Vendor Owned Networks: Is network ownership the next step for network vendors?

Vendor Owned Networks

Is Network Ownership the Next Step for Network Vendors?

By Michael Dargue and Hsing-Ren Chiam

Network equipment vendors have an established track record in building, operating, and financing

networks. Is there logic in taking the final step to network ownership?

May 2012

Cartesian: Vendor Owned Networks

Copyright © 2014 The Management Network Group, Inc. d/b/a Cartesian. All rights reserved. 1

The Evolving Role of Equipment Vendors

Twenty five years or so ago, the value chain in the telecoms industry was simple and straightforward.

Telecoms vendors manufactured network equipment for vertically integrated operators which in turn built

and operated networks to deliver services to end customers. Since then, several variations have emerged

(see Figure 1): the wholesale/retail service provider split; managed services for build and operate; and, third

parties leasing infrastructure e.g. towers to mobile operators.

Figure 1: Telecom Value Chains

This evolution of the telecoms operating model has called into question the value of a network as the core

strategic asset. In nearly all telecoms markets, network infrastructure is now being shared or divested, and

network operations are being outsourced.

In many cases, the companies that are enabling this transformation are network equipment vendors (such

as Alcatel Lucent Ericsson, Huawei and Nokia Siemens Networks). Research suggests that these four

companies may eventually run three-quarters of the world’s networks.1 Whereas in the past, outsourced

roles were mainly limited to basic support tasks, it is now increasingly common for even the largest

operators to have an outsourcing partner handle the planning, design, development, operation, and

maintenance of existing network assets.

Equipment vendors are also involved in the construction of new networks from the outset. For example, in

Australia, Ericsson is to build a fixed wireless network for the state-controlled National Broadband Network

Company (NBN Co). Ericsson will design, build, operate and maintain NBN Co’s network, including the

business support systems. At the end of the agreement, ownership of the network will transfer to NBN Co.

Aside from implementation, equipment vendors are also providing attractive financing plans to their

operator customers. “Vendor financing” has become an industry norm, with equipment vendors partnering

with financial institutions to spread the costs for telecoms operators over a longer period of time, paying

1 Infonetics, December 2010



lower-than-market interest rates. In the current economic climate, there is likely to be even higher demand

for these financing options.

Vendor-owned-Network (VoN) Operating Model

Network vendors are therefore already building, operating, and financing networks - is network ownership

the next step? The most obvious operating model for this would be one where the vendor owns and

operates the network, and charges multiple operators an access fee for the usage of the network. We call

this the Vendor-owned-Network model or “VoN” model.

Figure 2: The Vendor-owned-Network Model

The VoN operating model can bring significant advantages to operators in terms of cost reduction and

operating efficiencies. The vendor-owned model would be expected to confer the cost-benefits experienced

under existing infrastructure rental, outsourcing and shared operating models. Operators already looking

to divest assets to a third party may consider network vendors as an appropriate and capable partner.

Moving from an infrastructure-ownership to leased model can improve operators’ financial and operational

performance. For example, Cartesian estimates a mobile operator is able to rent a tower for as long as 10

years at an equivalent cost to building and owning the tower itself, while network sharing can result in up

to 40% savings in terms of operating and capital expenditure.

Finally, not owning the network can allow greater focus on differentiated customer-centric activities such

as proposition development, sales and marketing, customer service and retention. This phenomenon is

aptly demonstrated in the UK by MVNO Virgin Mobile, who was recently ranked highest in an assessment

of the customer-centricity of different providers2.

2 Dunnhumby – “Customer Centricity – Discovering what consumers really think of customer service”



For vendors, the VoN model is an alternative means to drive their core business of equipment sales. Firstly,

it allows vendors to showcase and seed the adoption of new and proprietary technology. Qualcomm

pursued this strategy when it constructed a mobile network with the aim of establishing a new Mobile TV

market around its MediaFLO technology. Secondly it can help vendors to increase their market share;

vendors will be able to promote their own products in the networks that they construct and own. Thirdly,

vendors can build networks themselves in order to break into new markets, particular in regions where they

do not have existing relationships with the primary incumbent operators. Finally, vendors may also use this

model to increase revenues by moving up the value chain and potentially capture a larger portion of value

created through new services.

