Telco 2.0: Choose your future – while you still can

Introduction

Time to update Telco 2.0

Telcos are facing difficult choices about whether and how to invest in new technologies, how to cut costs, and how to create new services, either to pair with their core network services or to broaden their customer bases beyond connectivity users.

Through the Telco 2.0 vision (our shorthand for ‘what a future telco should look like’), STL Partners has long argued that telcos need to make fundamental changes to their business models in response to the commoditisation of connectivity and the ‘softwarisation’ of all industries, including telecoms. At the very least this means digitalising operations to become more data-centric and efficient in the way they deliver connectivity. But to generate significant new revenue growth, we still believe telcos need to look beyond connectivity and develop (or acquire) new product and service offerings.

The original Telco 2.0 two-sided business model

original telco 2.0

Source: STL Partners

Since 2011, a handful of telcos have made significant investments into areas beyond connectivity that fall into these categories. For example:

  • NTT Docomo has continued to expand its ‘dmarket’ consumer loyalty scheme, media and sports content and payment services, which accounted for nearly 20% of total revenues for FY2017.
  • Singtel acquired digital advertising provider Amobee in 2012, followed by several more acquisitions in the same area to build an end-to-end digital marketing platform. Its digital services accounted for more than 10% of quarterly revenues by December 2017, and was the fourth largest revenue segment, ahead of voice revenues.
  • TELUS first acquired a health IT company in 2008, and has since expanded its reach and range of services to become Canada’s largest provider of health IT solutions, such as a nation-wide e-prescription system. Based on a case study we did on TELUS, we estimate its health solutions accounted for at least 7% of total revenues by 2017.


However, these telcos are the exception rather than the rule. Over the last decade, most telcos have failed to build a significant revenue stream beyond their core services.

While many telcos remain cautious or even sceptical about their ability to generate significant revenue from non-connectivity based products and services, “digitalising” operations has become a widespread approach to sustain margins as revenue growth has slowed.

In Figure 3 we illustrate these as the two ‘digital dimensions’ along which telcos can drive change, where most telcos are prioritising an infrastructure play, but few are putting significant resources into product innovation, and only a small number with the ability to do both.

  • Digitalising telecoms operations: Reduction of capex and opex by reducing complexity and automating processes, and improving customer experience
  • Developing new services: This falls into two categories on the right-hand side of Figure 3
    • Product innovation: New services that are independent from the network, in which case digitalising telecoms operations is only moderately important
    • Platform (& product): New services that are strongly integrated with the network and therefore require the network to be opened up and digitalised

Few telcos are putting real resources into product & platform innovation

2 digital dimensions

Source: STL Partners

Four developments driving our Telco 2.0 update

  • AI and automation technology is ready to deploy at scale. AI is no longer an over-hyped ideal – machine and deep learning techniques are proven to deliver faster and more accurate decision-making for repetitive and data-intensive tasks, regardless of the type of data (numerical, audio, images, etc.). This has the potential to transform all areas of operators’ businesses.
  • We live and work in a world of ecosystems. Few services are completely self-sufficient and independent from everything else, but rather enable, complement and/or augment other services. Telcos must accept that they are not immune to this trend, just because connectivity is one of the key enablers of content, cloud and IoT ecosystems (see Figure 4).
  • Software-defined networks and 5G are coming. This is happening at a different pace in different markets, but over the next five to ten years these technologies will drastically change the ‘thing’ that telcos operate: the ‘network’ will become another cloud service, with many operational functions instantiated in near real-time in hardware at the network edge, so never even reaching a centralised cloud. So telcos need to become more proficient in software and computing, and they should think of themselves as cloud service providers that operate in partnership with many other players to deliver end-users a complete service.
  • As other industries go through their own digital transformations, the connectivity and IT needs of enterprises have become much more complex and industry specific. This means the one-size-fits-all approach does not apply for operators or for their enterprise customers in any sector.

