VisionMobile Telco Innovation Toolbox Dec 2012

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The Telco Innovation Toolbox: Economic Models for Managing Disruption and Reinventing the Telco
VisionMobile.com/Strategy
VisionMobile 2012. Some rights reserved.
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About VisionMobile VisionMobile is an ecosystems analyst firm working with top telecom operators, handset makers and infrastructure companies. We are best known for Developer Economics, the de-facto knowledge hub of the app economy, and Mobile Innovation Economics, the strategy workshops helping telco executives to define winning innovation strategies. Our mantra: Distilling market noise into market sense. VisionMobile Ltd. 90 Long Acre, Covent Garden, London WC2E 9RZ +44 845 003 8742 www.visionmobile.com/blog Follow us: @visionmobile About Ericsson Ericsson is a world-leading provider of telecommunications equipment and services to mobile and fixed network operators. Over 1,000 networks in more than 180 countries use our network equipment, and more than 40 percent of the world's mobile traffic passes through Ericsson networks. We are one of the few companies worldwide that can offer end-to-end solutions for all major mobile communication standards. Our networks, telecom services and multimedia solutions make it easier for people, across the world, to communicate. And as communication changes the way we live and work, Ericsson is playing a key role in this evolution. Using innovation to empower people, business and society, we are working towards the Networked Society, in which everything that can benefit from a connection will have one. Our vision is to be the prime driver in an all-communicating world. For more information see: http://www.ericsson.com License Licensed under Creative Commons Attribution 3.0 license. Any reuse or remixing of the work should be attributed to the VisionMobile The Telco Innovation Toolbox: Economic models for managing disruption and reinventing the telco paper. Copyright VisionMobile 2012
Disclaimer VisionMobile believes the statements contained in this publication to be based upon information that we consider reliable, but we do not represent that it is accurate or complete, and it should not be relied upon as such. Opinions expressed are current opinions as of the date appearing on this publication only, and the information, including the opinions contained herein, are subject to change without notice. Use of this publication by any third party for whatever purpose should not and does not absolve such third party from using due diligence in verifying the publications contents. VisionMobile disclaims all implied warranties, including, without limitation, warranties of merchantability or fitness for a particular purpose. VisionMobile, its affiliates and representatives shall have no liability for any direct, incidental, special, or consequential damages or lost profits, if any, suffered by any third party as a result of decisions made, or not made, or actions taken, or not taken, based on this publication. Behind this report Project lead: Michael Vakulenko Senior analyst: Stijn Schuermans Marketing: Matos Kapetanakis Editorial: Andreas Constantinou
Also by VisionMobile Mobile Innovation Economics Workshop A strategy workshop introducing the new economic thinking necessary for successful innovation by telcos. Find out more visionmobile.com/strategy
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Contents
A new basis of competition ......................................................................................................... 5! The superiority of ecosystem economics .................................................................................... 7! Ecosystem engineering .............................................................................................................. 10! The modular telco ...................................................................................................................... 13! Asymmetric business models .................................................................................................... 16! The true value of innovation and the cost of doing nothing ..................................................... 19! Dealing with uncertainty: Discovery-driven planning ............................................................. 21! Ecosystem as a new distribution channel .................................................................................24! Keys to successful telco API strategies ......................................................................................26! Freeing voice from telephony ....................................................................................................29! Turning openness into a competitive advantage ...................................................................... 31! Conclusions................................................................................................................................ 33!
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Key Messages
Telcos are being disrupted because the basis of competition in mobile has fundamentally changed. It has changed from reliability and scale of networks to choice and flexibility of services, representing transition from mobile telephony to mobile computing. The change in the basis of competition is fundamental and irreversible. OTTs do not compete for telco service revenues; instead, they compete to control key links in the digital value chain, with business models that span consumer electronics, online advertising, software licensing, e-commerce and more. Thus, competition is asymmetrical, because unlike carriers, OTTs do not bear the burden of providing mobile Internet service. As iOS and Android have reached critical mass, and established well-entrenched market positions, operators need to look for ways to build unique user value atop the platforms rather than competing with OTT players. Telcos need to move their innovation focus from technologies (be it HTML5, NFC, IMS, VoLTE, M2M or RCS-e) to ecosystems. That requires a much better understanding of how ecosystems are engineered, and how ecosystems absorb and amplify innovation. Most telecom operators evolved as all-in-one businesses optimised to compete based on the reliability and scalability of a small set of core services (voice, SMS, data access). To adapt to the market shift, telco needs to be seen as an entity comprised of three distinct business layers: Access, Connectivity and Distribution. Traditional financial tools are designed for stable market environments, but fail predictably when applied to innovation under conditions of uncertainty and rapid change, which characterizes todays telecom market. The reason for failure is that traditional financial tools systematically undervalue innovation by disregarding the costs of doing nothing. High levels of uncertainty require radically different planning methods. Discovery-driven planning acknowledges that in uncertain market conditions, very little is known and much is assumed. Instead of treating blue-sky assumptions as facts, this planning tool systematically converts assumptions into knowledge. Ecosystems are a new distribution channel similar to value added resellers. In the case of telcos, ecosystem partners are the resellers that will push telco services to new users, new usage models and new market niches. To be successful in API initiatives, telcos need to consider developers as value-added resellers, and therefore design their API propositions for win-win outcomes. In other words, the business models of telco APIs need to be aligned with the business models of developers. Notwithstanding the buzz around new OTT services, telcos are still considered the primary providers of voice services. That puts them in an excellent position to transform telephony into a thriving ecosystem of services designed for the new basis of competition: choice and flexibility. For example, using telephony APIs to lock enterprises into voice/data plans.
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INTRODUCTION
A new basis of competition

