How Iliad is shaping the future of mobile telecoms (part 1)

This two-part post explores the strategy and business model behind the Iliad Free Mobile launch and discusses its significance and impacts on mobile operators in France and elsewhere as well as the broader implications for the mobile ecosystem.  

How significant is this launch? aka why should I bother reading this long post?

Free Mobile represents by far the most aggressive and highest impact new mobile operator entrant in any advanced mobile market over the past 10 years. Compared to other recent experiences like H3G in several European countries, Yoigo in Spain or eMobile in Japan, Free Mobile is unique in several ways:

  • Price cuts: the €20 plan offers a 50%-60% price reduction on the cheapest closest-matching plans (although none offers unlimited international calls) proposed so far by the most price agressive MVNOs and the low-cost second brands (Sosh, B&You) recently introduced by the MNOs to anticipate Free’s arrival. The €2 plan has an even wider impact as it essentially wipes out entry-level postpaid plans (priced until now at around €15/month), and a significant part of the prepaid segment (including international calls-focused MVNOs)
  • Immediate massive impact: in less than a month and despite multiple internal and external operational launch-related bugs, they have signed 1.5 to 2 million subscribers during the first month according to initial estimates. To put things in perspective, it took Yoigo four years to reach this level in Spain and H3G UK hit 6 million subscribers in seven years. The impact has been such that it already triggered a variety of commercial and PR reactions from established mobile operators and MVNOs alike, ranging from price cuts on second brand offers to crying foul in the media and to government agencies.
  • Credible competitive threat: Iliad’s disruption trackrecord in wireline, powerful brand and highly loyal DSL subscriber base do not exactly make this move look like a “fly by night” desperate attempt to buy market share. Iliad has the commercial and financial ressources to make its mobile strategy profitable and successful.

We believe Free Mobile introduces a significant business model innovation for the mobile telecoms industry: we may be tempted to over-estimate the short term impacts of its low-cost model but should avoid under-estimating the longer term massive impacts of abundant, commoditized and pervasive mobile broadband connectivity.

Who is Free?

Free is the brand name of Iliad, an alternative DSL provider in France since 2000 with 25% market share (4.7 million subscribers at a monthly ARPU of €36). In 2010, they generated €2bn annual revenues on a 39% EBITDA margin. Their current market capitalization stands at €5.2bn.

They introduced the world first multi service home gateway (Freebox) including unlimited broadband, unlimited VoIP calls to domestic numbers and TV over DSL for €30 / month. They expanded the concept last year with Freebox Revolution that includes Server box (DSL access modem, VoIP gateway, DECT base and 250G NAS) and TV Player (set-top TVoDSL box+ DVD/BlueRay player+game console+gyroscopic remote control) and adds unlimited domestic mobile calls for €36/month

They have just become the 4th mobile network operator in France by launching Free Mobile in mid January 2012.

What is the Free Mobile offering?

They launched an ultra simplified offering which includes two postpaid plans with no duration commitment:

  • A €2 monthly plan that comprises 60 minute domestic calls + 60 SMS and is uncapped
  • A €19.99 monthly plan that includes unlimited calls to fixed and mobile numbers in France + USA+ Canada unlimited calls to fixed numbers in additional 30 countries (incl. all main European countries), unlimited domestic SMS and MMS, 3GB per month mobile data (with throttling beyond the cap) and unlimited offloading to the 3 to 4 million shared Wifi access points.

A discount is offered to Free DSL customers (max 1 per household): €0 instead of €2 or €15.99 instead of €19.99

Free will also sell SIM-unlocked handsets (including iPhone 4S and Samsung Galaxy S2) that can be purchased separately with upfront payment or up to 36 month credit handled by a financial institution

Can Free Mobile make money on its €2 monthly plans?

The entry level plan represents marginal network ressource consumption on a per user basis. The plan is not capped so the ARPU will exceed €2. Calls made to the support hotline will be deducted from call allowance. Free will also cash in for 2 to 3 years on asymetric call & SMS termination rates although this impact is not as critical as discussed in the French mainstream press. Overall, we expect this plan to not only cover its direct costs but to subsidize the €0 discounted plan that 0.5 to 1 million of Free’s DSL subscribers could choose. More strategically, this entry level plan will allow Free to:

  • attract non Freebox users to which it will try to upsell either more mobile minutes or convert to the unlimited €20 plan (or more likely to a yet to be introduced €10 “intermediate” plan) the moment they want to consume some mobile data or a DSL subscription
  • further secure its installed base of DSL subscribers by selling multiple second lines (for spouse and kids) on top of the primary €15.99 unlimited mobile line 

Can “unlimited” mobile connectivity be profitable at €20/month?

