has already focused EUR335m on e-Health in 2007–2011. and also medical technology and devices providers). 2) in the UK. cardiac insufficiency). according to Syntec. renal insufficiency) estimated at EUR2. potential savings for the National Health Service estimated at EUR760m per year from m-Health applications. DICOM. Figure 86: Possible business models for telcos in eHealth Source: Arthur D.Telecom Operators The development of eHealth implies adding new players to the ecosystem that are specialised in telecommunication and integration. telcos’ primary role can be to provide connectivity. conceived in partnership with healthcare professionals. Beyond that. Figure 85: Value chain example in e-Health – Medical imaging solutions S Source: Arthur D. 2) managing medical data (a cloud-related opportunity). and 3) possibly becoming full service providers. Integrated eHealth solutions. as they already do. who see the healthcare market as very distant from telcos’ core business. Exane BNP Paribas estimates 87 . opportunities include: 1) managing the devices. this opportunity was estimated in one interview at EUR200m+ in Germany by 2015e). Exane BNP Paribas estimtes As for the other verticals. a proportion that could rise up to 45% if they were able to provide end-to-end solutions (Business Insights). According to some sources. jointly with partners (mentioned in a few interviews. telcos providing only connectivity could access up to 20% of the value of the m-Health market. hospitals). Little.g. Little. particularly new mobile connected devices. and to expand connectivity services from fixed-line to mobile. will cover a larger part of the value chain and provide customized turn-key solutions to healthcare practitioners (e. this view was however not shared by most. governmental bodies. – In the US. collaborative tools for health practitioners) and 3) remote care (Mobile Telecare: location and emergency alerts for dependent people). Several products are already available: digital patient file on tablets (Checkpad MED) medical conferences on the internet (in T-City).). for telemedicine solutions in France (Déméter project). TeleAlarmS12 (wireless alarm system to call emergency assistants). The goal of Orange Healthcare is to become the trusted partner for medical data transport and storage in three segments: healthcare professionals. with 80 projects in nine countries. Furthermore. living assistance (Alzheimer and elderly people). and prevention & wellness. Evita (electronic health dossier). It can also be challenging to get a strong commitment from the various types of caregivers. patient at home. we believe that the opportunity for telcos is a long-term one. Toshiba. IT. Verizon launched a cloud-based Health Information Exchange in 2010. and is mostly national-based. Overall. with players coming from different backgrounds (healthcare. in providing remote medical expertise solutions. third party payment. Orange is working with various technology and medical specialists: Sorin. the value chain is complex. Medgate (24/7 doctor consultation via phone or internet. 88 . and AT&T has set up a healthcare unit focusing on m-Health and cloud-based services. Figure 87: Orange Healthcare Orange’s market segment focus Orange-Sorin remote monitoring solution for cardiac patients Source: Orange – Deutsche Telekom: eHealth is one of the four growth areas identified by the group.Telecom Operators – Orange established a line of business dedicated to healthcare in 2007. since the paying authorities are often distinct from the players benefiting directly from e-Health projects (i. CardioMessenger (remote reporting for ill health patients). Thus. a medical imaging specialist. etc.g. – Telefónica created a global e-Health unit in 2010. the economic equation is complex. Tribvn. patients and caregivers). Emporia (emergency call function on specific mobile phone).e. billing). – Swisscom proposes several Connected Health products e. and is working with Baxter on a remote infusion monitoring service (immunoglobulin treatment). It focuses on three areas: 1) ICT for hospitals. chronic care management). The operator is also active in health insurance services (e. remote rehabilitation.g. 2) remote medicine (chronic patients monitoring. regulation plays an important role. a strong impetus at the national level is necessary for successful implementation. in providing remote monitoring solutions to cardiac patients. It provides solutions for remote care. – Vodafone consolidated its health activities in 2010 into Vodafone mHealth Solutions. Due to the sensitive nature of these activities. Indeed. a medical technology provider. Figure 88: What’s the Cloud? Source: Arthur D. generally lack the credibility of large IT players in directly offering IT services. based on a centralised IT infrastructure. 3) the accelerating adoption of ‘IT virtualisation’ and cloud services. This would however only be achieved after a period of substantial investments. This concept can be extended to any software or any piece of data or even any IT infrastructure. whereby the customer’s emails are stored on Yahoo’s servers and accessible from any device anywhere. and they have existing relationships with customers. notably in datacenters (although the several billion euros expected at the European level should be put in perspective by comparing against telcos’ capex). with many credible contenders. We estimate that all in all the cloud opportunity could add EUR1. A number of emerging businesses present opportunities for telcos to capture additional value – including machine-to-machine (see above) and cloud services. It is however a crowded one. Unlike in B2C. EBITDA margin potentially in the 30% range. Little.5–2. This growth is being fuelled by a number of key trends. and 4) a continuing trend towards managed services and selective outsourcing. A basic example is the original web mail services such as Yahoo Mail. Operators. The cloud market is already large and expected to grow to around EUR40bn in Europe in 2015e. many telcos think usage growth can offset price pressure in B2B. A risk for telcos would be that in racing against one another. If one assumes that this would be mainly captured by incumbents. to get the advantages of a global solution whilst enjoying the benefits of a local cloud provider. Telcos should in our view instead consider a “federation” in the cloud market and ensure interoperability between different services. they create fragmentation at a time when OTT players are building products on a global scale. We nevertheless believe that telcos have legitimate claims on this market: they control the network. Such revenues could come with fair margins. rather than lodged in specific software in a specific PC. 2) the convergence of network platforms. this could add 1.0% to their overall top line by 2015e – which is far from negligible.e. Telecom operators are well placed in this domain as they have connectivity. datacenter and operational systems – important elements of increasingly network-centric ICT services. reducing costs and improving interoperability. notably 1) the rising demand for enterprise mobility.0bn–1. particularly mobile operators. ensuring end-to-end quality of services. from web giants to global B2B tech companies.5bn to revenues for telcos by 2015e. i. which can be ‘rented’ by a cloud provider to a customer. Exane BNP Paribas estimates The ‘cloud’ concept is to provide services remotely.Telecom Operators Cloud – Attractive but substantial investment needed Many operators see B2B as a growth area and are driven by ambitious plans to capture market share and develop their offerings in managed services. They typically lack the sales and operational capability to provide IT solutions without partners. 89 . salesforce. and (ii) new cloud service opportunities for ICT providers – see examples in the charts above and below. providing on-demand services. resource pooling (the user has no control over IT resources employed).g. rapid elasticity (down/up-scaling of resources in reaction to usage). storage (e.g. Google. in particular broadband access. – platform as a service (PaaS): software framework (e. but are becoming more available and affordable. scalable. with various versions: – infrastructure as a service (IaaS): computing. Hulu). value-added networks in the automotive industry). dynamically configurable IT resources (hardware. The four different types of clouds are: 1) Public clouds: many users share a common base. (this can be implemented in-house or with a service provider). there is no restriction on applications. corresponding to combinations of public and private cloud. Little. Benefits of the cloud architecture: lower cost and new services The Cloud architecture potentially offers two fundamental value propositions: (i) more effective ways to deliver IT in larger businesses. and an ever increasing efficiency of central IT systems. Clouds are virtualized.Telecom Operators What is the cloud? Ingredients for cloud based services are not new. etc. IBM. broad network access (access via different kinds of devices). 2) Private clouds: for companies.g. Key common characteristics of cloud services: on-demand self service (the user can independently order resources). and 4) Hybrid clouds. In a nutshell. platforms and/or services). and billing per use (based on the monitoring of the customer’s exact usage). smart (high power) devices.com. Google). multimedia (e. Figure 89: The huge cost benefits enabled by cloud architecture IT Consumers ICT suppliers Source: Arthur D. Exane BNP Paribas estimates 90 . cloud computing is “IT-as-a-service”. Microsoft. web services. accessible from anywhere (through fixed and/or mobile broadband connections). Amazon. public administrations. Amazon.g. 3) Community clouds: a private cloud accessible to and standardised for a defined group (e. – software as a service (SaaS): business applications. Oracle). e. Exane BNP Paribas estimates Telcos’ moves and ambitions in the cloud The rationale for telcos to move into cloud services is fivefold in our view: – preventing the risk of disintermediation of telcos by IT players. Exane BNP Paribas estimates European cloud market expected to reach EUR40bn by 2015e Adoption of cloud-based solutions in enterprises worldwide is expected to more than double over the next three years: PaaS and SaaS penetration from 7% to 15%. Arthur D. – creating synergies. which is both large (3-4 times larger than the telco market) and fast-growing (much faster than the telco market). In Europe. This is about ensuring telcos’ business resilience by expanding their value chain positioning. as IT players are increasingly prescribing telco services to their corporate customers. Gartner estimates the cloud market worldwide grew from USD46bn in 2008 to USD89bn in 2011e (including roughly half in ‘cloud-based advertising’ – i. the market developed by Google) and expects this to increase further to USD150bn in 2013e (of which still half in advertising). updates and security patches Application development and testing More user-friendly interface for end-users Lower risk – can switch vendor if service not adequate Database provisioning IT staff are generalists and cannot support complex business applications 2010 2011 Other 2010 2011 Batch processing Source: Yankee Group. – gaining exposure to the IT services market. Figure 91: European cloud market forecasts 80 70 60 EURbn 50 40 30 20 10 0 2009 2010 2011 2012e 2013e 2014e 2015e 2016e 2017e 2018e Source: Gartner. the market is expected to grow from c. Little.Telecom Operators Figure 90: Beyond the cost. Business Insights (analysts consensus). by leveraging network assets and customer relationships. Little.EUR17bn in 2011e to almost EUR40bn in 2015e – see chart below. and IaaS from 3% to 7%. 