by

Uwe Lambrette Nicolas Mahler Gregor Jost

[email protected]

[email protected]

[email protected]

Michael Peterson Roman Friedrich

[email protected]

[email protected]

Capturing the Telecom Operator Cost Opportunity

A Customiseable program

Capturing the Telecom Operator Cost Opportunity

A Customiseable program
These are tough times for mobile operators in Europe. Theres cutthroat pricing on plain voice and SMS messaging, future revenue is jeopardized by emerging developments in voice-over-IP and fixed-mobile convergence, and operational costs are increasing as more complex 3G networks are built. Share prices are declining and investors are not happy. Whats more, European consumers are proving slow to adopt products based on the 3G standard. While Booz Allen believes that substantial 3G-linked revenue will eventually kick in, it will probably take another two years; until that time, margins will be under significant pressure. With revenue thus constrained for the near term, operators must look to cost containment to keep margins up and stay competitive. At most operators, however, the most obvious operational inefficiencies have been wrung out of the system. The low hanging fruit has been picked, and yet more cost savings must be found. There is, in other words, the need for a new more comprehensive approach to cost containment that looks beyond the obvious and delves deeper into the organization. It is a process we call Total Cost Transformation. Indeed, we predict that the near term future of telecoms will see an increased focus on cost transformation for the mobile industry, both to stabilize short-term revenue challenges as well as for strategic reasonsto enable investment and stay competitive. Booz Allen analyses show that in order to fund product innovation adequately, mobile operators need to maintain EBITDA margins of at least 30 percent. With revenue clearly under pressure, the key to maintaining healthy margins, and thus the key to adequate product innovation, is looking to the cost side. A Comprehensive Approach Admittedly, finding more costs to eliminate is no mean feat. Most operators have already harvested the low hanging fruit and cut what they thought they could. To take cost savings to the next level requires expertise and a strong commitment to take savings to the bottom line. This is where Booz Allens Total Cost Transformation comes in. There are three pillars to this transformation. The first is using a framework that harnesses inherent, structural, systemic and realized costs (ISSR) to help companies identify where cutting costs will yield a competitive advantage and trace those costs back to their cost driver. By doing so, the ISSR framework helps senior management make focused and comprehensive cost-cutting decisions.

Exhibit 1
Total Cost Transformation

COST TRANSFORMATION LEVERS

COST CATEGORY INHERENT STRUCTURAL SYSTEMIC REALIZED

COST LEVER

Reinvent the Business Model Optimize the Footprint

Define the Cross-Functional Delivery System Empower full Utilization FUNCTION

Tech

nolo

gy

tom Cus

tion

Supp ly Cha

in

Marketing

e ervic er S

ea e rh Ov

k wor

rma

Sales

Info

Net

Source: Booz Allen Hamilton

The second pillar of Total Cost Transformation is change management. There are well established tactics for driving change in the organization in order to achieve cost reduction targets; the important point here is that change management is essential even when it comes to cost reduction efforts. The third pillar is program execution; to properly execute Total Cost Transformation a company must a have a clear understanding of its cost reduction priorities. The ISSR Framework Each of the four cost categories in the ISSR deals with a specific aspect of how a business is managed. Inherent costs refer to the core of the business model itself. For example, a consumer versus a business focus; offering differentiated expensive services versus pursuing a commodity, low-cost model; 3GPP versus non-3GPP network standards. Structural costs involve the delivery paradigm and locations. Should a function be outsourced? Should supplier relationships be competitive or cooperative? A firm grasp on structural costs is imperative especially if a merger or acquisition is possible down the road. Booz Allen estimates that it is possible to recover more than 35 percent of the cost of acquiring a national mobile operator through structural operating cost synergies.
Exhibit 2
ISSR Cost Driver Framework

