After years of delay, third-generation (3G) mobile-phone networks are finally being switched on. How will the reality compare with the original vision?
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THE biggest ever gamble on the introduction of a new technology; an attempt to maintain growth in a maturing industry; or an industrial-policy fiasco? The introduction of “third-generation” (3G) mobile-phone networks around the world is all these things and more. In 2000, at the height of the dotcom boom, mobile operators around the world, but mainly in Europe, paid a total of €109 billion (then $125 billion) for licences to build and operate 3G networks, which offer higher performance and more capacity than existing second-generation (2G) networks. In part, the mobile operators were victims of their own hype. A report that year from the International Telecommunication Union, the industry's standards body, gives a sense of the high hopes for 3G:
The device will function as a phone, a computer, a television, a pager, a videoconferencing centre, a newspaper, a diary and even a credit card...it will support not only voice communications but also real-time video and full-scale multimedia. It will automatically search the internet for relevant news and information on pre-selected subjects, book your next holiday for you online and download a bedtime story for your child, complete with moving pictures. It will even be able to pay for goods when you shop via wireless electronic funds transfer. In short, the new mobile handset will become the single, indispensable “life tool”, carried everywhere by everyone, just like a wallet or purse is today.
Dotcom mania aside, the industry had concluded that 3G networks would make possible new services to provide growth as its core business, voice telephony, matured. As the proportion of people with mobile phones has increased—it now exceeds 85% in much of the rich world—the average revenue per user (ARPU), a key industry metric, has levelled off. This is because the most valuable subscribers were the first to buy mobile phones; later adopters make fewer calls and spend much less. With subscriber numbers reaching saturation, at least in the rich world, the industry began casting around for new sources of growth, and fancy services such as video and internet access seemed the most promising prospects. Hence the appeal of 3G.
Mobile telecoms
Sep 2nd 2004
Mobile telecommunications
Qualcomm pioneered 3G technologies. Motorola publishes a press release on its partnership with Apple. See also Nokia, Vodafone, 3, KTF, SK, Woosh Wireless and the International Telecommunications Union.
Even so, forking out €109 billion for 3G licences—plus roughly the same again between 2001 and 2007 to build the actual networks, according to predictions from iSuppli, a market-research firm—was an enormous gamble, arguably the biggest in business history. But in many cases operators had no choice. Several European countries held auctions for their 3G licences in which operators bid huge sums: in Britain and Germany, for example, operators ended up paying around €8 billion for each 3G licence. Why? Because with their 2G networks filling up, and with no additional 2G capacity on offer from regulators, operators felt compelled to buy 3G licences to ensure scope for future growth. Andrew Cole of A.T. Kearney, a consultancy, remembers when a client who was taking part in the auction received the order to “win the licence no matter what”. The €109 billion was, in effect, a tax on the right to continue to do business. Few firms were brave enough to refuse to pay up.
So the 3G adventure got off to a bad start in Europe by nearly bankrupting the industry. Since 2000 most operators have written down the value of their 3G licences. Some even handed the licences back to the governments from which they bought them, rather than commit themselves to building expensive new 3G networks within strict time limits. (Reselling the licences was forbidden.) The whole episode is now something the industry would rather forget. “The spectrum auction is a nightmare the operators don't want to remember,” says Mr Cole. “I haven't heard it mentioned in a long time.”
Ready, steady, flop!
The pioneering launch of 3G services at the end of 2001 in Japan and South Korea, the world's two most advanced mobile markets, did little to lighten the mood. In both countries, operators were using 3G technologies different from the W-CDMA standard (which is also known as UMTS) being adopted in Europe. An unproven technology, W-CDMA was plagued by teething troubles: base-stations and handsets from different vendors would not work together reliably, and early handsets were bulky and temperamental. Operators postponed the launch of 3G services from 2002 to 2003 and then to 2004, though a handful chose to launch sometimes shaky 3G services earlier.
Yet now, at last, the 3G bandwagon is starting to roll. According to figures from Deutsche Bank, there were 16 commercial 3G networks worldwide at the beginning of the year, and there will be around 60 by the end of the year (see chart 1). Matti Alahuhta, head of strategy at Nokia, the world's largest handset-maker, says the second half of 2004 will be seen as “the starting point for the global acceleration of 3G”. Nokia and other handset-makers have high hopes for the Christmas market. The early, brick-like W-CDMA handsets have given way to much smaller, sleeker models. In Japan and Korea, sales of 3G handsets are booming. Even in America, that wireless laggard, 3G services have been launched in several cities, and the country's largest operators have committed themselves to building 3G networks.
Having swung too far towards pessimism, the industry is now becoming cautiously optimistic about 3G, says Tony Thornley, the president of Qualcomm, the firm that pioneered the technology that underpins all of the various technological flavours of 3G. Qualcomm has announced that it is having trouble meeting demand for W-CDMA radio chips. “As we get very near to seeing these things become a reality, we become more optimistic about what 3G can deliver,” says Peter Bamford of Vodafone, the world's largest mobile operator. So now that it is finally happening, how does the reality of 3G stack up against the original vision?