There are no silver-bullet solutions to telco disruption. Rather than focusing on quick fixes, this paper introduces a new way to think about telco innovation, with the aim of helping operators to make the right choices in their innovation investments.
Lets start with the basic question: What is the nature of the telecom transformation? Is it just about new competitors that need to be fended off? Or are there more fundamental forces at play? We think the latter. Telcos are being disrupted because the basis of competition in mobile has fundamentally changed. It has changed from reliability and scale of networks to choice and flexibility of services driven by the transition from mobile telephony to mobile computing. The change in the basis of competition is fundamental and irreversible1. Enabled by smartphone platforms and free from go-to-market bottlenecks imposed by telcos, hundreds of thousands of app developers are now able to compete for user attention and wallet share. Today, universal coverage, no dropped calls, voice quality and high-speed data connectivity are almost taken for granted in most mature markets. For more and more users, the availability of apps is becoming a primary consideration when selecting the handset. Signing up for a telco plan is increasingly viewed as a necessary cost for services that only need to be good enough to support the device. Its like picking the car of our liking, knowing that once in a while we will have to pay at the gas station. This brings us to the conundrum the telecom industry is facing today. Providing undifferentiated voice, text and data services to smartphone users leads to a competition on price and diminishing margins. At the same time, staying in business requires that telcos keep up with ever-growing demand for data and continued investments in building wireless capacity. Investments in networks are still necessary, but they alone are no longer sufficient for profitable growth. Whats next? Harvard Business School professor Clayton Christensen recently said: I think, as a general rule, most of us are in markets that are booming. They are not in decline. Even the newspaper business is in a growth industry. Its not in decline. Its just their way of thinking about the industry that is in decline.2 Telecom industry too can greatly benefit from looking at familiar challenges from a new perspective. Telecom is a booming industry with ever-growing demand for mobile data and rising numbers of subscribers. But the basis of competition in mobile has changed putting pressure on legacy telecom business models. Wireless networks alone can no longer guarantee profitable growth for telecom operators. Competing head-on with asymmetric business models of OTT players wont help either. Instead, seizing the full potential of this booming industry means leveraging mobile digital ecosystems to create meaningful differentiation and lock-in to telco services, as well as incremental revenues. This requires an understanding of ecosystem economics, development of new organisational capabilities and resetting the KPIs for digital initiatives.
Analysis is based on value-chain evolution theory by Harvard Business School Professor Clayton Christensen
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2 http://www.niemanlab.org/2012/10/clay-christensen-onthe-news-industry-we-didnt-quite-understand-how-quicklythings-fall-off-the-cliff/
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The economic and strategy tools introduced here will guide telcos in their choices on what innovation initiatives they should pursue and how to execute on their choices in fundamentally new market conditions.
We describe ecosystem economics in the context of telco business in chapters 1 to 4, discuss the impact of traditional financial tools and the need for new innovation processes and KPI in chapters 5 and 6, and finally suggest how to leverage ecosystems to the benefit of the telco business in chapters 7 to 10.
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CHAPTER ONE
The superiority of ecosystem economics

