SMBs Take IP Telephony Spotlight from Large EnterprisesSMBs Take IP Telephony Spotlight from Large Enterprises

Large enterprises, which historically have used significantly more robust voice systems than small and medium businesses (SMBs), have long been the focus for VoIP vendors. However, this is about to change.

As voice systems continue to move away from proprietary hardware and into software solutions, it becomes easier to produce cost-effective full-featured solutions for SMBs. As IP telephony vendors reach the saturation point with the first deployments of IP in larger businesses, the SMB voice market is poised to see a resurgence.

This renewed SMB focus will initially lead to further fragmentation of the market landscape, both of the vendors and of the solutions offered. At the same time, it will be an opportunity for vendors to increase SMB market share.

LARGE ENTERPRISES HAVE BEEN THE QUICKEST TO ADOPT IP VOICE

When an enterprise today is considering modernizing its voice system, one key question is asked: What is the state of the data infrastructure? Because large enterprises tend to upgrade their data equipment more often--typically four years for a wiring closet switch--and usually add more features with the upgrade--such as Gigabit Ethernet, power over Ethernet (PoE), security, and enhanced quality of service (QoS)--larger enterprises are generally better prepared for the adoption of IP telephony.

Small businesses, on the other hand, often keep their data equipment in excess of six years, and their purchases tend to be less feature rich. Because of their older data infrastructure, most SMBs are burdened with the cost of purchasing both a PBX and newer data equipment in order to create a reliable converged network. Even the simplest deployment of VoIP to the desktop requires significant intelligence in the data network to ensure voice quality.

With large enterprises better positioned to adopt VoIP, and possessing a larger addressable market, most vendors initially focused their development efforts on IP-based solutions for larger enterprises. Their efforts have paid off.

Figure 1 shows the faster adoption of IP among large enterprises. In just the last two years, the delta between the percent of IP lines in the large and SMB segments grew from just 20 percent in 2005 to over 30 percent in 2007. In 2007, more than half of the lines shipped into large enterprises were IP, as compared to only 25 percent for SMBs. IP lines in large enterprises have grown by 10 percent annually each of the past three years, while SMBs have increased their IPT lines by only 5 percent annually in this three-year time period.

Clearly, large enterprises have been faster at switching to IPT, but we believe this diverging trend of adoption rates between large enterprise and SMBs will begin to change this year.

VENDORS ARE NOW REFOCUSING EFFORTS ON THE SMB

Now that territories in the large enterprise space have been staked, vendors are switching their focus to the next big greenfield opportunity: SMBs. While they were concentrating on capturing business with large enterprises, most vendors did not significantly change their offerings available to SMBs. So, despite new technological innovations, the divide has remained between features and functions on voice systems targeted at larger businesses versus those targeted at small businesses. This gaping hole has encouraged more vendors to enter the SMB race and to more aggressively develop SMB solutions.

Despite significant consolidation among vendors in the SMB space over the past three years, there are still more than 40 vendors competing for SMB voice dollars. Further illustrating the divided landscape, the top six IP telephony vendors--Alcatel-Lucent, Avaya, Cisco, NEC, Nortel, and Siemens--are responsible for only about 50% of global SMB line shipments, compared to more than 70% of global large enterprise line shipments (Figures 2 and 3).

The heated competition in the SMB space has resulted in vendors offering many different types of solutions. For example, traditional voice vendors are offering peer-to-peer solutions, such as Avaya’s One-X Quick Edition and Siemens’ HiPath BizIP, to alleviate the need for centralized call control. Newer open source vendors, such as Digium and Fonality, are trying to garner market share by pushing lower-cost SIP solutions and SIP handsets. Other vendors, such as Microsoft and IBM, are providing Unified Communications (UC) as part of their hosted solutions.

