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Time Warner Fiddles while Google Burns Them

Time Warner Cable (NYSE:$TWC) is looking to expand its 1Gb fiber optic network in New York City through a $25 million investment which is aimed at its high-speed business clients. It is playing catch-up as its competitors like Verizon (NYSE:$VZ) have already moved on the New York fiber market.  However, the main competition will come from Google (NASDAQ:$GOOG) with their Google Fiber trials in Kansas City, seriously undercutting the industry’s pricing model.

1Gbps internet access has been around but has been marketed solely to businesses that will gladly pay more for service than residential customers. EPB’s gigabyte connection, which is also offered to residential customers, costs around $300 per month.  Even Paxio’s gigabyte connection, which is considered a low cost alternative, is $245 per month. Time Warner used to having monopoly pricing leverage will focus on businesses as well, but Google’s entry into the market at far lower price points has everyone standing up and taking notice. 

Google can almost sell the wire to the house as a loss-leader to promote their other revenue streams.  This is an environment that the cable companies have been resisting for years, becoming dumb wire providers, like phone companies. 

In the first half of 2012, Time Warner’s revenue from its business services rose 32% from $673 million in 2011 to $893 million in 2012 with voice and high speed data to businesses growing by 54.5% and 25.5% while residential revenues rose by just 5.7%.  With growth disparities like this it’s no wonder Google is looking forward to when residential internet access will be cheaper than phone is now.  Moreover, with the growth in various wireless technologies, like Singapore (AMEX:$EWS) rolling out lower spectrum Super Wi-Fi service, there will have to be an incentive to drive residential customers towards high speed data service. 

Asking people to pay $70/month for a dumb wire and then for content subscriptions to things like Netflix (NASDAQ:$NFLX) and Amazon (NASDAQ:$AMZN) Prime when what you’re trying to do is get them to actually buy products and not content, which is becoming cheaper and easier to distribute every day, is a losing business model.   That’s the cable companies’ model.

Time Warner is losing residential cable customers, but growing in all other areas so the medium term is stable.  Cable subscriber loss is being overcome by data signups.  People are choosing data alone with a few commercials, like on Hulu, then data and cable.  In the end there is only so much time in the day to consume entertainment/information.  The 2nd quarter subscriber loss numbers have the industry spooked and the long-term trend away from traditional cable packages will start soon if it hasn’t already.  The Q3 numbers will get telling of where we’re headed.

So as Time Warner exits the residential scene, Google is courting them. Google’s coming in at a lower price point for the 1Gbps package as well as a “free internet” package by which customers can get unlimited free internet at normal speeds with a one-time $300 connection charge is a bombshell.  The value proposition for the consumer here is enormous.  In other words, Google is attempting to break the cable companies backs by going to commodity wire pricing and making the revenue up on what information flows over the wire, the valuable commodity to Google.

With more than $43 billion in cash and current assets, more than twice what any potential competitor has, Google has the assets to build this infrastructure beyond Kansas City very quickly if it’s successful.

Google has made no public nationwide announcement yet, but that is really just a matter of time.  They are generating $3.5-$4 billion per quarter and pay no dividend.  So, while a national rollout could cost upwards of $400 billion, it’s not beyond the realm of possibility.  Proof of concept is enough to drive their competitor’s pricing models down and force them to innovate.

Verizon offers just 50Mbps speeds at $140/month and has promised to deliver 100Mbps soon.  They are so far above where Google is in Kansas City that all things being equal Google could target a Verizon-held locality with a similar package at $20 per month.  What’s Verizon going to do complain to the government? 

Most likely yes.

So while Google’s press releases say no their business units are saying yes. They are advertising more than 30 employment opportunities and have acquired at least 49 patents related to optical technology through Mosaid Technologies Inc. with a similar number of pending patent applications. They will start in neighborhoods that show the most interest, minimizing sunk costs. Residents can go to Google Fiber’s website and register.  When the registration level reaches a predetermined threshold, Google will start bringing services there.

Google will also enjoy first mover’s advantage at these price points, building on their growing halo effect from Android.  Having spent $23 billion to upgrade their service to handle 100 Mbps, Verizon is clearly not prepared for Gigabyte wars.  Time Warner will announce the details of its 1Gbps package connection in the future but $25 million in New York seems pitiful really. Google Fiber is now the benchmark for the industry.

In the first week after the announcement, Google received 7,000 registrations out of 165,000 households. So while Time Warner is piddling around with a $25 million investment in New York, trying to fight the last war, Google has just fired the first salvo in the next one.  Traditional cable companies, grown fat on ESPN and congressional interference are ill-equipped for what is headed their way.

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Peter Pham is an author, international fund manager, and a registered financial director by the Cayman Monetary Authority (CIMA). In 2013 he published his first book entitled, The Big Trade: Simple Strategies for Maximum Market Returns. He currently manages the portfolio of a global hedge fund and runs an asset management company, Phoenix Capital.  (read more)

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