The telecommunications industry has emerged as a key driver of the global economic recovery. The unprecedented growth of high-speed mobile Internet traffic, particularly for wireless data and video, has transformed the industry into the most evolving, inventive and keenly contested space.
In addition, the emergence of mobile broadband technology has created several new service areas, which potentially offer huge growth potential. This includes IPTV, collaboration and cloud computing, videoconferencing and mobile payments, to name a few.
Research firm Ovum reported that worldwide revenues of telecom sector were more than $2 trillion in 2012, an improvement of 2% year over year. Mobile service providers account for nearly 60% of the total revenue.
A major characteristic of the telecommunications industry is the high barriers to entry due to scarcity of public airwaves (spectrum). The U.S. telecom market is controlled by just four ational players, as regional low-cost operators are not eligible to compete with these large carriers.
Furthermore, it is not easy to establish a new telecom carrier since it will require government permissions to transmit voice, data and video on public airwaves. Spectrum licenses are limited and therefore quite expensive. Moreover, deployment of network infrastructure, whether high-speed wireless (3G/4G) or wireline (fiber optic), requires significant capital expenditure, which very few entities can afford.
We remain of the view that the overall economic dynamic will remain favorable to telecommunications industry, primarily due to its key attribute of being a major infrastructure product for both the emerging and the developed nations.
The telecommunications industry encompasses myriad technology-related businesses. Besides the legacy local and long-distance phone services, the telecommunications industry also includes wireless communications, Internet services, fiber optics networks, cable TV networks and commercial satellite communications.
Telecommunications is one of the very few industries which witnessed massive technological improvement even under recession. The major thrust of the telecommunications sector is backed by continuous network and product upgrade and invention by the industry players.
For the last 15 years, the U.S. wireless sector had been investing an enormous $300 billion to install the most efficient seamless communications networks in the world. The telecommunications industry as a whole generates over 2.6 million jobs in the U.S., which is expected to continue its momentum in 2013 due to increasing adoption of next-generation 4G LTE networks.
According to ABI Research, 103 million LTE-compatible handsets were shipped globally in 2012. Matured markets of North America and emerging Asia-Pacific markets purchased 95% of those phones.
Moreover, growing demand for technically superior products has been the silver lining for the telecommunication industry in an otherwise tough environment. Metro Ethernet, IPTV, cloud computing, managed IP services are some of the major innovation in recent times. These developments are also helping telecom equipment manufacturers, infrastructure solutions providers, and mobile phone makers to consolidate their finances.
Wireless Is the Key
Despite the massive growth in fiber-to-the-home networks, we believe wireless networks will be the key player in the telecom industry growth story. In addition, the sector is witnessing a fundamental change. Earlier, it was voice calls that brought money to the operators. Currently, data and video have become the focus. New network standards aim at faster data connectivity, quick video streaming with high resolution, and rich multimedia applications.
Currently, the U.S. has approximately 300 million wireless subscribers. Mobile broadband has become the most lucrative source of revenue for the wireless operators. Massive growth of data buoyed by smartphone revolution is the main reason for this favorable scenario. Global revenue from mobile broadband is expected to reach $123-$125 billion in 2016.
Spectrum Crunch & Market Saturation
The U.S. wireless industry is facing acute spectrum shortages, sometime resulting in data packet dropping. Carriers are investing heavily for more effective utilization of their existing spectrum holding and are trying hard to add more spectrums to their portfolio. In addition to the four nationwide carriers, all the smaller pre-paid wireless operators are also opting for a sound LTE network to offer hassle free broadband video streaming and data transmission.
Meanwhile, smartphone penetration has crossed more or less half of the total U.S. post-paid wireless subscribers. Recently, pre-paid carriers have decided to offer high-end smartphones, such as iPhone 5.
Severe spectrum crunch coupled with gradual smartphone market saturation is forcing the wireless operators to look for other options to raise revenue. These include new pricing plan, a shift from unlimited data usage to tier-based data usage, and higher upgrade fees for smartphones in order to offset handset subsidies. In fact, the average revenue per user for most of the wireless carriers is rising over the last two years and is expected to grow in the long term primarily due to massive growth in mobile data usage.
As smartphone users are now increasingly downloading multimedia contents, video has become the primary network traffic. What is more interesting, in addition to download, the smartphone and tablet users are up-linking more and more video content and, in turn, becoming broadcasters in their own right. Several industry researchers predicted that video may account for 60% of total network traffic by the end of 2012.
Mergers and Acquisitions to Continue
Despite the failed merger agreement between AT&T T) and T-Mobile USA, we believe the U.S. telecom industry will witness more M&A deals in 2013. AT&T needs spectrum to compete with its bigger rival, Verizon Wireless (VZ).
Verizon bought spectrum from major cable MSOs including Comcast Corp. (CMCSA), Time Warner Cable Inc. (TWC) and Bright House Networks. Prepaid wireless operator MetroPCS (PCS) is currently undergoing FCC review for a merger deal with T-Mobile USA.
Softbank of Japan has decided to buy a majority stake in Sprint Nextel Corp. S). DISH Network Corp. (DISH), which holds a large wireless spectrum, has already declared that it is not averse to a deal as an acquirer or an acquired entity.
The telecommunications industry as a whole offers a number of attributes that are difficult to ignore from the standpoint of investors.
- Telecom is a necessary utility: The need for telecom in both rural and urban areas, and its role in the infrastructure of both developed and developing markets, will continue to grow. In addition, economic stimulus plans in the U.S. and throughout the world should boost select service providers and equipment manufacturers.
- Spectrum Auction: On September 28, 2012, the FCC decided to free up spectrum currently used by TV broadcasters for commercial wireless networks and to deploy a nationwide interoperable public-safety broadband network. Huge proliferation of smartphones, tablets, and several other pocket-sized mobile devices significantly raised the demand for bandwidth for seamless wireless connectivity. The spectrum auction is expected to shore up $15 billion in the U.S. government exchequer.
- Strong Demand: A recovering economy speeds up the demand for real-time voice, data and video manifold. The FCC has estimated that within the next five years, mobile-data demand will grow 25-50-fold from its current level. These latest developments are enabling the telecom service providers to undertake large network extension while upgrading plans.
The companies that match well with the aforementioned considerations include AT&T Inc. T), Verizon Communications Inc. (VZ) and MetroPCS Communications Inc. (PCS).
Generally, telecommunications companies that were under pressure have high debt levels and large financial leverage ratios, or are unable to cope with the recent market trends. Other risks that remain are as follows:
- Potential business slowdown: Lower overall top-line sales among carriers are expected to continue to weigh on capital spending decisions -- a major problem faced by equipment vendors. The companies are expected to remain focused on improving their balance sheet, financial discipline and free cash-flow generation.
- Product Overlapping: We may see more product sharing deals between telecom, cable TV and satellite TV operators as each of these players are trying to get a foothold into another's territory. Even pay-TV services, offerings to business enterprises and mobile backhaul and metro-Ethernet segments may witness more convergence. Mobile phone makers are now gradually offering tablets (small laptops); chipset manufacturers are offering personal computers and mobile phones are frequently interchanging their areas of operations.
- Increased competition: Technological upgrades and breakthroughs have resulted in a cut throat price competition. Product life-cycle and upgrade-cycle have been reduced drastically as several firms are coming out with new types of products and services within a short span of time. Increasing competition is actually forcing each and every player to offer heterogeneous and bundled services.