Wearables, the next big thing?

Yes, but … how big and how fast?

Authors: Joan Viñals and Valentina Diaz

Today, when we hear ‘wearables’ we think of fitness gadgets such as Jawbone, Fitbit or Fuelband – tools developed to help customers track their activity using technology with a user interface through their smartphone, tablet or computer. However, this ‘today’ will soon become the ‘yesterday’, as wearable technology expands into new industries such as health, insurance, lifestyle, commerce and gaming, amongst others.

The not-so-distant future will be wearables that help consumers in ways we have not yet conceived in our daily lives. We are already seeing cutting edge technologies such as i) Google Contact Lens, a smart contact lens that measures glucose levels in tear drops making life more convenient for diabetics, ii) the First Warning System, which allows women with detected breast lesions to wear a bra that measures changes in their tissue growth pattern, iii) the Bluetooth and WiFi enabled HUD alpine sports smart goggle from Recon Instruments with GPS data, viewable through a head-mounted display, provides real-time data such as speed, vertical drop, distance traveled iv) the popular Google Glass where Google recently estimated that users check their screens on average 120 times a day.

Now, the questions are, how big will the wearables industry be? And how fast can this happen? According to IDC research, the annual shipments of wearables will reach around 19 million this year, a small number compared to smartphones, or even tablets. However, IDC forecasts that by 2018 this figure will grow more than six times to 120 million. Credit Suisse estimates that the wearables industry could account for ca. USD 50bn in 2018, while our estimates are more conservative, estimating a total available market in the range of USD 20bn to 30bn as shown in Exhibit 1. Yet, estimates could change significantly based on the success of usability and consumers’ improvement of daily lives.

wearables_v1

 

We might be witnessing a turning point for the wearables industry, driven by three main forces:

1) the connectivity leap and potential generation of data, 2) the solid business case and financial dynamics of wearables, and 3) the adequate environment for wearables proliferation.

1) Connectivity, and the possibility of wearable devices to be constantly connected, will be a key factor. On the one hand, there are faster and more ubiquitous mobile communication networks such as Wi-Fi, 3G, and LTE. On the other hand, we will start to see the rise of Ultra Narrow Band networks, low-power and low-bandwidth networks, optimised for the expected explosion of smart sensors, appliances and wearables.

Moreover, as we see the evolution of eHealth and related wearables (such as the newly announced Apple Health app in iOS8), robust connectivity and “life-lines” will be on the rise. There could be a sizable opportunity for telecom operators in this arena. Telecom operators will not only benefit from the rise of wearables, but will most probably foster its development, leveraging their core-assets to provide connectivity, tailored content and services, as well as distribution and retail capabilities.

If wearables can be constantly connected, there will be an exponential increase of our digital foot-print and thus the amount of behavioural and localised data we will be generating. This big data will certainly be most valuable for a series of players from industries such as advertising, health, insurance, and technology.

2) The combination of the rise of connectivity and the massive generation of data will create interesting financial dynamics around wearables well beyond the low margin manufacturing and purchasing of finished goods (see Exhibit 2). An ecosystem with many other players and interests, will create a sound business case around the gadget itself and related services that could yield much higher margins. Together with wearables, the rise of the Internet of Things (or Internet of You), will foster the compatibility between different realms of information, and information exchange, to create more compelling usages (i.e. we foresee an opportunity in data “brokerage” -aggregation and sale – to create more sophisticated and personalisedusages)

wearables_v2

3) Wearables physical components’ cost, and performance, has improved significantly during the last few years (i.e. the amount of sensors below100 USD available for the mass market has increased by three times in the last 10 years). This, together with a growing installed base of smartphones, an established software ecosystems (i.e. Android and iOS) and social networks’ potential to enhance the development, adoption and use, represents, a very favourableenvironment for the proliferation of wearables. Additionally, telecom operators could become the ultimate enabler of this convergence through providing intelligence platforms and product support, leveraging local market infrastructure. Easier said than done, but telecoms should work on this direction.

Top notch tech and apparel companies as well as VCs are well aware of this, and are making wearables, and related apps, one of their main strategic priorities; as we have seen both in Apple’s WWDC 14 (introducing Health app) and more recently at Google’s I/O conference (introducing the Android wear, Google’s specialised OS for wearables).

Now, it’s not all good news. There are a series of concerns that could become a showstopper for the expected rise of the wearables industry. First, there is the security/privacy concerns around personal data and digital footprint. Second, there is the “fashionable” issue, the encounter of the tech and fashion world promises to be far from trivial.

The evolution of security protocols associated to connected devices will be crucial. Especially, in the way that companies would collect the data, mine it and use it, and more importantly, tackle privacy concerns. A strong value proposition, in the lines of life improvement and/or simplification, will have to be put together to overcome these concerns.

In the tech and fashion encounter, it is important to understand that wearable technology represents a new threshold in aesthetics for fashion-conscious consumers. Think of Bluetooth earpieces, and how these, no matter how beautiful they look, have never succeeded in overcoming the lameness perception; or the concerns arising around the success of Google Glass. Technology companies that have demonstrated mastery in design, will now need to conquer a completely different realm, fashion. Some of the leading players such as Google and Apple are indeed recruiting talent from Burberry, Yves Saint Laurent, and other fashion firms. Recently Google joined forces with Luxottica, the world’s largest eyewear company, to improve the frame of Google Glass. Other smaller players are working to unite functionality and fashion, such as Misfit Wearables and their Shine activity tracker, or the Agent smartwatch.

