Structural Separation: Not Just For Marriages Anymore

Liberal MP and tech critic Marc Garneau really kicked opened a can of worms a few weeks ago when he hosted an online chat to discuss the digital issues Canadians are concerned about during this election. Garneau, chatting with University of Ottawa professor Michael Geist and Open Media’s Steve Anderson, made a number of promises during the hour-long chat (you can read the transcript here).

Perhaps the most important – definitely the most surprising – was his statement that the Liberals support functional separation of telecommunications companies. In plain English, that means they are in favour of effectively splitting companies such as Bell and Rogers into two units: one side would manage the phone and internet networks owned by the company while the other would sell associated services to customers.

Many telecom companies will argue they already have this sort of separation, although they often willfully confuse it with simple accounting separation – where different units are tracked separately –  so there’s no real point to it. However, functional separation usually requires separate staff in each division and is often the first step toward operational or structural separation, which are more severe. Full-on structural separation usually means the network-management unit must be spun off into its own separate company that is not owned by the parent. So Bell or Rogers, for example, could technically lose ownership of their networks if Garneau or other supporters wanted to seriously move down this path.

The idea behind splitting up companies in this way is simple. The separate network unit sells fair and equitable access to that network to all comers, including small independent internet service providers as well as the parent company’s own retail ISP division. This way, everyone has access to the same network and can compete on things like prices, speeds, monthly usage limits and so on. Big companies such as Bell and Rogers thus lose their network-owning advantage and anti-consumer measures such as throttling and usage-based billing are unlikely to happen. If one ISP were to implement low usage caps, for example, customers could have the choice of several other companies that offer more generous limits. That differs from the current situation in Canada because big ISPs usually move in lockstep with one another and force their practices onto smaller ISPs as well.

As the International Telecommunications Union states, separation is usually only necessary when a country has difficulty attaining a competitive telecom market through other means. I wrote about this topic and how it might apply to Canada two years ago in a story that predicted what’s happening now. With evidence – including stats from the OECD and the World Economic Forum – mounting that Canada’s telecom markets are indeed uncompetitive and with the continuing souring of relations between network owners and the small ISPs who need them to survive, it was inevitable that talk of separation would follow.

But are the Liberals serious? Garneau’s comments struck me as throw-away pandering to an already partisan online crowd, given that it was really the first time the Liberals had suggested the idea of separation. It certainly isn’t in the party’s published platform. To be honest, I’m not sure Garneau knows what he’s talking about or that he has thought about the issue at any great length. I’d love to hear him questioned more on it.

Tony Clement, the current Conservative Industry Minister, lambasted Garneau on his comments, telling the Wire Report that it’s “completely unrealistic” for the Liberals to support functional separation. More tellingly, he said “the whole industry is going to convergence, not splitting off,” which seems a pretty clear indication that separation is nowhere near being on Clement’s and the Conservatives’ agenda.

That’s really disappointing because it shows Clement doesn’t understand the fundamentals of the situation either. The telecom industry is indeed converging, which is the whole point of separation – it converges networks more than it splits them off, which is a cheaper and more efficient way of doing business and getting better services. Even telecom companies themselves are coming to understand this – it’s why Bell and Telus jointly built a cellphone network and it’s why the top executives of several large telecom firms in Europe are voluntarily suggesting the idea of structural separation. Clement has made several poignant comments in the media over the past few months that he understands there are deep problems in Canada’s telecom market, yet he seems clueless as to how to fix them.

Separation would indeed be the closest thing to a silver bullet for solving Canada’s telecom woes. The problem here, which hasn’t really been encountered in any other country where separation has been done, is that it would be more complicated to do. Most other countries have simply split up their big phone incumbent – if this were to happen in Canada, it would also have to be done to the cable companies (in the interest of fairness).

Catherine Middleton, the Canada Research Chair in Communications (not the royal bride-to-be), has just released a report studying the possibility of separation in Canada. In it, she argues that getting separation with phone and cable companies would be tough to do and take a long time, so much so that “by the time it was implemented, it is not clear how many independent ISPs will remain to benefit from this change to the wholesale regime.”

Indeed, that’s why separation – although a great ideal – is not something I’ve harped on much. The much easier thing to do, which is something I’ve been incessant about, is to lift foreign ownership restrictions so that deep-pocketed international players can come in and compete. That, coupled with good and strong regulation (which is another topic for another day), would probably suffice in giving Canada a competitive telecom market.

