83-Consolidation as Growth Slows

We don’t see a lot of industries where only three competitors control 100% of the market. In this kind of the market, you would expect pricing and returns to be extremely high, even in a slow growing market. Here is one of those markets. Here, industry returns and prices, while acceptable are not impressive. Why?  There is a heavy hand at work here.

Posted 2/26/09

Recently, Vodafone and Hutchison Whampoa announced that they will combine their Australian mobile telecommunications businesses into a joint venture. Currently, Vodafone is the third ranked competitor in the Australian market, while Hutchison is the fourth. The combined subscribers of the new firm will still rank third in the market, but a relatively strong third.

This is a pattern common to an industry as its high growth begins to slow. Once an industry begins to slow down, the top competitors in the industry are usually capable players. These top competitors are unlikely, and unwilling, to cede share willingly to another competitor. In that situation, growth and market share is likely to come by way of consolidations, such as this one, or acquisitions.

A very important determinant of the success of these consolidations is whether the new company can retain all of the customers the two firms previously owned. (See the Perspectives, “Buying Share, Not Sand” and “Acquisitions: The Buy or Win Decision” on StrategyStreet.com.)

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Update 2022:

Both Vodafone and Hutchison remain successful and strong competitors in the worldwide mobile communications market.

Vodafone Hutchison Australia holds 17% of the Australian mobile handset services market, the number 3 position.  Telstra leads the market with a 44% share followed by Optus with a 31% share.

In September 2013 Vodafone announced the sale of its 45% stake in Verizon wireless to Verizon Communications.  It operates across more than 30 countries worldwide.  Its market share runs in the low 30s in Germany and Italy in the 20s in UK and India and in the mid-teens in Spain.  In 2021 Vodafone had roughly $26 billion in mobile revenues.  In the same year, Verizon had total wireless service revenue of about $18 billion.  Verizon had the 2^nd largest wireless subscription US market share in 2021 with 29% of the market.  AT&T was the leader in that market with roughly 45% of the market.

CK Hutchison holdings Limited is a Hong Kong-based and Cayman Islands registered multinational conglomerate corporation.  It was formed in 2015 through the merger of Cheung Kong Holdings and Hutchison Whampoa.  It has 4 core businesses: ports and related services; retail; infrastructure; and telecommunications.  CK Hutchison remains a leading global operator of mobile telecommunications and data services, serving over 100 million customers around the world.  Their telecommunication business, 3 Group Europe, serves customers in the UK, Italy, Sweden, Denmark, Austria and Ireland.  The company had total telecommunications revenue of about $16 billion in 2021.

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Update 3/26

In this blog, we will concentrate on the Australian mobile market and how it has changed over the last 5 years. This is a market that is effectively a three-company oligopoly, where those three companies control 100% of the total market. This kind of market ought to have very high pricing and returns. It does not offer the pricing and returns we might expect because of the influence of national regulators, whose effect is to depress average pricing.

There are three competitors in the market whose share is slowly sliding to price discounters. The industry’s Standard Leader is Telstra with roughly 43% of the market. This is the gold standard competitor who serves the majority of the Primary Role positions with the Very Large and Large customers. Its nearest competitor is Optus with a market share of about 27%. This competitor suffered a data breach a few years ago which destroyed its Reliability reputation with the industry’s premier customers. Still, it is likely to be a Secondary Role supplier to the industry’s Very Large and Large customers, with some Primary positions with the Large customers. Optus competes primarily as a Price Shaver in the market. The third competitor is TPG, the Vodafone-related company. This company has a market share of 19%. TPG competes as both a Price Shaver and Price Leader competitor. There are several fourth-place competitors, all of whom are owned by, or supplied by, one of the three radio network operators. Each of the three major competitors has Price Leader brands offering fewer benefits for lower prices. In addition, there are several mobile virtual network operators (MVNO) who purchase wholesale capacity from one of the three major companies in order to offer their own mobile brand and pricing schemes, always at the Price Leader end of the market. These operators specialize in serving the Medium and Small customer segments.