To conclude, we think that the main ingredients to see the wearables industry exploding are in place, and the revolution could be around the next corner. Still, it is difficult to forecast who the winners will be, while the leaders, most likely, will be the established tech companies. Creating the habit to actually keep wearing these devices, and to share our digital footprint are the pressing issues to be cracked-down by industry champions before wearables really go mainstream and the industry unleashes all its potential.

 

 

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Emerging Markets Investing: Attractive Opportunities for the Experienced Investor

Authors: Geoffrey Fink, Michael Blockx and William Martin

Press coverage and market sentiment have recently been bearish on investing in emerging markets. Despite some short-term concerns ranging from rising inflation to slowing growth and geopolitical tensions, strong economic fundamentals, combined with attractive valuations for assets in these markets, should allow experienced investors with longer-term horizons to generate attractive returns.

Fundamentals Support Investment Attractiveness

- Emerging markets are expected to be the principal drivers of global economic growth over the medium term: the IMF projects that emerging markets’ GDP will grow on average twice as fast as that of developed markets, accounting for 74% of global GDP growth through 2017.

- Demographics will remain a key driver of economic development. According to UN predictions, emerging-market populations are expected to add close to 400m people between 2012 and 2017. These populations will remain relatively young, with an average age of 27 in regions such as the Middle East and the Indian subcontinent. Moreover, the UN predicts that while dependency ratios—the ratio of people younger than 15 or older than 64 to the working-age population (those aged 15-64)—across the developed world are rising to worrying levels, in emerging markets they will decline by 2% by 2020, resulting in an increasing economically active population able to support the growth of emerging economies.

- In 2025, 4.2 billion people will be sufficiently economically affluent to be considered part of the “consuming class” – an increase from 2.4 billion in 20101. This indicates that the development of the emerging markets middle class is expected to grow steadily, resulting in EM consumption increasing at a pace of 6.3% per annum (CAGR ’10-’25), to account for 47% of world consumption in 2025 (up from 32% in 2010)2 (see Figure 1). This is a significantly higher growth rate than that expected to be seen in the developed world.

figure 1.1

-Figure 1-

Attractive current valuations and capital under-allocation create long-term upside

According to the IMF and the Thomson Reuters Stock Market Ratios of January 29th 2014, emerging-market equities continue to be valued relatively cheaply compared with developed markets based on price/earnings to growth (PEG) ratios3, implying that growth is significantly cheaper to acquire in emerging markets than in developed markets4 (see Figure 2).

figure 2.1

-Figure 2-

In a recent survey of fund managers published by Bank of America Merrill Lynch on global fund managers, it was noted that in the beginning of this year a net 15% of equity investors were underweight in emerging markets. This market allocation trend is in-line with the lows seen in 2001 (following 9/11) and late 2008 (during the global financial crisis), and is in stark contrast to the net overweight of 40% in early 2013. There is meaningful under-allocation of capital overall to emerging markets, and that is especially true of capital invested in private equity.5

Allocations are likely to normalise over the upcoming decade – resulting in growing competition for attractive assets in these markets, driving increases in valuations and attractive returns for those who invested at the right time.

Unlikely Repeat of the Asian Financial Crisis of 1997

In recent weeks emerging-market conditions have been compared to the 1997 Asian financial crisis. This comparison is fundamentally inaccurate. We note that emerging markets have shown greater levels of monetary and fiscal responsibility in recent years.

Monetary policies have reflected lessons learned from 1997. Many countries have chosen to accumulate significant foreign-exchange reserves and have adopted floating exchange rates—eliminating currency pegs to the US dollar, and therefore, the risk of a sudden collapse in currency exchange rates is significantly lower today. Emerging-market currencies have already experienced a gradual readjustment (a steady 28% decline since January 2010), reducing the odds of an abrupt adjustment. Moreover, IMF figures also confirm a long-term decline in external debt as a percentage of GDP from a peak of 41% in 1999 to 25% in 2013, which materially lowers the risk of a currency shock. These economies are further strengthened by the fact that many countries have had current accounts in surplus in recent years (Figure 3).

figure 3.2-Figure 3-

Emerging Markets: Opportunity for Experienced Investors

All in all, despite overall optimism, investors today should remain cautious and watch closely for specific economic and political risks. There is no such thing as a single “emerging market” today, and opportunities as well as risks must be assessed on a country-by-country basis (see Figure 4).

figure 4.1

-Figure 4-

Properly selected emerging markets will continue to offer significant opportunities for investors to realise attractive returns on their capital. Investors need to be selective and diligent when considering vehicles through which to allocate capital to these high-growth markets. Managers with significant on-the-ground experience and market-by-market know-how should be able to selectively source attractive deals and ensure appropriate structuring, particularly around currency risk, which is instrumental to manage potential risks and to ensure attractive returns.

An abridged version of this blog appeared in The Economist Insights, 12 June 2014. 

