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    Perspective

    After the Downturn

    Four Trends That Are Shaping Telecoms Future

    Ghassan HasbaniPeter WeichselDieter TrimmelStuart Cockburn

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    Contact Information

    Beirut

    Mohamad MouradPrincipal+961-1-985-655mohamad.mourad@booz.com DubaiKarim SabbaghPartner+971-4-390-0260karim.sabbagh@booz.com Dsseldorf Roman FriedrichPartner+49-211-3890-165roman.friedrich@booz.com Peter WeichselPartner+49-211-3890-231peter.weichsel@booz.com

    London

    Stuart CockburnSenior Associate+44-20-7393-3213stuart.cockburn@booz.com MunichGregor VogelsangPartner+49-89-54525-590gregor.vogelsang@booz.com

    RiyadhGhassan HasbaniPartner+966-1-249-7781ghassan.hasbani@booz.com ViennaDieter TrimmelPrincipal+43-1-518-22-926dieter.trimmel@booz.com

    Mohamad Mourad also contributed to this Perspect ive.

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    EXECUTIVESUMMARY

    As the global downturn begins to show signs of abating,forward-looking players in the telecom industry must begin to

    focus on the strategies that will ensure their success in a morestable and growth-oriented economic environment.

    Based on an extensive series of interviews with industryleaders, Booz & Company has identi ed four trends that will change the face of the industry in the coming years:

    Commoditization versus innovation Lean operations versus strategic investment Consolidation versus fragmentation

    Re-regulation versus deregulation

    Each of these trends requires industry players to understand the interplay between opposing forces and what that dynamicwill mean for them. All industry players, along the entiretelecom value chain, must examine their place in the industry,determine their aspirations for the future, and create the right set of strategic capabilities to get them there.

    Ultimately, companies need to de ne their undeniable right towin in the more challenging marketplace of the future.

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    After more than a year of slowor negative economic growthworldwide, many experts arebeginning to see glimmers of hopeon the economic horizon. Althoughthere is no real consensus thatthe worst is over, it is time forcompanies in every industry to startplanning for what is coming after thedownturn.

    The telecommunications industryis a case in point: On the one hand,the industry is weathering thestorm quite well compared withother industries. For the most part,consumer spending on telecom hasnot dropped signi cantly, especiallybecause so many consumers arein long-term, at-rate plans or seetheir telecom service as essential.On the other hand, the industrysability to gain access to nancingfor investment or acquisition capitalhas been signi cantly reduced by thestate of the nancial sector, which isin the eye of the economic storm.

    Thus, the downturn itselfcombined with the very nature

    of telecommunications, the kindsof services it offers, and the largeamounts of investment capitalrequired to sustain and grow theindustryhas created a set of opposing forces within the sector.Industry players must pay strictattention to the dynamics of thesetensions if they are to sustain theirbusiness after the recession ends:They are likely to transform thestructure of the telecommunicationsindustry, potentially driving bothoperators and equipment makersonto very different paths than theyare taking today.

    Anticipating this challenge,Booz & Company recentlyconducted a study of the globaltelecom industry, combiningprimary research and interviewswith industry leaders with a deepreview of a wide range of industryand economic data. The input wereceived has allowed us to identifyand explore four speci c sets of opposing forces with the potential torede ne the boundaries and practicesof the industry:

    TRENDS ANDTENSIONS

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    1. Commoditization versusInnovationThe commoditization of infra-structure, and especially basicconnectivity, has been acceleratedby the downturn. As a result, onlyplayers that can achieve signi cant

    scale will be able to compete onthe basis of infrastructure. Playersthat are not in a position to makemajor investments in infrast ruc-ture projects must shift theirfocus, differentiating themselvesfrom their competition withinnovative services, applications,and technologiesespecially thoserequiring relatively less investmentthan do infrastructure projects.One approach may be to partnerwith or acquire new, innovativeplayers to enhance their own capa-bilities in this area.

    2. Lean Operations versus StrategicInvestment Telecom players have turned toshort-term cost optimization as adefense against potential declinesin revenue and the limited avail-ability of nancinga trend thatwill continue as players hedge

    the risk of longer-term shifts inconsumer behavior. At the sametime, however, creating a sustain-able market position will demandthat players make selective smartinvestments in areas that willallow them to remain competitive

    after the dust has settled. The cir-cumstances and priorities will varydepending on the player, but every-one will have to dedicate futureinvestment to building scale and/orscope. Driving cost reduction willbe a critical capability. Telecomplayers will need to cut costssubstantiallynot just enoughto sustain their current business,but enough to generate cash owthat will allow them to invest ingrowth.

    3. Consolidation versusFragmentationThe commoditization taking placewithin the industry is forcinglarge operators to consolidate evenfurther to build scale. Domesticoperators must improve their costpositions by directly consolidatinginfrastructure. At the internationallevel, the same is true for service

    providers, such as IT system inte-grators, as well as most equipmentmakers. Although funding foracquisitions is scarce or availableonly on less than favorable terms,the strongest players still haveaccess to nancingand there are

    plenty of attractive acquisition tar-gets, now that company valuationshave dropped sharply. As alwaysin consolidating markets, oppor-tunities will arise for niche playersto assume attractive alternativepositions, based on a combina-tion of innovative technology andbusiness models. Therefore, everyplayer must gauge its capabili-ties either to take an active partin the consolidation trend or tode ne its own differentiated nichecapabilities.