With that said, a Canada with structurally separated phone and cable companies – and without foreign-ownership restrictions – is a telecom utopia we can only dare to dream of. Canada wouldn’t just benefit from the enhanced competitiveness that separation brings in, it would get it two-fold by having two different separate network companies competing against each other. Under this scenario, new ISPs might actually start up, as opposed to existing ones continually worrying about how they’re going to pay their bills from month to month. Canada could actually become one of the most competitive telecom markets in the world.

Such moves, however, would take strong, visionary leadership, not to mention a majority government. Unfortunately, those things are currently in short supply.

Digital Strategy Is Government’s Phantom Menace

“Me’sa so happy to get 5-megabit broadband!”

The year was 1999 and nerds around the world were abuzz for something they had been waiting a seeming eternity for: a new Star Wars movie. Anticipation and expectations couldn’t have been higher going into George Lucas’ long-promised return to the pop culture phenomenon he had set in motion with the Original Trilogy back in 1977. But then, The Phantom Menace happened. And things got even worse with the next one, Attack of the Clones. Lucas redeemed himself somewhat with his third prequel, Revenge of the Sith – I know this because I just rewatched them – but in the end, there was no denying it. The new Star Wars movies were terrible.

And so it is with the equally long-awaited digital strategy from the Canadian government, titled Digital Canada 150. Believe it or not, there are actually a number of similarities between the movies and this bit of government policy. Nerds like me have been waiting for it forever and it has indeed been in the works for a long time. But most crucially, it’s also abjectly terrible.

Divided into five “pillars” – connecting Canadians, protecting Canadians, economic opportunities, digital government and Canadian content – there’s almost no actual “strategy” in the short, 25-page document, which is perhaps why that word isn’t actually in its title despite it being presented as such. Rather, Digital Canada 150 is more a collection of bullet-point reminders of the government’s recent efforts across a number of technologically-related subjects, such as its development of an app commemorating the War of 1812 and the lowering of corporate taxes. And oh yes, there are lots of pretty pictures and useful factoids, like the one that predicts internet usage is going to increase over the next few years. Good thing that’s in there.

There are a few hints of things to come, like a promise to “work with the Canadian Radio-television and Telecommunications Commission (CRTC) to develop a plan to unbundle television channels and ensure cable and satellite providers offer Canadian consumers the option to pick and choose the combination of television channels they want,” and the introduction of “new anti-money laundering and anti-terrorist financing regulations for virtual currencies,” which is obviously aimed at the likes of Bitcoin. But otherwise, there are few concrete goals set out and no evidence that any of these isolated efforts are in any way connected to the larger idea of accelerating digital usage or growth by Canadians.

One of the few actual targets is to bring internet access of at least 5 megabits per second to 98 per cent of the population by 2019, but this is a bad plan for several reasons. Firstly, the CRTC already had such a goal in place, except it was supposed to be achieved by 2015, meaning that the government is delaying it another four years. But perhaps more importantly, it’s far less ambitious than what other countries are doing. As University of Ottawa internet law professor Michael Geist points out, Canada’s goal is well behind the likes of Australia, Germany and Sweden in both speed and target dates. Many countries are aiming for speeds of 100 megabits or more. Indeed, the only country that appears to be as unambitious as Canada with its broadband plan is the United States.

Inevitably, the issue of size arises in such discussions. Canada is, after all, one of the biggest countries in the world in terms of land mass, yet it has a relatively small population. That makes it harder and more expensive to roll out services here than in, say, a tiny country like Denmark, right? This is the rationalization that has been used for Canada’s high wireless prices and it has indeed been trotted out for wired home connections too. It’s also one the government has apparently accepted to rationalize its efforts.

Except that it’s nonsense. Canada is, in fact, one of the most urbanized countries in the world, ranking 37th overall with more than 80 per cent of the population bunched up together in cities. The chart below shows urbanization rates among developed countries, according to the United Nations’ population division:

And here’s a chart that strips out all the tiny OECD countries with fewer than 10 million people:

Given the relatively high concentration of the Canadian population, it should actually be easier or more efficient to roll out advanced telecommunications services here than in Germany, the United Kingdom, Norway, Austria or Switzerland, yet all of those countries outstrip Canada in terms of broadband goals and wireless performance in general.

