Wednesday, 14 March 2012

'Future proof' - A flawed justification for fibre

Fiber-to-the-home (FTTH) enthusiasts often say that it is the essential choice because it is 'future proof' (see, for example, this). While this sounds good, there are a number of problems with this argument.

We perfectly sensibly invest in things that aren't future proof all the time. Newly weds do not immediately buy houses to accommodate a brood of children, we don't build all airports with three runways on day one, we don't build all roads as six lane highways and so on.

There are two fundamental reasons for this - we don't know if the anticipated demand will materialise, and even if it does, there is value in delaying the investment to accommodate it. The newly weds might never have children, and even if they knew for cast iron certain they were going to, why spend the money on empty bedrooms today? The cash could be put to better use in the meantime (particularly if, say, the newlyweds were facing a global financial crisis at the time of their wedding).

In the world of superfast we can take a look at the choice between FTTH and fibre-to-the-cabinet (FTTC) in these terms. The latter is considerably cheaper, since it doesn't involve digging up the roads all the way to individual houses, but on the other hand its theoretical capacity is lower. It's possible that at some future point demand for speeds even greater than FTTC can provide (currently in the region of 80 Mbps and rising) will mean that we'll feel obliged to overbuild with FTTH.

At that point, will those crying 'future proof' in 2012 be proven right? Well, it all depends on the numbers - the costs of the two technologies, how much of the FTTC build cost would be wasted, how long before any overbuild is required, the probability of overbuild being required and the discount rate (a measure of value of delaying spend).

Below is an illustrative analysis of this. One critical assumption is the relative costs. I've assumed FTTH is three times the cost of FTTC (this may be conservative - Ofcom says 3-4x, and WIK says 5x in urban and suburban areas). Don't worry to much about the absolute dollar figures - $400 per household for FTTC and $1200 for FTTH - it's the ratio that matters for our purposes.

I've somewhat arbitrarily assumed that there's an 80% chance that overbuild will be necessary, and that it will be required in year 4. These sound generous to me, but there's room for reasonable people to disagree, certainly. However, keep in mind that the 80% is not the chance that there will be any demand for FTTH speeds, but rather the chance that there will be enough demand for incremental speeds beyond those of FTTC to justify the cost of the overbuild. Given that FTTC can provide 80 Mbps and rising, 80% feels like a high number to me.

I've assumed that 50% of the investment in FTTC is a write-off if it's overbuilt with FTTH (based on Value Partners' view). Finally, I've assumed a 10% discount rate, fairly typical for commercial investments. So how do the numbers play out? See below:

As we can see, going for FTTC now saves us $198 per household, even allowing for the fact that overbuild with FTTH later may be necessary. The fundamental reason is that there is huge value in delaying the substantial spend on FTTH. Note that even if we were 100% certain that FTTH would be required in a few years, it would still make sense to start with FTTC now, though the saving drops to $49.

All the above analysis assumes (generously) that FTTH itself won't be replaced by something better. Certainly it is today the way to deliver the highest bandwidth to the home, but the future has a way of surprising us. Want to know what was being called 'future proof' in 1995? ISDN, now a product in its twilight years - BT killed of consumer ISDN in 2007, for example.

So, the next time someone tells you we have to spend money on FTTH because it's 'future proof', keep in mind that they may be wrong, and even if they're right, it may still make sense to build FTTC now and see if we need FTTH later.

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