    4. Re-regulation versus DeregulationThe heyday of accelerated liber-alization and deregulation, whenmarket forces were thought to bethe best way to shape the course ofthe industry, is over. Now, policy-makers and regulators are facing abipolar scenario: On the one hand,they want to continue promoting

    Industry players must pay strict attention to the dynamics of opposing trends and related tensionsif they are to sustain their businessafter the recession ends.

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    competition and deregulation; onthe other, they are realizing thatpure market forces will not bythemselves promote the signi cantinvestments in new infrastructureevery economy needs to build themass-market broadband network

    of the future. Thus, regulators arebeginning to take an active rolein enhancing value in the sector,promoting investments in nationaltelecom infrastructure as a meansof supporting present and futuregrowth, and even committing sub-stantial public funds to the effort.Every player therefore must deter-mine how best to position itself tobene t from changing regulatoryapproaches, while taking an activepart in shaping the outcome of those regulatory changes.

    These four tensions pose clearchallenges to the global telecommarketplace. Industry leaders mustnavigate this new marketplacecarefully, investing in the capabilitiesneeded to prevail in the longterm. Operators may decide toexit speci c segments or regions;suppliers may streamline existingproduct portfolios while determiningwhere to grow. Content andservice providers will bene t fromcommoditized infrastructure evenas they are challenged by thestruggles of the advertising businessand by operators expanding theirvalue chain.

    Several companies have alreadystarted on this challengingjourney. For instance, after 10

    years of rightsizing, one mobileoperator, the third-largest playerin a highly competitive market, isoutperforming the market leaderon a cost basis; now, however, it isstruggling to nance the next roundof 3G and 4G investments and

    seriously considering retiring fromthe infrastructure business entirely.

    Every companys overall portfolioof capabilities must be designed ina coherent and comprehensive wayto support its strategies, which maymean eliminating capabilities thatdo not t revitalized goals as well asbuilding new ones. Industry playersthat fail to recognize and respondto these new realities will nd it dif -

    cult to maintain their competitiveadvantage in the long run.

    Leaders must navigate the post-recession marketplace carefully,investing in the right capabilitiesto prevail in the long term.

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    As basic network services becomemore and more commoditized,industry players need to take ahard look at themselves anddetermine whether they have thescale to compete by offering thelowest possible cost. Most will not.Because commoditization leavesso little room for differentiationin network services, the industryis likely to see a clear move toacquire scale even as a new wave of innovation emerges, with industryplayers seeking out ways to setthemselves apart from competition.

    Commoditization

    The way in which telecoms network-based services are packaged and soldhas been evolving for decades. Thedownturn, however, has hastenedthe move toward commoditization,particularly for traditional networkservices. For the integrated IPnetworks of the future, the last andonly true network differentiatorsappear to be speed of access andreliability.

    The long-standing force behindthe trend toward commoditizationof basic network services suchas Internet access has been theincreasing standardization of corenetwork components, as well asmarket leaders desire to increasescale in the face of growingcompetition. The current economicdownturn has accelerated the

    move toward commoditization, asoperators try to leverage scale tomaintain their subscriber bases andstabilize prices at an affordable levelPlayers that are able to maintain orincrease their scale in the currentenvironment and after the downturnends will enjoy healthy returns anda strong position in the industry,even if they focus on a bit-pipestrategy that depends only on theirinfrastructure.

    Similarly, suppliers of networkequipment have long struggledwith the rapid commoditization of every new generation of technology.Converging standards makenetwork components an increasinglyundifferentiated commodity,forcing suppliers to reduce priceson a regular basis and bringing onsevere global price wars. The costof a standard mobile base station,

    COMMODITIZA-TION VERSUSINNOVATION

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    for example, has declined fromabout US$30,000 in 2006 to lessthan $10,000 today. Suppliers havereported revenue declines in therange of 40 percent to 50 percent in2009 compared to the 2008 baseline,on top of the signi cantly depressedresults of 2007. Here, too, onlyplayers with clear scale advantageswill succeed against smallercompetitors in a price war.

    Germanys telecom market offersa telling example of the effectof commoditization on marginsin a given market. As Exhibit 1illustrates, in 2007, industry playerscaptured 40 percent of the marketsoverall margins through core xedand mobile network services. By2012, however, that percentagewill decline to just 32.5 percent, tobe replaced by offerings including

    online services and devices.Consequently, the overall size of thepie will be smaller, but it will be splitamong fewer players, as those thatare able to achieve scale drive outtheir weaker competitors.

    Innovation

    Opposing the trend towardcommoditization, innovation in

    Source: Ovum; Datamonitor; Direktmarketing Deutschland; Booz & Company analysis

    Exhibit 1 Fixed and Mobile Services Are Losing Ground as Critical Telecom Offerings

    TV License Fees and Cable

    100%

    Fixed

    Mobile

    Online

    Telecom and Entertainment Devices

    Advertising

    2007 EBITDA

    TOTAL VALUE OF GERMAN COMMUNICATIONS, MEDIA, AND TELECOM MARKET (BILLIONS OF EUROS)

    -7.5%

    20.4%

    19.6%

    9.2%5.9%9.1%

    35.9%

    39.3

    2012 EBITDA (E)

    16.4%

    16.1%

    16.1%

    5.3%

    12.6%

    33.6%

    36.0

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    advanced applications and servicesacross all market segments isinjecting new life into a maturingindustry, and bringing it realeconomic bene ts. As networkservices become commoditized andmargins erode for those not ableto play the scale game, telecomplayers are turning their attentionfrom infrastructure investments toapplications and content innovation.One mobile network operator, witha small share of a large market, isplanning to exit the infrastructurebusiness entirely, and become amobile virtual network operator(MVNO), focusing on serving veryspeci c customer segments withtailored, segment-speci c services.