These benefits, however, need to be balanced against the risks and challenges of the VoN model. First and

foremost are the strategic concerns of operators. Many operators still view the network as a key

differentiator and may therefore be unwilling to lose control. For example, in the US, many mobile networks

emphasise their coverage and technological advantages in their competitive positioning. Operators may feel

they already gain sufficient cost benefits through conventional outsourcing, sharing and leasing options

without needing to compromise their strategic control of the network.

Operators may also have concerns about being tied to a particular vendor and its technology. Entering into

a long-term agreement may reduce purchasing power and flexibility in supply. Many operators continue to

use a mix of suppliers. Whilst multi-vendor sourcing is not without challenges it can deliver cost-efficiency

benefits.3

Furthermore, vendors may be concerned that becoming a network owner may impair existing customer

relations. When vendors are brought into direct competition with their operator customers, it is easy to see

how these customers may hold doubts that both partners’ objectives are always aligned and that they will

continue to receive fair and equal service.

Finding Opportunities for the Vendor-owned-Network Model

The success of the model will therefore depend on operators and vendors carefully selecting the best

scenarios for implementation. There are a number of dimensions through which to assess these:

Should operators and vendors look to greenfield or brownfield opportunities?

What network scope should be owned by the vendor?

What services should be offered and what charging models or revenue streams could be explored?

Greenfield vs. Brownfield

Opportunities for vendors may present as greenfield (construction of a new network) or brownfield (transfer

of an existing network). As an example of the former, in the UK, Fujitsu has announced plans to construct

and operate a £2Bn Fibre-to-the-Home broadband network in underserved areas. Access to the network

would be offered on an open wholesale basis to retail service providers. TalkTalk and Virgin Media have

3 Gartner, November 2010



both expressed an interest in using the network, which would allow them to extend coverage in a cost-

efficient manner.

Vendors entering through a greenfield network deployment need to be clear on their exit strategy. One

option is for the vendor to continue as a network operator and run the business indefinitely with the aim of

generating long-term stable cash flows. A second option is to look to sell to an operator once the viability

and profitability of the network is proven. The preferred option will depend on the strategic objectives of

the vendor (e.g. is the aim to move up the value chain, or to enable penetration of a new market or

technology), as well as the vendor’s expectations in terms of return on investment and risk.

Figure 3: Potential Exit Strategy Options for a Greenfield Deployment

The principal risk with greenfield deployment is that demand fails to materialise. A vendor may then find

itself saddled with an unattractive investment. In the case of Qualcomm FLO TV network consumer demand

did not meet expectations. Qualcomm was ultimately forced to discontinue the service (although it did

manage to make a profit on the sale of its spectrum licence to AT&T).

The alternative to new build is to explore areas where operators can transfer existing “brownfield” network

assets to the vendor. This is analogous to the process in which Indian mobile network operators have

divested base station towers, creating infrastructure or “tower companies” into which they have transferred

these assets. The tower companies are then responsible for constructing new tower sites and for the on-

going maintenance of the passive (non-electronic) parts of the tower. Operators rent capacity from these

infrastructure companies, thereby alleviating the requirement for extensive capital expenditure.