Both Telstra and Optus have lost 2-3 share points voluntarily over the last few years under the pressure of Australian national regulators. These regulators have encouraged and supported the growth of the MVNO companies, who have gained the share surrendered by the two market leaders, as they have increased Price competition at the low-end of the market and have reduced the pricing power of both Telstra and Optus.

Each competitor offers something unique. Telstra leads the industry on Function, Reliability and Convenience. The company has by far the broadest coverage in the market. This enables Telstra to serve the needs of the industry’s largest customers. Telstra is the Reliability choice as it has not failed its major customers. Its industry leading market coverage makes it the Convenience choice as well. It effectively sets the pricing for the industry though its prices are higher than those of its other competitors. They have to discount against Telstra. Optus likely adds value as a backup, Secondary, supplier in Telstra-led relationships with the industry’s larger customers. It may also be the Primary supplier to the industry’s Large customers whose operations are not widely dispersed. TPG’s value proposition is that it is “cheaper, but acceptable.” The several Price Leader competitors survive on low prices for services on the “same network.”

Pricing is high for the Australian market, though lower than the US market. The industry is capital-intensive, especially given the low relative customer density in the country. The industry needs decent pricing in order to cover this higher capital intensity. The US market has higher effective prices but also suffers from more giveaways and promotional campaigns. Australia’s prices are more stable. Telstra maintains the industry’s premium prices using its superior market coverage and relationships with the best customers. Optus follows as a Price Shaver while TPG varies between a Price Shaver and Price Leader. Overall, the mobile prices are high compared to wage levels in Australia.

Returns in the industry are acceptable though clearly below those of the US mobile competitors. Returns in the Australian market are closely correlated with the size of each company. Telstra has the highest returns due to the scale of its business, regional dominance, strong cost control and superior customer mix. Optus follows with somewhat lower returns as it struggles with recovering its Reliability reputation and Price competition from MVNO competitors. TPG has the lowest returns due to its smaller scale, urban heavy network and aggressive pricing.

It appears that the national regulators have succeeded in keeping all three radio network operators comfortably in the market, while still controlling pricing… at least for now.

These analyses of the Australian market are the result of various sources of information and some estimates. They could contain some errors. However, let’s assume that they are correct and see what the information in this market may tell us about competing in other markets like it. Here are some thoughts.

Price discounting is certain to continue in this market. All competitors have excess capacity available to expand in the market. Price discounting to use that excess capacity is highly likely as long as a price discount will produce additional cash contribution. We see that the MVNOs are comfortable accepting current low prices to grow in today’s market. Their industry lowest prices produce a cash contribution for them. This price discounting succeeds only because the industry leader, Telstra, is in a Leaders Trap and allows MVNO competition to take share from the company using a low price.

Telstra strengthens its competitors with its current decision to let some low-end sales volume leave its echo system for its competition.  Telstra has the industry’s highest margins and, consequently, highest cash contribution in the industry on any sale. Telstra surrenders that cash contribution and suffers some loss of its superior economies of scale. On the other hand, its competitors achieve a higher cash contribution and a lower relative cost with the additional unit sales they gain through their low prices.

The entire industry’s ability to raise prices at all Price Points in the market depends on high utilization of capacity, especially by Telstra. Once Telstra needs extra capacity to serve its customers it will raise prices aggressively. Its competition can then choose either to follow Telstra’s higher pricing lead or to continue against the market leader. At that point, higher prices across all Price Points are virtually certain to be more attractive than the contribution from marginal sales. Competition will stop discounting and industry prices will rise.

Telstra must discontinue its Leaders Trap and meet competing Price Leader discounts against it. Telstra works against itself and the long-term health of the industry by allowing its current capacity utilization to decline.

A Leaders Trap pricing strategy rarely helps an industry leader.

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