A Layperson's Guide to the Formula One and Tata Communications deal

Last week Tata Communications announced a multi-year technology service and marketing agreement with Formula One Management (FOM), which will include web hosting and content delivery of Formula1.com, provision of Formula One’s private network and connectivity to all 20 Formula 1 race locations across the world supported by secure MPLS connectivity.

I’ve noticed plenty of discussions following the announcement which centre on various conspiracy theories – the deal represents the first step in a global Pay Per View (PPV) strategy designed to kill-off free-to-air access, or that private equity firm, CVC Capital Partners (63.4% shareholders in Formula One) is set on packaging up the business, ready for a sale.

Eddie Baker, the man responsible for F1 Digital back in the early noughties was quoted on jamesallenonf1.com as saying, “It’s the most significant moment for F1 since the advent of satellites.”

“It gives him (Bernie) the ability to be able to do whatever rights deals he feels are right without limitations,” said Baker. “That means he can assess every opportunity, he can react to every opportunity, he can move with the times in perhaps a way that we were not able to do in the past.”

It gives him (Bernie) the ability to be able to do whatever rights deals he feels are right without limitations

Formula One is a hugely attractive sport for anyone with a technology or engineering focus. There’s no sport more innovative and none as demanding. It should therefore come as no surprise that FOM has entertained discussions with many advisors over the years, and I had my chance to share a few ideas with Eddie and his team during 2010/11.

Following the Tata/FOM announcement last Thursday, I got in touch with Eddie on his way back from the launch in London, to check that I wasn’t saying anything out of turn.

So the following are my thoughts (not his) about some of the potential opportunities created by a global IP network, which might help a few more people understand how the deal benefits viewers as well as Formula One’s main stakeholders.

The context

I have been involved in a few technology projects in my time, including the first 3G trials here in the UK, various large-scale network solutions and if you’d like to know more about how Bluetooth came to be, then I’m your man. So let me quickly start with the technology and then move on to some of the business implications of this deal.

From Satellite to cable broadcasting

The deal mentions Tata’s global backbone network (TGN) which is one of the largest submarine cable networks in the world. This is exactly what it sounds like, cables laid across hundreds of miles of ocean by undersea vessels, designed specifically for the task.

There have been cable networks on the sea-bed of most major oceans since the 1840’s, but the practice really took off in the 1980s when fibre-optic cables were developed. Prior to this, transatlantic cables required huge voltages to overcome their electrical resistance and numerous repeaters which would distort the transmission and limit available bandwidth. British companies initially led the way (giving birth to big names such as Siemens and Cable & Wireless), but now most are built by consortiums who then lease out their capacity to service providers.

Most people assume the internet is one big global network which everyone is attached to, but in fact it’s a virtual network connected by common protocols, and composed of millions of private, public, academic, business, and government networks including ‘parts’ of these backbone networks between continents.

Tata Global Network

Tata’s global network for Formula One is significant for several reasons; fibre-optic cable networks can transmit data at much higher speeds than satellites (terabits per second compared to only megabits per second).

Tata will spend much of the first year defining service levels, migrating legacy systems, putting in place security protocols and reducing the cost of broadcasting

They also offer much lower latency (delay between requesting data and receiving a response), so they are better suited to real-time broadcasting and interactive gaming. This is a key factor in the deal, which I will come back to later.

Another benefit of MPLS (the mechanism used to connect data being transmitted) is its ability to easily combine data packets arising from different protocols, which will make it possible to combine data from different sources (e.g. race broadcast, advertising, branded content) on the fly (i.e. during a live broadcast). Another key factor.

Initial changes will be invisible to the end-user, Tata will spend much of the first year defining service levels, migrating legacy systems, putting in place security protocols and reducing the cost of broadcasting core programming from around the world, but it opens up several new commercial opportunities for Formula One, should it choose to take advantage of them.

The opportunity gap

Many people are worried about the decline in free-to-air live broadcasting (such as the BBC) and a sense that Formula One is planning to milk its audience of loyal fans through a series of pricey pay-per-view schemes.

Whilst I’m not privy to their current plans, it’s worth bearing in mind a couple of things; the nature of Formula One as a business, and where additional value can best be generated.

Formula One as a business

Formula One in the scheme of things, is a relatively small business – totally dwarfed by the brands who make up its core sponsors. The business (excluding teams) brings in around $1.7bn in revenue each year, of which around $700m covers operating costs and a similar amount is paid out to the teams. With fewer employees than your local supermarket it’s a pretty lean business and yet highly profitable.

Race-hosting fees have taken over from the sale of television rights as Formula One’s biggest source of revenue, with race promoters paying F1 around $30m per race – contributing $600m – $700m to the pot.

The 2011 Formula Money forecast estimates that revenues could rise to more than $3bn by 2016, principally from an increase in fees charged to host each race.

To put those numbers in perspective, America’s NBA generated over $3.8bn in basketball revenues during 2011, with players receiving $2.2bn of this. Major League Baseball generated $7.2bn, whilst NFL football raked in $9.0bn in 2010. Those are national sports, without access to the wealth of emerging world nations like China and India.

Despite a TV audience in 2011 of 527 million viewers, Formula One is a B2B (business to business) operation – fans are an asset rather than a source of revenue – and Formula One’s competitive advantage is based mainly on CEO Bernie Ecclestone’s success in pulling together lucrative multi-year deals.