91 . what are the benefits of adopting a cloud architecture? Enabling mobility is the top reason for adopting SaaS Backup/recovery and storage are the top cloud use cases In % In % Backup/recovery Allows distributed/remote employees to stay connected Lower maintenance and support costs than premises-based alternatives Storage More scalable than premises-based alternatives Production-ready application deployment Better functionality than premises-based alternatives Accessing extra computing power on demand Lower software costs than premises-based alternatives IT staff is too busy or understaffed with current projects Data mining/analysis Reduced challenges associated with upgrades. Managed Hosting from 11% to 14%. Arthur D. Telecom Operators – maximizing customer stickiness. messaging and e-mail BT Virtual Data Center: Virtual infrastructure with self service portal Several CRM solutions in partnership with Salesfore. and 2500 professional clients had chosen the ‘Le Cloud Pro’ offer. Sales of Telstra’s T-Suite SaaS have grown threefold for the past year. – reducing cost for their internal IT. web hosting and mobile applications from EUR800m in 2009 to EUR2-3bn in 2015. estimated by analysts at less than USD1bn of a total of USD13. one of the largest IaaS providers in the US (public cloud offering) for USD1. order. virtual servers) in Europe after United Internet. Furthermore. collaboration. CRM. leveraging their network. billing. Telefónica and Portugal Telecom. – Deutsche Telekom: In 2009. European investments have mainly been coming from Deutsche Telekom. an electronic systems company. collaboration. Important moves by large telcos in the past few years include: – Verizon: In January 2011 Verizon acquired Terremark. hosting. Telstra.4bn – more than three times Terremark’s annual revenues (in the last nine months prior to the acquisition Terramark had revenues of USD258m and an EBITDA margin of 27%). collaboration. but still have limited offers in PaaS Examples IaaS PaaS SaaS AT&T Synaptic Storage and Compute storage and computing infrastructure Custom-built platform as a service: Previsto Communication. and that it has 3. Strato was present in the UK. The consortium will compete with SFR which has joined up with Dassault Systemes. launched in October 2011. Orange. Verizon and Windstream. Figure 92: Telcos have developed IaaS cloud services. – Telstra: In 2011 Telstra announced its plans to invest more than USD850m in cloud computing over the next five years. This fits into the group’s target of boosting revenues from on-demand download services. help desk.3% for OBS by 2015. and SaaS. in partnership with Thales. Investments by European telcos in cloud services remain small compared to those of global telcos. of which 110 had chosen the IT infrastructure outsourcing solution IaaS. in line with its targets. France. while the top six telco investors in the cloud worldwide are AT&T. the second-largest web hosting provider (online storage. CenturyLink. Exane BNP Paribas estimates 92 . – Orange has recently reiterated its target to reach EUR500m of revenues from cloud services by 2015e. which was EUR6bn in 2010. representing a target market share of 3. The use of its cloud service surged by 50 percent in 2011. is expected to grow to almost EUR15bn by 2015e.com and Netsuite Orange Flexible Computing: Virtual infrastructure solution Deutsche Telekom (Zimory): Cloud computing infrastructure Communication. messaging and e-mail Verizon Computing as a Service: cloud computing solution on Demand Communication. messaging and e-mail T-Systems Database and Middleware Environments SAP service through the cloud TeliaSonera Business Class Cloud Services: Infrastructure for managed voice and virtual meeting services On-the-fly IT services: Storage and computing infrastructure CRM solution with Microsoft Dynamics Storage and computing infrastructure Telefónica Aplicateca: Platform for business applications (accounting. Germany. e-learning. RH) Source: Arthur D. Orange Business Services announced that it achieved strong revenue growth in 2011. Spain. Netherlands and Italy. The addressable market. starting from EUR50m in 2010. Orange is part of the French government-funded national cloud project Andromede. focusing mainly on consumers. NTT. by increasing their share of the client’s wallet. Little. it acquired the web-hosting provider Strato for EUR275m.600 clients.5bn. Telecom Operators Telcos’ positioning: network centric and focus on SMEs Telcos are new entrants in this market. Cisco or HP) show strength in desktop as a service/virtual desktop infrastructure/VDI and contact centre applications. The argument used by telcos (notably Orange.com or Amazon) would be the preferred vendors for IaaS services including storage. Leaders in the cloud Software as a Service area are large IT companies such as Amazon. IBM. Exane BNP Paribas estimates Finally. Microsoft. – large corporate clients have existing relationships and value the dedicated service provided by major IT players. – SMEs often value their trusted telco/local partner and are somewhat wary of global ICT players. the SME segment is expected to represent more than half of telcos’ cloud revenues in the next few years. Yahoo. Figure 93: Telcos trying to expand their presence in the cloud value chain Source: Arthur D. etc.com. integrating both the connectivity (network) and the IT platforms. telcos can ensure end-to-end quality of service. but they are not the only ones. backup and recovery. and technology integrators (such as IBM. coming from different types of players. and trying to expand into other parts of the value chain. Telcos are logically starting from their network position. Recent client surveys seem to indicate that telcos could be preferred for cloud-based communications services such as telephony. Telecom Italia. and competition is likely to be very tough. Indeed: – consumers are seduced by powerful OTT players such as Google. while hosting firms and datacenter operators (such as Salesforce. Overall. 93 . the sweet spot for telcos should be SMEs. Little. Apple. BT and Colt) is that since they control the network. web conferencing and unified communications. in terms of market segment. Google. Salesforce. growing from 0.8% of its addressable market in 2010 to 3. Exane BNP Paribas estimates Such margins could prove slightly dilutive to telcos’ margins initially. operating leverage should allow for attractive incremental margins. and the majority of companies in the 18-35% range. Figure 95: Examples of EBITDA margins of cloud players Company Current year EBITDA margin Equinix (US) Rackspace Hosting (US) Strato (DE) TerreMark Worldwide (US) Concur Technologies (US) Taleo Corp.Telecom Operators Figure 94: Many telcos have concluded that the SME segment is a key focus area Source: Arthur D. given the relatively large upfront investment and high fixed costs associated with building. Exane BNP Paribas estimates Potential revenue and profitability for telcos Using Orange’s ambition in terms of market share as a benchmark – i. Little. The table below shows examples of current EBITDA margins at a selection of (mainly US) cloud players. This is overall equivalent to 1% of telecom sector revenues by 2015e. owning and operating datacenters – but as utilization of a facility rises.3% in 2015e – we derive a potential revenue contribution from cloud services to the telco sector of EUR2.0bn in 2015e in a believer’s case (assuming that within revenues captured by telcos. and telcos should get other benefits from such initiatives. The initial profitability of telcos’ moves into the cloud should be limited. Scale is a really important factor to unlock value from cloud investments.com (US) Rightnow Tech (US) United Internet (DE) Amazon Cloud Services (US) 45% 34% 33% 29% 24% 22% 18% 17% 16% 4% Source: Bloomberg. but the cloud should in the long run be accretive to absolute EBITDA. in particular stronger customer relationships (churn reduction) – which could improve profitability in other activities.e. incumbents like Orange will get two thirds and other telcos the remaining third). 94 . (US) Salesforce. Arthur D. both in the infrastructure hosting space and in the service space – showing a range of 4-45%. Little. with most European telcos focused on one or a few countries. Combining these two axes. 2) a strong infrastructure. we find three key strategic routes: 1) the mega-operator. 95 . – and varying ambitions in terms of geographic footprint. and execution risks. In any case only a handful of European telcos can play. This requires continued capex. it cannot be implemented by operators lacking opex flexibility. In any case. It is therefore no surprise that they consider strategies which are increasingly different: – with varying levels of emphasis on the retail side. – the ‘local hero’ could lead to a slightly better top-line than the ‘infrastructure play’.e. with notably a substantial opportunity from the ‘online transformation’ of the business model. but also very different starting positions (leaders versus challengers. Exane BNP Paribas estimates We believe that: – the ‘mega-operator’ approach can in theory create the most value in the long term. but it comes with additional opex and capex in the next few years. i.. in our view: 1) a leaner cost base. – the ‘infrastructure play’ is the least risky but also brings the lowest returns in the long term. which we estimate could reduce a typical mobile operator’s total opex by 9% by 2015e. We look at the key prerequisites for telcos to succeed. Figure 96: Three potential strategic choices for telcos Geographic footprint Ambition in the value chain Local Infrastructure Services Infrastructure play Local hero Mega-operator Global Source: Arthur D. Little. This is the ‘bit pipe’ versus ‘full service’ operator debate. 