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Vendor Owned Networks: Is network ownership the next step for network vendors?
Vendor Owned Networks: Is network ownership the next step for network vendors?
Vendor Owned Networks: Is network ownership the next step for network vendors?
Vendor Owned Networks: Is network ownership the next step for network vendors?
Vendor Owned Networks: Is network ownership the next step for network vendors?
Vendor Owned Networks: Is network ownership the next step for network vendors?
Vendor Owned Networks: Is network ownership the next step for network vendors?
Vendor Owned Networks: Is network ownership the next step for network vendors?
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Vendor Owned Networks: Is network ownership the next step for network vendors?

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An overview of the potential opportunities, risks and rewards of network ownership for telecoms equipment vendors. …

An overview of the potential opportunities, risks and rewards of network ownership for telecoms equipment vendors.

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  • 1. Vendor Owned Networks Is Network Ownership the Next Step for Network Vendors? By Michael Dargue and Hsing-Ren Chiam Network equipment vendors have an established track record in building, operating, and financing networks. Is there logic in taking the final step to network ownership? May 2012
  • 2. Cartesian: Vendor Owned Networks Copyright © 2014 The Management Network Group, Inc. d/b/a Cartesian. All rights reserved. 1 The Evolving Role of Equipment Vendors Twenty five years or so ago, the value chain in the telecoms industry was simple and straightforward. Telecoms vendors manufactured network equipment for vertically integrated operators which in turn built and operated networks to deliver services to end customers. Since then, several variations have emerged (see Figure 1): the wholesale/retail service provider split; managed services for build and operate; and, third parties leasing infrastructure e.g. towers to mobile operators. Figure 1: Telecom Value Chains This evolution of the telecoms operating model has called into question the value of a network as the core strategic asset. In nearly all telecoms markets, network infrastructure is now being shared or divested, and network operations are being outsourced. In many cases, the companies that are enabling this transformation are network equipment vendors (such as Alcatel Lucent Ericsson, Huawei and Nokia Siemens Networks). Research suggests that these four companies may eventually run three-quarters of the world’s networks.1 Whereas in the past, outsourced roles were mainly limited to basic support tasks, it is now increasingly common for even the largest operators to have an outsourcing partner handle the planning, design, development, operation, and maintenance of existing network assets. Equipment vendors are also involved in the construction of new networks from the outset. For example, in Australia, Ericsson is to build a fixed wireless network for the state-controlled National Broadband Network Company (NBN Co). Ericsson will design, build, operate and maintain NBN Co’s network, including the business support systems. At the end of the agreement, ownership of the network will transfer to NBN Co. Aside from implementation, equipment vendors are also providing attractive financing plans to their operator customers. “Vendor financing” has become an industry norm, with equipment vendors partnering with financial institutions to spread the costs for telecoms operators over a longer period of time, paying 1 Infonetics, December 2010
  • 3. Cartesian: Vendor Owned Networks Copyright © 2014 The Management Network Group, Inc. d/b/a Cartesian. All rights reserved. 2 lower-than-market interest rates. In the current economic climate, there is likely to be even higher demand for these financing options. Vendor-owned-Network (VoN) Operating Model Network vendors are therefore already building, operating, and financing networks - is network ownership the next step? The most obvious operating model for this would be one where the vendor owns and operates the network, and charges multiple operators an access fee for the usage of the network. We call this the Vendor-owned-Network model or “VoN” model. Figure 2: The Vendor-owned-Network Model The VoN operating model can bring significant advantages to operators in terms of cost reduction and operating efficiencies. The vendor-owned model would be expected to confer the cost-benefits experienced under existing infrastructure rental, outsourcing and shared operating models. Operators already looking to divest assets to a third party may consider network vendors as an appropriate and capable partner. Moving from an infrastructure-ownership to leased model can improve operators’ financial and operational performance. For example, Cartesian estimates a mobile operator is able to rent a tower for as long as 10 years at an equivalent cost to building and owning the tower itself, while network sharing can result in up to 40% savings in terms of operating and capital expenditure. Finally, not owning the network can allow greater focus on differentiated customer-centric activities such as proposition development, sales and marketing, customer service and retention. This phenomenon is aptly demonstrated in the UK by MVNO Virgin Mobile, who was recently ranked highest in an assessment of the customer-centricity of different providers2 . 2 Dunnhumby – “Customer Centricity – Discovering what consumers really think of customer service”