This is great quote which sums up the role fans play in Formula One’s business model, “If you’re not paying for something, you’re not the customer; you’re the product being sold.” [Source: Andrew Lewis quoted in Eli Pariser’s Filter Bubble]

But with such a huge audience (which dipped slightly last year), Bernie must wince when he sees upstarts like Facebook generate revenues of $3.8bn – and yet most commentators still harbor concerns over Zuckerberg’s success in monetising the social network’s 850 million user base.

Most race venues lose money and are subsidised by their governments, whilst the rest of Formula One’s revenue comes mainly from corporate hospitality, trackside advertising, sponsorship and TV licensing.

A B2C business such as BSkyB, who took over the broadcasting of Formula One in the UK this year, generates more in ‘profit’ each year than Formula one’s total income

A B2C business such as BSkyB, who took over the broadcasting of Formula One in the UK this year, generates more in ‘profit’ each year than Formula one’s total income, but also needs around 17,000 employees to perform its operations.

Therefore the idea of Formula One centralising its race coverage and charging under a pay-per-view model, is about as likely (in the short term at least) as Ed Miliband becoming the next Prime Minister.

Bernie has no interest in running a consumer marketing business and has succeeded over the years in building a low-risk business, where others (teams, sponsors, TV companies and venues) carry the main burden of investment.

It’s a unique (and very attractive) business model and is unlikely to change anytime soon. Nevertheless, Formula One is a long way from being the most valuable sport in the world, and there is still a considerable amount of latent value in its existing business model – so why change it?

New income

Whilst the growth in Formula One’s income is being driven by the fees charged to host each race, there’s an ‘elephant in the room’ that cannot be ignored.

If global brands and governments are contributing most of Formula One’s revenue, how much value do they receive in return? – beyond the intangible benefits through association and the modest exposure of their logo on a 200 mph billboard.

Each race viewer would need to contribute at least $30 each, in order to keep Formula One as fuelled up as it is today, and yet carmaker General Motors spent nearly 3-times as much ($4.25bn) as Formula one’s total income on its advertising in 2011. How much of that spend do you think went into Formula One’s pockets?

In fact, given Formula One’s position as the most advanced and elite motorsport formula in the world, how many car companies actually use the sport as a marketing platform for their products? You can probably count them on one hand.

Even GM’s marketing spend pales in comparison to FMCG brand Procter & Gamble (P&G), which flushed a cool $9bn into shifting deodorants, nappies and washing powder during 2011.

If Formula One were such a great marketing platform, then we’d see a lot more of these brands diverting their spend to reach its audience.

That was the catalyst for my own involvement a few years ago – we knew that advertising was a declining business model with content marketing (branded high quality material) emerging as the future. So the question was how could we build out the infrastructure of Formula One to enable direct and highly targeted propositions to be offered to brands?

If Formula One were such a great marketing platform, then we’d see a lot more of these brands diverting their spend to reach its audience.

Part one in this process was the move to HD broadcasting last year. Part two was envisaged to be co-content creation.

Despite the public perception, moving Formula One into the HD era was not simply a matter of increasing the bitrate of transmissions, races had been recorded in sufficiently quality for many years, instead Formula One had been working hard on the process of embedding meta data within the broadcast stream on the fly.

This opens up the prospect of different packets of content being mixed together during a live transmission (i.e. camera angles, viewer polls, sponsored content) offering broadcasters the chance to sell targeted propositions to their ad buyers.

The addition of Multi Protocol Label Switching (MPLS), as announced in last week’s Tata Communications deal, provides the delivery mechanism to enable this just-in-time assembly and distribution of content along a series of dedicated pipes.

Such a capability would also allow major sponsors to offer branded versions of the race coverage to their own audiences (rather like a digital magazine programme) – hence providing a more tangible return on their investment and bringing new money into the sport.

Take a look at the steps already made by Johnnie Walker, who sponsor the Vodafone McLaren Mercedes team, or Shell and Ferrari – they’re producing some great supplementary content, despite the prohibitions of Formula One’s licensing model.

Not once did we discuss audience-based monetisation, because the opportunities available from sponsorship are far greater and play to the strengths of Formula One as a business.

General Motors spent nearly 3-times as much as Formula one’s total income on its advertising in 2011

The most important benefit I see for fans is the opportunity to rebalance the sport, reducing its dependency on drivers bringing money into a team and thereby enabling F1 be the ultimate meritocracy for driving talent (as it should be).

If we reduce the need for teams to cover the cost of their drivers – who let’s face it, are the stars who attract the audience in the first place, then we get even closer competition, a better spectacle for viewers and a more attractive prospect for brands to associate with. Sports like the NBA already do this for players, so why not F1?

Now, of course I could be proven wrong and find that Bernie takes the business on a complete tangent, but I very much doubt he will. The stability of Formula One over the years has come from it displacing its liabilities into the hands of its business partners whilst tightly controlling its content.

Tata Communications are the newest member in the team, and are tasked with the job of providing Formula One with the tools it needs for the future.

Will the sport’s owners chose to use these tools to make Formula One the most attractive (and valuable) sport in the world? Time will tell. But that’s certainly the ambition.