    Innovative value-added services arealso on the rise, as highly differ-entiated Internet players such asGoogle, YouTube, Facebook, andTwitter creat ively develop new value

    propositions that go far beyondcore Internet access services. Eachof these playersmost notablyGooglestarted small but succeededin creating new markets by generat-ing demand for its services. Nowthey can use the scale and share theyhave achieved to launch new applica-tions that bring signi cant bene tsto users and generate revenuesthrough advertising. The telecomindustry has a lot to learn f rom suchcompanies about how to add valuefar beyond their traditional accessmodelseven taking a page frommedia companies to develop speci ccontent and advertising services fordozens of unique and clearly de nedaudience segments.

    Despite their current dif culties,equipment manufacturers are alsomoving to promote innovation tocounter commoditization. Next-generation technologies must

    both offer high-speed access andsupport differentiating servicesand applications. Solutions thatallow for user-generated content,facilitate the convergence of low-cost services and applications, andenable innovative pricing planswill be increasingly in demand. Forexample, femtocell solutions, whichallow mobile operators to offerhigh-bandwidth services for in-homeusage by shifting a signi cantportion of traf c to a xed line,are set to create a new wave of innovation. The additional capacitygenerated by the shift will allowoperators to offer new services suchas Internet protocol TV (IPTV) onmobile devices. A number of players,including SAGEM, Ubiquisys,and Nextivity, are emerging tocompete with traditional equipmentmanufacturers on their own turf.

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    Building Capabilities to AddressCommoditization and Innovation

    Maintaining the proper balancebetween commoditization andinnovation will become a keystrategic capability for everysuccessful telecom player. Doing sowill involve deciding what its role inthe network access business shouldbe: Can it win the commoditizationgame through the development of superior cost structures that willallow it to make decent margins?Or should it forgo the infrastructurebusiness entirely and concentrate ondeveloping innovative services andapplications, in hopes of achievingsustainable differentiation fromthe market leaders within speci csegments?

    The key is not to get stuck in themiddle. Every player must begin by

    assessing the sustainability of itsinfrastructure investments. Should itinvest in yet another mobile infra-structure, such as LTE (i.e., themobile technology known as long-term evolution or 4G)? The marketleaders clearly will; indeed, they arealready pursuing the opportunity.Most of the third and fourth playersin speci c markets, however, will beforced to give up the race for speedin their infrastructures, retire fromthe infrastructure business com-pletely, and nd an alternative pathto growth. Germanys E-Plus, forinstance, has rmly positioned itself for commoditization, employing alow-cost model to give itself a clearcompetitive advantage against giantssuch as T-Mobile and Vodafone.Others will be forced to pursueinnovation in the services or contentand media part of the value chain,imitating the approach that Google

    and Apple have taken as they havetied handsets to content and applica-tions. In one case, a mobile operatoris considering whether to dedicate ateam of up to 200 people to develop-ing handset applications and launch-ing its own agship handsets basedon Android, the mobile operatingsystem initially developed by Google.But there, the right to win can rarelybe obtained in a single nationalmarket, given the scale necessaryto win on applications and content;although the content might differnationally, the application itself must be globally relevant to achievescale. Hence, they will have to buildmultinational growth capabilities.Even large multinationals and strongnational incumbents may struggleto sustain an innovation agendaagainst agile global niche playerswith new technology and innovativebusiness models.

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    Of the four tensions, this may bethe one that sets its two forces moststrongly in opposition to each other.In the past year, industry playershave made deep cuts in spending inpreparation for recession-induceddeclines in revenueswhich mayturn out to be less severe thanexpected. Nonetheless, even if rev-enue reductions are more moderatethan anticipated, the impact of therecession on most consumer-focusedoperators, together with the overalldecline in prices for commoditizedbasic connectivity, will require allservice providers to continue cuttingcosts as margins erode. Some opera-

    tors have slashed costs by 10 to 20percent of the baseline.

    At the same time, however, no playercan overlook the need for strategicinvestments dedicated to developingnew targets and capabilities; in the

    current environment, even if theycut their investment levels slightly,operators should consider devotingup to 50 percent of their investmentsto new capabilities. In order to havethe cash ow available for futurestrategic investments, further costreductions beyond this past yearssavings will be required. Deliveringthe next round of cost reductionswill require advanced cost-manage-ment measures that address trulystructural cost drivers.

    Lean Operations

    The downturn has forced mosttelecom operators to step up theirrecent efforts to reduce spending,explore ways to rapidly cut opera-tional costs, and defer or reducecapital expenditures.

