After a federal appeals court swept aside rules that required Internet service providers to share their networks equally with all users, I wondered whether Netflix might become the next Covad Communications, a failed poster child of the late-1990s telecom investment boom.
Now that Netflix has reported another quarter of healthy subscriber growth, I’m reminded that the chances of it happening are slim.
Yet, the chances of large telecom and cable providers cutting into Netflix’s future growth are much higher than that, thanks to that court ruling, and a brief history of Covad shows how it could happen.
Like Netflix, Covad had a pioneering online business model that required the help of federal government regulation to get off the ground.
For Covad, that regulation was the 1996 Telecom Act and subsequent FCC rules that required Verizon, AT&T and the other regional Baby Bells to share their networks to competing broadband service providers for a nominal cost.
Netflix was similarly protected by the FCC’s so-called net neutrality rules, which prevented large Internet service providers from charging more to Netflix, Google’s YouTube unit and other firms that hog lots of bandwidth on their broadband networks.
That protection has allowed Netflix to become the No. 1 provider of online movies and TV shows.
In the fourth quarter, Netflix said its number of U.S. subscribers rose 14% to 2.3 million more U.S. subscribers. Counting overseas customers, the company now has 44 million subscribers.
The service is a hit on Wall Street and in Hollywood.
Netflix has gotten where it is by offering reliable, on-demand digital video service to consumers whether they’re watching on their home televisions, PCs, tablets or smartphones.
And at $8 per month, the price of its service is a fraction of the on-demand entertainment packages from its entrenched rivals.
By contrast, the telecom and cable giants, including Verizon Communications — which successfully sued to overturn the Net Neutrality rules — offer combined video and Internet packages that are many times more expensive.
Verizon’s starts at $80 a month.
Covad and other upstart Internet providers had a good run.
Thanks to the FCC rules, Covad and the others were able to offer high-speed data connections for businesses and consumers at costs that were much lower than their rivals.
Covad’s stock soared along with its subscriber growth.
But once the large cable and telecom companies upgraded their own networks, they began to offer broadband service at more competitive prices.
Soon, Covad and its kind were declaring bankruptcy. After it emerged once and later received a rescue attempt from EarthLink Communications, it eventually morphed into MegaPath and remains a niche provider of business Internet service.
Netflix, though, has one strategic advantage lacked by Covad, whose main value proposition was that it could deliver the same service as its larger rivals for a fraction of the cost.
By contrast, and thanks to its wide assortment of licensing deals, Netflix has access to movie and TV content that Verizon and the other giants can’t offer.
At least, not yet.
No sooner had the ink dried on the appeals court ruling than Verizon agreed to buy the Web TV assets of chip giant Intel, in a move to help it expand its own digital entertainment offerings.
If the giants can soon offer what Netflix can, the upstart’s key differentiation will be on price alone.
Sound familiar?
The Covad story didn’t end well for the company’s investors or for broadband consumers.
As long as Netflix can offer lower prices, a reliable consumer experience andunique content, it will be able to defend its competitive position in the digital entertainment market.
But if Verizon and others start to chip away at the company’s unique advantage, they could begin to siphon away some of its future subscribers.
That would be bad for its long-term growth and its stock price, which has fallen as much as 10% this year, even as the Nasdaq has risen 2%.
As a consumer, I’m once again rooting for the upstart, with its reliable service and low prices, but as a former telecom reporter with a persistent memory, I’m keeping one eye on the giants whose networks have incubated Netflix’s growth.
USA TODAY
