It’s hard to get love these days, if you’re a telco. Wall Street questions your business model. Standards initiatives you’ve traditionally depended on, like those of the 3GPP, seem to be turning to focus on what vendors want, not what you need. Now, Light Reading is saying “The optical industry is reorganizing around hyperscalers, and telecom’s voice is fading.” All this is bad ink for sure, but the last of the points may signal a very much more serious problem.
Is the optical industry reorganizing around the hyperscalers? Yes, because the goal of the optical industry is to sell optical gear, and hyperscalers are a growth market, where telcos are not. But why is that? Because selling capacity is a business that’s already commoditizing, and getting even more so. But why can hyperscalers grow their optics inventory, then? Because they don’t sell capacity. Cloud services are a higher-margin business, and when you have a good retail margin on something, you can afford to make improvements and investments to build your business. Telcos, relentlessly focused on somehow making bit-pushing a premium service, have failed to create anything with good retail margins.
So far, this is a story about why a company that sells a high-margin product can afford quality packaging. Most hyperscaler optical purchases have been related to inter- or intra-cluster pathways, and data center interconnect missions, which doesn’t seem much of a threat to the telcos. But….
The good-retail-margin business of the hyperscalers, cloud services, is directed at creating front-end elements for business applications, either facing customers/partners or their own workers (via SASE). Enterprises say that they are increasingly using the same applications and the same front-end model for workers, and that means that the connection to branch locations that’s now made by VPN services could instead be made from cloud to data center with a single trunk. In other words, cloud services could fairly easily absorb VPNs.
The largest number of optical trunks that many telcos deploy relates to access Ethernet connections, and of course the majority of these go to branch sites as a part of VPN services. If these services were no longer used, or even if the usage was significantly diminished, you’d be putting a lot of optical gear out of service. And there are other forces acting to limit access optics growth.
The number of sites that are a candidate for optical connections, other than consumer broadband based on PON, has generally been fairly stable in developed economies. Recently, with the advent of online shopping, we’ve seen very slow (if any) growth in the number of retail sites. This is important because sites that have devices generating traffic (POS terminals, for example) are more likely to want something better than consumer-grade broadband Internet.
VPN usage has also recently been capped, even reduced, by the use of SD-WAN, which is a VPN overlay on the Internet. Where good-quality consumer broadband is available, SD-WAN can support branch and even home office connection to the corporate VPN at a much lower cost, even where cloud services are not used as a front-end to enterprise applications and SASE is not involved.
For telcos, then, the problem of flight from VPNs could be exacerbated by the shift of workers to the cloud front-end of applications, accessed via the Internet, rather than to direct VPN access and data center front-ends. There is every reason for the cloud providers to promote this, since they make money hosting the front-end technology and don’t make money selling VPN services.
This is far from an unlikely prospect. Think for a moment about this: The prevailing view for years on cloud computing was “Everything is moving to the cloud”. I don’t believe this and never did, but suppose it were correct. If the cloud is the host of the future, then there is clearly no need for VPNs. None, zero. There is no need for anything except the Internet and access to it. Telcos would be confined to the least-profitable piece of their business, the most capex- and opex-intensive, which is access. Now, ask what the difference is between this scenario and one where the cloud absorbs not everything, but all front-end functions. Users still access “the cloud” via the Internet, right? The only thing that changes is that the cloud has to connect to data centers for the back-end piece of applications. So, looking at the US market specifically, we have over a million satellite sites that today are networked to VPNs. There are a bit over ten thousand enterprise data center sites, so the quantitative difference between cloud-eats-front-end and cloud-eats-everything is ten thousand connections out of 1.01 million.
The challenge that telcos face is that connectivity is only a way to distribute experiences that people want. It’s the experiences that they value, just as they value cars (and buy them) rather than roads, which they simply expect. The telcos have called this shift in wants and willingness to pay “disintermediation”, which seems to imply that some outside force has disconnected them from their rightful place. Not so; they disconnected themselves. The problem now is that the shift is threatening even connectivity.
There is no real risk to access connections; nobody really wants to be in a low-margin business, and cloud providers know very well that the cost of providing national broadband access would be far higher than they could expect any return on investment to cover. Long-haul connectivity is another matter. What you need to create a core network isn’t nearly as expensive, and further what the cloud providers already have to provide in order to support their distributed hosting is a big part of it. They can surely steal business VPN services from telcos, at least those sites where cloud front-ends dominate.
The question now for telcos isn’t whether they’ve fallen into another disintermediation trap with the cloud services and providers—they have. It’s whether the same thing might happen with edge computing. It’s very clear to enterprises that the only potential driver of massive new IT and network spending would be real-time applications, and it’s increasingly clear that some (Nvidia, notably) on the vendor side see this too. Realizing this real-time computing opportunity means deploying edge elements that are hosted, not on premises. If the cloud providers, or anyone other than the telcos, get this piece of business, telcos will be confined to an even smaller and less profitable niche than they now occupy, or will occupy if enterprise VPN connections shift to somewhere in the cloud.
