5 reasons why EU should change their view on consolidation
Over the last years we have had an interesting situation in Europe where Mobile Operators in a number of cases have merged and thereby consolidated their respective markets. Notable cases are Austria, Ireland and Germany which have all gone from 4 to 3 player markets. In November 2014, Margrethe Vestager succeeded Joaquín Almunia as European Commissioner for Competition, and since then no further market consolidation has been approved. One case has already been blocked, Denmark, and there are a few ones pending approval (or disapproval), e.g. UK and Italy, where the European Commission is to give its verdict later this year.
The concern of the EC and some national regulators has been that market consolidation is believed to be harmful for consumers as prices for services may rise as a result. The EC has also expressed that 4-player markets invest more in networks and services than 3-player markets do. As evidence for their fear about price increases and investments they refer to research and studies such as “Evaluating market consolidation in mobile communications” by Cerre. We have reviewed this study as well as the recent research on the same topic released by the Austrian Regulator RTR and the UK Regulator OFCOM. These studies do to a certain extent back the fear of the EC and Regulators, but not in any conclusive way. The ambiguity is not surprising since it is actually very complicated to do such comparisons. Depending on how you compare prices and what time interval you base your comparison on, you will arrive at very different results. Below I have listed a few reasons why we believe these studies fail to capture the actual situation for operators and why not approving consolidation is what would be harmful to consumers:
1. The longer perspective of mobile market development. The main reason why operators wish to merge and consolidate the market is that the mobile industry has matured and entered into the era of declining revenues for both vendors and operators. Looking at statistics from Ovum, the growth trend stopped in 2008 and since then revenues have been declining. In essence, this means that efforts to maintain margins and ability to invest in network upgrades and IT will come from cost savings and efficiency gains. This is why we see operators across the globe focusing on transformation and “digital telco” programs. blabla
2. The operator market has become increasingly commoditized. 30 years of competition between operators has shaped very similar service and product offerings across the board. Networks are built on the same technical standard from 3GPP and are essentially equals on coverage. All devices come in rectangular touch screen format from Apple and Android OEMs. This explains why intense price competition between operators is pretty much the sole differentiating factor that consumers appreciate and easiest understand.
3. The role of disruptive operators. When you enter a market, the only way to build market share is to offer lower prices than your competitors. With less coverage, fewer services and smaller distribution, lowest prices are the only way to win over customers. Regulators should realize that this is generally not a sustainable model over time. It is also important to understand that the chance of being successful with a disruptive strategy is much smaller in today’s market than it was 10-15 years ago when it was still a growing market. Not only do you need a much more extensive and dense network to be competitive, there are also no new users to capture so all customers will have to be lured over from competitors, who will respond and defend their market share. It is actually quite unlikely that we will see new disruptive operators entering markets as the barrier to entry and success is increasing for every year that goes by. If the EC and national regulators are to base a competition policy on a minimum of 4 players per market, they are in reality wishing for ignorant investors or born-to-lose operators.
4. The dominance of the ex monopolist. In the beginning, there were zero mobile customers and one state-owned company that was providing fixed telephony services over copper networks with a 100% market share! Opening up that market for competition on both network and service levels has had a tremendous positive impact on the development of the telecom market (and supposedly many other markets). However, when we look at the statistics, it is still the ex-monopolist that is the dominating operator in almost every market. In 15 out of 18 European markets, the ex monopolist is the clear market leader. And, even more telling, the operator ranking in market and revenue share correlates very strongly with when they received the license to operate. Hence, in many markets in the EU, Vodafone is the second biggest operator simply because they were the second operator to enter that market. This means that the #4 once-disruptive operator will with a very high probability remain in the #4 position forever, with inevitable challenges to keep up network and IT investments at levels of their competitors.
The EC and Regulators should realize that the disruptive operator will, at large, have the same investment needs as the ex-monopolists to be able to compete on services and coverage, but will have to finance this from a much smaller revenue base. So, the consequence of Regulators blocking market consolidation is that they are in fact promoting a market development where the ex-monopolists are the clear winners and the positions underneath will be increasingly fragmented and subscale. To approve market consolidation is on the other hand a way to ensure that we long term can ensure both strong investments and healthy competition, on both network and service level. Rather than like in the early growth days with 4-6 operators competing (some bound not to succeed), it will be a market that has at least 2-3 players, possibly all of them offering mobile, fixed and TV services. This is for instance how the French market seems to shape up after a few years of intense price competition. It was never sustainable that Iliad should be a disruptive #4 forever.
5. Due to OTTs, Fiber and WiFi, mobile operators will have a very limited opportunity, if any at all, to over time increase prices for services. There is no reason to feel sorry for mobile operators, they have been and are still very profitable companies with EBITDA margins in the 30-40% range, particularly if you are #1 are #2 operator in the market. The revenue trend is however negative, and consolidation will not dramatically revert that. The decline is not only because of competition between operators, but also due to other disruptive forces. First we have regulators that are lowering interconnection and international roaming rates, the latter will finally disappear fully in the EU during 2017. Another disruptive force is OTTs that increasingly are out-competing operators on voice, text, information and collaboration services. Some of these OTTs are startups while others are actually global IT companies such as Facebook, Google, Amazon and Microsoft. The most likely development is that these companies will continue to disrupt operators’ business to an extent that they are more or less left with only connectivity revenues. Last but not least, we have a disruption caused by the global trend of fiber and WiFi roll-out in the world. By 2019, it is expected that WiFi will carry up to 60% of mobile data traffic on smartphones (Juniper). It is also becoming increasingly popular to use free WiFi instead of cellular whenever it is available. Shopping malls, restaurants and municipalities are offering free WiFi for convenience and differentiation to its visitors. Simply put, even if operators in a consolidated market would like to increase prices for mobile broadband they will only be able to do so to a very limited extent, if at all.
All in all, we are at a new stage in the mobile industry evolution where looking back gives very poor guidance for how to shape the future market structure. Remembering how the good old 4 or more operator markets worked and how they ensured competition and consumer choice carries little logic when looking forward. It has become a mature market where the players logically wish to consolidate, just like in so many other industries entering maturity or even saturation stage. When the EC and regulators are looking at consolidation cases they are very focused on the consumer price. I would argue that a bigger concern today is how to advance the coverage, stage of technology and capacity of mobile networks. The EU like all other regions in the world has an ambitious digital agenda. To succeed and achieve this vision, we will ultimately need fiber connections to as many as possible combined with 5G networks serving consumers, enterprises and machines everywhere. Those are massive investments, far more than what is planned for today. According to a recent BCG report, €216 billion of investment is needed to meet the EU’s digital goals, of which only approximately €110 billion of combined public and private investments are planned. A consolidated market structure with fewer but sustainable players is better equipped to deliver the foundation for digital agendas than markets with dominating ex-monopolists and a tail of subscale players.
Bengt is the CEO of Northstream