The digital dilemma

Hans Wijayasuriya’s leadership built a business that is admired globally. Here, he discusses lessons from its past that are relevant for the future

Conversations about the future of telecoms have acquired two phrases in the last few years: IoT or the Internet of Things and OTT or Over-The-Top content. Telcos and the technology sector had IoT and OTT in the horizon long before the popular nomenclature was established.

Soon enough, everything from cars to household appliances and industrial machines will be connected to the internet. In fact, the higher-end current generations of many everyday home and workplace devices are already net connected. Ubiquitous wirelessly connected devices should mean that telcos, which so far have control over internet access, see tremendous new demand for services.

IoT may connect more devices over wifi networks than mobile ones, and even in cars and buses, passengers will connect to the vehicle’s wifi hotspot. This limits the number of mobile broadband connections consumers will demand, but they still need more and faster data.

For mobile network operators, the rise of smartphones was a blessing, but one that is now throwing up significant challenges. These devices are now used more for dawdling on social networks, watching high definition movies and playing games—all mobile data-hungry activity—in addition to making calls and messaging.

Smartphones have also allowed in a set of disruptive newcomers who are now chipping away at core voice and messaging revenue that telcos in developing markets rely on to fund high-speed broadband network investment. Newcomers like WhatsApp – a smartphone messaging app – have pinched market share from teleco’s SMS business, and applications like Viber and Skype are threatening to do the same for voice revenue. Messaging and voice-over-internet-protocol (VOIP) aren’t the only OTT services, but they threaten developing economy telcos that have greater reliance on voice and messaging revenue. At Sri Lanka’s largest telco, Dialog, the mobile business contributes 73% of revenue, of which around a quarter is billing for data.

“Data revenue will grow at 50-60% annually over the next two years. The question is not about growth, but making it profitable and compensating for the loss of voice,” according to Dialog Axiata’s former Chief Executive and current South Asian Regional Chief Executive Hans Wijayasuriya.

In the nearly two decades of Wijayasuriya’s leadership at Dialog – a tenure that ended in December 2016 – the telecom industry transformed repeatedly due to socio economic change, technology evolution and regulations. Other Sri Lankan industries also experienced these phenomena, but probably none were impacted by all three forces at the same time as intensely has the telecom sector in two decades.

Its current preoccupation is to grow data revenues profitably and fast enough to outstrip declining voice and messaging revenue. “This is what we do all day; think about this problem,” Wijayasuriya responds smiling about the critical next transition for Dialog.

Newcomers like WhatsApp have pinched market share from teleco’s SMS business, and applications like Viber and Skype are threatening to do the same for voice revenue

In developed markets, teleco networks have been relying on data, entertainment content and cable television as core revenue for sometime. Voice is often a value-added feature offered almost free in these markets. So developed world telcos are transforming in the same direction as the disruption because voice isn’t an important revenue component, unlike in developing countries like Sri Lanka. “So when technology shifts from voice to data, with the IP networks, it was still in the same direction as market practice.”

That contrasts sharply with Sri Lanka and many Asian countries, where data is offered cheap and in most cases below cost, and voice drives the P&L, according to Wijayasuriya.

On the plus side, OTTs like Viber and WhatsApp aren’t widely used in emerging markets, “so we have time to adapt”. As these OTTs aren’t regulated or taxed locally, they have an unassailable edge against local operators. Mobile industry revenue comes in four waves. The earliest two are voice, followed by messaging, which are declining in rich countries but are the revenue mainstay in developing markets. The third, data is growing in both rich and emerging markets, as consumers demand more and better media, particularly high quality video. In developing markets, data is rising off a low base.

The fourth is the potential for telcos themselves to become OTT players by providing rich media content and many other services. For the first three waves, operators have only had to compete with each other, but for the fourth wave of revenue, they are up against Internet giants and thousands of startups.

Industry watchers don’t expect most telcos to successfully build this fourth layer of revenue, which will reduce them to mere utilities and easy acquisition targets for successful firms.

Under pressure in their core businesses, telcos are diversifying to add content and digital services. The emerging model is an evolved one from the quad-play strategy that operators predicted will be an enduring one. The quad-play model was based on fixed line, mobile, data and cable television – the so-called ‘Fantastic Four’ that was predicted to deliver unassailable competitive advantage. For the briefest period, it did, but then technology continued to evolve.

