Rise of the Alternative Network Provider
FEB 16, 2015 12:27 PM
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Rise of the Alternative Network Provider

New competitors disrupt the telecom business model

By Chris Antlitz, Telecom Senior Analyst 
Incumbent telecom operators in the U.S. face a new category of competitors that play by a different set of rules. These alternative network providers aim to disrupt the traditional telecom business model by lowering access costs and improving the user experience. Their motivations differ from incumbent telcos, which focus on monetizing their connectivity solutions. Rather, these alternative network providers view access as a sunk cost necessary to drive their other initiatives, such as digital advertising and e-commerce. The stakes are high because these market dynamics will shift the balance of power, money, and landscape makeup in coming years. Only the strongest and most nimble incumbent operators will survive the coming shakeout.
There are three emerging segments of the alternative network provider space: Wi-Fi, cloud, and advertising. Each of these areas is driving increased interest by nontelecom companies in pursing telecom endeavors.
Wi-Fi is viable alternative to cellular
Wi-Fi is becoming a viable alternative to traditional cellular service, not only offering data, but also voice and text services. The prevalence of hotspots, in residential and commercial buildings as well as in public venues, is making Wi-Fi coverage nearly ubiquitous across large swaths of urban and suburban areas. A new breed of operator is emerging to capitalize on Wi-Fi, including cable operators, startups such as Republic Wireless and Internet companies such as Google. 
Wi-Fi operators pose a significant challenge to incumbent telecom operators because Wi-Fi is relatively low cost to use and the quality of service has been greatly enhanced due to innovations in handover technology and seamless authentication. In many cases, Wi-Fi is being offered for free, with the cost being subsidized by new business models, such as analytics and advertising, which is why this is so disruptive to telcos.
Wi-Fi offers the lowest-cost, highest-impact way to deliver connectivity. The ability to leverage unlicensed (free) spectrum, minimal backhaul requirements and the endemic footprint of hotspots across the U.S. makes Wi-Fi a considerable threat to cellular.
Advertising disrupts access model 
Facebook (via its Internet.org initiative) and Google have taken on the seemingly insurmountable challenge of bringing low-cost Internet access to the world population. This is no small feat, as nearly two-thirds of the world’s population lacks Internet access, particularly in emerging markets. 
Both companies are investing in and tinkering with new technologies aimed at trying to solve this problem, including using fiber, Wi-Fi and “space furniture,” such as satellites, balloons, drones and blimps, to blanket the planet with wireless coverage. Google is also pursuing becoming a mobile virtual network operator to offer its branded wireless service, piggybacking on the networks of Sprint and T-Mobile to offer service in the U.S. market. 
Facebook and Google are able to justify these endeavors to their stakeholders because they are indirectly driving growth in their core business, which is to sell digital advertising, by offering free or nearly free access. The more people using the Internet, the more opportunities there are for these companies to sell their ads. This model is highly disruptive to incumbent telcos because they are in the business of selling access. TBR believes that if companies like Facebook and Google are able to drastically reduce the cost of Internet access while still providing a “good enough” quality of service, it will render the traditional telecom business model obsolete. 
Facebook and Google are going one step further than just access, however. They are also engaged in lowering device costs (i.e., not just smartphones, but also other connectable devices such as meters, wearables and the like) and making apps more data efficient. Tackling each of these areas in unison will help make devices and connectivity affordable for the mainstream world population.
Cloud builds out network backbone
Companies in the cloud business or that rely on cloud internally, are proactively ensuring they can support their business scale and provide optimal quality of service to their customers. Amazon’s key focus is to ensure it can support the exponential growth in its Amazon Web Services (AWS) business. Relying on incumbent telcos for bandwidth, low latency and reliable connectivity is not only expensive but also a business risk. 
Therefore, Amazon is investing in its optical infrastructure to connect its data centers to better control its business, and Microsoft, Google, Facebook, IBM and Salesforce are doing the same (i.e., owning and controlling fiber links to ensure they optimize their cloud businesses). These companies are taking part in terrestrial and submarine optical projects and are involved in building out their infrastructure or leasing large portions of infrastructure from third parties to secure bandwidth. Buying dark fiber is another area of great interest to this segment of companies, as this infrastructure is built out and can be purchased inexpensively compared to the cost of deploying net-new fiber lines. 
This movement by cloud providers is pushing down traffic carriage costs for traditional operators, making it harder for them to monetize their networks. The more nontelecom companies start owning and controlling their fiber backbones, the greater the disruption to traditional telecom operators.
Competition is good for network vendors
Network vendors are benefitting from the disruption occurring in the telecom market. Not only do they have new customers to which to sell infrastructure, they also are selling more to their traditional customers as they fight to protect their core business and stay relevant. 
Webscale 2.0 companies, including Google, Facebook, Amazon and Microsoft, comprise a significant portion of key network vendor revenues. In 2014 Webscale 2.0 companies represented around 20 percent of total revenue for some key vendors, including router supplier Juniper and optical transport suppliers Ciena and Infinera, and growth is accelerating. Cisco, Alcatel-Lucent, and other network suppliers are also citing increased activity from nontelecom customers, and Wi-Fi operators are becoming key customers for a range of network suppliers, including Ericsson, Aruba, Ruckus Wireless, and Cisco.
Some customers are buying off-the-shelf products, while others are having custom-made products manufactured by a series of OEMs. Still, spend is flowing into this sector as this new segment of customers ramps up internal initiatives, resulting in opportunities to sell hardware as well as software and services. 
This fact is underscored by IT services companies jumping into the fray and supporting these customers with a range of solutions, spanning from consulting and systems integration services to network design and planning services to back-office software support systems and platforms. 
The balance of power in the telecom industry is shifting rapidly to content and Internet companies. Alternative network providers realize they need to be proactive to protect their market positions and blaze their own paths to growth. Relying on incumbent telecom operators for business-essential functions, such as providing ubiquitous Internet connectivity and 99.999 percent reliability, is a risky and costly proposition, and these companies are taking more control over the value chain to secure their destinies and ensure they can provide optimal service to their end customers.
Incumbent operators are in a precarious situation because the prevalence of alternative network providers is increasing downward pressure on access prices and will continue to shift value-added services to over-the-top players. Incumbent operators will need to accelerate their business transformation to regain their nimbleness and be able to operate profitably at lower access prices. This will require a focus on software-mediated technologies such as NFV and SDN as well as leveraging cloud and analytics to streamline their networks and make them more flexible.
Suppliers are in an enviable position because their addressable market is growing as more companies enter the telecom space. Selling network infrastructure to content and Internet companies has become a significant contributor to vendor revenues while traditional customers increase investment to remain competitive. TBR believes incumbent telecom operators will accelerate their shift to software-mediated technologies to stay competitive. This will drive a windfall for network vendors because transformation projects tend to be large in scale and take multiple years to implement.
Technology Business Research, Inc. is a leading independent technology market research and consulting firm specializing in the business and financial analyses of hardware, software, professional services, telecom and enterprise network vendors, and operators. Serving a global clientele, TBR provides timely and actionable market research and business intelligence in a format that is uniquely tailored to clients’ needs. Our analysts are available to further address client-specific issues or information needs on an inquiry or proprietary consulting basis. TBR has been empowering corporate decision makers since 1996. For more information please visit www.tbri.com.
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