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Andy Kessler Gets It Wrong. Really Wrong.


Andrew Kessler recently wrote a lengthy article laying the blame for Apple’s rejection of the Google Voice application squarely at the feet of AT&T. While Kessler’s arguments are mostly about wireless, and posts here have typically focused on wired broadband, the article makes some proposals for broader telecommunications reform that compel us to respond.

There is plenty of evidence that Kessler’s whole premise is wrong. For instance, Google Voice runs on Blackberries on the AT&T network. Apple allows other VoIP applications like Skype to run on the iPhone. There are reports that Apple is developing a product that would compete with Google Voice.

Even if you discount all of that, however, Kessler’s column is full of inaccuracies, faulty assumptions and outright misconceptions of the state of competition in the telecommunications space. These errors fall into four main areas:

  • Misunderstanding and misapplication of technology concepts
  • Business competition on features versus price
  • Network investment and sunk costs
  • Cable deregulation

We’ll break these down one by one.

Technology
Kessler’s suggestion for reform of wireless telecommunications is simple – “any device should work on any network.”

While that truly does sound like technology nirvana, unless we agree to one universal standard for every technology, it’s not likely to happen. Why? It’s due to the very thing Kessler claims to want – competition. As Victor Godinez points out in the Dallas Morning News:

Kessler’s insistence that “any device should work on any network” suggests that he doesn’t understand even the basics of cellphone technologies. T-Mobile’s and AT&T’s GSM networks are simply incompatible with Verizon’s and Sprint’s CDMA systems, no matter how much Kessler might think they are. That’s why, even when you unlock an iPhone, you can’t make it run on Verizon’s network.

Kessler makes a similar error when he suggests that ‚”voice is data.” As The Social Telco blog points out:

While there’s a sense in which that’s true – all communication is ultimately ‘data’ – it’s only true in the technical sense if it’s carried that way. Which it isn’t, on today’s cellular networks and most public telephone networks.

Other than where voice over IP is used, voice is circuit-switched, which means it ties up an entire (virtual) circuit from end to end for the duration of a call, making it unavailable for other purposes. Data, on the other hand, is typically packet-switched, meaning that a data ‘connection’ in fact only uses up network bandwidth when packets are actually being sent back and forth, otherwise freeing up that bandwidth for the use of others. As such, voice networks and voice calls use network capacity in a very different way from data, with different equipment required and different economics associated with them.

Wireless networks today are moving toward a new standard called LTE which will do two things. First, it will make Kessler’s assertion that ‘voice is data’ more or less accurate as it does rely on IP for voice traffic. Second, it breaks down the barrier between CDMA and GSM networks. Verizon has suggested they’ll be using LTE by next year. These advances are being brought about by the very competition Kessler claims is thwarting them.

Kessler also suggests that connection speeds to our homes and phones should double every year, and suggests they have not. Here again, Kessler gets it wrong.

We explored exactly this topic on Cable’s blog after Robb Topolski made a similar assertion about broadband speeds and Moore’s Law. The fact is, since the inception of the 300 baud modem in 1978, broadband speed to the home has more than doubled every two years. We have not done a similar comparison for cellular technology since people have used wireless for data for a very short period of time.

Competing on Price or Features
While Kessler spends most of his space clamoring for competition in price, he ignores robust competition on features. It is a glaring omission given the economics of telecommunications.

Telecommunications is an expensive game. Cable companies have spent billions, as have the telephone companies, building out their networks. We have seen estimates that the per-home connection and acquisition cost for one FiOS customer is between $3,000 and $5,000. The same holds true for wireless when you factor in spectrum costs, towers, etc. It will take those companies a very long time to recuperate the sunk costs.

So, how do you compete to get that back if you focus only on competition on price? The answer is that you don’t. You compete on price, if at all, only to gain market share. Once you have a healthy share of the market, you stop competing on price and compete on features.

That competition on features is exactly what the iPhone represents. Ringtones, app stores, and other features are the core of competition when costs are roughly equivalent. Working in cable, we often hear arguments about price. They typically go like this:

Complaint: My cable (and/or broadband) bill is too high.