1 Consuming class: daily disposable income in >$10; below consuming class: <$10; incomes adjusted for purchasing parity, McKinsey Global Institute analysis
2 McKinsey Global Institute analysis
3 Price-Earnings-Growth ratio: a valuation metric used for determining the relative trade-off between the price of a stock, the earnings per share and the company’s expected growth
4 Country PEGs calculated using the Price-to-Earnings ratios of the country stock market divided by the nominal country GDP growth rate
5 Emerging markets account for approximately 27% of public market capitalisation versus 38% of global GDP, while they represent only 12% of total private equity capital raised in 2012

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Internet IPOs – Cashing out on Tech Bubble 2.0

Authors: Victor Sunyer and Daryl Woo

As Alibaba prepares for its upcoming U.S. initial public offering, one can’t help but wonder if this marks the emergence of Tech Bubble 2.0. The IPO windfall could land the Chinese e-commerce giant $41 billion, eclipsing both Facebook’s $16 billion offering and Visa’s record $19 billion IPO in 2008.

Furthermore, 8 of the top 10 largest internet IPOs (see Figure 1) occurred in the last five years. The average gross offering has also increased to $185 million, and we expect this to gain further traction with the upcoming high-profile Alibaba deal. That’s a lot of action in the digital space.

An array of smaller peers, such as second-largest e-commerce company JD.com and Alibaba-backed Chinese group discount website Meituan.com, are also jumping on the bandwagon. At the current rate, we can expect these figures to reach new heights by the end of 2014.

Figure 1: Top 10 internet IPOs and total gross offering

Internet IPO'sNotes: 1 Excludes Facebook’s IPO; 2 2014 figures based on year-to-date transactions
Source: S&P Capital IQ, Merger Market, Delta Partners analysis

The internet revolution

The rise to fame of Internet companies is not a recent phenomenon. With the exception of the turbulent periods after the Global financial crisis and dot-com burst, the number of M&A and IPO transactions have increased considerably at a compounded annual growth rate (CAGR) of 17.6% and 18.8% respectively. Based on first quarter numbers (see Figure 2), we expect this growth trend to continue in 2014.

Figure 2: Announced internet IPO and M&A transactions since 2000

Internet IPO's_v2Source: S&P Capital IQ, Merger Market, Delta Partners analysis

Internet comes into vogue

Investors have also become more bullish on internet businesses compared to their tech peers. The market-weighted NASDAQ composite, often seen as a tech index given the influence of behemoth tech firms (Microsoft, Google, etc.), serves as a suitable benchmark. In comparison, the amount paid for each dollar of revenue and EBITDA in internet M&A transactions is $5.1 and $14.7 respectively, slightly above than the NASDAQ composite.

Moreover, the limitless potential and disruptive nature of internet underpin the higher valuation. For example, online marketplaces not only can provide a fully comprehensive variety of merchandise to consumers but it’s reach, convenience and digital customer experience that collectively justifies the valuation. Mobile eCommerce usage has also been supported by the rising smartphone penetration, with Morgan Stanley targeting global eCommerce sales to reach $1 trillion by 2016.

Exit multiples of internet M&A transactions, however, have declined more than 60% since the dot-com highs. This also led to the convergence towards the NASDAQ composite, indicating a stronger alignment with the tech peers. Together, these observations serve as strong evidence against the doomsayers who claim that we are in another bubble.

Figure 3: Multiples of completed internet M&A transactions and NASDAQ composite index

Internet IPO's_v3Source: S&P Capital IQ, Merger Market, Delta Partners analysis

Are we in Tech Bubble 2.0?

Probably not just yet.

Mary Meeker,a partner at the venture capital firm KIeiner Perkins Caufield & Byers, said that IPO of tech stocks are 73% below the 1999 peak in her annual report on Internet trends. Here are two key reasons why valuations are nowhere close to their past irrational levels:

  1. Operational: Most internet companies today, in general, possess stronger fundamentals based on real business models. This provides a sustainable competitive advantage that supports higher valuation figures.
  2. Financial: Valuations are underpinned by an absolute low cost of capital and the investors’ search for growth and yield.

It is therefore always better to look into the details beyond the big picture. Indeed, some firms may be looking to cash in on the optimism. However, unless we cast logic and reason aside, we will unlikely see the same kind of blind euphoria as the dot-com days.

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Shooting the (Instant) Messengers: Current size does not make you invincible

Authors: Maxime Bayen, Dino Saric

On March 25th, the anonymous group messaging app Rumr was launched. This comes one month after Facebook’s $19 billion acquisition of WhatsApp. With over 20 mobile IM apps recording 10 million Monthly Active Users (MAU) and above, the market is getting intense and the proliferation of new IM apps is expected to continue. While the top 10 largest mobile operators worldwide took 20 years to reach 100 million subscribers, the 10 largest mobile IM apps needed only 5 years to achieve a comparable size. Yet, neither size nor valuation or even revenue are a promise of sustainability in this space.

The graph below is the outcome of an internal analysis performed on the 50 largest mobile messaging apps worldwide. At first glance, it seems that the market is dominated by 4-5 players dictating the future of mobile messaging apps. This could be an overstatement and it’s likely that tomorrow’s dominant messaging app does not yet exist. For example, looking back, digital communications platforms such as ICQ, MiRC, AIM or MSN Messenger did not stand the test of time. Let’s then take a closer look at the graph.

