Moffett

Wall Street is worried the cable industry will not be able to report major subscriber gains going forward because just about every middle/upper-income customer that wants broadband within cable’s footprint already has the service from either the phone or cable company.

Cable analyst Craig Moffett from MoffettNathanson Research predicts singing up the last 20% of Americans who don’t subscribe to broadband service will be challenging. As of today, 73% have the service, up 2.5% from last year. An increasingly anemic growth rate is a sign the marketplace is getting saturated, with only low-income Americans underrepresented, primarily because they can’t afford the asking price. Most of the rest don’t own or want computers or Internet access or live in a rural area where the service is unavailable.

Under these circumstances, it is no surprise broadband providers are reporting lower new customer gains. Time Warner Cable and Cablevision actually lost broadband customers in the third quarter, mostly to Verizon FiOS. For the last five years, the cable industry has picked up most of its broadband customers from phone companies offering only DSL service.

“To be sure cable is still taking share [from telco DSL] but it is doing so at a much more modest pace,” Moffett said.

The industry’s best chance for new subscriber growth appears to be bundling computers or tablets with an entry-level broadband offering targeting the poor.

Although cable companies are not supplying free PCs just yet, many are introducing relatively slow, budget-priced broadband tiers to attract lower-income subscribers.

Time Warner Cable introduced a $14.95 2/1Mbps broadband tier this month the company hopes will attract price-sensitive customers, especially those now subscribed to low-speed DSL.

Comcast has Internet Essentials, a $10 slow speed broadband service for families with children enrolled in the federal student lunch program. It is also rolling out a “prepaid Internet service” directly targeting low-income customers. Prepaid customers pay $69.95 for an activation kit containing a DOCSIS 3 modem and a month of broadband service. Renewals are priced at $15 for a week or $45 for a month for 3Mbps service with a 768kbps upload rate.

Most other cable providers offer entry-level broadband speeds, but usually only as a retention tool. Even if the industry custom-targets low-speed tiers to low-income homes, many customers may never make it past the cable industry’s credit check procedure. Comcast’s prepaid offering avoids that problem.

The median bandwidth use slowdown (Image: BTIG Research)

Despite perpetual cries of Internet brownouts, usage blowouts, and data tsunamis that threaten to overwhelm the Internet, new data shows broadband usage has leveled off in North America, undercutting providers’ favorite excuse for usage limits and consumption billing.

Sandvine today released its latest broadband usage study, issued twice yearly. The results show a clear and dramatic decline in usage growth in North America, with median usage up just 5% compared to the same time last year. That is a marked departure from the 190% and 77% growth measured in two earlier periods. In fact, as Richard Greenfield from BTIG Research noted, mean bandwidth use was down 13% year-over-year, after the second straight six month period of sequential decline.

Companies like Cisco earn millions annually pitching network management tools to providers implementing usage caps and consumption billing. For years, the company has warned of Internet usage floods that threaten to make the Internet useless (unless providers take Cisco’s advice and buy their products and services).

“Demand for Internet services continues to build,” said Roland Klemann from Cisco’s Internet Business Solutions Group. “The increasing popularity of smartphones, tablets, and video services is creating a ‘data tsunami’ that threatens to overwhelm service providers’ networks.”

Providers typically use “fairness” propaganda when introducing “usage based pricing,” blaming exponential increases in broadband usage and costly upgrades “light users” are forced to underwrite. A leveling off in broadband usage undercuts that argument.

A Cisco White Paper intended for the eyes of Internet Service Providers further strips the façade off the false-“fairness” argument, exposing the fact usage pricing has little to do with traffic growth, pricing fairness, or the cost of upgrades:

In 2011, broadband services became mainstream in developed countries, with fixed-broadband penetration exceeding 60 percent of households and mobile broadband penetration reaching more than 40 percent of the population in two-thirds of Organisation for Economic Co-operation and Development (OECD) countries.

Meanwhile, traditional voice and messaging revenues have strongly declined due to commoditization, and this trend is expected to continue. Therefore, operators are now relegated to connectivity products. The value that operators once derived from providing value-added services is migrating to players that deliver services, applications, and content over their network pipes.

