Friday, June 10, 2011

Telco Woes Continue: "Voice Will Be Free"

Unlike my current unease with the financial sector - which I view as more of a tactical opinion - I have not been a fan of the large telecommunications companies for many years, despite their generous dividend yields.

My view point on the sector was originally established almost 11 years ago, after attending a talk by John Chambers, CEO of Cisco. At the time, Mr. Chambers announced that "Voice will be free."

Chambers was referring to the inexorable decline in the costs of making telephone calls the the consumer.

Subsequent events have proven him right. Most wireless plans, for example, offer free long-distance calls during the evening and weekends. You can now make international calls on Skype for a fraction of what a traditional carrier would cost.

The problem that most telcos face is that a large portion of their profits come from the traditional wireline business.

For example, according to Bernstein analyst Craig Moffett, while only about17% of the revenue at AT&T comes from residential wireline, about 40% of AT&T's EBITDA came from the same source.

The same is roughly true at Verizon; 21% of Verizon's revenue, but 57% of EBITDA, comes from residential wireline.

Why is this a problem? Well, the wireline business is sinking like a stone. According to Moffett, residential access lines have cumulatively declined by 53% since the end of 2000, or around the time that I heard John Chambers's pronouncement.

In 2005, 7% of U.S. households had "cut the cord", and did not have a wireline phone in their home; today, just 5 years later, this figure has reached of 27% households in the U.S.

So how are the telcos earning their money? Well, one way has been charging for data transfer, or texting. And now this is under attack, as yesterday's Wall Street Journal pointed out:

Text traffic will come under more pressure in the months ahead. This week, Apple Inc. showed off an application that will allow iPhone and iPad owners to bypass carriers and send text messages over the Internet to other people with Apple devices.

Read more:

The article goes on to note that numerous other servers are finding ways to offer consumers faster and cheaper ways to communicate with their cellphones.

In short, while I might be worried about the financial sector in the short term, I think that the secular decline for large telecommunications in this country is firmly in place.