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Adding value to the transit pipe

01:03 | Wednesday, 19/10/11
Internet traffic is booming across the globe to the point where, according to the latest Visual Networking Index from Cisco Systems, usage in 2010 worked out to 2GB per capita worldwide. Cisco says that will reach 9GB in 2015, by which time we'll be seeing 81 exabytes worth of IP traffic a month, compared to 20EB last year (a CAGR of 32%).

Looking at just the international component, internet traffic growth has been fast and furious in the last few years - particularly in Africa, eastern Europe, the Middle East and South Asia, where both average and peak international internet traffic CAGRs have exceeded 80% over the last four years, according to the latest figures from research firm TeleGeography. Overall, average traffic has risen 37% this year, with peak traffic up 53% (see Figure 1, above).

While those figures are good news for most players in the internet value chain, they're a mixed blessing for carriers in the IP transit business. TeleGeography also reports that IP transit prices are continuing to drop rapidly for a variety of reasons. And while growth in IP traffic can help compensate for that to an extent, that growth is also forcing carriers to invest in network upgrades, which puts additional pressure on what is already a low-margin business. 

Consequently, IP transit players face considerable challenges in developing a sustainable business plan to keep up with internet demand without sinking into the red. For some, the key to survival lies not only in investing in technologies that enable lower operating costs, but also add value to their IP transit offerings - particularly via data centers. 
  
Prices dropping

According to the latest international internet report from TeleGeography, GigE port prices in New York and London declined at a compounded rate of around 20% between Q2 2005 and Q2 2011 (median) while prices in Hong Kong declined 16% (see Figure 2, page 14). For the highest capacities in the most competitive markets, the lowest prices fell to $1 per Mbps per month. However, average prices received by carriers, which include a diverse mix of locations, port capacities, and market conditions, were significantly higher.

One constant statistic in all this is that, price drops notwithstanding, Asia's IP transit prices continue to be expensive compared to other regions. Major cities in North America and Europe offer the cheapest deals, but GigE port prices in Hong Kong - one of the most competitive IP transit markets in Asia - are 2.5 to 3.5 times higher than in London. 

The higher costs in Asia are a reflection of the cost of transport back to a primary exchange, particularly for cities far from major internet exchanges, says TeleGeography research director Alan Mauldin. "Median GigE prices in Bangkok and Manila, exceed $100 per Mbps, and prices in Africa can be several times higher."

The regional differentiation is also partly the result of differing levels of local competition, Mauldin adds. "For example, in Western markets you have players like Cogent or Level 3 that are known for being very price-competitive, which you don't have in Singapore or Hong Kong. Companies like that tend to bring everyone down to a certain price range." 

In any case, higher GigE port prices aren't translating into buckets of profit for IP transit players in Asia compared to other regions, says Pacnet president and CEO Bill Barney. 

"If you're in the IP transit business today, you're struggling," he says. "Volumes are going up and we're sourcing better out of the US, so proportionally our margins are holding. But it's still a challenge."

Mauldin says price erosion for IP transit doesn't look as grim when comparing it with ongoing peak international internet traffic growth - a rough proxy for IP transit demand - in major markets. "That peak traffic growth has outpaced IP transit price declines, which indicates that IP transit revenues have expanded."

Barney added that, at least in Asia, IP transit prices appear to finally be stabilizing.  

"The cost of delivering this stuff will ultimately put a floor on the pricing, at which point you'll start to see some stabilization, and we're starting to see that now," he says. "The price drops were dramatic for about 24 months but now it's leveling out." 

Technology investments

One bright spot is that while demand for IP traffic is escalating, Asia's subsea cables aren't running out of capacity anytime soon, says Mauldin. 

Apart from the construction of two new major cable systems in the region - which are driven by things like route diversity and lower latency, not just giving the region a capacity boost - existing cable systems are running traffic at nowhere near full capacity, Mauldin says.  "Most cables are using less than 20% of their maximum capacity."

More to the point, he adds, that utilization rate is staying low thanks in part to serious advances in long-haul transmission technologies. "In the past year, we've seen the technology go from 10-Gbps wavelengths to 40-Gbps, and soon we'll be going to 100-Gbps waves, even over older cables, not just new systems. That's really going to allow operators to wring more value out of the existing cables." 

That trend is also helping carriers run their networks more efficiently, says Walter Fung, VP of network business at NTT Communications Asia. "IP transit service is becoming more cost effective with the introduction of new transmission technologies, upgrades to existing cable system and deployment of new cable systems."