Telcos and connectivity are not a central pillar, but an enabler in a much richer ecosystem

telco myth vs reality

Source: STL Partners

We are updating the Telco 2.0 Vision in light of these realities. Previously, we proposed six opportunity areas for new revenue growth, and expected large, proactive telcos to be able to address many of them. But telcos have been slow to change, margins are tighter now, implementing NFV/SDN is hard, and software skills are necessary for succeeding in any vertical. So telcos can no longer hope to do it all and must make choices of where to put their bets. As NTT Docomo, Singtel and TELUS show, it also takes time to succeed, so telcos need to choose and commit to a strategy now for long term success.

Contents:

  • Executive Summary
  • Introduction
  • Time to update Telco 2.0
  • Four developments driving our Telco 2.0 update
  • Analysing the current market state
  • Options for the future
  • If connectivity won’t drive growth, do telcos’ network strategies matter?
  • Imagining the future telecoms stack
  • Conclusions

Figures:

  • Figure 1: The telco stack
  • Figure 2: The original Telco 2.0 two-sided business model
  • Figure 3: Few telcos are putting real resources into product & platform innovation
  • Figure 4: Telcos and connectivity are not a central pillar, but an enabler in a much richer ecosystem
  • Figure 5: The network cloud platform within the telco stack
  • Figure 6: Steps to becoming a cloud platform
  • Figure 7: Horizontal specialisation within the telco stack
  • Figure 8: Vertical specialisation within the telco stack
  • Figure 9: Enterprise verticals
  • Figure 10: Consumer services and applications
  • Figure 11: Network technology company versus lean network operator
  • Figure 12: Example of a fixed telco stack
  • Figure 13: Example of a telco IoT stack
  • Figure 14: Example of a lean network operator stack

Can Netflix and Spotify make the leap to the top tier?

Introduction

This is the first of two reports analysing the market position and strategies of four global technology companies – Netflix, Spotify, Tesla and Uber – that might be able to make the leap to become a top tier consumer digital player, akin to Amazon, Apple, Facebook or Google. The two reports explore how improvements in digital technologies and consumer electronics are changing the entertainment and automotive markets, allowing the four companies to cause significant disruption in their sectors.

The first part of this report considers Netflix and Spotify, which are both trying to disrupt the entertainment market. For more on the increasing domination of online entertainment by the big Internet platforms, read the STL Partners report Amazon, Apple, Facebook, Google, Netflix: Whose digital content is king?

This report considers how well Netflix and Spotify are prepared for the likely technological changes in their markets. It also provides a high-level overview of the opportunities for telcos, including partnership strategies, and the implications for telcos if one of the companies were able to make the jump to become a tier one platform.

STL Partners is analysing the prospects of Netflix, Spotify, Tesla and Uber because all four have proven to be highly disruptive players in their relevant industries.

The four are defined by three key factors, which set them aside from their fellow challengers:

  • Rapid rise: They have become major mainstream players in a short space of time, building world-leading brands that rival those of much older and more established companies.
  • New thinking: Each of the four has challenged the conventions of the industries in which they operate, leading to major disruption and forcing incumbents to completely re-evaluate their business models.
  • Potential to challenge the dominance of Amazon, Apple, Facebook or Google: This rapid success has allowed the companies to gain dominant positions in their relative sectors, which they have used as a springboard to diversify their business models into parallel verticals. By pursuing these economies of scope, they are treading the path taken by the big four Internet companies (see Figure 1). Google, Apple, Facebook and Amazon have come from very diverse roots (ranging from an Internet search engine to a mobile device manufacturer), but are now directly competing with each other in a number of areas (communications, content, commerce and hardware).

Figure 1: How the leading Internet companies have diversified

Source: STL Partners

The evolution of online entertainment

As broadband networks proliferate and households are served by fatter pipes, telecoms networks are carrying more and more entertainment content. While there are major players in every country and region, there are essentially only six online entertainment platforms meeting this demand on a global scale – Amazon, Apple, Facebook, Google, Netflix and Spotify. These six companies are delivering increasingly sophisticated real-time entertainment services that are generating a growing proportion of Internet traffic, at the expense of traditional web browsing, file sharing, download services and physical retail entertainment.