Surprisingly enough, there is no clear correlation among the three quantification metrics; size (Monthly Active Users), revenue and valuation. For instance, players like SnapChat and KakaoTalk are both valued around $4bn though KakaoTalk has four times more MAUs than Snapchat and actually generates solid revenue. Similarly, WhatsApp, with now 500m MAUs, only generates around $20m of revenue whereas WeChat, with 400m MAUs, made more than $1bn revenue in 2013. This lack of coherence among the metrics clearly indicates the fragility of this extremely competitive market.

Mobile IM LandscapeAs a matter of fact, the magnitude of current revenue does not guarantee a sustainable future. In the world of mobile messaging apps, user trends evolve rapidly and “loyalty” is a foreign concept. WhatsApp, Line or WeChat could disappear even faster than they took off if left unchecked.

We believe, the success of any mobile IM app hinges on three golden concepts:

1. Constant Innovation – The Only Entry Barrier

Neither the size of your team (e.g. SnapChat only employs 20 people), nor the amount of funding (e.g. Rumr entered the market with only $800,000 of funds raised) are entry barriers. The only real entry pass is innovation as well as a disruptive feature that can propel the popularity of a messaging app. In February this year, as WhatsApp experienced a few hours of downtime, around 5 million users switched to a new entrant named Telegram, which positioned itself as the “fastest and most secure mass market messaging system in the world”. Similarly, the capability to innovate constantly is also what will enable a mobile messaging app to last. Line, for instance, has launched at least 10 new features on its platform since the beginning of this year.

2. Being “Hip” Is Fundamental

According to an April survey by Upfront Analytics, close to 1/3rd of the most connected US teenagers (13-17 years segment) prefer Kik or SnapChat, and do not use Facebook Messenger or WhatsApp on a regular basis anymore. Understanding what “cool kids” favour as a communication platform is being analysed and tracked by most of the 50 top mobile IM apps. A recent UCL study has also established that a growing number of teenagers have stopped using Facebook as they were embarrassed to use the same social network as their parents. While there is no scientific metric to measure how trendy a mobile messaging app is, successful players have to be mindful and delicately handle “non-hip” moves. The addition of a paid feature, the association/partnership with a larger corporation, the perceived level of privacy and trust or even the association with specific celebrities/political personalities could impact a platform catastrophically.

3. Think Ecosystem, Not Only Communications

As Line’s CEO Akira Morikawa said recently, “Line is not just about communication, there is the element of platform”. Line as well as few others like KakaoTalk and WeChat have been able to turn their apps into digital platforms that facilitate shopping (thanks to solid in-App payment solutions such as Alipay), gaming, video streaming, education and social engagement all within a single app. Going beyond basic communication appears to be the key quest. All eyes are now on WhatsApp, which seems to be content with its current position as a pure communication software (through messaging and voice).

This capacity to go beyond communication is becoming increasingly relevant in emerging markets where mobile is the ‘first and only screen’ of internet access among the unconnected, a trend well illustrated by the impressive growth of China-based WeChat or the take-up of 2GO in Nigeria. Therefore, we believe that the emerging markets will shape and dictate the evolution of this industry going forward.

Mobile messaging players that grasp these three concepts and hone them to their advantage, should find themselves at the top right corner of the graph the next time we take this industry’s snapshot in 12 months from now – and see which player has become almost invincible.

Authors:

Maxime Bayen is a Manager at Delta Partners’ Intelligence Unit, based in Dubai. He works closely with advisory teams engaged in the Africa and Latam regions. His areas of focus include mobile data, pricing, and sales & distribution. Prior to Delta Partners, Maxime was a consultant within the TMT practice of two firms in the MEA region focusing mostly in marketing and sales projects for telecom operators.

Dino Saric is a Research Analyst with the Intelligence Unit at Delta Partners. His main region of focus is Africa and his areas of expertise include app ecosystems and smart devices. He also works closely with the corporate finance and private equity teams on a day to day basis helping with investment, M&A and funding research. Dino has previous experience in the financial industry in North America and the Middle East focusing on private insurance.

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Net Neutrality

Was the ‘Netflix-Comcast’ deal really threatening net neutrality or was it only business as usual?

The essence of net neutrality is that the Internet is an open network and any person can and should have access to any content available; this implies that Internet Service Providers (ISP) should not discriminate or degrade any access QoS based on the content that is being accessed.

On February 22 2014 however, Netflix, the most popular movie streaming service in the USA, generating around 30% of all internet traffic in peak hours, closed an agreement with Comcast, USA’s largest service provider, for an undisclosed amount. Netflix is basically paying an interconnection fee to have a more direct connection, guaranteeing faster and more reliable access to their customers accessing the service through Comcast.

Was this the beginning of ISPs pushing customers to select and favour content providers, such as Netflix, over other smaller players with limited resources?  Is it a way of guaranteeing consistent service quality and speed? Or, was this just business as usual and a way for Netflix to improve its customers’ experience (naturally at a cost that may or may not be passed on to the end user)?

Point of view # 1 – Direct impact on net neutrality

The Federal Communications Commission (FCC), with the network neutrality rules, wants to prevent ISPs from blocking any legal site or content from customers and aims to avoid discrimination. At the same time, it seems that the FCC wants to avoid deals where a content provider, such as Netflix, could offer and give faster access to their customers by paying a fee to ISPs, such as Comcast; the rationale for this being that such commercial relationships would lead to an unfair advantage to certain companies and may end up increasing the price for the end users for certain services.