What gives ecosystems their superior growth economics, and what can telcos do about it?
Telcos used to be the center of gravity in the mobile value chain, but no longer. In the new basis of competition, ecosystems like Apple iOS or Google Android have become the focal point for service creation and distribution, ironically with help from telcos in the form of device subsidies. In the space of five years, ecosystems have mushroomed to take control of what took telcos nearly 30 years to build. What gives ecosystems their superior growth economics, and what can telcos do about it? Apple, Google, Facebook, Amazon and many other Internet players are in the center of value networks connecting the core business of the platform owner (e.g., hardware sales for Apple) with an array of complements, such as developers, media, brands and telcos. As such, they are carefully designed to drive the core business of the ecosystem owner. Complements are products that are consumed with and add value to the core product of the ecosystem owner. Ecosystem economics describe how the core product (e.g., iDevices or Google ads) becomes more and more valuable, as the numbers of developers and users around it grow. Ecosystem economics are driven by network effects and lock-in. iPhone apps attract Apple users, who in turn attract more developers, who make more apps, which attract even more users, and so on. This network effect between developers and users drives the explosive growth of the iOS platform. Lock-in creates natural walled gardens, as users develop habits around apps, while developers are locked-in by high switching costs created by their investments into the platform. Ecosystem economics are often misperceived as simple two-sided business models, where the telco needs to profit not only from users, but also from developers. This couldn't be further from the truth. Developers, much like any complement, drive sales of the core product, and as such need to be viewed as partners, not as a source of direct profit. For example, Apple runs a very successful consumer electronics business. About 80% of Apples profits in Q3 2012 derived from products running its iOS operating system. Flexibility and choice underpin the iOS value proposition -There is an app for that, in the words of Apple advertising. Today, the company lists more than 700,000 apps in the Apple App Store. Given that the app economy has become a multibillion dollar business, it is tempting to believe that apps are now a lucrative multi-billion dollar content business for Apple. In reality, the company runs the App Store at just above breakeven, according to Apple CFO Peter Oppenheimer and CEO Tim Cook. The App Store revenue share is an elegant solution to recover the high costs of running a thriving developer ecosystem. Given 30% revenue and the fact that Apple has paid developers $5.5B dollars, these costs amount to over $2.3B over the lifetime of the Apple App Store3. App Store revenues are used by Apple to subsidise testing and hosting of hundreds thousands of free apps and billions of free app downloads -- Over 80% of app downloads are free4 (including Facebook, Instagram, and many other apps). In other words, the App Store is not designed to generate profits from content sales, but rather is a key enabler for the app economy that produces critically important complements
As of July 2012
4 http://tabtimes.com/news/ittech-statsresearch/2012/09/11/gartner-says-9-10-downloaded-appsare-free-insists-app
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driving the profits of the wildly successful iPhone and iPad devices. The Google Android ecosystem is built on very similar principles. It treats developers as partners who create vitally important complements. Googles core business is online ads, and the Android ecosystem is optimised to drive eyeballs to Google properties and deepen its consumer intelligence. As opposed to Apple, Google prioritises user reach over user experience, and makes Android freely available to the broadest range of handsets. In most developed mobile markets, operators are playing a supporting role within the iOS and Android ecosystems. Operators take on the financial burden of device subsidies, which reduces the cost of acquiring the smartphone users -- all in exchange for upselling users into higher-ARPU data plans. While telcos finance the expansion of smartphones, Apple and Google are taking over
the customer ownership and creating strong user lock-in that surpasses that of operator brands. Ecosystems are much better at delivering choice and flexibility, the new basis of competition. This is due to their global scale and vast developer reach. Despite these adverse effects to the telco business, there is little telcos can do to roll back the clock. The ecosystem genie is out of the bottle. As iOS and Android have reached critical mass, and established well-entrenched market positions, operators need to look for ways to build unique user value atop the platforms rather than competing with OTT players. Such over-the-platform innovation can indeed create new revenue streams, but even more importantly it offers opportunity to create unique differentiation relative to local competitors and avoid competition on price. Opportunities for such differentiation exist in the areas where platforms are inherently weak, or have little motivation to compete. These include local presence, user targeting and reach,
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content recommendations and vertical B2B solutions. Over the longer term, telcos can look for ways to build parallel ecosystems, using pages from the ecosystem economics textbook. An example is M2M. It holds the potential to create a vibrant ecosystem of users and solution providers, thereby establishing strong network effects and lock-in. Telcos can become the central force in this emerging ecosystem if they learn to engineer the ecosystems to their advantage. By looking at M2M through the lens of ecosystem economics, operators will see opportunities that are much bigger than just selling modems and data connections.
Key questions telcos need to ask when evaluating innovation investments Does your initiative compete with the network effects of an established ecosystem or is it leveraging those effects? Does your project aim to add value where platforms are weak or have no motivation to compete? Does your project promise to create a parallel ecosystem where telcos will play the dominant role?
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CHAPTER TWO
Ecosystem engineering
The new basis of competition is defined by ecosystem economics, and technology is just one part of a much more complex puzzle. Platform owners run their ecosystems of users and developers by means of five ingredients and two control points.
Innovation in the telecoms industry has traditionally been focused on technology. For decades, GSM, CDMA, WCDMA, HSPA, and LTE defined the competitive landscape of mobile telecommunications. With the basis of competition being scale and reliability, these technologies helped telcos use spectrum more efficiently, within the limited wireless spectrum available to them. In other words, the key competitive characteristics of mobile networks were defined by air interface technologies that increased capacity to transport ever-growing amounts of voice and data traffic through a limited wireless spectrum. The new basis of competition is defined by ecosystem economics, and technology is just one part of a much more complex puzzle. HTML5 is a perfect example of how ecosystems surpass technology. Many operators placed their bets on HTML5 as a chance to regain positions lost to mobile ecosystems. They did so without realizing that HTML5 is an enabling technology that still misses key platform ingredients. Successful application platforms5 have five key ingredients: 1. Software foundations: a rich set of APIs6 with managed fragmentation and a toolset for creating apps Community of developers writing to the same set of APIs to spur innovation and cater to diverse use cases 3. 4. 5. Distribution (reach) across handsets, operators and regions A means of monetization, such as ads or micropayments A means of retailing content (discovery, promotion, search and social)
The next diagram details the five key ecosystem ingredients, their product success factors and the competences needed to bake each ingredient into the recipe. Platform owners control their ecosystems of users and developers by means of two control points. These points exist at the opposite ends of the value-chain. Firstly, platform owners control content creation by locking developers into a proprietary API. Secondly, platform owners control content distribution by gating how apps are distributed to and discovered by end users. These two control points allow platform owners to amplify the network effects by reducing friction to on-boarding of developers and users. Pitched as a killer of platform walled gardens, HTML5 in reality needs a lot of work before it can transition from an enabling technology to a complete and viable app platform, and compete in the league of Android and iOS ecosystems. HTML5 will not win on technological merit, but by creating pervasive solutions for the three key platform ingredients it currently lacks: distribution, monetization and retailing. Today, only two companies, Facebook and Google, are in a strong position to evolve HTML5 into a full-fledged platform. Both have rich sets of proprietary APIs, vibrant developer ecosystems and solutions for app monetisation, distribution and retailing in the form of Facebook Platform and Chrome Web Store. Mozillas Firefox OS (Boot2Gecko), which has the support of telcos, might have the same
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Also called computing platforms API - Application Programming Interface
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ambition, but is further behind in terms of its
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platform ingredients. Telcos need to move their innovation focus from technologies (be it HTML5, NFC, IMS, VoLTE, M2M or RCS-e) to ecosystems. That requires a much better understanding of how ecosystems are engineered, and how ecosystems absorb and amplify innovation This ecosystem view on innovation cannot only help to identify promising innovation opportunities, but equally important, help telcos avoid investments that lack key ecosystem success factors.
Key questions telcos need to ask when evaluating innovation investments Is your innovation initiative aimed at creating an ecosystem? If so, what ecosystem ingredients will it need to succeed? How can technology-led innovation play atop of existing ecosystems to create a competitive advantage for telcos? Are all of your current innovation projects designed with the key ingredients for ecosystem success?
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CHAPTER THREE
The modular telco

