TCS Daily

Bell Bundle Blues

By Duane D. Freese - May 12, 2003 12:00 AM

There is something that doesn't quite ring right with the Baby Bells' new bundling strategy for its broadband connections.

On its face, the news that Verizon may slash the price of its high-speed Internet service - called digital subscriber line, or DSL - by as much as 30 percent would seem good for consumers and good for the information economy. That SBC has been doing the same - lowering the price for its broadband connections in some competitive areas from around $50 to as low as $24.95 - seems equally helpful.

After all, more than 84 percent of the nation's zip codes are wired for broadband - either cable modem or DSL - but less than 18 percent of households have adopted it.

That low adoption rate places the United States in eighth place for broadband adoption, behind such luminary innovators as South Korea and Sweden. And that's not a good thing if you believe widespread broadband connectivity will lead to a surge in economic activity, including advances in education, health and entertainment.

So, the new packages of lower prices for broadband that Verizon and SBC are offering if you buy other things they sell ought to bring in more customers, spurring more applications, creating a virtuous cycle of broadband and applications growth, right?

Maybe. Maybe not.

In a classic sense, the lack of adoption of broadband means there isn't enough market for those who would provide applications to build for it. And the lack of applications makes it unattractive to consumers to pay higher prices.

So, lowering prices should help attract customers. And there is some evidence that the lower prices are increasing the Bells' broadband customers. SBC added 270,000 new customers during the first quarter of the year, The Wall Street Journal reported in its story on the price cuts on May 5, giving SBC 2.5 million customers, the most among DSL operators. Verizon added 160,000, bringing its total to 1.83 million.

But there's a flip side to this record. In fact more than one flip side.

First, whatever price cuts come had better be accompanied by improvements in service quality, which is no easy thing for rate-cutters to do.

For as Bruce Mehlman of the Commerce Department said at a conference on broadband in Washington, D.C., last month, price may not be the biggest issue regarding slow adoption rates.

"Many folks say 'price,'" Mehlman told the audience, including state regulators, "but since 77 million Americans pay roughly the same amount for cable TV as broadband might cost, it seems to me the issue turns on perceived return on investment, or value."

A survey for the FCC's Technical Advisory Committee drawn from industry found about 17 percent of those with dial up connections would shift to broadband at $32 to $42 a month - well below the current rate of nearly $50 being charged for a true high speed (a megabyte or higher) connection. There was a kicker to those consumers shifting, though. They'd do so only if the service were more reliable. And that's where the broadband providers have a problem. They are publicly perceived as unreliable, for good reason.

A Harris interactive poll last summer found 51 percent of respondents using broadband had encountered problems with service and support. Worse, for the Bells and their bundling, 90 percent of those broadband users said they didn't have enough confidence in their current provider to buy additional services from them.

All of this provides reason to be skeptical that the Bells' broadband offering will do a lot to spread the broadband gospel unless it is persistent and built on quality improvements. And here's another side to the problem. There's plenty of evidence that the Bells' real intent lies in maintaining their local phone monopolies, not in generating a lot of broadband business.

The fact that the price cuts come as part of a bundle of other services is one bit of evidence to that effect. In this regard, they may simply be trying to keep at bay cable companies that have started to offer telephony as well as competitors such as AT&T, WorldCom and Sprint, which have developed long distance and local package neighborhood plans.

But as Boston University economist Laurence Kotlikoff, who is also an adviser to AT&T, wrote in the Boston Globe, the Bells are the only ones in the majority of markets that can actually provide all the telecom services - long distance, local phone and high-speed data.

"The idea is simple," Kotlikoff writes. "If your competitor can sell A, but not B, sell B and throw in A for next to nothing."

Or as Mark Kersey, a senior analyst with California-based ARS market research, told The Christian Science Monitor, "Bundles help prevent core customers from defecting because they become accustomed to paying one provider."

In short, the bundles of joy being put together by the Bells offer another barrier to entry to competitors of their local service. Which would not be bad for consumers, as long as there are competitors to local phone service. But the Bells are trying to slam that door shut through state legislatures, too.

The FCC decision in February that eliminated line-sharing by the Bells means that DSL providers such as Covad face a high hurdle in offering competition to the Bells in residential markets unless they can hook up with local telephone competitors to the Bells.

At least, though, the FCC left open the means for such local competitors to build a customer base by leaving it up to state public utility commissions to determine the wholesale rates at which the Bells must lease the local phone network components left in their hands in the break-up of AT&T in 1984. That was something the Bells agreed to do initially under the Telecommunications Act of 1996 and in subsequent mergers, such as SBC with Ameritech and Verizon with Nynex and GTE.

The Bells, though, balked at doing so - for years. And sometimes not in totally legal ways. Indeed, SBC last fall was fined $6 million by the FCC for failing to live up to its Ameritech merger agreement for leasing the network to competitors, and faces suits by two Illinois competitors - Z-Tel and CoreComm - for damages as well.

But at least consumers in the dozen or so states in which public utility commissions cut the Bells' wholesale leasing rates have begun enjoying the most competition, the most bundled service offerings, and the lowest prices.

But for how long? The Bells are lobbying legislatures - with little knowledge of the ins and outs of their operations - to overrule those state utility commissions with such knowledge and force wholesale rates higher.

Last week, after fierce lobbying, SBC got an Illinois state House committee to approve legislation that essentially could lead to a doubling of the wholesale rates for its network to nearly $24 a month for each of their customers.

If successful, the Bells will be able to drive local phone competitors out of the market with higher charges while driving broadband competitors out of the market with lower ones.

Then, rather than ringing in a new age of broadband, the Bells' bundling tactics will herald a return to old, uninnovative, price gouging monopoly.

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