    These pressures extend along theentire value chain. On one end,both supplier nancing and direct

    nancing for infrastructure projectshave become scarce: With operatorssuspending all but the most essentialinvestments, suppliers have been hit

    hardest by the downturn. On theother end, the downturn has in u -enced how consumers use commu-nications services, forcing operatorsto further reduce basic prices andsubsidize all kinds of communica-tion devices, from mobile phones toset-top boxes. In general, operatorshave not been as severely affected bythe downturn as other industriesinWestern Europe, revenues in theautomotive sector have declinedmore then 30 percent, and morethan 40 percent in mining. Still, thetop line has been under pressure. Inthe U.K., for example, 30 percentof consumers have already reducedtheir mobile spending, and morethan 40 percent are planning to doso in the near future (see Exhibit 2

    LEANOPERATIONSVERSUSSTRATEGIC

    INVESTMENTS

    Source: Booz & Company Consumer Survey, February 2009

    Exhibit 2U.K. Consumers Are Planning or Have Already Made Reductions in Their Telecom Spending

    Will/Ma Be Reduced

    Already Has Been Reduced

    Reduce mobile usage/costsBundle media

    Switch to a pay-as-you-go mobile serviceChange usage

    Stop using advanced/extra mobile phone functionsDelay purchasing a new mobile phone

    Switch to cheaper mobile contractUse landline more often

    Switch to a cheaper communications providerCancel broadband/TV subscription

    Use more Internet-based telephone servicesUse more VoIP phones

    Stop using mobile phoneCancel landline

    41%45%

    27%42%

    24%45%

    43%43%

    53%23%

    44%44%

    25%13%

    30%30%30%29%

    27%20%

    19%19%

    17%11%

    7%5%5%5%

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    In markets as ercely competitiveas the U.K., however, consumerslooking for better deals as a resultof the downturn are unlikely tobe able to reduce their bills muchfurther, and that, in turn, willlessen the squeeze on telecom

    revenues relative to other industries.Instead, operators wi ll more likelyprefer to offer more services forthe same rates. Yet with operatingmargins already tight in manymarketsmobile players in the U.K.,for examplecost-managementmeasures that began as a naturalevolution in response to increasedcompetition, market liberalization,and deregulation have become ashort-term necessity, as telecomslook to weather the economic storm.

    So far, most telecom players havebeen managing their costs in thetraditional ways: reducing headcount, lowering energy consumption,and cutting unnecessarydiscretionary expenditures. Yetthe long-term effects of changes incustomer behavior, and thus pricing,are uncertain, so it has becomeimperative for all telecom players,no matter how healthy they are,

    to go beyond manipulation of thetraditional operating expenditurelevers and to take more advancedmeasures to address their structuralcost drivers. That means furtheremphasizing a variety of cost-

    management trends that are justbeginning to emerge in the telecomindustry:

    1. Increased outsourcing of operations and sharing of infrastructure: Driven by the need to

    reduce costs, operators have alreadyoutsourced operational functionssuch as eld operations and networkservices. Now, the commoditizationof infrastructure services, togetherwith the nancing squeeze, isencouraging more operators toshare infrastructure. Ultimately, thistrend may lead to the creation of stand-alone entities in partnershipwith other operators, suppliers, andgovernment entities.

    2. Pay as you grow and deferred payments: Because their positionvis--vis suppliers, and especiallyvendors, continues to strengthen,operators are moving away froma business-management approachfocused on EBITDA and toward amodel based on free cash owatrend that allows them to bettermanage both working capital andcapital expenditures. This techniqueinvolves the use of pay as you

    grow schemes, rather than directinvestments, and the use of deferredpayments in build-operate-transfercontracts. In some cases, vendorshave had dif culty getting nancingto support such deals, while others

    have turned to government andnational nancial institutions toget by during the downturn. Goingforward, such measures are likelyto become common practice inthe industry.

    3. Hubbing: In addition to the leversmentioned above, a large networkoperator can consolidate and reducecosts in network implementationand operations by leveraging oneof its larger operations, such as anin-country operating company, toserve as the network hub for severalof its smaller operating companies orother regional carriers.

    Meanwhile, we also expect thepace of traditional outsourcing toincrease. Because eld operationsoutsourcing, for instance, can bringsavings of 20 percent to 30 percentof operational costs, it remainsan attractive option for operatorslooking to cut costs further.

    Because such structural cost-savingmeasures will substantially reshapethe telecom industrys value chain,they have met with some resistancefrom various stakeholders, such

    as unions. Yet the downturn hasmade the public more open to theseapproaches, a trend that shouldprovide more support for eventhe least popular, but necessary,measures.

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    Strategic Investments

    Telecom players with a lean nancialstructure and a strong balancesheet will be able to use their strongcash ow to attract nancing orinvest directly in ant icipation of the

    recovery. In the summer of 2009, forexample, one multinational operatorsucceeded in raising more than $1billion for a planned acquisitionwithin days, despite the apparentlack of new nancing due to themeltdown of the nancial sector.Those companies that know whereto place their bets nowwiththe capability to make the properinvestment decisions and a clearpicture of where they want to be inthe long termwill emerge with adistinct advantage over companiesfocused exclusively on costmanagement.

    The kinds of investments each playershould make will vary from onegeography to another and f rom oneoperator or supplier to another. Butplayers that can successfully usethe value released from their cost-optimization efforts to make smart

    investments that boost both scopeand scale will nd themselves in aposition of strength as the industryemerges out of the downturn.

