Telecom investors: The 21st century’s biggest chumps?

Sure the new communications technologies of the 21st century are breathtaking—the iPhones, the Wi-Fi hotspots, the Xooms, the Skype video chats and so on—but that’s only the half of the industry’s magic. Since 2000, Americans have gained the power to communicate in ever more ways while somehow paying less to do it.  The nation’s telecom tab is down 22%, in inflation-adjusted dollars.

And yet over the same decade, the expansion in consumers’ communication power was unprecedented.  Two major telecom services that were largely used by the wealthy in the 20th century have spread to the masses. Cell phone use tripled between 2000 and 2010; now virtually every adult has one. And the number of high-speed residential Internet connections jumped from 2 million to 74 million. All this happened as the nation’s total telecom bill shrank.

How was that possible?

Thank digital technology, fierce competition—and investors willing to build networks at an economic loss.  When Craig Moffett of Bernstein Research recently tried to add up the economic value produced between 2000 to 2010 by AT&T (T), Comcast (CMCSA), Verizon (VZ), Echostar (SATS), and the like—the total he came to was horrifying. So far in the 21st century America’s telecom networks have destroyed nearly $200 billion.  Every single type of network—cable, cellular, satellite, take your pick—has destroyed wealth for its investors.

Why the 21st century has shaped up so differently than the last? To answer that question I tried to find the pithiest explanations from 21st century telecom executives. Here are my nominees for the three best. Together they tell a story sure to delight consumers—and petrify investors.

No. 1: “Internet protocol networks are like Pac Man. Eventually they will eat everything.” (Hossein Eslambolchi, AT&T’s chief technology officer, 2003)

At the start of the 21st century, the long distance business had never been bigger, taking in a record $109 billion in 2000.  The number of local phone lines increased too, as it had every year since the Great Depression.  AT&T and the local Bells remained fiercely proud of their intelligent phone network. What threat did the Internet, limited as it was to blindly moving generic data packets from place to place, pose to telecom’s titan?

By 2003, after three years of declines, Eslambolchi spit out the hard truth.  Ma Bell’s top techie was saying that not only did Internet-style networks pose a threat to AT&T’s old network, but that networks like the Internet were so superior that they would take over all types of communication.

Though blasphemy at the time, eight years later it’s clear that Eslambolchi was dead on. Telecom in the 20th century had been dominated by expensive, custom-built communications networks meant for a single purpose—radio networks to carry radio shows, phone networks to carry phone calls, cable TV networks to carry TV channels and so on. As Eslambolchi predicted, those days are over.

In a digital world, all communications networks need to do only one thing—quickly move digital bits from one place to another. Whether the people using the network reassemble those bits back into phone calls, TV shows, web pages or some brand new app is not something the network needs to concern itself with. (Check out this free MIT lecture, starting at about minute 30, for a great technical explanation.)

Eslambolchi’s insight: if the key to running a telecom network is simply moving bits cheaply, then cheap, generic networks like the Internet will always win. Networks designed to cleverly deliver a single digital app—a phone call, a cable TV channel—will eventually lose.

No. 2:  “If a customer likes it, then it doesn’t matter what it does to your economics — it’s going to happen.”    (Jack Cassidy, CEO of Cincinnati Bell, 2008)

Cheap, dumb networks spell danger for an entire industry built on charging for access to scarce communications resource, and that further built its pricing models based on charging for applications: one price for phone calls, a different price for text messages, and another price for emails and data.

Back in 2008, the big cell carriers all blocked their customers’ phones from accessing Wi-Fi networks, which are almost always cheaper and faster than cellular networks.  They did so because Wi-Fi is also free, or if paid, generally not controlled by the carrier, which, from the carrier’s standpoint, was a bad thing. The best solution the oligarchy of cell carriers could come up with just to ban the technology. Yet by contrast Jack Cassidy, the CEO of Cincinnati Bell, owned up to the power of Wi-Fi and decided against continuing to fight a long losing battle. He started Wi-Fi phone trials in 2007.  The rest of the industry soon caved and followed suit.

In fact, true to Cassidy’s “It’s going to happen” dictum, today all major smartphones not only speak Wi-Fi but access all sorts of outside “apps” that carriers once also banned, for fear of loosening their grips on consumers.

No. 3: “Anyone who relies on the fact that they own a scarce distribution resource is going to face ten years of turmoil.” (Paul Sagan, chief executive of Akamai, 2007)

In so many ways, the beginning of the 21st century neatly marks the dawn of a new age in telecom. The businesses that defined 20th century telecommunications, local and long phone calls, peaked in 2000 and began a long decline.  The 20th century, even the late 20th century, was dominated by low capacity analog networks. (Most cell phones in 1999 were still analog.) Naturally, telecom networks in the 21st century are digital.

The 20th century’s single-purpose networks have given way to networks able to handle thousands of apps. Networks tightly controlled by their corporate owners have been replaced by networks controlled by their users. And finally there’s this: in the 20th century, owning a company that moved information was a great way to make a fortune; in the 21st century it’s become a great way to lose one.

Consider the great fortunes of the 20th century: The Hearsts and Pulitzer made their riches on newsprint. John Kluge, who was briefly America’s richest man, built his wealth with local TV stations. AT&T became a heavyweight by laying down a long distance network. In all of these cases, it was distribution that was scarce, and therefore valuable.

The point of Sagan’s statement is this: All of that is no longer so. In the 21st the communications networks are digital, dirt-cheap and multi-purpose — modern miracles. But they’re also ubiquitous and therefore just not very profitable to own, or get rich from. Bad for the billionaires, good for the rest of us.