The Wall Street Journal

October 29, 2001

Internet-Service Providers See Broadband As Sound Alternative for
High-Level Users

By JULIA ANGWIN Staff Reporter of THE WALL STREET JOURNAL

Meet David Steckler. He's costing AOL Time Warner Inc. a bundle.

Mr. Steckler, a financial planner, spends four or five hours a
day logged onto America Online in his home office in St. Louis.
He is what America Online calls a "heavy user" -- someone who
spends more than 90 hours a month online. America Online loses
money on heavy users because it charges customers a flat monthly
fee while paying by the minute for phone-network access to link
up with users. So while America Online charges Mr. Steckler
$23.90 a month, analysts estimate it pays about $26 a month to
provide him with service.

Until now, there wasn't much America Online could do about the
estimated 10% of subscribers who are heavy users. It tries to
kick them off the system if they are logged on too long without
activity -- but most of them have software that tricks America
Online into thinking they are active.

Now, America Online has at hand a potential solution to the
heavy-user problem: broadband, the shorthand term for high-speed
Internet access delivered via telephone lines, cable lines or
satellite. Broadband connections often come with lower profit
margins, but service providers like America Online still prefer
them because they pay a fixed cost for the connections regardless
of how much time subscribers spend online. Merrill Lynch
estimates AOL could save between $100 million and $300 million a
year by converting its heavy users to broadband.

AOL and its rivals are pushing high-speed Internet connections
harder than ever this fall, an uncertain time for broadband.
Growth in broadband subscribers is slowing, the economy is
contracting, many telecommunications carriers are scaling back
broadband initiatives and other high-speed services have gone
under.

Right now, though, the three biggest online service companies
can't afford not to push broadband. "It's basically do or die for
the Internet service providers," says Rob Lancaster, analyst at
the Yankee Group. "Growth in the dial-up world has essentially
stopped." America Online also hopes to sell more services to
subscribers after they are hooked on broadband.

And so it is that a race to provide high-speed Internet access
has begun. In September, Time Warner Cable began offering
high-speed Internet connections from America Online and also from
its competitor, EarthLink Inc. So far, the services are available
in 11 cities; Time Warner Cable hopes to be in 20 cities by the
end of the year. (AOL agreed to give EarthLink and some other
competitors access to its cable lines as a condition of the AOL
Time Warner merger in January.)

Last week, Microsoft Corp.'s MSN service, the nation's
second-largest, launched its Internet service over
digital-subscriber lines nationwide through agreements with the
regional Bell operating companies. Next month, EarthLink, the No.
3 ISP, plans to launch an aggressive marketing campaign to push
its broadband offering on Time Warner Cable.

Yet the move to broadband is likely to be a tough transition for
all three service providers because broadband profit margins are
smaller than those from dial-up service. For example, EarthLink
says it spends about $3 on telecommunications and equipment costs
for every $10 it brings in from a dial-up customer. By
comparison, it spends about $8 on those costs for every $10 it
brings in from a broadband customer. Digital-subscriber-line
service costs more to provide than cable-modem service, according
to EarthLink, which sells the DSL service for $49.95 a month and
the cable-modem service for $41.95 a month.

EarthLink President Mike McQuary says he expects broadband
margins to improve, just as dial-up margins have improved over
the past five years. "In a few years, the margins will start to
shift," he predicts. Until then, EarthLink will be pushing the
more profitable cable service more aggressively than DSL.

Microsoft also is hoping for a long-term payoff from broadband.
Its DSL offering for $49.95 a month "is initially pretty much a
break-even" business, says Bob Visse, MSN's marketing director.
He says Microsoft hopes to use broadband to help sell consumers
on additional software and services, such as digital movies. "The
fatter pipe you have to the home, the more you can deliver to the
consumer," he says.

Broadband is critical to AOL. The company's merger with Time
Warner, completed in January, was partly driven by the prospect
of delivering music, movies and other entertainment over the
Internet. AOL hopes that widespread broadband Internet access
will encourage consumers to spend more time online, giving it
more chances to place full-motion video and other advanced forms
of advertising before them. "For us, and for everybody over time,
broadband will encourage consumer usage and will drive more
revenue streams," says Mike Kelly, AOL's chief financial officer.

Mr. Kelly is cagey about the economics underlying AOL's broadband
offerings, but concedes it is, initially, a lower profit-margin
business. America Online is offering unlimited broadband plus
unlimited dial-up access for $54.95 a month; it is offering
unlimited broadband access, but no dial-up access, for $44.95 a
month. The online service keeps roughly 30% of revenues, with the
rest going to the cable or DSL provider. (Of course, since AOL
owns Time Warner Cable, in many cases it benefits on both sides.)

By comparison, America Online charges $23.90 a month for a
regular dial-up Internet account, and pays only about $8 a month
in network costs for a user who spends about an hour a day
online. That translates into a hefty profit margin of 67%, and
the margin increases for users who spend less time online.

"There will be an economic benefit for us to have a high-usage
folks move over to the broadband environment," Mr. Kelly says.
Eventually, AOL will target heavy users by showing them ads for
the broadband service when they log onto America Online. Mr.
Kelly says the ability to bring targeted advertising to
subscribers is "the beauty of the AOL service."

Write to Julia Angwin at [log in to unmask]


VICUG-L is the Visually Impaired Computer User Group List.
To join or leave the list, send a message to
[log in to unmask]  In the body of the message, simply type
"subscribe vicug-l" or "unsubscribe vicug-l" without the quotations.
 VICUG-L is archived on the World Wide Web at
http://maelstrom.stjohns.edu/archives/vicug-l.html