Let's get digital - digital cable television - Statistical Data Included - Industry Overview

The cable industry nears a turning point as new services finally start rolling out

Four years ago, over a now-famous dinner, Microsoft's Bill Gates was won over by Comcast chairman Brian Roberts' conviction that his upgraded cable plants could yield all sorts of revenue-getting goodies. Roberts has spent much of his time since then attempting to deliver on Gates' billion-dollar, 11 percent investment in his company.

As it turned out, Gates' then-eye-popping cable buy seems to have been as much an anointment as an investment. In short order, Gates' old Microsoft partner, Paul Allen, followed suit--he's now spent about $15 billion on cable systems since 1998 to fulfill his "wired world" vision. The Gates/Roberts hookup also inspired AT&T to first buy Tele-Communications Inc. in 1998 and then MediaOne for a combined total of more than $100 billion. It wasn't until the fourth quarter of last year, however, that it became fully evident that these cable execs were really on to something.

In the mid-1990s, Roberts and his peers at the other dominant cable companies began to realize that traditionally irascible cable customers could actually become giddy about spending in the neighborhood of $100 per month if they were provided a full menu of next-generation media services. These might include digital cable, high-speed Internet access, video-on-demand, interactive television and Internet Protocol (IP) telephony. The chunkier margins yielded by these new business lines would, in theory, improve the companies' then-flagging favor on Wall Street by boosting returns on investment and increasing cash flow.

But existing cable lines were a far cry from the state-of-the-art wires needed to deliver digital, and untold billions would have to be spent by cable companies, many of them family run, that were in the business of delivering analog programming. And so, for the most part, the industry's initial blue-sky optimism received only a tepid reception from both Wall Street and Washington. Cable stock prices languished for years as surplus cash flow was plowed back into infrastructure. Margins remained razor thin.

Worse yet, cable operators weren't doing any better on the PR front: Customers and, in turn, regulators generally regarded the companies as faceless utilities with poor customer service and excessive rates. To top off the bleak scenario, competition from the telcos and direct broadcast satellite companies, which deliver hundreds of channels in digital, were starting to menace market share.

Finally, though, the billions that have been spent on upgrading cable wires are starting to yield good news. Let's use Comcast as an example. The company has been one of the most aggressive in the cable industry as far as recasting its image as a new-media services company. And it has some impressive cash-flow margins to show for its efforts: Comcast's 1.4 million digital-TV customers generated $100 million of revenue at the end of 2000. The $10 monthly charge for the service represents an operating margin of more than 80 percent. Comcast is aiming this year to increase its digital subscriber base to more than 2 million, about 25 percent of its total, which would generate roughly $200 million in incremental cash flow in 2001.

The story on the data-delivery side is also compelling. Comcast finished 2000 with 400,000 Comcast@Home customers, enough to hover around the break-even point. The company expects to have 750,000 customers, each paying $40 per month, by the end of the year, with revenue reaching about $875 million.

These kinds of figures are finally helping cable's image on Wall Street. "The bottom line for the cable companies is that their best defense is an upgraded plant," says Kavir Dhar, media analyst for Jefferies & Co. "As soon as they get their plants upgraded, the competition tends to abate."

The best defense is also a good offense. And with the success of direct broadcast satellite, cable companies will need a good offense. DBS has pulled enough subscribers away from cable that it is now one of the largest multichannel service providers in the U.S., with 15 million customers out of a universe of 85 million.

Cable covered 80 percent of that universe in 2000 (68 million homes), according to research released last month by PricewaterhouseCoopers' Media Entertainment practice. In 2005, when that multichannel universe is forecast to grow to 97 million, cable is expected to cover only 68 percent to DBS' 27 percent.

Some major players see that growth and are eager for more satellite holdings. In late May, both Rupert Murdoch and EchoStar were in discussions with General Motors to acquire Hughes Electronics, parent of DirecTV. No. 2 player EchoStar is expected to aggressively add to its new-media offerings.

Even if cable operators can somehow beat back DBS' growth, they still won't be out of the woods. At any moment there is the risk of new technology sweeping in to change the face of the industry virtually overnight. Northpoint Technology, for instance, is developing a low-cost digital-transmission system that could double the capacity of the broadcast spectrum and challenge both DBS and cable for pay-TV customers. And the telcos have mounted an aggressive rollout of their own high-speed Internet product, DSL (digital subscriber lines).