    Any number of players offer exam-ples of such smart investments. Bythe rst quarter of 2009, severaltargeted transactions had alreadytaken place in geographies suchas the Middle East, where ambi-tious operators such as Batelcoand STC managed to bene t fromthe attractive market conditionsto acquire an asset in India anda license in Bahrain, respectively.Etisalat, too, continues to prospectfor new opportunities internation-ally, recently bidding on a license inLibya. Divestitures and acquisitionsof assets will continue to prolifer-ate in the immediate future andafter the upturn: For instance, Zainhas engaged in multiple discussionsabout the possibility of selling asigni cant stake in the company.Meanwhile, Orascom Telecom hasdivested its shares in HutchisonTelecom and its subsidiary in Iraq inorder to generate the cash needed toacquire a new asset in Europe.

    On a similar note, both Vodafoneand Telefnica are eyeing acollection of xed assets in WesternEurope, in hopes of evolving intointegrated players. Simultaneously,they are considering select ivelyunloading distressed operations,

    such as T-Mobile in the U.K. andVodafone in Turkey.

    Players that make strategicinvestments and thus positionthemselves to win the race for speedand scale on the network side canlook to a variety of new technologiesthat may give them an enduringadvantage. LTE mobile technology,which is already gaining a footholdin Europe, is set to play a key rolein the development of post-recessionwireless infrastructure. Wide-scale

    ber deployment, particularly berto the home (FTTH), is anotherpotential winner in wired high-bandwidth connectivity.

    As the global telecom marketevolves, every player must makeinvestments that create sustainablecompetitive advantage. New businessopportunities that offer enormous

    Cost optimization should createfunds to invest in capabilitiesthat will help operators developa position of strength.

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    room for growth are emerging inadjacent industries such as mobilebanking, education, and healthcare.The convergence of media andtelecom, in particular, remains fertileground. Several telecom operatorsspeak of the threatreal and

    perceivedfrom social networkingand mobile content applicationsproviders such as Google, YouTube,and Yahoo, which could usurptelecom players potential roles inthe content area of the value chain,reducing operators to mere pipes.However, opportunities to establisha foothold in services by investing inthis space, partnering with the rightapplications provider, or buildingcapabilities through acquisition areon the rise.

    Building Capabilities to AddressLean Operations and StrategicInvestment

    In the current downturn, costoptimization has become a necessityrather than a differentiator. Nowis the time, therefore, to applyadvanced measures to addressstructural cost drivers andreconsider operating models at every

    stage of the value chain. Measuresmay include network sharing,outsourcing, hubbing, and thelike. Industry players must de nethe cost structures that will allowthem to build a sustainable marketposition, with decent margins, as the

    downturn draws to an end.No part of the business should betaken for granted, just becauseits there. A number of mobileoperators are already pursuingnetwork-sharing deals, effectivelyexiting some parts of the valuechain; in the U.K., T-Mobile andHutchison 3G UK Ltd. (operatingas 3) have teamed up to share 3Ginfrastructure, for instance.

    But focusing exclusively on thecost side will not help companiessucceed in the future. Striking theright balance between sustainablycutting costs and making the rightstrategic investments will be akey capability for every successfultelecom company. Several operatorsare already pursuing the possibilityof moving outside their currentdomain into information technologyor nancial services, through bothpartnerships and acquisitions. O2,

    for instance, has partnered withcredit card provider Barclaycardto allow the use of its mobile phonesfor contactless payments and eventhe London Underground. Here,operators need to acquire thecapabilities required to address

    the needs of Generation Content,the always-on, always-connectednext generation of telecom servicesusers. Every industry will betransformed by the ubiquitousconnectivity of the future, and thecombination of telecommunicationsand nancial services,transportation, energy, health,and education will provide ampleopportunity for future growth.

    Across-the-board cost-cutting willnot deliver the necessary results.Leading players will understandwhere cost-cutting will do themost good, and where to step upinvestment in areas essential totheir business and to future growth.Eliminating costs and investing thesavings strategically is a criticalcapability that telecom playerswill need to move in the directiondetermined by their strategy, and togain the clear right to win.

    Striking the right balance between

    sustainably cutting costs and making the right strategic investments will be a key capability.

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    The recession has had a signi cant,if temporary, impact on mergersand acquisitions activity in thetelecom industry, as the continuingscarcity of outside investmentcapital, combined with substantial

    uncertainties about the valuation of target assets, has delayed deals forsome time. Yet we are facing a clearstructural shift toward a signi cantconsolidation of both operators andsuppliers, much like the wave of M&A activity that swept throughthe U.S. telecom sector following thebursting of the dot-com bubble. Atthe same time, the accelerated paceof technology innovation will create

    select opportunities for fragmentedbusinesses and service offeringsoutside of areas of consolidation,eventually allowing them to de necategories of their own and assume aleading position.

    Consolidation

    The slowdown in telecom M&Are ects the woes of the cross-bordergrowth market. Capital has becomeincreasingly unavailable and accessto nancing is more dif cult. Thedownturn has created a great deal of

    uncertainty regarding the valuationof targets; shareholders, clinging tothe in ated valuations of 200708,are holding back their stock asthey await some clearer indicationof future valuations. As a result,although the downturn has clearlyreduced company valuations andcreated attractive acquisition targets,shareholders remain risk-averse andreluctant to pursue them.

    The consensus in the industry is thatequity markets are unlikely to bethe source of signi cant nancingin the short term. Even so, thedynamics driving the trend towardconsolidation cannot be deniedandalthough an environment in whichcash is constrained is a challengefor the industry overall, it is anopportunity for players that havemaintained strong cash ow.