UC features, such as presence and coupling of voice into business processes (like CRM tools such as Salesforce.com), would have been unimaginable for SMBs in the past. Vendors that incorporate UC into their offerings to penetrate new segments of the SMB market with IP can achieve a higher selling price than the price-sensitive market is currently paying for voice-only products.

THE SMB MARKET MAY FURTHER FRAGMENT

With a variety of new voice solutions for SMBs, we believe that the two key SMB voice segments will further fragment. In the past, the SMB market was split between premise-based digital equipment, such as Nortel’s Norstar and Avaya’s Merlin systems, and hosted solutions (Figure 4). With VoIP, both of these segments will diverge into the current traditional offerings and newer solution-based offerings.

In the premise-based equipment subsegment of SMB voice solutions, some SMBs will consider their voice, data, and security as a complete solution. These SMBs will upgrade to VoIP at the same time as they upgrade their data and security infrastructure.

The type of equipment or configuration on the premise, however, may differ. Some SMBs will prefer to keep these three functions in separate devices, while others will look for an integrated, easy-to-manage solution. Some vendors may partner with data and security vendors to offer a coordinated solution for businesses, while others may develop purpose-built solutions for the SMB that include all the functionality needed in one device.

Some premise-based SMB vertical markets, such as dry cleaners, bars, restaurants, and hair salons, need phones but have little data-network infrastructure in place. As these verticals are often the most cost conscious, vendor offerings must not only compete on cost against Traditional Key systems, but also against the data networking infrastructure (i.e. PoE enabled switch). These vertical markets will likely be the last to adopt VoIP, and will convert once the benefits of additional features and functionality offered in newer, small PBXs outweigh the costs.

Still, some businesses in this category may not upgrade to IP; they may instead choose to keep or purchase TDM systems, because of the cost and resources needed to upgrade their data network for VoIP.

Hosted solutions will remain a key option for SMBs. The complexity of having voice and data converged on the same network and the associated concerns over security and QoS will lead some SMBs to look for service providers to offer them a bundled solution (one that includes hosted email, voice, and security). Small businesses often do not have a full-time IT person and are dependent on in-house expertise or part-time outsourced help. Service Providers and channel resellers have an opportunity to fill this void and increase their RPU (revenue per user) by providing a hosted solution that moves the complex management responsibilities away from the small business.

THE CHALLENGE: GETTING IN FRONT OF SMBs

The sales process with SMBs is much different than with large enterprises, and may pose challenges to vendors otherwise successful at winning large-enterprise VoIP business. With large enterprises, vendors are able to use their data network channel presence to gain significant share of large enterprise shipments.

For example, Cisco had 18% of large enterprise shipments in 1Q08, compared to just 3% of SMB shipments. These channel relationships are significantly different in SMBs where many, smaller, channels serve a region for SMBs compared to several large, established channels serving large businesses.

Channel loyalty can cause new entrants to struggle in penetrating the market. There is an opportunity for incumbent vendors, such as Avaya and Nortel, to use their well-developed SMB channels to not only migrate their existing SMB installed base to VoIP, but to also become key partners that can address an SMB’s data and security concerns. The ultimate success of SMB vendors hinges on the strength of their channels to sell IP-based solutions and the vendors’ ability to address more than just voice when facing an SMB customer.

We believe that this year, momentum will swing towards SMBs as they continue to evolve into more distinct markets with unique needs. Despite the challenges faced by SMB vendors, we believe that SMBs will begin to adopt VoIP in increasing numbers, and that we will begin to see this shift in 2008. The delta between the percent of IP lines in the large enterprise and SMB segments will decline to approximately 20 percent over the next five years as vendors refocus on the SMB space.

There is significant opportunity in the SMB space--the key questions are which vendors will build the correct SMB channel, develop complete voice solutions that are attractive to SMBs, and be able to convince SMBs of the advantages of VoIP.

Alan Weckel is a senior analyst at Dell’Oro Group Inc., where he covers the enterprise IP-telephony and Ethernet switch markets. For more information, please visit www.delloro.com