A GUIDE TO VOICE OVER INTERNET PROTOCOL

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1 A GUIDE TO VOICE OVER INTERNET PROTOCOL Contents Page Executive Summary 1 Introduction 1 Circuit v Packet Switching 2 The Nature of Voice over IP 2 The Benefits of Voice over IP 3 The Obstacles to Voice over IP 3 Current Position in The UK 4 Current Position Worldwide 5 Regulatory Implications of VoIP 8 Financial Implications of VoIP 10 Staffing Implications of VoIP 11 Some Different Scenarios 14 Conclusion 15

2 Executive Summary Voice over Internet Protocol (VoIP) has been around since the mid 1990s, but 2004 is the year when telcos around the world will move to make substantial investments in the New Generation Networks (NGN) that will support and promote this feature-rich service and other important developments. In the case of BT, its 21 st Century Network (21CN) the company s version of NGN is planned to generate savings of 30-40% (some 1B) by There are many uncertainties around the timing and take-up of VoIP services, but there is no doubt that VoIP raises profound regulatory, financial and staffing implications which most players have not yet seriously thought through. Unions like Connect have to start considering different possible scenarios, requiring major commitments to redundancy, retraining, redeployment, and relocation programmes and a renewed emphasis on recruitment and organisations in companies other than BT. Introduction Andy Grove, when Chief Executive Officer of Intel, wrote a book called Only The Paranoid Survive. At the heart of this book was the concept of the strategic inflection point (SIP). What is this? He said that : A strategic inflection point is a time in the life of a business when its fundmentals are about to change. That change can mean an opportunity to rise to new heights. But it may just as likely signal the beginning of the end. Grove offered another way of looking at this concept. A strategic inflection point occurs when a very large change - what he calls a 10 X change - occurs in one or more of the forces that determine the competitive well-being of a business. How does one know whether a change signals a strategic inflection point and when fundamental change is necessary in the company s strategy? Grove answered bluntly: You can t wait until you do know: timing is everything. If you undertake these changes while your company is still healthy, while your ongoing business forms a protective bubble in which you can experiment with new ways of doing business, you can save much more of your company s strength, your employees and your strategic position". But he gave some tips for recognising the advent of a SIP. Ask questions like: Is your key competitor about to change? and Do people seem to be losing it around you?. Listen to the warning voices of the Cassandras in the organisation and the sales and marketing people who are closest to the customer. It is the central contention of this paper that Voice over Internet Protocol (VoIP) represents such a strategic inflection point for all incumbent telecommunications operators like BT and that consequently the company and its staff face major challenges but also some significant opportunities. What is VoIP? Why is it so important? How will it challenge the likes of BT? What does it mean for Connect? These are the issues that form the core of this paper. 1

3 Circuit v Packet Switching First, a fundamental distinction. For more than a century, the public switched telephone network (PSTN) has used circuit switching whereby, for each telephone call made, circuits are switched in the intervening telephone exchanges to create a physical connection between the caller and the person being called for the duration of the call. The great advantage of this type of switching is that call quality is extremely high because a dedicated line is being devoted to the call. The major disadvantage is that this type of switching is expensive because it requires considerable capacity in the network as most of the time most of the capacity is not being used. The alternative to circuit switching is called packet switching and traditionally this has been used for data networks connecting computers. In such a network, data is divided up into small packets which are given identifying information and then sent over the network by a variety of different routes, before being reassembled at the end into the format of the original message. Packet-switched networks do not use an elaborate system of switches or exchanges but a much simpler system of routers. The great advantage of this type of switching is that it is very cost-effective, making much more intense use of the network, by routing packages along the least busy lines. In the past, packet switching was not used for voice because the breaking up and reassembly of the packets would cause an unacceptable deterioration in quality, notably because of the variable delay in the packets. However, increasingly these delays can be engineered out and indeed systems can distinguish between packets that are voice and packets that are data and give priority to the former. In the late 1990s, worldwide the volume of data traffic overtook that of voice and increasingly carriers are now looking to integrate voice into their data networks. The Nature of Voice over IP Ever since the Internet took off as a data network for sending and browsing web sites companies have been exploring the option of putting voice traffic onto the Net or other networks deploying the same technical specifications. Since the Internet uses particular protocols (known as Transmission Control Protocol/Internet Protocol or TCP/IP), this development is called Voice over Internet Protocol (VoIP). However, not all VoIP services are the same. One way of characterising the different grades of VoIP service is as follows: Best effort or Internet Telephony on such systems, no guarantees are made about the success or the quality of the call, since the network might be busy or the speech might simply become unintelligible. Engineered quality or IP Telephony on such systems, specific efforts are made to ensure that network delays are minimised and that data traffic does not interfere with voice traffic. Carrier grade or PSTN-like such networks have high reliability, strong resilience, and built-in redundancy, although this is only achieved at significant cost. Better than PSTN such networks will provide higher quality speech paths and combine basic voice services with other services such as multimedia and Instant Messaging. 2

