Broadband defectors on the rise

The San Francisco resident subscribed to Pacific Bell's digital subscriber line (DSL) service in 2000, mainly because she was telecommuting for work at a San Diego-based start-up. She also used it to rent movies from Kozmo, buy airline tickets and check movie show times. But when she left her job, she decided that she couldn't justify the $50 monthly DSL fee.

"I used it regularly in the beginning and then the use started rapidly declining, so I got rid of it," Ling said. "It was easier justifying a recreational DSL line when there was a lot of money around to burn."

Ling isn't the only person to dump DSL or cancel cable. For years, Internet marketing executives have presumed that broadband connections would drive future growth of e-commerce and telecommunications, but consumers are starting to question that fundamental assumption.

It's unclear whether defectors--especially those crimped by massive layoffs in the technology industry--will eventually re-subscribe. But the sour economy, broadband price hikes, and a continuing dearth of online content are prompting some adopters to cancel their high-speed connections. It's an unwelcome sign for Internet service providers (ISPs), which are looking for high-speed subscriptions' profit margins to bolster their bottom line and stave off trips to the bankruptcy court.

While many ISPs remain publicly adamant that broadband subscribers are rock-steady, some say privately that signs of cancellations are emerging. The impact is noticeable in the San Francisco Bay Area, where thousands of high-tech employees have lost their jobs.

"Particularly since Sept. 11, a lot of people are deciding which bills to cut out," said a spokesperson for one major California-based ISP, who asked not to be named. "People are freaked out."

So far, cancellations haven't shown up in macro-level statistics such as earnings reports. But that's mainly because broadband providers report quarterly growth in the overall number of subscribers; they don't report the number of defectors, also known as "churn."

Still, several analysts say that ISPs should take heed of early defectors--especially as the companies try to get customers other than the tech-savvy early adopters and telecommuters who now dominate broadband.

"I think the churn is just now beginning," adds Imran Khan, a Yankee Group research analyst.

Rising churn rates would be the latest hurdle for strapped broadband providers. Analysts say operating margins excluding sales and marketing expenses for cable modem subscribers are as low as 5 percent, and they say DSL is break-even at best. Many ISPs--including Flashcom, PSINet, Covad Communications, NorthPoint Communications and Rhythms Links--filed for bankruptcy protection earlier this year.

In one of the most high-profile bankruptcy filings, broadband and content provider Excite@Home announced on Oct. 1 it intended to sell its assets to AT&T. The telephone giant is trying to buy the cable assets of the struggling company for $307 million, but angry creditors are trying to thwart the deal, leaving the company and its subscribers in limbo.

Selling grandma to pay for DSL
To be sure, broadband providers insist that cancellation rates are extremely low. New subscriber growth has slowed in recent months, but ISPs, telecom and cable companies say demand is still strong.

EarthLink spokesman Kurt Rahn says that high-speed subscribers would "rather sell their grandmothers" than go back to a pokey dial-up connection. With 14 percent of its revenue now coming from broadband, EarthLink is increasingly relying on high-speed Net subscriptions.

Tom Osha, a spokesman for smaller phone company Broadwing, agreed. "Our churn rate has stayed pretty consistent," he said.

Jupiter Research predicts that 10 million households in the United States will have a high-speed Net connection by the end of this year, up from 5.2 million in 2000. That figure will rise to 35.1 million households by 2006, the company predicts.

But some consumers are finding they can do their Internet business using their office's fast connection, rather than at home. Most large corporations have broadband connections, and many of them are significantly faster than home DSL or cable connections.

"You'd rather finish what you need (to) at work and then go home and not look at a computer," said Maricor Abao, another former DSL subscriber in San Francisco who instead uses high-speed access at her financial software company.

One of the biggest disincentives for Abao and other would-be broadband subscribers is its price tag, which continues to climb.

In May, AT&T announced it would raise monthly cable modem Internet fees by $6 per month, to $45.95 for most of its nearly 1.3 million customers. The following month, Cox Communications informed more than half of its 587,000 customers that their monthly fee will increase by $5 per month. Although pricing varies by city, on average most customers are now paying $44.95 per month, up from $39.95 per month.

And earlier this year, providers of DSL service, such as SBC Communications and EarthLink, raised their high-speed Net access rates to about $50 per month.

"It's difficult to push a $50 broadband product into the mainstream," Khan said.

Others are defecting from DSL and cable because they simply don't see the need if they're using the Internet primarily for e-mail, instant messaging and ordering items from online retailers. Analysts say no "killer app" has developed that helps justify paying more than twice the cost of a dial-up connection.

According to a recent Jupiter Research study, fewer than half of broadband subscribers used their connections to download music, listen to streamed audio online, or watch video--the most bandwidth-heavy multimedia applications.

The demise of Napster, a popular music-swapping service that ran into legal trouble last year, may also portend a stall in broadband demand.

Napster was the undisputed king of online music last year, with 64 million registered users trading billions of files a month. To download, store and listen to MP3-encoded files, consumers purchased CD burners and larger hard drives--not to mention high-speed cable modems and DSL connections to get the songs in the first place.

But the service has been idle since July because of technical glitches due to a court order barring it from offering the trade of copyrighted material. The company's future seems increasingly in peril. Although few people signed up for broadband specifically because of Napster, legal issues surrounding the transmission of copyrighted material online cast a shadow on its status as a killer app for broadband.

Companies that still distribute multimedia content, such as Seattle's RealNetworks, say they aren't seeing any drop in users. RealNetworks' GoldPass program, which costs $9.95 a month, has attracted more than 400,000 subscribers in only a year. ISPs that point their subscribers to services like these could have an easier time keeping subscribers, those companies' executives say.

"The issue for broadband providers is: Can they put forth a powerful message for consumers?" said Scott Ehrlich, RealNetworks' vice president of programming. "It's not enough to say you can browse Amazon faster."

Searching for new business strategies
For broadband access providers, signs are far from gloomy yet. The broadband business is seeing some slowdowns in subscriber sign-ups, and financial troubles continue to dog many companies. But companies say demand remains strong.

Still, if more early adopters become early defectors and the economy slows further, ISPs and telecommunications companies could have to reconsider their business strategies, many of which were predicated on continued strong demand and double- or triple-digit yearly increases in customers. For years, the unquestioned mantra in the broadband business was, "Once you go broadband, you never go back."

SBC, one of the most ambitious phone companies, says it is reducing its broadband capital expenditure by 20 percent next year. That means the company, which hiked DSL rates to $49.95 per month in February, is retreating from its original "Project Pronto" goals of making DSL available to 80 percent of its phone customers by 2003.

The company blames that on regulation, not on declining demand. But a spokesman agreed that it has yet to find a widespread application that will fuel broadband subscriptions.

"People are still looking for the proverbial killer app," said SBC spokesman Joe Izbrand. But "once people get to the broadband market, they get hooked on it and don't go back."