Profits full of data: New markets for mobile networks

The telecommunications sector in South Africa is among the continent’s most developed. Telkom, the country’s former monopoly and fixed-line incumbent, is Africa’s largest telecommunications operator, competing alongside a number of heavyweight home-grown mobile providers. As in most sophisticated markets, the sector tends toward encouraging data-heavy services. This is seen in the growing incentives to shift from voice to data services, increasing smartphone usage, expanding localised content, and adding both private and public sector capacities to lay the groundwork for fourth-generation (4G) and long-term evolution (LTE) networks.

BY THE NUMBERS: As of the third quarter of 2011, there were approximately 57m active mobile subscriptions, and with 20% of subscribers holding more than one SIM card, the mobile penetration rate stands above 100%. This compares with an overall fixed-line subscriber base of roughly 4m users, a rate that has been on a slow but steady decline in recent years.

Unsurprisingly for a country that grapples with a significant income disparity, while the overall penetration rate is high, the rate of mobile ownership varies significantly depending on age and socioeconomic status. A 2011 study by the market research firm Analytix Business Intelligence found that 49% of males and 63% of females in the poorest market segments had used a cellular phone, whether or not they owned one, compared with usage by 87% of males and 89% of females in the wealthiest categories. The high-end segment is crowded with customers who own multiple iPhones and Blackberries, and lower-end users switch between SIM cards to take advantage of temporary promotional tariffs.

While mobile access rates may vary depending on income, usage levels among South African youth are far more comparable. According to the above study, 71% of South Africans ages 15-19 had owned, rented or used a mobile phone. A 2009 survey focusing on the slightly older segment of students at the University of Cape Town found that while 23% of respondents did not own a cell phone, 96% reported using one on a daily basis. “The fact that some students do not own a phone does not seem to create a divide or automatically lead to exclusion from the possibilities of mobile internet access,” the report stated.

LEGACY STRUCTURE: The South African telecoms sector is fairly open. Legacy operator Telkom, which dominates the fixed-line segment, was stripped of most of its monopolies, and spent the past decade dealing with an anti-competition court case raised against it. More recently, the company has queried the need to further liberalise parts of the fixed-line sector, such as local loop unbundling.

Telkom, with shares on the Johannesburg Stock Exchange (JSE), is almost 50% government owned. Privatisation began in 1997 when US firm SBC Communications and Telekom Malaysia took a 30% stake in the South African giant. A five-year monopoly was granted in exchange for an obligation to modernise the fixed-line network and expand into underserved areas. In 2005, a second operator, Neotel, of the Indian conglomerate, Tata Group, was licensed and began working on fibre broadband connections.

MOBILE DIVIDE: Two domestic providers that also boast a sizeable regional presence dominate South Africa’s mobile market. Vodacom and MTN hold 47.7% and 35.5% of total mobile subscriptions, respectively, according to a 2010 market study by Huawei Technologies of China. Telkom once held a 50% stake in Vodacom, but it has sold off its shares in multiple sales in recent years as a result of the antitrust cases against it, resulting in losses of the former monopoly’s revenues. A third licensee, Cell C, entered the fray in 2001, and the company has steadily increased its market share to 16.3%, the Huawei study reports. The fourth mobile provider, 8ta, a subsidiary of Telkom launched in 2010, declared a 0.4% market share.

Vodacom, the first-to-market provider, is majority owned by the UK’s Vodafone, and born of a joint venture between that company and the South African government, whose stake, controlled by Telkom, was later divested. Shares in the company trade on the JSE, though Vodafone retains a majority stake. The company has expanded into other African countries, including Tanzania, the Democratic Republic of Congo, Mozambique and Lesotho. MTN, another homegrown South African firm, is one of the continent’s most visible telecoms companies, providing access to 94.5% of the country’s population and extending its network services throughout sub-Saharan Africa and the Middle East. Cell-C is 75% owned by Saudi Oger, an international telecommunications holdings firm. The company now has what is arguably the fastest network, in part because the infrastructure was recently built and Cell-C has fewer customers than its two bigger rivals. 8ta, which launched in the autumn of 2010, is a play on a greeting in an indigenous language and is pronounced “heita”.

REGULATION: The Independent Communications Authority of South African (ICASA) is the regulating body of the telecommunications sector. ICASA’s strategic objectives from 2011 to 2014 include: increasing blacks’ participation in the sector; facilitating additional broadband capacity and services; optimising the radio-frequency spectrum to support the greatest number of services; promoting consumer protection and accessibility for disabled users; supporting access to digital platforms for public and community broadcasting; ensuring regulatory compliance; strengthening and modernising its own bureaucracy; and fostering competition. There is currently a survey under way to evaluate the conditions of black participation in the sector. Similar to most economic regulating authorities in the country, ICASA intends to establish guidelines by 2014 for promoting greater inclusion of ethnic groups that were historically excluded from the sector.