At the moment, though, the popularity of digitalis expected to spread at an impressive rate. While PricewaterhouseCooper's study sees DBS growing steadily, it also projects that higher-margin digital cable will start to replace analog cable, growing from 8 million in 2000 to 31 million by 2003 and 42 million by 2005.

"Digital cable goes from zero in 1997 to 11 percent in 2000 to 63 percent in 2005," says Kevin Carton, global leader of PricewaterhouseCooper's Entertainment and Media practice.

In terms of dollars, subscribers ponied up $30 billion for basic cable in 2000. Of that, digital cable represents $4 billion--but by 2005, that's expected to jump to $22 billion, says Carton, a compound annual growth rate of 44 percent. Basic cable is forecast to grow to $45 billion.

Last year cable viewers spent $7 billion for premium cable, with digital representing $700 million. This year, digital could go as high as $4 billion, an annual growth rate of 40-plus percent. In the pay-per-view category, subscribers spent $2 billion in 2000, with digital pulling in $400 million. In 2005, digital PPV could account for $2 billion on its own.

Carton calls these compound annual growth rates "staggering."

After digital cable and high-speed data access, the next service ready for serious commercial rollout is video-on-demand. The trick is for operators to provide enough content to keep customers interested. For now, movie studios are holding to their video-store release dates--typically two or three months earlier than their deals with cable. That model will likely change when enough Americans have digital set-top boxes in their homes. But until then, operators say, the solution is to partner with broadcast and cable networks to create video-on-demand applications for non-movie content such as original programming, news and sports.

"It's being talked about as movies-on-demand," says Comcast's Roberts. "But I actually think it's going to be an enabling of a whole new technology that can't be done by satellite, because they don't have the two-way capability. It's an advantage we should really accelerate."

If all goes according to plan, in four or five years the nation's largest cable operators will be offering a variety of highly refined new-media services, and the competitive threats from DBS and the telcos will be mitigated. There might even be a very fortuitous side benefit: Consumers could actually start liking their cable companies.

"These are businesses that didn't even exist three years ago," says Steve Burke, president of Comcast's cable division. "We see both digital and high-speed data as very important in terms of redefining how customers think about us."

Jim Cooper is news editor of Mediaweek.

                       THE DIGITAL DOMAIN OF THE
                             LARGEST MSO'S
COMPANY                  TOTAL SUBSCRIBERS  DIGITAL SUBSCRIBERS
AT&T Broadband           16.5 million       3.1 million
Time Warner              13.2 million       2.2 million
Comcast                   7.7 million       1.4 million
Charter Communications    6.4 million       1.3 million
Cox Communications        6.1 million       900,000
Adelphia Communications   5.7 million       900,000
Cablevision Systems       2.9 million       NA [*]
COMPANY                  HIGH-SPEED DATA
                         SUBSCRIBERS
AT&T Broadband           1.2 million
Time Warner              1.2 million
Comcast                  400,000
Charter Communications   250,000
Cox Communications       550,000
Adelphia Communications  148,000
Cablevision Systems      303,000
(*.)Rollout starts this fall

Smooth operators

UPGRADING CABLE'S BIG SEVEN

AT&T BROADBAND The nations largest MSO, with about 16.5 million subscribers, has struggled to bring the old TCI cable systems up to speed. By the end of the year, AT&T Broadband aims to have a minimum of 74 percent of its cable plants upgraded to at least 550 megahertz (the baseline bandwidth level for digital and two-way interactive media). The phone company-turned-cable giant, through its acquisition of TCI and MediaOne, has the most digital-cable customers in the industry, 3.1 million. The goal is 4 million by December.

Also this year, the company is looking to add 900,000 high-teed data customers to its tally of 1.2 million subscribers, and a million more phone customers to its current list of 700,000. A soft commercial launch of video-on-demand is up and running in Atlanta and is scheduled to expand to Los Angeles in the near future (Penetration rates for the VOD launches have not been released.)

TIME WARNER Digital-cable rollout has been swift and well received in places like New York City, and the Road Runner high-speed data service is growing at a rapid clip. Time Warner has upgraded 90 percent of its infrastructure.