Contrary to Internet players, most telecom operators evolved as all-in-one businesses. To better understand the impact of the market disruption to telcos, it helps to visualise mobile operators as an entity comprised of three business layers: connectivity, services and distribution. Each of these business layers is affected differently by the market shift, and face very different operational challenges and competitive pressures. They also offer distinct opportunities for future growth, differentiation and profitability.
Contrary to Internet players, most telecom operators evolved as all-in-one businesses optimised to compete based on the reliability and scalability of a small set of core services (voice, SMS, data access). Vertical integration was necessary to provide these services with five nines reliability for tens or even hundreds of millions of subscribers. The all-in-one telco spans network operations, telephony, messaging, data access, user identity management, authentication and billing, as well as distribution and retail. As the basis of competition changed to choice and flexibility, vertical integration lost its advantage. Moreover, the lack of flexibility inherent to vertical integration has often slowed telco attempts to adjust to new market conditions. It explains why telcos lost out to smartphone and Internet platforms in the areas of location services, authentication, single signon, user identity, and billing. To better understand the impact of this market shift on telcos, it helps to visualise mobile operators as an entity comprised of three business layers: 1. 2. Connectivity business: high-speed mobile Internet access and wide area connectivity Services: telephony, SMS, content portals and other value-added services 3. Distribution: physical and digital retail presence, consumer intelligence, customer care, telco own apps, web portals and more
These three business layers are affected differently by the market shift, and face very different operational challenges and competitive pressures. They also offer distinct opportunities for future growth, differentiation and profitability. The connectivity layer is boosted by an evergrowing need for anywhere, anytime connectivity to billions of devices. It will remain an important part of the digital ecosystem valuechain for the foreseeable future, and is a growth opportunity for telco. The main challenge is how to avoid commoditization, i.e., a lack of meaningful differentiation, which results in competition on price and diminishing profitability. At the service layer, things look very different. The smartphone ecosystem has produced a flood of innovative OTT alternatives that cut into traditional SMS and telephony service revenues. OTT alternatives can often achieve substantial user reach and service scalability based on budgets that are considered small in telco terms. For example, in just two years Viber topped 100M users, Whatsapp has scaled to servicing over 10B text messages a day and Tango, a video-calling app, grew to 23 million subscribers in 190 countries. No less
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important, the business models of these
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companies are radically different from those of telcos. While traditional telephony is in stagnation, innovative voice solutions can present attractive opportunities for telco as we explain in later chapters. The OTT communication market continues to evolve at lighting speed. Telcos cannot compete with the pace, risk taking culture, free and freemium business models and global network effects of OTT ecosystems. Telco initiatives like Joyn and before it WAC, which were heralded as the answer to OTT threats, now look outdated and hopelessly behind leading OTT players. At the distribution business layer it is yet another story. Distribution is largely seen as a cost centre, not a new revenue opportunity, despite its strong potential to create new control points and revenue streams for telco. Apple, Google and Facebook have capitalized on the inflexibility of all-in-one telco offerings by gradually replacing key telco assets like location, authentication, single sign-on, user identity, and billing with proprietary solutions. Hindered by internal conflicts between business layers, telcos were late to market with services of their own in these areas. Lured by the promise of attracting higher-ARPU smartphone users, telcos worked hard to flood the market with smartphones at a wide range of price points. This strategy served the short-term goal of boosting the connectivity business, but at the same time jeopardized the long-term competitiveness of the service business by surrendering the customer ownership associated with authentication, user identity management and billing services.
For telco innovation to be successful, the three business layers need to operate and be measured independently, each pursuing the most appropriate innovation strategies, KPIs, processes and priorities. Applying different innovation mixes for their distinct connectivity, service and distribution business layers will enable telcos to succeed in the new basis of competition of choice and flexibility. Key questions telcos need to ask when evaluating innovation investments In which business layers do our digital initiatives operate? Are the right processes and KPIs in place to compete within this/these business layer(s)? Do the KPIs comply with industry best practices for a given layer? (e.g., scale and reliability are not appropriate when experimenting with new offerings at the service layer.) Is the innovation mix optimised for the respective business layers?
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CHAPTER FOUR
Asymmetric business models

As OTT players put increasing pressure on traditional telco profit centers, it is tempting to see them as direct competitors. Yet they dont compete for profits, but for control of the value chain.
Mobile Internet has become an integral part of the digital services and content ecosystem. In that context, mobile operators, Internet companies, handset makers, software vendors and content providers are part of the same value network. As OTT players put increasing pressure on traditional telco profit centers, it is tempting to see them as direct competitors. Yet, OTTs do not compete for telco service revenues; instead, they compete to control key links in the digital value chain, with business models that span consumer electronics, online advertising, software licensing, e-commerce and more. Thus, competition is not symmetrical, because unlike carriers, OTTs do not bear the burden of providing mobile Internet service. Connectivity may be as important to their business model as gas to a car; yet, its the telcos who supply it, not the OTTs themselves. This asymmetry makes it difficult for telcos to protect the profitability of some legacy business models. In economic terms, telco connectivity complements OTT business. A complement is a product that is consumed together with another product (see Chapter 1). Demand for a product
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increases when the price of its complements decrease. For example, gas and cars are complements. Cheaper gas means people drive more, and car manufacturers see their business grow. Similarly, the common interest of OTT players is to drive commoditisation of the telco connectivity business. Affordable mobile broadband means that more smartphones are sold, more ads viewed, more software sold and more ecommerce sites visited. While there is a symbiotic relationship between telcos and OTTs at the connectivity business layer, the nature of asymmetry is different at the telco services layer. Because connectivity costs are paid by the user, OTT players have great flexibility in their business models. OTTs can monetise ads, downloads, analytics or acquisitions, and are thus able to price their services either free (e.g., Viber), close to free (e.g., Whatsapp), or even less-than-free (in the
case of Google sharing app revenues with operators). The vertically integrated, all-in-one telco business model of bundling connectivity and service costs makes it impossible for telcos to compete with free or less-than-free OTT alternatives. Telco core voice and SMS services are suffering collateral damage in the wake of successful OTT strategies, rather than suffering as a result of direct competition. Because of the asymmetry in telco and OTT business models, telcos should avoid investing in head-on competition with OTT services. OTTs don't see telcos as competition, but rather as a complement to their business. More importantly, the telco digital business needs to be measured not by direct revenues, but according to whether it helps to grow and protect core telco business by increasing usage, creating user lock-in and driving subscriber acquisition. Similarly, success of Amazons
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Kindle is not measured by the number of units sold, but by content revenues and the amount of traffic to Amazon e-commerce properties. Instead of copying OTT initiatives, telco innovations should leverage unique advantages, in order to create user value that OTT players cannot match, such as localization, user targeting, privacy controls or MVNO service customization.
Key questions telcos need to ask when evaluating innovation investments How does the asymmetry of business models affect your project? Does the project drive the telco core business or does it attempt to compete with OTT players headon? Does the project incorporate unique aspects of value that OTT players cannot match (e.g., localization, user targeting, privacy controls, or MVNO service customization)? What are the complements to the telco core business (e.g., user identity management API) that if freely given will drive core telco business, attract developers or weaken OTT players?
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CHAPTER FIVE
The true value of innovation and the cost of doing nothing