The benefit of brownfield is that the infrastructure comes with existing demand; however acquiring assets

from operators brings its own challenges for network vendors. Acquired networks may include legacy

equipment from other vendors which increases operational complexity. From a financial point of view, there

is the challenge of determining a fair value for the network assets and ensuring a lease structure which

provides sufficient incentive for operators to sell and leaseback. Vendors are also likely to require a financing

partner for the purchase of the assets and a clear governance structure in terms of roles and responsibilities

Become an Operator Sell to an Operator

Run business indefinitelyfor wholesale revenues

Strategy

Rationale

Issues

Run business until viability is proven,then exit through sale to operator

• Enables shift in business model

• Long term stable cash flow

• Significant change in investment profile

• Time to RoI longer than core business

• Enables market entry

• Creates alternative “sales channel”

• Limited number of potential buyers

• Achievable price is unknown



Length of Replacement

Cycle

Level of Commoditization

Suitability for Wholesale

Suitability for Vendor

Ownership

Physical Layer(fibre, copper)

Core NetworkElectronics

Backhaul NetworkElectronics

Access Network Electronics

OSS/BSS

Passive layer(ducts, poles, towers)

Low

Low

Medium

High

High

Medium

will need to be defined under these arrangements. Finally, in many countries, regulatory approval is likely

to be required for such a transaction. Licensing requirements will need to be considered, particularly in

mobile where spectrum licences and operator licenses are often indivisible.

Scope of Network Ownership

The scope of network ownership is another important dimension to consider. The physical and passive

layers are the most straightforward and best suited to a shared multi-tenancy operating model (See Figure

3 below). However, strategically, these layers are likely to be of less interest to a vendor concerned with

manufacturing active network electronics. A balance must therefore be found, between assets which are

not highly differentiated and easily shared, and those which are more complex but satisfy the vendor’s

commercial goals.

Figure 4: Evaluating the Suitability for Vendor Ownership of Different Network Layers

Services and Revenue Models

The network scope will determine which services the vendor can offer, and which revenue models can be

utilized. For example, Alcatel Lucent is deploying an LTE Public Safety Communications Network for

Charlotte City, North Carolina in which the “LTE core” is hosted by Alcatel Lucent. Sharing access to the core

provides dramatic cost savings for the emergency services (e.g. fire service, police, ambulance service).

Alcatel is considering “pay as you go” pricing for the hosted services, in which customers can choose from a

range of applications and pay according to their needs. Revenue sharing models might also be considered

for those service providers that generate income on their networks. This shows how the model allows

vendors to move further up the value chain, and directly capture a share of end-user revenues.



Operational excellence

Strong operator partnerships

• Committed anchor tenants can de-risk the revenue side of the equation

• Ensure alignment on business goals, commercial deal structure and operational practices and metrics

• Ensure operational excellence to deliver on strategic, financial and operational objectives

Access to funding• Explore options for raising private sector finance

• Public sector programmes may present funding opportunities

Robust business case and strategy

• Rigorously assess market size and level of demand; analyse competitive landscape for risks and threats

• Validate strategic and economic rationale for both self and prospective network tenants

Conclusions

The VoN model is not without its challenges, and the situations in which it may play require careful

evaluation. As vendors and operators consider the different approaches in applying this operating model,

we recognise the following key success factors:

Figure 5: Key Success Factors for Vendors

A clear business case needs to be offered by vendors pursuing this model in order to secure operator clients

and potential finance partners. Vendors will likely to need to attract multiple tenants for their networks to

fully realise the available cost benefits. As well as ensuring that the economics work, vendors should seek

from the outset to address the potential minefield of conflict-of-interest issues that could arise.

At the same time, vendors need to be aware of the risks in assuming a greater ownership of network assets

and ensure they target the correct markets. Vendors who succeed in this area will carefully consider the

demand outlook and competitive landscape before proceeding.

Cartesian is a specialist consulting firm of industry experts, focused exclusively on the communications,

technology and digital media sector. For over 20 years, Cartesian has advised clients in strategy

development and assisted them in execution against their goals. Our unique portfolio of professional

services and managed solutions are tailored to the specific challenges faced by executives in these fast-

moving industries. Combining strategic thinking and practical experience, we deliver superior results.

www.cartesian.com

For further information, please contact us at [email protected]

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Vendor Owned Networks: Is network ownership the next step for network vendors?