    But even for those without strongcash ow, there may be otheroptions. The number of global

    equity-based stock transactions (orpaper deals) was up 27 percent in2008. Such deals could provide anideal solution for stronger operatorslooking to acquire or merge withcompanies in distress, and for fragileoperators that have struggled tosecure nancing and are seekingfunds, but whose shareholders donot want to exit the industry.

    CONSOLIDATIONVERSUSFRAGMENTATION

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    The dynamics of the trend towardconsolidation vary among thedifferent sectors in the industry:

    Telecom carriers: Cross-borderconsolidation will increase amongcarriers; multinational groupsalready dominate the telecommarkets in Europe, the Middle East,and Africa, and smaller, single-market operators will not be ableto maintain their positions. Indeed,they are likely to be wiped out if not protected by their national

    governments. Single-market playershave already largely disappearedin Europe, and the trend is alsobecoming apparent in regions suchas the Middle East (see Exhibit 3 ). Merger deals within countries andacross borders are also likely tohappen among well-establishedplayers. Given the size of suchdeals and the limited availability of external nancing, they will come inthe form of mixed cash and equitymergers or alliances, and in somecases will be all-equity deals.

    Such deals are already beingexecuted, as evidenced by theSeptember 2009 announcementthat Deutsche Telekom and FranceTelecom would merge their U.K.operations, thus easing pressure inone of Europes most competitivemarkets. Similarly, until September2009, Bharti Airtel and MobileTelephone Networks (MTN) were inadvanced talks for cross ownershipin a mixed cash and share-swap deal.

    Note: Global operators are all operators in each region with footprints beyond the region. Regional operators are those that operate solely in each region.Source: Globalcom; Merrill Lynch; Booz & Company analysis

    Exhibit 3Operators That Are Limited to a Single Market Are on the Wane

    Global Global

    Regional

    Regional

    LocalVirtual Network Operators

    Local

    Virtual Network Operators

    75%77%

    3%

    22%

    0%

    4%3%

    16%

    WESTERN EUROPE SUBSCRIBERMARKET SHARE BY OPERATOR CLASS

    (MARCH 2009)

    MENA SUBSCRIBERMARKET SHARE BY OPERATOR CLASS

    (MARCH 2009)

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    Horizontal consolidation willincrease among carriers, with anemphasis on combining existing

    xed and mobile infrastructures,or joining forces to deploy newinfrastructure, which would be tooexpensive or too risky for a singlecompany alone. A recent Booz &Company study demonstrated thatintegrated xed-mobile players canincrease EBIT margins by as much as4 percentage points while reducingchurn among customers of convergedproducts or bundles by up to 2.5times, compared with nonintegratedoperators. Such synergies are likelyto encourage further integration inindividual markets.

    Even as horizontal integrationincreases, some operators willfocus on making downstreamacquisitions in order to move intonew sales channels or entirely newservices such as banking. Expectmore consolidation and verticalintegration on the retail side aswell. As handset retailers continue

    to struggle with poor margins and

    an inef cient channel structureespecially the overexpansion of retail spacedistribution channelswill most likely be a further area of strong consolidation. With the largeoperators already eager to enter thisbusiness, the retail landscape couldbe signi cantly transformed. InRussia, for instance, VimpelCom hastaken over Euroset, a move that wasfollowed swiftly by the acquisitionof several smaller retailers byVimpelComs competitor MobileTeleSystems OJSC (MTS).

    Manufacturers: Whereas thedownturn has created some gustywinds for operators, it has blown ina perfect storm for manufacturers.Consequently, we expect a muchmore substantial contraction on theequipment front, leaving only thosewith scale and nancial exibilitystanding.

    For equipment manufacturers, theongoing trend toward horizontalconsolidation has been accelerated

    by the downturn. As the technology

    road maps of the future becomeincreasingly standardized, nichetechnologies such as WiMAX,MediaFLO, and Flash-OFDM willbecome more and more marginalizedand unlikely to attain scale. Giantglobal operators are exertingsigni cant purchasing power oversuppliers, turning the formermargin-rich equipment business intoa commoditized battle eld.

    In light of these developments,equipment vendors are trying tomake a fundamental shift: Asoperators move downstream,vendors are following suit, movingfrom the provision of infrastructureto offering its operation as a service.This is already the structure inIndia, where two or three largevendor-owned outsourcing players,in combination with a shared toweroperator, are basically running theinfrastructure for a multitude of market-facing operators.

    Entering the service business

    requires a healthy nancial position,

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    One source of opportunity lies inbuilding on a speci c technologysolution that works on the edgesof the mainstream technologies.However, new technologiesare rarely successful withoutcorresponding innovations inbusiness modelsthe early successesas well as the current struggles of Skype are a case in point. Nichewireless broadband solutions suchas femtocells are beginning to offerthe opportunity to serve telecomusers with broadband connectivity,though they may be as disruptive in

    their business model as they are inchanging the way mobile and xednetworks are operated in the future.

    Other opportunities may come inthe form of new business models,creating a multitude of MVNOsoffering services to niche marketsegments and basing their servicephilosophies on the emergence of local or global communities. Suchcommunities might come in the formof ethnic groups, special-interest

    groups, or professional communities.First movers in this arena will havea particular advantage, as they cande ne their own niche markets early

    on. The possibilities are numerous,and the commoditization of networkinfrastructure will offer suchplayers a cost-effective base serviceupon which they can build theirdifferentiated offerings and ll thecapacity on underused networks.