Traditional financial tools are designed for stable market environments, but fail predictably when applied to innovation under conditions of uncertainty and rapid change, which characterizes todays telecom market.
Traditional financial tools work well when evaluating investments in capital-intensive telecom infrastructure. In such investments, future costs and revenues can be predicted fairly accurately by using traditional financial forecasting tools like discounted cash flow (DCF) or net present value (NPV). Traditional financial tools are designed for stable market environments, but fail predictably when applied to innovation under conditions of uncertainty and rapid change, which characterizes todays telecom market. The reason for failure is that traditional financial tools systematically undervalue innovation by disregarding the costs of doing nothing, as explained in Harvard Business Review article Innovation Killers, How Financial Tools Destroy Your Capacity to Do New Things by Clayton M. Christensen, Stephen P. Kaufman, and Willy C. Shih. There are two costs of doing nothing for telco that escape the attention of traditional financial tools: The risk of non-linear deterioration of the telco business and the missed opportunity to develop new capabilities necessary for the future. Traditional telco financial tools implicitly assume that business is stable and its present state will persist into the future. In other words, if an innovation investment is not made, things will be at least as good as they are today. This is definitely not the case for telcos trying to adapt to the new basis of competition. The commoditization of core telco services and the entry of disruptive OTT players will inevitably result in the decline of the telco business. Therefore, the true value on innovation is not in improving on the status quo, but in preventing future deterioration of the telco business. The second cost of doing nothing is the missed opportunity to develop new capabilities critical for future telco competitiveness. Its a common practice to evaluate investments based on marginal costs and revenues while ignoring sunk and fixed costs. I.e., investments are valued based on their potential to produce valuable goods or services based on current assets. That only makes sense when the market conditions are stable and the current telco assets are expected to retain their competitive value in the future. Lets take the example of Rich Communication Services--enhanced (RCS-e), which leverages expensive IMS infrastructure. Marginal cost analysis makes it an attractive choice for new presence and messaging services designed according to traditional telco service models. However, according to the new basis for competition, the scalability and interoperability offered by IMS are less important than flexibility. Telcos could be better off investing in new, more flexible infrastructure better suited for experimentation with new services, use cases and business models. Due to the changing basis of competition, future success requires new capabilities that telecom operators are missing today. Marginal cost analysis, however, will systematically undervalue investment in creating such new capabilities. Incremental investments into the existing assets, such as network expansion, will always seem more attractive compared to the full costs of creating new competitive capabilities. For example, Blockbuster saw Netflix developing new models for movie delivery. Marginal cost analysis, however, could not justify building new capabilities, and instead Blockbuster continued investing in its current assets, which soon will
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become obsolete. Blockbusters 2002 press release read: "We have not seen a business model that is financially viable in the long term in this arena. Online rental services are 'serving a niche market.' " Netflix didnt have this dilemma, and for it the niche market looked to be an excellent opportunity. The rest is history, as Clayton Christensen explained in his Harvard Business School article on the Trap of Marginal Thinking7. The challenge for telcos isnt that OTT companies outspend them in innovation. Its that marginal cost analysis steers telcos towards investments in capabilities that were relevant in the old basis of competition, rather than toward developing new capabilities relevant for the new basis of competition. Telcos need to consider the costs of doing nothing and invest in innovation well before traditional financial analysis shows attractive returns. They must adopt discovery-driven planning methods suited for the prevailing conditions of high uncertainty. We
will introduce these methods in the following chapter. It is important to see the biases inherent to traditional financial analysis tools. The true value of innovation investment can only be seen when measured against the real costs of doing nothing, including the likely possibility of deteriorating telco business, and missed opportunities to develop new capabilities and competences. Key questions telcos need to ask when evaluating innovation investments How often do you use NPV/DCF financial tools for evaluating investments in telco innovation? Are you investing enough in developing capabilities relevant for the new basis of competition? How would you build new products for the new basis of competition, if you were a startup starting from scratch today?
http://hbswk.hbs.edu/item/7007.html
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CHAPTER SIX
Dealing with uncertainty: Discovery-driven planning

