China Unicom’s new ownership shows how industrial 5G could be done

China has been the savior of the mobile infrastructure business twice before, injecting huge capex sums into networks just as other regions’ deployments were drying up. That will not be the case in 5G.

China Mobile has already warned that it will only invest heavily when it sees a clear case, and the restructuring of China Unicom this month, coupled with a dramatic slashing of its capex budget, will worry suppliers further. The Unicom deal brings in a wide range of funding partners from different industries (see below) and while that could establish a blueprint for shared investment that could be emulated across the 5G world, it will certainly slow short term opportunities for network OEMs.

To survive, vendors will have to grow accustomed to longer roll-out periods and a different pattern of spending. There will be more sharing of networks, between operators or with industry partners; investment will be aligned far more tightly to proven new revenue opportunities (no more ‘build and they will come’ – enhanced 4G can do that); some operators will be spending money, but with new suppliers, those coming from the IT market, or start-ups offering a new low cost approach to network infrastructure.

This will be the case in China as elsewhere, in a break from past patterns. When the three Chinese operators finally deployed 3G from 2010, and then followed rapidly with massive LTE deployments from 2013, they provided a welcome windfall for the large vendors, which were starting to suffer from a slowdown in other major regions which had built out the new networks at an earlier stage.

The Chinese MNOs – China Mobile, China Unicom and China Telecom – may not have been first to the party in 3G or 4G, but when they moved, the scale of their roll-out was awe-inspiring. By moving so quickly from 3G to 4G (especially China Mobile, which had been stuck with the sub-standard TD-SCDMA 3G technology) they created a great wave of investment, as they dragged their huge country from the world of 2G voice and poor coverage, to high quality mobile broadband to large swathes of the population. All in the space of about five frenzied years.

As they came close to completing the 4G deployments, capex slowed. In March this year, all three slashed their capex budgets for 2017 – Mobile by 6%, to about CNY176bn ($25.6bn); Telecom by 8% to CNY89bn ($12.9bn), most of that on 4G and fiber; and Unicom by a massive 38%, to just CNY45bn ($6.5bn). Unicom’s decision followed a 46% capex drop in 2016, admittedly from an unrealistic starting point, to RMB72.1bn ($10.5bn).

The impact on vendors’ results was clearly seen in 2016 and 2017, with even the Chinese OEMs themselves acknowledging slower growth in mobile networks. Suppliers may be hoping for another Chinese miracle, this one in 5G, to boost global spending from 2018, but they will be disappointed. The Chinese operators are making it very clear that, though they will start 5G commercial trials and limited deployments from next year, they will be aiming to monetize their LTE networks, and improve the return on that investment, for at least another decade. Meanwhile, 5G will be introduced gradually over 10 years, as and when usage patterns and new use cases justify that.

No more big bang roll-outs – something vendors have been hearing from operators all round the world, but somehow, hearing it from the head of China Mobile makes the view of the future that bit more frightening. Earlier this month, at the operator’s quarterly results presentation, chairman Shang Bing said China Mobile will not be able to determine the expected capex for its future 5G network until 5G technologies and business models are more mature. He said the company is focused on 5G tests for now and will need to consider ROI of future networks carefully, rather than “blindly invest” in the new technology, according to local news sources. The comments echoed those made by senior executives at the recent MWC Shanghai event, to the effect that getting the most out of LTE was the main priority for the foreseeable future, despite Mobile’s participation in very advanced R&D, trials and standards-setting.

The operator will conduct the field tests over the next two years (including phase two product validation trials in 2018), with large scale pre-commercial trials planned in 2019 and limited commercial roll-outs in 2020. It allocated CNY176bn ($26.4bn) in capex for 2017, with 4G infrastructure accounting for 43% of that so far this year, as Mobile pushes towards 99% population coverage with LTE. It aready has 1.65m LTE base stations installed and will roll out another 120,000 by year end – with these eye-watering numbers of brand new, modern 4G sites, it is clear that 5G vendors will have to work hard to convince Mobile it needs another round of network investment any time soon, unless that supports very new and lucrative applications.