    Building Capabilities to AddressConsolidation and Fragmentation

    Every player in the industryoperators and equipment makersalikemust develop the capabilityto accurately assess its position

    within its market and then develop astrategy appropriate to that position.Is it among the leading players inits market, those that can gain thescale to offset the decline in marginscaused by commoditization? If so,can it actively sustain this position oreven pursue a consolidation strategy?If not, then it needs to pursueinnovative new business models thatcan generate higher margins andseriously consider exiting businessesin which it doesnt have the required

    scale or differentiation.

    For example, du operates withina single market, the United Arab

    Emirates, where it competes with theglobal operator Etisalat. In hopes of improving its position, it has optedfor an innovation-based strategythat focuses on differentiationrather than scale. Alternatively,some operators have begun to buildportfolio management capabilitiesthat allow them to look at theirbusiness units as portfolios of businesses that could be sold if theydont return suf cient strategic and

    nancial bene ts. Once a businesshas been sold, operators can usethe proceeds to develop and acquire

    the capabilities needed to take adifferentiated position in morefragmented areas.

    Finally, some globalizing playersare building concrete operatingmodels that will allow them torealize synergies across geographies.Vodafone, for example, has beenamong the pioneers in leveragingsynergies in such areas as globalproduct development and supplychain management, and has

    extended this capability to operatorsnot owned by Vodafone, through itsVodafone Partnership program.

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    The limited appetite amongincumbent operators for investingin ber infrastructure outside coreurban areas has been troublingregulators worldwide for quite sometimeand the current recessionhas put an end to the hope that free

    market forces alone can help thissituation. Consequently, regulatorybodies are slowing their efforts toliberalize telecom markets and areregulating markets less stringently,in part to help operators survivethe cost and pricing pressuresthey are currently facing. At thesame time, telecom regulatorsare renewing their focus on thefurther development of the telecomsectoran initiative that will resultin long-lasting structural changes.In accelerating these trends, therecession is partially underminingthe free marketfocused regulatoryphilosophy that has long prevailedamong most regulators.

    Re-regulation

    The recession has substantiallyreduced telecom operatorswillingness to make investmentsin capital projects such as

    infrastructure deployment and new-license acquisitions, and regulatorshave become increasingly concerned

    about the slow pace of evolution onthe Internet superhighway of thefuture in both xed and wireless.Even if operators were willingto invest heavily in new nationalnetwork infrastructures, the mostrecent business cases suggest that it

    would take them a decade to achievetheir objectives while remaining

    nancially viable. However, manygovernments see the building outof broadband infrastructure asan important factor in promotingeconomic recovery and a key enablerfor the economy in the long term.

    Thats why regulators areexperiencing a paradigm shift.They no longer see value in theirtraditional policing role if itcomes at the expense of nationalinfrastructure development. As theycome to understand the social andeconomic bene ts of large-scalebroadband network deployment,regulators are increasinglyshifting their focus towardsector development by fosteringinvestments, a trend that tends tofavor the large national incumbents,especially those with the appetite toinvest in and play an act ive role in

    national infrastructure deployment.Moreover, some governmentsthemselves are engaging in such

    RE-REGULATIONVERSUSDEREGULATION

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    investments, either through directinvestments or through publicprivate partnerships with new orexisting operators (see Exhibit 4 ).

    With regulators increasinglyfocusing onor governments even

    getting involved innext-generationinfrastructure development, weexpect a renewed wave of regulationwith respect to these nationalnetworks.

    Competition . Regulatory authori-ties will have to carefully calibratetheir role in nding the rightbalance between encouragingincumbents to invest in large-scaleinfrastructure and preventing anti-

    competitive behavior. Regulatorsmight typically extend regulatoryholidays or grants to trigger suchinvestments, and in some caseswork to stimulate demand forhigh-bandwidth services by subsi-dizing consumer prices direct ly.

    Infrastructure . Encouraging infra-structure sharing is an effectivelever regulators can use to enhanceinfrastructure developmentwithout leaning too much towardnational monopolies. Regulatorscould encourage voluntary sharingor even go to the extent of enforc-ing mandatory rationalization of certain infrastructure components,including passive infrastructure

    elements such as towers and ducts,perhaps in speci c geographiessuch as rural areas. Triggeredby a scarcity of cash during therecession, operators are in generalbecoming more open to such regu-latory measures.

    Deregulation

    With regulation focusing more onthe infrastructure side in order toensure fast deployments of nationalbroadband networks, we expectthe ongoing deregulation trend tocontinue along the key dimensionsof easing retail regulation andlicensing. Retail regulation in theEU is a case in point: The number

    *Based on an initial commitment of A$4.7 billion, out of a A$43 billion required investment; the plan to keep a 51% stake in the announced National Broadband Network Companycould increase the Australian governments investment to A$21.9 billion.Source: Booz & Company analysis

    Exhibit 4Government Investments in Next-Generation National Broadband Networks Are on the Rise

    205

    159

    New Zealand840

    Australia3,300*

    27Malaysia

    720

    18South Korea

    890Greece1,030

    Ireland110

    2Germany

    200

    25

    United States7,200

    5Canada

    193 UK324

    6

    Italy2,049

    Spain1,420

    Estonia

    92

    69

    24

    154

    Singapore710

    92

    3435

    Portugal1,060

    100

    France2,700

    44

    Government Investment per Capita (in US$)

    GeographyTotal Investment (in US$ Mil.)