  • 4. Cartesian: Vendor Owned Networks Copyright © 2014 The Management Network Group, Inc. d/b/a Cartesian. All rights reserved. 3 For vendors, the VoN model is an alternative means to drive their core business of equipment sales. Firstly, it allows vendors to showcase and seed the adoption of new and proprietary technology. Qualcomm pursued this strategy when it constructed a mobile network with the aim of establishing a new Mobile TV market around its MediaFLO technology. Secondly it can help vendors to increase their market share; vendors will be able to promote their own products in the networks that they construct and own. Thirdly, vendors can build networks themselves in order to break into new markets, particular in regions where they do not have existing relationships with the primary incumbent operators. Finally, vendors may also use this model to increase revenues by moving up the value chain and potentially capture a larger portion of value created through new services. These benefits, however, need to be balanced against the risks and challenges of the VoN model. First and foremost are the strategic concerns of operators. Many operators still view the network as a key differentiator and may therefore be unwilling to lose control. For example, in the US, many mobile networks emphasise their coverage and technological advantages in their competitive positioning. Operators may feel they already gain sufficient cost benefits through conventional outsourcing, sharing and leasing options without needing to compromise their strategic control of the network. Operators may also have concerns about being tied to a particular vendor and its technology. Entering into a long-term agreement may reduce purchasing power and flexibility in supply. Many operators continue to use a mix of suppliers. Whilst multi-vendor sourcing is not without challenges it can deliver cost-efficiency benefits.3 Furthermore, vendors may be concerned that becoming a network owner may impair existing customer relations. When vendors are brought into direct competition with their operator customers, it is easy to see how these customers may hold doubts that both partners’ objectives are always aligned and that they will continue to receive fair and equal service. Finding Opportunities for the Vendor-owned-Network Model The success of the model will therefore depend on operators and vendors carefully selecting the best scenarios for implementation. There are a number of dimensions through which to assess these:  Should operators and vendors look to greenfield or brownfield opportunities?  What network scope should be owned by the vendor?  What services should be offered and what charging models or revenue streams could be explored? Greenfield vs. Brownfield Opportunities for vendors may present as greenfield (construction of a new network) or brownfield (transfer of an existing network). As an example of the former, in the UK, Fujitsu has announced plans to construct and operate a £2Bn Fibre-to-the-Home broadband network in underserved areas. Access to the network would be offered on an open wholesale basis to retail service providers. TalkTalk and Virgin Media have 3 Gartner, November 2010
  • 5. Cartesian: Vendor Owned Networks Copyright © 2014 The Management Network Group, Inc. d/b/a Cartesian. All rights reserved. 4 both expressed an interest in using the network, which would allow them to extend coverage in a cost- efficient manner. Vendors entering through a greenfield network deployment need to be clear on their exit strategy. One option is for the vendor to continue as a network operator and run the business indefinitely with the aim of generating long-term stable cash flows. A second option is to look to sell to an operator once the viability and profitability of the network is proven. The preferred option will depend on the strategic objectives of the vendor (e.g. is the aim to move up the value chain, or to enable penetration of a new market or technology), as well as the vendor’s expectations in terms of return on investment and risk. Figure 3: Potential Exit Strategy Options for a Greenfield Deployment The principal risk with greenfield deployment is that demand fails to materialise. A vendor may then find itself saddled with an unattractive investment. In the case of Qualcomm FLO TV network consumer demand did not meet expectations. Qualcomm was ultimately forced to discontinue the service (although it did manage to make a profit on the sale of its spectrum licence to AT&T). The alternative to new build is to explore areas where operators can transfer existing “brownfield” network assets to the vendor. This is analogous to the process in which Indian mobile network operators have divested base station towers, creating infrastructure or “tower companies” into which they have transferred these assets. The tower companies are then responsible for constructing new tower sites and for the on- going maintenance of the passive (non-electronic) parts of the tower. Operators rent capacity from these infrastructure companies, thereby alleviating the requirement for extensive capital expenditure. The benefit of brownfield is that the infrastructure comes with existing demand; however acquiring assets from operators brings its own challenges for network vendors. Acquired networks may include legacy equipment from other vendors which increases operational