Friday, January 06, 2006
Broadband Futures 3 – The Big Twelve Deal
I argued in Broadband Futures 2 – The Half & Half scenario that a mix of proprietary and open access Internet was the most likely outcome for consumer broadband in the US. However, it will require content players to negotiate bilateral deals with network operators to get decent network performance, which will be messy and difficult.
Simplifying Internet transit negotiations
It may be in the interests of a few big app/content players (the big boys) to band together to make a lump sum payment the network operators (netops) to provide open access to all, rather than negotiating special access on a case-by-case basis. This deal would benefit all app/content companies, since it would reward netops that provide a non-discriminating Internet pipe to all comers.
It might seem counter-intuitive for the big boys to do this, since only they would be paying the netops, while all Internet players, including their competition, would benefit. However, it can sense because (1) the big boys would derive enough benefit for themselves to make it worth their while; (2) the big boys will buy up the most interesting small fry, eventually (cf. Yahoo buying Flickr and del.icio.us, eBay buying Skype, and Google buying Blogger).
The netops are strong because there are essentially only six of them nationwide: Comcast, Cablevision, Times Warner on the cable side; and Verizon, SBC (newly renamed AT&T) and Bell South on the telco side. Further, in any given locality a netop has at most one high speed broadband competitor: a residential customer has to choose between the one local cable company and the one local phone company.
There are thousands of app/content companies on the other side of the table. For the deal to work, one needs a small group of negotiators; too many cooks, etc. However, the group needs to be large enough group to cover all the key players. The obvious three big boys are the top Internet revenue companies: Amazon, Google, and Yahoo (revenues of $8.1, $5.2 and $4.8 billion, respectively). If one could fit three more around the table, I’d pick eBay ($4.2 billion), Microsoft ($2.2 billion MSN revenue, $40 billion total), and Wal-Mart. (Wal-Mart’s revenues are $300 billion; I haven’t figured out what percentage is generated online, or how the margin compares to that of the pure online players. However, I assume it’s comparable to the other big boys, that is, in the $4 billion range.)
So now we have six netops and six Internet content companies at the table: the Big Twelve. Here’s what a deal might look like:
1. The big boys pay the netops a lump sum in return for a guarantee that their Internet offering won’t discriminate among content providers. It might not be quite as big as the aggregate deals that the netops could negotiate piecemeal, but transaction cost would be significantly lower.
2. It should be big enough that if the big boys could use the money to build their own open access “third pipe” if the netops didn’t play ball.
3. The payment would be a percentage of gross US Internet revenues, payable on the basis of bandwidth provided per customer; this would provide an incentive to the netops to add bandwidth
4. In return, netops wouldn’t sign sweetheart deals with any providers, not only the big boys but any content provider. There would be no covert advantaging of one provider’s content over the others.
5. If there are value added services, there would be a standard rate card; if one provider negotiated a price for, say, local caching, any other player could get it for the same rate. (If the content side plays its cards well in DC the coming months, they may be able to force such a rate card requirement on netops regardless of a deal.)
The big boys have additional leverage with the three telephone companies, since the content companies buy significant amounts of internet backhaul capacity. They could decide to allocate their backhaul purchases in a way that aligns with their other strategic interests (or whatever the formulation would be that would avoid anti-trust problems).
I have my doubts that twelve is too large a group of parties for a negotiation. If one limited it to the three telcos, and a subset of the six content big boys, the odds of success would be better.
Straw man numbers
To get a feel for the deal, assume 50 million US households covered by the payment, and that the big boys pay the netops $2/subscriber/month; that amounts to $1.2 billion/year. With the big boys’ aggregate revenue at around $30 billion, that’s a painful but not excruciating toll. The six year net present value at a 10% discount rate of this cash flow is $5.2 billion, which is enough to overbuild 10% of the 50 million broadband households, at $1,000 a pop – with suitable cherry picking, this threat to their margins could be enough to keep the netops at the table.