In that vein, Canada’s broadband goal is amazingly lame – it’s the veritable Jar Jar Binks of the entire digital strategy. The government should be shooting for those 100-megabit-plus speeds that others are going for, yet instead it’s settling for what’s barely considered broadband in places such as Pakistan.

As a whole, there is one other way in which the Digital Canada 150 is similar to Star Wars. George Lucas at least had the good sense to sell Star Wars to Disney and allow someone else to have a crack at producing something that fans might be able to appreciate. With the thoroughly lacklustre digital strategy taking four years and three different industry ministers to produce, it’s looking increasingly clear that this is not the government to take Canada forward into a digital future. Observers interested in such matters can’t be faulted for hoping that someone else takes up this task.

The Future May Be Friendly, But The Numbers Aren’t

The debate over wireless prices in Canada is raging hot and heavy, largely because Telus has decided to re-open that established, old can of worms again. Last week, the company engaged in a full-court press to try and convince the public and the media that things are just fine here and that no further government or regulatory intervention is needed, nor does Canada require the likes of U.S. carrier Verizon to come in and shake things up.

In making their arguments, Telus executives – including chief executive Darren Entwistle – served up some curious numbers, including a claim that the company has invested more than $100 billion in Canada since 2000. We’ll look at some of that data below, but first, there are really only two figures that matter in this whole debate. The image above shows where Canada rated in those two measures in the first quarter of 2013, according to the newest edition of the Bank of America Merrill Lynch Global Wireless Matrix.

Why do those two numbers matter? The first – average revenue per user (ARPU) – is the size of the typical customer’s bill at the end of the month. There’s some debate over how and why it’s so high, but obviously, it’s the highest in the world.

The second number is how much profit – or earnings before interest, taxes, depreciation and amortization (EBITDA) – Canadian carriers are pulling in after paying their expenses. EBITDA doesn’t account for how much a wireless carrier has spent on building its network, but it does factor in all the other costs associated with selling services over it.

The full charts on both these measures are at the bottom of this post, but as is clear, Canadian carriers are almost unmatched in how much profit they’re extracting from their businesses (only Italian and Portuguese carriers are getting more).

In his PR offensive, Entwistle has been saying that Canadian carriers are investing more in their networks than just about anyone else. That’s somewhat true. According to the just-released Organization for Economic Co-operation and Development’s 2013 Communications Outlook, Canada ranks well – fourth overall – in telecommunications investment per capita:

However, Entwistle is wildly overblowing just how much Telus itself is actually spending. He’s quoted in a post last week on the company’s public policy blog as saying:

When you consider that Canada’s wireless subscribers, spread out over our vast and challenging geography, pay about the same prices as people in much more densely populated countries and yet have access to more national LTE networks than people in any other country – it really is remarkable. TELUS alone has invested $100 billion in Canada since 2000 to make that a reality.

How he arrives at that $100 billion figure is a mystery. According to a slide from a Telus presentation at the 2012 Telecom Summit, the company’s total capital expenditure – the money it spends on building and maintaining networks – is a fraction of that:

Since 2005, Telus has spent about $15 billion on capex, or less than $2 billion a year, with roughly a third of that going to wireless. Either the company spent $85 billion between 2000 and 2005 (extremely unlikely), or Entwistle is including the cost of PR, government lobbying and advertising. Whether or not that should count as “investment” is up the individual observer to decide.

What the wireless companies aren’t talking about is why they’re investing. The current spending by Bell and Telus on fourth-generation Long-Term Evolution networks is a direct response to their bum investment decisions years ago on CMDA wireless technology, which ended up losing out to GSM, or the standard that Rogers went with.

They’re now catching up and leap-frogging to the next technology, which is of course logical. Carriers in other countries, meanwhile, now find themselves behind because they previously invested heavily (and correctly) in GSM. They too will inevitably soon crank up investment to catch up, perhaps leap-frogging to 5G, at which point Canadian carriers will look like laggards once again. It’s the circle of life, wireless style. Unlike what Entwistle wants people to believe, there’s nothing special about it.