The six are building global economies of scale that can’t be matched by national/regional media companies and telcos. Global distribution is becoming increasingly important in the media industry, given the prohibitive costs of sourcing content and then packaging it and distributing it across multiple different devices and networks.

Scale is also important for another reason. As the volume of digital content proliferates, consumers increasingly rely on recommendations. The platform capturing the most behavioural data (people who watched this, also watched this) should be able to offer the best recommendations.

Although the platforms with scale have a competitive advantage, they are still vulnerable to disruption because the online entertainment market is evolving rapidly with providers, including rights owners, experimenting with new formats and concepts.

As outlined in the STL Partners report Amazon, Apple, Facebook, Google, Netflix: Whose digital content is king?, most of this experimentation relates to the following six key trends, which are likely to shape the online entertainment market over the next decade.

  1. Greater investment in exclusive content: The major online platforms are increasingly looking to either source or develop their own exclusive content, both as a competitive differentiator and in response to the rising cost of licensing third parties’ content. Exclusive content may be anything from live sports programming to original drama series and even blockbuster movies. This is an area in which both Netflix and Amazon Video have heavily invested, making the two direct competitors for talent in this space.
  2. Growing support for live programming: People like to watch major sports events and dramatic breaking news live. Some of the online platforms are responding to this demand by creating live channels and giving celebrities and consumers the tools they need to peercast – broadcast their own live video streams.
  3. The changing face of user-generated content: Although YouTube, Facebook and other social networks have always relied on user-generated content, advances in digital technologies are making this content more compelling. If they are in the right place, at the right time, even an amateur equipped with a smartphone or a drone can produce engaging video pictures.
  4. Increasingly immersive games and interactive videos: As bandwidth, latency, graphics processing and rendering technology all improve, online games are becoming more photorealistic making them increasingly akin to an interactive movie. Furthermore, virtual reality will enable people to adopt different viewpoints within a 360-degree video stream, enabling them to choose the perspective from which to watch a movie or a live sports event. For more info, please see the STL Partners’ report: AR/VR: Won’t move the 5G needle.
  5. Rising use of ad blockers and mounting privacy concerns: Many consumers are looking for ways to avoid video advertising, which is more intrusive than a static banner ad and uses more bandwidth. At the same time, many national and regional regulators are becoming increasingly alarmed by the privacy implications of the data mining of consumer services and products, leading to clashes between the major online advertising platforms and regulators.
  6. Ongoing net neutrality uncertainty: In many jurisdictions, net neutrality regulation is either still under development or is vaguely worded as regulators struggle to balance the legitimate need to prioritise some online services with the equally important need to ensure that small content and app developers aren’t discriminated against.

To read on about Netflix and Spotify’s strategies and implications for telcos, please login and download the report, or contact us to subscribe.

Contents:

  • Executive Summary
  • Netflix: much loved, but too narrow
  • Spotify: leading a formidable pack
  • Lessons for telcos
  • Conclusions for telcos
  • Introduction
  • The evolution of online entertainment
  • Netflix: Keeping it original
  • Right time, right proposition
  • Competitive clouds gathering
  • Economies of scale, but not scope
  • Strengths
  • Weaknesses
  • Opportunities
  • Threats
  • Spotify: The power of the playlist
  • Smaller than Netflix, but more rounded
  • Strengths
  • Weaknesses
  • Opportunities
  • Threats
  • Takeaways for telcos
  • Lessons for telcos
  • Next steps for telcos

Figures:

  • Figure 1: How the leading Internet companies have diversified
  • Figure 2: Netflix revenue and paid subscriber growth, 2015-2017
  • Figure 3: Netflix has grown much faster than its rivals in the US
  • Figure 5: Netflix from a monolithic website to a flexible microservices architecture
  • Figure 6: Netflix: SWOT analysis
  • Figure 7: Tailoring movie artwork to the individual viewer
  • Figure 8: Netflix’s addressable market is growing steadily
  • Figure 9: The number of mobile broadband connections is rising rapidly
  • Figure 10: How studio films aim to make money using release windows
  • Figure 11: Hulu’s broad proposition is a challenge to Netflix
  • Figure 12: Growth in digital music is now offsetting declining sales of physical formats
  • Figure 13: Spotify’s rapid revenue and paid subscriber growth
  • Figure 14: Spotify’s fast-growing premium service is the profit engine
  • Figure 15: A SWOT analysis for Spotify
  • Figure 16: Spotify has significantly lower ARPU and costs than Netflix
  • Figure 17: Spotify’s losses continue to grow despite rapid revenue rises
  • Figure 18: Spotify’s costs are rising rapidly
  • Figure 19: YouTube is a major destination for music lovers

Full Article – Case Study: how to grow when your core market shrinks

Summary: Only the fit survive market changes, and evolving the business model to adapt is key. Strategy lessons for telcos and vendors alike from Boungiorno, a content aggregator that evolved to beat the shrinking portal services market. :

Overview

As traditional revenue streams come under threat, operators are starting to look at new business models. But how should they make the transition? The case of Buongiorno provides some clear lessons as it has successfully moved from being an aggregator of basic mobile content to a strategic partner of operators seeking to deepen their retailer capabilities and their customer intimacy.

For Operators, building such CRM capabilities will help maximise the value of the existing business model and provide a stepping-stone to new sources of value. It will provide operators with substantial near-term revenue growth as they will be able to offer more appropriate content and applications to their customers and will open up a $125+ billion medium-term growth opportunity by helping other upstream service providers interact more effectively and efficiently with their customers via a Telco platform.

Buongiorno’s success

Buongiorno has successfully circumvented the decline experienced in ringtones and other portal services since 2007, it’s core market only a few years ago, and moreover has continued to grow.

buongiorno3.png

As well as promoting greater customer interaction, Buongiorno has employed a systematic and sustained acquisition strategy that has clearly added substantial revenue to the business over the last several years (including around €130m from iTouch in the 2008 figures). It is not realistic therefore to suggest that all of Buongiorno’s success is derived from its increased customer interaction strategy.

Nonetheless, the company has successfully repositioned itself from being a content aggregator to being a strategic partner of operators seeking to deepen their retailer capabilities and their customer intimacy, and fundamentally changed it’s position and role in the value chain – which is the key strategy parallel for Telcos.  We analyse Boungiorno’s repositioning and transformation strategy below.

Background History – the fundamental problem of growing in a shrinking market

Buongiorno was founded in 1999 as a content aggregator for the mobile market, providing a distribution platform for developers and media companies, and acting as a wholesale provider for operators. The company usually ‘white labels’ its services so that operators can use their own brand when retailing to their customer base. It initially focused on basic mobile content such as music, games, video, wallpaper and ring tones. Buongiorno enjoyed strong growth in its early years. However, by 2004 management could see that revenue growth from many of these basic services was going to slow down for four principal reasons:

  • Alternative ways of downloading content for free or more cheaply – peer-to-peer networks on PC followed by sideloading on to the device;
  • Excessive pricing of ring tones by operators and other retailers;
  • Hidden subscription charges for some services – reflected in fines being levied on some content providers;
  • More sophisticated devices that enabled, for example, ring tones to be created from music stored on the device.

The company therefore then faced the same problem as operators increasingly do now: how to generate greater revenues from end users at a time when revenue growth from core services was starting to dry up?

buongiorno.png

Strategic Solution: A focus on being a better retailer

In 2004-5, Buongiorno management decided that in addition to the existing assets (content and a technology platform) the company needed to grow its CRM and marketing capabilities. This would better enable them to support operators seeking to strengthen their relationship with customer bases that were spending increasing amounts of time and money off-portal. In so doing, they would also provide pull through for Buongiorno content.

The company had launched an advertising and digital promotion company, Buongiorno Marketing Services, in 2002 but the focus of the much bigger Consumer Services company now also shifted towards database building and management, CRM and consultancy, all underpinned by a flexible technology platform.