Furthermore, some argue that this deal dramatically changes the dynamics of the Internet as we know it, shifting the balance of power in favour of infrastructure owners that can now ask content providers for a fee to deliver their content with minimum quality standards.

Defendants of the net neutrality rules advocate for an internet where all end users receive the same QoS for any service they receive, regardless of preference (e.g. HD streaming movies vs LD YouTube videos), the contents nature (payment transactions vs video streaming) or their willingness to pay. This is the only way for the competitive playing field to be levelled for all players, where small start-ups can compete with the big corporations.

Point of view # 2 – Business as usual

‘Differentiating services should be a priority. Price is determined by the willingness to pay of buyers’ is one basic maxim of liberal and free economy. Netflix is only paying an interconnection fee to guarantee a better experience to its customer but is not paying to have a preferential route over peers.

There are two points to mention that could support the idea that the deal has nothing to do with net neutrality but only with business:

1. Interconnection fees (peering) are already the industry standard: many arrangements (paid or not) exist to interconnect a content provider to a network operator or third party

2. No preferential agreement: as stated in their press release, ‘Netflix receives no preferential network treatment under the multi-year agreement’. No blocking or discriminating policy is applied to any content providers.

Finally, a fundamental question: why should a company not have the opportunity to provide a better customer experience compared to their competitors, especially in such a competitive environment? Competitors may choose to do the same and buyers make the ultimate decision on whether the customer experience is worth the price or not.

Conclusion

The FCC has no choice: there is a need to review the regulation.

A segmented approach to customer experience and QoS results, arguably, is a better experience for those who value it and generate higher revenues for ISPs and (most likely) content providers. A blanket approach on quality across services is more egalitarian and arguably protects corporations that cannot afford the higher QoS from those who can.

A definite truth regardless of the argumentative position is that someone has to pay for the cost of the network. Whatever solution is reached, it needs to cater for this and allow infrastructure owners to sustain decent ROIC.  Otherwise the US may face in the mid-term a possible repeat of the California electricity crisis of the 2000s (due to lack of investment in its electricity distribution system). That experience resulted in the declaration of state of emergency by Governor Gray Davies in 2001.

Better not to think about the consequences of a non-functional internet in today’s economy and society.

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Time to consider a virtual SIM?

The SIM card – still a necessity or an archaic way to minimise a customer’s mobility.

Last month, regulators in the Netherlands became the first worldwide to legalise network agnostic SIM (Subscriber Identity Module) cards, allowing stakeholders in the mobile ecosystem like device or M2M manufacturers to incorporate these SIMs into their devices. This could signal the start of a fundamental change in how the mobile industry utilises these unique pieces of hardware.

The SIM card that is so ubiquitous in our mobile phones has largely remained unchanged in the 20 odd years of its existence. Yes, it has grown in memory and has evolved from its full size (FF) to a nano SIM (4FF) but its primary purpose to identify a user to a mobile network so that mobile services can be delivered remains unchanged. The SIM card contains unique identifiers like an IMSI and ICCID, with complex authentication keys and security algorithms to prevent SIM card cloning and fraud.

Mobile industry slow to encourage SIM innovation.

The SIM card however, goes beyond just for the prevention of fraud. It is also a piece of hardware the telco industry see value in fighting over as it prevent subscribers from switching to another carrier. Even manufacturers like Apple and Samsung have caught onto it, preferring to use the micro and nano-SIM to minimise the possibility of subscribers switching their mobile connection to another device (under the guise of requiring more space in the phone).

There is no technical reason why subscriber profiles and SIMs cannot entirely be software based or network agnostic, as proven by the regulator in the Netherlands or virtual SIM vendor like Movirtu.

Imagine a world where instead of switching out a SIM to avoid the high cost of roaming or using multi-SIM devices, a mobile device supports multiple software based SIMs which can be selected to ‘emulate’ a physical SIM. To take it one step further, the device could be smart enough to dynamically switch between profiles so that a subscriber will always be making and receiving calls/SMS/data based on the lowest cost profile depending on the caller, called party, location or time of day. Pretty much a multi-simmer on steroids.

Back in 2001, Apple mooted such an idea of a ‘virtual SIM’ which immediately got telcos on the offensive to threaten the withdrawal of device subsidies, forcing Apple to back off. Telcos saw it as a concept which could disintermediate them from ‘owning the customer’ thereby increasing the likelihood of churn.

The implications of a Virtual SIM for mobile operators.

In an increasingly digital and ‘Internet of Things’ world, mobile operators will find it increasingly difficult to fend off similar forays from a whole host of players – the obvious ones would be the Internet giants like Facebook and Google who have no such device subsidy constraints, but could also include other industry stakeholders like cable providers looking to strengthen their quad-play offerings.

With industry developments like smartphones outstripping feature phone shipments, the emergence of LTE only challengers and the inclination of regulators intervening in the SIM space, it is only a matter of time before the virtual SIM becomes reality. The immediate implications for operators would be the entry of new players into an already overcrowded space. This brings along risks of churn, price wars and disintermediation.

However, it is also important to note that having a virtual SIM also opens up a world of opportunities. For example, subscribers can be acquired by simply downloading a profile online onto their phone. This reduces the need for SIM point of sales, fulfilment and logistics costs as well as customer acquisition commission costs. A virtual SIM also allows more information to be stored beyond the limitations of physical memory on a SIM card. A MVNO leveraging the virtual SIM could access multiple MNO networks, taking advantage of a spectrum ‘pool’ to offer the best coverage.