    154

    Singapore710

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    of regulated retail and wholesaletelecom services has declined from17 services in 2003 to just eight in2009. At the same time, we expectthat over time, new licensing willbe based more on services thaninfrastructure, across both wirelessand xed markets, as most countrieshave already liberalized their telecomsectors. As a result, a new wave of virtual network operator (VNO)licensing will likely emerge aroundthe world.

    Along the same lines, we maysee further decisions being maderegarding network neutrality.Regulators may grant infrastructureproviders some advantageseitherin wholesale price regulation,acceptance of infrastructureconsolidation, or regulatoryholidaysdemanding in returnthat any service on the networkbe able to bene t from the digitalsuperhighway of the future withoutdiscrimination, even in caseswhere the incumbents businessmodels are disrupted by servicessuch as Skype or Hulu.

    With every telecom player focusing

    more on creating innovative services,the overall trend toward industryconvergence will be accelerated. Themost prominent aspect of this trend

    is the convergence of telecom andmedia, driven by the proliferationof content and applications servicesoffered by telecom operators, suchas IPT V, mobile music, and games.As such, regulators are beginningto be more open to viewing their

    roles in different ways. The long-standing separation between theregulation of telecom and that of media will slowly be eliminated,with digital authorities convergingto serve as integrated steering bodiesthat regulate all elements of thedigital economy. Such models arealready emerging in Australia, Italy,Malaysia, and the U.K.

    Building Capabilities to AddressDeregulation and Re-regulation

    Managing the interplay betweenthe continued deregulation of retailservices and the renewed regulationof national networks will becomea critical strategic capability forindustry players that hope to succeedin this more highly regulated future.

    As regulators focus their attentionon the promotion of infrastructureand less-open markets, successful

    telecom players will target theircompetitive efforts at less-regulatedareas such as service innovation.Creating sustained advantage in

    service innovation, however, hasnever been an easy task, and it isparticularly unlikely to be successfulin a single national market, as thelack of success among new Internetventures clearly indicates.

    In order to win in this environment,operators must instill innovation as acore capability in their organizationsand explore the possibility of expanding into adjacent sectorssuch as banking, healthcare, andeducation, among others. GlobeTelecom, for instance, recentlysecured a banking license througha joint venture with the Bank of thePhilippine Islands (BPI) in order tooffer mobile banking services in thePhilippines market. Pursuing suchopportunities requires a varietyof capabilities, such as the abilityto structure partnerships andalliances, and to learn the dynamicsof industry sectors new to mosttelecom operators. To that end, forinstance, telecom operators in atleast three European countries areconsidering or pursuing partnershipswith energy companies to develop amarket for smart home/smart energyapplications that offer consumers

    both energy savings and theconvenience of automation.

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    About the Authors

    Ghassan Hasbani is a partnewith Booz & Company based inBeirut and Riyadh. He special-izes in telecommunicationsmarkets assessment, invest-ments strategies, mergers and

    acquisitions, marketing, productand service development,organizational restructuring andgovernance, technology plans,channel strategy and manage-ment, customer care, businessdevelopment, and CFO andCEO agendas.

    Peter Weichsel is a partnerwith Booz & Company inDsseldorf and Moscow.He is a strategy and technologyspecialist within the telecom-

    munications and high-techindustries.

    Dieter Trimmel is a principalwith Booz & Company in ViennHe specializes in strategy,technology, and organizationaldevelopment for the telecommunications industry.

    Stuart Cockburn is asenior associate withBooz & Company in London.He specializes in strategyfor xed and mobile telecomoperators.

    The very different environment thattelecom industry leaders will faceonce the recession ends and therecovery begins demands that everyplayer make a conscious decisionabout its future role in the industryand the corresponding capabilitiesit will need to succeed. Thesecapabilities will differ substantiallyfor individual players. Industryleaders will continue to balance,manage, and lead all facets of their business, even as they ght tomaintain and extend their scale ininfrastructure as a source of growth.For industry leaders and every otherplayer, the four trends outlinedherein will require dedicated focusand dif cult decisions on their partif they hope to build the capabilitiesthat will create the undeniable rightto win.

    We suggest that all players in thetelecom industry ask themselvesthe following questions; the answerswill help stakeholders de ne theirpositions in the telecom world of

    the future, and determine how bestto get there.

    Key Questions

    What will your market position bein two to three years, and who isaiming to take that position awayfrom you?

    What will your role be in the tele -com value chain in the next threeto ve years?

    Which elements of your valuechain are consolidating? Whatshould your role be in that process?

    What is your right to win in yourcurrent position in the market andalong the value chainand in yourtargeted future position?

    Which core capabilities will youneed to achieve and sustain yourright to win, given both whereyou are today and where you aimto be?

    Of the capabilities you have now,which ones will you not need toachieve this role? What do youintend to do with these assets?

    How does your ambition re ectpublic aims and approaches toregulation?

    Where do you want regulation togo, and how can you in uence itsdirection?

    POSITIONED FORTHE FUTURE

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    2009 Booz & Company Inc.

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