2) the local hero. local versus global). notably on FTTx and 4G – hence local scale will be of increasing importance. the full service telco focused on a limited geographic footprint. but it is the most difficult to execute (need for capital and multi-faceted competitive challenges). different views on key assets to leverage (the infrastructure or the customer).Telecom Operators Increasingly diverging routes – and no silver bullet Telcos have different visions on the industry’s outlook (more or less negative). Different types of network consolidation can enable typical mobile operators to save 10-30% on network opex and capex in the coming years. but a handful looking at a global footprint. and 3) the local infrastructure play. so the most risky. both in terms of cost (global purchasing. Little.061) 34.115 22.0%) (11. combining these two opportunities could theoretically enable an operator with revenues declining by 2.0%) 7.3%) (2.272) 27.6%) 1. Capex cannot be the adjusting factor – so to preserve their strategic position.5% 14.4% pa until 2015e (in line with our industry scenario) to limit the decline in its EBITDA and OpFCF to less than 3% pa.852 28.148 22.272) 37.3%) (4.211 (63.Telecom Operators As shown in Figure 97.0% (7.4%) 6. Given the strong growth in data traffic and the expected move to super-fast broadband.778) (11.171 14.3% (69. global pooling of IT infrastructure) and as a commercial differentiator (in a few market segments). we conclude that global scale will become more significant in the long run.8% (2.124 (2.778) (12. infrastructure will be a key differentiator. putting pressure on profitability and free cash-flow generation.0% (15%) 24. comparing to a ‘flat opex and capex’ scenario Theoretical scenario with flat opex & capex EURm Opex & capex opportunities 2011e 2015e CAGR Mobile revenues 107. 96 .1%) Source: Arthur D. we predict a flurry of M&A: at the local level (fixed-fixed.069 97. Under-investing compared to the competition is a key risk.1%) 0.767 (10.011) (10.4%) EBITDA-Capex EBITDA-Capex / revenue % reduction Potential scenario EURm 2015e CAGR 97.1% (2.6% (12. Exane BNP Paribas estimates Finally. Figure 98: Interview feedback – What are the characteristics of potential longterm winners? Strong infrastructure Large global footprint Large local market share Depends on execution Integrated (F+M) Full service OTT players The leanest Strong brands Deep pockets 0 2 4 6 8 10 12 14 16 Source: Arthur D. telcos increasingly need to work on their opex base. but also cross-border (most probably small moves rather than big jumps. Since each operator has room to optimise its strategic footprint and pressures on the top-line will not ease quickly. Figure 97: Mobile opex and capex opportunities.124 (2.4%) “Online centric” opportunity on opex Opex EBITDA EBITDA margin (69. fixed-mobile).211 6. mobile-mobile.063 35. even though large moves cannot be entirely ruled out in the medium term).978 22. particularly for incumbents and mobile operators.3%) (9%) “Network consolidation” opportunity Network opex & capex % of revenue (11. Exane BNP Paribas estimates The prerequisites: strong infrastructure and lean opex The revenue outlook for the industry is gloomy. vertical (acquisition of incremental capabilities to serve adjacent markets).7% 0. Little.796 35. including network sharing on a country-by-country basis and optimisation of IT resources on a cross-border basis. Mobile operators have relatively large other direct costs (c. so other direct costs should decrease faster than revenues. telcos have not fully exploited two fundamental improvement opportunities which could bring radical upside: 1) Front-end: leveraging the rise of online applications and the ‘virtualisation’ of interactions with customers. but based on a significant sample (including notably Vodafone.10% of revenues) while integrated incumbents spend less (c. This is not an area over which operators have significant control. EBITDA would fall by 23% between 2011 and 2015e. France Telecom. Given the revenue pressure expected at the sector level (-2% CAGR): – if opex were to be flat over the same period. although this comes at a cost in terms of capex. to maintain EBITDA in absolute terms between 2011 and 2015e would require telcos to cut their total opex by 12% in four years. 97 . but we expect these costs to decrease faster than revenues. 2) Back-end consolidation.34%. Mobistar. Can operators achieve such massive opex reductions in a four-year timeframe? We believe that beyond the classic ‘benchmarking’ exercise that all operators do regularly on key cost elements. Exane BNP Paribas estimates Telcos’ cost structure: where are the opportunities? Not many operators report their detailed cost structures.Telecom Operators In 2011. thanks to the lower MTRs and the evolving revenue mix (growth in mobile data with no interconnect costs). depending on their revenue mix. with most large telcos in the 30-40% range.5% of revenues) – reflecting that mobile businesses of integrated players are using elements of the fixed-line network such as fibre links (capex). Telecom Italia and Portugal Telecom) and our own analysis. – Other direct costs notably include leased lines for mobile backhaul. – at the other end of the spectrum. European telecom operators’ average EBITDA margin was c. Little. while independent mobile operators rely more on leased lines (opex). All operators are moving towards having their own backhaul links (own fibre or point-to-point wireless) instead of leased ones. Network sharing can be a source of large saving regarding backhaul and can also impact network maintenance opex (included in “other opex”) – see our analysis below. Figure 99: Opex analysis Flat opex or flat EBITDA? Two extreme scenarios Key categories of opex as a % of revenues 100 70% 90 60% Opex % of revenue 80 70 0% Index 60 -12% 50 40 30 50% 40% 30% 20% 0% 20 10% -23% 10 0% 0 Mobile 2011 EBITDA 2015e with flat opex Integrated 2015e with flat EBITDA Interconnect Other direct costs SARC Other customer costs Opex Other opex Source: Arthur D. content costs and bad debt. geographic footprint and scale. we find that the key opex areas are: – Interconnect costs represent 10-20% of mobile operators’ revenues and 5-15% for incumbents. 2) providing a more personalised/real-time approach to each customer. and 3) integrating esales with other sales channels to provide a seamless cross-channel experience. etc. Self-care can be expanded by 1) increasing the number and types of tasks that can be performed by the customer itself. – Other customer costs. with a reduction in the number of shops. all other things being equal. in particular distribution networks (own shops) and call centres. Some cable and mobile operators already do three quarters or more of their sales online. billing and customer service processes – via the development of transactions performed by the customer itself on a website rather than by on the phone with a call centre or with a sales representative in a shop. In pages 101-106. operators can optimise commercial costs via a move to an online centric business model – see below.g. However. potentially moving to a model with fewer but larger. Cost items that can be reduced thanks to online include 1) commercial costs (reduction in indirect sales commissions). These also include a more or less significant share of personnel costs depending on the operator’s reliance on outsourcing. the structure of operators’ distribution channels could change. Commercial costs cannot be an area of deliberate cost cutting for any operator.Telecom Operators – Commercial costs. These are personnel-heavy areas. etc. as 1) these are a key determinant of market shares – hence are driven primarily by competition and 2) in some markets. after-sale. and they represent 12-15% of mobile operators’ revenues and 9-13% of integrated incumbents. Online sales channels have already been developed by operators. – Other opex include network maintenance. datacenter). and 2) customer sales functions including retail shops (number of shops and/or headcount in shops). including in particular subscriber acquisition and retention costs (handset subsidies. with ultimately the opportunity to reduce costs (lower opex per transaction online). in Q3 11. the equivalent of an EBITDA margin uplift of 580bp. 2) increasing the number and types of channels that the customer can use e. stores. 3) enhancing the customer experience. websites but also smartphone apps. As “online” progresses. IT opex. TDC saw a 50% y/y decline in its unit SARC in Denmark) although we believe that this could be dangerous for operators in the long run (see page 48). This opex item varies sharply by market depending on the competitive pressure and the subsidisation (or lack thereof) of handsets. These are key areas which can be made more efficient thanks to the development of online tools. Online transformation: potential to cut total opex by 9% The move to online has the potential to improve all aspects of telcos’ customer-related functions. but areas of improvement include: 1) making sure that their online and offline activities are ‘in sync’. We estimate that in total. commissions). in particular the selling. This online transformation is demanded by customers (asking to get in control. 98 . We estimate that commercial costs represent 8-21% of mobile operators’ revenues. and calling for flexibility). and 5-16% of integrated incumbents’.g. social media. but we see large potential to boost them by: 1) improving the convenience/ease of use of portals. the different transformations which can be implemented at a typical telco could lead to a reduction of the whole opex base by as much as 9%. We estimate that they represent 6-9% of mobile operators’ revenues and 15-20% of integrated incumbents’. Telcos already have online processes. 