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From Inflation to Growth: A Playbook for Telcos

The effects of the pandemic, conflict in Ukraine, and ensuing cost-of-living crisis have plunged Europe into a period of slow structural growth and rising inflation. The European Central Bank forecasts 0.5% GDP growth in Europe in 2023 with a stable recovery predicted for 2024 (with 1.9% growth projected), but with significant variations across countries due to local specificities. Add to that, inflation in Europe peaking at over 10% in 2022 with energy prices soaring to approximately €500 per kilowatt hour in August of 2022, a 300% year-over-year spike, and you have a recipe for disruption and anxiety across many industries.

The threat of a looming recession puts telcos in a challenging situation, but telcos have proven resilient to previous recession cycles. These recessions had indirect effects on the top-line, notably increased churn driven by repricing towards more affordable plans, increased exposure to bad debt, and the loss of small and medium business clients due to restructuring or exiting the market.

Contrary to the price of other consumer goods, prices for communication hardware and services trend deflationary due to competition and decreasing cost of technology over time. Inflation is particularly painful for telcos, affecting their cost base at various levels: energy, personnel, and leases. Telcos incur high fixed costs, which have been compressing margins and further weakening performance (particularly for listed telcos which in Europe have underperformed the market). They are pressured to pass costs on to end users through inflation-linked pricing, but these tactics are hard to sustain in a competitive environment and can put off customers looking to cut back.

It is in telcos’ best interest to mitigate inflationary pressures where they can and proactively find ways to control specific cost items. While challenging, telcos should be proactive in finding ways to control specific cost items.

Look to short-to-medium term solutions to structurally reduce energy spend

In 2022, electricity prices jumped four to eight times above their stable 2021 levels in Europe. Energy has recently proved to be a volatile commodity, but telcos were largely insulated from rising costs in 2022 thanks to hedging. However, many of these price protections are set to expire in 2023.

Most of the energy consumed by telcos is within the network (approximately 85%), and particularly the mobile network – three quarters of which come from the RAN. The obvious ways to cut energy expenses are through improving supply and decreasing consumption. Approximately 60% of mobile network consumption can be addressed by implementing focused actions.

On the supply-side, the most effective energy cost-saving initiatives include:

  • Locking in energy prices through 7–10-year Power Purchase Agreements (PPAs)
  • Creating partnerships with energy service companies (ESCOs) for turnkey power management solutions
  • Producing energy on-site (e.g., via solar panels and wind turbines)
  • Optimizing energy storage via arbitraging peak versus off-peak consumption using A.I.-based solutions like intelligent peak-staggering technology

On the consumption side, mobile telcos can decrease their energy demand by:

  • Investing in modern energy-efficient equipment while decommissioning legacy solutions
  • Optimizing active equipment through enabling stand-by modes (e.g., switching off certain frequency bands at night when traffic is low)
  • Controlling temperatures onsite

Tackling energy consumption-supply is not only an effective way to master energy spend, but it also aligns with the ambitious carbon reduction targets undertaken by European telco providers.

Work on a local level and look to strategically right size the organization

On average, personnel costs – including salaries, social security, and pensions – account for ~15% of revenues (depending on capitalization policy) and are highly exposed to inflation. Labor relations and collective bargaining agreements vary greatly by jurisdiction. Operators can mitigate wage increases by strategic rightsizing, early retirement programs, finding ways to reduce working hours, and investing in digitizing or automating processes. In June of 2022, Telecom Italia struck a deal with local trade unions to reduce spending through early retirement packages. This is part of an overall program to slash spending, and it includes shaving working hours by 10%-25% across multiple departments, strategic retraining, and recruiting up to 650 workers to reinforce cloud and cybersecurity. These actions are estimated to save up to €200 million.

Telcos should think strategically about labor costs and negotiate with unions proactively. Recruitment and retraining in potential growth areas like cloud, B2B, security, and media should be top of mind when rightsizing, not simply layoffs.

Leases: a pain point for tenant operators

Among major European operators, the largest players have carved out their mobile tower assets. In transitioning from ownership to tenancy, leases on tower services make up on average 6-8% of revenues at rates that were inflated to shift value onto tower companies maximizing proceeds while balancing costs. What’s more, CPI-linked escalators built into contracts (sometimes with caps), leave telcos exposed to rising costs from their leases without much space to maneuver. For telco operators who lease tower services, the best way to mitigate inflation is by renegotiating commitments in exchange for further business or other initiatives that would indirectly generate structural savings for telcos.

Look to ”more for more” and ensure price sustainability

Passing costs to the end user is a common response to inflation. In countries like the U.K., Belgium, the Netherlands, and Portugal, telcos have introduced clauses in phone contracts that allow them to increase prices yearly by the same amount of the rate of inflation. French telcos announced price hikes starting in 2023 to counterbalance the effects of inflation. Other actors have put an end to promotional pricing.

However, raising prices carries risks beyond aggravating end users who themselves are feeling the effects of inflation. Regulators, like the U.K.’s Office of Communications (Ofcom), have launched industry-wide enforcement campaigns to investigate whether phone or broadband companies inform customers clearly and transparently of raise hikes. Similar regulatory bodies in Poland and Portugal, respectively are investigating telcos who have raised rates and, in some cases, imposing fines on players who haven’t communicated transparently. Likewise, in markets that are competitive and where price sensitivity is relatively high (e.g., Spain and Italy), actors who are early to raise rates risk losing customers to players who refuse to budge on pricing – in an extremely responsive game. When telcos become hyper focused on pricing to gain customers, the overall sustainability of the industry’s business model is weakened. Similarly, while raising prices can be a powerful way to counteract inflation, operators should keep in mind that competition and legacy contracts might prevent growth in ARPU. There is no magic bullet when it comes to pricing, but operators should consider their market, focus on the advantages of premium services, and communicate transparently on any price raises.

Current challenging economic conditions: A unique opportunity for necessary cuts and innovations 

Emerging global inflation – which may lessen in the mid-term but whose effects have yet to be felt – provides operators with a unique opportunity to tackle long-standing issues to counter deflationary trends.

Challenging economic conditions justify taking exceptional and urgent short-term remedial actions, many of which are in line with sustainability goals. These measures help achieve long-term value creation and escape the ”more-for-less” paradigm. By focusing on cost controls (especially in energy), labor optimization, and innovative ”more for more” business models, mobile telcos can find a way out of inflation and back on a path towards growth.

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Leadership & Oversight

Federico Torri