The question then, is why is Telus in particular putting up such a fight? In editorial board meetings with several newspapers last week, the company’s CEO essentially pleaded with the government to “level the playing field” and not give new wireless entrants – aka Verizon – any special benefits in the upcoming spectrum auction. Bell and Rogers seem to have just as much to lose, but so far they’re being pretty quiet about the Verizon spectre.

There’s a good reason why Entwistle is specifically agitated – he knows the U.S. carrier better than most. The company, after all, used to own 20 per cent of his company. Odds are good that the Telus CEO still has Verizon executives on speed dial, and that he’s made calls to see how serious they are about Canada. If he’s making a very vocal show of opposing the whole thing and effectively begging for the government’s mercy, that’s a strong sign that Verizon is indeed very serious about coming north. One insider who is close to the negotiations between the carrier and its takeover targets – Wind Mobile and Mobilicity – told me the other day the likelihood of its entry is about 70 per cent.

If Verizon does indeed come to Canada and takes part in the January spectrum auction, it will have a big advantage over Bell, Rogers and Telus that will in fact re-align the industry. As per the rules, new entrants – which Verizon qualifies as – will be allowed to bid on two of four blocks of spectrum nation-wide. With no real competition for these blocks, the U.S. company will scoop them up, leaving the remaining two to be squabbled over by the incumbents. The problem is, there’s three of them.

The nature of Bell and Telus’s network-sharing agreement, the insider says, is that they must both deliver spectrum to it. Both companies therefore have strong incentives to acquire those two remaining blocks; if one or the other comes up short, the network-sharing agreement will be thrown out of whack, meaning one company could either get more control over the network or the other would have to regularly start paying big bucks to make up for its shortfall. And what of Rogers? The company isn’t exactly going to sit back and allow itself to be shut out.

So yes indeed, when Entwistle speaks of a “bloodbath,” he’s right – there’s going to be fierce competition in the auction between the Big Three, which means they’re going to have to spend a lot of money.

That ultimately brings us back to the big two numbers above. Verizon, if it does indeed enter Canada, is going to force both of them down. As the challenger, the company will offer better prices and deals, which is good for consumers. The Big Three, meanwhile, are going to be forced to spend more and to rake in less, which is bad for them.

One last thing – Entwistle, in the blog post, said that report after report finds that Canadian wireless pricing “is extremely competitive.” Unfortunately, that’s not even remotely true. Over the weekend, the Canadian Internet Policy and Public Interest Clinic looked at the effects on pricing of the new three-year contract ban in comparison with other countries and found that in all cases, consumers here are getting hosed:

Perhaps somewhat shockingly, U.K. customers pay less money to O2 ($1,946.04 CAD) for three years of service than Canadians would have to pay Bell or Rogers for the same phone and the same service for two years of service ($2,321.28 & $2,272.99, respectively), and pay less up front for the associated handset that comes with the plan.

Moreover, here’s where Canada ranks in pricing across a number of service examples in the OECD’s Communications Outlook. I’ve thrown in wired broadband, just for kicks:

It’s amazing that Canada rates near the bottom of every measure, isn’t it? Telus is fond of saying that “the future is friendly.” If that’s true, I’d hate to get on the future’s bad side.

(Here are those full ARPU and EBITDA numbers, from the Merrill Lynch Wireless Matrix, for anyone’s who interested:)

Debunking The Wireless Myth Busters, Redux

Last week, I made an effort to investigate some of the findings of a recent Scotia Capital report, which itself sought to dispel some of the alleged myths pervading the Canadian wireless market. Some of my conclusions were based on slightly older numbers, taken from a 2011 version of the Bank of America Merrill Lynch Global Wireless Matrix. Since stats such as revenue and profits don’t change that quickly over the course of a year, I felt it was okay to use those numbers.

I’ve since acquired more recent data, as of the third quarter of 2012, which paint a much more accurate and up-to-date picture. BofA’s Global Wireless Matrix is something of a bible for the wireless industry, packed with thorough statistics on virtually every carrier in 50 developed and developing countries. The regular report is the most accurate measure and comparison of wireless carriers around the world, which is probably why the Canadian industry and its allies don’t want the public to see it. The report details just how well they’re doing and does much to prove that Canadians are indeed paying high prices.