Ultimately, in an ‘Internet of Things’ world, the SIM could become redundant but operators should not forget that they still hold the trump card in terms of the billion dollar networks and scarce spectrum that the SIMs communicate with.

Mobile operators should weigh the risks and benefits for their respective markets and rethink the need to be wedded to a small archaic piece of hardware. It would be a wasted opportunity if the heavy hand of regulation is necessary to push what could be a catalyst for an entire new wave of innovation.

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Is it game over for telcos?

The death of SMS: What got you here won’t get you there!
The 20th anniversary of SMS saw it outnumbered for the first time by mobile instant messaging (MIM). While SMS averaged 17.6 billion messages per day, MIM messages reached 19.1 billion on average. WhatsApp alone is expected to surpass SMS volumes by April, 2014.
This should come as no surprise. SMS has evolved little since first introduced in 1993 while the advancement of technology, mobile devices and the digital ecosystem has made messaging more enriching and engaging. The MIM platforms go beyond plain vanilla texting and achieve far greater user experience and engagement at virtually no cost.

A game-changing service: Who’s playing?
The MIM landscape has become increasingly competitive and fragmented over recent years given the multitude of protagonists with varying aims and ambitions. They can be clustered into three groups.
WhatsApp_Game_Over_for_Telcos

1) Entrepreneurs – these start-ups have emerged as the forerunners of a new wave of digital entrepreneurship, seizing the digital opportunity fuelled by the increasing adoption of smart devices. These companies represent the largest installed base of MIM subscribers, with WhatsApp leading the pack with over 450 million active users, processing 53 billion messages daily. Rivals like Viber, WeChat and LINE are not far behind, with over 250 million active users each. These companies are gaining attention of late, with increasing M&A activity on this front, such as Rakuten’s acquisition of Viber for 900 USD million and WhatsApp acquisition by Facebook at an astronomical valuation of 19 USD billion.

2) Large digital company launches such as unified Google Hangouts, the newly-multiplatform BlackBerry Messenger for Android and iOS and Facebook’s “Chat Heads” feature in Facebook Home and Messenger underscore the importance of this topic for such companies. Large digital players fight tooth and nail to retain customer ownership and increase subscriber behavioural intelligence. Offering additional services such as MIM or others (email, movie services, music streaming, news, etc.) fulfils both purposes. Not only does it create stickiness and raise the barriers to exit, it also enhances subscriber intelligence in an environment where relevant and comprehensive customer analytics are destined to become the next big monetisation tool (digital/mobile advertising, recommendation engines, etc.)

3) Telecom operators have also reacted after witnessing MIM services boom at the expense of their SMS revenues. Ovum predicts that the cannibalisation impact could be more than US$86 billion by 2020. Operators have either ventured independently to address this challenge (e.g. Telefonica’s TU ME, China Mobile’s Jego, etc.) or collaborated through Joyn, the Rich Communication Services (RCS) space but the results are less encouraging especially when the adoption levels are under reported.

Are the telecom operators already out?
Amid a high growth, fragmented and hyper-competitive market, the key question is whether telecom operators can still play a relevant role or is it all over? In the past, operators have ignored the threat and relied on regulatory levers to block the usage of these platforms. Today, operators have realised the importance of taking a more active role in the digital ecosystem.

Against this backdrop, two strategic alternatives arise:

Own the MIM platform:
Mobile players may choose to develop or acquire a proprietary RCS platform to compete with established MIM services. By leveraging their access to customers, operators can push the application through pre-installation and marketing efforts to stimulate uptake among their base. However, telecom operators run a risk of competing with nimble and innovative MIM players that have established scale and will be extremely difficult to break.

Mediate with existing players:
Alternatively, as telecom operators sit between consumers and digital players, they are in a sweet spot to seek monetisation opportunities by enhancing the value proposition of third-party MIM services. Core assets such as connectivity, customer intelligence, distribution and billing capabilities can be repackaged as services which are tremendously valuable to MIM players and necessary to their future growth. By joining forces, not only do digital players improve their ability to compete against other digital players, telecom operators also have the opportunity to benefit from the brand, subscriber base and revenue share that MIM players could bring to the partnership. There is no single option that will guarantee success. As operators strive to establish a meaningful role in the new environment, they will need to develop a clear understanding of their market context and truthfully assess their internal capabilities. Both strategic paths have been undertaken by operators in the same market. We see this in China where China Mobile opted for a proprietary MIM platform (Jego), while China Unicom went for a partnership with WeChat.

One thing is clear: the time is now. Telcos failing to actively address the MIM challenge not only face the risk of missing out on additional revenue streams and a source of differentiation, but could also lose relevance in their core communications market, driving them inexorably towards the dumb-pipe model.

Add to this the new battlefronts opening between other players in the digital ecosystem (e.g. video services, e-commerce, operating systems) and the conclusion can only be that the real party is about to begin and operators are still waiting to be invited.

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African telcos go e-shopping

The global telecom industry is at a crossroad and operators need to reason if they want to opt for a low-risk strategy and focus on being an extremely efficient “dumb-pipe. Or adopt a higher-risk and higher investment approach competing with the likes of Apple, Google or even Amazon expanding further into the value chain. Or should they stand somewhere in the middle?