Less data, more voice
That depends upon whom you ask. Mr Bamford, for example, denies that there has been any downgrading of the original vision. But he is at the most optimistic end of the spectrum, a view reflected in Vodafone's reluctance to write down the value of its 3G licences. Most observers agree that there has been a shift in expectations about how 3G networks will be used, away from video and other data services and towards traditional voice calling.
“Three years ago, everyone was talking about video-telephony,” says Mike Thelander of Signals Research Group, a consultancy. But while video-telephony sounds cool, the evidence from early 3G launches in Japan, South Korea, Britain and Italy is that hardly anybody uses it. Market research suggests that women are particularly reluctant to adopt it, says Mr Cole. Nokia's first mainstream 3G handset, the 7600, does not even support video calling, but nobody seems to mind.
Nor have the high hopes for data services been fulfilled—so far, at least. The idea was to encourage consumers to adopt data services on 2G phones, paving the way for fancier services on 3G phones. But while text-messaging is hugely popular, with over a billion messages sent daily worldwide, other forms of wireless data such as photo messaging, news updates, and music and game downloads have proved much less popular with consumers in most countries—Japan and South Korea are notable exceptions.
Such services “are still embryonic, but are going to be very important,” insists Mr Cole. Today's advanced handsets, he notes, are disrupting many industries simultaneously, including photography, music and gaming. The handset is slowly coming to be seen as “the Swiss Army knife of life services”. But the changes will take years to play out, even though they are happening at breakneck speed. Mr Bamford likens the transformation in mobile phones over the past five years to the evolution of television over the past 40 years, from crude black-and-white to hundreds of digital channels in colour. “To expect customers to snap into this in five minutes is just unrealistic,” he says.
Enthusiasm for data is growing, just not very fast: data services now account for 16.3% of Vodafone's worldwide revenues, for example, up from 15% a year ago. So hopes of a breakthrough in mobile-data usage still persist. At the moment, most optimism surrounds the prospects for music downloads to mobile phones (the most advanced models of which can now double as portable music players). Downloading ringtones is already popular, so downloading entire tracks—something that is only really practical using a 3G network—is the next logical step. Motorola, the world's second-largest handset-maker, has just done a deal with Apple, whose iTunes Music Store dominates the market for legal music downloads. And Nokia has just done a similar deal with LoudEye, another online music store. But it is still too early to tell whether this will turn into a mass market and, if it does, whether it will prove profitable for operators.
Greater emphasis is being placed instead on 3G's ability to deliver cheap voice calls—for as well as being able to support faster data downloads than 2G networks, 3G networks provide vast amounts of voice capacity (typically three times as much as a 2G network) at a lower price (typically a quarter of the cost per minute). As a result, says Bob House, an analyst at Adventis, “operators' sights are now much more firmly trained on displacing voice from fixed networks.”
By offering large bundles, or “buckets” of minutes as part of their monthly tariffs, operators hope to encourage subscribers to use their mobile phones instead of fixed-line phones, and even to “cut the cord” and get rid of their fixed-line phones altogether—something that is already happening, particularly among young people, in some parts of the world. In America, for example, where large bundles are commonplace, subscribers talk on their phones for 700 minutes per month on average, compared with 100 minutes per month in Europe, where call charges are much higher, notes Mark Heath of Analysys, a consultancy. Since 3G networks offer voice capacity at a quarter of the cost of 2G networks, it ought to be possible for operators to offer larger bundles at a lower price per minute and still make money.
But operators must price their bundles carefully, and distinguish between peak-time and off-peak minutes, to avoid getting caught out. Offering generous bundle deals may, for example, cannibalise revenues from their most valuable customers, who will quickly switch to a better deal. Operators also want to avoid having to spend money adding expensive base-stations to the busiest parts of their networks to handle peak load. And, of course, they want to avoid a price war. Although everyone agrees that the advent of 3G will cause the price of voice calls to fall and margins to decline, operators are in no hurry to cut their prices before they have to.
But there are signs that Hutchison 3G, a new operator that has launched 3G services in several European countries under the “3” brand, is already leading the European market down this path, notes Mr Thelander: in some cases, 3 offers voice calls for a fifth of the price of its rivals. Further pressure on pricing, argues João Baptista of Mercer Management Consulting, will come as fixed-line operators combat the flight of voice traffic to mobile with ultra-low-cost telephony services based on “voice over internet protocol” (VOIP) technology. With price cuts, he says, “someone starts, and then you can't stop it.”
It would be a great irony if, after years of hype about data services, the “killer application” for 3G turned out to be boring old voice calls. In truth, however, nobody talks about killer apps any more. This reflects the realisation that 3G allows operators to offer lots of new services—music downloads, cheap voice calls, wireless broadband access to laptops—but that the appeal of these services will vary widely from one group of customers to another.