The whole document is too bulky to post, but here’s a PDF of the key comparison chart. I’ve also pared the data down into some easier-to-digest charts to compare specific key metrics. Let’s start with penetration:

It’s no secret Canada has always been behind in overall cellphone penetration. The Matrix confirms that Canada is dead last among 21 developed countries, at 78 per cent. Only four countries in the entire Matrix have worse penetration: Bangladesh, India, Pakistan and Nigeria.

However, the story that has been propagated by carriers and a few other studies, such as comScore, is that Canada is among the world leaders in smartphone adoption. That’s clearly not the case according to the BofA numbers, with Canada’s 37 per cent penetration actually ranking below the developed world’s average of 38.9 per cent.

What those other numbers (and boasts) likely measure is the percentage of cellphone users who are actually smartphone users. Carriers here might be doing well in converting the first into the second, but the fact is, overall there just aren’t that many Canadians using smartphones as there are in other countries.

One of the myths (#7) the Scotia Capital report aimed to disprove was that Canada wasn’t really behind in wireless services. The report instead claimed Canada was ahead of the U.S. in smartphone penetration and had outpaced its growth over the past two years. The growth claim is correct, according to BofA’s numbers, but the U.S. was slightly ahead at 39 per cent penetration, proving Scotia Capital incorrect.

Why is Canada lagging in both overall and smartphone penetration? High prices have been identified and accepted by the government as the main problem. Here’s how carriers stack up in terms of revenue numbers:

The story here is clear. Canadian carriers lead the world in terms of monthly average revenue per user, at $60.79. That’s 16 per cent higher than the United States ($51.61), 32 per cent higher than the developed world average ($43.79) and 76 per cent higher than Europe ($27.02). Moreover, as the graph on the right shows, Canada is only one of four countries seeing ARPU growing. Cellphone bills almost everywhere else are going down, which is probably what they should be doing given that wireless serviceis a technological product, and technology is subject to Moore’s Law.

The Scotia Capital report claimed this high ARPU was the result of more people using smartphones in Canada, not high prices, but as the first chart above shows, that’s not true. The chart below confirms it. At 38 per cent, Canada is in the middle of the pack in terms of how much of customers’ bills are coming from data and below the developed world average of 42 per cent.

The above chart also shows that Canada is on the low side of churn, or how many customers defect to other carriers, which is indubitably the result of three-year contracts. The countries with the highest churn rates are typically those with the strictest contract and phone locking regulations (Belgium used to ban bundling phone sales with monthly service). They’re also the ones that typically come in low on ARPU comparisons, which indicates a strong correlation between high monthly prices and low churn. In other words, when customers are able to switch providers easily, prices and ARPU tend to be lower.

Lastly, we come to profit:

With a margin of 45.9 per cent, Canadian carriers come in at the high end of the most profitable list. They’re seven per cent more profitable than their American and European counterparts and five per cent more than the developed world.

Even more interesting is the fact that Canadian carriers had the third-highest year-over-year growth in margins (Spain is comparatively crushing it). Combined with ARPU growth, it’s clear that business is good in Canada. Incumbent carriers may have experienced a temporary hiccup thanks to new entrants such as Wind and Mobilicity, but things are obviously getting back to normal.

One of the myths the Scotia Capital report tried to quash (#4) was that the new entrants have had no effect on the market. While they definitely did have an effect, the numbers suggest they’ve done all they’re going to do. The report’s conclusion that regulators should “declare victory on the policies they adopted five years ago” when the new entrants were spurred into the market through special rules is therefore not correct.

It’s hard if not impossible to look at these key metrics and come to any conclusion other than Canadian wireless carriers are some of the most profitable around based on unmatched monthly revenues, which are coming directly out of consumers’ pockets.

Metered Internet A Colossal Failure

The final word on usage-based internet billing in Canada came down yesterday and it’s pretty much as everyone expected: so long unlimited internet, it was good knowing you.

The issue, in brief, if you’re not familiar with it: small internet providers lease the networks of big companies such as Bell and Telus to sell their own internet plans. But while the big companies like to set modest usage caps and charge extra for more, the smaller guys have been selling big buckets, if not unlimited. Bell asked our regulator, the CRTC, to allow it to implement those same caps on its smaller wholesale customers and, after much ado, the company got what it wanted. The small guys are therefore going to see their ability to offer unlimited usage buckets severely curtailed.

