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Sputtering growth sparks changes at MSN

Dial-up access is out and "bring your own access" is in at Microsoft's online unit, as a massive marketing push shows signs of missing its mark.

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Microsoft is rethinking the marketing strategy for its new MSN 8 Internet service, amid signs of stagnant growth and just months after launching a $300 million advertising campaign aimed at closing the gap on rival America Online.

MSN's subscriber tally remained steady at about 9 million in the first three months of the costly marketing push, the software giant disclosed last week. That figure leaves it well behind AOL, which gave a subscriber figure of 35 million at last report and which will update that number when parent company AOL Time Warner reports fourth-quarter earnings on Jan. 29.

In an interview Wednesday with CNET News.com, Bob Visse, MSN marketing director, blamed the lack of growth on a wave of MSN defections in the fourth quarter of 2002. These subscribers had signed up for MSN through multiyear discount offers that had come to an end. He added that the subscriber losses had been offset by new sign-ups of higher-paying members, which would help place the money-losing service on firmer financial footing.

The company now plans to refocus its marketing efforts, Visse added, placing less emphasis on its $21.95 a month dial-up Internet access product while spending more resources on its "bring your own access" (BYOA) plan. That product, which was unveiled in October, costs $9.95 a month for people to access MSN's enhanced e-mail and instant messaging features from a nonaffiliated Internet service provider (ISP).

"We're not going to see huge narrowband market growth from MSN," Visse said. "We're going to concentrate on narrowing the loss that MSN is incurring today and build out what we think will be a profitable broadband business."

As for Microsoft's $300 million advertising campaign, Visse expects the message to change in the near future.

"As the campaign evolves, we'll make it more clear that consumers will obtain MSN software regardless of what Internet access providers they're using," he said.

The lack of growth at MSN is the latest setback for the unit, which has rung up steep losses for years in a failed attempt to catch up with market leader AOL.

The switch in focus at Microsoft's Internet division underscores slowing demand for dial-up ISPs. It also highlights a growing realization in the industry that dial-up providers will be hard-pressed to create their own broadband networks to compete with cable and local phone companies.

MSN's emphasis on its BYOA plan mirrors moves by rivals AOL and Yahoo, which have also been creating paid services to squeeze revenue from Web surfers who access the Internet from third-party broadband networks.

The market for dial-up ISPs in the United States has shown signs of decline as many consumers turn to faster broadband connections. Last week, a study by Nielsen/NetRatings showed that U.S. home broadband adoption jumped 59 percent in 2002 at the expense of a 10 percent decline for dial-up services.

Microsoft's service is not alone in suffering subscriber stagnancy. MSN's biggest competitor, AOL, has experienced flat subscriber growth in its past two quarters. AOL last month also detailed plans to begin marketing its own product similar to the BYOA plan, albeit at the more expensive rate of $14.95 a month.

"I think the real story here is that MSN continues to face challenges growing its subscriber base," said Matt Rosoff, an analyst at research firm Directions on Microsoft.

Spending for what?
Microsoft executives remain steadfast in their pledge to strip away AOL's lead in the ISP business. Executives at the company have long argued that subscriber relationships offer important opportunities for software sales. Subscriptions are also seen as a key channel for extending Web services into new areas, especially with non-PC devices.

"The ISP business is not one where you'll ever make any serious dough," Microsoft's chief financial officer, John Connors, said in a speech to investors at the Credit Suisse First Boston Technology Conference last December. "I think that's been pretty evident now for a number of companies. But we've got those loyal users, now we have to add more richness, and we have to win the software war, and we have to add more communication capabilities for not only PC access, but non-PC access."

Establishing this subscription beachhead has not been easy or cheap. Since its launch in the mid-1990s, MSN has undergone numerous facelifts and strategic changes--not to mention reportedly billions in development expenses. Microsoft has not backed away from this financial black hole, but instead has thrown more weight into trying to unseat America Online.

One part of that plan once included using retail partnerships to offer PC buyers steep discounts on Internet dial-up service. But this strategy contributed to significant losses at the unit and has since been discontinued, as the division seeks to put an end to its history of losses.

In November 1999, Microsoft struck deals with PC retailers to offer consumers $400 rebates on store merchandise when signing up for MSN for three years. In February 2001, Microsoft discontinued the rebates and instead began offering MSN free for a year with PCs sold at certain retailers. Microsoft said the rebates were weighing down on its financial earnings.

Last quarter, Microsoft said the MSN unit generated $459 million in revenue, up from $372 million the year before. Executives have touted growth in MSN's online advertising, which increased 40 percent from the same quarter last year, as a major contributor to its business.

"We're seeing the number of revenue-generating subscribers increase as subscribers under rebate and promotional plans churn off," Scott Boggs, Microsoft's corporate controller, said last week on the company's earnings call. "This is consistent with our long-term goal of building a healthy base of profitable subscribers."

Microsoft's count of 9 million subscribers combines sign-ups for its ISP business with those for other premium services, such as for extra Hotmail e-mail storage. The company typically does not disclose specific numbers for its ISP subscriber population.

Although MSN remains well behind AOL in the race for subscribers, Microsoft has a history of using its clout to unsettle the established leader.

"I think what's fair to say is that MSN is trying to outspend the competition at a time when the market is saturated," said Youssef Squali, an analyst at market researcher First Albany.