High levels of uncertainty require radically different planning methods. Instead of treating blue-sky assumptions as facts, discovery-based planning systematically converts assumptions into knowledge.
Todays unpredictable mobile environment defies traditional planning methods telcos developed during the golden years of the connectivity business. As we saw in Chapter 5, conventional planning methods assume that companies can reliably predict the future outcome of investments based on past experience. That worked well for infrastructure investments, for example when upgrading from 2G to 3G and now to LTE, where the focus is on managing execution risks. But since the basis of competition changed, telcos face a totally new competitive environment where they lack reliable knowledge about new economics and business models. Competition in the age of ecosystems is shaped by the interaction of a diverse number of players. It is not just uncertain, but fundamentally unpredictable. Often the new players are too small to show up on a telcos competitive radar until its too late. Whatsapp, Viber, Tango, KakaoTalk, and textPlus are just a few examples of the numerous startups disrupting telco services. High levels of uncertainty require radically different planning methods. An alternative was suggested in a 1995 Harvard Business Review paper called Discovery-Driven Planning by Rita Gunther McGrath and Ian C. MacMillan 8. Discovery-driven planning acknowledges that in uncertain market conditions, very little is known and much is assumed. Instead of treating bluesky assumptions as facts, this planning tool systematically converts assumptions into knowledge. This is achieved by proactively testing assumptions with minimal costs and as early as possible in the process, while constantly adjusting the action plan based on the new knowledge gained from the market. In other words, conventional planning methods are optimised for dealing with execution risks, while discovery driven planning is optimised for dealing with market uncertainty. The management tool works according to a Learn, Build, Measure cycle. This approach is also promoted by the Lean Startup movement, which today has become the role model for building a successful startup. The need to deal with uncertainty might be new in telecoms, but is well understood in other business circles. As shown by Amar Bhide in his book, Origin and Evolution of new Business, 93% of companies that became successful abandoned their original strategy. For example, Instagram, a well-known success story, began life as a very different kind of company. In the words of co-founder Mike Krieger9, Instagram was an app that only took 8 weeks to build and ship, but was a result of over a year of work. The project started with an investment of $500K, and the initial idea to build a locationbased HTML5 app. The team has built an HTML5 mobile web app that lets users check into locations, make plans and earn points for a number of social activities. By measuring how people used the app, the team discovered that photo sharing drove usage. Learning from the behaviour of real users, the company refocused
http://hbr.org/1995/07/discovery-driven-planning/
http://www.iitstories.com/2012/04/12/story-of-instagram/
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on photo sharing, and built an iOS app, instead of continuing with HTML5 technology. The company continued to iterate on this buildmeasure-learn cycle, and was eventually acquired by Facebook in April, 2012 for $1B. As of September, 2012, Instagram had reached 100M active users. The Learn, Build, Measure cycle ensures that the decision to allocate significant resources is based on facts, rather than on unproven assumptions treated as facts. Compared to conventional planning methods, the iterative, small-step process of discoverydriven planning may seem counterintuitive. But it makes good sense when dealing with market uncertainty. The fast turn-around process maximizes exposure to upside opportunities (e.g., Instagram photo sharing): the faster you are, the more experiments you can run, and the more chances you have to discover valuable ideas. At the same time, discovery-based planning minimizes the downside risk (the cost of failure) by identifying wrong assumptions early in the process (Instagram location-based check-ins, and use of HTML5 technology). Thus, failing fast and cheap makes perfect sense when the market is uncertain, and the failure is taken as a source of valuable knowledge. Before you rush to say, Yes, we use 'agile development already, consider that discovery-driven planning is not about fast software development.
Instead, it involves systematically dealing with market uncertainty and setting new KPIs to measure business risks, rather than execution risks. With discovery-driven planning, risk can increase the value of innovation. Telcos need to take ownership of their innovation strategies and experiment with multiple initiatives in order to maximize exposure to unexpected opportunities. They must develop new organisational capabilities. This of course does not mean reckless risk-taking, but rather a systematic and disciplined process of converting assumptions into knowledge. As an example, WAC was based on three assumptions: a) the need for operator interoperability in the all-IP environment, b) users valuing web technology and c) developers looking for alternatives to native platforms. Instead of creating long-term commitments based on unproven assumptions, the WAC initiative would be much better of if it was operating based on discovery driven planning, i.e., validating assumptions early in the process by learning from the market and being open to discover new opportunities. Telcos need to clearly distinguish between investments in innovation that aim to improve existing business, and innovation aiming to discover new markets. For targeting existing customers with an existing business model,
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traditional planning methods work nicely. When targeting new customers, or a new business model, the only proven approach is iterative, discovery-driven planning. Telco innovation initiatives need to be measured by the speed of learning and validating assumptions, as well as potential to discover new opportunities. This contrasts conventional planning methods that focus on projections of scale and future cash flows, based on unproven assumptions.
Key questions telcos need to ask when evaluating innovation investments Do you allow projects to become profitable before prioritising for growth? Are you measuring new market innovations by the speed and cost of validating assumptions? Are you sufficiently addressing new opportunities by running many innovation initiatives?
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CHAPTER SEVEN
Ecosystems as a new distribution channel

Ecosystems are a new distribution channel similar to value added resellers. In the case of telcos, ecosystem partners are the resellers that will push telco services, to new users, new usage models and new market niches.
Direct distribution networks made perfect sense when operators competed based on the reliability and scale of a small set of services. Competing on choice and flexibility requires solutions that address thousands of user needs for each walk of life. Moreover, user expectations constantly continually evolve, making it practically impossible for a single company to predict and satisfy a wide spectrum of user needs. In the previous two decades, mobile phone users expected four basic "apps": voice, text, contacts and camera. Now, they expect availability of hundreds of thousands of apps. Companies like Google, Netflix, Facebook, Amazon and even FedEx realize that the only way to compete on choice and flexibility is to create an ecosystem of tens of thousands of partners around their core product. For example, Netflix started as a direct mail DVD rental company and expanded into video streaming services. To compete based on choice and flexibility, Netflix created an ecosystem of device partners and developers around its video streaming service. This ecosystem takes Netflix services into over 800 device types and allows 80,000 Netflix Open API developers to add value by experimenting with new discovery methods and use cases. In effect, ecosystems are a new distribution channel similar to value added resellers. In the case of telcos, ecosystem partners are the resellers that will push telco services, to new users, new usage models and new market niches. The key advantages of this newfound distribution channel are the ability to create solutions for many small user niches customization, as well as engage in experimentation to discover new needs and opportunities. Building an ecosystem amounts to offloading many of the costs and risks of entrepreneurship to value-added resellers. By doing that, the value of the ecosystem as a whole can grow far beyond what a telco could create on its own. In effect, external partners, be it developers or service providers, become investors in the ecosystem, subsidizing the expansion of the telco business. Telco APIs are the key technology enablers of this new distribution channel. The goal of telco API programs is to allow developers to take telco services into new niches and use cases, and scale from hundreds to thousands of partners. Some of these new use cases will result in supplemental telco revenue streams, some will facilitate customer acquisition, while others will subsidise ecosystem creation costs.
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Telco APIs will always be at a disadvantage versus players with global reach, if telco APIs are positioned in direct competition to native platforms or Internet companies.. However, if telcos allow and encourage developers to create locally-relevant differentiation on behalf of their subscribers, their fragmentation disadvantage could transform into the advantage of local presence. APIs need the flexibility to allow developers to experiment with new use cases, and thus discover and satisfy unmet user needs. The nature of this experimentation is such that many developers will fail, but those who succeed will create differentiation and growth for telco services. It is important to note that the same ecosystem economics that work for telco APIs and app developers can be applied to other types of partners and service providers, such as Mobile Virtual Network Operators (MVNO) or machineto-machine (M2M) initiatives. MVNOs can build ecosystems around the distribution business layer. App developers can build ecosystems around the service layer. And M2M companies, meanwhile, can build ecosystems around the connectivity business.
Key questions telcos need to ask when evaluating innovation investments Is your API strategy designed to turn developers into value added resellers? How do you value the ability of developers to experiment in discovering new user cases? Is your API strategy flexible enough to attract a wide spectrum of partners, including mobile and web developers, MVNOs and M2M solution providers?
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CHAPTER EIGHT
Keys to successful telco API strategies