4 The Benefits of Voice over IP Businesses are likely to move rapidly to VoIP because there are compelling advantages. Firstly, and most obviously, there are significant financial savings on running the network itself. One infrastructure carrying both data and voice, provided by one supplier, can be managed, maintained and upgraded much more efficiently than two separate networks for voice and data. Secondly, and more importantly, while each network has its own value, that value is maximised when the two systems are consolidated. Computer applications and communications technologies can be intelligently linked to streamline the working environment. Thirdly, VoIP allows organisations to integrate their telephone, fax, and other applications to capitalise on the benefits of unified messaging. Such a system can eradicate unnecessary interruptions while ensuring individuals always receive information in the most convenient format wherever they are in the world. Fourthly, the system can be used to support flexible working practices, whereby members of staff work from home or in dispersed, virtual teams. Using the VoIP network, team members can see when their colleagues are logged on to the LAN or using the telephone. VoIP offers improved bandwidth capabilities and makes video-conferencing a viable and cost-effective option for discussions between dispersed team workers. Fifthly, VoIP technology can contribute to an effective knowledge management strategy. The larger the organisation, the more information that must be shared, so an efficient communications system is particularly important. The VoIP network provides individuals with the opportunity to tap into colleagues areas of specialism, allowing them to search for experts according to specific criteria. Sixthly, an organisation can also use VoIP to enhance relationships with its customers. For example, converged call centres, or IP contact centres, allow agents to answer all customer enquiry mediums, including telephone, , fax, web call back, web chat and instant messaging. Customers appreciate the flexibility of interacting with an organisation that can handle feedback from a range of different sources, and are even more inclined to do business with those who can offer an integrated response. To summarize: VoIP networks provide cheaper means of carrying voice but more importantly provide a much enhanced range of services. As an OECD paper of December 2001 put it: The potential for IPbased voice as a cheaper alternative to traditional telephony is considered to be less important than the opportunity for the integration of voice in new IP-based applications that are considered drivers for broadband services. The Obstacles to Voice over IP For new entrants, the main obstacle has been the lack of availability of investment capital as a result of the collapse in the dot com boom and the lack of favour in which the telecommunications industry has been held by analysts and investors. However, there is now a slow recovery in confidence and capital availability. 3

