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PRICING FOR ADVANCED NETWORK CONNECTIONS NET@EDU ANNUAL MEETING, TEMPE, FEB 7, 2000

PRICING FOR ADVANCED NETWORK CONNECTIONS NET@EDU ANNUAL MEETING, TEMPE, FEB 7, 2000. ROBERT COHEN COHEN COMMUNICATIONS GROUP & ECONOMIC STRATEGY INSTITUTE FEBRUARY 5, 2000. PRICING FOR ADVANCED NETWORK CONNECTIONS. WHAT HAS HAPPENED TO PRICING?

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PRICING FOR ADVANCED NETWORK CONNECTIONS NET@EDU ANNUAL MEETING, TEMPE, FEB 7, 2000

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  1. PRICING FOR ADVANCED NETWORK CONNECTIONSNET@EDU ANNUAL MEETING, TEMPE, FEB 7, 2000 ROBERT COHEN COHEN COMMUNICATIONS GROUP & ECONOMIC STRATEGY INSTITUTE FEBRUARY 5, 2000

  2. PRICING FOR ADVANCED NETWORK CONNECTIONS • WHAT HAS HAPPENED TO PRICING? • WHAT FRAMEWORK CAN WE USE TO UNDERSTAND PRICE CHANGES? • SOME ATTEMPTS AT FORECASTING • LARRY ROBERTS’ TECHNOLOGY ANALYSIS • MY ANALYSIS OF PRICING TRENDS AND FORECASTS -- MARKET + TECH COHEN COMMUNICATIONS GROUP

  3. BUSINESS BROADBAND ACCESS PRICES ARE LOWER COHEN COMMUNICATIONS GROUP

  4. WILL THEY CONTINUE TO DECLINE? • 1. IN 2000 -- UNLIKELY • 2. AFTER 2000 -- CERTAINLY AND MAYBE QUICKLY • WHAT WILL DETERMINE PRICES? • HOW MUCH WILL TECHNOLOGY, DEMAND AND MARKET STRUCTURE DETERMINE THE RESULTS? COHEN COMMUNICATIONS GROUP

  5. COHEN COMMUNICATIONS GROUP

  6. COHEN COMMUNICATIONS GROUP

  7. COHEN COMMUNICATIONS GROUP

  8. MAIN CONCLUSIONS • DWDM HALVES COMMUNICATIONS COSTS EVERY YEAR -- LINKED TO THE 4X/YR GAIN IN NET TRAFFIC • NET “EFFICIENCY” DOUBLES EVERY 21 MONTHS IN FUTURE, SO TRAFFIC WILL DOUBLE EVERY 8 MONTHS • ACCESS COSTS SHOULD DROP 50% EVERY YEAR COHEN COMMUNICATIONS GROUP

  9. SHORTCOMINGS OF TECHNOLOGY APPROACH • TAKES A DECADES-LONG VIEW OF CHANGES, BUT • CAN’T ESTIMATE ACTUAL PRICE BEHAVIOR • CAN’T INCLUDE MARKET FACTORS • WHAT ABOUT NEW CHANGES IN ECONOMIC BEHAVIOR? COHEN COMMUNICATIONS GROUP

  10. NET USE DEMAND ELASTICITY (%D/%P) MAY NOT BE -2, BUT CLOSER TO -1.3 DEMAND MAY CHANGE DUE TO CONSTRUCTION OF NEW NET FIBER WITH LOWER COST NET USE WILL GROW AS APPS INCREASE; A BIG B2B FACTOR -- DE OF -2 ? NET APPLINCES WILL CHANGE DEMAND MARKET FACTORS 70% OF NET BACKBONE CONTROLLED BY 3 CARRIERS WILL NEW ENTRANTS CHALLENGE GRIP? LOCAL ACCESS MARKET NOT COMPETITIVE SHORTAGE OF FIBER OVER NEXT 9 MONTHS ROLE OF WIRELESS NETWORKS IN CARRYING NET TRAFFIC PRICING INFLUENCES COHEN COMMUNICATIONS GROUP

  11. MEASURING PRICING DIRECTLY • EARLY EFFORTS: HOW RBOCS PRICE • MAIN PATTERN: WITH HIGHER BANDWIDTH SERVICES • PRICES DECLINE RAPIDLY, THEN PLATEAU • ALLOWS FOR SLOW EARLY ADOPTION, LATER DEMAND INCREASES WHEN SERVICE IS POPULAR -- RBOCS RECAPTURE COSTS • SLOWER, LESS PROFITABLE SERVICES DISAPPEAR COHEN COMMUNICATIONS GROUP

