Coming Changes in Broadband Pricing

by Patrick Lefler

Netflix Pricing Model Reinforces New StrategyPeter Burrows of Bloomberg Businessweek has written a great piece this week on how the crushing demands of video delivery and mobile devices are going to change the pricing model of the internet. In an article titled; Will Netflix Kill the Internet? Burrows makes the point that the rise of Netflix and other video content providers will force internet and mobile carriers to change their pricing structure because the total investment needed to keep up with video streaming demand will soon exceed revenue growth. The problem then becomes how to effectively raise the needed revenue to fuel this rapid demand for bandwidth; some estimates are that internet traffic will triple by 2014 with more than 90% of this being video.

While in the past, bandwidth technology has always seemed to be one step ahead on demand, things will be different this time. Here’s what Burrows has to say:

It’s true that history is reassuring, and the steady progression from the dial-up modem to fiber-optic cable has led to bandwidth that easily meets demand. Yet there has been nothing like the double whammy of video and mobile that’s under way, say industry executives and analysts. A high-definition movie is magnitudes larger than an e-mail or a Web page, the kinds of content the Net was built to transmit. And there are now more than 50 million smartphone owners in the U.S., many of whom want to catch up on Glee while in line at the supermarket.

The issue is as much about economics as technology. For the same $40 monthly broadband fee, consumers can send 1-kilobyte e-mails—or watch the 30-gigabyte director’s cut of a Hollywood thriller on their large-screen PC. Unlike with power or water bills, there’s no meter to keep gorgers in check. A study from Juniper Networks (JNPR) highlights this “revenue-per-bit” problem. The report predicts that carriers such as AT&T (T) and Comcast (CMCSA) will see Internet revenues grow by 5 percent a year through 2020. Meanwhile, traffic will surge by 27 percent annually, and carriers will need to increase their investments by 20 percent a year to keep up with demand. By this math, the carriers’ business models break down in 2014, when the total investment needed exceeds revenue growth.

The solution may be to discard the existing “all you can eat for one price” pricing model in use here in the United States and move to one that is based on the amount of bandwidth consumed. More from the article:

Ultimately, most experts expect that the heaviest data consumers will have to start paying more, most likely in the form of tiered pricing plans. These are already common in Europe and Asia, but Americans are used to no limits. The wireless networks have already moved in this direction: In June, AT&T discontinued its all-you-can-eat $30 a month data plan, forcing mobile consumers to choose between two plans that cap usage at 0.2 or 2 gigabytes per month.

On Dec. 1, Federal Communications Commission Chairman Julius Genachowski gave his approval to caps for fixed-line networks that carry data to home or businesses and said carriers should have “meaningful flexibility…to address the effects of congestion.” That might sound like common sense, but it’s a blow to advocates of “net neutrality,” who believe the carriers shouldn’t be able to discriminate against particular kinds of content, such as HD movies.

In addition to the obvious affect on consumers, it will interesting to see how this new pricing model will affect the content providers. Netflix CEO Reed Hastings has already conceded that AT&T data cap (along with the most likely scenario that other carriers will soon follow) might limit demand for watching movies on mobile devices.

It gets even more interesting when you think about how this new pricing model will affect the relationship between Netflix and the internet providers who not only stream Netflix content, but also compete with Netflix on content – folks like Comcast and their On Demand movie and T.V. services. Will the Comcast’s of the world be able to use this new pricing model to gain an advantage over Netflix? Will they be able to manipulate their multi-tiered pricing structure so that Netflix becomes uneconomical compared to their own content? Interesting times ahead.

Here’s the takeaway: Pricing model changes can become significant opportunities for some…at the expense of other competitors. The landscape is changing; everyone better be prepared.

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Patrick LeflerPatrick Lefler is the founder of The Spruance Group – a management consultancy that helps growing companies grow faster. He is a former Marine Corps officer; a graduate of both Annapolis and The Wharton School, and has over twenty years of industry expertise.