The €20 unlimited plan therefore represents the real opportunity (and risk) to Free Mobile’s direct long-term profitability. This profitability will depend on subscribers’ usage patterns and on Free’s mobile network strategy.

The unlimited fixed and mobile call proposition will certainly attract above-average mobile users but elasticity is not infinite. On average, mobile users in France make 130 outgoing mobile minutes and 184 SMS per month (source ARCEP). Our analysis of different user groups that Free is most likely to attract shows that Free will incur €5 to €7 termination costs and collect  €3 to €5 termination revenues per user per month (get in touch if you want to know more). Total voice and SMS provisioning costs should not exceed 5€ per month per FreeMobile subscriber (excluding a voice offload scenario) once its network reaches 80% population coverage, reducing its dependence on the Orange network roaming agreement.

The cost for the data component is more complex to quantify. However, this plan targets predominantly smartphone users (although tethering is allowed) so Free will avoid (at least initially) attracting most bandwidth hogs on USB dongles. Based on the examples of other aggressively priced abundant mobile data plans offered by carriers like H3G in the UK and Italy and most mobile operators in Hong Kong, the average data consumption on the FreeMobile plan should be 800MB to 1GB per user per month. On the basis of current standard provisioning cost per MB delivered of €0.5c to €1c, the total data provisioning costs will stand at €4 to €10 per FreeMobile user per month. Containing these data provisioning costs is therefore critical to FreeMobile’s long term profitability and there are clear indications that the company intends to aggressively reduce them through several initiatives:

  • Widescale data offloading: Free has opted for EAP-SIMs that, once enabled, should automatically offload data traffic to the shared 3+ million Wifi access points activated in Free’s home gateways across the country.  This could also very probably be complemented  by a long range Wifi public hotspot network deployed alongside FreeMobile’s cell sites. It also seems that Free intends to activate a fixed line femtocell in its latest generation of home gateways that will enable voice traffic offload. 
  • A 2.6Ghz LTE network to provide an alternative capacity offload option: Free has secured  duplex 20Mhz spectrum in the 2.6Ghz band that it may use for deploying an overlay data network in high traffic urban areas for future dual mode HSPA/LTE dongles (as deployed by TeliaSonera in Sweden) and devices.  

Can Free Mobile be profitable and succeed?

There are numerous examples of highly profitable (> 35% EBITDA margin) mobile operators on low ARPU (under $5 per month) and small scale (under 10 million subscribers) in emerging markets: a few examples include Dialog in Sri Lanka, Telenor in Pakistan, Digi in Malaysia, Grameenphone in Bangladesh….

Through its highly tactical commercial and operational approach, Free Mobile is essentially re-engineering this model for an advanced 3G mid-sized country setting. It should achieve a comparable profitability (in % of revenues) to typical Western European mobile operators despite significantly lower revenue levels thanks to a highly efficient cost structure based on very low subscriber acquisition and retention costs and reduced headcount on customer support (DIY through subsidized community forums) and operations (no physical stores except for a couple proofs of concept, many outsourced activities, minimal in-house R&D but multiple external partners…).

Given the significant initial commercial uptake, Free can prudently aim to secure 5 to 7 million subscribers (including 2 to 3 million of its DSL subscribers) on its €19.99 monthly plan within the first three years of operation. This corresponds to €875m to €1.2bn run rate net service revenues (excl. €2 plan service, termination revenues, handset sales…) and €300m to €400m EBITDA. On the guidance of a €150m mobile network capex per year, the operating free cash flow should enable Free to rapidly recoup its initial spectrum investment (240M€ for 5Mhz in 2.1Ghz band and 10Mhz in 900Mhz band + 271M€ for duplex 20Mhz in 2.6Ghz band for a future 4G network) while funding possible surcharges on the Orange national roaming deal (initially planned at €300m per annum over 5 years).

In addition to the robust incremental profitability yielded, Free Mobile definitely transforms Iliad into a premium telecom asset and an attractive acquisition target as a fixed and mobile carrier model with a powerful brand based on a disruptive yet profitable operational  model on the second largest European market.

To be continued

In part 2, we’ll look at the implications for mobile operator models as well as for the broader mobile industry and ecosystem. If you enjoyed this post, please spread the word.

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