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MG: BroadBand Brief -- The Broadband Killer Napp (Part 1 of 2)
11:12am EST 28-Nov-00 BofA Montgomery (Shapiro, Douglas S 212-847-5676) ADLAC T
BANC OF AMERICA SECURITIES ** MONTGOMERY DIVISION ** BANC OF AMERICA SECURITIES
November 28, 2000 CABLE AND BROADBAND SERVICES
Douglas S. Shapiro (212) 847-5676; Industry Overview
dshapiro@bofasecurities.com
DJIA: 10590
S&P 500: 1354
B r o a d B a n d B r i e f
IN THIS ISSUE
In this Broadband Brief we examine the impact of the rise of Napster and other
peer-to-peer (P2P) applications on cable and DSL providers.
Our conclusion is that while many pundits have realized the significance of
Napster in the evolution of computing (and as a challenge to intellectual
property).
.Few have grasped that it could be the broadband killer app because, to work
tolerably, it essentially requires broadband.
Our random sample of Napster users supports the point by showing that a
disproportionate percentage of users, over 70%, are using broadband today.
P2P and other distributed computing may pose a challenge to DSL providers and
cable operators by taxing the assumptions under which the network has been
engineered, but we think it will prove more boon than burden.
The Broadband Killer Napp
Napster is mainstream. It's one thing for Red Herring or Wired to feature it
in a cover story or even MTV to air a skit about Napster during the MTV Video
Music Awards. But when Napster founder Shawn Fanning was featured on the cover
of Time a couple of months ago, it was clear to us that public awareness of
Napster, and the concept of peer-to-peer (P2P) networking in general, had
reached critical mass. So what does this have to do with broadband? In our
opinion, a lot. In a Broadband Brief we wrote earlier in the year (see Cable,
DSL, and the Big Picture, dated March 27, 2000), we argued that consumer
broadband penetration would ultimately accelerate much faster than anyone
forecasts because of network effects; i.e., the wide availability of bandwidth
should result in a proliferation of bandwidth-intensive applications that will
drive consumers to adopt broadband much faster than the prospect of simply
getting email and surfing the Web faster. We believe Napster is the best
example yet. While pundits have alternatively cited Napster (and P2P generally)
as a revolution in computing (not to mention a shot across the bow of
intellectual property holders), what we believe is not as widely grasped is
that P2P may be the broadband killer app the application that drives users to
abandon narrowband and embrace broadband in droves - because, to work
tolerably, it requires broadband. As we describe in this Broadband Brief:
* P2P networking is legitimately a big deal.
* Regardless of Napster's fate, the genie is out of the bottle.
* .And, as illustrated by our analysis of Napster users, P2P may be the
broadband killer app.
* The explosion of P2P and distributed computing will be a challenge to
service providers, but we think it will be more boon than burden.
P2P Networking Warrants the Hype
What is it? As it sounds, peer-to-peer networking describes direct
interaction between clients on a network. Napster, for instance, enables
clients hooked up to the network to access a centralized database that allows
them to directly share music files across the Internet. Why is it such a big
deal? Napster is arguably as significant a development in computing since Marc
Andreessen and his associates developed Mosaic in 1993, the first browser that
made client-server computing user friendly and really launched the World Wide
Web. The reason is that it continues the development of computing that started
with networks of mainframes and dumb terminals, moved on to standalone powerful
PCs, evolved further to the creation of LANs over which these PCs could share
resources, further grew through the interconnection of these LANs to create the
Internet and, with the development of user-friendly software (encompassing
HTTP, HTML, and Mosaic), WAN client-server computing (the Web). Napster makes
the next step in the evolution feasible by making client-to-client computing
accessible (and desirable) to the masses.
The Genie is Out of the Bottle
Will Napster survive a legal onslaught? Last month Bertelsman decided to
break ranks with the RIAA and its fellow plaintiffs by agreeing to extend a
loan to Napster and drop its lawsuit (contingent on the company developing a
fee-based file-sharing network), suggesting Napster may beat what seems like
heavy odds. But whether Napster itself survives doesn't really matter. The
genie is out of the bottle.
