Daiwa EuroTelcoblog No. 23, Friday 13th February 2004: Introducing Telio/Hello trouble - BAFO introduces voice IM-PSTN call forwarding/ruminations on the week (original email blast 12:02 PM Friday, 13th February, 2004)

Introducing Telio - It's about to get colder for Nordic incumbents
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We recently held a conference call with the management of Telio (www.telio.no), a Norwegian start-up access-independent SIP service provider, established by former founders/management of Global IP Sound, well-known supplier of VoIP codecs to Skype, among others. Telio has also established a network of advisors that include some very well known VoIP and SIP experts, some of whom have featured in our previous coverage of the SIP arena over the past 14 months. Our conversation with Telio confirmed for us that the Nordic incumbents are likely to face a significant challenge from broadband telephony by mid-2004, before much of the rest of Europe feels the full brunt.

Key to the development of Telio's approach has been the Norwegian market's early separation of access and services under number portability, under which PSTN subscribers may maintain an access line (for ADSL) with no PSTN voice subscription. As this is one of the main emerging themes in the rest of Europe this year, we think the development of Telio may offer some insight into the implications of where the other markets may be moving over time. (Yesterday's presentation from BT highlighted that 59% of its consumer revenues are "contracted," i.e., locked in on a BT Together package, but we think the mounting momentum for unbundling of PSTN subscription across Europe may open the door for more creative pricing from broadband ISPs, and facilitate the proliferation of services like Telio.)

Telio's service has just connected its first few hundred commercial customers, out of the 5,000 it has pre-subscribed since mid-October during its beta trial. To put this in perspective, pre-subscription of 5,000, adjusted for the differential in market size, would be equivalent to Vonage having signed up 300,000 subscribers in its beta trial period. How much of this is attributable to the regulatory framework in Norway, and how much to some mysterious Norwegian geek factor, is open to question. Nevertheless, we think it is a dramatic start in a country with only 2m households, and implies that Telio has already claimed 1.7% of its current addressable market of c.300,000 broadband households). To date the company has spent virtually nothing on marketing, relying on word-of-mouth and some favorable press coverage for the interest generated. The company is currently selling subscriptions only over the web, averaging 50 to 100 new additions per day, though it has also had a number of enquiries from both specialist retailers and national general retailers related to the product. Longer term, Telio views its broader addressable market in Norway as equating to current ADSL coverage in Norway - i.e., 1.3m of the country's 1.7m access lines.

The service initially operates using a Sipura SPA-2000 at the customer premises, though Telio has a softphone for both PC and PDA under testing, is planning to introduce an IP videophone in Q2, and will also be selling WLAN phones like the the WiSIP device which we saw last autumn at the VON show in Boston. The current feature set to be launched includes 20 - 30 familiar features at no extra cost to the consumer signing up to the medium-usage plan (there is a small extra fee for users of the lower-usage plan), and we expect that more will be added as the service rolls out, including premium services. The current headcount within the company is approximately 10 FTEs, with a handful of consultant programmers. The customer support function has been outsourced for increased scalability. Management expect that they can scale to 50,000 customers with no significant increase in headcount. This partially relates to the company's in-house development of an autoprovisioning server for new customers, resulting in fewer technical support calls (and also saves the company in licensing fees to vendors). The outsourcing decision was taken to allow for overflow capability in the case of unforeseen demand levels, and also to provide a pan-Scandinavian CRM capability. This is relevant, as the company plans to expand to both the Swedish and Danish markets by Q2 of this year. To date, Telio has invested less than EUR750k in its network, which consists of one data center and two points of presence, and it has an SS7 interface lease with a telco partner with local interconnect across Norway.

Pricing is highly attractive relative to Telenor headline pricing in every category, and the monthly fee is structured so as to incentivize new subscribers to activate both ports on the ATA (i.e., take two phone numbers). All calls to regular fixed line phones are free, and this will also apply once the service is offered cross-border. Additionally, Telio will be offering a pan-Scandinavian telephone number to subscribers. We asked about the company's perception of the TeliaSonera broadband telephony product unveiled last week, and their take was that it was good (and free) publicity for the technology. However, as we pointed out last week, there are holes in the TeliaSonera marketing strategy, as well as the feature set of the product, which in our view makes it vulnerable to challenges from the likes of Telio.