Reply: Well, then switch to Satelite/DSL

Customer: But they don’t offer (VOD, speed like cable, etc)

Reply: So what you’re really saying is you want all the features that cable offers, but you don’t want to pay for them?

In other words, the choice of which offering to choose comes down to features. There are, people will acknowledge, cheaper options. However, people don’t make decisions solely on price. They make them on perceived value and that includes features. I can get a phone that makes calls, and plays MP3s, and does other things, for less than I’d pay for an iPhone. But I want the perceived value of the iPhone. That’s the value of exclusivity. Do I have to use your network to get the phone I want, yes you do.

If you argue competition solely on price, though, Kessler suggests that AT&T Wireless margins are an ‘embarrassingly high’ 25%. Does that point to a flaw in my argument? Not really. As Hance Haney at Tech Liberation Front points out:

Before we get to that, Kessler complains that margins in AT&T’s cellphone unit are an ‘embarrassingly’ high 25%. He doesn’t point out that AT&T’s combined profit margin – taking into account all products and services – is only 9.66%.

AT&T is actually earning less now than it was legally entitled to earn when fully regulated – 9.66% versus 11.75%.

Haney also points out that those margins are required by government mandate, to subsidize landline service.

In a normal business, an unprofitable product or service would disappear. But telecom providers are still required by law to provide plain old telephone service to anyone who requests it. It’s called the ‘carrier of last resort’ obligation. Believe it or not, providers are still required to provide copper-based, circuit switched phone service in many places, even though they could cut costs by deploying fixed wireless and VoIP to deliver basic phone service.

This service obligation imposes a tax on those of us who have canceled our landline service in favor of our cellphones in the form of artificially high prices for wireless service.

Network Investment and Sunk Costs
Let us pretend for a moment that Kessler’s notions of reform made any kind of sense. He suggests the root evil lies in ‚’own[ing] a pipe between you and your customers,’ and thus we should take pipe ownership away. Except, those pipes are already built and paid for.

The mobile carriers already paid handsomely for the spectrum they use. If the government were to take ownership, then those companies would have to be compensated for the billions they spent. You may recall the ‘open access’ argument from a decade ago that proposed that it would be bad to let companies own their pipes because they could have exclusivity over the data that flows through them. Since the cable industry has invested more than $145 billion over the past 13 years, how should they be compensated? What of AT&T and Verizon’s investment in their networks because they want to compete with cable? Should that all be taken away with no compensation? And if it’s taken away, who can do a better job?

Companies are investing in networks to compete with each other. Is the competition and investment happening fast enough? Arguably not. But it is happening, and that competition is being spurred by exactly the concerns Kessler raises – demand for services, demand for speed, and demand for features.

Cable Deregulation
As we said, most of Kessler’s piece concerns itself with wireless. We have our issues with his facts and arguments there. However, given our employment with the cable industry, where we truly take umbrage at his comments is Kessler’s claim that one of the key elements of a new national data policy would be to “End municipal exclusivity deals for cable companies.”

Fortunately for Kessler, his work has already been done, since this was covered in the 1992 Communications Act. To quote from the section on “Franchising and Regulation”:

“a franchising authority may not grant an exclusive franchise and may not unreasonably refuse to grant an additional competitive franchise.”

Over the last few years, many states have taken that federal mandate a step further and passed laws that took franchise authority away from the cities and placed it at the state level. The FCC went a step further and made sweeping changes to section 621 of the Cable Act and granted a federal franchise authority to further streamline the process.

Conclusion
There’s plenty of irony in Kessler’s piece. He argues for competition, which already exists. He argues against exclusivity and pipe ownership and in favor of “new, feature-rich and productive applications.” But if you can’t own the pipe, who will pay for upgrades? If you can’t have an exclusive offering of a product or service, why invest the money to develop such offerings? How will we get the “faster and faster data connections” that Kessler wants? If you can take away the ownership of infrastructure that is already built, why should investors have any faith in supporting a business affected by such radically sweeping changes?

Focusing on a strong broadband infrastructure is a good thing. Focusing on a national data plan, especially as voice actually does become data, makes sense. However, Kessler’s arguments, based as they are on faulty technical, policy, and business assumptions simply don’t add up to much.



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Written by Michael Turk