Sunday, January 1, 2017

Overbuilder Model Remains Challenging

Though many have high hopes for the role of municipal or other types of public-private internet access ventures, competing as the third provider in an access market where cable companies and telcos already operate has always been a tough proposition.

Google Fiber is the latest, but hardly the only example. Overbuilders--as fixed network access providers competing against the incumbents are known--always have had a hard time sustaining their businesses because market share is so hard to wrest from the incumbents, despite episodic waves of enthusiasm for overbuilder business models of various types.

Though many think that is because of nefarious behavior on the part of incumbents, the big problem is simply the dynamics of market share in a three-provider fixed network market. Even assuming equal levels of skill and commitment, it has been very difficult for “number three” providers to wrest more than 20 percent share in any market.

That, in turn, “strands” a great deal (80 percent, potentially) of the network assets, and dramatically raises the “cost per customer.” For some key services, such as video entertainment, matters are even worse, as the competition also includes Dish Network and DirecTV (owned by AT&T), which further reduces the likelihood that any overbuilder offering video is going to get significant share.

Some believe Google Fiber, for example, got 10 percent or less of its Google Fiber internet access customers to buy its video service. If Google Fiber in some instances got 10 percent internet access market share, that implies video share of about one percent. And that is not sustainable.

And though some believe Google Fiber might be sold, that does not exactly square with the investment Google Capital recently made to acquire a stake in RCN and Grande Communications, two overbuilders that are being acquired by TPG, a private-equity firm. It would seem incongruous--if Alphabet really wanted to rid itself of Google Fiber--to simultaneously invest in other overbuild assets.

A decade and a half ago, a wave of overbuilders sprung up, with a fairly-standard argument about sustainability. By offering superior triple-play packages, overbuilders would be able to get 15 percent to 20 percent market share, eventually. At the top end of that range, and three anchor products to sell, the logic was sound.

Few have actually managed to hit that 20-percent market share level, though. Arguably, the few that have done so operate in markets where there are not, in fact, two strong incumbents (telco and cable). EPB in Chattanooga, Tenn., for example, is the poster child for overbuilder hopes, having gotten as much as 45 percent of consumer market share in its service area (with share defined as revenue-generating units, not “accounts” or “homes”).

EPB’s internet access share might be about 27 percent, its video share lower than that. An interesting statistic, in that regard, is that about eight percent of EPB’s internet access customers buy the gigabit service.

EPB’s market share is highly unusual in most overbuilder markets, as EPB arguably competes with Comcast, not AT&T, which has negligible video share in Chattanooga.

In a triple-play market, that is important. Comcast might have 61 percent video share, while EPB might have 36 percent share, leaving only three percent video share held by AT&T. Essentially, EPB has become the number-two provider, relegating AT&T to third place, something that is not the case in most other U.S. markets where three mass market fixed network suppliers compete.

The point is that the economics of overbuilding have been difficult for decades, which is why so few are attempted and why so few succeed.

As Google Fiber’s experience indicates, the overbuilder business model remains challenging, unless one of the incumbents essentially chooses not to fight.

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