“Unlike traditional voice service, the adoption of 3G services is very much customer-segment specific,” says Su-Yen Wong of Mercer. The lesson from Japan and South Korea, she says, is that “certain customer segments are interested in video, but others are not—some go for games, others for traffic updates.” The challenge for 3G operators, she says, is to understand the appeal of different services to different types of customer.
The challenge of segmentation
That will require careful market segmentation. “3G gives you more scope, and segmentation broadly becomes more important,” says Mr Bamford. The example of KTF, a South Korean operator, is instructive. It offers a service called Bigi Kiri to 13-18-year-olds (with unlimited text messaging between subscribers). Na, its brand for 18-25-year-old students, includes free cinema tickets and internet access at 68 universities; and Drama, another brand, caters to women. Other operators in South Korea and Japan do similar things.
The question for operators, says Mr Cole, is whether they can successfully appeal to all segments. At the moment, most operators have bland, generic brands that are intended to appeal to as broad a cross-section of the public as possible. But now they must decide whether to create sub-brands, or partner with other firms who are better able to appeal to specific demographic groups. There are already signs of this happening in many parts of the world as companies set themselves up as “mobile virtual network operators” (MVNOs).
Rather than build its own network, an MVNO teams up with an existing operator, and resells access to the operator's mobile network under its own brand. By far the best example is Virgin Mobile, an MVNO that resells airtime on T-Mobile's network in Britain, and Sprint's in America, to teenagers. The appeal for operators is that MVNOs enable them to reach out more effectively to customers. There has recently been a flurry of activity, with established brands including Tesco, 7-Eleven and MTV setting up as MVNOs.
Much of this activity has been prompted by the growing awareness that MVNOs are likely to have an important role in generating enough voice and data traffic to fill up those expensive new 3G networks. Since 3G phones can deliver graphics, music and video, large media firms, such as Disney, are actively investigating becoming MVNOs. Indeed, media giants might be more effective at driving uptake of data services than mobile operators, which are struggling to transform themselves from boring, technology-driven utilities into sexy consumer brands.
That in turn, suggests Mr Baptista, poses a long-term question for 3G operators: are they primarily network operators, or providers of services to consumers? No doubt some operators, with strong brands, will be able to hold their own against the likes of Disney. But second-tier operators might choose to focus on running a wholesale business, selling network capacity to others.
The calculations being made about the prospects for 3G are further complicated by the fact that the technology is still evolving, making new services possible. As things stand, the W-CDMA technology being adopted in much of the world has a maximum data-transfer rate of 384 kilobits per second. The rival 3G technology, called CDMA2000-1xEV-DO, which is already deployed in South Korea, Japan and parts of America, can deliver higher speeds of up to 2.4 megabits per second. In markets (such as Japan and America) where the two technologies compete side by side, W-CDMA operators are anxiously waiting for an upgraded version of the technology, called HSDPA, which will be faster still and will make its debut in Japan next year.
Faster, better, sooner?
Never mind what all those letters stand for: the point is that as its speed and efficiency improves, 3G technology may, in some markets, start to compete with fixed broadband connections. Other, more obscure flavours of 3G technology, such as TDD-CDMA (again, never mind) and CDMA450 can also be used in this way. In New Zealand, Woosh Wireless is offering wireless broadband service using TDD-CDMA, while backers of CDMA450 point to its unusually long range, which makes it ideal for providing broadband in rural areas, as well as telephony. This opens up yet another new market for 3G operators.
3G is evolving in other ways, too. In 2003, SK, South Korea's leading mobile operator, launched a video-on-demand service over its 3G network. Subscribers paid a monthly fee of 20,000 won ($17) for access, and could then have movies beamed to their phones (while commuting, for example) for 1,000 won each. The service proved so popular that the 3G network could not cope, and SK had to raise its prices dramatically, causing demand to collapse. But evidently video does appeal to 3G subscribers, provided it is cheap enough. So SK has now developed a hybrid satellite-cellular system. New handsets, to be launched this month, will have built-in satellite-TV receivers, offering 11 video and 25 audio channels. Meanwhile, both of the main 3G standards are being updated to allow for more efficient video broadcasts to handsets. Again, this could open new markets for 3G operators.
All of this makes it very difficult to answer the question of whether 3G will succeed, for 3G is a range of technologies that makes possible all kinds of new services. In Europe, 3G's main impact may simply be cheaper voice calls; in America, 3G may have most appeal to road warriors who want broadband access wherever they are; in the developing world, 3G could help to extend telephony and internet access into rural areas; and in South Korea and Japan, 3G might even—shock, horror—live up to the original lofty vision for the technology. The switching on of 3G networks around the world is not the end of the saga; the story continues to unfold.
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