Final volley in broadband price war?

Telkom's dramatic retail price cuts are putting a squeeze on its wholesale customers' margins.

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The fixed broadband "price war", precipitated by Telkom's recent dramatic price cuts in its retail ADSL offering, could be bad news for smaller players in the Internet service provider (ISP) space - if price cuts in the wholesale arena are not forthcoming.

It could also effectively mean the end of the price war that has been benefiting consumers, as ISPs are unlikely to institute further price cuts, as their margins come under pressure.

This is according to a number of players in the ISP space, still largely reliant on sourcing bandwidth from Telkom and using the operator's backbone for the provision of Internet services to end-users.

Internet Solutions (IS) notes that, while Telkom's retail arm introduced uncapped ADSL price cuts of up to 40%, effective as of last week, its wholesale arm - which supplies connectivity to SA's ISPs - has not followed suit.

Web Africa CEO Tim Wyatt-Gunning says the company responded to Telkom's price cuts with about a 30% reduction of its own. "MWeb and other ISPs have also re-priced. As an ISP it is important that we are positioned below Telkom and this has seriously dented our profit margins. I am not saying we are going bust, but without a drop in IPC costs (which still constitutes over 70% of our network costs) we are not left with much margin."

Wyatt-Gunning says, if there is a drop in costs from Telkom on a wholesale level, he would change his tune, "but as it stands we cannot drop prices on a long-term basis - it would not be sustainable".

SA's second largest ISP, MWeb, says price cuts always bring some pressure to bear if a company wants to be competitive. However, in this case, says CEO Derek Hershaw, margins are being squeezed due to price reductions not being passed on to ISPs in terms of wholesale services.

"Telkom has cut up to 40% off their retail pricing, but has not passed on any price reductions to ISPs on their wholesale services. In particular on the cost of IPC, which makes up about 70% of the total network costs associated with providing a data service. So it's a classic case of monopoly tactics to squeeze margins on their competitors."

OpenWeb, which immediately responded to Telkom's end-of-January announcement of looming price cuts with its own, says it will be "very difficult, if not impossible" for ISPs to continue dropping prices, without Telkom dropping its wholesale rate.

OpenWeb CEO Keoma Wright says, while the price war may continue - it will be on a rand for rand basis, "for example, R2 or R4 less between suppliers".

Wright says the ISPs' margins are under pressure and confirms Telkom's actions could result in the possible collapse of smaller providers. "It has placed huge pressure on the smaller ISPs to compete. True to the way Telkom does business, and what they have been fined for last year, they yet again cut prices on their retail channel, but keep the wholesale prices sky high."

Wright says: "This is a great strategy to get rid of some of its competition, because Telkom is well aware that it takes around five years for any case brought against them to be settled, and by that time they have again closed the doors of many of its competitors."

Tony Walt, chief solution and marketing officer at IS, says, in this context, IS would be a wholesaler to multiple ISPs and - as long as IS is required to procure IPC connectivity from Telkom in order to supply services to other ISPs in the market - "the Telkom retail cuts remain problematic, if not accompanied by a fair wholesale reduction".

Telkom's dominance in the market, says Walt, still legitimately exists. "In the absence of local loop unbundling, access to the WiMax spectrum and the still pervasive Telkom network in many regards, there is material dominance and as such the issue of not distinguishing fairly between wholesale and retail is and will remain a material issue for some time."

Hershaw says, if the stagnating ADSL market in SA is to grow, the total cost of the service has to be lowered, and the quality improved. He alludes to other costs that Telkom could drop, but has yet to.

"From a consumer perspective, most of their ADSL spend is on the access line and the compulsory voice line rental that they have to pay whether they use it or not. Telkom will use their access line deficit argument to defend this, but how convincing is that argument if they are able to cut 40% off the prices on their data services? We urgently need a naked ADSL service."

Spiwe Chireka, senior telecoms analyst at IDC, says Telkom could be considered anti-competitive in the current environment if its retail ISP unit is getting preferential wholesale pricing, or if Telkom cut wholesale pricing for its retail entity.

She does not believe this is the case - but that this is "competitiveness at its best".

"If Telkom retail ISP is paying the same wholesale prices as everyone else, I do not see how or where that is a problem or uncompetitive that they have decided to lower their retail prices. Telkom's retail pricing in the market has been higher than that of competing ISPs, and I reckon this implies that competition has been charging closer to the wholesale price than Telkom's retail ISP. So, now Telkom has cut its retail prices, its competitors are crying foul."

World Wide Worx MD Arthur Goldstuck says it is surprising that Telkom made such a dramatic price cut for its retail offering, but not for wholesale. "You would expect wholesale cuts too. That is what I expected and if it is not happening, it is anti-competitive behaviour."

He says Telkom should clearly be cutting costs at a wholesale level too, and the lack of this indicates its "continued lack of cohesive market-friendly strategy in Telkom's Internet services generally".

Goldstuck says Telkom "seems bent on ADSL suicide", while its mobile arm 8ta is market-friendly, and providing the kind of service and pricing the market desperately wants and needs.

In turn, he says, Telkom is creating ill will among its own wholesale customers on the one hand and ill will among consumers in terms of the barriers to entry of ADSL (for example the cost of line rental and ADSL rental).

"I think they are trying to maintain revenue streams in those areas where they still have monopoly of the market. And because there is nothing the competition can do while Telkom holds the monopoly in ADSL, they are undermined."

Richard Hurst, Ovum's emerging markets analyst, says the ADSL price war is not necessarily over, but Telkom "holds all the cards".

"If there is going to be a price war, Telkom holds the artillery, and they will dictate the scale and direction of the war and the others will simply have to follow suit. But then Telkom holds the infrastructure, so it makes it difficult for other ISPs to get a toe in."

He says, while it is "great" to see Telkom cutting prices, for the company to become effective, "we need to see something on the wholesale side coming down".

He says it is a "cat and mouse game" that is to be expected when a supplier competes with its customers.

Telkom says, when it announced the price reduction on its uncapped offerings, it did so in line with Telkom Internet's "focus on maintaining a quality Internet experience, while also exploring new and innovative ways to deliver even more value to our customers.

"Telkom noted at the time that customers would enjoy price reductions of up to 40% for consumer uncapped products and up to 35% for business uncapped products depending on the relevant package."

The operator adds that the telecommunications industry is a highly competitive one, and that it would be commercially limiting not to offer its customers competitive pricing. "As such, Telkom embraces and encourages industry competition that gives customers greater choice and better value."