Time to Dump the Dumb Pipe
As a teenager I was fortunate enough to spend a few weeks in Ireland every summer with my grandmother. I promised to call when I got to the village, which meant going to the phone box outside the Post Office armed with a pocketful of coins, picking up the receiver and asking Alice (who worked in the Post Office) to connect me with an overseas operator who would finally put my through to my parents in New York. Over the years, the routine of “calling when I got there” stayed the same but how I made the call changed dramatically. As technology advanced and new infrastructure was built, the manual operator-to-operator connection was upgraded, and my calls moved to a fixed-line phone in the house and, eventually, to a mobile phone. Although the equipment was different, there was always a hefty charge that went to the telecom operator — Telecom Éireann, AT&T or Verizon.
Today when I get to the village, I still “call home” but it’s usually by logging into the WiFi in the local pub and having a quick FaceTime chat. The biggest difference is that my calls are now essentially free.
Over the past two decades, telecom companies have been busy building infrastructure that is critical to the communications sector — copper, cellular/mobile, cable, and fiber networks— and these networks are now the backbone of our increasingly digital economy. This connectivity-driven revolution has created some of the world’s largest companies who generate their profits by using the infrastructure that the telecom sector has built. While telecom operators have seen minimal industry growth of just 0%–3% in the past few years, sectors that use their networks such as Internet Services are seeing growth at rates at least six times higher.
So what’s a telecom operator to do? We believe they have two choices: (1) they can streamline their business and continue providing the ‘dumb pipe’ to the digital ecosystem, or (2) they can embark on a digital transformation.
In the report that follows, we investigate what a digital transformation would entail, how the future post-telecom era digital connectivity industry may shape up, and what it may mean for telecom investors. We see the aim of the transformation as building new competitive advantages in digital areas that are less prone to regulation than basic infrastructure. This entails a mindset change by telecom operators away from selling digital connectivity and towards selling service-enabling digital platforms, both to consumers as well as business-to-business customers.
Investors may not yet be ready to assign much value to telecom companies for this transformation but we believe this could form the basis of a new and more sustainable long-term value creation story, at least for some telecoms. Operators’ ability to benefit from the digital transformation may vary substantially, but those in countries with less developed service industries — which have the skill to deliver and sell new services, the scale in their operations to make it profitable, and the right management style — will, in our view, likely succeed. Investors should start to get interested in this story when a pattern of successful precedents starts to emerge, regulatory reforms start opening new opportunities for telecoms, material partnerships are formed involving telecoms and, for example, over-the-top providers, or major digitally-driven M&A is seen in the industry.