Instead, the rate of 5G roll-out and adoption in China is expected to be slower than it was for 4G, with investment spread over a longer timeframe, from 2018 to 2025. Capex will not account for more than 25% of operator revenue prior to commercial launch, according to a research paper published this summer by China’s Ministry of Industry and Information Technology (MIIT). This estimates that 5G connections in China will reach 428m by 2025, accounting for 39% of the 1.1bn global 5G connections expected by that date.

But that will still fall short of the 4G customer base claimed by China Mobile alone in 2017 – its target for the end of this year is 630m LTE subscribers, out of a total base of 867m.

The pace will certainly be more stately, and not just in China. 5G frontrunners like NTT Docomo of Japan have pointedly said that each generation of mobile networks should entail lower capital expenditure than the last, and Docomo expects the reduction from 4G to 5G to be the steepest so far, with significant use of virtualization and software-defined networking (SDN) to reduce upfront cost, combined with extensive repurposing of existing infrastructure and spectrum.

Just last week, Telenor CEO Sigve Brekke told a conference in Oslo that he expects the roll-out of 5G to be more gradual than in earlier technology generations, and to be driven by specific use cases rather than speculative investments. He said a big investment plan will not be in place for 5G, unlike early generations where there had been “a complete network update”.

Brekke added that it will be a long time before 5G reaches Telenor’s emerging markets businesses in areas like central Asia, with initial deployments focused on Norway and Sweden. Is comments echoed those of Berit Svendsen, CEO of Telenor Norway, at the 5G World conference in June. She said increasing efficiency and faster speeds would not justify 5G investment on their own but the new networks would also have to support new revenue streams, which could not be enabled by 4G, citing remote surgery and some smart agriculture and fisheries applications.

She said: “The whole telco industry needs to increase revenue going forward. We are already in big trouble because there has not been increases in revenue for many years. We have been lucky in Norway as we have been able to monetize the mobile side, and this is good reason to defend current and future investments. This is now a necessity going forward by finding good use cases to monetise 5G. If not, it will take a long time.”

China will follow the same patterns, but is also undergoing a radical change in its market structure, which will lead to far more resource sharing, and a new pattern of investment, whether in 4G or 5G. For instance, the second and third MNOs, Telecom and Unicom, each expects to reduce capex by as much as CNY3bn ($451m) this year by sharing the build of 4G and optical networks. Their infrastructure alliance was announced last year as a way to make them more competitive against China Mobile, which is well ahead in 4G build-out and revenues. Unicom and Telecom plan to collaborate on deploying 60,000 LTE base stations and 14,500 kilometers of optical fiber.

Both companies, as well as China Mobile, also lease towers from the recently formed, state-backed joint venture, China Tower. All three MNOs placed many of their towers in this venture late last year. China Mobile now leases 1m towers, 30% of its total, from China Tower, while China Telecom leases 550,000, or 55% of its total. The three operators are shareholders, so should benefit once Tower becomes profitable as well as reducing their own costs and boost their shared site ratios.

Even more dramatic change will come to China Unicom now. The company has been the least successful at driving home the 4G advantage. All three MNOs were faced with the same situation as many counterparts elsewhere – investing heavily in 4G only to find that they could not command any premium for faster data rates, at least among consumers. The likelihood that this will be the same in 5G is driving the need to ensure there are other sources of ROI, mainly in enterprise and IoT services. In 4G, China Telecom was the most active in seeking higher value enterprise customers, while Mobile had the advantage of its massive scale and a 4G headstart (it was allowed to deploy TD-LTE before its rivals had any LTE spectrum). Unicom was left to fall from second to third place in the market and this year, waiting for a white knight.

Last year there were persistent reports that the Chinese MIIT would look to merge the two smaller operators, to create more competition for China Mobile (especially as there are now a variety of MVNOs to offer consumer choice in the country).

