Crisis-hit European telecom sector needs a reboot

During the summer months, when Europeans work on their global reputation for laziness and unproductivity, the bosses of the continent’s big telecom companies retreat to the Amalfi coast or the south of France or perhaps to some opulent, solar-powered log cabin in Scandinavia, where they keep a lidded eye on emails between energetic bouts of water-skiing or similarly vigorous pursuits that befit the health-obsessed, twenty-first-century CEO. But the companies they temporarily leave behind have seen much better days.

After signing just about everyone up to mobile phone and broadband services, telecom operators have reached the end of one growth story without finding another. Prices continue to fall in the region’s supercompetitive markets, and regulators are largely hostile to consolidation. National laws force big telco groups such as Vodafone to maintain country-specific systems for tiny markets when a core network for the continent would be far more economical. That stops them from achieving the scale of Chinese or US peers, they complain.

A rush to embrace all-you-can-eat tariffs also means revenues do not grow with usage, even if costs do. It’s a problem that extends beyond European shores. “One thing I would say is the telco industry historically has had these all-you-can-eat business models and I think the world is moving more toward consumption-based business models versus all-you-can-eat business models and so we’re going to have to adapt,” said Jeremy Legg, the chief technology officer of AT&T in the US, at a recent European event.

But adaptation would be hard and risky. Data traffic growth has been slowing, and William Webb, an independent analyst, expects the curve to flatten by 2027. With improvements in video-compression technologies, traffic could even decline in the future, he thinks. Telcos that charge by the gigabyte would be in trouble.

Don’t call us utilities

The sense of gloom can be exaggerated. The success of Amazon, Google, Microsoft and their ilk has made the Internet ubiquitous in every walk of life. Telcos, as the gateways to that Internet, have become even more critical than they already were. Average consumers are about as likely to give up telecom services as they are to abandon electricity or gas. That guarantees telcos a steady stream of revenues. Few other companies have such certainty.

Yet a comparison with similarly critical utilities, such as water and energy providers, carries negative connotations for telco bosses along with their shareholders and suppliers. Devoid of growth, many utilities are in poor health and struggle to fund improvements. Telcos, by contrast, have splurged billions on higher-speed network infrastructure and the spectrum to provide services.

In 2022, return on capital employed (ROCE) for European operators fell below the weighted average cost of capital for the first time in years, according to data from the European Telecommunications Network Operators (ETNO) association, a lobby group for the industry. Commenting on that development in a report, Deloitte last year warned of a risk that “the gradual decline in the industry’s return on invested capital could soon go into free fall.” The core problem it saw was that “overcapacity makes connectivity a commodity,” said Deloitte.

All this would seem to bode catastrophe for capacity suppliers such as Ericsson and Nokia. Each year, the Nordic vendors pump about $9.5 billion into research and development. Most of that goes into network technologies, mainly mobile. The payoff comes when telcos rip out old technologies and upgrade to the newest generation, a refresh cycle that has happened roughly once a decade, albeit only for a few generations. There are now multiple signs this upgrade cycle is broken midway through the rollout of 5G.

For starters, the ROCE, overcapacity and traffic developments spotted by Deloitte, Webb and others have coincided with industry-wide cuts to capital expenditure. Spending by Europe’s “big five” (Deutsche Telekom, Orange, Telecom Italia, Telefónica and Vodafone) fell from more than $49 billion in 2022 to about $43.1 billion last year, at today’s exchange rates. This and a parallel decline in North America, blamed on earlier telco stockpiling, have torn into the revenues of both Ericsson and Nokia, which have responded by slashing thousands of jobs. More cuts are planned.

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