July 17, 2013 – War on TV Part IV: The Biggest Pipe Will NOT Win
The first 3 parts of our “War on TV” series looked at how consumer electronics innovation, improving on-line content, and ad budget shifts are catalyzing a migration of viewers and revenues from TV. As the self-reinforcing cycle of viewers to revenues to content accelerates, MSOs will be squeezed between cash strapped consumers unwilling to pay more, and networks demanding higher fees as ad sales wane. For cable operators, the presumed “ace in the hole” has been their domination of residential broadband. However, we believe plans to stymie streaming rivals via usage caps, throttling, and sharply higher broadband prices is a dangerous tack that will bring regulation and competition. Moreover, faith that the sheer capacity advantage of cable’s fiber/coax infrastructure can sustain broadband leadership is misplaced, as applications and screen resolutions requiring speeds greater than 100Mbps are unlikely to be a significant factor over the next decade – wireless residential broadband will be a very realistic alternative for most households. Rumored industry consolidation may improve bargaining power with networks, but will increase regulatory scrutiny and may hasten media’s embrace of “over the top”.
The growing audience and revenue shift to on-line video is real. Channelized TV viewership has begun to recede with the growth of streaming, a trend that will accelerate with the spread of internet friendly consumer electronics and the improving selection of programming on-line. The growing on-line audience is drawing subscription and advertising revenue that would otherwise have been captured by TV, making the web a more attractive option for content owners and creators. The result is a self-reinforcing cycle of viewers to revenue to content to viewers that threatens the advertising sales, ARPU and subscriber rolls of traditional channelized television.
Consumers are tapped out. After rising 6.1% per year for the past 16 years, the average monthly US video bill now exceeds $90 – more than 2% of after tax income for the typical household. Given static incomes and the pressures of rising health care (6.9% of income rising 5.1%/yr) and education ( 2.4%, rising 6.1%), consumers may no longer be willing to absorb higher cable fees. The percentage of TV owning households that do not subscribe to MSO service has risen from 14% in 2010 to 19% in 2013, with 60% of these households pointing to cost as their primary concern. The availability of viable alternatives, such as over-the-air broadcasts and on-line streaming, increases the appeal of cord-cutting or reducing services to save money. Moreover, younger consumers, highly valued by advertisers, are the most likely to shun multichannel service – including “cord-nevers” who have never subscribed – leaving MSOs more as the young cohort ages and its behaviors spread to older, more conservative consumers.
Networks want more. With TV ad sales at risk, networks are looking to growth in fees paid by MSOs to cover the 4% annual growth of programming expenses, which make up more than 80% of total network costs. Historically, MSOs have passed the 8% annual growth in network fees on in higher prices to consumers, a tactic that would almost certainly accelerate cord-cutting if continued. The alternatives – absorbing fee increases or risking service disruptions with hard-ball negotiations – are marginally more palatable, with significant costs and risks of their own.
Price gouging on broadband will raise regulatory scrutiny. Cable operators enjoy a monopoly for broadband service to more than 65% of US households, prompting industry executives to tout price hikes on already high margin cable modem service as their “ace in the hole”. While the cable industry has historically enjoyed regulatory carte blanche, anti-competitive behavior, such as price hikes, metered-pricing, usage tiers, or service discrimination vs. video competitors will bring new government attention. Cable and media industry lobbyists are now outgunned by their internet industry counterparts, spending big bucks to push “net neutrality” and “common carriage” regulation that would gut MSOs ability to exploit their broadband advantage. Cable operators, with their deserved reputation for poor service and high prices, are widely disliked by consumers, a further threat to the political air cover.
Broadband speed requirements likely to plateau. Cable bulls often point to the inherent speed advantages of the industry’s fiber/coax infrastructure – CMCS demonstrated 3 Gbps download speeds at the recent Cable Show. Yet a stream of HDTV, requires just 8Mbps today and soon, 2-4Mbps with new compression technology. Even 4K TV, which faces substantial hurdles to adoption, is indistinguishable from HDTV at screen sizes below 42”, and is likely to be less than 25% of the big screen installed base a decade from now, will require just 20-30Mbps to stream. The future broadband needs for the vast majority of US households would be satisfied by speeds of less than 100Mbs.
Wireless broadband, DSL and selective fiber builds will increase rivalry. Technology progress and high cable modem service prices will open the door to real competition in residential broadband. The LTE Advanced standard, running on cheap mini cells and ample spectrum, will allow aggressive wireless carriers to easily hit the 100Mbps mark for residential service with very competitive cost bases well before the end of the decade. An artificially high price point would bring telco-provided DSL back into play, and improve the investment payback for new build fiber networks.
Internet players may fund broadband rivals. Would-be residential broadband competitors will also find deep-pocketed allies from the Internet industry. Google flirted with the last major spectrum auction, has begun building fiber networks in 3 cities, and has been rumored to have been in talks with Sprint regarding a role in pushing wireless broadband. Amazon, which already subsidizes consumer devices to drive consumption of its electronic media, is another obvious potential partner with strong interest in cheap, plentiful broadband. Microsoft, Apple and even, Intel, all have designs on leadership in the media world of the future and the resources to help fund the distribution needed to get there. With major spectrum auctions a year away, we expect significant developments on this front.
MSOs will lose, on-line video, wireless operators, towers and technology will win. Cable operators are facing death by a thousand cuts – the threats of cord-cutting, declining ARPU, rising network fees, regulatory pressures and broadband competition will rise gradually, with the painful impact on earnings and cash flow still a few quarters away. Satellite TV, with their more rural subscriber bases and potential wireless play, are more insulated but not immune. On-line video aggregators, like NFLX, GOOG, AMZN, MSFT, YHOO and others, will greatly benefit. Aggressive wireless operators, like Sprint or T-Mobile, have significant opportunity in broadband, to their benefit and to the benefit of tower companies and wireless technology players, such as QCOM.
For our full research notes, please visit our published research site.