Effects of. regulatory asymmetries. in the Internet Value chain. Portada Proyectable. Titulo arial regular 22 pt.

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1 Effects of Portada Proyectable. Titulo arial regular 22 pt. regulatory asymmetries Arial 16 pt para generar los subtítulos de máximo 3 líneas. in the Internet Value chain Telefónica S.A

2 01 Introduction

3 01 Internet companies compete with each other with partially substitutive bundles (Eisenach(2011) Activity Google Microsoft Apple Amazon Telefónica ASP Search Cloud Cloud E- commerce App. Software Oper. System AdSense Docs Office Android Windows OsX itunes, Appstore Devices Xbox iphone, ipad Voice Google voice Skype Amazon store Kindle PSTN, GSM,RCS Messaging Gmail Messenger Data serv. Networks Kansas Mobile,fixe d, transit 3

4 01 Our paper intends to assess the impact of regulation and openness in the profitability of Internet companies OBJETIVE To assess if the degree of regulation and the degree of openness of the key asset of an Internet company affects its profitability HYPOTHESIS Regulation depresses the profitability of a company Openness of the key asset reduces the profitability of a company Identify leaders in the Internet space Identify their core asset and grouping them according to it METHODO- LOGY Calculate their profitability with focus on Return on Fixed Assets (ROFA) Assess the degree of openness and regulation of each group Assess the statistical relationship between openness and regulation and profitability and look for significant results 4

5 02 Sample

6 02 Criteria for the selection of the sample Leaders on the Internet Successful companies: positive net income Not biased by unsuccessful business models Core business on the Internet Consolidated companies: at least 5 years from the launch of their services Not biased by offline markets Not biased by set up costs Quoted on the Stock Exchange Based in OCDE countries Reliable and comparable information 6

7 02 We have included 31 companies in the sample SERVICES & APPLICATIONS DEVICES ASPs Software Retailers Google Microsoft Netflix Apple Yahoo Symantec Amazon RIM IAC Red Hat Ebay Cisco Software AG Expedia Nokia Priceline Group INFORMATION TRANSPORT CDN Fixed/Integrated Mobile Cable Akamai NTT NTT Docomo Comcast Telefónica Softbank Liberty Global Orange Telecom Italia BT Deutsche Telekom At&t Verizon América Móvil Vodafone 7

8 03 Profitability assessment

9 03 We have selected ROFA as the relevant parameter to measure profitability 1 ROE distorted by Financial Leverage 2 ROA distorted by Cash Hoarding 3 ROFA measures underlying profitability of business operations, irrespective of finance management 9

10 03 ROE is similar (10%-30%) across the value chain, but with very different leverages Total Liabilities/Liabilities+Equity 120% Services & Applications Devices Information transport 100% 80% 60% 40% 20% 0% Netflix Amazon Symantec Expedia Software AG Microsoft Red Hat The Priceline Group ebay IAC Google Yahoo Nokia Cisco Apple RIM BT Liberty Global Softbank Telefónica Telecom Italia Orange Deutsche T. Comcast América Móvil Verizon at&t NTT Vodafone NTT docomo Akamai Source: Annual Reports, ROE=Net Income/Equity

11 03 Leverage masks differences in the underlying profitability of assets (ROA) Services, Applications & Devices Information Transport 5% - 24% ROA 1% - 6% 25% Services & Applications Devices Information transport 20% 15% 10% 5% 0% Microsoft The Priceline Group Netflix Google Software AG Yahoo ebay Symantec Expedia Amazon Red Hat IAC RIM Apple Cisco Nokia América Móvil Telefónica At&t Ntt Docomo Akamai Vodafone Orange Verizon Telecom Italia NTT BT Comcast Softbank Liberty Global Deutsche T. Source: Annual Reports, ROA=Net Income/Total Assets

12 03 ROA is at its turn distorted by huge differences in cash levels Services, Applications & Devices Information Transport 19% - 60% Cash/ Total Assets 0.5% - 7% 60% Services & Applications Devices Information transport 50% 40% 30% 20% 10% 0% Google The Priceline Group Amazon Microsoft Red Hat IAC Netflix ebay Symantec Yahoo Expedia Software AG Cisco Apple Nokia RIM Akamai Softbank Liberty Global América Móvil NTT docomo BT NTT Comcast Orange Telefónica Telecom Italia Deutsche T. Verizon Vodafone at&t Source: Annual Reports,

13 03 ROFA is better ratio to measure the underlying profitability of business operations Services, Applications & Devices Information Transport 5% - 62% ROFA 1% - 15% 70% Services & Applications Devices Information transport 60% 50% 40% 30% 20% 10% 0% Microsoft The Priceline Group Google Netflix Amazon ebay Software AG Yahoo Symantec Red Hat Expedia IAC RIM Apple Cisco Nokia América Móvil Akamai NTT docomo Telefónica at&t Orange Vodafone Verizon Telecom Italia NTT BT Softbank Comcast Liberty Global Deutsche T. Source: Annual Reports, 2010 And the profitability is much higher in Services, Applications & Devices than in Information Transport 13 ROFA=Net Income/Total Fixed Assets