It is common for telcos to see developers and content providers as a source of direct revenues, or even push for redistribution of profits from OTT companies to telcos. These strategies are destined to fail because of fundamental conflicts with developers business models.
For example, Internet business models usually assume free or almost-free distribution: the lastmile bandwidth is paid by the user, and is free to the service provider. Attempts to ask developers pay for the wireless data will not only be faced with natural resistance, but have the potential to render the business models of many mobile and Internet companies unsustainable. Faced with such challenges, developers will quickly find alternatives, as happened with location and authentication, which were once only provided by telcos at a mass scale. To be successful in API initiatives, telcos need to consider developers as value-added resellers, and therefore design their API propositions for win-win outcomes. In other words, the business models of telco APIs need to be aligned with the business models of developers. But what is a developer? The reality is that the developer ecosystem is a complex mosaic of large and small companies, communities and individuals. VisionMobiles developer segmentation model classifies developers into eight categories that differ according to developer motivations and commercial drivers. Some developers are after direct monetisation (e.g. ZeptoLab, the author of popular Cut the Rope game), some are after user reach (e.g. Facebook), and yet others are looking to extend their non-mobile products and services (e.g. Nike, DropBox or FedEx). There is no such thing as an average developer. Telco API business models therefore need to be designed to target one or more specific developer segments. A one size fits all approach to telco API business models can severely limit the available market. Many entrepreneurs, development companies and individual developers operate according to the principles of discovery-driven planning described in Chapter 6. Meanwhile, high barriers to experimentation result from many telco API practices, like up-front payment, extensive legal arrangements, demanding certification requirements or long-term contracts. To reduce friction and help developers discover new user needs and opportunities, telco API business models need to subsidize experimentation and be designed for the ability to fail and retry cheaply. More specifically, if developers are charged based on telco API usage, the app's business model must have a stable, usage-based income stream. This is rarely the case. By allowing free, small-scale usage of the API, telcos permit developers to experiment with multiple business models, including free, until a sustainable, workable business model can be found. Developers should be offered assistance to scale and deepen their business, by using the correct business model polarity, as shown in the next page. Instead of charging developers upfront and creating unnecessary friction to experimentation and API adoption, telcos need to align the business model of the API with those of developers. For example, Facebook and LinkedIn are both social networks. The two, however, are driven by rather different business models. The alignment of API business model with Facebook will mean helping Facebook drive user acquisition and user engagement. The alignment of API business model with LinkedIn will mean helping users make valuable business connections. Most developers face fierce competition in the platform app stores, and are in dire need of differentiation and competitive advantage. Telcos can attract developers by affording them
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access to local audiences, through innovation
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realized by telco APIs in their three business layers: access, services and distribution.
Key questions telcos need to ask when evaluating innovation investments Which developer segments are you targeting with your API strategy? Are the business models of your telco APIs aligned with the target developer segments? I.e. how the target developer segments build a sustainable business. How are you exposing telco assets such as distribution, retailing and voice to help developers cater to new markets and niches?
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CHAPTER NINE
Freeing voice from telephony

Telephony, as a model for human communications, is essentially based in 19th century technology and user needs. Freeing voice from telephony can be achieved by questioning the deeply ingrained assumptions of the telephony communications model, and experimenting to find use cases and business models that work.
Telephony is considered a declining business, despite globally increasing dependence on communications. There are two reasons for that. First, in many markets, telephony has become good enough for most users; i.e., users are not willing to pay significantly more for improvements to voice quality or reliability. This makes telephony a commodity service with little differentiation value beyond price. Second, telephony is a rigid, one-size-fits-all service that does not have the flexibility to cater to thousands of user needs. That makes it less and less competitive with new models of communications, which better suit the new basis of competition: choice and flexibility. While telephony revenues are in stagnation or decline, people are not speaking less. They just attribute less and less value to telephony. Phones used to be the only way to remotely catch up with a friend, engage a sales prospect, get information about a product, or just flirt. Not any more. Today, many everyday communication needs are better served by innovative alternatives that dont fall within the narrow definition of telephony. Telephony, as a model for human communications, is essentially based in 19th century technology and user needs. Significant technological advances made telephony more efficient, accessible and inexpensive, but little was done to challenge the deeply rooted assumptions of this legacy communication model: Dedicated communication links, expensive centralized switching, synchronous communications, dial-talk-hangup cycle, intrusive etiquette (caller decides on the time of the call), and more. Freeing voice from telephony can grow voice traffic by taking voice services into new communication modes and use cases, creating great value to users, telcos and developers alike. Freeing voice from telephony can be achieved by questioning the deeply ingrained assumptions of the telephony communications model, and experimenting to find use cases and business models that work. Many successful OTT companies do just that -- unlocking the value of voice by innovating around all the components of a voice session, as show in the next figure. Notwithstanding the buzz around new OTT services, telcos are still considered the primary providers of voice services. That puts them in an excellent position to transform telephony into a thriving ecosystem of services designed for the new basis of competition: choice and flexibility. For example, using telephony APIs to lock enterprises into voice/data plans. Replicating OTT solutions under the telco roof, or focusing on improving telephony using VoLTE or HD voice will not suffice. Telcos need to create unique value to users by taking voice into diverse sets areas of new cases and contexts such as web telephony, anonymous calling, permission based calls, group calling, voice messaging, dynamic call routing, do-it-yourself IVRs, call referral tracking, and more). Creating healthy developer ecosystems around voice services that are anchored by telecom operators is the best way to achieve this. WebRTC is a technology that promises to bring voice and video into the web browser. At the same time, it offers an excellent opportunity for telcos to innovate by extending telecom services into the open web and freeing voice from closed telecom networks. The focus of WebRTC
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innovation should be not on technology, but on building developer ecosystems for voice services, discovery of new use cases and experimentation with new business models, and not on technology. If telcos wont do this, competitors will.
Key questions telcos need to ask when evaluating innovation investments What voice (not just telephony) use cases can help your enterprise customers to achieve their goals both internally and towards their clients? I.e., How can you offer voice APIs to drive enterprise sales of voice and data plans? How can telco APIs be leveraged to free voice from telephony by challenging telephony assumptions? How can you structure your voice APIs and services to enable developer ecosystems to uncover more use cases?
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CHAPTER TEN
Turning openness into a competitive advantage