"Telecom vs e-Com"

Today’s fast changing environment requires that operators must act fast and act smart. Revenues are stagnating for some of the operators in the more mature markets.  Luckily for African players the opportunities are still there with some key players already on board.

Vodacom is making inroads into the ICT space albeit a more conservative approach. The operator is in exclusive talks to buy Neotel, a deal that will open the door not only into a 15,000km of high-speed fibre access but also into the converged IT and data services through Neotel’s modern data centers.

Millicom and MTN have taken a step further.  Instead of taking the traditional route of geographical expansion to achieve growth and sustainable returns, Millicom focused its strategy in the digital space. Aiming to “elevate Tigo from a telecommunications player to a digital lifestyle brand”, the company entered into an agreement in August 2012 and acquired an interest in Rocket Internet’s Africa Internet Holding (AIH) with a committed investment of EUR 140 million. Rocket Internet is a leading internet incubator and accelerator for emerging markets which has started up e-commerce ventures across the globe.  Around the same period, MTN started vocalising the group’s interest to expand beyond its core business.  In December 2013 this vision became a reality when MTN joined Millicom in Rocket’s AIH venture with each player holding a 33% stake in the business as well as acquired 50% stake in the Middle East Investment Holding (MEIH).

The story won’t end with MTN and Millicom alone, as the digital space offers tremendous opportunities for many other telecom players especially in emerging markets. The nascent stage of the industry and absence of established global players such as Amazon, Expedia and EBay, means untapped territory and the highly valuable first-mover advantage. Also with globalisation bridging the gaps between continents and cultures coupled with limited offline shopping outlets in emerging markets, the addressable market potential is strengthen today and for the future.

Last but not least, the size of the returns seen in similar markets (Softbank investment of $20 million into Alibaba group is reportedly worth around $25 billion today), just underlines attractiveness of the investment in digital ventures.

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Google’s buy of Nest Labs – does the high price tag make sense?

Google just announced the acquisition of NEST Labs for 3.2 bn USD in cash (article). This represents 3.2x what Google paid for YouTube back in 2006. A surprising price tag for a company that currently only has two basic boxes (Power Management/AC automation and CO2 monitoring) and will keep pushing iOS (together with Android) services.
Aside from the merits (or not) of such acquisition and the price tag attached to it, this latest move reflects two clear takeaways confirmed not only here but in multiple examples:

1. When will telcos catch up?

The window for telecom operators in the digital space is narrowing by the minute (if yet open): we keep seeing concepts that telcos have been “developing” for years taken over by new players with a strong digital component and successfully bringing them to market – eg the old “smart home” concept transformed into the “conscious home”, in which the telco has little (if any) relevance.

2. Engineers and innovators will take over the world!

In the digital space, we are in the “era of the product” and the “era of the engineers” as opposed to marketing or finance executives: in a low innovation environment, focus used to be on how to define the right pricing techniques, marketing campaigns, sales channels, processes, asset utilisation etc to maximise profits of largely similar products. In the current environment, the richness of digital ecosystems and innovation is allowing for the introduction of extreme differentiated products – products that create new categories by themselves. The perceived benefits of these products (eg Jawbone, Nest) are such that they create a customer pull on themselves, diluting the importance of the perfect pricing, channels, etc. Therefore the focus shifts from the marketing/finance executives on the business side to the engineers and innovators on the product side.

Telecommunications players better learn and adapt to these two trends if they want to have an active position in the digital world of tomorrow.

 

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White spaces: the next frontier or overhyped?

1. Introduction: the impetus

The mobile data explosion of recent years has significantly increased the network capacity requirements for operators including the spectrum capacity. More spectrum has been and is being made available across markets. The majority of this new spectrum, however, typically falls under telecom regulation and is, as a consequence, mostly licensed.

An increasing interest exists amongst the different players in the TMT value chain to use unlicensed spectrum, including bands used for Wi-Fi, microwaves, small electronics, and guard bands or white spaces.

2. The unlocked spectrum potential of white spaces

White spaces have been given different names: Google founder Larry Page calls it “WiFi on steroids”, Microsoft calls it “White fi”, while Gartner changed the name of white space in its Hype Cycle to Super Wi-Fi. Irrespective of its name, a white space is a frequency band allocated to a broadcasting service which is not in use by the designated service, i.e. Digital TV.

Many countries have engaged or are expected to engage in the Digital Switchover, the process by which television broadcasting is switching from analog to digital. Considering that digital television broadcasting is more spectrum efficient compared to analog, this transition has freed up spectrum, mostly in the UHF band. This has resulted in 2 major developments:

  • Interleaved frequency bands or white spaces were created to ensure that the TV frequency bands don’t interfere; and
  • Significant spectrum has been cleared and became available for other services, also called the Digital Dividend (see Delta Partners White Paper: The Digital Dividend in Europe: in the eye of “The Perfect Storm”).

As shown in Exhibit 1, while the Digital Dividend plays in the 790 MHz to 862 MHz band, white spaces are present in the 470 MHz to 790 MHz band and thus offer attractive spectrum bands for broadband services.

Exhibit 1

3. White space exploitation is moving ahead, by regulators and vendors, not necessarily by operators

The FCC (United States regulator) has projected a spectrum deficiency at current mobile data take-up rates. As a result, President Obama, through a Presidential Memorandum released in June 2013, urged for greater spectrum sharing (between government agencies and the private sector) and announced additional Federal investments of $100 million in spectrum sharing and advanced communications, including database enabled sharing (utilized by white spaces)1.