General governing policy for the telecoms sector is set by the cabinet-level Department of Communications. At times this has caused bureaucratic complications, as occurred in early 2012 when ICASA withdrew a draft paper on spectrum distribution that had pre-empted a policy statement expected by the Department of Communications.

MOBILE MARKET: South Africa’s mobile sector grew sizeably in recent years. Subscriptions continue to climb, with penetration surpassing 100% by the end of 2010; and the market’s compound annual growth rate was 6.4% from 2006-10. The two regional homegrown heavyweights, Vodacom and MTN, also showed impressive expansion with average revenue per unit of $22.88 and $16.32, respectively.

As the market matures, operators look for new sources of revenue without undermining margins. “Network operators are finding that mobile growth is slowing, and at the same time they are under pressure from the regulator to lower tariffs,” said Richard Hurst, a telecommunications analyst for Ovum, a UK-based market research firm. “Operators are being forced to be much more creative to be sustainable.”

Regulatory pressure, following on public discontent with the high cost of services, has helped reduce prices. Currently, South Africa ranks 30th out of 46 African countries in terms of overall mobile pricing. Mobile service rates in South Africa were once comparable with those in countries such as Kenya, Mauritius, Egypt, and neighbouring Namibia, but today mobile service costs in those countries are well below even the lowest rates in South Africa. The government’s efforts to redress high costs are exemplified in the October 2010 regulation that mandated lower prices for call-termination rates. Prior to the regulation, the fee was close to R2 ($0.25), said Zaid Gardner, an attorney with the law firm ENS and a specialist in telecommunications and technology law. The regulation sets charges to decline in stages to R0.40 ($0.05) by March 2013, although this rate will still remain above the OECD average.

To replace lost revenue streams, the telecoms companies are looking to data services as an area of growth. Egypt and Kenya are close contenders, but at 10% South Africa has the highest 3G penetration rate of any African country, according to a study by Balancing Act, a consultancy and research firm specialising in African telecommunications and media.

“Subscriber growth has been declining, and that trend is not going to be reversing any time soon,” Gardner said. “The companies will have to introduce business models in which the core service is focused on data, and particularly in a business context.”

This can be seen in the increasing adoption of smartphones, which consume larger amounts of data. According to a 2011 Google survey, “Our Mobile Planet,” South Africa’s smartphone penetration rate is 15%, and highest among those aged 18 to 34. “The future is data, not voice, and small players, if they play their cards right, can become major players over time to take on the major mobile operators,” Andrew Shaw, CEO of Broadband Infraco told OBG.

The double-digit rate of smartphone ownership is unusually high for Africa. On average, smartphone penetration ranges between 3% and 5% for the continent. Another 20% to 30% utilise feature-rich phones, which typically range in price from $20 to $50 and can handle a number of basic tasks beyond calls and text messaging, such as simple mobile-banking applications. The rest of the continent’s subscribers use basic phones that cost $30 or less.

The higher rate of smartphone ownership in South Africa bodes well for handset sales, and, more importantly, it also opens up a raft of opportunities for increased data consumption. A recent index from US-based networking firm Cisco forecasts a 49-fold rise in mobile data usage by 2016. This jump in usage is based partially on expectations of cheaper smartphones – which are expected to be the main devices the majority of Africans will use to access the internet in the foreseeable future since personal computers remain beyond the financial reach of most.

Affordable smartphones are crucial for ensuring a steady increase in data consumption. Handsets from Nokia, Huawei and Kyocera offering full operating system-level interfaces were expected to hit the market in early 2012. Assuming the devices are affordable, these low-end smartphones will be instrumental in guiding the industry’s incentives for innovation and expansion in mobile data services.

LOCAL CONTENT: Increased data consumption creates a host of positive externalities for the local telecoms sector, particularly in content development. Developers of applications that use a text messaging platform typically get less than 30% revenue share from their products, as revenue sharing in Africa tends to favour network operators. However, as Android and Apple’s iOS – two operating systems that allow developers a greater share of revenue – become increasingly popular on the continent, local entrepreneurs will be able to raise the commercial viability of their operations. At the same time, content developers continue to be in high demand as demonstrated by the rapid uptake of services such as mobile banking, sports news and money transfer.

NETWORK UPGRADES: As usage increases and network congestion becomes an issue, the building of next-generation networks will be an important facilitator of growth. LTE, or 4G, networks are considered the next step, and in 2012 South Africa is expected to have a spectrum licensing across the 800 Mhz and 2.6 Ghz bands. However, the withdrawal of ICASA’s draft proposal in late March 2012, following criticism from mobile operators, has left the actual start date uncertain (see analysis).

