Network traffic: Strong growth ahead, but is it sustainable?

Michael Kennedy, Network Strategy PartnersThe outlook for traffic growth driven by technology breakthroughs on the supply side and creative ideas on the demand side is very strong. Growth in all market segments--residential and enterprise wireline and wireless services--is showing double digit annual growth rates and appears sustainable for the foreseeable future. Overall network traffic in the U.S. and elsewhere should see annual growth rates of 35 percent to 85 percent.

Both supply-side and demand-side drivers are needed to sustain growth. In the U.S., for example, demand for both wireline and wireless broadband has existed for a long time but there have been many coverage gaps and actual data throughput has been very modest compared to data rates in other countries. In contrast, the majority of Japanese households have true 100 Mbps service to the home, but applications have lagged well behind the United States. Over-the-top (OTT) video, for example, is quite rare in Japan.

Today many supply-side and demand-side growth drivers are at work to support high traffic growth rates. Important supply-side factors include the rapid build-out of 3G and 4G mobile telecom, deployment of Carrier-Ethernet based infrastructure, 100 GigE optical transport, Tbps routing, 10 GigE optical transport in the metro area, Packet Optical Transport (POT), virtualization of computing and storage, IP DSLAM, 10 GE GPON, DOCSIS 3.0, and in the consumer electronics field big screen HDTV and smart phones.

These technologies either create the need for higher speed networks--HDTV, smart phones, IT virtualization--or support service delivery at affordable price points.

On the demand side, the build-it-and-they-will-come philosophy seems to have won out over planned innovation. AT&T (NYSE: T) has readily admitted that it was surprised by the demand for the iPhone. Social networking certainly was a surprise to the networking industry and even its creators probably didn't anticipate its adoption by people over 30. The cultural changes caused by pervasive and continuous communications enabled by Twitter are far reaching and certainly exceed the expectations of its creators.

In the mobile market, smart phone acceptance has exceeded expectations and usage has responded to the build-out of 3G systems and higher speed backhaul networks. 4G wireless technology supporting multiple carrier frequencies delivering data rates above 100 Mbps will drive wireless growth in the future. Wireless data is now the leading form of broadband.  In the U.S. today, wireless broadband market share has already passed DSL and cable modem market shares. The FCC estimates actual wireless download speeds to be about 300 Kbps versus actual wireline broadband speeds of about 4 Mbps. Clearly, broadening coverage areas and increasing actual data rates will sustain very strong mobile data traffic growth for the long term.

In the wireline residential market, very strong traffic growth also appears sustainable. Broadband Internet access service is being deployed worldwide. Data rates are increasing 20 percent annually according to the FCC. Video ranging for low bit rate YouTube quality up to near broadcast quality is driving residential Internet traffic growth. Internet video, however, is not a substitute for traditional TV. The Nielsen Company reports that in a week the average American watches 35 hours of traditional TV and two hours of time shifted TV versus 20 minutes of TV on the Internet. TV viewing time continues to grow at an additional two hours per month rate. Nielsen further reports that the busy period for TV on the Internet is 9:00 a.m. to 5:00 p.m. while the traditional TV busy period is 8:00 p.m. to 11:00 p.m. Nielsen calls this the best screen effect.  At work, the employee's work station is the best screen. At home, it is the HDTV. Furthermore, increasing numbers of people simultaneously watch TV while using PCs and Smart Phones.

Traffic in the enterprise market segment also is growing strongly. A big part of that growth is due to increasing use of the Internet and higher bit rate applications. Consumer oriented tools such as Google (Nasdaq: GOOG), Facebook, and YouTube are being used for legitimate business purposes. Cloud computing technology also is driving demand. Cloud computing applications use more bandwidth than their server-based predecessors. Cloud computing infrastructure with communications links among multiple data centers and network-based storage require more communications capacity than traditional data center designs. Retail Carrier Ethernet service offerings are an additional traffic driver because they provide Megabit and Gigabit data rates at prices equivalent to legacy Kilobit Frame Relay service and T1-based services operating at 1.5 Mbps.

The case for strong traffic growth at annual rates of 35 percent to 85 percent is a strong one. This, however does not necessarily flow through to increased service provider and systems vendor revenue and profitability. Verizon Wireless (NYSE: VZ) reported 7 percent annual revenue growth in its most recent quarter despite spectacular growth in network usage. Just as during the Internet boom, it is proving difficult to profit from spectacular demand growth. The situation for systems vendors is even worse. The bandwidth efficiency of new systems is so great that 35 percent traffic growth may not be sufficient to support current revenue levels. Competition is intense, furthermore, with many large and well financed competitors. I have seen discounts as high as 65 percent offered to preferred customers. In response, systems vendors are repositioning themselves from a product focus to solution providers. They seek to help service providers exploit market opportunities through a comprehensive suite of products and professional services. Producing the best performing product at the lowest unit cost no longer assures market success.

Michael Kennedy is a regular FierceTelecom columnist and is the co-founder and Managing Partner of Network Strategy Partners, LLC (NSP), management consultants to the networking industry. He can be reached at [email protected]