2) improving their time to market. a move to SIM-only may lead to a substantial cut in handset subsidies (e. we look at consolidation opportunities both at the national level (network sharing) and the crossborder level (IT. notably franchises. general & administrative costs. online rather than offline. flagship. but also pushed by the development of OTT players (online is their core way of interacting with customers). SFR Red. spectrum.and cross-selling opportunities.5 -3.9 -9. We believe that local scale is increasingly important on the infrastructure side – i. 99 . Finally.) and in their ‘after sale’ function (i. Little. billing can be moved online even more extensively – with potential to save costs in bill processing (printing.4 -2. which are more cost effective. total savings are equivalent to a 9% cut in the operator’s total opex. in this example. etc.4 -1. Marketing costs can also be reduced by online initiatives.Telecom Operators These moves can significantly reduce the cost of call centres – both in their ‘customer service’ function (i. aftersales call centres.6 -6.8% 40.8 41% Source: Arthur D.9 -11. as one interviewee has put it.9 -65. This would suggest a future landscape of very highly concentrated networks. acquisition and retention costs.7 -4. Exane BNP Paribas estimates Local scale is more and more important Telecom is a fixed-cost business so scale has always mattered on a local basis: leading operators with larger market shares have historically commanded higher margins and returns than challengers with lower market shares – on a like-for-like basis.4 -5. enabling customers to change their offer.e. mobile networks and fixed/fibre networks – but it is not as obvious on the services side. by creating digital communities) is a great way to learn directly from users (product feedback etc.g.0 Interconnect Other direct costs SARC Marketing Customer sales & customer service After sale call centres Billing Access installation & repair Network operations IT service G&A Total opex -7. Depending on the operator and the context.). to enlarge the reach of the brand and even to have clients work for the operator (for instance they can provide help for other users in forums).9 -3. Bouygues Telecom B&You) in anticipation of the launch of Free Mobile.2 -6.9 -9. marketing and billing.1 -3. For instance: 1) Telefónica has publicly committed to increase the proportion of online transactions with customers from 16% in 2010 to 29% in 2013e.9 -59. customer service.9 -3. help for customers facing problems. all other things being equal. notably customer sales.0 0% 0% -12% -11% -26% -25% -15% 0% 0% 0% 0% -9% -7. 2) in France. to add or remove options. and reduce market research costs and advertising spend. we estimate that the savings could reach 10–25% on relevant cost categories. at the group level. In particular.) and payment (move to direct debit). but also 3) shifting marketing and campaigns to online tools. i. etc.0 -2.3 -15. etc. for example by 1) simplifying the product portfolio. “If a telco required 1m customers to be profitable in the past it will need 2m in the future”. Overall. existing mobile operators created new sub-brand offers available only on the web (Orange Sosh.0 35% 17% 5.2 EBITDA Margin 35. fault handling.0 0% 100. an EBITDA margin uplift of 580bp.4 -6.e. sending.).e.7 -4.5 -1. engaging with users via social media (e. but a more fragmented service market.5 -3. 2) enhancing up. Online can reduce time-to-market for new offers.3 -2.e. Figure 100: Assessing the potential savings from ‘online centric’ move Index Before Potential savings After Revenue 100. while in a second stage the three largest operators bid for 800MHz. Little. buy spectrum and roll out 4G). In the USA. nor Yoigo in Spain nor 3 in Italy got any sub-1GHz spectrum – although this does not mean that these operators will not continue to be aggressive contenders: – e-plus stepped out once the price for 800MHz got too high. nor Iliad in France. and may deploy a hybrid LTE network using 1.8GHz and 2. These will be able to provide a better quality of service to customers. operators boasting networks with the fastest speed and largest capacity. network quality has also been a strong commercial argument for Verizon for several years. This is true on the fixed-line side (need to invest in FTTx and upgrade capacity) but also on the mobile side (need to boost 3G+ capacity. i. – 3 Italy. In addition. Exane BNP Paribas estimates 100 Total Number 3+4 Number 1+2 Base Belgium Mobistar Belgacom Spain Yoigo Vod Sp Orange Sp Telefonica 3 IT Italy Wind TIM Vod IT O2 G Germany Vod G E-Plus T-Mo G France SFR Bouygues Orange F 0% . Market share matters for spectrum The chart below compares the results of recent spectrum auctions in Europe (in 20102011) with operators’ revenues. Figure 101: Amounts spent on spectrum in 2010-2011 as % of 2011e mobile service revenues 50% 45% 40% 35% 30% 25% 20% 15% 10% 5% Source: Arthur D. and T-Mobile Germany used these concerns on O2’s network quality in one of its advertising campaigns. – Yoigo got 1. deploys UMTS900 for rural outdoor and urban indoor data coverage. and to be the lowest unit cost operators. showing that spectrum acquisition has represented a much larger part of revenues for challengers than for leaders: average of 22% of revenues spent versus 15% for leaders. many challengers did not secure any part of the most valuable spectrum (800MHz).8GHz spectrum and some 2.Telecom Operators The strong growth in data traffic volumes gives an advantage to the stronger infrastructure players. O2 Germany had to face customer complaints on its network quality.6GHz spectrum.e.6GHz in the first stage of auctions.8GHz and 2. For instance. Neither e-plus in Germany. as per SFR's license obligations. in total it secured more spectrum than any other bidder and now deploys a hybrid high-speed network using 1.6GHz. – Iliad (Free Mobile) acquired the right to roam nationwide on the future 4G network to be rolled out by SFR in 800MHz. However. Arthur D.000 4.9% 265 4. and focusing on opex only (in the case of the UK and Switzerland) the savings were expected to reach 4-8% of the combined base – driven mainly by network. Figure 102: Synergies announced in three local consolidation deals UK Orange-T-Mobile GBPm Switzerland Orange-Sunrise CHFm US AT&T-Mobile USDm 445 5 8. Little.2% - Run-rate capex saving % of combined base 100 13. Exane BNP Paribas estimates Such merger benefits on the radio access network side can also be achieved via network sharing agreements.3% 200 5 3.7% 570 6 12.200 >40.7% - 145 12.8% - 545 8.3% 47 na - 300 8. given the need for additional capex in a context of tougher pressure at the revenue level. with the target to save and at the same time to create a better network. companies have pointed to potential run-rate savings in the range of 4-9% of the total combined base of the merged operators. Little.9% 3.2% >3.5% 140 11. US and Swiss merger synergies show the extent of potential savings linked to scale: looking at opex and capex together. 101 .6% 600-800 11. As seen above.500 3.Telecom Operators Scale synergies on networks The examples of the UK. IT and commercial costs. there are many examples of challenger mobile operators which have not secured 800MHz spectrum. TDC. Arthur D. We expect the rollout of 4G networks to be a key driver of a new wave of network sharing in Europe.3% 65 7.2% 9. The merged network was expected to have fewer base stations compared to two separate networks. but more than each stand-alone operator. Exane BNP Paribas estimates Figure 103: Network rationalisation – Example of proposed Orange-Sunrise merger in Switzerland Source: Orange. Savings on the network side were a key feature of the UK and Swiss deals.4% 153 na - Cumulative capex saving Over x years % of combined base 620 5 19.000 13.000 Run-rate opex saving By year % of combined base of which commercial opex % of combined base of which network & other opex % of combined base Run-rate opex + capex saving % of combined base Cumulative integration costs % of combined base NPV of synergies Source: Companies. while some others have secured such spectrum but at a high cost compared to their size – creating a natural incentive for network sharing. 000 4.000 Hundreds n/a 10. 2010 Feb. Sweden is. the Tele2/TeliaSonera JV on 3G in Sweden). Little. Figure 104: Mobile network sharing examples Country Sweden Sweden Spain UK Spain Sweden Operators Tele2 / TeliaSonera Telenor / 3Sweden Vodafone / Orange T-Mobile / 3UK Telefónica / Yoigo Tele2 / Telenor Orange/SFR/ France Bouygues Czech Rep. in our view. 2011 April 2011 June 2011 July 2011 Dec. one of the most advanced countries in terms of network sharing. Little. 2007 Dec.000 n/a n/a New New Existing All Existing & new All Existing Roaming n/a no JV n/a 50-50 JV n/a no JV n/a n/a EUR30m n/a Opex -29% / 3Y n/a n/a Source: Operators. ‘SUNAB’ (TeliaSonera & Tele2) for 3G. 2007 June 2008 2009 Operational Operational Operational Operational n/a In deployment 3G 3G 3G 3G 2G/3G 2G/4G Active RAN Active RAN Active RAN Active RAN Passive RAN Active RAN Nationwide Ex big cities Rural Nationwide Rural & urban Nationwide n/a n/a 5. with currently three out of four mobile operators in the country engaged in network sharing in three joint ventures: ‘Net4Mobility’ (Tele2 & Telenor) for 2G and 4G.Telecom Operators The table below includes a sample of network sharing agreements struck in Europe over the past years. Figure 105: Network sharing deals can vary greatly in scope and ambition Source: Arthur D. 2011 Jan. to a limited sharing focused only on masts (passive infrastructure sharing).g. T-Mobile / O2 Austria T-Mobile / Orange Denmark TeliaSonera / Telenor Poland TPSA / PTC Germany T-Mobile/Vodafone/O2 Austria T-Mobile / H3G Announced Status Extent of sharing Depth of sharing Reach of sharing # of sites Which sites? Structure Savings target per partner 2001 2001 Oct.000 13. In the case of full network sharing. Arthur D. Exane BNP Paribas estimates 102 . 2012 In deployment In deployment Operational Announced In deployment In discussion Announced 3G 3G 3G 2G/3G/4G 2G/3G Backhaul 3G Active RAN Active RAN Active RAN Full RAN Active RAN Backhaul Active RAN Rural Rural Rural Nationwide Nationwide Nationwide Rural 2. if regulation allows it. this enables operators to save not only on the masts and base stations but also on backhaul – and the JV structure can also enable the pooling of spectrum assets. and ‘3GIS’ (Telenor & 3) for 3G. Exane BNP Paribas estimates There are many different possible options as regards sharing of infrastructure between mobile operators. the “depth” of sharing is a key factor – ranging from the full sharing of the whole mobile network in a region or even in a whole country for a specific technology (e. In particular. and these are summarised in the chart below.500 1.2bn / 5Y GBP2bn / 10Y n/a n/a Feb.000 n/a New New New All 3G Existing New JV JV no JV 50-50 JV no JV 50-50 JV n/a n/a EUR0. However. as it has the most advanced network sharing as well as the best top-line trends in Europe (+7% y/y in 2011 versus the European average of -3%). shelter and power. and backhaul upgrades.e. the “national roaming” option means that there is only one network overall. Little.Telecom Operators The depth of sharing is a key determining factor of the potential savings that can be achieved – but also of the complexity of the sharing process (depending on operators’ legacy assets) and also of the remaining ability of the sharing operators to continue to differentiate at the network level. it should be noted that larger operators face the typical question of providing network sharing benefits to smaller competitors. The example of the Swedish mobile market is in our view quite telling in this respect. etc. we believe that it does bring some element of rationalisation to the overall market. notably in terms of potential easing of the competitive intensity in the retail side. enabling full synergies but basically annihilating the operators’ ability to differentiate on the network side. – At the other end of the spectrum. The savings that can be achieved here are small. the tower/mast. Exane BNP Paribas estimates Based on information publicly communicated by operators to investors in the past and other sources. Figure 106: Different options regarding depth of sharing Source: Arthur D. the starting position of operators and the potential costs related to decommissioning of sites. JV setup. we estimate that potential savings from network sharing range from 10% to 30% on network capex and opex – depending on the type of sharing. 