5 For traditional telcos, the obstacles to investing in VoIP have been the massive sunk costs in legacy networks, the high initial capital costs in creating new networks, and the lack of implementation of gateway protocols to allow integration of VoIP with legacy systems. However, incumbents now face increasing competition from rival carriers and the protocol issues are largely resolved. For business customers, in the past, IP telephony has been plagued by doubts over line quality by end users and concerns about relying on one network (instead of deploying dedicated voice and data networks). However, these problems are now diminishing, as a result of improved technology and greater investment in in-house systems. The major remaining problem is the much greater cost of handsets. For most domestic customers, VoIP currently means using a pair of lightweight headphones with a PC to make and receive calls at nil cost even if these calls as is usually the case are international. However, it is already possible to make VoIP calls over a traditional analogue telephone provided one has a special adaptor connected to an ASDL or cable broadband service. In future, residential customers will obtain VoIP packaged as a standard item with their broadband provision. However, a major unknown is how quickly and how comprehensively broadband will penetrate the consumer market. In both the UK and the USA, there is evidence of a trailing off in the take-up of narrowband services at around the 55-60% penetration level so that, even if every narrowband customer up-graded to broadband, a sizeable proportion of the population could not avail itself of services like VoIP. Furthermore, in the residential context, there are a few special problems with VoIP such as ensuring a secure emergency call service, since VoIP requires mains supply and uses equipment such as an adaptor or PC that may not be wholly reliable. However, since most homes now have at least one mobile, this may prove not to be a significant deterrent. Current Position In The UK When announcing the latest set of BT financial results (those for the second quarter and half year), the Chief Executive Ben Verwaayen stated: Voice over IP is now commonplace in the corporate sector. A few days previously he had put more precise figures to this he stated that 40% of businesses and 3% of residential customers already have access to VoIP services. Organisations which are currently switching to VoIP are those moving to or opening a green field site, when the cost of abandoning a current traditional telephony system does not apply, and those such as local councils which wish to provide call centre services linked to data bases when the much more sophisticated handsets provide enhanced services, Indeed most large organisations that use corporate networks are now considering moving over to VoIP and BT is already a major supplier of such networks. The crucial point is that BT provides so much capacity for broadband customers that VoIP traffic can be carried at the margin. BT is already offering VoIP solutions for all businesses from SMEs to the corporate enterprise. BT Business Information Systems has selected Cisco Systems and Nortel Systems to provide new wave products to complement its existing portfolio. 4

6 Cisco s IP PBX provides customers with a revolutionary option for their communications, bringing IP telephony to the desktop over a single network infrastructure, one that would normally be used for just data applications. The highly scalable IP PBX will be built around Cisco s CallManager and IP telephone sets from Cisco s AVVID range. Nortel Network's IP enabled Meridian 1 and the Business Communications Manager (BCM - previously known as Enterprise edge), are also available to provide existing customers an evolutionary path into an IP future. Business Communications Manager will complement Norstar, which will continue to be developed and enhanced. BCM will provide an easy migration path for existing and future Norstar customers into the convergent voice/data world by allowing them to retain and re-use some of the investment they have already made in their Norstar system. The sort of contract that BT is now seeking and winning is that from Abbey National. The company has appointed BT to install and manage a consolidated, company-wide integrated voice and data telecommunications solution. The five year contract is valued at 125 million. The implementation of a new IP VPN (Internet Protocol Virtual Private Network) will modernise Abbey National's telecommunications infrastructure, increasing efficiency and facilitating delivery of its strategy in UK personal financial services. The sort of product that BT is offering is BT Communicator which is a new set of services that manages all home communications from the PC, such services including click-to-pstn and click-to-voip. BT has now launched a consumer VoIP service which will be marketed initially in areas where there is a heavy concentration of cable users. Customers connect to the service via a special adapter to connect their telephone and broadband line and do not have to reconnect directly to BT, enabling them to retain their other cable services. The service costs 7.50 per month with free weekend and evening calls up to one hour, and 1p per minute thereafter, with daytime calls costing 3p per minute with a 5p minimum charge. BT is positioning the service as a second line, as users will not be able to use it to contact the emergency services, one of the difficulties being experienced with VoIP, or premium rate services. Additionally, only 17 of the most popular international routes will be offered, although the company plans to re-assess this in the future. Meanwhile BT will face a growing number of rival VoIP providers. The best-known American provider of VoIP service to residential customers Vonage plans to open a service in the UK during Current Position Worldwide While Asia leads the worldwide roll-out of VoIP, North America is catching up fast, followed rapidly by European countries like Sweden and Austria. The lead shown by Asia is explained partly by the higher call charges than in industrialised countries, partly by the lesser investments in legacy networks compared to Europe & North America, and partly to the greater cultural willingness to embrace new technologies. 5

