Telepocalypse

Out of control

James Seng has some useful musings on how telcos fight back against disintermediation. They assert control over the value chain to extract the full value of the service from the customer’s wallet.

He identifies some points of control the carrier has over the user. Let’s review his list, and start to put together our picture of where we are today in terms of carrier control of the value chain.

Control the end-device

Since the new design is a dumb network, they will control it by controlling the device. They will set “standards” and mandate designs of devices before they allowed it to be connected to their network.

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Controlling the end-device is a stop-gap measure because after the market saturated, equipment manufactures can only competes on features not standards. They will and seek to break the restriction. And they already have more control then the telcos; They just didn’t realize their power in controlling the end-devices.

Well, my first though is that it isn’t just a matter of carriers vs. handset manufacturers. There a very important ratchet effect pushing towards openness. If all the carriers in a market start off equally closed, there’s a way to differentiate yourself from the competition with zero product development costs: relax in the direction of more open.

What are the handset points of control? My inventory looks like this:

• Handset OS, browser, middleware. In effect under the control of the handset maker. Efforts to specify alternative browsers and J2ME API sets have failed — either through lack of adoption, of excessive cost of testing premium content and applications against carrier-specific handsets. Maybe Vodafone can get away with this because of their huge volume. Everyone else is out of this game.
• Handset configuration. This includes the look and feel — menu layout, assignment of buttons to functions, home page URL. As Microsoft have shown with Windows and the price they extracted from AOL to get a default icon on the desktop, location is everything. Being able to promote your service to a native menu position really matters. This could remain under carrier control for a while, particularly in those parts of the CDMA world without SIM chips and the only handset source is the carrier. The mapping of buttons to open APIs is a particularly evil way of forcing users of services like push-to-talk into your closed application environment.

The hidden factor here is the collapse of handset subsidies. You might have thought that these were a bad thing for the carrier, because they add to the cost of subscriber acquisition. But they’re really an asset, because the offer of a subsidy comes at the cost of accepting a closed, controlled device. Moore’s “law” (really “observation”) is reducing the cost of handsets to the point where subsidy is being eliminated. Prices in the mass market are too close to zero for the handset price to be a deciding factor in network selection. I’ve seen some rock-bottom wholesale handset prices for quite sophisticated camera phones that have shocked me — I couldn’t believe that the retail prices actually represented a positive mark-up. Furthermore, we’re seeing impending business model change that brings a low-cost model with zero subsidy.

Another wildcard is Microsoft. Widespread adoption of MS operating systems for mobile devices by enterprise users could easily bleed down into the consumer segment over time. (The open platform computing device will be an attractive way of dodging charges for services like MMS by connecting to landline 3rd party gateways or alternatives like packet-based instant messaging.)

OK, on to James’s next control points:

Leverage their network to control the higher layer

To keep themselves relevant and “sexy” to their investors, they will move up the chain. They will provide not only their infrastructure services but also Internet access and even new service and content. And don’t expect them to give right-of-way to other Internet Access Providers, or Service and Content Providers given a choice.

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Moving to control the upper layers by leverging their infrastructure is a stronger hold. We see this in action when FCC frees broadband providers from the right-of-way requirements. Unfortunately, they are going to learn the hard way they are infrastructure (or access) provider, not content or service company. Moving up the upper layer is equivalent of a power company decide to go into factories or data center business and restrict power supply to their competitors.

In the short term, this could indeed be a strong means of price discrimination. Outright service blocking is unlikely — it just doesn’t make for good PR. Closed systems have a terrible record of market success when an open alternative becomes available. As I wrote previously, NAT is one way of segmenting your users and forcing them through your (metered) gatways. In the long term, it isn’t going to work. Technologies like Opportunistic IPSec combined with low-latency wireless broadband will eliminate price discrimination based on port or IP address. NAT will be unsustainable when users roam onto multiple networks — WWAN, personal WiFi at home, corporate WiFi network, municipal WiMax, etc. It’s just too easy to tunnel your way past control points. Eventually someone will package up the tunnel in a seamless offering, and overcome the technical inconvenience.

Let’s keep up with James’s list of carrier control points…

Control by Regulation

They will seek set barrier on entries by lobbying for regulation on new services (such as VoIP). With the army of lawyers and experience in regulation, it is a battlefield they are familiar with and have confidences in.

… [hacking some text around]

If we are lucky, they (and the regulator) will learn their mistake and correct this but most likely, this will end up cripple the industry.

Some capitalist natural selection will take care of this in the long run. Economies that regulate the dumb network out of existence to keep incumbents in business will simply fall behind. In the short term, the regulators are being disintermediated too — they’re only just starting to launch policy fora on things like VoIP wiretapping, but the encrypted IP telephony genie is already out of the bottle. Blanket taxes like access charges may slow adoption of open networks, but they don’t increase carrier control over those who would disintermediate their services. I can see some big fights coming over ENUM and control of the E164 (phone number) name space when applied outside of PSTN telephony.

I think there are some other control points. The default wireless portal is not really part of James’s list. Carriers are really “value chain integrators” — they deal with market co-ordination failures. This is the message coming loud and clear from Vodafone and NTT DoCoMo from the recent Midem conference in Europe. Retailing of 3rd party service is an honorable thing to do for a carrier, even in a dump pipe world. Users want the devices to come pre-configured ready to use. This isn’t likely to change soon. But I can see some weaker carriers eventually aligning with an MVNO like Yahoo!, MSN or AOL and losing control here. In the US, Verizon Wireless (the market leader, but with a weak focus on data) is already half way there with its alliance to MSN.

For wireless operators, there’s still a lot of scope for tweaking the network in favor of home-made services: faster network authentication, packet QoS, over-the-air scheduling algorithms, priority access to network resources like SIP proxies, favored access to identity resources like ENUM, knowledge of network topology and current traffic status and preferred routing; there are many ways to give the home team an unfair advantage.

You shouldn’t ignore the non-techie side either. Distribution channels matter. Wireless operators have a large own-branded and retail partner network. If your open-API uncontrolled phone is only available on eBay, it won’t get market adoption. People buy Coke from vending machines because of the convenience of the distribution network; the availability of cheaper drinks bought in bulk at a wholesaler or supermarket doesn’t count. Branding and positioning can create seemingly “irrational” consumer acceptance of the “safety” of the familiar integrated service model, rather than the adoption of the alien 3rd party service. (It may be perfectly rational to reject the cheaper, more functional open alternative if the brand promise of reliability and privacy protection is too weak.)

So while the future of a dumb center and smart edge may be inevitible, it probably isn’t immediate. Which is what makes this process so fascinating to watch.