Open can mean different things to different people. Standardization and interoperability (a form of openness) were among the key factors that allowed mobile telephony and SMS to scale and achieve ubiquitous cross-carrier capabilities.
As long as telephony and SMS were tightly integrated with telecom networks, interoperability of services between telecom operators meant interoperability of networks. For example, for SMS and MMS to work across operator boundaries, networks of different operators must interoperate at the service layer. The transition to IP made services independent of networks and changed this fundamental assumption. IP has become a universal interoperability layer between transport networks, while interoperability at the service layer took on a totally new meaning. For example, Whatsapp could displace much of SMS and MMS traffic and achieve huge global reach without the need for interoperability at the service layer between different networks. Openness is a fundamental characteristic of multi-sided platforms (see Chapter 1). Such platforms are designed with open APIs to lower barriers to entry and drive acquisition of diverse ranges of partners that produce valuable apps, hardware accessories and other complements to the platform. Successful platforms at the same time are closed (integrated) around core businesses of their owners. In other words, openness is needed to create the ecosystem of complements. Integration or closed-ness is needed to capture value by the ecosystem owners. For example, Apple is open towards app developers, but very closed around its core business of consumer electronics. Google is open to web developers, but closed around their computing infrastructure and search ranking algorithm. The same holds true for companies like Facebook, Amazon, Netflix, Microsoft, and many other ecosystem owners. Clear understanding which parts of the valuechain need to be open, and which closed, is an important source of competitive advantage. Companies that make the mistake of being open around their core business end up surrendering their ability for meaningful differentiation, and are forced to compete on price. For example, all the noble speak about openness did not help Nokia to make Symbian a viable alternative to iOS and Android. This is because Nokia made Symbian open at the level of the core platform, exactly where Nokia as an OEM needed to be integrated (closed). Nokia needed to focus on making Symbian open and attractive to developers, not to other handset makers. Lack of integration around an ecosystem owners core business leads to what Michael Porter calls competition to the best10, or the granddaddy of all strategy mistakes: going down the same path as everybody else, and thinking that somehow you can achieve better results. This is a hard race to win. Every advantage over competitors is bound to be short-lived. Integration around the core business is necessary to deliver unique value, elevate barriers to entry and achieve sustained profitability. For example, telco API initiatives better be focused on creating unique value to the telcos subscribers, thus establishing lock-in and barriers to entry around core telco services.
10
http://hbswk.hbs.edu/item/6737.html
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Key questions telcos need to ask when evaluating innovation investments How can you open up your complements; i.e., how can you reduce friction for ecosystem partners in order to create more value in the ecosystem as a whole? How can you integrate around your core business of voice data and texting in order to extract value from the ecosystem? Which regulations, standards or alliances are forcing you into competition to the best scenarios? Therefore, which innovation efforts are likely to lead only to short-term competitive advantages?
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CHAPTER ELEVEN
Closing thoughts
To succeed, telcos need to learn to play by the rules of the ecosystems.
Creating a next generation telco means looking beyond traditional telco business models in the context of the changing telecom value network. This paper introduces new economic thinking that telcos should use to accelerate their digital strategies, make the right innovation investments and avoid costly mistakes. To succeed, telcos need to learn to play by the rules of the ecosystems described in this paper. Moreover, each operator will need to define their own innovation mix, according to what best suits their local market, assets and financial conditions. Some operators will opt to focus on the utility business, providing price-competitive voice, text and data services (for example, Iliad/Free in France). Others will invest in complementary innovation, to maintain the growth and profitability of their core business (for example, Deutsche Telecom or AT&T). And others, like Smart Philippines, or Telefonica, will aggressively experiment with new business models and markets. In the words of Harvard Business School Professor Clayton Christensen, in his Business Week article, Your Strategy Is Not What You Say It Is11, real strategy is defined by the flow of investment decisions companies make to achieve their goals. Despite all the talk about innovation, today many telcos are still putting most of their money into old-school investments like network expansion and device subsidies. Such investments are only good for driving telco access business. It is difficult to act based on theory, without first collecting as much data as possible. However, data are always about the past, and their meaning becomes clear only when the game is over, as Harvard Business School Professor Clayton Christensen12 frequently says. Telcos cannot afford to wait for data before making safe decisions. The time to act is now.
11 http://www.businessweek.com/articles/2012-0514/message-to-managers-your-strategy-is-not-what-you-sayit-is
12 http://www.niemanlab.org/2012/10/clay-christensen-onthe-news-industry-we-didnt-quite-understand-how-quicklythings-fall-off-the-cliff/
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VisionMobile 2012. Some rights reserved.

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A new basis of competition

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The superiority of ecosystem economics

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Also called computing platforms API - Application Programming Interface

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ambition, but is further behind in terms of its

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The modular telco

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important, the business models of these

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Asymmetric business models

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The true value of innovation and the cost of doing nothing

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Dealing with uncertainty: Discovery-driven planning

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Ecosystems as a new distribution channel

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Keys to successful telco API strategies

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access to local audiences, through innovation

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Freeing voice from telephony

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Turning openness into a competitive advantage

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