7 A snap shot of the position in a number of major countries looks like this: USA Vonage of New Jersey already has 80,000 voice subscribers on its DSL service. For a subscription, currently $34.99 a month (on top of their DSL line), customers can get unlimited calls within the US and Canada, and low international rates. Other companies, such as Net2Phone, are offering similar services. As a reaction to such smaller rivals offering cheap phone calls using VoIP technology, the established giants will soon be offering VoIP. Verizon Communications, North America's largest phone company, plans IP for the home by June AT&T has said it will introduce the service in the next couple of months as an option on its managed VPN (virtual private network) service based on its MPLS platform. Other telcos like Qwest and SBC have similar plans.. Time Warner Cable working with Spring and MCI - is already offering VoIP on its broadband cable network. Other cable companies are following fast. Canada More than any other North American company, Telus of British Columbia (under the leadership of its chief executive Darren Entwistle who used to work for Cable & Wireless) has pioneered VoIP. It has spent more than two and a half years and $200 million building an IPbased next-generation network. In November 2003, it launched a new hosted service called IP- One, which will try to introduce the benefits of VoIP to a new class of businesses, targeting those with as few as 50 employees. Bell Canada Enterprises has now announced its own threeyear, $200-million plan to build an IP-based next-generation network. Also Allstream has announced it is joining forces with Inukshuk Internet, a Microcell subsidiary, and private U.S. investment firm NR Communications to build a $135-million wireless IP-based network in selected markets. Shaw Communications. of Calgary is working on its business plan and Rogers Communications. of Toronto has said it will be in the business next year. Japan VoIP has already made a major impact in the Japan. Yahoo BB has 90% of its 3M broadband users taking voice as part of the service. Other VoIP providers include KDDI, PoweredCom, Japan Telecom, Fusion Communications, Nifty, and E-Access. NTT Communications the long distance component of the incumbent NTT is developing its own VoIP service and is now planning to interconnect with a number of rival VoIP services. China Since it has no legacy infrastructure, new entrant China Unicom is building a VoIP network from the outset serving 300 cities in 30 provinces. Hong Kong Here the full convergence of voice, data and video is already a reality for customers of the City Telecom broadband network which uses IP. Korea - Hanaro Telecom is a cable operator but it now provides VoIP telephones and claims a quality superior to that of mobile phones. Australia The incumbent Telstra has already acted as contractor to Westpac, one of the country s largest corporations, in that company s move to full IP telephony and now announced it will launch a VoIP solution for small to medium businesses in the first half of Telstra s main competitor Optus has already offered high-end, customised VoIP services for large corporate and government customers, but recently announced a more accessible product would be available from April A new company called Comindico claims to offer carrier grade quality for its VoIP service by prioritising voice traffic. 6

8 New Zealand As at September 2003, six companies had implemented VoIP solutions and around 100 were actively seeking bids. New Zealand Telecom itself has decided to go over completely to VoIP for its internal communications needs, but it plans to make the change over three-four years. Austria Perhaps more than any other European incumbent, Telekom Austria has embraced the notion that its future lies in VoIP. Therefore it plans to spend between M Euros replacing its current network with an IP-based next generation network. It envisages moving from 1,240 switches in the PSTN environment to only 200 (plus some soft switches) in the IP world and it has expressed the view that it can reduce operating expenditure by 40% at least. Sweden Bredbandbolaget has 250,000 users of its VoIP service. According to consultancy TeleGeography, one-eighth of international long-distance telephone minutes this year are running over IP networks, up from one-tenth last year and much smaller proportions in previous years. TeleGeography said IP probably will "transform a century-old business in just a few years". Broadband analyst Dave Burstein forecasts that, by mid 2004, there will be 10M broadband voice users throughout the world. A report by the Yankee Group, released in October 2003, states that 83% of European operators surveyed by the group are expected to be offering VoIP services within two to three years. The main reasons given are more cost-effectiveness, ability to bundle voice and data services, and provision of more compelling broadband services. BT itself is planning to be a VoIP player in other countries. It is already a major provider of MPLS services to corporates outside as well as within the UK. Indeed it has probably the most successful MPLS service in Europe with orders increasing at 45% a quarter. In the course of the next financial year, BT plans to launch IP solutions in Ireland, Spain and the Netherlands. Meanwhile a peer to peer (P2P) telephone service launched in September 2003 is shaping up as a serious threat to conventional telcos. Called Skype [http://www.skype.com/skype.html], the system delivers VoIP telephony over a P2P network with nodes linking dynamically to handle traffic routing and processing without needing central servers. The system was developed by the people behind KaZaA the popular file-sharing software that allows Internet users to find and download music held on other people's PCs. KaZaA co-founders Niklas Zennstrom and Janus Friis say Skype will "challenge the outdated business models and rip-off tactics of legacy telcos". They plan to "bring global unmetered communications to people everywhere". This sounds somewhat bombastic, but more than 6.4 million users including UK users - have already downloaded the software. It will be clear from this review that we are dealing with a worldwide phenomenon that is about to overtake all industrialised and developing countries. The great unknown is how quickly VoIP will happen. On the one hand, Ovum has predicted that there will be no more PSTN traffic by On the other hand, Forrester Research looking specifically at Western Europe had argued that it will take until 7