Systemic costs must also be considered for cost savings. Here the process and system architecture should be examined. Is it a consolidated or distributed billing system? Does the company have local or consolidated planning? How rigorous is non-productrelated sourcing? A closer look at these areas might result in lower handset costs or help ensure vendors deliver more standardized network equipment. Finally, there are realized costs. Once the foundations of costs are examinedinherent, structural and systemic costscompanies can focus on improving operational effectiveness, such as improved labor productivity. Inherent Costs In the case of telecoms, competing companies offer reliable, high-quality peer-to-peer communication services. But this industry structure inherently limits the ability for mobile operators to differentiate themselves in two fundamental ways. Service quality is hard to distinguish, as is the service itself. For instance, in the U.K. there are five parallel mobile networks in place, making differentiation difficult and making the overall U.K. market a costly one. Booz Allen estimates that the U.K. mobile industry costs one billion euros more per quarter to operate than if it had a more efficient industry structure with fewer networks. How exactly that cost could be taken out barring the voluntary exit of one of the players is a different matter.

Function Cost Category

IT Network Supply Chain Products Reinvent the Business Model Inherent Network sharing Cross-national consolidation Online channel launch and leverage Optimize the Footprint Structural Data Center Consolidation IT Project rationalization Outsourcing NCN/IMS Migration Supply chain repositioning and tools Define the Cross-Functional Delivery System Systemic Data Center Consolidation IT Project rationalization Field force optimization Maintenance and repair optimization Reverse logistics optimization Terminal logistics Capex reduction and prioritization Process optimization High-volume process Rapid sourcing Demand optimization (Prepaid refill) management program marketing Footprint optimization Store IT connectivity Shared service centres for e.g. HR and finance Marketing Sales/ Service Overhead

Logistics outsourcing

Offshoring and outsourcing

Portfolio streamlining and simplification Empower Full Utlization

Realized Demand management Inventory management

Sales rep. performance push CSR cost optimization

Headcount and unit cost management

Source: Booz Allen Hamilton

To keep ahead of commoditization, mobile operators are looking to new operating models through the design of costly new network assets. In rural Sweden, for example, a 3G network is being built thanks to a joint venture. Telia AB and its wholly owned subsidiary Telia Mobile AB signed an agreement with NetCom AB and its wholly owned subsidiary Tele2 AB to form a 50-50 joint venture company to build and operate a network for UMTS (Universal Mobile Telecommunications System). However, Telia and Tele2 will continue to compete individually for mobile customers with their respective service offerings. Booz Allen expects that as the industry matures and basic capabilities are commoditized, more of these types of tailored projects will arise; mobile operators will focus competitive differentiation on propositions and pricing while network capabilities are increasingly seen as utilities. Also, with service competition robust in many mobile markets, its likely that regulators will permit such innovative joint ventures, as well as more straight forward mergers and acquisitions. For example, in August 2005 the Dutch competitive authority, the NMa, approved Royal KPN NVs proposed takeover of rival Telfort for just under 1 billion Euros, a takeover which helped KPN achieve its target market share of 40 percent. However, the NMa said it still expects sufficient competition on both the consumer and wholesale mobile markets from Vodafone, T-Mobile and Orange. Inherent Cost Driver: Technology Complexity Besides the industrys structure itself, another cost driver for the mobile industry is the growing complexity of technology. While second-generation (2G) technologies gained a foothold relatively quickly in the early to mid-1990s, that was thanks largely to each standards abilityGSM, PDC and CDMAto develop independently. South Koreas SK Telecom, for instance, developed CDMA within that single country in a consolidated effort that involved few parties. But 3G technology has been a much different story as the various 2G operators vie to develop the next generation of technology in a struggle to keep their current customers and, whenever possible, make inroads into other companies clientele. Overall, the globally concerted 3G effort has been slow and has yielded much higher complexity and cost. CDMAs evolution to 3G took six years, DoCoMo took eight years to roll out FOMA, its 3G service, while the GSMs 3G standard took 12 years in the making.