14 04 Regulatory and Openness Indexes

15 04 Openness Index taken form BCG report for Cable Europe 15

16 04 We assume companies in the same activity equally open Category Company Openness Index Telecommunications operators under asymmetric regulation Telecom operators under symmetric regulation Cable operators 10 CDN 4 Content distribution 4 Electronic Commerce 8 Search based ASP 2.5 Software Devices

17 04 Regulatory Index defined by us in an industry-agnostic way 0 If company is not constrained by regulation 1 If the company has some of their assets regulated 2 If all the key assets of the company are regulated 17

18 Telefónica Telecom Italia Deutsche Telekom BT Verizon AT&T América Móvil NTT Vodafone NTT DoCoMo Softbank Comcast Liberty Global Virgin Media Akamai Limelight Amazon Ebay Priceline Expedia Orbitz Google Yahoo Monster IAC Microsoft Symantec Software AG Red Hat Apple Nokia RIM Cisco 04 Internet companies face very different regulatory pressure Regulatory Index

19 04 Regulatory asymmetries are not based on competition law EU compe tition law criteria to find market power There are no meaningful differences between the market positions of top Internet players that seem to justify a different regulatory treatment in Europe 19

20 04 If regulation just compensated for dominance advantages, profitability would be expected to be independent of regulation 1 Dominant players very high profitability would be lowered because of regulation to a competitive level 2 Non-dominant players moderate or low ROFA would be raised to the competitive level thanks to regulation removing dominance abuses 20

21 05 Statistical analysis

22 ROFA 05 The degree of openness of the key asset of a company has an inverse relation with its ROFA Openness Index 80% 60% Google Microsoft RIM Priceline Netflix 40% 20% 0% Yahoo IAC Apple Cisco Software AG Akamai Nokia Symantec y = -0,029x + 0,384 R² = 0,251 Amazon América Móvil Ebay NTTdocomo Telefónica AT&T Expedia Orange Verizon Vodafone Comcast Telecom Italia Softbank NTT Liberty BT Deutsche T Red Hat Openness Index 22

23 ROFA 05 Regulation has also an inverse relation with the ROFA of a company Regulatory Index 80% 60% 40% Google Priceline Netflix Microsoft RIM Apple Cisco Amazon 20% Ebay SymantecSoftware AG Akamai Nokia Red Hat Yahoo IAC Expedia 0% Liberty y = -0,017x + 0,257 R² = 0,198 Ntt Docomo Softbank Verizon Comcast At&t Vodafone América Móvil Orange Telefónica DT BT Telecom Italia Ntt Regulatory Index 23

24 ROFA 05 This effect occurs across the value chain and also at each activity Regulatory Index 80% Search 60% Priceline Google Netflix 40% Microsoft RIM Apple Devices Cisco Amazon 20% Ebay SymantecSoftware AG Akamai Nokia Red Hat Yahoo IAC Expedia 0% Liberty y = -0,017x + 0,257 R² = 0,198 Ntt Docomo Softbank Verizon Comcast At&t Vodafone América Móvil Orange Telefónica DT BT Telecom Italia Ntt Regulatory Index Operators 24

25 05 Conclusions Openness of key asset Regulation of key asset Impact Independence The degree of openness of the key asset of a company has an inverse relation with the ROFA of a company The degree of regulation has also an inverse relation with the ROFA of a company Up to 20-25% of differences in profitability related to openness and regulation Openness and regulation are not independent. Opening of key assets is a frequent regulatory remedy Asymmetric decisions by regulatory authorities have a direct and relevant impact on the profitability of Internet companies 25

26 06 Policy Implications

27 06 Current EU regulation confers competitive advantages to American companies at the expense of European ones Illustration: a simulation that estimates profits variation assuming differences in regulation drive changes in profit following the estimated trend equation Current Scenario Alternative Scenario (Regulatory Index = 6 for all companies) 70% 70% 60% 60% 50% 50% 40% 30% 20% 49.4 pp 40% 30% 20% 30.4 pp 10% 10% 0% Telefónica Orange Vodafone Microsoft RIM Google 0% Telefónica Telecom Italia BT Microsoft RIM Google EU horizontal and asymmetric approach to regulation is having the unintended consequence of being in practice like a reverse industrial policy 27

28 06 Policy implications: regulation should be leveled across the whole Internet value chain Asymmetric regulation across the Internet value chain depresses the profitability of regulated companies Regulatory differences in Europe are not based on competition law criteria European asymmetric regulation is favouring American companies at the expense of European ones Regulatory pressure should be levelled across the whole value chain, not just in horizontal activities 28

29 29

30 Annex I: Detailed calculation of the regulatory index (I) INFORMATION TRANSPORT 30

31 Annex I: Detailed calculation of the regulatory index (II) SERVICES & APPLICATIONS AND DEVICES 31