Holding onto the triple play: How costs, caps and contracts will keep ISPs flush

The broadband business is increasingly turning into the TV business.

Sure, we predicted this, and the Comcast and Time Warner Cable merger is predicated on this, but the dynamic between video and broadband is a great example of watching giant companies try to balance the costs of providing new services while still keeping the margins of the previous service. Call it a pivot of sorts, or changing the engines while a jet is flying, but ISPs have been making these transitions for years.

What’s happening is that as customers find more entertainment value in broadband — either because they are spending all night on Reddit or because they are streaming movies via Netflix or Apple’s iTunes — they are increasingly questioning the value of the cable package. And while these people may not be the dreaded cord cutters or cord nevers, they may attempt to cut the costs of cable by going for an economy package or signing up for service and then dropping it a few months later.

Previous Netflix TV UI gigaom

This puts cable companies and telco providers in a bind. To keep subscribers happy they need to cut the costs of their pay TV packages, but they need to do it in such a way that they don’t end up on the wrong side of the negotiating table when it comes to making deals with the content companies. Time Warner Cable had this problem as it emphasized broadband and started making expensive and bottom-line hurting deals with sports and content providers.

The times they are a changing

Yesterday, the credit agency Moody’s said that broadband subscriber numbers will surpass video subscribers for its rated cable companies in the next year. The release touting the stat added:

Fewer video customers means lower programming costs (which are paid on a per subscriber basis) and servicing the video product tends to be the most challenging and costly part of the business, so margins could benefit from the mix shift. But an eroding subscriber base for video also poses risks. Companies with a dwindling number of video subscribers lose economies of scale when it comes to technicians and customer service, driving up costs per customer. And a company’s brand may suffer if it seems to be giving up on video in favor of broadband.

With pay TV the faltering engine in the ISP plane, understanding how it plans to change it and keep flying becomes worthwhile. ISP executives have known this moment was coming, which is why many of them initially started rolling out broadband caps and the concept of tiered service all the way back in 2008. Getting customers to pay more for using more data as opposed to merely paying more per month for higher speeds was the first step in making sure that as the old engine started to weaken, the new one was ready to rev up. Customers who dumped pay TV to stream video would have to pay more, and those who didn’t yet stream everything would become accustomed to the idea that broadband wasn’t an infinite resource. And when they too reached that ceiling, they would be fine paying up.

Comcast Xfinity's TV service.
Comcast Xfinity’s TV service.

You belong to me

If caps made sure the new engine was raring to go, then economy packages that lower subscribers’ costs and long-term contracts were used to make sure the old engines sputter out rather than exploding. Contracts are pretty simple to explain. They lock a customer in on both the broadband and pay TV side for a year or more at a certain promotional rate. Customers who bail may face a termination fee. In many cases it’s tough for a customer to even sign up for a month-to-month broadband package.

For example, when I was switching to AT&T, I was told by an online chat agent that Uverse service wasn’t offered on a month-to-month contract and that she couldn’t help me online; I’d need to call. When I called, the agent was happy to provide me with a month-to-month broadband-only package. However, if I has signed the contract I would have been on the hook for a $180 termination fee, a powerful disincentive for canceling services early. Comcast is a bit less draconian, merely offering a 12-month contracted rate that shoots up if the customer changes the terms of their service. In using contracts, ISPs are ensuring a customer and revenue stream even as the landscape for buying both television and even broadband is changing.

Make you feel my love

Also yesterday Michael Greeson, an analyst with The Diffusion Group, told his story about signing up for cable again after three years as a cord cutter. Basically he had broadband from Comcast and the ability to get basic TV for free over his coaxial cable. When Comcast noticed that we was getting basic TV, it started charging him $25 a month for the service. He later called up and got faster broadband and the basic TV he wanted all for the same price I actually pay for month-to-month 50 Mbps broadband from AT&T.

He wrote:

[blockquote person=”” attribution=””]The decision to buy into this service combination at this price was easy, but I had to ask for it (operators are not overly willing to sell this package unless is it a ‘last resort’). I’m not a big sports viewer at home, so the fact that ESPN was not included did not make the offering any less compelling (I get my sports fix from regular broadcast or from the local sports pub). By not including ESPN and other sports-centric channels, however, Comcast was able to offer a basic package of cable channels with 50 Mbps broadband at a very reasonable cost. It was the right combination of content at the right price. Remember, I was originally searching for faster broadband, not a new tier of cable TV service.

Another cord cutter has been drawn back into the fold….[/blockquote]

Together the combination of caps, contracts and cost reductions are helping cable companies transition from being in the pay TV business to being in the broadband business while attempting to keep their margins intact. It’s a thin line, but it’s one that its rivals in the telco world walked a few years ago as they transitioned from wireline voice to mobile services.

What will be interesting to watch though, is how well the incumbents here handle the offerings from newer rivals such as Google or municipal networks. That might make it trickier for cable companies to keep flying at the same level.