103 . Network sharing brings retail benefits: Network sharing essentially is a consolidation of two telcos limited to the back-end. A key rationale for this is that network sharing reduces the risk of overcapacity in the network – and hence diminishes the risk of a price war driven by the need for one competitor to ‘fill’ its network. “passive RAN” sharing involves sharing only the passive infrastructure i. – At one end of the spectrum. Whilst this cannot be expected to bring full merger benefits. Bouygues B&You).g. and deals between Orange and other parties in medium-density areas) and in Germany (Deutsche Telekom/NetCologne deal). and largely two retail networks. SFR Red. Belgacom.Telecom Operators Fibre rollout: In fixed-line. incumbents are favouring a technology approach focused on FTTC/VDSL. Telecom Italia). Many deals have already been announced. Optimising commercial costs potentially involves the rationalisation of advertising spend. is local size also an advantage in customer-interfacing activities such as retail distribution or service provision? Operators have talked about the ability to reduce general and administrative costs. and 2) in Switzerland. we detailed in our 2011 report (“Super-fast broadband: catch up if you can”) that we expect FTTx rollout to accelerate in the coming years – and we have found that the economics are tough for all operators. Everything Everywhere is strongly focusing on executing the promised synergies on the network/infrastructure side. these have not yet been significantly realised. but the company has been hesitating longer than anticipated on the strategy on the services side – keeping at this stage two separate brands. one can wonder whether the advantage of owning an extensive distribution network may have passed its peak. Regarding FTTH. commercial costs were expected to be a key area of synergies – but: 1) in the UK. in many markets. with the aim to leverage their existing copper lines as much as possible by aiming at deploying advanced DSL technologies such as vectoring (e. the deal never took place so it is difficult to assess the actual consequences of the proposed synergies. we reiterate our view that we expect network sharing to take place. a retail network of shops throughout a country) and having a mega service organisation can bring scale benefits in terms of distribution. for the time being. 104 . However many examples in the past have demonstrated the benefits of having a multitude of brands and service propositions – as shown by the success of the multibrand strategy implemented by KPN in Germany. the success of MVNOs in many markets and the development of web-only offers in France (Orange Sosh. and in particular for those with lower market shares. for instance in France (SFR/Bouygues Telecom JV. However. to optimise the workforce and to save on commercial spending – but how big is the potential and can these savings be achieved without reducing the commercial impact of the operator? In both the above-mentioned mergers in the UK and Switzerland.g. As distribution increasingly moves online. Indeed providing services generates substantial fixed costs (e. We nevertheless expect that there will be more and more value in larger flagships where telcos will be able to demonstrate the breadth of their product portfolios and provide assistance. of the brand strategy (towards a single brand?) and of the retail network. positioning. What about the commercial side? Beyond the infrastructure. In the case of the Orange-T-Mobile merger in the UK. First. Bargaining power versus equipment and technology providers As a result of consolidation in the equipment industry. This could be achieved through huge M&A deals. Figure 107: BUYIN. on average. However. and OTT services which are cross-border by nature. as cloud infrastructure expands in the future. but also . namely some specific verticals like connected cars. -11% on the relevant capex+opex base. i. and neither has global scale helped market share trends. but can lead to a growing number of partnerships in terms of purchasing as well as in terms of innovative services. we see three areas in which global scale will bring increasing benefits in the future. Deutsche Telekom 105 . These are not sufficient to justify cross-border deals.by setting up purchasing JVs as done by France Telecom and Deutsche Telekom recently. including handsets). the proportion of IT infrastructure will grow as a percentage of telcos’ total assets – and this infrastructure can be centralised across borders. the France Telecom-Deutsche Telekom procurement JV Source: France Telecom. Second.3bn per year from 2014.e. operators are setting up global purchasing power houses to strengthen their bargaining power versus equipment and technology providers – and publishing quantifiable targets: the France Telecom-Deutsche Telekom initiative aims at savings of EUR1. Third. generating efficiencies which will be specific to larger groups.at least partly . large operators will be in a better position regarding a small part of the product portfolio. in the long term It has never been proven that operators with large footprints have an advantage over operators with smaller footprints – notably margins of smaller operators are not. on the commercial side. a substantial share of the operators’ core purchases is now done with global suppliers (network equipment and customer equipment. Operators seek to increase their bargaining power versus these global equipment and technology vendors. lower than those of global players.Telecom Operators Global scale: growing benefits. Commercial side: global scale to bring small but growing benefits Even though a growing proportion of customer interactions will be performed online. at least for some verticals. open to both Vodafone affiliates and external telecom operators. as these rights are often granted on a country-by-country basis.Telecom Operators The purpose of setting up this JV (called BUYIN) is for the partners to achieve a more competitive cost position by aggregating demand to vendors. equipment and services (including service platforms). “one data warehouse for the whole group. but more can be done in this respect. customer equipment (including terminals) and IT. However. beyond the above-mentioned purchasing power benefits. not all data can be stored or used in such a way. Importantly. This is the case for instance for the connected cars opportunity – car manufacturers are global companies. the ability to run an operator’s core IT infrastructure from a smaller number of locations. Areas covered by the JV are purchases in network. 2) Telefónica Global Sourcing formed in 2009 as a German company located in Munich. sited in a low-cost country”. Vodafone rationalised its European IT operations in 2006.g. notably this is not the case of 1) personal data (e. potentially forbidding operators from storing it outside of the European Union) and 2) specific content which is subject to exclusive or specific rights.3bn annually from 2014 (three years after the start of operations in Q4 11). However. Many operators have been consolidating their datacenters across their footprint for several years already. operators cannot and should not abandon their local presence with customers. even though the operator has customers in many countries. a savings rate of almost 11%. we believe that as cloud services grow.g. of which >EUR400m for Deutsche Telekom and <EUR900m for France Telecom. notably in Europe. will become an ever-greater cost advantage. and have launched pan-European RFPs. i. some personal data is subject to national or regional law. Other examples include: 1) Vodafone Procurement Company formed in 2008.e. and in new/OTT services. We nevertheless believe that the operators with a larger international footprint will have some advantages in the future over national or regional ones – in particular in some verticals. – Verticals: operators with large international footprints will be at an advantage compared to smaller ones. 106 . and has said that it achieved annual savings of 30% in 2008. Global scale effect in some parts of the infrastructure Local infrastructure represents a much larger part of telcos’ assets than backbones and IT infrastructure – and there is no global scale effect on local network elements. servers do not need to be situated in the same country as the end customer. Telefónica and China Unicom announced an extension of their cooperation in procurement in January 2011. For instance. with regionalized Northern and Southern Europe datacenters. as trans-border fibre backbones enable companies to carry huge amounts of data virtually instantly over the globe. The addressable spend (capex+opex) is EUR12bn and the target is to save EUR1. Many interviewees have highlighted the remaining opportunities in this field – e. 107 . and a small group looking at a much larger footprint. France Telecom has announced a partnership in M2M with the US operator Sprint. telcos. – geographic footprint. Apple or even Netflix on new services – but we believe that telcos with a broader footprint should have an advantage. but it will be essential for operators with ambitions to remain ahead of the game in terms of innovative services. Mobistar signed more than ten contracts in the US and Europe for a total commitment of 1. 