Chasing ARPU is Wrong - Report

The industry-accepted metric of ARPU (Average Revenue Per User) is insufficient and operators may limit their profits by focusing exclusively upon it, according to a new Shosteck Group study. Today ARPU is the accepted metric for measuring the success of mobile operators. However, the firm takes issue with this.

"Average Margin per User" (AMPU) provides a basic - but generally unacknowledged - measure for the success of wireless operators. By focusing on AMPU, operators can generate profits sooner - and at higher rates - than otherwise would be the case," stated Dr. Herschel Shosteck, President of the Shosteck Group, an independent telecommunications consultancy based in Wheaton, Maryland.

"Over the past decade, the industry has expressed dismay at declining ARPU. Part of this dismay stems from the assumption that declining ARPU implies a loss in profits," commented Ms. Jane Zweig, Chief Executive Officer of the firm. "Few financial analysts have questioned whether low ARPU customers actually lose money for operators - or how operators could profit even if ARPU would continue to decline. Nor have they questioned whether high ARPU customers are consistently profitable."

The firm observes that the current focus on ARPU is misplaced.

"The importance of ARPU rests on two widely articulated assumptions: (1) that margins for the lowest ARPU customers are inherently unprofitable and (2) that new data services will lift ARPU, and with that, profitability. However, both are flawed. By adopting either, operators may extend losses rather than increase profits," stated Dr. Shosteck.

"There are two reasons for this," stated Ms. Zweig. "First, low revenue per user need not preclude a positive AMPU -- low revenue users can still be profitable as long as ARPU exceeds average cost per user. For example, prepay customers have been widely assumed to be unprofitable. Prepaid customers may be low ARPU. However, they may generate higher revenue per minute than do post-pay customers. In addition, they require no handset subsidies, no billing and collection costs, and produce minimal bad debt. For these reasons, they can generate positive AMPU and with that, profits."

"Second, even though data services will raise revenues, the full costs of delivering data may exceed such revenues and AMPU will be negative. For such reasons, understanding AMPU becomes essential if operators are to increase profits," continued Ms. Zweig.

The firm notes that a multitude of cost factors may affect the AMPU of a given offering.

"Handset subsidies, infrastructure investment, network operating costs, and marketing and advertising costs are among the most important," stated Dr. Shosteck. "In some cases, all of these factors will not be relevant. Operators such as Virgin Mobile, do not subsidize handsets. Some applications, such as SMS, may use so few network resources that the costs of the infrastructure required to deliver them are minimal."

"An operator may increase traffic by subsidizing an expensive handset. However, the incrementally greater traffic may not generate the revenue needed to recover the cost of that subsidy. A new offering may require additional infrastructure. To the extent that it does, the costs associated with it increase. Given this, operators must balance the cost of the infrastructure against the revenues the new offering will produce," continued Dr. Shosteck.

The mobile world has talked forever about the "killer application" - the Holy Grail of operator profits - but no one has ever defined it. This study defines four elements.

"First, the "killer app" generates inordinately high traffic volumes. Second, it produces especially high revenue (ARPU). Third, it produces high margins (AMPU). Fourth, its traffic volumes and revenues drive the construction of sufficient infrastructure, RF and network, to support yet unknown future applications," commented Ms. Zweig.

"Frequently, voice has been dubbed the killer app. It generates high volumes, 95 percent or more of network traffic. It produces high revenues, 80 percent or more of operator ARPU. However, in the face of competition, voice fails to produce sufficiently high margins. If margins were sufficient, neither the balance sheets nor share prices of so many operators would be distressed. Nor is voice driving construction of network infrastructure capable of supporting future applications. If it were, the voice networks in Europe and the U.S. would not be so over-loaded, nor would operators show such reluctance to construct networks, in particular those to support UMTS," she continued.

The study concludes that the concept of a killer application is a myth and likely an unobtainable goal.

"For operators in a competitive market, there is no magical service that will lead to excess profits. They must build their network to enable a plethora of offerings, each of which contributes to profit. Key to this is selecting offerings that can produce profits. The AMPU model and analysis are intended to support this goal," concludes Dr. Shosteck."

Posted to the site on 9th May 2003