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Monday, July 23, 2007

Carphone AOL Free Laptop Offer

What ever anyone thinks of Charles Dunstone and his Carphone Warehouse Empire, no one, even the biggest cynics, can doubt their ability to change the rules of the game overnight, disrupt the status quo and most importantly shift a huge amount of hardware and contracts. I believe the AOL Free Laptop Offer will do this in the broadband industry.

I can just imagine a pretend chat with his old trading partner, Ron 'Motorola' Garriques, now with Dell.
“Do you remember the old days when we ripped up the UK market for your ex-employer with the spectacular pink RAZR, why don’t we do something similar for your new employer with laptops?”
Allegedly, Carphone have stockpiled 100k Dell laptops ready to be given away alongside a 24-month contract for £19.99 AOL Broadband and a mandatory “Pay As You Go” cps-based voice service.

This is basically, Carphone turning the broadband game into a cellular game, one with expensive equipment apparently given away, but the cost is clawed back over a long contract with excessive service fees. This model has proved incredibly successful in the cellular business and I see no reason why it won’t be successful in the broadband industry.

I estimate the economics of the offer to work out as follows – this is with cost data from 2.5m customer/1.5k exchange unbundling model I prepared ealier with Jonathan Lishawa:
  • £270 of SAC: £200 for laptop which admittedly is a decent spec, £15 for the wireless router, £27 for the Openreach data & CPS connection and £28 for marketing. This equates to £11.25/month.
  • I assume that the distribution costs are covered by the £19.99 postage and packing fee.
  • £72.80 for addition SMPF non-recurring costs, relating to line cards, colo/cable ties, OSS, Backhaul & Core Capex. This equates to another £3/month
  • Ongoing Costs of £2.61/month. This includes SMPF line rental, support costs and other ongoing expenses.
  • This gives monthly costs of £16.89 vs £17.01 of revenue, which means the offer isn’t too appealing on a data only basis.
  • The money is made on the voice element of the package which is mandatory. No details are available of the new AOL “Pay As You Go” package, but I would assume standard sort of industry ARPU’s of £10/month and profit of £5/month are easily attainable.
  • So I guess around £5.10 profit/month is achievable or £120/customer over the length of the contract.
Obviously with any model there are upsides and downsides:
  • A new line card will not be needed for all connections. This depends on the amount of churn on the existing unbundled AOL base and the availability of “used” cards in the exchange.
  • This does not include any revenues from Geek Squad. Many people will require assistance is setting up the computer and home network especially if they are new to broadband and have limited computing skills.
  • This does not include any revenues from Software & Hardware Sales. I would expect Microsoft Office, Security Packages and Printers etc are upsides to the model. I’m not sure whether these incremental items will flow to Dell or Carphone.
  • The above assumes an internet distribution model. Additional costs will be incurred on direct commissions and indirect costs if sold through the Carphone retail network.
  • Most importantly, the above doesn’t include the “Can’t and Won’t” pay element. 24-months is a lot of credit risk and I hope that Carphone have all the vetting systems in place because undoubtedly an offer of this type will attract every “won’t pay” scamster in the UK likes bees to a honey pot. Also, the end of the market who are attracted to these types of offers are the type who are most prone to economic shocks and to fall into the “Can’t pay” category.

This offer will have the effect of either re-invigorating the AOL brand and providing fresh impetus in the marketplace or bringing it down if there are problems with provisioning and support. It should not be underestimated how difficult the task that Carphone is attempting will be to pull off.

Even the more obvious item like demand management can be difficult, because there is the risk of a lot of unsatisfied customers who either fail the credit check, are outside of the unbundled area or are tied to a current contract possibly even with TalkTalk. Provisioning is also a big worry even with Carphone going down the SMPF route, there are lot of moving parts that can wrong and also a lot of initial load on the AOL support centres.

Finally, there is bigger risk to the Carphone business and that is they will be completely upsetting probably their second biggest customer in the UK shops – Orange. Carphone have stolen the thunder from the Orange / Curry deal - £300 discount on a laptop. Personally, I think the Carphone deal is better designed, appealing and easier to understand, but that is besides the point. The Orange deal will have required a lot of internal approvals, been a long time in development and will be designed at reviving the fortunes of the Broadband service – if the offer is not successful, I can guarantee that the poor proposition or marketing will not take the blame – it will be Carphone on its spoiler tactics.

In true Carphone style, they also used their opportunity of being in the limelight to bury a little bit of bad news.

The first item in the Press Release was the interesting factoid that AOL had “over 1.4m customers on broadband and 2.1m customers in total”. On announcing the AOL acquisition in Oct 2006, Carphone said “…approximately 2.1m ISP customers. On completion, it is anticipated that this will comprise 1.5m broadband customers and 0.6m dial-up customers.”
In other words the base appears to have gone nowhere is a growing market since the Carphone purchase. Particularly worrying is that the broadband base appears to have declined from the 1.535m announced at the end of March 2007.

The second was announced on the quiet on Friday afternoon that one of Carphones Internet Properties, OneStopPhoneShop, was to be closed and some of the traffic sent to the E2Save site. OneStopPhoneShop was bought in Mar 2005 for £15m with £6.7m of that deferred according to performance. At the time Carphone capitalised £12.5m of Goodwill. It is not sure whether Carphone will have to write-off any of this goodwill in the current year. Also, I am unsure of the status of the orginal £9.5m of Hugh Symons goodwill which has also been experiencing some difficulties of late.

Overall, I think the Carphone Free Broadband looks quite good for Carphone if the execution is spot on, with the biggest risk being the “can’t pay, won’t pay” brigade.