June 2000
The telecommunications landscape has been altered almost beyond recognition. Consider the recent flurry of megamergers: AOL has agreed to terms for a merger with media giant Time Warner. Vodafone acquired AirTouch, merged its US domestic wireless and paging assets with Bell Atlantic's mobile business, and now is in the process of acquiring Mannesmann to become, practically overnight, a leader in this global industry. Deutsche Telekom made (though later withdrew) a bid for Qwest Communications and US West, which were themselves in the midst of a merger. And France éé is buying a large stake in MobilCom, a German phone service provider.
Why all this activity, and why now? After a period of uncertainty, it is clear that a new and fundamentally changed telecommunications industry is emerging. And with greater confidence about what the future offers, major players are beginning to place substantial bets on how best to position themselves in the new marketplace.
For traditional telephone companies, the implications are ominous. In some of the most attractive market areas, certain players already have seized dominant positions. Those telcos that continue to take a wait-and-see approach, playing cautiously across many sectors of the rapidly evolving new market, will be-and indeed, already are being-left behind. It is time for all telcos to choose and aggressively claim their place in the emerging networked economy.
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A whole new game What was known as the telecommunications industry is now just one part of a broader networked economy made up of five sectors-network services, Web infrastructure, access, software and content-that have converged. Traditionally, telcos operated within subsets of three of the sectors-network services, Web infrastructure and access. Today all five sectors of the networked economy are being transformed completely, both individually and in relation to one another. For telcos, this means a whole new game.
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The traditional core of telecommunications is network services, including transmission and heritage voice and data networks. Within network services, the transition to Internet protocols is already under way, and the challenge of making it robust is being addressed.
The best telcos are going even further, embedding network applications, such as Voice over Internet Protocol, unified messaging, virtual private networks and Internet Protocol streaming, into their own services. They are also developing the network intelligence to smoothly manage their transition from old to new networks.
However, despite all these developments, network services is fundamentally a commodity business. To be viable as a provider of network services, a telco must have global scale and the lowest cost structure, along with the willingness to redirect investment toward the development of value-added services.
Alongside the traditional telecommunications network, a new Web infrastructure component is being developed in the networked economy. Thousands of businesses reaching out to millions of customers gives rise to an enormous need for shared Web infrastructure-Web hosting, caching and streaming, shared points of presence and Web access.
The very high market valuations of new Web infrastructure players reflect market expectations for extraordinary growth in this hot area of the networked economy. The share price of Exodus, a Web hosting company founded in 1994, rose from $15 to $139 in the 12 months ending April 6, 2000, and as of that date its market cap was already more than $23 billion. Akamai, which provides services for the delivery of Web content, streaming media and applications, saw its stock price rise from $26 to $345 in the first two months of trading after its IPO in October 1999-it rose 458 percent the first day alone. As of early April 2000 its market cap was more than $20 billion.
Access is also being transformed. Once upon a time, telcos controlled the hard wire that was the customer's sole point of access to the network. Now, due to new technology, access is feasible in a number of ways, including mobile, fixed wireless and cable modem. Today's demanding customers expect to reach their Web services using any or all of those means.
In fact, access is becoming more of a stand-alone business-one with a growing number of competitors making large investments, thus accelerating change. Covad, a DSL pioneer, had 1999 revenues of less than $75 million. But its stock price nearly tripled, from $23 to $66, between August 1999 and March 2000, and its market cap in early April 2000 was close to $6 billion, giving it the resources to make a strong access play.
In this rapidly changing environment, telcos are losing the ability to use their dominant advantage in access to leverage their positions elsewhere. As that advantage disappears, it is an open question whether telcos should play in the access business at all.
Software and content make up the rest of the networked economy map. To date, the ability to offer unique and valuable content has been the driver of the Internet. Content will continue to be an area that attracts investment and generates excitement. At the same time, software will grow in importance. Today customers buy Microsoft Office in a box; tomorrow they will buy it online. Today applications packages are installed at corporate sites; tomorrow applications services will be available over the network. Together, online content and software will become a critical part of the value proposition for the networked economy.
Separate from the five sectors, aggregators play a vital role in the new networked economy. These companies own the customer franchise, providing the services and products customers need from each of the five sectors. Aggregators are defined by the segment they serve-consumers, for example, or the small-business and large corporate segments.
Because they are able to lock in customers with the convenience of a single point of integration, aggregators are a powerful and permanent part of the new landscape. Aggregators also personalize relationships with their customers, learning more about their needs and practices to offer a broader array of goods and services tailored to them.
This arrangement works for customers-indeed, it is highly valued-and it also works for aggregators because it is the key to their economic viability. Many of the services aggregators bundle are low-margin businesses, if not free. Offering ever-larger bundles that include elements with higher margins is essential.
Risky Business
For telcos, which traditionally have been vertically integrated, the advent of aggregators is a radical development. Ownership of the customer franchise for telecommunications services is being uncoupled from ownership of the network itself. Going forward, it will be aggregators who maintain relationships with customers, bundling software and content, and transmitting it over a network that includes Web infrastructure.
Many telcos already are feeling the winds of change, with market share losses of 10 percent to 20 percent. Very soon those changes will reach gale force, and unless telcos become world-class aggregators, they will lose 50 percent to 75 percent of their end-customer franchise.
