A New Telecom Investment Cycle is on the Horizon

Despite recent trends in the global macro-economic environment, bandwidth demand continues to double every 18 months, driven by increasing democratization of content creation, unrelenting demand for multi-media content, and rapidly decreasing storage costs. As investment in wireline and wireless broadband infrastructure continues, bandwidth consumption will no doubt continue unabated. From the perspective of a telecom service provider, however, increasing bandwidth demand does not necessarily come with increasing top-line revenue growth. – infact, service providers globally are experiencing flat or declining revenue per subscriber. Consequently, many service providers have resorted to becoming increasingly content-driven in an attempt to boost top-line revenue growth through the delivery of new content-rich services — Comcast’s acquisition of NBC Universal is a prime indicator of this trend. Although services like on-demand video, network-based DVR, and multi-media sharing do indeed offer top-line revenue growth opportunities, they unfortunately do so at the cost of lower gross margins, owing to their high bandwidth delivery requirements. As a result, service providers are increasingly feeling squeezed by the need to compete for subscribers (and thus deliver enhanced content-rich services), in the face of decreasing profitability of such services.

Compounding the telco’s profitability challenge is the fact that their capital and operational costs are not falling as fast as bandwidth demand is rising. Through the 90s, telecom service provider profitability was sustained by rapid cost reductions in networking equipment, driven by a combination of Moore’s Law and innovations in photonics. Over the last decade, however, such cost reductions have become severely limited by the physics of power consumption and cooling. Without a fundamental economic disruption, the telecom industry is on a path to profitability crisis, the ramifications of which will no doubt be felt far beyond just the telecom ecosystem.

Just as there are sea-changes occurring in the economics of bandwidth delivery to consumers, so too are there in enterprise service delivery. As the economics of computing drive increasingly centralized architectures and highly consolidated datacenters, telecom service providers are experiencing a transition in their traditional enterprise customer base to an increasingly consolidated set of datacenter and cloud computing customers. As the availability of real-estate and electrical power in close proximity to high population-density areas becomes more limited, computing and telecom providers alike are being forced to build epicenters of computing further and further away from their clients where the costs of power and real-estate are favorable, often close to sources of renewable energy like hydro and geothermal. As computing epicenters become more consolidated and at the same time geographically disparate from their end-users, the connectivity requirements associated with inter-datacenter and datacenter-to-end-user traffic patterns fundamentally change.

Opportunities for Investment

These industry challenges and trends create opportunities for entrepreneurs and investors alike. The last wave of innovation in telecom infrastructure ended almost a decade ago, leaving in its wake an ecosystem starved for innovation and ripe for economic disruption. Moreover, in contrast to the telecom boom when hundreds of startups were funded to compete for the same market share, today’s more rational capital environment actually creates better return opportunities to those investors willing to think counter-cyclically and be on the leading edge of industry transformations.

Advice to Entrepreneurs

Don’t be afraid to think big. History has repeatedly shown that great companies built upon transformative ideas often emerge from economic downturns. Realize, however, that fund raising in such an environment takes perseverance, as capital efficiency weighs heavily in investor mindset. Seek out investors that resonate with your vision, understand what it takes to execute upon it, and are willing and able to support you through the process. The harder your investor makes you think, the better prepared you will be to tackle the challenges ahead.