9 2020 before a complete en-to-end VoIP service is in place. Vendors like Alcatel, Cisco and Siemens will not be ready with carrier class, scaleable and cost-effective equipment for another couple of years. Ultimately a lot will obviously depend on customer perceptions of quality and service and the investment community s willingness to fund the new networks. Crucially important to note, however, is that VoIP will not develop steadily; it is more likely to be quickly for on-net business traffic (with the speed being mainly determined by how quickly PABXs are replaced) but slowly at first in the mass market while most calls still have to be terminated on the PSTN network and then very much more rapidly once it becomes possible to complete a high proportion of call free on-net. Regulatory Implications of VoIP VoIP is a truly disruptive technology and one of the early challenges it will pose is to the existing regulatory frameworks and rules. Since telecommunications is a (tightly) regulated industry and the Internet is totally unregulated, the key issue is whether VoIP should be regulated. The voice element suggests that it should, while the IP element suggests that it should not. Incumbents are likely to press that it should, while new providers will certainly insist that it should not. This is already the subject of debate and representations in the USA. On 10 September 2003, Frontier Telephone Company of Rochester filed a formal complaint charging Vonage Holding Corporation with the unlawful provision of local exchange and interexchange telephone services in violation of the Public Service Law and other statutes, regulations and orders. In a submission of support dated 31 October 2003, the Communications Workers of America (CWA) urges the New York State Public Service Commission (PSC) to uphold Frontier s complaint, find that Vonage is violating the Public Service Law and other statutes, regulations, and orders, and mandate Vonage to comply with such statutes, regulations and orders. The CWA argues that failure to take such action would significantly harm the public interest by undermining public safety, consumer protection, fair competition, the equitable and fair treatment of providers and consumers, and the PSC s ability to regulate telecommunications in New York. On 27 October 2003, the CWA made a separate submission to the Federal Communications Commission (FCC) arguing that the Commission should deny the Vonage petition requesting preemption of a Minnesota Public Utilities Commission order requiring Vonage to comply with state laws governing providers of telephone service. The CWA submission points out that, in the Universal Service Report, the Commission addressed the proper regulatory treatment of VoIP. The Commission identified computer-to-computer IP telephony as an information service. Regarding phone-to-phone IP telephony, the Commission repeated at least eight times that it is a telecommunications service. Vonage itself admits to meeting key criteria of a phone-to-phone IP telephony telecommunications service. In its submission, the CWA identifies some of the key regulatory issues involved: obligations for universal service support, support of telecommunications relay services (TRS), access for people with disabilities, inter-carrier compensation (access charges), public safety obligations such as E911 and CALEA, privacy protections, advance notice of termination of service, and other consumer protections. 8