Mauldin cites lowering costs as a key factor for carriers to offset falling IP transit prices. Plummeting IP transit prices compound the risk of receiving a favorable return on investment, which makes low-cost network operation critical. "To succeed, carriers must continuously deploy new technology that achieves the lowest unit cost, as well as optimize network topology and peering relationships."

But even that is no guarantee of staying ahead of price erosion, says Fung. "The rapidly growing volume of IP traffic, boosted by more HD video content, increased adoption of cloud solutions, mobile applications and smart devices, along with the 'always on' behavioral change, however, has outweighed the impact of price reduction," he says. 

TeleGeography's numbers paint a slightly more optimistic picture if you take a broad general view of the IP transit market. 

"Sure, if the [IP transit] price drops, say, 20% in a month, then for that month it'll hurt revenues. But if you look at it over a three- to four-year period, then demand is outpacing erosion," Mauldin says. "That said, IP transit is a difficult business to get rich in. There's always constant pressure, and prices will generally go down, not up - it's like any other part of telecom."

Shifting landscapes

While the international internet business may be "difficult", it's also undergoing significant shifts in the sector landscape. 

For a start, says Mauldin, the decision by key carriers to increase their scale to drive down unit costs has concentrated the majority of internet traffic among a handful of carriers. 

"The top-20 carriers, in terms of capacity, operated roughly two-thirds of all international internet bandwidth between 2007 and 2011," he says. "If you're going to be providing the big internet backbone pipes, you need scale, and you have a handful of operators that have that. That not only bolsters the ROI for the wholesale internet access business, but also provides a favorable cost basis for other Layer 3 services such as IP VPNs."

Another significant change for IP transit, says Pacnet's Barney, is the growing popularity of mobile broadband. 

"As users migrate from fixed-line to mobile you're seeing a shift where more users are turning off fixed broadband and using only mobile devices," he says. "And if you look at Asian mobile operators today, as they get into the internet business, they've opened up free peering with each other as opposed to buying internet transit. That's causing a series of price drops."

Growing demand for data centers is also impacting the nature of the transit business, says Barney. 

"There's a huge evolution gong on right now from a router-based environment to a server-based environment, where large objects are being delivered by caching mechanisms as opposed to being sent on a real-time basis," he says. "CDNs essentially strip off your video traffic and send it on a store-and-forward basis so you can get better economics and better traffic management going forward."

Mauldin adds that data centers have played a key role in the other big change in the IP transit business: the decentralization of internet traffic that in the past has centered on the US. 

"That decentralization has been driven in part by the development of rich regional networks, coupled with a need for diversification, but data centers have been part of that as well for some time," he says, adding that IP transit prices and underlying transport prices are helping shape that trend. 

"As transport prices get lower, IP transit prices come down locally and you see more interest in keeping transit local," he explains. "The pace of demand growth is rapid and robust, and carriers are finding it more efficient to cache more of it and keep it within the region. It improves the experience for their customers and it saves them money." 

Mauldin adds that this decentralization trend in favor of regional traffic (see Figure 3, above) doesn't mean that trans-Pacific traffic is slowing down as a result. "You're not going to see a collapse in trans-Pacific demand because of all this. You're just going to see faster growth regionally."
   
Value-add opportunity

Interestingly, data centers not only promise better IP traffic economics but also create a significant opportunity for carriers to leverage both their wholesale IP offering and their network assets to develop value-added services.

"Data centers are definitely a differentiator for carriers in terms of providing full ICT solutions in one stop, especially to those cloud service providers generating new internet traffic," says NTT Com's Fung. 

"Data centers backed by Tier-1 IP backbones are able to deliver low latency advantages," he adds, citing NTT Com's recently announced plan to build data centers aimed at the financial customers, starting with a specialized data center Hong Kong. 

Pacnet, with similar ambitions, has been building data centers around the region for the past couple of years and has plans for its own content delivery network (CDN), which it's building via a deal with EdgeCast. 

"By combining our own CDN capability and large Asian IP network within a submarine network, you'll see dramatic changes in how that traffic is delivered across the planet, both in terms of performance and getting down to those cost parameters," he says. 

Barney says Pacnet's focus on data centers and CDNs is part of its strategy to put more emphasis on higher-value services on its IP network.

"The idea is to differentiate ourselves in the marketplace around video delivery and go into the market with a series of specialized IP transit products," Barney explains. "Data centers help a lot because as we get more Internet providers in our data centers, it gives us higher performance on IP transit, eliminates the need for local loops, and expands performance for companies in the sense that you're no longer connecting on city backbones - you're connecting over a cross-connect between two boxes."
 

John C. Tanner  |   October 19, 2011
Telecom Asia

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