The CRTC did throw the small ISPs a bone yesterday – it gave them a 15% discount on whatever the big guys want to charge them for usage. By most accounts, that might be enough to keep some of the smaller ISPs in business, but it doesn’t give them much room to differentiate their services or make any actual money.

Interestingly, there was an op/ed in The Globe and Mail yesterday from David Beers, editor of The Tyee website. The headline pretty much said it: “A metered internet is a regulatory failure.”

I’d go a step further and suggest that by allowing this to happen, the CRTC has actually failed to do its job as enforcer of the Telecommunications Act and it has failed to follow the government’s 2006 policy direction.

The policy direction was an unusual set of marching orders that had never been made before because the government and the regulator were supposed to operate within arm’s length of one another. It happened because the industry minister at the time, Maxime Bernier, was a hard-core market purist and he wanted to de-fang the CRTC as much as possible.

Bernier, who I got to know through regular on- and off-the-record chats back in the day, believed there wasn’t a competitive problem that can’t be solved by simply having a free and open market. For the most part I agreed with him except – as I keep belaboring – we don’t have openness in telecommunications services because we have foreign ownership restrictions that act as a major barrier to market entry. Bernier knew that and wanted to change it, but he was shuffled off into a different job before he could make such a move (and then there was that whole disgrace with the biker girlfriend scandal, but that’s neither here nor there).

In any event, the government has stuck with Bernier’s policy direction for more than four years now and the CRTC has referenced it in pretty much every decision it has made since. Indeed, yesterday’s ruling concludes with a statement that usage-based billing is indeed consistent with that policy direction. I beg to differ.

The double failure is very simple, as it comes from the first points in both the policy direction and the Telecommunications Act. The government’s marching orders state the CRTC must “rely on market forces to the maximum extent feasible as the means of achieving the telecommunications policy objectives.”

In the first instance, by allowing Bell and Co. to dictate the business models of smaller competitors, the regulator is in effect interfering with market forces.

Furthermore, the Act’s first objective is “to facilitate the orderly development throughout Canada of a telecommunications system that serves to safeguard, enrich and strengthen the social and economic fabric of Canada and its regions.” Its third objective is “to enhance the efficiency and competitiveness, at the national and international levels, of Canadian telecommunications.”

The Telecom Act is a long and convoluted piece of legalese, but if we break it down to that first all-important objective, the question inevitably arises: Exactly how is cutting down or limiting Canadians’ internet usage safeguarding, enriching and strengthening the social and economic fabric of Canada?

We can argue ideologically till we’re blue in the face about how to achieve all the other goals of the Telecom Act and the policy direction – i.e. that allowing all comers to access incumbent networks cheaply is the best way, or that shutting the small guys down so the big guys have investment certainty is the best way, etc. – but that just muddies the waters. The first goal is a good one and the most important since it pretty much covers everything else.

In that vein the one point I think everyone, except perhaps the network owners, can agree on is that using the internet more, not less, is the best way to achieve the Act’s most important goal: the strengthening of the social and economic fabric of Canada. Ladies and gentlemen of the court, I therefore submit to you the CRTC’s first objective and policy direction failure.

What about the Act’s third objective? As the wise guys like to say: fuggedaboutit.

According to the Organization for Economic Co-operation and Development, Canada is only one of three member countries (out of 30) where unlimited internet service is practically impossible to find (see table 4G on the OECD’s broadband portal – it’s worth noting the numbers are from 2009, which means Canada is likely to look even worse now that we’ve got usage-based billing). Australia and New Zealand are the other two, and don’t even get me started on those countries. Having lived in New Zealand and covered this issue there, we should actually consider ourselves lucky here in Canada. As for Australia, it’s no surprise the government – at war with Telstra, its own version of Bell Canada – is spending billions on building its own internet access network.

The point is, unlimited or practically unlimited internet is commonplace in almost every other developed nation. Canada doesn’t sound too internationally competitive in that light, now does it? That, my friends, is the CRTC’s second epic failure.

There are many ways to interpret the Telecom Act and the policy direction, but the above two things are clear as mud: we’re being prodded into using the internet less, which is out of whack with what’s going on in other countries.

There are tens of thousands of Canadians who are fed up with this situation and their numbers are only going to grow as 2011 continues. Sooner or later, the government is going to have to sit up and take notice that the market, such as it is, is failing those Canadians badly.