  12. COHEN COMMUNICATIONS GROUP

  13. FORECASTING DEMAND • INITIAL EFFORT: BASED LARGELY ON FIRMS SHIFTING BROADBAND APPLICATIONS TO THE INTERNET • ASSUMES TRADITIONAL LEASED LINES ARE REPLACED BY BROADBAND NET • HOW BIG DOES INTERNET GET? • WHAT IS THE PRICING IMPACT? COHEN COMMUNICATIONS GROUP

  14. COHEN COMMUNICATIONS GROUP

  15. DATA DISPLACES VOICE • SPENDING ON INTERNET RISES TO ABOUT 50% TO 75% OF VOICE TOTAL • LEASED LINES, LOCAL ACCESS LINES FADE • PRICE IMPACTS CAN’T BE ESTIMATED • A SHIFT-SHARE ANALYSIS OF SPENDING COHEN COMMUNICATIONS GROUP

  16. COHEN COMMUNICATIONS GROUP

  17. WHAT DRIVES PRICING? • 1. LARRY ROBERTS IEEE COMPUTER 1/00 -- TECHNOLOGY, MAINLY THE SHIFT TO “CAPACITY ENGINEERED” NETWORKS • 2. MARKET STRUCTURE: 70% OF BACKBONE IS CONTROLLED BY 3 FIRMS; PRICES ARE “STICKY” • 3. A THIRD WAY -- MARKET BEHAVIOR PLUS TECHNOLOGY CHANGES COHEN COMMUNICATIONS GROUP

  18. COUNTING BANDWIDTH • ESTIMATED GROWTH OF SPECIFIC NET APPLICATIONS BY REGION • CORPORATE & CONSUMER NET USE, ECOMMERCE, SECURITY • ADJUSTED DEMAND FOR PRICE CHANGES USING EXPERT OPINIONS • CHECKED INITIAL ESTIMATES AGAINST AGAINST ACTUAL TRAFFIC FLOWS COHEN COMMUNICATIONS GROUP

  19. COHEN COMMUNICATIONS GROUP

  20. INCORPORATING PRICES • PRICES FOR BANDWIDTH ON INTERNATIONAL LINKS WERE KNOWN -- AN ACCESS PRICE • AS DEMAND INCREASES, PRICES SHOULD CHANGE, ESPECIALLY IF TECHNOLOGY IS REDUCING THE COST OF INFRASTRUCTURE • DIFFERENT PRICES GENERATE ALTERNATIVE GROWTH SCENARIOS COHEN COMMUNICATIONS GROUP

  21. COHEN COMMUNICATIONS GROUP

  22. PRICES IN 2000 • SHORTAGE OF FIBER KEEPS PRICES “STICKY” • PRICE WAR OVER TRANSATLANTIC CIRCUITS SHIFTS TO US? • MORE COMPETITION EVENTUALLY KICKS IN -- DANTE STORY COHEN COMMUNICATIONS GROUP

  23. FIBER SHORTAGE IMPACT • ADDITIONAL NET CAPACITY WILL NOT GROW AS FAST IN 2000 • FIBER DEPLOYMENT LIMITED UNTIL 9/00 • NEW COMPETITORS SLOWED • MOORE’S/ROBERTS’ LAWS NOT OBEYED • FAR GREATER PRICE CUTS COULD OCCUR AFTER THE SHORTAGE • WE ARE IN A “PLATEAU” PERIOD COHEN COMMUNICATIONS GROUP

  24. TRANSATLANTIC PRICE WAR • FEB 1999 -- T1 ACCESS: $4000 FROM MCI, BT, ESTABLISHED PLAYERS • $2000 FROM NEW ENTRANTS • FEB 2000 -- LEVEL 3 T1 ACCESS $600 • LEVEL 3 UNDERCUTS ALL OFFERS • CUT-RATE COMPETITORS CAN’T KEEP UP WITH THE CUT, SHIFT BUSINESS PLANS • LEVEL 3 HOPES TO HAVE EDGE GAINING TRANSATLANTIC BUSINESS • COULD CUT PRICES FURTHER COHEN COMMUNICATIONS GROUP

  25. CAUSES OF TRANSATLANTIC PRICE WAR • HUGE AMOUNTS OF NEW CAPACITY COMING ON LINE • TERABIT CAPACITY IN NEWEST LINK • LARGE JUMP IN DEMAND EXPECTED DUE TO B2B, ASP MARKETS • BIG COMPETITIVE BATTLE • IF NEW ENTRANTS GAIN FOOTHOLD, THEY MAY BE VERY PROFITABLE • WHAT IF SERVICE PROVIDERS OVERBUILD OR CUT PRICES TOO RAPIDLY? • PARALLELS WITH US RAILROAD OVERBUILDING: ARE THERE “JAY GOULDS” OF THE INTERNET? COHEN COMMUNICATIONS GROUP

