Picking Winners in the Broadband Race
In the battle of the broadband Internet-service providers, two main contenders are striving for dominance: cable modems and digital subscriber lines (DSL). With the public craving greater speed and analog modems on the endangered-species list, the spoils of this war could be great, indeed.
But which technology will win? And where should investors concentrate their money? Cable is currently out in front, but experts still give DSL a narrow edge longer term. "The cable companies got out ahead of DSL and built a pretty substantial lead that the DSL guys are chipping into now," says Adam Guglielmo, DSL analyst at TeleChoice, a market-strategy consultancy for the telecommunications industry. One big advantage for DSL: It's strong in both home and business markets, while cable is mainly installed in private homes. "There definitely is a fight now for the consumer market where DSL is trying to overcome cable's lead," says Ari Bensinger, technology analyst at Standard & Poor's.
CLOSING THE GAP?
Many analysts expect DSL to continue to gain ground. Approximately 3.9 million cable modems were in use at the end of 2000, according to Kinetic Strategies, a Phoenix broadband-research company. That number is expected to increase to 7.3 million in 2001, 10.9 million in 2002, and 14.4 million in 2003. By comparison, DSL had only about 2.4 million subscribers in 2000, according to TeleChoice. But the company expects DLS to steadily close the gap, jumping to 5.7 million subscribers in 2001, 9.7 million in 2002, and 14.5 million in 2003.
Both technologies have pros and cons. DSL makes use of existing telephone lines, which means the necessary infrastructure is already in place. And unlike cable modems, which share bandwidth, the DSL connection from the home to the phone-company switching center isn't shared. This means more consistent and faster download and connection speeds.
But DSL providers must rely on the phone companies that own the lines to perform service and maintenance. Critics contend that DSL has fallen behind because many phone companies are more interested in preserving their monopolies than focusing on new technology. Installation horror stories also abound, as consumers are forced to coordinate between their Internet-service provider, phone company, and DSL provider.
S&P's Bensinger notes that DSL has one major advantage: While cable TV counts 70 million in the U.S., 94% of the America's 104 million households are currently wired for phone service.
On the plus side, the big cable operators own their lines, so installation is somewhat easier than with DSL. That has allowed the companies to be aggressive marketers. For instance, Cablevision, which also owns The Wiz chain of consumer-electronics stores in New York and New Jersey, signs up new cable customers at Wiz stores -- or sells them a kit to install the service themselves. Radio Shack offers a similar deal at its outlets. But that shared bandwidth creates one more complication: Cable customers must install firewall software if they want to safeguard the privacy of their files.
The big question now is: Which companies can keep up the frenetic pace of expansion? For one, SBC Communications decided in December to adopt a more "measured approach" to DSL deployment in the Midwest over the next several months. "They don't feel [rapid expansion] is imperative now because some of their competitors have also announced that they're slowing down," Guglielmo surmises. "The market was telling them to grow, grow, grow, and worry about profitability later. But over the course of this past year, the market dynamic has changed, and profitability has become important."
The wild card is how the recently merged AOL Time Warner (AOL ) will change the competitive equation. The merger should be drive growth for cable because it'll combine AOL's 26 million subscribers with Time Warner's 13 million cable customers (No. 2 among all cable companies). But the open-access agreement AOL was forced to sign to win government approval of the merger also opens the door to competitors. The company agreed to allow multiple Internet service providers to have access to its cable subscribers. This means when Time Warner cable subscribers log on to the Internet using a cable modem for the first time, they'll be able to choose from among many Internet providers in addition to AOL.
The agreement could be a double-edged sword for the merged company. AOL could lose customers to other ISPs, though the other providers would still have to pay for the use of AOL Time Warner's cable lines and bandwidth. But the deal also gives AOL a strong argument in asking regulators to open up other cable operators to similar competition. If that happens, say experts such as Robert Martin, senior Internet analyst at Friedman, Billings, Ramsey & Co., AOL's size and marketing acumen could help it gain market share. (For an analysis of AOL's DSL strategy, see BW Online, Jan. 17, "AOL's Narrow Broadband Vision".)
Given how complicated the situation is, it's tough to know which companies will end up as big winners. However, Arnold Berman, technology strategist at Wit Soundview in Stamford, Conn., says that should DSL become the dominant technology, among the stocks to benefit would be Adtran (ADTN ). He also says global-facilities-based Internet-access provider PSINet (PSIX ) would score. Stocks to reap the rewards from cable's ascendance would include AOL, Scientific Atlanta (SFA ), and smaller players such as ANTEC (ANTC ), a supplier of optical equipment to the broadband industry, Berman says.
Lawrence Harris, vice-president and telecommunications-equipment analyst at Josephthal & Co., says his money is on cable -- and more specifically on Scientific Atlanta. He notes that Scientific Atlanta is a leader in the broadband market. It's one of two major suppliers of digital set-top boxes and the largest pure play in the cable-equipment area. The other is Motorola, which is more diversified. It has a record backlog, including 2.1 million digital set-top boxes. Its largest customer -- AOL Time Warner -- plans to double the number of digital set tops deployed, to 3.5 million by the end of 2001 from 1.7 million a year earlier. Harris expects significant growth in earnings per share for the fiscal year ending June, 2001, to $1.68 from $0.92 in 2000.
A THIRD WAY.
It's also still possible that in the longer run, both DSL and cable will come under siege from direct-broadcast satellite providers. In that case, such companies as DirecTV (part of General Motors (GMH ) and in the process of being acquired by Rupert Murdoch's News Corp.) and fiber-optic-network companies such as Finisar (FNSR ) and Ciena (CIEN ) would likely benefit.
For now, however, cable and DSL look set to duke it out as the main event. And for savvy investors, that battle will present several buying opportunities.
By Alan Hughes in New York
Edited by Thane Peterson