11 October 2003 Boston, MA Lightwave Europe -- The core router market will show a modest increase in revenue in 2003, but a full market recovery is on the horizon, says a new Yankee Group report Core Router Market Reaches Rock Bottom, Prepares for Recovery.
The report analyses the market drivers and says that they should create a "healthy" CAGR of 12% over the next five years.
Mark Bieberich, a senior analyst in Yankee's Communications Network Infrastructure advisory service, says, "Most Tier 1 carriers report modest IP traffic growth of 50 to 60 percent from 2002 through 2003. However, we expect these growth rates to increase steadily.
"Several market drivers are behind this improvement, including rapid growth of the commercial IP VPN market in China, fibre-to-the-home deployments in Japan, and nationwide IP/MPLS expansion plans of the RBOCs in the United States."
The report also includes a market share analysis, geographic distribution of revenue, and competitive analysis.
"After 2004, no more than four vendors will survive in this market," says Bieberich. "Cisco and Juniper are obvious long-term players, but among the startups vying for the third and fourth spots, we expect Chiaro Networks and Procket Networks to prove their worthiness because of their strong products."
The report also examines product developments that will determine the future of the core router market. These include the critical role of network processors, the expanding core router product lifecycle, and rapid innovation in high-availability hardware and software.
Fast or cheap? Comcast doubles downstream speeds
In what Yankee describes as "the next skirmish of the broadband battle", the analyst noted last week's announcement from Comcast, which became the fourth cable operator to double the downstream speeds of its standard-priced residential broadband service.
Comcast, much like Cablevision, Cox and Cogeco, is claiming that boosting speeds will enhance the quality and features of its broadband service.
Though not a false statement, Yankee observes, the strategy reflects more upon the MSO's need to maintain high cash flows from broadband services. "Cable operators want a means to justify their relatively higher priced broadband services. Seeing that operators refuse to enter into a price war with the ILECs, adding greater value to their service seems to be their only option," says Bieberich.
Yet the question remains whether consumers are willing to pay exorbitant broadband prices if there is a cheaper option. Cable operators seem to believe consumers will pay - if the operators enhance the value of the offering. A few incumbents, including SBC and Verizon, seem to think the opposite.
By slashing prices to between USD30 and USD35 per month, DSL providers believe they can convince price-sensitive dial-up subscribers to switch to broadband and also attract current cable modem subscribers.
Cable operators once toyed with the idea of offering a cheaper, lower speed broadband service. but because they enjoy high broadband profit margins, cable operators do not want to risk cannibalising their standard-priced option.
The issue of timing and market share are paramount in this debate. With twice the market share of DSL, cable companies' revenue would be hit twice as hard by a price decrease.
In the short term, while they enjoy this share disparity, it makes sense for cable companies to maintain higher prices and differentiate solely on features. In the long term, however, large price spreads based on hard-to-perceive speed differentials are not sustainable.
Price
The Yankee Group's Technologically Advanced Family survey demonstrates that price remains a major barrier to broadband adoption. Sixty-three percent of dial-up households have yet to subscribe to high-speed Internet because it is too expensive, and nearly one-third of broadband households would switch providers for a lower price.
In revisiting its broadband subscriber forecast, Yankee said it anticipates that DSL subscriber growth for 2003 would increase due to recent price cuts. Says Bieberich, "Moreover, we still expect that cable operators will follow suit, dropping their USD43 price tag somewhere into the USD35 range by the end of 2004."
However, price cuts only represent the beginning of a long battle for broadband dominance between these two competitive groups. If ILECs and MSOs continue to drop prices, it will be more difficult for them to make a profit.
Both providers should only use price cuts to increase the value of their bundle, which equates to greater ARPU. Looking even further ahead, broadband providers must address the need to create value-added services, drive new revenue streams, and demonstrate the true value of broadband service. Price remains important, but it is not the deciding factor in this war.
Speed
Boosting downstream speeds will help cable operators differentiate their service from DSL. However, most broadband users primarily use the Internet for e-mail and Web browsing, and will not recognize significant differences with this change.
Furthermore, cable operators already face major issues with so-called bandwidth hogs. Due to the shared nature of the HFC architecture, if one consumer or business uses its connection to transfer large bandwidth files, all users of the node will be affected. Boosting speeds could potentially compound the issues being created by high-bandwidth users and applications such as P2P file sharing.
Boosting speeds also provides no enticement for price-sensitive dial-up users to switch to a cable modem service. Overall, this strategy will not increase cable modem revenue streams or convert new customers. However, cable operators can use it as a short-term differentiator if they intend to roll out and promote bandwidth-intensive value-added applications that prove valuable to consumers, and to the operators' own revenue streams.
Bottom Line
The activity surrounding both price cuts and speed enhancements reflects a much larger issue: Both groups of broadband providers face increasing competition to their core businesses. Cable companies must deal with the threat from satellite providers, while ILECs must figure out how to grow their businesses despite declining revenue from cellular and VoIP.
With these legacy markets in jeopardy, each group is looking to broadband as the driver of new growth. The overall strategy for the MSOs to continue with their current pricing because of their market dominance makes sense in the short term.
However, market leadership in the long term will depend on the broadband providers' ability to create a strong, differentiated value proposition.
Yankee believes this needs to extend beyond price and speed and into compelling content and services: DSL providers should continue to look at bundles that include wireless and hotspot services; and cable operators, on the other hand, should continue to expand their video offerings and take advantage of their knowledge of consumer content.
They also should stop dragging their feet on VoIP, as this service can positively impact the value of their broadband service and overall bundle. If either of these groups believes that standard broadband services can help compensate for core revenue declines, we advise them to wake up.
Broadband can only make a significant contribution their future business if they create enhanced service bundles and applications, and monetize the broadband pipes they spent billions of dollars to build.