Verizon – the largest telco in the US acquired internet firm Yahoo in 2016, and the second-largest operator AT&T is bidding to acquire content firm Time Warner. While telcos have been picking up startups, the scale of the Yahoo acquisition and AT&T’s bid for Time Warner are unprecedented. The only other times mergers this size went through were between telcos and cable TV firms.

There is a reason to delight in Dialog’s ability to overcome challenges – like the one now posed by OTTs – in the past. Wijayasuriya was a founding team member of the company in 1996  and was appointed chief executive a year later. In 2013, Dialog’s revenue overtook that of SLT Group, the government-controlled incumbent. Dialog Axiata has also been consistently more profitable than SLT since 2010 – despite not having the head start and advantages incumbency bring, like an island-wide copper network on which wired internet can be delivered, backbone infrastructure like fiber optics and the benefit of international submarine cables.

SLT had revenues topping Rs17 billion around the time Dialog launched, which the firm has quadrupled in the one and a half decades since. However, by 2015 – the last year for which annual revenue is available – Dialog with Rs73 billion was ahead of SLT’s Rs68 billion, in its third consecutive year of market leadership.

Dialog, a unit of Malaysia’s Axiata, has been the rebel of the Sri Lankan telco industry. It’s possible to single out the advantage of a supportive parent with deep pockets as the primary reason for the firm’s ability to build a strong competitive position. Even after Dialog was taken public in 2005, Axiata continued funding the firm. Dialog’s clarity of vision, calculated risk-taking and discipline stand out in an industry where the pace of transformation is unusual for its speed and degree of change.

In 1997, Dialog defied the norm by discarding an industry focus on high revenue per user, instead driving mass adoption and focusing on maximising profit per minute. Around the time Dialog’s infrastructure investments were being made, it was also apparent that digital networks were the way to go.

Telecoms – like other industries using public goods, in this case radio spectrum – can’t break away from regulation

Dialog’s competitors had by then invested in analog switches and accelerated depreciation or wrote these off when they also started switching to digital networks around the year 2000.

Not having to abandon a network was advantageous, however, without scale, digital networks were far more costlier to operate than the analog ones they were replacing; and in the late nineties, few people could afford costly mobile communication. “Using digital technology and following the mantra of inclusion set Dialog apart from many operators in the world,” Wijayasuriya says, referring to the strategy that led to extraordinary growth in a market where consumers couldn’t afford to spend much on communication.

“So our challenge then was, how do we build scale to make digital cheaper than analog.” Establishing coverage on a digital network was far more difficult and costlier, because analog networks had the advantage of lower capacity but wider coverage.

To be inclusive, Dialog defined the service as needing to be affordable, relevant, ubiquitous and trusted. Soon, hundreds of thousands of Sri Lankans all over the island, of all social and income strata, were enjoying the benefits of efficient communication.

In 2016, the GSMA, the worldwide association governing the Global Mobile Industry, named Wijayasuriya the recipient of the inaugural ‘Outstanding Contribution to the Asian Mobile Industry Award’. The award recognises the contributions by individuals or organisations to advance the values and benefits of mobile communications for people, businesses and societies in Asia.

Inclusivity remains central to Dialog’s success now as it has in the past. In its investments on new network technology, Wijayasuriya sees the same challenges. “Even 4G unit economics can be affordable if you create a product relevant for everybody.”

Fourth Generation , or 4G technology, is a term broadly used to describe LTE (Long-Term Evolution), which is more a path towards 4G, which can achieve data speeds of up to 1 gigabit per second. LTE networks are being rolled out in many countries, and Dialog pioneered their South Asian establishment in Sri Lanka.

Industry talk about 5G technology capable of data speeds up to 10 gigabits per second, however, is many years from commercial launch. On 5G, much is still up in the air, like the standards for wireless technology, the spectrum it will use, and standards for handsets and network equipment. Dialog’s data growth far outstrips voice. In the September quarter last year, voice revenue increased 10% compared to the same period a year earlier, while data revenue jumped 54%. A revenue category identified as Fixed Revenue – for fixed line phones – also includes revenue from its fixed LTE. Fixed revenue grew 32% in the September quarter compared to the same period a year earlier mostly due to LTE expansion.

The International Telecommunication Union (ITU) names Sri Lanka as having the lowest broadband tariffs in the Asia-Pacific region. An analysis by a stockbrokerage in 2015 showed broadband prices here at between half to a fifth of levels in rich Asian countries like Singapore, South Korea and Japan. Akamai, in its report ‘State of the Internet – Connectivity’, points to Sri Lanka leading the region if not the world in terms of affordability, availability, quality and inclusivity of broadband services.