Inherent Cost Driver: Business Model Complexity International operators typically claim that they benefit from leveraging their scale across borders, but it is possible that operations that are more narrowly focused can achieve greater success. Booz Allen identifies six business model complexity drivers, which are all amplified when operating cross border. Customer needs become more diverse and culturally driven, there is a proliferation of handset types, products and services must often operate on diverse platforms, there are more and differently structured tariffs, and there are more networks, and more diverse business systems. A Booz Allen analysis of one lean-and-mean, segmentfocused mobile operator found that it enjoys higher EBIT margins than do national operators. Examples of these narrowly focused operators include Germanys Congster, which focuses on low-cost, young German DSL subscribers; BASE, which focuses on low cost mobile users who already own a phone; and Tesco Mobile in the U.K., which serves smart shoppers. That is not to say that national or global operators cannot boost their margins. They can, through business integrationbut that integration will depend on a careful study of structural and systemic costs. Booz Allen expects first and second tier operators could boost their EBIT margins from 25 to 35 percent, while third and fourth tier operators could boost margins from 20 to 30 percent, the threshold margin for meaningful investment in product innovation Structural and Systemic Costs The most important step in finding structural and systemic cost savings is to break down the silos between business units that inhibit communication. This is a tough and transformative endeavor, but worth the effort. Breaking down silos yields transparency across the business units, which in turn helps to identify duplication of efforts, and also helps a company achieve the benefits of its scale; moreover, facilitating communication with a company generally improves the customer experience. Of course, integrating a multinational mobile phone business across business units is a tall order. Take joint planning, for instance. Some operators might actually believe they are already accomplishing this, but, in fact, usually they are only consolidating financial figures at a very aggregated level. This makes it difficult to spot duplication and overlaps. Booz Allen has found that significant cost reduction is

possible when plans are joined as early in the process as possible. For instance, we estimate that 30 percent of the technology cost of the core network can be eliminated by creating a common network strategy early on (standardize applications, protocols, network layers and operation procedures), standardizing design (using one common design template and scale to the required size), and sharing pricing information and equipment needs. Another area that can contribute substantially to cost savings, if properly integrated is the supply chain, an area where other mature industries, e.g., automotive, have realized a significant impact on their bottom lines. A first step to realizing these benefits is shifting to a small number of key suppliers with whom operators can have a close and cooperative relationshipand preferably a relationship the operator can leverage for maximum price advantage. On the network side, Booz Allen was in one case able to identify 34 percent of savings through the use of eAuctions, price transparency, eProcesses and sourcing strategy. On the handset side of the equation, supply chain value can be found through consolidating purchase volumes and increasing batch sizes, through designing specific features to offer customers tailored devices, and through reducing the number of platforms and, thus, the cost of customization1. But when it comes to rethinking the supply chain specifically for the people and cost-heavy IT, customer service and network areas outsourcing is always on top of any list. The pitch is that outsourcing commodity-type functions allows management to focus on core competencies and better differentiate themselves in the marketplace; in addition, the outsourcers, because of their scale, focus and foreign locations, can operate at less cost and with more flexibility. But let the buyer beware. Booz Allen analysis suggests that not all of the advantages are sustainable. Outsourcers can create lock-in situations that allow them to recover steep initial price discounts, while in the long term accumulating the know-how that will make them ever more indispensable. Specifically, in telecom networks outsourcing is one option to realize intra-operator synergies in one country by using the same outsourcer, a synergy which is otherwise difficult to address. However, operators must be careful not to hastily commit to agreements they may later regret.

The next frontier of business integration is fixedmobile convergence. Its a trend that has implications for the consumer market offering them a blend of fixed and mobile functions but it also has important implications for managing costs on the supply side by combining delivery mechanisms for IT, networks and services. Booz Allen has already completed a comprehensive fixed-mobile business integration program for one operator that estimates a 12 percent reduction in the cost of customer service alone. In the long term, and we emphasize the word long here, convergent networks will produce a more cost effective network, as resources to deliver services will increasingly be shared between fixed and mobile networks. But industry-wide integration will take time due to the complexity of implementation and the need to replace a large share of the network assets. Moreover, convergence on the supply side will be realized earlier than on the demand side, as customers do not yet exhibit a strong desire for converged products. Realized Costs When it comes to the four costs included in the ISSR framework (inherent, structural, systemic and realized costs), the area with probably the least potential for additional cost take out is realized costs. The typical way to cut realized costs is to take the slack out of an organization. For instance, managing the network load as close to the optimum levels as possible without building more capacity. Indeed, it is within realized costs that some of the most rapid cost reductions can occur through decisions like eliminating low value services, discontinuing an intranet system, or re-using scraped equipment for spare parts. The reason we see comparatively less opportunity for cost reduction in realized costs is that this is where operators have generally focused. That said, with some creativity, additional savings in this area are possible. Change Management There is clearly a need for Total Cost Transformation at mobile operators, and the key tool is the ISSR framework. But once the targets are set and the analysis is completed, how does an organization get started? After all, setting targets is one thing, but meeting them is quite another. Organizations are often reluctant to change for an array of reasons: entrenched interests, comfort with established practices, and sheer laziness. All deflate the