2) the local hero. telcos management teams are in our view considering strategies which are increasingly different. In 2011. for two reasons: 1) As networks and services become all IP-centric. This enables savings.5m SIM cards – and interestingly. France Telecom can hope to be first to roll out new services in African countries. Mobistar has a 70% market share on M2M in its home market. – OTT services: It will not be easy for operators to compete versus global OTT players such as Google. but also faster time to market – e. notably along two “axes”: – vertical integration. This illustrates how being part of the Orange gives Mobistar a crucial advantage. like web giants. 2) Forging partnerships with the most advanced start-ups in each specific OTT field is a challenge.g. with different levels of emphasis on developing a full portfolio of retail services. A broad-based operator with substantial means should have the edge on more local players in terms of finding the right potential partners (“size matters for knowledge”). with a “global centre of expertise” run by its Belgian subsidiary Mobistar. Belgium. Recently. while if these local operators were to run locally. but also very different starting positions (leaders versus challengers. have the opportunity to develop services once and then to roll them out across their whole global footprint. the full service telco focused on a limited geographic footprint. and it will be a more attractive partner than a small operator as it will offer a larger business opportunity for most OTT innovators.e. leading to an expanded global footprint in this market. Increasingly diverging strategies – Anybody wins? Combining different visions on the industry’s outlook (more or less negative) and different views on key assets to leverage (essentially the infrastructure or the customer base). Facebook. Combining these two axes. far ahead of the local incumbent Belgacom. telcos’ strategies can broadly be categorised in three groups: 1) the mega-operator.Telecom Operators Another example is the way the Orange group has organised its whole machine-tomachine activity. This is the ‘bit pipe’ versus ‘full service’ operator debate. with most European telcos focused on one or a few countries. i. they would not have the means to roll out such services as quickly. and 3) the local infrastructure play. local versus global footprint). more focused strategies. In terms of financial profile. hence a large number of employees. The mega-operator has the ambition to compete (but also collaborate) with OTT providers. but it is the most difficult to execute given the need for capital and the multi-faceted competitive challenges – and in any case only a handful of European telcos can play. Indeed: – a mega-operator is a very large group with a large scale and footprint. and 3) at the same time it targets the best possible cost structure via optimisation at the local and global levels. verticals. requiring different strategic skill sets. as it needs to combine the strength of a large utility with a strong delivery on opex/transformation projects. All are currently reshuffling their operational footprints while seeking to maintain scale advantages across multiple regions. cloud. the mega-operator faces strong headwinds on legacy revenues. Vodafone. hence. – a mega-operator will inevitably be an incumbent in some markets and a challenger in others. 2) aims at keeping the high value retail customer relationship with as many types of customers as possible. Indeed the mega-operator: 1) pursues the widest possible market opportunities – hence potentially it will get the highest share of revenues in the value chain. and in any case cannot be implemented by operators lacking opex flexibility. Option 1 – The mega-operator – Doing everything well is not easy This is a very large operator present in many European countries as well as other global regions. this strategic choice is the one offering the most theoretical long-term upside. a large number of competitors to keep ahead of. etc. 108 . In Europe. a large number of regulators to deal with etc. since it aims at playing a leading role in tech (OTT services.). with strong infrastructure across its geographic footprint. as well as the nimbleness of a leading tech company. like others it needs to restructure costs and transform into a leaner company. the chances of success appear lower than in the case of the two other. However. – finally. the groups pursuing this strategy are. in our view. In our view. and also targets the key vertical market opportunities (since some are best served on a global basis with clear cross-border synergies). Telefónica. this strategy is difficult to execute. – a mega-operator needs a large range of capabilities to address the different types of customers and offer all kinds of services – from entertainment services to professional ones in the vertical areas. – the ‘infrastructure play’ approach is the least risky but also brings the lowest returns in the long run. and with the ambition to capture revenues from the whole spectrum of services with both B2C and B2B customers. – the ‘local hero’ could lead to a slightly better top-line but this does not come without opex and capex in the next few years – as well as execution risks. – at the same time. a large number of partners to find and nurture. this is also the strategy with the biggest investment (in terms of opex and capex) and given its willingness to compete with everyone everywhere. Deutsche Telekom and France Telecom. This requires impressive organisational and management skills. it needs to be as nimble and innovative as players in these fields.Telecom Operators We conclude that: – the ‘mega-operator’ approach can in theory create the most value in the long term. like all other telcos. such as B2C. football.g. on TV or cloud services). smart metering. In addition. Swisscom and TDC. In terms of financial profile.Telecom Operators Option 2 – The local hero – Challenge of striking the right balance We call “local hero” an operator with a limited geographic footprint. the local hero will probably lag larger telcos but also global competitors in the value chain such as web and tech leaders. connected cars) or on multi-national clients – but it will compete very efficiently in the market of more local customers (SMEs. assuming that the “local hero” strikes the right balance between opex restructuring. this strategy can. this strategic choice leads to a period of transition with limited short-term visibility.) – with a strong focus on defending its revenues and. Key difficulties in such a strategy include in our view: – the need for small-sized players to make the investments and acquire the skills necessary to develop a credible presence on many different fronts. Given global scale advantages that we have identified above. because management will focus on efforts to return to revenue growth rather than just on restructuring. Telecom Italia. etc. lead to a better-than-average top line. – leave more space than mega-operators to global OTT players (e. – the local hero will probably not be as efficient and lean as operators choosing the ‘local infrastructure play’ strategy. on different market segments (B2C. regarding the cost efficiency of service platforms (e.g.g. the local hero should in theory: – be less competitive than mega-operators on some specific market segments. and will potentially extend the share of wallet it addresses through ‘one stop shop’ approaches (retailing of products from other sectors adjacent to the telecom and media sectors). although at the cost of limited dilution to margins. if possible. such as some verticals (e. This is notably the strategy of KPN (in the Netherlands). Indeed. Most interviewees have highlighted the important role of a telco as “service integrator. return to growth. Belgacom. However. aiming to keep and develop services across the value chain. infrastructure investments and efforts to maintain a high market share.). 109 . for machineto-machine) or datacenters (for cloud services). B2B. in our view. partnering with local banks). not bit-pipe”. etc. B2B. This “local hero” strategy appears to be the most common approach among incumbent telcos we have talked to. new activities such as ICT/cloud. although it will be able to compete on local content and services (news. and potentially financial services.g. verticals. Size is a weakness versus mega-operators if they are present in their market. pros and consumers) as well as on some key verticals to support the emergence of local ‘internet of things’ (e. partnering with local utilities. verticals and content services should be dilutive to margins and bring limited revenues – at least for the next few years. etc. and their willingness to diversify into valueadded services and verticals. Telecom Operators Option 3 – Local infrastructure play – More solid but less profitable? A significant minority of players see network infrastructure as telcos’ core differentiated asset – and consequently they plan to refocus around the role of providing connectivity. However. etc. Fundamentally. Others describe this approach negatively by talking about a “bit pipe” – but the notion of infrastructure should be understood in a broad sense. Partners potentially include MVNOs.) and in B2B (IT services and tech giants. including the access network in fixed and mobile. datacenters. – the operator should not abandon the retail market: it can have its own retail client base. The infrastructure player makes a conscious choice of focusing on the network. Google. – the operator can effectively become as lean as possible – requiring flexibility in terms of cost cutting. in competition with its wholesale partners. the capex/sales is also higher (because the revenue per minute or per GByte is lower on wholesale than on retail) and so the actual return on capital employed of such a ‘utility type’ business model appears lower than that of retail oriented organisations. a telco extracts less value from being a wholesale player (squeezed by OTT players / professional buyers) than from being close to the customer (especially in B2C). A good example of this approach is E-Plus in Germany. thanks to the leaner structure (commercial costs.). This is usually already the case for most incumbents. while developing a range of partner agreements on the service side to expand its (indirect) reach to as many end-clients as possible. Most companies focusing on this approach start from the core views that 1) telcos cannot be successful if they do not drastically cut costs (so “integrated telcos will be gone”) and that 2) the customer relationship will increasingly become the battleground for more powerful players. but also service platforms (e. machine-to-machine platforms. This is a scale game so maximising wholesale opportunities is necessary to maximise the return on network assets. notably on personnel costs (not necessarily a given for all incumbents). A fundamental strength of this business model is the visibility it offers – given the utilitylike profile (high barriers to entry on infrastructure). other operators. etc. OTT players. companies in other sectors (for verticals). the fundamental weakness of such a strategy is that it comes with lower profitability. both in B2C (Apple. distributors.g. etc. for instance via an online distribution approach. but can be enhanced via consolidation or network sharing. On the other hand. This makes sense as long as this is done in a very lean way. The EBITDA margin is generally higher for operators with such a profile. mega-operators). billing systems. etc. 110 . MVNE). To be successful this strategy requires that: – the operator has a high (wholesale) market share in its local market. Wholesale 0% 0% Source: Arthur D. in the “wholesale” players we have included BT Openreach. In fixed-line. such a conclusion in favour of retail versus wholesale providers may be true for now. many markets have only two viable local infrastructure players (incumbent and cable). These include what we have called “light asset” players (BT Global Services. – Players with relatively light asset bases generate the highest returns even though they may not have the best margins. TalkTalk and KPN’s iBasis unit) – with an average EBITDA margin of 11% and capex/sales of 6%. to be compared to the risk of increased competition between retail service providers. Belgacom Consumer. and Belgacom Enterprise division. 