There may be subtle signs of problems in earnings reports, and I think that’s the case with those of Verizon and AT&T for the 4th calendar quarter of 2022. I covered the reports broadly in our first TechsRay podcast, but one specific point needs a bit more development, and that’s the business services trend both operators report.
Business services are important to operators, not only as a revenue source but also because they represent the most credible place to target any enhancements to basic broadband. Net neutrality issues constrain operators’ ability to create differentiating features in consumer services, and consumer marketing isn’t exactly an operator strong suit either. On the other hand, there are no neutrality/regulatory constraints on business services, and the Network Functions Virtualization (NFV) initiative actually targeted businesses for hosted-function-based advanced service features, including security. It stands to reason that this area should be growing as operator initiatives take hold.
Wrong. Both AT&T and Verizon reported a decline in business services in Q4. Neither company talked about the specific reasons for this in their earnings presentations or on the call, but I’ve heard things from both enterprises and operators that sure seem important.
One important point was that there has been some replacement of MPLS VPNs by SD-WAN or cloud-network technologies. It’s hard to get a precise picture of how much the impact is, but running comments I’ve gotten through my model yields an estimate that this replacement accounts for less than a quarter of the decline. In the majority of these cases, the operator offered the replacement service, though multi-national MSP competition was also a factor.
The remainder of the decline appears to be linked to discounts negotiated by companies, usually driven by competition for current services, or a switch of providers to get lower prices. I couldn’t identify any statistically significant number of users who switched providers based on features rather than on cost.
The thing that should be scaring both AT&T and Verizon (and other telcos as well) is that the majority of the revenue decline isn’t due to things like SD-WAN or cloud networking. Those two factors could be expected to cut current revenues by almost half if they were to be adopted everywhere. Given that there are literally billions of dollars at stake here, you’d think operators had a specific plan to address this space. Remember, there are no real regulatory barriers to feature-driven service enhancements here. But even the operators’ leading-edge thinkers admit that there’s nothing really being done.
I think that what we’re seeing is first and foremost a clear example that operators have totally lost pricing power in business services. That view is reinforced by the view of operators that the revenue per bit on business services is declining faster than the business service revenues are overall. That means operators are actually offering more capacity for the same (or lower) price. But why is this? Two main reasons.
One reason is the consumerization of broadband services. Well over half the enterprise network procurement people I’ve chatted with say that it’s hard for them not to take an aggressive discount position for business network services when every executive in the company is seeing their home broadband deals get better and better.
The other reason is that cloud computing is introducing new network alternatives, but alternatives that are often totally embedded in application service features. Do IT professionals understand that adopting SASE, for example, may unload traffic from the VPN? In theory, a company who created a cloud front-end for every application, and for both out-of-company users and their own workers, could end up with nothing but Internet connections everywhere. Since SASE includes SD-WAN in nearly all cases (technically, current jargon would say that SASE without SD-WAN is SSE), it can also socialize the notion of explicit VPN replacement even for applications or users who aren’t on the cloud at all.
We appear to be in a situation where forces largely out of the control of the operators are acting to erode their business service revenues significantly, and perhaps for some totally eliminate the VPN that’s the foundation service for enterprises. Neither of these revenue-reducing drivers are going to be reversed naturally, and we may be at a point where both are beyond any possible influence by operators. Think “the Internet is the universal digital dialtone” and “the cloud is a public-hosted business extension of the web server” and you get the idea.
If this is true, then operators’ business service revenues are likely doomed…except perhaps for mobile services. But even there, we have BYOD issues that make it difficult to differentiate business mobile from consumer mobile. A combination of Internet VPNs and cloud SASE could well make even mobile broadband shift decisively toward the consumer service model.
So what? Enterprises would likely be happy to see this kind of convergence, because whatever business services revenue they lose is money saved by the businesses. For operators, the loss of billions and the likelihood that the Internet and cloud could totally and finally disintermediate them, has to be scary. That may be why the EU-area telcos are looking for big-tech OTT subsidies for the traffic they carry. If “the Internet” is the only network in the future, then all the players in it have to rethink how they’ll cover the cost of infrastructure. The current no-settlement model might not be sustainable.
Even here, there’s a question. People tend to think that the Internet should be free, which of course cannot be the case. The foundation of the Internet, and big tech in particular, is ad sponsorship. Global adspend couldn’t possibly grown enough to cover the cost of operator infrastructure. It’s not really even enough to fund the growth OTTs expect in their own revenue streams.
What’s surprising to me about all of this is that Verizon has the best opportunity fundamentals of the two, and yet seems to me and to Wall Street as being the one facing the most difficulties. They should have been a leader in facilitating services to businesses, and they’re lagging instead. They should have had a realistic view of business service revenues, and somehow they’ve missed that. Are they in trouble, as some articles are suggesting? I don’t think so…yet. But they will be.