1 Illustrated in Booz Allen Hamilton Viewpoint 3 Pillars of Device Wisdom by Dr. Roman Friedrich, Hanno Blankenstein, Frank Birkenstock

Exhibit 3
Example: Mobile Retail Inherent
Case Study Websales SK Telecom

Structural
Data Attachment Rate by Store Company Own Stores

Systemic
Handset Transactions vs. Service Transactions
70% 60%

Realized
Conversion Rate
1)

40

Service Transaction per Day

Data Attachment Rate

35 30 25 20 15 10 5 0 0

High Service Stores

50% 40% 30%

Low Service Stores

10 20 30 40 50 60

20% 10% 0%

SK-Telekom (South Korea) launched

E-Station online platform in 2000 for all brands and sub-brands, enabling - Change of personal details, settings and tariffs - Buying of ring-tones, wallpapers, etc.
0 20 40 60 80 100 120

Representatives (sample)

Handset Transaction per Day

Contacted Shoppers

Total Shoppers

There are wide differences in sales

effectiveness (e.g. attach rate)

Service of handsets and sales are

weakly correlated

The contact rate 2) has a strong

impact on the conversion rate

Increase customer selfadministration (e.g. via incentive scheme) Potentially abandon physical retail completely

Adjust store staffing levels based on Improve effectiveness of store staff

through training, hiring and incentives

Adjust service levels based on store

service needs

time of day traffic variance

Optimize customer contact rate

based on staffing adjustments

1) Conversion rate = (Gross add + add a line + upgrade) /shoppers, a customer who upgraded and added a line is considered as one transaction 2) Contact rate = shoppers who talked with sales rep / shoppers who walked in Source: Booz Allen Hamilton

momentum necessary to see changes through to completion. This problem is neither new nor unexplored, and standard change management approaches can help. Top managers must be engaged and they must play a continuous role in keeping employees focused and accountable. Crossfunctional teams have to be created, new ideas must be encouraged, and it should be made clear that championing the transformation effort is the path for advancement within the organization. These are well established tactics for driving change in the organization; the important point here is that change management is essential even when it comes to cost reduction efforts. Program Execution The first step is to decide what costs to focus on. Should an operator be preoccupied with inherent costs or realized costs? This assessment can be accomplished either top-down, using interviews and benchmarks, or bottom-up, where individual processes and their costs are analyzed and their cost drivers are identified. The top-down approach is best for larger programs, while the bottom-up process is ideal for the

in-depth analysis of very focused topics (e.g., end-toend call centre optimization). For example, a top down assessment might start with a CEO interview, financial data and questionnaires. Using this information the most promising ISSR areas are identified and then matched with the actual costs. Once the areas with the highest potential for cost base reductions are chosen, each cost lever within the focus area needs to be identified. A bottom-up process might be sequenced as follows: the first step would involve interviewing and getting a basic understanding of a specific client. Then more detailed information would be gathered based on the clients insights on both her own business and that of competitors. From there an operator can apply the ISSR framework to itself and to competitors to outline a plan of action. Lessons Learned from Other Industries If there is any solace for the mobile industry given the difficult times it now faces, it is that other industries have gone through the same maturation and thus