Despite the empowering effect of high quality and affordable voice and data coverage, the government has started to treat telcos as easy avenues to tax consumers. It proposed in the budget for 2017 to increase the levy on data to 25% from 10%. CT CLSA, a stockbrokerage, forecasts that Dialog’s high data growth rate will decline to 40% in 2017 from 54% in 2016 due to the impact of levies.

Annual spectrum fees were also hiked by 25%, forecast to cost Dialog an additional Rs500 over the Rs2 billion they were paying annually. In 2015, a super gains tax was imposed on all businesses, which resulted in a levy of Rs1.79 billion for Dialog, and Rs769 million for SLT and Mobitel. That year, it also imposed a oneoff Mobile Phone Operator levy of Rs250 million.

Almost half the cost of voice, messaging and value-added services are on account of government taxes and levies in 2017. Inelastic demand makes it easier to pass a disproportionate tax burden to telecom consumers.

Telecoms – like other industries using public goods, in this case radio spectrum – can’t break away from regulation. To launch 4G services, for instance, Dialog invested $35 million for fixed and mobile spectrum. It paid $12 million to the TRC to re-farm spectrum that fixed-line operator Suntel and Sky TV owned – both of which it acquired – to be used for fixedline 4G. In a TRC-conducted auction, it also acquired mobile 4G spectrum for $23 million.

The group’s total foreign direct investment into Sri Lanka since inception at $1.91 billion is the largest by a single company. It invested $167 million during 2015. Sometimes, these turn out to be just expensive bets like in the case of spectrum for 3G, which made surfing the web on mobiles feasible. Operators splashed on radio spectrum licenses only to later find that the technology agreed to use was harder to implement than expected. In Dialog’s 2015 annual report, Wijayasuriya warns that the era with rich contribution to revenue from the telecom sector may be ending. The impact on the economy could be severe since OTT service providers are located outside the country and hence aren’t revenue or tax contributors.

The revenue erosion is seldom time linear and the decline could be catastrophic, he says, unless managed with proactive strategies. “Early symptoms of such an avalanche are in fact already evidenced in the decline of International Termination and IDD revenues, and the mutation of local voice revenue growth (down to 5.1% relative to the past five-year average of 8.5%) and a rapid decline in SMS revenues.”

The group’s total foreign direct investment into Sri Lanka since inception at $1.91 billion is the largest by a single company. It invested $167 million during 2015

The industry, however, has been hamstrung since 2007 because of its suicidal tendency to price services too cheaply. In 2010, telco regulator the TRC was compelled to set floor prices for voice, which at that time accounted for over 90% of telco revenue, to prevent an aggravation of a bloodbath. In the lead up to the TRC intervention, both dominant telcos, Dialog and SLT group’s Mobitel, saw dips in revenue following aggressive voice tariff cuts that failed to generate increased demand.

WIJAYASURIYA likens the current environment facing telcos to walking a tight rope across a wide chasm. Operators getting across will be the ones who are able to digitally transform their offering and be more like OTTs. They will also have the advantage of owning the network. “The few telcos who get to the other side will be invincible, but many will fall off the rope because they cannot compete with freemium on one side and the ROIs their shareholders expect.”

Operators must respond in one of three ways, according to Wijayasuriya. First, they must seek support for ‘Same Service, Same Rule’ based regulation – where neutrality in licensing and taxation is enforced across OTT communication services on par with traditional telcos, according to his observation in Dialog’s 2015 annual report.

He contends that the interflow of revenues and costs between traditional telcos and OTT players needs to be sorted out, and regulators and legislation should come in while maintaining transparency to the consumer. Operators can block OTT interlopers, especially those offering VOIP and messaging services, by risk riling customers and denying consumers the best available technology.

Second, Wijayasuriya argues that traditional telcos have been flat-footed and now need to adapt – “We need to work faster and be more flexible. You need to evolve internally.” In 2012, Dialog set out to build digital services and acquire businesses in ecommerce, digital advertising, and ones that focused on areas like education and health.

Third, he argues that telcos must themselves provide the same services, including VOIP for free. Regulatory regimes need to adapt to this. Today, here and in the region, legacy players are not permitted to do something, whereas OTTs ride on the legacy players and provide that service, and they are impossible to regulate.”

LTE networks, the type on which 4G services are provided, are mostly cloud based and it’s conceivable now that the convergence of telecoms with computing is at hand. In rich countries, telco consolidation has also led to network sharing and collaborative investments.