The first part of the strategy was to introduce CRM capabilities to the content platform so operators could better understand the buying patterns of their customers. This enabled operators to automatically provide targeted advertising and marketing, including personalised offers based on users’ past purchasing and click histories. Buongiorno thereby aimed to help operators be more relevant to their customers to encourage on-portal activity and increase loyalty, resulting in:

  • Increased ARPU;
  • More inactive users converted into buyers;
  • Reduced customer churn;
  • Reduced off-portal activity.

Example Operator Retail Campaigns: O2 ‘Extras’ and ‘Top-Up Surprises’

Buongiorno helped O2 in the UK create O2 Extras, an opt-in ‘club’ that provides update texts, bespoke advertising, free downloads and location-based services for its 1m+ members. The results below are clearly impressive, showing a tangible difference in value for O2 between O2 Extra customers and the rest.

buongiorno1.png

[NB What is not clear fom this data is whether the behaviour of members changed after they joined the club. To some extent it is possible that the club’s success is predetermined – those people that use O2’s portal more and are more loyal to the company sign up for O2 Extras thereby confirming their value rather than the incremental benefit of being part of an opt-in club. It is also possible that the club has tied in more deal sensitive users who are more likely to churn. Overall, we believe that the club has tangible benefits but would advise further analysis to quantify the benefits for clients considering implementing a similar programme.]

The second move by Buongiorno was to enable greater interactivity via their platform, allowing operators to respond immediately to consumer behaviour with contextually relevant offers using pre-defined business rules. Boungiorno says that this enables operators to implement a simple but powerful concept: ‘Customers Do X and Get Y’. The aim is to further increase customers’ interactions with the operator by incentivising specific customer behaviours. Operators define what the reward (or penalty) is as well as the behaviour to be targeted.

O2’s Top-Up Surprises, a popular campaign in the UK that rewards the consumer with a prize whenever they put money on their pre-paid balance, uses Buongiorno’s ‘Instant Mobile Marketing’ platform. O2 offers prizes that are tiered according to the amount the consumer spends (bigger prizes for topping up more than £15), so that spending is ‘encouraged’. It cleverly contains the cash cost of the programme by mainly offering ‘network prizes’ consisting of minutes, texts and browsing time and only having a few ‘headline-grabbing’ prizes such as cash, cars and computer games.

The results of the Top Up Surprises campaign are not public but, according to O2, it has been ‘hugely successful’ and has demonstrated a clear business benefit from building some excitement into a relatively unfulfilling and mundane activity. The fact that O2 chose to extend the campaign beyond its planned timescale and invest £5.5m in a marketing campaign to support it would seem to bear this out.

Future Strategy: Options to develop a two-sided business model

Several products are currently being heavily marketed through the Top-Up Surprises campaign including Nintendo DS, Sony TVs, Toshiba laptops, Marks and Spencer vouchers and even a Toyota car. There is clearly an option for O2 (and other Instant Mobile Marketing platform operators) to charge brands for access to their customers through the interactive marketing campaigns. Getting this right would enable operators to generate more value from both sides of the platform. In other words, there are two available pricing models and O2 is currently only exploring the first.

buongiorno2.png

Implications…

Buongiorno’s story suggests that the road to Telco 2.0 should be via ‘Telco 1.5’. In other words, the focus for Telcos should be on developing the skills that will be valuable for upstream customers initially for themselves.  If they can make their retail offerings better by being able to target and customise offerings more effectively, then this can later be translated to the offerings of third-parties.  Becoming a best practice retailer, like Amazon, and developing a meaningful two-sided business model, like Google or Microsoft, will not be achieved overnight.  Operators need to become good retailers first and then add the second upstream revenue source.