can offer guidance in how to proceed. There are three key lessons. The first lesson is that there is a tendency for focused business models to prevail; the second is that mature industries rely increasingly on cost effectiveness; and the third is that multinational companies must achieve cost savings through global scale without treating all markets the same. The first of these lessons, having a focused business model, is sensible as zeroing in on a particular product, market or customer segment allows a company to truly differentiate its products and services, win customers and leverage pricing power. For businesses that have to have a shared or consolidated infrastructure (such as airlines and train operators), differentiation via a business model that focuses on brand management and customer offerings is absolutely essential. Generalists, on the other hand, fall into a trap. They might be a one-stop shop, but its a one-stop shop of commodity products; they will be under relentless pricing and cost cutting pressure; margins will fall and they will be unable to properly reinvest in the business. Clear examples of these described dynamics are found in the airline industry, where no frills operators challenge the business model of many traditional national airlines. INITIATIVE TEAMS The second lesson around cost effectiveness is well illustrated by Toyota, an established company in a very mature industry that has relentlessly sought
Exhibit 4
Program and Change Architecture

and found ways to wring costs out of its operations while maintaining quality. Today, Toyota can hold the line on prices even when U.S. car manufacturers are drastically cutting their own prices, and at the same time invest. For years, Toyota plowed millions of dollars in cutting edge hybrid technologies that have now yielded the popular Prius, which is winning hearts and minds as the price of petrol has skyrocketed. Lastly, mobile operators must learn from other industries that they have to think globally and act locally. For all the talk of a networked, global economy, the fact is the world is still made up of many individual markets. Cultural tastes and preferences must be considered or efforts will fail. Even McDonalds, the quintessential cookie cutter organization, is starting to tinker with its menu offerings and experimenting with new sandwiches that would be rolled out in different countries, such as a New York Reuben, a Grilled Veggie and a Leaning Tower Italian. There are even subtle differences in the ways McDonalds serves apples. There are packets of skinned apple-slices for Americans, but the skins are left on for Europeans. Australians, meanwhile, just get an apple. The mobile phone industry is in the midst of fundamental change, the kind of change that comes with the maturing of any industry. The focus on revenue, however imperative, must now be coupled with an attention to cost reduction. The ISSR framework is the key tool within the Total Cost Transformation approach to achieve and sustain cost reductions. Cost reductions are essential as revenue growth slows down or stagnates and operators need to keep margins healthy. Eventually revenue will get a boost as 3G services are adopted by European consumers, but for the next two years cost transformation will be the way for operators to stay ahead of their game and to sustain long-term innovation capability.

ENGAGE THE TOP

PROGRAM BOARD

cascade down and break barriers

CHANGE

&
PROGRAM
PROGRAM OFFICE

MOBILIZE THE BASIS

INITIATIVE TEAMS

Source: Booz Allen Hamilton

What Booz Allen Hamilton Brings

Booz Allen Hamilton has been at the forefront of management consulting for businesses and governments for more than 90 years. Integrating the full range of consulting capabilities, Booz Allen is the one firm that helps clients solve their toughest problems, working by their side to help them achieve their missions. Booz Allen is committed to delivering results that endure. With 17,000 employees on six continents, the firm generates annual sales that exceed $3.5 billion. Booz Allen has been recognized as a consultant and an employer of choice. In 2005 and in 2006, Fortune magazine named Booz Allen one of The 100 Best Companies to Work For, and for the past seven years, Working Mother has ranked the firm among its 100 Best Companies for Working Mothers. To learn more about the firm, visit the Booz Allen Web site at www.boozallen.com. To learn more about the best ideas in business, visit www.strategy-business. com, the Web site for strategy+business, a quarterly journal sponsored by Booz Allen.

Contact Information: Uwe Lambrette

Principal, London Tel: +44-20-7393-3466 [email protected]

Gregor Jost
Associate, London Tel: +44-20-7393-3328 [email protected]

Michael Peterson
Principal, Munich Tel: +49-89-54525-640 [email protected]

Nicolas Mahler
Associate, Dusseldorf Tel: +49-211-3890-186 [email protected]

Roman Friedrich
Partner, Dusseldorf Tel: +49-211-3890-165 [email protected]

Downloadable digital versions of this article and other Booz Allen Hamilton publications are available from www.boozallen.com

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