10 The FCC is seized of the need to take a clear view on whether and, if so, how VoIP should be regulated and it recently held a special open Forum on the subject. At this event, the Chairman of the FCC Michael Powell declared: "No regulator, either federal or state, should tread into this area without an absolutely compelling justification for doing so. However, California Public Utility Commissioner Carl Wood argued at the forum that regulators have an obligation to oversee telephone services, whether they travel over traditional lines or the Internet: "The advent of [Internet phone calls] does not in and of itself exempt it from telecommunications regulation. He pointed out that the National Association of Regulatory Utility Commissioners has voted in favour of regulation of such services. Here, in the UK, before it went into the new regulator Ofcom, the telecommunications regulator Oftel proposed that VoIP services should be regulated if any of the following factors apply: The service is a market substitute for traditional PSTN voice services The service appears to the customer to be a substitute for public voice telephony The service provides the customer s sole means of access to the traditional circuit-switched PSTN. The main regulatory issues around VoIP are as follows: Emergency calls Currently all public telecommunications operators provide a service which receives emergency calls and routes them to the nearest emergency call centre. However, IP phones may not provide the reliability, identification and proper routing. Call interception Law enforcement agencies will find it harder to intercept telephone calls when such calls exist only as digital packages once they leave the caller s handset. In an age of global terrorism, this is a special concern. Caller location Law enforcement is increasingly requiring network operators to provide information on the physical location of the caller in defined circumstances. However, IP addresses do not currently identify the user or the location. Numbering Currently carriers provide a range of facilities such as number portability and caller line identification. However, IP networks may not be capable of providing such facilities without new standards. Directory assistance & phonebooks Telephone customers are used to finding numbers by looking them up in a book or telephoning a DQ service, However, such services are more difficult to provide in the IP environment. Universal service VoIP operators do not have a universal service obligation and do not have to contribute to the funding of such obligations by other carriers. In the USA, there is a Universal Service Fund that currently receives some $6B a year which will be reduced significantly by a move to unregulated VoIP services. This may also become an issue of unfair competition. PSTN availability At some point in the future, incumbents will want to close down the remaining conventional exchanges but not all telephony customers will necessarily be using IP phones and would therefore become disconnected from the public network. This is a similar issue to the proposed switch-off of analogue television in the broadcasting environment. 9

11 Financial Implications of VoIP Historically telecommunications has been about the growth in basic fixed telephony, a market that provided steady growth and profitability for many decades. In the UK, this has been a 7 billion market, so it has been fundamental to BT s survival as the major market player. However, in the past years, BT s volume growth and profitability have been severely challenged by a combination of ferocious competition, excess capacity and tough regulation. The latest challenge for the company has been the introduction of carrier pre-selection (CPS) which is beginning to bite heavily into the company s revenues over 2 million customers have already been lost and the former regulator Ofcom expected 5 million to be lost by the end of The most recent financial results of BT those for the second quarter and half year revealed that, in that quarter, total revenues decreased by 2% and revenues in traditional business fell by 6%. BT s market share by volume of fixed to fixed voice minutes is now 72.4%. The switch to VoIP will further diminish the core revenues of traditional telcos like BT. VoIP customers will not pay by calls made, but instead pay a flat-rate charge for unlimited calls along the current model for broadband Internet. In the USA, the analysts UBS wrote in a November 2003 report entitled Sayonara To Voice : VoIP technology has the potential to do to wireline carriers what file sharing is doing to the recording industry, while Goldman Sachs said in July 2003: Lost telecom revenues could reach the billions in a matter of years. Consequently the whole basis on which tariff structures have traditionally rested could be swept away. Already there are tariff options which are not based on numbers of calls (such as BT Together). Within five years, telco customers will not buy lines or calls at all, but packages and bandwidth. Telcos increasingly will not sell calls as a stand-alone service; instead they will bundle calls into offerings which include narrowband or broadband Internet connection and other services such as firewall protection and security. This will have enormous implications for how telcos market their products and account for their revenues. It will also affect regulatory controls, since market share will no longer be measurable by call volumes. The challenge for the traditional carriers will be whether they stand aside from the technology and watch competitors offer VoIP and further reduce their revenues and market share or whether they themselves launch a VoIP service and in effect cannibalise their own revenues. In the short-term, the latter course would accelerate the decline in the core business but, in the medium term, it would drive their broadband business to new heights. In fact, BT is already developing VoIP applications such as BT Communicator. In August 2003, NTT of Japan became the first incumbent carrier to launch a VoIP service which it did to business customers in competition with Yahoo BB. In October 2003, France Telecom announced that it would provide a VoIP service to business users. A further challenge for BT compared to many other (especially European) incumbents is that it no longer owns a mobile network, having disposed of O2. Existing 2G and future 3G networks will remain stand-lone from New Generation Networks for some time, although 4G networks will be IP-compliant. Therefore VoIP competitors will not provide the same threat to mobile operators as to fixed-line 10

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