complexity. From a financial point of view, there is the challenge of determining a fair value for the network assets and ensuring a lease structure which provides sufficient incentive for operators to sell and leaseback. Vendors are also likely to require a financing partner for the purchase of the assets and a clear governance structure in terms of roles and responsibilities Become an Operator Sell to an Operator Run business indefinitely for wholesale revenues Strategy Rationale Issues Run business until viability is proven, then exit through sale to operator • Enables shift in business model • Long term stable cash flow • Significant change in investment profile • Time to RoI longer than core business • Enables market entry • Creates alternative “sales channel” • Limited number of potential buyers • Achievable price is unknown
  • 6. Cartesian: Vendor Owned Networks Copyright © 2014 The Management Network Group, Inc. d/b/a Cartesian. All rights reserved. 5 Length of Replacement Cycle Level of Commoditization Suitability for Wholesale Suitability for Vendor Ownership Physical Layer (fibre, copper) Core Network Electronics Backhaul Network Electronics Access Network Electronics OSS/BSS Passive layer (ducts, poles, towers) Low Low Medium High High Medium will need to be defined under these arrangements. Finally, in many countries, regulatory approval is likely to be required for such a transaction. Licensing requirements will need to be considered, particularly in mobile where spectrum licences and operator licenses are often indivisible. Scope of Network Ownership The scope of network ownership is another important dimension to consider. The physical and passive layers are the most straightforward and best suited to a shared multi-tenancy operating model (See Figure 3 below). However, strategically, these layers are likely to be of less interest to a vendor concerned with manufacturing active network electronics. A balance must therefore be found, between assets which are not highly differentiated and easily shared, and those which are more complex but satisfy the vendor’s commercial goals. Figure 4: Evaluating the Suitability for Vendor Ownership of Different Network Layers Services and Revenue Models The network scope will determine which services the vendor can offer, and which revenue models can be utilized. For example, Alcatel Lucent is deploying an LTE Public Safety Communications Network for Charlotte City, North Carolina in which the “LTE core” is hosted by Alcatel Lucent. Sharing access to the core provides dramatic cost savings for the emergency services (e.g. fire service, police, ambulance service). Alcatel is considering “pay as you go” pricing for the hosted services, in which customers can choose from a range of applications and pay according to their needs. Revenue sharing models might also be considered for those service providers that generate income on their networks. This shows how the model allows vendors to move further up the value chain, and directly capture a share of end-user revenues.
  • 7. Cartesian: Vendor Owned Networks Copyright © 2014 The Management Network Group, Inc. d/b/a Cartesian. All rights reserved. 6 Operational excellence Strong operator partnerships •Committed anchor tenants can de-risk the revenue side of the equation •Ensure alignment on business goals, commercial deal structure and operational practices and metrics •Ensure operational excellence to deliver on strategic, financial and operational objectives Access to funding •Explore options for raising private sector finance •Public sector programmes may present funding opportunities Robust business case and strategy •Rigorously assess market size and level of demand; analyse competitive landscape for risks and threats •Validate strategic and economic rationale for both self and prospective network tenants Conclusions The VoN model is not without its challenges, and the situations in which it may play require careful evaluation. As vendors and operators consider the different approaches in applying this operating model, we recognise the following key success factors: Figure 5: Key Success Factors for Vendors A clear business case needs to be offered by vendors pursuing this model in order to secure operator clients and potential finance partners. Vendors will likely to need to attract multiple tenants for their networks to fully realise the available cost benefits. As well as ensuring that the economics work, vendors should seek from the outset to address the potential minefield of conflict-of-interest issues that could arise. At the same time, vendors need to be aware of the risks in assuming a greater ownership of network assets and ensure they target the correct markets. Vendors who succeed in this area will carefully consider the demand outlook and competitive landscape before proceeding.
  • 8. Cartesian is a specialist consulting firm of industry experts, focused exclusively on the communications, technology and digital media sector. For over 20 years, Cartesian has advised clients in strategy development and assisted them in execution against their goals. Our unique portfolio of professional services and managed solutions are tailored to the specific challenges faced by executives in these fast- moving industries. Combining strategic thinking and practical experience, we deliver superior results. www.cartesian.com For further information, please contact us at cartesian@cartesian.com

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