Similar conclusions have been made by Ofcom, the UK regulator. Both regulators have urged for a radical increase in broadband spectrum and have kicked off the start of the white space broadband development or Super Wi-Fi.

4. Super Wifi as a technical solution

The telecom industry is increasingly backing up the technological developments of white space broadband services. Both LTE and Wi-Fi like white space technologies are being developed. The IEEE has engaged in the development of the next-generation WiFi 802.22 standard which will work on the white space frequencies and is said to enable data transfer up to a 100 kilometers at 22Mbps. Huawei has launched trials for white space LTE TDD technologies and the 3GPP organization is integrating unlicensed spectrum technologies in its releases of the Generic Access Network.

In addition, there have been several key trials being pushed by regulators. For example, in the first quarter of 2013, the FCC authorized white spaces database administrators (e.g. Google and Key Bridge) to provide nationwide public trials for devices in white spaces2. These database managers are now authorized to track geographical white space frequency availability and offer this data to all devices trying to connect, while preventing interference to authorized use by broadcast TV stations.

Similarly, in November 2012, Ofcom launched a proposal and consultation for a framework to allow white spaces spectrum to be utilized by consumer devices3. The regulator aims at launching a pilot to use white space technology in 2013 involving the operation of white space devices, databases and processes to mitigate interference with potential full rollout of the technology in 20144. Similar to the U.S. and the U.K., other countries such as Singapore and Canada have also shown interest in these white spaces by launching public consultations and trials to investigate the feasibility for white space broadband services. For example, in 2012, Singapore launched three commercial pilots including 1) wireless connectivity and smart sensors in a golf course, 2) marine Wi-Fi (as an alternative to satellite based internet for its transit ships), and 3) smart grid applications (in a university to meter the use of air-conditioners)5.

5. So is Super WiFi the next frontier? Not so fast.

Although there are clear advantages for both mobile operators and OTT players aiming at making inroads in the connectivity business, the future of white space broadband services will depend on overcoming current and potential future hurdles. For example:

  • Potential licensing: The successful mass adoption of white space spectrum assumes a regulatory environment where this spectrum can be used “for free” similar to the USA. Several reasons might drive white space towards a licensed eco-system:
    • Unlicensed spectrum does not generate income to governments, nor can the regulator dictate the condition on the spectrum use (for example, coverage requirements in areas not financially feasible)
    • Licensing drives standardization, something that has proven to be the tipping point of success (example, GSM, 3GGP)
    • Licensing allows for better coordination and interference management. Similar approaches in the past (e.g., LightSquared) have failed due to lack of coordination of spectrum and interference issues with legacy systems\
  • Further technical development required: Commercialization of white space broadband services will require further technical development. Specifically, considering that no interference can be allowed between the digital TV broadcasting and the unlicensed spectrum broadband services, Super Wi-Fi will need cognitive radio systems.  This implies that devices will need to adapt to available frequency bands based on geographical location to avoid interference with TV broadcasters.
  • Device ecosystem: The device eco-system for white space spectrum is underdeveloped. For example, in the US, the FCC has approved one device, a radio transmitter from KTS Wireless, for unlicensed use in white spaces6. While we can expect devices from members of the White Space Coalition, which includes Microsoft, Google, Dell, HP, and Samsung, it will take time for devices to be launched and reach critical mass for commercial adoption.
  • LTE integration: The unlicensed spectrum integration in the 3GPP frameworks has not yet materialized and adoption of the Generic Access Network standards is yet to happen.

6. Conclusion: the so what for MNOs to embrace the attack?

With the launch of Super Wi-Fi pilots and white spaces based broadband increasingly being discussed and developed, operators still have some time to think and act. Indeed, Gartner’s hype cycle suggests it would take five years or more for Super Wi-Fi to achieve mainstream adoption. While the technological and regulatory environment for white space spectrum evolves, operators can start to proactively track the progress of this technology and potentially influence the development. The technology seems to be a promising last-mile and backhaul alternative and operators should not overlook the competitive disruptive nature when this technology matures and the spectrum remains unlicensed.

In the short to mid-term future, operators could potentially start to extend LTE service in the 700 MHz white space band or use Super Wi-Fi to offload traffic in cities. In doing so, operators could defend against OTT players trying to enter the access business and avoid being caught by surprise (similar to the success of other OTT apps like Skype and Whatsapp).

Sources:
1 Fact Sheet: Administration provides another boost to Wireless Broadband and Technological Innovation (June 2013); “Four years of broadband growth,” Office of Science and Technology Policy & The National Economic Council (June 2013). Other types of sharing include Temporal Sharing (time based), Geographic Sharing, and Dynamic Sensing.
2 http://www.fcc.gov/document/tv-white-space-database-administrator
3 Ofcom (Office of Communications) – www.ofcom.org.uk
4 http://media.ofcom.org.uk/2013/04/26/ofcom-invites-industry-to-pilot-%E2%80%98white-space%E2%80%99-devices/
5 http://whitespace.i2r.a-star.edu.sg/swspg/press.php
6 http://www.ktswireless.com/kts-wireless-receives-fcc-certification-for-white-space-with-the-agility-data-radio-2/

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