  26. DANTE’S CIRCUIT COSTS • UNIVERSITY-BASED INTERNET COSTS IN EUROPE HAVE FALL DRAMATICALLY • COST FOR 1 MB PER YEAR • 1997 -- 200,000 ECU • 1998 -- 150,000 ECU • 1999 -- 30,000 ECU • 2000 -- 10,000 ECU OR LESS • MIGHT FALL TO 3,000 ECU BY 12/01? • COMPETITION PLAYED A BIG ROLE IN PRICE CHANGES: MORE PLAYERS TO BARGAIN WITH DUE TO HUGE BUILDOUT OF NEW FIBER RINGS • CORPORATIONS DECIDE TO BE .COMS COHEN COMMUNICATIONS GROUP

  27. SIMILAR TRENDS IN US? • SIMILAR DEPLOYMENT OF BACKBONES & COMPETITION FOR CUSTOMERS • BIG SURGE IN BROADBAND TO SERVE B2B • ALSO INTERESTING IS WHETHER NEW SERVICES ON NET CREATE A NEW ECONOMICS • CORPORATIONS NOT ONLY USE NET MORE BECAUSE IT IS CHEAPER, BUT AS RELIABILITY OF NEW SERVICES (ASPs, OTHERS) GROWS & PRICE OF SERVICES DROPS, DEMAND FOR NET-BASED SERVICES GROWS • IMPACT: ACCELERATE DEMAND FOR NET ACCESS, PROVIDE BIGGER GAINS FOR BIG BANDWIDTH, SERVICE-BASED ISPs • BIG CHANCE FOR NEW CARRIERS: LEVEL 3, QWEST COHEN COMMUNICATIONS GROUP

  28. GROWTH OF US ECOMMERCE TO 2002 Source: Forrester Research, Inc . Sizzling Intercompany Commerce (July 1997) COHEN COMMUNICATIONS GROUP

  29. ROLE OF NET APPLIANCES • PDAs & OTHER APPLIANCES ATTACHED TO NET CREATE NEW LEVEL OF DEMAND • NET NO LONGER DESKTOP-DOMINATED • FORCES GROWTH OF CONVERGENT NETWORKS, NOT SHIFT OF VOICE TO WIRELESS, VIDEO TO WIRED • LARGE, NEW DEMAND FOR BROADBAND CAPACITY ALSO DRIVES DEPLOYMENT • LOWERS ACCESS COSTS COHEN COMMUNICATIONS GROUP

  30. PRICING DURING 2000 • BROADBAND ACCESS PRICES WILL NOT DROP RAPIDLY IN 1ST HALF 00 • AFTER THAT, DROPS COULD BE HUGE • PRICE WAR COULD DEVELOP • NEW COMPETITORS GO AFTER JUGULAR OF ESTABLISHED CARRIERS? • NEW APPLICATIONS MAY CREATE A NEW LEVEL OF DEMAND FOR NET SERVICES • PRICES DROP NOT ONLY BECAUSE OF ADVANCES IN SILICON, BUT BECAUSE THERE IS AN ECONOMICS OF SERVICES PROVIDED BY THE NET • GROWING DEMAND FOR SERVICES ALSO LOWERS ACCESS PRICES COHEN COMMUNICATIONS GROUP

  31. BARGAINING FOR ACCESS • NEED BETTER INFORMATION • NETWORK ARCHITECTURE • BROADBAND PRICING • ACCESS ALTERNATIVES • HISTORY OF CONTRACTS • MORE INTELLIGENT BARGAINING • CREATE ALTERNATIVES WHERE THERE ARE NONE BY DEVELOPING “VAPOR” BIDS • FIND COMPETITORS, GET THEM TO BID COHEN COMMUNICATIONS GROUP

  32. KEY POINTS TO CONSIDER • BUSINESS TO BUSINESS GROWTH & NEW INTERNET DEVICES SHOULD RESULT IN HUGE NEW IP DEPLOYMENT • INCREASED COMPETITION • MORE POPS, BETTER ACCESS • BY 2001-2002, BUYERS SHOULD BE IN A STRONGER BARGAINING POSITION • PLAN FOR THIS SHIFT IN BARGAINING POWER NOW TO OBTAIN BETTER ACCESS PRICING LATER COHEN COMMUNICATIONS GROUP

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