As if this were not enough, Internet access prices are dropping, sales volumes are declining, and markets are shrinking. The culprit: flat rate “all-you-can-eat” pricing. Such a model lacks stability—sending service provider pricing into a downward spiral—because it ignores growth potential and shifts the competition’s focus from quality and service differentiation to price.

While Klemann was spouting warnings about the dire implications of a data tsunami, Cisco’s White Paper quietly told providers what they already know:

Maximum Profits

“[Wired] broadband operators should be able to sustain forecasted traffic growth over the next few years with no negative impact on margins, as the incremental capital expenses required to support it are under control.”

If usage limits and consumption billing are not required to manage data growth or cover the cost of equipment upgrades, why adopt this pricing? The potential to exploit more revenue from mature broadband markets that lack robust competition.

“In light of the forecasted Internet traffic growth mentioned earlier and competitiveness in the telecommunications market, Cisco believes that fixed-line operators should consider gradually introducing selected monthly traffic tiers to sustain [revenue], while a) signaling to customers that “traffic is not free,” and b) monetizing bandwidth hogs more sustainably.”

Cisco makes its recommendation despite knowing full well from its own research that customers hate usage-based pricing.

“The introduction of traffic tiers and caps—especially for fixed broadband services—is not welcomed by the majority of customers, as they have learned to ‘love’ flat rate all-you-can-eat pricing. Most customers consider usage-based pricing for broadband services ‘unfair,’ according to the 2011 Cisco IBSG Connected Life Market Watch study.”

Cisco teaches providers how to price broadband like trendy boutique bottled water and blame it on growing Internet usage.

But with competition lacking, Cisco’s advice is to move forward anyway, as long as providers initially introduce caps and consumption billing at prices that do not impact the majority of customers… at first. In uncompetitive markets, Cisco predicts customers will eventually pay more, boosting provider revenue. Cisco’s “illustrative example” of usage billing in practice set prices at $45 a month for up to 50GB of usage, $60 a month for 50-100GB, $75 for 100-150GB, and $150 a month for unlimited access — more than double what customers typically pay today for flat rate access.

Usage billing arrives right on time to effectively handle online video, which increasingly threatens revenue from cable television packages.

Sandvine’s new traffic measurement report notes the increasing prominence of online video services like Netflix, YouTube, Hulu, and Amazon Video.

“As with previous reports, Real-Time Entertainment (comprised of streaming video and audio) continues to be the largest traffic category on virtually every network we examined, and we expect its continued growth to lead to the emergence of longer form video on mobile networks globally in to 2014,” Sandvine’s report noted.

Sandvine found that over half of all North American Internet traffic during peak usage periods comes from two services: Netflix and YouTube. YouTube globally is the leading source of Internet traffic in the world, according to Sandvine.

An old excuse for usage caps on “data hogs” – peer-to-peer file-sharing, continues its rapid decline towards irrelevance, now accounting for less than 10 percent of total daily traffic in North America. A decade earlier, file swapping represented 60 percent of Internet traffic.

Cisco’s answer for the evolving world of popular online applications is a further shift in broadband pricing towards “value-based tiers” that monetize different online applications by charging broadband users extra when using them. Cisco is promoting an idea that well-enforced Net Neutrality rules would prohibit.

Citing the bottled water market, Cisco argues if some customers are willing to pay up to $6 for a liter of trendy Voss bottled water, flat rate “one price fits all” broadband is leaving a lot of money on the table. With the right marketing campaign and a barely competitive marketplace, providers can charge far higher prices to get access to the most popular Internet applications.

“Research from British regulator Ofcom shows that consumers are becoming ‘addicted’ to broadband services, and heavy broadband users are willing to pay more for improved broadband service options.”

Wharton School professors Jagmohan Raju and John Zhang concluded price is the single most important lever to drive profitability.

The political implications of blaming phantom Internet growth and manageable upgrade costs for the implementation of usage caps or usage-based billing is uncertain. Even the “data hog” meme providers have used for years to justify usage caps is now open to scrutiny. Sandvine found the top 1% of broadband users primarily impact upstream resources, where they account for 39.8% of total upload traffic. But the top 1% only account for 10.1% of downstream traffic. In fact, Apple is likely to provoke an even larger, albeit shorter-term impact on a provider’s network from software upgrades. When the company released iOS7, Apple Updates immediately became almost 20% of total network traffic, and continued to stay above 15% of total traffic into the evening peak hours, according to Sandvine.

