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This chapter is from the book

The Confrontation

For 20 years, the Internet has been growing, refining its technology and improving itself through the creation of new applications and the addition of new users. Now, suddenly, the Internet appears poised to usurp the telephone business. After all, voice transport is just another application. If an application is constructed properly, shouldn't it be possible to provide telephone service over the Internet? Carriers around the world are staggered by this possibility. They imagine their base of revenues eroding overnight and the desertion of their customers to new upstart Internet entrepreneurs. No doubt this scenario invades the dreams of many CEOs and the large shareholders of the carriers.

The flip side of this is also of concern to the Internet entrepreneurs. That is, could the large telephone carriers rapidly deploy Internet technology and create an alternative that could be marketed to the carriers' existing customers? By bundling telephone service with Internet service, it might be possible for a large carrier to produce an attractive package and capture much of the Internet service market. But, because of the circuit nature of the telephone network, it is impossible for the carriers to provide Internet service without deploying a second network. And at present, regulation prevents this from being a serious threat except in a few limited cases. But these Internet CEOs probably have increasing concerns about their protected status because many large carriers are now evolving their present networks using Internet technology. This is being done in a way that the new network should be able to provide fully integrated services for voice, data, and video. If all that remains is the regulatory barrier, the entrepreneurs may find themselves with a flimsy shield from the carriers who, having the strength of Hercules, would be very formidable adversaries.

There are a good many of these evolution scenarios available to both parties in this confrontation. Chapter 7 will enumerate these and discuss the merits of each. As will be explained, neither side has a silver bullet for extinguishing the other side. The carriers' primary strengths lie in their customer base, their large scale, and their tremendous financial power. Their weaknesses are slow response, their regulatory constraints, and the key fact that their enormous network assets are poorly matched to the needs of the Internet. The Internet companies' strengths are in their ability to rapidly innovate, their deep technical understanding of the Internet and its technologies, and their freedom from regulation. Their weaknesses are their small size, their small financial power, and that their present network lacks the ability to consistently and reliably deliver speech packets.

In his book, The Innovator's Dilemma, Christensen examines the question of why corporations who are leaders in a market can fall prey and fail completely when faced with a major paradigm shift in their industry. He examines several industries, and comes to the conclusion that the very basis on which a company becomes successful is indeed the reason for its ultimate failure: it listens too closely to its customers. Customers invariably want stability in their product choice and prefer a well-understood purchase to a new, unknown approach. For these reasons, customers will usually tell a supplier that they are happy with things as they are and that they just wish the product was cheaper. Since the customer is already buying the product, he or she is probably reasonably happy, so this is no surprise. Likewise, customers always would like to see a cheaper product. As a result, successful companies holding the largest market share for any product focus very closely on incremental improvements that will reduce cost, thereby enabling either greater profits or lower prices. They will also seek improvements that will increase product performance with little or no increase in cost. As Christensen points out over and over, these same companies will be dabbling in new break-through technologies and are carefully watching such technologies that seem relevant to their business, but they are rarely in the forefront of the cutting edge.

According to Christensen, the demise of these companies is that they get blindsided by a new technology or industry that doesn't seem relevant when it first starts. The new technology will appear to them as a curious, interesting approach, but it will not appear to be an immediate threat or as something that could invade their marketplace. Besides, they reason, long before that could happen, they'll be on top of it. But usually, they never do get on top of it. The new technology incubates in a seemingly irrelevant or distant industry to that of the successful incumbent, and when it does invade, it is with swiftness and certainty. Customers who the incumbent thought could never use the new technology abandon in droves to adopt the new approach that has now been shown superior or cheaper than the established product. Time was on the side of the new technology, and it has been honed to a sufficiently fine edge to attack the incumbent's market. Too late, the incumbent tries to mount a response, but now there are too many variables to be mastered, and its credibility is based on the old approach, not the new one. The market leader sinks like a stone.

The telephone industry and the Internet industry are now engaged in just such a situation. For many years, while the Internet and its technologies were incubating, the world's telephone companies either ignored it or dabbled in it. The Internet used breakthrough technology; the telephone industry created incremental improvements. They are now entering a battle for their corporate lives. This is a very complex struggle between two powerful industries, and it is a struggle to the death, as depicted in Figure 1–1. It will not be over quickly either: many years will pass as the technology base and regulatory controls shift.

Figure 1-1FIGURE 1–1 The Confrontation.
("Wrestlers" by Janice Weaver. 2001. All rights reserved. Used with permission.)

It is a struggle over money, the $227 billion per year that is projected to be spent in the United States on local and long-distance services for telephony in 2002, shown in Figure 1–2. By comparison, Internet carriers captured just $32.5 billion in revenues during 2000, of which Internet telephony was estimated to be around $3 billion and growing. Obviously, Internet carriers would like to capture the telephony market, and the technology to enable this is being deployed today. Likewise, the incumbent carriers would like to retain their existing revenues and capture those of the Internet.

Figure 1-2FIGURE 1–2 U.S. Revenues

As both sides grapple with these issues, those of us who are trying to predict the outcome should heed Bob Dylan's words in his second stanza from the Preface. Namely that it is too soon to predict the outcome of this struggle for the wheel is still turning and there is no certainty as to the winners. This will be a lengthy battle with no quick conclusion.

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