…for Operators

The initial focus of operators should be on developing a stronger, more interactive and more profitable relationship with existing customers via:

  • Developing better CRM and data mining skills so operators have a clearer understanding of what customers want. Operators need to be able to answer the questions that Amazon, Tesco, Walmart, etc. wrestle with every day:  What has this customer bought in the past?  What does this tell us about what they might buy in the future?  What does their demographic profile tell us about their attitudes and needs?  How can we capture preference information from them to better understand how we can service them?;
  • Creating a longer term strategy for generating revenue from upstream players in a way that does not cannibalise existing end user revenues or, put another way, that creates more value across both customer groups than can be achieved from one group alone. This is a key point for all two-sided platform players.  For example, Google generates more value by making its search engine free to searchers than it would by charging them.  Why?  Because a free search engine (and other Google products) generates massive usage of the Google search engine which results in high value to merchants and advertisers.  If Google charged for search then the volume of searchers would rapidly diminish and Google would lose advertising revenues.  Operators need to consider their pricing strategy very carefully as a two-sided platform player – where should they continue to charge the user and where should they give up revenue from the end user in order to derive greater value from the upstream customer?

…for Vendors and Enablers

There has always been a fine line between ‘leading edge’ and ‘bleeding edge’ in telecommunications, and all vendors and enablers of future Telco success need to ensure that they are relevant now and not just promoting solutions for the future. This is even more important in the current economic climate.

Having said this, 94% of delegates at a plenary jointly hosted by Telco 2.0 and the Telemanagement Forum agreed that innovation and revenue growth as well as operational efficiency should remain a priority throughout the recession. In other words we cannot forget the future as we struggle with the present.

Vendors and enablers need to focus on continuing to solve the immediate ‘pressing concerns’ of operator management including churn prevention, ARPU growth and cost reduction, while also developing a strong thought leadership and position about how operators can win in the medium term.  They must:

  • Develop solutions that are flexible enough to be ‘forward compatible’ and support future operator business models, including two-sided models, at low incremental cost…
  • …and deliver solutions that make operators better retailers NOW – including improved customer interactivity and intimacy.  This will drive near-term revenues for operators and enable them to build a business case for investment that is not based on ‘jam tomorrow’ – something which will not get through investment committees in the current economic climate.

A New Role for Telcos in the Digital Economy

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Introduction

Telcos can avoid inevitable market decline by exploiting their core skills, assets and relationships to create new sources of growth based on two-sided business models.

This ‘Executive Briefing’ provides an overview of the Telco 2.0 opportunity for telecoms operators and explores the potential to create ‘platform’ businesses in the areas of retail, wholesale and B2B2C value-added services.

It outlines the strategic moves required by operators to realise the Telco 2.0 opportunity, and articulates why Telco 2.0 ‘two-sided business models’ are a better long-term proposition than other strategic options open to operators.

The resulting issues were initially addressed in depth in the Telco 2.0™ Market Study in 2006 (updated in 2007), and while much of our underlying analysis remains the same the pace of change has accelerated – and the world has moved on. We’ve therefore now re-addressed the questions given the learning of the last two years in this new report, which can be provided either as a solus piece or in combination with the original report to give a comprehensive overview.

Who should read the report

The report is for those with responsibility for making money from telecoms services. It is for anyone who is concerned about the pressures on the existing telco business model and who is seeking to identify new growth opportunities. This includes institutional investors, regulators, CxOs, strategy leaders at telecoms operators, their suppliers and partners, and business leaders in adjacent markets looking to enter the telecoms market.

Key Questions Answered

The overarching questions addressed in this research report are:

  • “What are the key drivers of change and the key areas of strategic focus now?”
  • “How do we evolve our business model to survive and prosper in this fast changing world?”

The new research provides strategists and decision makers in Telcos, related industries and industry bodies the latest in-depth perspectives and analysis of the market at a macro level from Telco 2.0™. It also serves as an in-depth introduction to the key principles and premises of the Telco 2.0™ world.

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Contents

Part 1: The Telco 2.0 Opportunity

  • Telco 2.0: The next business model
  • Major growth potential for operators

Part 2: Why Telco 2.0?

  • Telco 1.0: Nearing end of life
  • Customer demand for Telco 2.0 solutions
  • Lessons from other industries
  • Telco 2.0 uses unique operator assets

Part 3: Building a Telco 2.0 Business

  • Moving Forward
  • Conclusion

Part 4: Further Information

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