It’s nice being on the top. An oligopoly is a market structure in where a few firms dominate the market. The telco industry generally exhibits the oligopoly market structure due to the capital and regulatory intensive nature of the industry. Businesses that operate in this industry can only be viable when they have achieved a certain level of economies of scale. Telstra operates as the leader of the telco oligopoly and this gives it a significant economic moat…
An Oligopoly in a Mature Industry
According the IBIS Industry Report published on the Oct 2016 the telecommunications service industry in Australia is a 43.4 billion industry that generates 6.4 billion in profits for the participating businesses. Over the last five years the industry has been driven by strong price competition in conjunction with the shift in consumer behaviour towards usage of mobile devices over the traditional fixed line services.
The industry is definitely not an aggressively growing industry. It is fairly stable with its established major players that have found the appropriate operating model that makes their business viable. It comes to no surprise then that the IBIS Industry Report say that over the last five years the revenue growth in the industry has been a measly 0.1% annualised. They also estimate that over the next five years the industry will experience 1.5% annualised revenue growth.
It is safe to say that this industry will stay in the long term. There will definitely be changes to products and services that the industry provides as consumers’ lifestyle and habits change but the fundamental driver is that consumers will still need a method to stay connected to the world. This is where the industry will continue to adapt by providing consumers these points of connectivity.
A good example of the adaptability of the industry is through the changes we have experienced recently in consumer behaviour. More and more people are turning to mobile devices to keep them connected to the world. This has translated into a significant amount of investment in the industry on mobile network infrastructure. The investment has paid off though and the growth in revenues over the last five years have been driven by increase usage of telecommunication and data services through mobile devices. This growth however has been offset by the decline in revenues from the high margin fixed line telephony services which are ever increasingly being replaced by low cost VOIP alternatives.
Market Share and Profit Margins
The major players in this oligopoly are Telstra, Optus and Vodafone Hutchison Australia (VHA). There are other minor players of which only three are worth mentioning: TPG (<5% market share), Vocus Communications (<1.5% market share) and NBN Co (<1% market share). NBN Co is a government owned entity that is tasked with purchasing all of Telstra’s fixed line infrastructure, upgrading it to a high speed, open-access wholesale-only network. The aim is to increase the competition in the telco industry and strip Telstra of its competitive advantage. Below is the market share of revenue of the major players according to the IBIS Industry Report published in Oct 2016.
As you can see from the numbers above, Telstra has a very high market share and this seems to have been the case over the years. It is worth noting that the Optus and VHA the other two main players have their own mobile network infrastructure which they have heavily invested in over the last five years to ensure a mobile network coverage that rivals Telstra.
In terms of EBITDA and profit margins, Telstra clearly dominates the industry in Australia. EBITDA and profit margins have been derived from the latest annual financial reports as of November 2016. Note that the margin calculations for Optus and Vodafone may include sales and earnings from their respective parent companies. I did not dig deeper because I am focusing on Telstra and did not want to undertake the time consuming task to derive the actual margins.
The telco industry will most likely remain predominantly an oligopoly market structure as there are significant costs to set up and maintain the telecommunications infrastructure and remain compliant to regulations. A business can only be viable in this industry through economies of scale thus further limiting the number of players. The NBN initiative is designed to increase the competition and allow more firms to participate but only time will tell how things evolve…
Disclose:: I am/we have no positions in TLS, and will not initiate a long position over the next 72 hours.
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