111 . This is a more favourable situation than in mobile. On the other hand. infrastructure is less profitable than retail To illustrate our point on EBITDA margins. but also “pure B2C” and “pure B2B” operators (respectively BT Retail. The profitability of the wholesale model strongly depends on the competitive intensity. capex and returns. playing on the retail side may currently lead to higher profitability but this is the part of the telecom market which is the most challenged by new entrants and OTT players – so the profitability level may not be sustainable. post-tax 70% 25% Lean B2C 60% Cable ops. KPN NL Enterprise division. 20% Capex/sales Wholesale 50% 40% 15% 30% Integrated 10% 20% Pure B2C Pure B2B 5% 10% Light assets 50% Pure B2C 40% Pure B2B 30% Light assets 20% EBITDA margin Integrated 10% Lean B2C 0% Cable ops. where there are three to four players in each market. C&W Worldwide). This leads to an estimated post-tax ROCE of 11%. Other operators with high EBITDA margins are “lean B2C players” (Iliad. Kabel Deutschland. and hence enhance profitability. Exane BNP Paribas estimates However. we show in the chart below (left hand side) the average EBITDA margins and capex/sales of different groups of players. Virgin Media) – however both groups also have high capex/sales (in excess of 20%.Telecom Operators For now. United Internet. – At the other end of the spectrum. KPN NL Consumer. Figure 108: Financial profiles of different types of telcos EBITDA margin versus capex/sales Return on gross assets. Little. The conclusion of our analysis is that the capital intensity of the business model is actually more important than the EBITDA margin to determine the return on capital employed. on average) and generate relatively lower returns. but the situation may change in the future given the potential for consolidation among infrastructure players. E-Plus) and “cable operators” (Telenet. in particular on the number of infrastructure players in a given market. Full-fledged consolidation or network sharing could ease competitive intensity. BT Wholesale and KPN’s Wholesale & Operations division in the Netherlands – with an average EBITDA margin of 47% and capex to sales of 25%. This is notably the case of the recently announced Austrian merger. many foresee panEuropean deals. a few years after the SFR/Neuf Cegetel acquisition in France) or mobile-cable deals (e. potential Vodafone UK/Cable & Wireless Worldwide deal. these deals were transforming three player mobile markets into duopolies. Little. some want both). We expect 1) local consolidation attempts in virtually all key European markets. while in most cases consolidation will be about reducing the number of mobile operators from four to three.g. nor in terms of market share (most are looking for local consolidation opportunities).g. mobile-mobile or fixed-mobile deals – and at the very least a multiplication of network sharing agreements. 112 . Beyond mobile-mobile deals. some want to shrink. starting with partnerships or bolt-on M&A. but one should not entirely rule out bigger deals. which is in our view a more important test case. Figure 109: Interview feedback – Do you expect more consolidation? Yes local Yes pan-Europe Network sharing and alliances Yes at the network level but not the service level Yes but place for new entrants/small players Uncertain due to regulation Yes but longer term Horizontal or vertical 0% 10% 20% 30% 40% 50% 60% 70% Source: Arthur D. either fixed-fixed. VIP in Croatia with Telekom Austria). although very few foresee large M&A between large telcos.Telecom Operators Outcome: a flurry of deals? No telco is exactly where it wants to be – neither in terms of geographic footprint (some want to expand. in our view. Indeed. in terms of cross-border moves. most companies surveyed anticipate local consolidation in their domestic markets in Europe – although significant minorities rather expect network sharing arrangements (or deals “at the network level but not at the service level”). or see room for new entrants (generally at the service level). In addition. 3) finally. 2) integrated operators are also likely to continue acquiring capabilities in adjacent markets such as cloud services. it is very likely that further consolidation moves will take place in many European markets. but we do not believe that the recent antitrust issues encountered by the official merger project in Switzerland (Orange/Sunrise) and the tentative one in Greece (Vodafone/Wind Hellas) are necessarily signs that regulators will block all deals. we also continue to expect fixed-fixed consolidation (as small alternative carriers lack the scale to compete in super-fast broadband) and fixedmobile integration (e. Regulation may block such attempts. As shown in the chart below. Exane BNP Paribas estimates Local consolidation – Moves likely in all key markets In the context of mounting pressure on revenues combined with the need to keep spending (or increase spending) on network infrastructure. we expect many small steps. in both cases. nor in terms of capabilities (many are interested in developing new services requiring different skills or assets). Potential targets are MVNOs. 113 . a more likely outcome is network sharing (e-plus does not have 800MHz spectrum. while O2 has spare spectrum). we see fixed-mobile consolidation finally happening in Belgium. – France: in the past. we expect a rapid customer take-up for OTT services and the development of more partnerships between OTT players and telcos. An eplus/O2 merger. calling for network JVs on 4G/LTE) and in fixed-line (sharing required for FTTH rollout). Market participants expect a three operator mobile market in the long run. The regulatory process is expected to be long.Telecom Operators At the very least. – UK: we expect the market structure to evolve towards two (or potentially three) operators on the fixed-line side (the move to fibre should drive consolidation) and two operators on the mobile network side in the mid-to-long term. Versatel focusing on B2B & wholesale. hence logical targets for consolidation. we expect only the most focused players to succeed (e. – Belgium: in the long run. three out of four mobile operators in Sweden are engaged in network sharing. some city carriers) while the remaining pure play fixed altnets are repositioning themselves (e. – Spain: the current pressure on FCF generation is a strong catalyst for consolidation. In our view. the French market has already experienced significant consolidation in fixed broadband. we do not expect consolidation in the short term but fierce price competition will generate more incentives for network sharing. we expect further network sharing in mobile. – Sweden: in the Nordics. the only possible combination.g. as several operators are seen as ‘borderline’.g. shifting away from B2C). we expect continued fragmentation at the service/retail level (many different service providers). – Germany: many players continue to talk about local consolidation in mobile. Due to the recent entry of Free in the mobile market. However. – Italy: some interviewees see consolidation as “almost sure”. In addition. Yoigo and Jazztel. we anticipate more network sharing agreements. with Telekom Austria also acquiring part of the Orange customers (Yess brand). a few players expect fixed-mobile integration to occur in the UK in the next few years and the UK landscape to be affected by asset reshuffles by operators following the ‘mega-operator’ path: corporate activity around both Cable & Wireless Worldwide and Deutsche Telekom’s holding in Everything Everywhere support this line of thought. and then fixed-mobile (SFR-NeufCegetel). has been rumoured many times in the past and never happened – and the potential regulatory response remains uncertain. and potential acquirers are Vodafone and Orange – pointing notably to mobile-mobile and fixed-mobile deals. On the retail side. even though some consolidation is expected amongst B2B service providers. along the lines of the Telenor-Tele2 joint venture Net4Mobility announced in 2009 (the world’s first 2G and 4G RAN sharing). both in mobile (as seen on page 101. there is at least one mobile operator without 800MHz spectrum in most large markets. – Austria: the acquisition of Orange by Hutchison has recently been announced. On fixed-line. notably cloud services. Lynx Technology. Toshiba-Landis&Gyr (USD2. we expect more partnerships and JVs to be announced between large telcos – along the lines of: 1) the France Telecom/Deutsche Telekom purchasing JV. Vertical deals – Integrated players looking for more bolt-on deals Many operators have already made M&A moves into adjacent industries. KPN (Getronics). The same is true of many other verticals. we do not believe that mega-deals (along the lines of the failed France Telecom/TeliaSonera acquisition) should be expected any time soon. 114 . Ribbit).3bn).Telecom Operators Trans-border deals – Many small steps rather than one big jump Even though some believe in the virtue of mega-operators. China Unicom. progressively. smaller groups will get absorbed into larger ones. etc. In the meantime (and potentially in parallel). there have been multiple billion dollar deals in recent years: Schneider-Telvent (USD2bn). some of these partnerships may (or may not) evolve into the smaller partner being acquired by the larger group. other actors in the value chain appear more aggressive in ‘vertical M&A’. we would not rule out some telcos making bold moves and acquiring established service providers. However. it is likely that. make more partnerships and participate in more consortia – so as to continue “climbing up the value chain”. Ultimately. Diwan. France Telecom (Dailymotion. Among the ‘mega operators’ and the ‘local heros’. in different ‘vertical’ areas. notably ICT and cloud services. In the coming years. For example. etc. This is notably the case of Belgacom (Telindus). Nevertheless. in smart metering and controls alone. BT (Basilica.4% of Telecom Italia ordinary shares). given their similar needs to diversify (into the service layer from the hardware space). Data & Mobiles). the view is that telcos need to acquire innovative companies. ABB-ventyx (USD1bn). where small independents are rapidly being acquired by hardware players and/or private equity. 