The company's major hub, New York, and its smaller service area in Philadelphia offer the 860 megahertz needed to provide serious interactive, two-way media Digital subs hit 1.7 million in December and closed the first quarter at 2.2 million. Road Runner had enlisted 946,000 high-speed customers by end of year 2000 and topped out at 1.2 million for the first quarter.

'Both businesses continue to grow rapidly," says Time Warner's Michael Luftman. Growth rates are roughly on a par with 2000 levels, and they represent cash-flow margins in the neighborhood of 40 percent.

The company will start its first subscription VOD test within the month in an undisclosed city and is currently testing VOD in Honolulu, Austin and Tampa. Once the business model for cable-delivered telephony has matured, JW is hoping to expand its IP telephony market tests beyond Rochester, N.Y., and Portland, Maine.

COMCAST An ambitious new product or service has been introduced annually Comcast started with digital cable, then moved to high-speed data, and this year it's tackling VOD. The company is also looking to increase the number of retail outlets that carry its set-top devices to 1,200 by year's end and to boost availability of the self-installation option.

The task of upgrading cable lines to 550 and 750 megahertz is nearing completion. Most of the lines servicing Comcast's massive cluster spanning Washington, D.C., to just south of New York City--about 85 percent of total customers--are at 750 megahertz. By year's end, 80 percent of all systems will be at that level.

"We see the end of 2001 as essentially the end of our rebuild project," says John Alchin, executive vp and treasurer. He says the company has spent a billion dollars in each of the past three years on upgrades.

Comcast has video-on-demand tests running in suburban Philadelphia and New Jersey. It is mulling the economic feasibility of cable telephony.

CHARTER COMMUNICATIONS Paul Allen's company is the youngest and also one of the hungriest cable providers. Where Charter distinguishes itself is in video-on-demand--it's already offering service in Duluth, Ga.; Pasadena/Glendale, Calif.; St. Louis and Fort Worth, Texas. Soon that list will include Greenville/Spartanburg, S.C.; Birmingham, Ala.; Madison, Wis.; Hickory, N.C., and parts of Los Angeles. So far, the buy rate is about twice what Charter's traditional pay-per-view service attracted, according to the company.

The goal this year is to double the number of digital subs Charter had in December, to 2 million. It's now at 1.3 million, with 15.2 percent Penetration. Allen et al. want to see about 40 percent penetration by year's end and 80 percent by 2004.

Charters high-speed data business had 250,000 customers as of December. By 2002, a full 90 percent of its systems will be two-way compatible.

COX COMMUNICATIONS Subscribers are offered one big multimedia bundle. Like its peers, Cox calls its new services--digital, voice, data--revenue-generating units, or RGUs. About 12 percent of Cox's 6.1 million total subscribers were opting for at least two new services at the beginning of this year.

Cox now has about 900,000 digital customers, with a goal this year to add around 40,000 per month. The company has about 550,000 data customers and 300,000 phone customers in 17 markets. Digital phone service should be available to 35 percent of Cox's total customer base by the end of 2001.

ADELPHIA COMMUNICATIONS Owned and run by the Rigas family, Adelphia, like its larger peers, has spent aggressively to attain state-of-the-art lines. The goal is for 70 percent of the system to be upgraded this year.

The company has been aiming to add 150,000 digital subscribers each month to the 900,000 it had at the end of 2000. Power Link, its high-speed data offering, now has about 148,000 customers, and Adelphia expects to take that up to 375,000 by year's end. Look for video and data services to be bundled this year.

CABLEVISION SYSTEMS While it leads the industry in growing basic analog subscriptions, New York metro-focused Cablevision has been behind the curve in launching digital services. The company will finally roll out its Sony advanced digital set-tops on Long Island in the fall. New York--area Comcast employees are currently testing the devices.

Cablevision has had success with its cable modem sales, via its Wiz electronic retail stores in the tristate area. The high-speed service, Optimum Online, is available to about 2 million Cablevision customers. More than 300,000 were enrolled at the beginning of the year, and 5,000 per week signed on in the first quarter.

The company's telephony strategy is focused on commercial deployment of the company's Lightpath service.

COPYRIGHT 2001 BPI Communications, Inc.
COPYRIGHT 2001 Gale Group