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It is time for the financial folks at the various networks to modify their cost accounting and how they report cost per subscriber versus revenue per subscriber

Getting Past the Bean Counters

Thursday, May 28, 2009

I have recently been involved in a number of machine-to-machine deployments and I have purchased an Amazon Kindle. Now I am awaiting the introduction of a number of other devices that will employ wide-area wireless but probably not require an individual subscription. These types of devices are important to the wireless industry and its growth going forward—there are more machines on this planet than people—and companies such as Aeris that cater to this market are doing well. Their business model is based on machine-to-machine devices and their cost per customer is calculated differently from traditional methods.


In talking to a number of network operators around the world, the issue is simply one of cost accounting. Today, most of a network’s financials are based on the total cost of a customer including airtime, system opex, marketing, sales, service and support, and overhead. In the United States, the total cost of a customer is calculated to be around $25 per subscriber per month. If the average customer generates $50 a month in ARPU, the gross revenue per subscriber is $25.


Using this math with a Kindle or a machine-to-machine device is where the problems start. If the cost of each customer is calculated at $25, and the monthly device and service revenue for these devices is, say, $5 per month, the financial folks conclude that they are losing $20 per month. In reality, since these devices use very little of a network’s capacity, it would be more appropriate to think of most of the income derived from them as falling directly to the bottom line.


Financial types at the various networks will argue that there are still sales and support costs for some of these devices. However, the Kindle, for example, is sold by Amazon, and not Sprint. Support is provided by the Sprint sub-contractor that manages the devices across the network, and the data (books, newspapers, etc.) is billed for by Amazon. Amazon then sends a check to Sprint. Sprint does nothing but provide the network, which is already in place. Further, the network usage, when compared to a notebook, is not even a rounding error in the total amount of data sent across the network. Thus the money Sprint receives from Amazon for Kindle service should be considered pure profit.


There are several different business models in the machine-to-machine (M2M) world. In the first, end users do not pay for the service. In most cases, there is a systems integrator that sells the devices, sets them up, handles any support issues, charges the customer, and pays the network operator. This is similar to an MVNO except for the devices. This revenue is “found” revenue for the network operator and the amount of data M2M devices are sending is very small when compared to a notebook, iPhone, or other data-capable smartphone.


However, most network operators’ accounting systems are set up to measure each device on a gross profit basis where the cost for each device on the network, or for each subscriber, is the same, and profit is calculated the same way. The industry needs to develop a different method to calculate gross profit sooner rather than later to accommodate M2M, Kindle types of business models, and the changes that will be coming to subscriber and device pricing.


If Clearwire’s one monthly fee per person regardless of how many devices the person is using is replicated in the commercial wireless world, calculating profit the old way won’t work. My guess is that we will see more new pricing models coming into play as LTE is rolled out. Since LTE offers Quality of Service, I have to believe that subscribers will be offered different data rates at different prices. Stepped pricing for data throughput is already offered today by DSL, cable, and fiber providers, so it makes sense that it will find its way into wireless broadband services as well.


Another new pricing model might be developed for the delivery of large amounts of data based on time of day. For example, a one-time fee would be charged to download a full-length, HD movie at 2 p.m. in the afternoon, but if the download was scheduled for 2 a.m. when the network was more lightly used, there would be no fee over and above the monthly contract rate. As the network operators’ cost to deliver data and voice services falls and new pricing models are rolled out, the financial basis for determining per-subscriber profit will have to change.


The bottom line here is that we are moving into a world where pricing models for wireless services will be changing quickly as new competitors enter the market. The network operators, and Wall Street, will have to develop new matrices to measure success as new technologies are rolled out. Several network operators in other parts of the world have said they will stop reporting ARPU (Average Revenue Per User) because they feel it is no longer a valid measure of their performance. Churn and net adds are still a viable way of measuring quarter-over-quarter and year-over-year successes, but what if a network operator goes after the M2M business in a big way and in one quarter lands deals for deployment of several million M2M devices? Would that be reported as net adds? Does that equate to adds for new phone or notebook subscribers?


It is time for the financial folks at the various networks to modify their cost accounting and how they report cost per subscriber versus revenue per subscriber. A wireless modem reporting back information on a periodic basis, or a device being used to measure alarms at a remote site, in a home, or in an office, may contribute only a few dollars a month to a network’s income. But if you have enough of these, we are talking about some serious money. Even so, I have heard from some operators that they are not really interested in this business because it costs too much (according to traditional cost accounting).


I think this reasoning for not exploring additional revenue sources such as M2M, Kindles, medical devices, and other low-usage devices is short-sighted. The networks that rework their accounting systems to accommodate this type of revenue and go after these markets vigorously will reap the rewards soon enough, even if the accountants call it a net loss per new subscriber. How can something be a net loss when it adds money to the bottom line and uses so little of a network’s resources?


 Andrew M. Seybold

COMMENTS: This is an archived post. Commenting is no longer available.

Rico Camus - 05/28/2009 18:13:21

Hear! Hear!

The bean counting accounting types shouldn't be the sole basis for making the business evaluations. The point you make on the margin analysis should only really apply if you are substituting a regular customer with an M2M subscription. Then there is concern because of cannibalization and margin erosion.

If, however, this is a completely new business and new source of revenue there should be no issue. What the wise operator should do is develop business processes and structures that make it profitable to bring on the M2M user. Outsourcing is one option, but a short sighted way of addressing the opportunity.

After all, the operator already spent $XX billions to set up the networks and any bit of revenue that comes in is a good thing. You make an excellent point of having to teach the bean counters a new way of counting.

Chris Purpura - 08/10/2009 17:03:47

Would you change your whole article if you found out that Aeris' cost of doing business is not as you say and that their cost structure is like any other MVNO or network operator? Aeris has not been doing business as you say for nearly 2 years.

More related to your calculations, a declining ARPU lets you know that your business is losing its economic efficiencies. The evolving M2M devices are using more and more bandwidth than you are aware. Take for example home security which Aeris Communications used to earn most of their revenue. Early applications merely sent a short message to indicate an alarm has gone off. Today's applications connect voice and video to the alarm monitoring companies and the end user customer.

While M2M devices and voice handsets do have a difference in the cost, revenue, and profit measurements, the difference is quickly shrinking.