Pricing comparison vs. Telenor (including VAT)

Connection fee
Telio NOK495
Telenor NOK990

Second IP line
Telio NOK495
Telenor ISDN NOK1489

Wireless IP phone
Telio NOK495
Telenor n.a.

Monthly fees - 1 line
Telio NOK159
Telenor NOK159

2 lines
Telio NOK239
Telenor ISDN rental NOK239

Call charges
National
Telio Free
Telenor Set-up NOK0.60, NOK0.21 peak, NOK0.14 off-peak

International
Telio Free up to 100 minutes per month, some countries excluded
Telenor Finland NOK0.89, Denmark/Sweden NOK0.53, UK NOK0.63

National cellular
Telio NOK 0.95 per minute
Telenor NOK0.60 set-up, NOK1.18 Telenor, NOK1.84 NetCom

International cellular
Telio 25% or greater discount over Telenor
Telenor Finland/Denmark NOK2.52, Sweden/UK/Switzerland NOK3.53


Hello trouble - BAFO introduces voice IM-PSTN call forwarding
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Some of the lingering pessimism we have encountered among investors over the likely extent of displacement of PSTN revenues by low revenue/no revenue alternatives has been supported by a view that closed IP voice systems (such as voice IM, FWD, Skype) lack PSTN connectivity. We have maintained that, while this may be something of an inhibitor to outright PSTN line loss, in terms of calling behavior, it probably isn't that significant. Our research suggests that 90% of calling involves the caller's personal/family network, and therefore potential displacement should not be underestimated. Today we stumbled across a piece of information floating through the geek stratosphere, regarding a new product from privately held Taiwanese USB device maker BAFO Technologies. The Messenger Call Box (http://www.bafo.com/bafo/mcb/), to be released in Q2, claims to allow call forwarding of voice instant messaging to a designated phone number (including cellular), and also claims to interoperate with all major IM platforms (AIM, Yahoo, MSN, ICQ). Apparently the device monitors IM activity and responds to voice session invitations by mimicking the 'accept' response appropriate to the IM protocol being used, and then forwarding the session to a phone. There is scant information in the website, and we have contacted the company to try to learn more. We clearly have some big questions regarding the accounting mechanism for termination of a 'free' service on the PSTN (unless the company is effectively launching a subscription service instead of just a box - which is unclear), but at this point it appears to be a very interesting technical end-around solution to the closed/open debate, and may indicate more negative implications for the incumbents. We will follow up as appropriate.


Ruminations on the week
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Out of the results we've covered or monitored this week, the underlying theme we extract is worsening visibility for incumbent players.

Tele2 and TeliaSonera missed numbers in their core markets and paid heavy prices (-9.5% and -7.3% respectively). Tele2 in particular painted a picture of competition in fixed and mobile in Sweden which was hardly comforting.

FT's numbers were solid enough, but Iliad, which reported 2003 revenues today, shows internet revenues up 112% YoY and telephony revenues up 116%. Unbundled DSL customers have risen from 16.6% of total in June to 33.6% in December (November's number was 31.8%), equating to around 163,000 subscribers. The company is targeting that more than 50% of subscribers will eventually be unbundled, i.e., we will see greater than 50% penetration of its subscriber base with the Freebox triple play product (including very aggressively priced VoIP).

Tiscali, in its results call yesterday, sounded very focused, suggesting disposals of non-core markets and greater concentration on markets where they have gained some footing (France, Benelux, UK, Italy, Germany). Tiscali is also upbeat on the margin enhancement and service differentiation possible under unbundling, and briefly discussed its own ideas for a triple play product over ULL. It's still early, but we think this may suggest a Freebox-type offering on a much broader scale in Europe.

Lastly, we are still feeling very impressed with BT CEO Ben Verwaayen's initiation yesterday of a discussion about behavioral and technology changes affecting the incumbents (see all of our research for the past 14 months for more details). It may be strange to feel as though we should applaud a telco CEO for acknowledging reality. Then again, this is a characteristic which has never been one of the stronger points of the industry. The fact that BT feels it necessary to educate the analyst community is worrying on the one hand, as we believe many of the drivers of change discussed yesterday have been on the radar for long enough. However, it is also positive to hear a European incumbent name-check Vonage and Skype, and even express appreciation for what they do. For anyone in the room who had not previously clocked these developments, BT's education exercise of yesterday was a good wake-up call, though a more sober assessment of telco risk arising in the analyst community as a result may not necessarily be supportive of incumbent share prices.