* Consumers have sent a very clear message: they want it. In July 2000 Napster
issued a press release stating that its client software had been downloaded
over 20 million times, with the company surpassing 5 million users in
February, 10 million by April, 15 million in early June and 20 million in
July - arguably making it the fastest growing information technology ever.
(By contrast, cell phones took 9 years to hit 10 million users, fax machines
took 22 years, cable TV took 25 years, and phones took 38 years.) The tally
now? Over 38 million users - with 5 million users commonly logging on each
day. The consumer appeal was further hammered home the day after Judge
Marilyn Hall Patel issued an injunction against Napster and traffic spiked
70% on the service as users clamored to get their last shot at downloading
songs; that day Excite@Home saw a 30% boost in traffic across its entire
network. And Napster has spawned clones and offshoots that include Amster,
Gnapster, HackStar, iNapster, Jnapster, Knapster, Rapster and Wrapster,
among others.
* Other applications will be much harder to stop. Strictly speaking, Napster
arguably isn't a 'true' P2P application because it still makes use of
centralized servers to manage data (such as users' registration data, file
lists, logs of searches, etc.). That makes it efficient and relatively easy
to manage (it also makes it theoretically possible to collect subscription
fees one day) but it also means it can be shut down. But other applications
have been developed that have no centralized components at all, most notably
Gnutella. The Gnutella client software actually enables each node (or peer)
on the network to act as both client and server, by simply relaying messages
from peer-to-peer (not unlike one of those old Brett shampoo commercials:
'.and they told two friends, and they told two friends.'). As a result,
there is no centralized server and consequently no definitive way to stop
it. It too has spawned numerous spin offs, like Gnotella, Gnewtella,
Bodtella, Ntella, and CuteMx, all of which add some functionality. Aimster,
for instance, effectively combines Gnutella with AOL's instant messenger,
enabling users to only swap files within a defined group.
* Music files are only the beginning. Although Napster is geared only to
sharing music files, other applications enable sharing of any type of file,
including entire CDs, photographs, games, or any other software for that
matter. Besides Gnutella and its offshoots, applications like FlyCode and
Zden also aim to permit sharing of several types of files. And another
disruptive technology is waiting to hit critical mass. DivX (or, as it is
officially written, DivX;-)), is a pirated version of MPEG-4 that enables
full length DVD's to be compressed from multiple GB (a DVD holds up to 5GB)
down to less than 700MB, small enough to fit on a CD or be feasibly swapped
over a broadband connection. The technology therefore has the capability to
result in the 'Napsterization' of the movie business, particularly once DVD
burners become commonplace.
* .As is file sharing generally. File sharing is perhaps the most obvious and
commercial application of P2P, but it isn't the only one. Another broad
category of P2P includes sharing resources, such as processing power or even
storage, or what can be broadly called distributed computing. For instance,
SETI@home is a project of the Search for Extra Terrestrial Intelligence
(SETI) that enables volunteers to download a screen saver that signals SETI
when their computers are idle and enables it to potentially tap significant
distributed computing resources. (Reportedly hundreds of thousands of copies
of the software have been downloaded.) Among the numerous startups trying to
harness commercial applications of the idea include Centrata, Cosm,
Distributed Science, Popular Power and United Devices.
As Shown by an Analysis of Napster Users, P2P May be the Broadband
Killer App
P2P is a seminal development in computing and, based on the overwhelming
consumer response, legal battles or not, it seems destined to proliferate in
some form. But what does this have to do with broadband? As we wrote above, in
our opinion, a lot. That's because P2P could be the broadband killer app - the
application that drives users to adopt broadband widely. The reason is simple:
to work well (or sometimes at all), all of this stuff requires broadband. Even
sharing relatively small MP3 files on narrowband is almost intolerable; forget
about anything more bandwidth intensive, like software, games, or video files.