However, a more creative approach has been taken. A 35% stake in Unicom is being sold to a group of 14 strategic investors, and its own employees will also be able to buy shares. The investors include well-known Chinese Internet names such as Tencent, Baidu, and Alibaba Group, all of which have increasingly been extending their search, advertising, ecommerce and social media services to mobile platforms and seeking to drive the mobile experience in the same way that Google does in the west. Baidu and Alibaba have even experimented with their own devices and mobile operating systems, but having a close relationship with a carrier could help them to increase their collective influence over smartphone platforms and services.

The investors will participate in a CNY78bn ($11.7bn) share sale, purchasing 10.9bn shares, or 35%, in the state-owned operator, at a price of CNY6.80 per share. Employees will also have the opportunity to purchase 850m shares at a discounted price.

This is part of a broader government plan of injecting new growth and innovation into state companies through outside investment and private capital. However, this is the biggest recent deal under Beijing’s ‘mixed ownership’ reforms, which mark a significant departure from the Communist managed economy of the past, but stop short of full private ownership and accountability.

In a statement, Unicom said the funds from its new investors will be used to upgrade 4G capabilities, develop 5G technologies and trials, and “develop innovative businesses” to enhance its “core competiveness … and speed up its strategic transformation”.

It said the investors, which also include industrial groups like Didi Chuxing and Suning Commerce Group, have very complementary businesses to Unicom’s own, and “strong fundamentals”.

It is right to say this. If the new ownership structure is well managed, Unicom could benefit not just from its backers’ money, but their understanding of the web and industrial worlds. That could help accelerate the process of getting new applications and user experiences out to Chinese consumers, giving Unicom the differentiation to make economic sense of its network expansion programs (it can be assumed some of its capex reductions will be reversed now it has these new funds, or at least there will be a bigger uptick in 2018).

More importantly, it could help it make a reality of the idea that 5G networks must support a wide range of vertical market, industrial and IoT services, in order to deliver ROI. That is a nice idea, but in many markets, industries like transport, manufacturing and energy complain that the MNOs do not understand their requirements, or do not build networks which are optimal for enterprise use. In future, network slicing should help provide optimal network connectivity for each sector, but in the near term, it is important that MNOs forge close, cooperative links with industry partners.

That could lead to a situation where there is shared investment in 5G networks. Rather than shouldering the entire burden of each new upgrade, the MNO could be the anchor partner. By investing themselves, industry partners would have a better ability to drive the way networks are planned and ensure their needs are met. Then all players could monetize the network in their particular sectors, whether for external services like MNOs, in-sector B2B services (as GE is doing for other manufacturers with its cloud platform), or purely for internal efficiencies.

Unicom could use its new structure to do just that, and start to win back ground lost to its rivals. It said key areas of cooperation will include big data analytics; payment and internet finance; IoT; content aggregation; and cloud computing. It has already been establishing ecommerce operating centers with Tencent and Alibaba, independently of the change of ownership.

In some countries, there are fears that very tight net neutrality regulations may affect operators’ ability to enter into vertical market partnerships, provide optimized services for certain enterprise clients, or do network slicing. Richard Guppy, director of strategic competitive intelligence at research firm Strategy Analytics, speculated that the Unicom move, combined with its recent 2I2C promotions, may set precedents elsewhere for looser neutrality rules.

He wrote in a research note: “China Unicom’s 2I2C strategy was born from the urgent need to turn the company around through their ‘Reboot’ program, and do things differently ahead of 5G. It tears up the western rule book for net neutrality and may lead western regulators to switch from ‘we don’t do that’ to ‘we may have to do some of that’.”

Phil Kendall, Head of the research firm’s service provider group, added: “Governments need to review how they expect 5G to succeed, with the EU expecting uninterrupted 5G coverage in all urban areas and major roads and railways by 2025. A 1980s regulatory model of 4-5 competing network operators lacking cooperation with key verticals in the service layer is not going to deliver that.”

