November 14, 2022
Mega-Tech's inclusion in the highly defensive telecom sector is meaningful
The development of 5G is the technological turning point not to be missed
Expensive choices still need to prove profitable through the appropriate service offering
Risks already seem to be included in the prices... Growth opportunities are not

CHART OF THE WEEK: "The winner takes it all"

Source: Bloomberg Atlantic Financial Group


Since 2018, the communication services sector has included technology behemoths such as Alphabet, Meta and Netflix. These high-growth companies, which had driven the sector upwards, have contributed to its very poor performance (-34%) since the beginning of the year. Telecom operators are dinosaurs but are proving their defensive qualities. Indeed, revenues are largely recurrent, and the free cash flow generated largely allows for the payment of dividends. However, balance sheets are not free of debt as the sector had to deal with costly mergers and acquisitions, massive investments to modernise and maintain networks, while competition prevents the price of services from increasing.

The inclusion of Mega-Tech in the highly defensive Telecoms sector is meaningful

The sector suffers less from economic cycles than most because of its usefulness in the daily lives of businesses and households. The digitalisation of the economy promulgated by mega-techs has contributed to the exponential increase in data usage on telecommunication networks (see Fig. 2). Indeed, the cloud, video streaming, gaming and now the metaverse are only increasing the demand for a high-performance infrastructure. The mega-tech companies are investing in datacenters, but the transmission of data from point A to point B requires a different technology and hardware. Telecoms operators have already appealed to regulators to force content companies to contribute to the costs of network upgrades. Elected officials are getting involved in the US, proposing legislation to force tech giants like Alphabet, Facebook and Netflix to contribute.

Early September, the European Commission announced that it would launch a study to determine whether technology companies should bear a greater share of telecommunications networks’ rollout expenses. Meanwhile, the French, Italian and Spanish governments, which heavily subsidise network upgrades with public money, sent a joint paper to the Commission in August urging it to draw up a legislative proposal quickly. If a law were to come into force, the sector could benefit from a significant flow of capital, probably around €3-4 billion. In the meantime, telecoms companies are spending tens of billions to install networks capable of supporting the transition to 5G and increased data flows.

For the time being, although telecom service prices have been revised upwards this year (see Fig. 3) to adjust to the general inflation of products and services, they do not reflect much of the improvement in data speeds. Competition remains fierce. Yet by 2025, there will be around 40 billion connected smart devices worldwide. This level of saturation and hyper-connectivity will force telecom operators to invest or find solutions to make the network more efficient.

The development of 5G is the technological turning point not to be missed

Technology can help telecom operators in their quest for growth. Innovations such as Artificial Intelligence, 5G, Software Defined Networks and the Internet of Things (IoT) are helping to reduce inefficiencies and improve the user experience in congested networks. The 5G rollout in the US is taking place via the C-Band. In February 2021, the FCC announced the winning bidders in the mid-band auction, which resulted in a total spend of $81 bn vs. initial market expectations of $35-40 bn (see Fig. 4).

Is there life after C-band for US telecom operators? While the European experience with 5G is not yet known, the large 3G auctions of the early 2000s heavily penalised European operators. This led to a chronic lack of investment, an inability to set prices, and thus lower returns on investment, even if this coincided with the arrival of aggressive new entrants and onerous regulatory regimes.

Operators in the US and Europe will have to exploit all possible opportunities to make these investments profitable. In a digitalising world, operators will have to offer more cloud services to their customers. The industry is having to rethink many of its services as the infrastructure foundation becomes virtualised and software-based through developments such as the open RAN (Radio Access Network).

Deploying, maintaining and optimising networks requires a lot of manual work and is very costly. Historically, mobile network operators (MNOs) have been "locked in" to these traditional RAN providers, making network maintenance and upgrades costly and difficult. However, these challenges can be overcome with the automation and development approach found in Open RAN solutions.

Open RAN (sometimes called ORAN) is a movement to open up interfaces to reduce costs, led by the O-RAN Alliance to standardise interfaces and the Telecom Infra Project (TIP) to deploy and establish an ecosystem for mobile network operators and their suppliers.

Expensive choices still need to prove profitable through the appropriate service offering

The return on investment in 5G remains hypothetical at this stage and relies heavily on the "killer apps" that will be developed to take advantage of 5G's capabilities. It is difficult for developers to deploy their apps until 5G networks are fully functional. However, some consumers, particularly in the US, are beginning to take advantage of 5G technologies. At T-Mobile (TMUS), early statistics are encouraging. T-Mobile is the leader in terms of 5G coverage and speed. It has built its network using dedicated 5G frequencies (see. Fig. 5). In addition, with its Ultra Capacity 5G network, it is increasing performance - bringing faster 5G speeds to every corner of the country. This leadership makes it a strategic partner for enterprises and government agencies.

T-Mobile's customers are very enthusiastic about the 5G Magenta MAX plan, which they use much more than previous plans for online gaming or watching videos. It is also the emergence of new types of uses such as Augmented Reality and Virtual Reality that are the foundation of the metaverse. More immersive 3D experiences are developing, and all of this requires powerful, high capacity, low latency network signals.

Risks already seem to be included in the prices... Growth opportunities are not

The telecoms operators are trading at historically low multiples, except for T-Mobile whose merger with Sprint creates strong operating leverage through expected synergies. T-Mobile also appears to have a more efficient and extensive network than its two main competitors, AT&T and Verizon. Competition will continue on the ability to develop services for private customers, businesses and government agencies. In Europe, the environment is more complex with a stricter regulatory environment on a country-by-country basis and a more intense competitive environment between the different players. During the Covid pandemic, EU Member States have made progress in their digitisation efforts, but are still struggling to fill the gaps in digital skills, digital transformation of SMEs and deployment of advanced 5G networks. The Recovery and Resilience Facility, with around 127 billion euros dedicated to digital reforms and investments, offers an unprecedented opportunity to accelerate digital transformation.


Telecom operators could benefit from new growth opportunities thanks to 5G. The political will to go digital is causing regulatory bodies to bend somewhat and they may be more accommodating to industry consolidation, especially in Europe. A greater contribution from mega-tech to the infrastructure effort could also support the development of 5G networks and accelerate the development of applications that will help enhance the sector return on investment.