Some other highlights:

• Average monthly mobile usage in Asia-Pacific now exceeds 1 gigabyte, driven by video, which accounts for 50% of peak downstream traffic. This is more than double the 443 megabyte monthly average in North America.
• In Europe, Netflix, less than two years since launch, now accounts for over 20% of downstream traffic on certain fixed networks in the British Isles. It took almost four years for Netflix to achieve 20% of data traffic in the United States.
• Instagram and Dropbox are now top-ranked applications in mobile networks in many regions across the globe. Instagram, due to the recent addition of video, is now in Latin America the 7th top ranked downstream application on the mobile network, making it a prime candidate for inclusion in tiered data plans which are popular in the region.
• Netflix (31.6%) holds its ground as the leading downstream application in North America and together with YouTube (18.6%) accounts for over 50% of downstream traffic on fixed networks.
• P2P Filesharing now accounts for less than 10% of total daily traffic in North America. Five years ago it accounted for over 31%.
• Video accounts for less than 6% of traffic in mobile networks in Africa, but is expected to grow faster than in any other region before it.

Frontier Communications’ new simplified pricing with no equipment fees or surprise contracts was well-timed for the phone company as it picked up a growing number of disgruntled Comcast and Time Warner Cable customers fed up with increasing modem rental fees.

Frontier depends a great deal on its residential broadband service to win back revenue the company has lost from years of landline cord-cutting. The company reported slowing revenue losses, now down to less than one percent for the quarter ending Sept. 30. Frontier’s profits reached $35.4 million this quarter, reduced by increased investment in broadband upgrades and pension fund-related expenses.

The independent phone company is still losing residential and business phone customers, but those losses have begun to stabilize. Frontier has 2.82 million residential customers and 275,000 business customers. While Time Warner Cable lost customers during the recent quarter, Frontier picked up 27,000 new ones. For all of 2013, Frontier added 84,500 new broadband customers. Nearly 84 percent of them added broadband as part of a bundle, which leads analysts to suspect most of Frontier’s new broadband customers are located in rural areas that never had access to broadband speeds before.

Frontier’s greatest opportunity is in the rural residential broadband business, and the company’s investment in improved broadband speeds has made a major difference in growing market share especially where it has a cable competitor. Currently, Frontier has 20-25 percent market share in most of its service areas. It wants 40%, but is unlikely to achieve it selling broadband speeds that often top out at around 10Mbps. Winning customers back to a landline provider has also proved difficult without an attractive bundled offer. In all but a few cities, Frontier bundles landline service with DSL broadband and a satellite television package.

Wilderotter

In rural markets, Frontier has had better success, particularly in areas formerly served by Verizon.

With help from the federal government’s Connect America Fund (CAF), Frontier invested over $21 million to expand rural broadband service in 2013. In the third quarter, the company expanded service to another 37,000 possible homes and businesses, with 30,000 more on the way in the fourth quarter. The company applied for $71.5 million in CAF funding for 2014.

Broadband speeds have also gradually increased in an expanding number of communities. As of today, 45 percent of homes can receive 20Mbps or better, 58 percent are capable of 12Mbps. A year-end commitment to offer at least 3Mbps speeds to 85% of customers in the most rural areas also appears within reach. Customers can upgrade to the next speed level in $10 increments.

But not every customer has gotten speed upgrades. In their largest legacy market — Rochester, N.Y., DSL speeds have remained unchanged in many areas. At the headquarters of Stop the Cap!, Frontier pre-qualified us this afternoon for the same 3.1Mbps DSL speed they offered in 2009, despite being blocks away from the city line.

Those increasing speeds have led to more traffic on Frontier’s broadband network, but the company says it has enough capacity to handle it.

“The average usage of all our customers across both fiber and the copper has grown to about 24GB per month at this point, and we see that increasing and people are comfortable with [our] facilities as well as our backhaul to support that growth,” said chief operating officer Dan McCarthy. “We’ve seen that grow virtually every month as we move forward.”