At least Unicom’s cost cutting is starting to create a more profitable base from which to start its new mixed ownership life.  In the first half of 2017, its net profit rose by 74.3% year-on-year to CNY778m ($116.59m). Revenue from its main business was up by 3.2% to CNY124.11bn, 77.5% of that from non-voice services.

At the end of July it had 270.7m mobile customers, of which 145.2m were 4G subscribers, and almost 77m broadband customers, with 75% of those linked by fiber-to-the-home networks.

China Telecom plans 5G trials as profit leaps:

Meanwhile, China Telecom says it will conduct commercial trials of 5G technology in 2019 including “network field trials” in six Chinese cities. All three MNOs are expected to carry out limited 5G pilots, based on pre-standard implementations of the 5G New Radio, in the final months of this year – between them spanning the cities of Beijing, Shanghai, Chongqing, Guangzhou, Nanjing, Suzhou and Ningbo.

In a SEC filing, China Telecom’s CEO Yang Jie said: “We are deeply devoted to engaging in 5G standard formulation and technology trial runs while proactively exploring and researching the networking plan for the evolution from 4G to 5G. 5G network field trials will be conducted in six cities and the joint research and development of 5G applications and solutions will be launched collaborating with cooperative partners from various industries, laying the foundation for 5G development.”

China Telecom has reported a 4.1% year-on-year increase in operating revenues for the first half of 2017, to more than CNY184bn ($27.6bn), riding on a sharp rise in LTE adoption by consumers. Net income was up 7.4% to CNY12.5bn ($1.9bn).

The operator added 14.9m mobile customers in the six-month period, making a total of 229.9m. Of these, 30.2m of the new additions were 4G subscribers, for a total of 152m at the end of June.

Telecom also added 5m broadband customers, giving it around 128m, and grew its fiber-to-the-home (FttH) business by more than 11m, bringing the total to more than 117m. It plans to extend FttH coverage to 240m “ports”, up from around 230m at the end of June,  aiming for “full fiber network coverage in cities, towns and villages”, which will also ease 5G deployment.

Chinese telcos turn to NFV to transform cost base:

Even when 5G roll-out really gets underway, it will not deliver the same levels of revenue to infrastructure vendors as past mobile platforms. An important way in which operators aim to reduce the capex burden of a network upgrade is virtualization, and many of them are starting to introduce NFV (Network Functions Virtualization) now, in order to make the introduction of 5G cheaper and easier when the time is right.

This is true in China, where there is what ABI Research calls an “NFV flurry” going on as the telcos seek to cut costs while still enhancing their networks to meet rising consumer demand and deliver new industry services. ABI bases its assertion on tracking the open source NFV-related communities such as OPNFV and ONAP, as well as telco efforts. Based on that work, it is predicting that the NFV market in Asia-Pacific will grow to be worth $9.24bn in 2022, with Japan accounting for 25.7% of that, followed by South Korea on 22.7% and China on 14.6%.

“Japan leads in the region, not only because of the desire to design resilient and reliable networks in preparation for future disaster threats, but also to prepare for the 2020 Summer Olympics,” said Lian Jye Su, senior analyst at ABI. “South Korea and China are actively preparing for 5G, which requires both cloud radio access networks (C-RAN) and cloud core networks. At the same time, the rest of the region is actively catching up. Tier two telcos, like Banglalink and Ncell, are currently deploying virtual subscriber data management platforms.”

The major Chinese telcos are working with a range of vendors, and with other telcos, especially via ONAP (Open Network Automation Protocol). Though this open source management and orchestration (MANO) initiative is heavily based on AT&T’s ECOMP technology, it also includes China Mobile’s OPEN-O, and has gained heavy support in China as a result. The Chinese operators believe virtualization will help empower local industries in many sectors via technologies such as MEC (Multi-access Edge Computing), V2X, massive IoT and dynamic cloud services. That will feed into the government’s “Made in China 2025” strategy.