3) Vodafone’s partnership with Verizon. 2) Telefónica’s partnerships with Telecom Italia (Telefónica owns 46% of Telco. Deutsche Telekom (Strato). Wire One Communications. the holding company which in turn owns 22. Bouygues Telecom or Sunrise. Telefónica (JaJah). acquiring capabilities to grow into verticals. – while partnerships with all different types of tech companies are countless. linking strategy. – A balance sheet partnership providing financing and support for our rating. creativity. Media and Electronics) has unrivalled expertise in strategic and technological assistance of leading telecom and media players. With more than 500 professionals.exane. Little completes over 2000 projects every year serving the world’s leading companies. Arthur D. Little’s global leadership in management consulting is demonstrated by numerous standard-setting publications. – Equity Derivatives: Exane Derivatives has built a robust structured products franchise. Exane provides institutional investors with a range of services. For further information consult the Arthur D. Little website at www. Geneva. For further information. Little was the world’s first professional management consulting firm. Arthur D Little is a global leader in management consultancy. London. Little has assisted several major telecom.Telecom Operators Arthur D. media and internet players in the world with their strategic plan. which means fast and dramatic performance improvements. it has proved able to evolve and adapt with a constant focus on answering our clients’ needs and challenges and creating true partnerships with business leaders. Frankfurt.adl. Arthur D. Milan. exceptional people and a firm-wide commitment to quality and integrity. Exane is an investment company specialising in three businesses: – Cash Equities: Under the brand name Exane BNP Paribas. new technologies and innovative services.10 in the 2012 Institutional Investor All Europe Research Team survey. based on its longstanding leadership in European convertible bonds and options. The quality of our work is rewarded by our client’s loyalty: approximately 70% of our worldwide revenue is generated by projects for companies that have been our clients for over three years. Exane’s 860-strong workforce operates from offices in Paris. revolves around three core elements: – An operational partnership in European cash equities where BNP Paribas conferred exclusivity on secondary equity brokerage and the distribution of primary market activity to Exane under the Exane BNP Paribas brand. Little today. Arthur D.com 115 . such as research. Little people bring curiosity. Ever since its creation. Our research receives regular acclaim in leading industry surveys. Arthur D. Little helps major telecom operators. Free to air channels and major internet players in the completion of their most sensitive projects. Exane BNP Paribas was voted No. The practice has gained a true and precise knowledge of the sector and of its main players. The firm has conducted projects with many of Fortune 100 companies. government agencies. Arthur D Little has indeed a collaborative client engagement style. Arthur D. innovation and technology with deep industry knowledge. The pioneer spirit of its founder is still a strong feature of Arthur D. Arthur D. followed by France (15%) and Germany (13%).com. Brussels. Our constant objective is to create value for our clients. Exane works primarily with institutional clients worldwide (pension funds. Exane BNP Paribas equity research team covers more than 600 European companies. The agreement between Exane and BNP Paribas. Madrid. This rate of activity has enabled Arthur D. Little to gain strong experience and a well established know-how which is highly valued by our clients. Little presentation Founded in 1886 in Boston by a pioneer chemist and MIT professor. New York. Pay Television operators. Information. – Asset Management: Exane Asset Management is a leading long/short equity fund manager in France. During the last few months. The firm has over 30 offices worldwide. sale and execution on European equities.7 for Equity Sectors Research in the 2011 Pan-European Extel survey and No. placing innovation at the heart of our recommendations and fostering the use of new technologies and next generation processes. We offer our clients sustainable solutions to their most complex business problems. UK companies represent the biggest part of our coverage universe (29% of covered market cap). integrity and analytical rigor to every job. fund managers for banks and insurers and hedge funds). Exane presentation Founded in 1990. – A capital partnership uniting the strength of BNP Paribas with the independence of Exane. signed in 2004 and strengthened in 2010 and 2011. log on to our website at www. and markets its derivatives products to a broader pool of clients comprising private asset managers and investment advisors. Arthur D. Stockholm and Singapore. equipment suppliers. Little teams work both with major multinational groups and smaller growth driven companies. the TIME practice (Telecommunications. UK for telephone numbers commencing +44. France +33. however. Frankfurt. 23% of stocks covered by Exane BNP Paribas were rated Underperform. BNP Paribas provided investment banking services to 3% of the companies accorded this rating*. Underperform: The sector is expected to underperform the DJ STOXX50 over a 12-month investment horizon. to respect a principle of transparency. BNP Paribas provided investment banking services to 7% of the companies accorded this rating*. For regulatory reasons. Stockholm. we have excluded fixed income transactions carried out by BNP Paribas.com/disclosureequitiesuk for details BNP Paribas Exane is independent of BNP Paribas (BNPP) and the agreement between the two companies is structured to guarantee the independence of Exane's research. Company Investment banking Distributor Liquidity provider Corporate links Analyst's personal interest Equity stake US Law Equity stake French Law Amended after disclosure to company Additional material conflicts Eutelsat NO NO YES NO NO NO NO NO NO Iliad NO NO YES NO NO NO NO NO NO SES SA NO NO YES NO NO NO NO NO NO Source: Exane See www. Exane acted as distributor for BNP Paribas on the 1% of stocks with this rating for which BNP Paribas acted as manager or co-manager on a public offering. 40% of stocks covered by Exane BNP Paribas were rated Neutral. Milan. Exane is unaware of significant conflicts of interest with companies mentioned in this report. Singapore +65. Exane BNP Paribas’ Key Ideas Buy List comprises selected stocks that meet this criterion. different as our ratings are relative to the sector. published under the brand name “Exane BNP Paribas”. Any possible change will be confirmed as soon as possible. in order to maintain absolute transparency. USA +1. Exane acted as distributor for BNP Paribas on the 0% of stocks with this rating for which BNP Paribas acted as manager or co-manager on a public offering. Vodafone Group: BNP acted as BNPP is advisor for Vodafone for sale of Vodafone's stake in SFR to Vivendi (04/2011) Source: BNP Paribas 116 . New York. Brussels. Sector Rating (vs Market) Outperform: The sector is expected to outperform the DJ STOXX50 over a 12-month investment horizon. Exane acted as distributor for BNP Paribas on the 1% of stocks with this rating for which BNP Paribas acted as manager or co-manager on a public offering. analysts are based in the following locations: London. Distribution of Exane BNP Paribas’ equity recommendations As at 09/01/2012 Exane BNP Paribas covered 597 stocks.exane.exane. During the last 12 months. BNP Paribas provided investment banking services to 7% of the companies accorded this rating*. Key ideas BUY: The stock is expected to deliver an absolute return in excess of 30% over the next two years. For the purpose of clarity. Neutral: The sector is expected to perform in line with the DJ STOXX50 over a 12-month investment horizon. Switzerland +41. for regulatory reasons. we include in this category transactions carried out by BNP Paribas independently from Exane. Madrid. Hold and Sell. The stocks that. the underlying signification is. Potential conflicts of interest: Bouygues: As of 29/02/2012 BNPP owns 1.36% of BOUYGUES SA France Telecom: As of 29/02/2012 BNPP owns 1. Italy +39.com/compliance Exane Pursuant to Directive 2003/125/CE and NASD Rule 2711(h) Unless specified. please see www.25% of FRANCE TELECOM SA Telefónica: BNP Paribas was selected as Joint Bookrunner for the Atento Inversiones y Teleservicios IPO. Paris. Sweden +46 Rating definitions Stock Rating (vs Sector) Outperform: The stock is expected to outperform the industry large-cap coverage universe over a 12-month investment horizon. Underperform: The stock is expected to underperform the industry large-cap coverage universe over a 12-month investment horizon. During the last 12 months. Nevertheless. Belgium +32. Commitment of transparency on potential conflicts of interest Complete disclosures.Telecom Operators Analyst location As per contact details. 38% of stocks covered by Exane BNP Paribas were rated Outperform. Germany +49. * Exane is independent from BNP Paribas. Nevertheless. our ratings of Outperform. During the last 12 months. are not accorded a rating by Exane BNP Paribas are excluded from these statistics. we separately identify potential conflicts of interest with BNPP regarding the company/(ies) covered by this research document. Spain +34. Geneva. 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