Frontier analyzes what customers do with their broadband connection and found 30 percent of customer usage is online video. That number is growing. Customers upgrading to the fastest speeds are often telecommuters or have a home full of avid broadband users.

“On the residential side [these high-end customers] are usually working at home, they are VPNing, they are gamers, and they are very active on video services and social media as well,” said CEO Maggie Wilderotter.

The average Frontier DSL customer still subscribes to 6Mbps service, which Wilderotter said was adequate for Netflix, web surfing, and e-mail. But the company is preparing to market speed upgrades to these customers to earn extra revenue.

So far, Frontier’s broadband growth has gone relatively unnoticed by their cable competitors.

“We really haven’t seen any sustainable programs that cable has put against us in the market and we do know that several cable operators have said they’re going to do more in those areas,” said Wilderotter. “We are very well prepared for that. We are giving everyday low pricing to the customer that’s simple and predictable and there are no add-on fees or modem rental costs.”

Most Frontier customers are offered $19.99 or $29.99 broadband pricing that can be bundled with other products for discounts. There is no term contract.

“Time Warner Cable has increased their modem fees [to] between $6 and $9 a month,” said Wilderotter. “That’s a huge price increase for a lot of customers. You compare that with Frontier which has no modem cost and customers understand where price value lies.”

Wilderotter noted Comcast has raised rates as well. Frontier intends to remind cable customers they have a choice, and will tailor offers to continue to increase market share.

Nebraska City, Neb. understands how super fast broadband can transform local businesses, education, health care, and consumer entertainment. The only problem for the community of 7,277 residents is getting a provider to supply it.

Although incumbent providers Time Warner Cable and Windstream Communications were willing to offer expanded service, only Spiral Communications of Bellevue, Neb., promised to deliver 1,000/1,000Mbps fiber optic broadband to every local resident and business that wants it.

“To be competitive with other communities in retaining and attracting industry, businesses, families and individuals and to continue to provide a high quality of life for our citizens, we must have greater bandwidth,” Nebraska City Mayor Jack Hobbie said.

Spiral has begun engineering studies in the Otoe County seat to contemplate the total cost of the network — an expense the company will bear itself. Spiral said it would invest $3 million in the equipment and pay a 3 percent franchise fee to the city.

Prices for the service have not yet been set, but Spiral promises customers can buy less costly Internet speeds of 10-50Mbps.

Currently, Spiral Communications provides wireless Internet service in western Iowa and has a fiber to the home project in Traynor and fiber optic ring around Tabor, both in Iowa.

Phillip “Unlimited Innovation depends on Unlimited Access” Dampier

Comcast wants to embrace innovation and change. Before it can succeed, the cable company needs to permanently retire usage caps and consumption billing schemes, now being market-tested for possible reintroduction nationwide.

Comcast today announced it created a new executive position — vice president of consumer services for video, phone, Internet, and home products and appointed Marcien Jenckes to the position. His role is to oversee development of ideas for new products and services that can be sold to Comcast customers.

Jenckes says Comcast’s product lines are blurring as convergence between television and broadband continues. His role is to keep customers of both services happy by embracing innovation and change.

He will find his hands tied should Comcast bring back its usage cap, now under serious consideration. Limiting residential broadband limits customers’ interest in innovative new online applications that carry the threat of a wallop to one’s wallet from overlimit fees. Comcast ditched its arbitrary 250GB usage cap in the spring of 2012, but continues to think about bringing it back. This year, Comcast has tested a new 300GB cap in certain states tied to an overlimit fee for customers exceeding their usage allowance.

Customers don’t like usage caps one bit. Neither should Comcast “innovators” like Mr. Jenckes.

The future of Internet innovation is likely to be developed on a platform that delivers faster Internet speeds, opening up new high bandwidth applications not easily possible today. Usage caps are anathema to that kind of innovation because customers will be unlikely to embrace new services that blow their usage allowance away.

If Mr. Jenckes is seriously interested in promoting a new spirit of innovation at Comcast, he should start by pressing his fellow executives to ditch usage caps and consumption billing once and for all. The future of unlimited innovation in broadband has its best chance of success with unlimited access.