Unfortunately, many telcos continue to opt for the riskiest kind of response to the upheaval in their industry and the arrival of bold new competitors: establishing a tentative presence in several major segments of the networked economy but a compelling position in none.
When carving out its place on the map, a telco instead needs to consider two fundamentals of the new industry situation.
The Market Rewards Pure Plays
Each major sector of the networked economy-network services, Web infrastructure, access, software and content, along with the aggregator role-is a pure play in itself. And the market is rewarding pure plays.
Global Crossing, for example, is focused on international and long-distance transmission. Web content delivery provider Akamai-a company without substantial revenues but with a market valuation of $20 billion in April 2000-is also a pure play.
The most successful companies are and will continue to be those that concentrate their efforts on one play until they achieve leadership through world-class excellence. Companies that achieve that standard are realizing market success and capital market recognition.
But zeroing in on a narrow business area is antithetical to the way telcos have traditionally thought and operated. After decades of universal service and vertical integration, their instincts are still to consider the business as a whole. Seeing their business as a set of discrete pieces calls for a sweeping change in perspective. Yet that is where telcos must start.
The challenge is to analyze each element of the current or proposed operation as an independent business. Is it capable of succeeding on a stand-alone basis? Is there a compelling, winning strategy for each element?
Then the telco needs to look at how it is prioritizing each business area. What commitment of time and resources is being made to each element? Are some areas neglected or underdeveloped? Is the actual attention given to each business consistent with the strategy for that business? Is the company doing what it says it will do?
Doing this assessment, most incumbent telcos find that their voice telephony business has a dominant share but that other business areas-such as IP, Web infrastructure and aggregation-are languishing. That is because most telcos have not understood or accepted the need to commit resources, energy and time to win each play in a compelling manner.
Portfolio Plays do Exist
Each pure-play business must be a winner in its own right. But will a single business be sufficient for long-term success? Are portfolio plays still an option? The answer is that some portfolio plays will be advantageous-but only if they bring together businesses that already have achieved strength and excellence on their own.
One portfolio possibility is the extended network, which includes network services, Web infrastructure and possibly access. When a top-flight network services provider allies with a first-class Web infrastructure player, both can benefit: The combination can be even more powerful than either company on its own.
For the network services provider, moving into Web infrastructure can help capture the volume needed to make the network economically viable. For the Web infrastructure player, having a top-quality network can underpin a robust Web infrastructure business.
Network service providers should keep in mind the potential value of a network to Web infrastructure providers. And they may want to move forward into Web infrastructure, if only to prevent cash-rich new infrastructure players from integrating backward by buying a network services provider.
Although telcos should not underestimate the challenge of operating two businesses with different dynamics, extending their network play into the Web infrastructure space can have real strategic benefits.
However, the extended network play probably does not include content or software. Telcos are not likely to develop software or create content independently. But in their network role, they may want to form commercial relationships with providers of those services by hosting them and possibly syndicating them to aggregators.
A Tough Combination
The most difficult portfolio play would be to act as both a network services provider and an aggregator. One business focuses on the network itself, the other on the customer. They entail fundamentally different business models, capabilities, policies and metrics.
A few telcos have tried this dual role. The best examples are Deutsche Telekom with T-Online and Spain's Telefa with Terra. Even these formidable network players have recognized the fundamental differences between the network and the aggregator businesses. Telefa has already partially floated its aggregator operations, and Deutsche Telekom may follow.
The challenge of combining roles is likely to be overwhelming for all but the largest, most aggressive and most resource-rich telcos. And even those companies must recognize that they are pursuing a complex portfolio strategy, not operating an integrated business.
Successful portfolio plays are possible. For them to succeed, each individual piece of the business must be strong enough on its own; the combination of businesses or the synergy between them is not expected to overcome individual business weaknesses. A successful portfolio play can happen only when the challenge of achieving excellence in multiple businesses does not overextend the capabilities, resources and energy of the organization.
Time to Act
Telcos that want to have a place in the emerging networked economy must choose that place, and choose now. They must reject less promising business areas and direct all their energy and resources to pursuing promising opportunities with courage and conviction.
Tough questions need to be asked-and answers must be found quickly.
Can the telco deliver world-class, low-cost, IP-based network services (preferably on a global scale) with value-added network applications? Can it achieve excellence in Web infrastructure? Is access an option? Can the telco move into the aggregator role? If so, what market segment could it serve most successfully? For many-if not most-telcos, these critical choices are not on the agenda. Telcos that do not choose their role boldly in the next 6 to 12 months will effectively let the market choose for them.
Ben Soppitt is a London-based manager in the Accenture Strategic Services practice. One of his areas of focus is Internet protocol and Internet strategies for incumbent and new-entrant communications providers.
Ameet Shah is a London-based partner in the Communications, Media and Technology* unit of the Accenture Strategic Services practice. Mr. Shah is a thought leader with a particular interest in predicting the evolution of the telecommunications industry.
Thomas Pike is the global managing partner for the Communications, Media and Technology* unit of the Accenture Strategic Services practice. A global speaker, Mr. Pike addresses audiences about eCommerce and the direction of the Internet. He is based in New York.
*formerly Communications & High Tech
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