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A guest response to this post, written by Paul

Ok I confess, I’m the other party Ben is referring to and yes I work for a Telco. I’m posting this because Ben kind of got the gist of my argument a bit wrong.

So in order to clarify here’s my starting position.  I really like SaaS. I believe that SaaS and Telcos go really well together. I believe that SaaS providers underestimate their reliance on Telcos (and I’m not the only one - see this from Gigaom and the unreasonablemen.net). I believe that Telcos don’t really understand the internet that well in general.

The starting point of my discussion with Ben was that I was reading this report from Heavy Reading - Reinventing the Telco. I personally hate the document, I think it asks all the wrong questions, having said that it has some interesting facts within it.

I was discussing implications of Telcos and SaaS with Ben, and Ben then asked me what would happen if the Telco got disintermediated at the transmission layer by an application provider.  This hypothetical application provider would swoop in, change the game and everything would be cheaper and paid for by the services on top of the network.

I told Ben that it won’t happen for a  lot of technical and commercial reasons. He replied with his standard response of mass disintermediation and the services ruling the world. I told him he doesn’t really understand the dynamics at action here. (with IM one gets quite blunt!)

This is my reasoning .

First some scene setting. A direct quote from Heavy Reading.

Microsoft & Google bestride the internet like twin colossi, yet between them earn less than a single large incumbent Telco

Added to that MS and Google are global entities, incumbents are normally based in one nation. Bingo - perspective.

It would take a lot more money that either of these companies have to build a global network (what’s the point of a regional one?). That means they would have to either borrow, or convince their shareholders that they will get a fantastically good return on the capital invested if they got into the network game.

Either way, it means that the application provider who moves into the network game HAS to get a good return on its investments. (That is operate at super-normal margins or “telco margins”)

Let that hang for a second…  What that effectively means is that if Google did this they COULD NOT tank the network margins…they need them to repay the debt they owe to the shareholders. It doesn’t actually matter if you use either of Ben’s formulae for making money.

Total cost = (Telco pipe price + Margin) + (Web Service Cost + Margin)

Total cost = (Network Cost + Web Service Cost) * Margin

Because if you are Google in the network game, and do the second option, your pricing is going to be so high (to get the return on capital invested) you will effectively price yourselves out of the application game.

As a working example, you could get hosted email for $2 per seat from Zoho, but Google with its network cost and associated margins (and its need to repay the faith its shareholders put in it to invest in networks) would be $5 or 10 per seat, the actual numbers are irrelevant.  The fact is they would be an order of magnitude out… and that means no game. If you do the first option, well then you are a Telco…

For Google things are even more desperate. Eric Schmidt (Google CEO) has the unenviable job of trying to deliver on market expectations that are quite simply unreasonable. Google’s PE ratio is 40, Microsoft’s is 17, BT’s is 11. That means that the market out there is paying $40 dollars for every dollar of earnings from Google. Essentially Google’s shareholders are expecting growth in profits, lots and lots of growth, twice as much growth as MS and 4x as much as BT.  This doesn’t leave Eric and the boys a lot of room for being egalitarian. What it does point to is a company that will try and maximise the margins on any industry it enters… in fact they could be worse than the incumbents!

My final point with Ben was that if Google or MS did play this way, eventually the titans would respond and they’ve got deep pockets. If the Telcos (many who still own directories or have massive databases of users) wanted to get into the online advertising market…lets say for free (ie keep your internet with us and we’ll give you free ads) then Goggle is in trouble. I’m saying that the threat response such a move would illicit would (over time admittedly) be very very serious for Google (by the way, this isn’t a post about Google - similar moves could be done for CRM, hosted desktop applications etc).

The answer I think lies somewhere in the middle. Telcos don’t get the internet and generally speaking aren’t good at innovation, applications providers don’t understand the network but are good at innovation and services. I think a symbiotic approach would work best because as the diagram from the unreasonablemen.net points out, the service experience of SaaS customers is dependant on both elements working.

I would say that Ben is fundamentally wrong in his assertion that Telcos don’t understand the long tail. Its what they do, they make a little bit from a lot of people. Think about it, the average subscription to a Telco is less than a SaaS seat cost. They do this on top of massive infrastructure costs and are still successful. I’d argue that in fact, SaaS providers could learn a lot from Telcos in that respect…

Disclosure, I work for Gen-i the ICT division of Telecom.

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