“LTE is not just out-of-the-box stuff,” Gardner said. “In my mind, this type of network expansion can only be executed profitably by the established players in the sector whose preparations are secure and well advanced.” Indeed South Africa’s biggest telecommunications operators are all preparing themselves for future LTE service provision. According to ICASA’s suspended proposal, licences will be awarded based on the strength of business and technology plans, as well as network and innovation capacities, indicating that the move will indeed foster the desired competition in the sector.

FIXED LINE: As one of the few remaining major public enterprises, Telkom has a lengthy history in South Africa, and over several decades, it has built itself into a formidable operator in the fixed-line segment. However, this has not saved it from criticism of anti-competitive practices and poor strategic decisions.

In 2002, a group of Telkom’s competitors lodged a complaint with the Competition Commission against the telecommunications giant. Accusations targeted the anti-competitive practices of the former monopoly, including its alleged manipulation of network access prices to downstream competition. Plaintiffs asked the Competition Tribunal to issue a punitive fine against Telkom of R3.5bn ($428.4m), an amount that is more than double the firm’s 2011 profits and nearly a third of its market capitalisation. Such a move could have serious ramifications for the firm, including bankruptcy. At the time of press, the case, which addresses issues of access and competition relevant other economic sectors, had yet to be resolved.

Telekom denies any previous wrongdoing and argues that it no longer uses the business practices in question. To expedite a conclusion, however, the company offered to pay a settlement sum of R20.5m ($2.5m), or just 0.46% of the proposed fine. Those in favour of the larger sum argue that a hefty fine would serve as a deterrent for future abuses in other industries. However, the proposed penalty could have serious consequences for the economy as a whole. A break-up of Telkom would incur a loss of approximately 27,000 jobs, a sobering consideration for a country with a major unemployment problem. The government’s stake in the firm is also an important factor since it owns 39.8% of Telkom, and the Public Investment Corporation, which comes under the Ministry of Finance and is responsible for investing public assets, owns another 10.9%. The losses that the government would incur could in turn translate into controversial tax increases or budget cuts.

STILL GROWING: Despite the challenges, Telkom has managed to build an impressive infrastructural network and an enviable range of assets, as well as create a basis for significant expansion abroad. In recent years the company has struggled due to increasing competition from the mobile segment, a new broadband operator and evermore liberalised regulations. In the first half of its fiscal year 2011, the company reported a 36% drop in profit. Headline earnings per share fell to R1.92 ($0.23) from R2.97 ($0.36) in the same period of the previous year.

The second fixed-line operator, Neotel, has worked hard to build a national fibre broadband network in recent years. It was expected that local-loop unbundling would follow the licensing of competition for Telkom, but that has yet to happen. In the interim, Neotel has negotiated a usage agreement with Telkom to access “last-mile” connections, with the company focusing mainly on business customers to date, according to ENS’s Gardner.

SHARING THE PIE: Accessibility to fixed-line telecommunications is an important indicator of an economy’s strength and its ability to innovate and grow. This is especially true for countries like South Africa where the growth curve for market expansion and industrial development is steep. However, liberalisation in the sector has progressed at a rather uneven pace.

South African policy makers admit the need for a fuller opening of the fixed-line sector through local-loop unbundling, and the Department of Communications mandated that such restructuring be completed by 2011. However, by November of that year, an ICASA procedural framework for implementing the change made it clear that the government would take a phased approach over the course of several years. Specific deadlines are still undetermined; and the organisation’s current strategy for conducting a market-impact study and receiving comments from stakeholders prior to setting regulations indicates that unbundling could be another three to five years off, Gardner said. The communications minister, Dina Pule, stated in early 2012 that the ministry would not impose a timeline on ICASA.

Unbundling the local loop would expose Telkom to further competition and perhaps drive down tariffs. Telkom has countered that there is no immediate rationale for unbundling in South Africa, and the company is expected to mount a court challenge, which could squash or delay the process’ implementation.

“This has been a long time coming, and I do not foresee it happening soon,” said Craig Venter, the chief executive of the local telecommunications, media and technology firm Altech. “When it happens, consumers and businesses in South Africa will see an era where service providers actually have to compete, mainly on the quality of service delivery. This will drive competition and innovation of products, which will ultimately benefit the economy.”

For Gardner, the question is one of finding the right balance, but also empowering the regulator. “ICASA is trying to do the right thing by liberalising the sector, but unfortunately it does not have sufficient capacity or resources,” he said. “This is definitely a source of much frustration and has led to a number of bottlenecks in the regulatory process.”

OUTLOOK: South Africa is not the only country experiencing the strain of new technologies being obstructed by entrenched bureaucracies. Such growing pains are common among the countries that today demonstrate the highest growth potential. As the country clamours for better and faster services at cheaper prices, the debate over how to achieve these goals and meet development needs will remain a fixture in the public discussion in 2012 and beyond.