The playbook for cable giants and wireless carriers has been relatively simple for years. These companies offer services and then upsell to the latest greatest thing. How about that HBO bundle? If you have 3G you must have 4G---of course you need a data plan.
The business is a game of ARPU (average revenue per user) and as long as it goes up telecom related companies and their shareholders are happy.
Just this week we received the following comments from a Barclays Capital investment conference.
AT&T John Stankey, CEO of AT&T Business Solutions, said:
We want to start the process of migrating folks aggressively out of 2G and into more advanced handsets to contribute to ARPU growth and give them a better experience and more capabilities.
Comcast CFO Mike Angelakis said:
Our ARPU has gone up quite nicely over the last couple of years, and now we have about 23% of our customer base taking a higher speed service than sort of our core flagship service.
The elephant in the customer base, however, may be poverty. What happens when there's no more revenue to squeeze from existing users?
Bernstein Research is asking that question and the answers are a bit troubling. Most folks don't think poverty and telecom go together. The reality is that incomes are shrinking and telecom and pay TV bills keep going up.
Craig Moffett, an analyst at Bernstein, wrote in a research note:
A central theme of our research about pay TV and telecommunications for the past two years has been the growing problem of poverty, and the inherent mismatch between the expectations of media and telecom investors for rising prices and penetration on the one hand, and the lack of means among lower-income consumers on the other. Projections for smartphone penetration, broadband adoption, and pay TV prices must take account of affordability.
If affordability matters more how will companies like Comcast, Verizon, AT&T and Cablevision grow revenue?
Moffett noted that 44 million Americans are below the poverty line and 50 million are on food stamps. "Considerations of pricing power in telecom and media industries have traditionally been about competition, not affordability. But simple affordability may emerge as a critical factor," said Moffett. "Real income growth in the United States has been negative during the last five years."
Bernstein's early warning is clear. The bottom two quintiles of income in the U.S. have no headroom after paying for food, shelter, transportation and healthcare. Where will the money come from for fancy smartphones and 1,000 cable channels?
Moffett argued that the impact of poverty is already being seen. Broadband adoption has plateaued around 64 percent. Affordability is cited as the biggest hurdle for the remainder of non-broadband households. Moffett added:
The bull case for the telecom sector rests on the notion of a rising tide of smartphone adoption that will lift all boats. For this thesis to work, operators will need to extract additional revenue from lower-income Americans. And yet it isn't clear that there's any revenue left to extract. Today, the fastest growing segment in the U.S. wireless market is not smartphones… it is government-subsidized wireless service for the poor. The bottom end of the market is trading down as quickly as the top end is trading up.
Today all is well because smartphones have enough room to grow as a percentage of mobile devices. However, once the smartphone market becomes saturated this ARPU playbook is going to look tired in a hurry.
What's the fallout?
- Pay TV will see the biggest problem as alternatives like Netflix become good enough. "We believe that cord cutting will not be a technological phenomenon---it will be an economic one," said Moffett.
- On the telecom side, prepaid providers could ultimately rule. In fact, they are already providing more than two-thirds of gross wireless additions. Sprint, which has doubled down on prepaid via Boost and Virgin Mobile, could be a winner.