And other advancements, like distributed computing, won't be feasible without
widespread packet-switched ('always on') connections. (We'd point out that, at
least conceptually, widespread P2P activity on narrowband networks would even
further threaten the ISP all-you-can-eat business model by taxing already
overburdened modem pools, perhaps eventually leading to financial difficulties
or higher monthly prices, which would also drive users to broadband. Although
that could take a while.)
To test our point, we performed a simple analysis to examine whether the
distribution of broadband and narrowband connections among Napster users
differed significantly from nationwide averages. We conducted 20 sample
searches (ranging from Andrea Bocelli to Busta Rhymes to Eminem to Madonna to
Sinatra to Streisand to Zeppelin). Each search returned 100 results, yielding
2,000 total observations. (We conducted the searches over a weekend to minimize
the number of users attached through corporate networks.) Each observation
pointed to a specific file on a connected user's hard drive and, among other
information, included the name and path of the file, the bit rate at which the
song was encoded, the length of the song, the user's ID and, most important for
our purposes, the self-selected connection speed of the user. (When users first
install Napster, they select a connection speed from a drop-down list that
includes T3 (or higher), T1, DSL, Cable, ISDN, 56K, 33.6K, 28.8K, 14.4K, and
'Unknown.')
MG: BroadBand Brief -- The Broadband Killer Napp (Part 2 of 2)
As shown in Figure 1, defining 'broadband' as ISDN speeds or higher, the
results clearly show that the vast majority of Napster users are using
broadband. For those who selected a speed when they installed the software, 71%
of the users in our sample were using broadband. As shown in Figure 2, this
proportion is (obviously) substantially higher than broadband penetration
nationwide. In addition, we note that even this analysis may understate the
actual proportion of broadband users. Anecdotally, many users who installed the
Napster client before they acquired broadband connections have not changed
their profiles since. And some have intentionally understated their connection
speed to minimize the likelihood other users will attempt to upload many songs
(and tax their upstream capacity). The result confirms what's intuitive: to
work tolerably, Napster essentially requires a broadband connection. So while
everyone seems to know what Napster is and the consumer demand has been
overwhelming, we think the less obvious implication is that it can't take off
without broadband.
Figure 1
THE VAST MAJORITY OF NAPSTER USERS ARE ON BROADBAND CONNECTIONS.
Source: Banc of America Securities LLC estimates, based on 2,000 sample
observations.
Figure 2
.FAR MORE THAN NATIONWIDE AVERAGES
Source: IDC, Banc of America Securities LLC estimates.
P2P Should be More Boon Than Burden
Most forecasts assume that narrowband will remain the dominant residential
connection for the next five to seven years. If broadband only offers the
ability to get email faster or reach Yahoo! sooner, we think they are right.
However, we consider that assumption myopic because it presumes the Internet is
static - which it isn't. We think the enormous and sudden popularity of Napster
is the most tangible evidence yet that the widespread availability of bandwidth
will result in a continuing evolution of new, bandwidth-intensive applications
that drive demand further. As such, Napster, or whatever form file swapping
finally takes, could be a big boon for service providers.
Of course it could pose challenges too - particularly to the assumptions
under which cable operators and ILECs have engineered their networks. For
instance, cable engineers currently provision bandwidth to a node (or, for that
matter, a headend) based on observations that peak simultaneous usage on a
system is only 11% of subscribers. Similarly, ILECs and DLECs are
oversubscribing bandwidth at the central office (CO) to the tune of 50-100:1
for residential connections. But if users are leaving their PC linked to
Napster continuously (making it a near-permanent node on the network) or other
P2P applications take off, peak simultaneous usage rates will obviously rise.
Gnutella and similar decentralized applications are even worse because they
compensate for the lack of centralized databases by burning bandwidth (for
instance, by having each client send separate messages to many other peers
rather than search one database). And should other types of distributed
computing become widespread - should consumers decide to subsidize their
broadband connection cost by effectively selling idle PC processing time, for
instance - the problem could get worse.
How big will the problem get? In our opinion, it will require active network
management and it may require cable operators to tap some of their flexibility
to increase bandwidth per home sooner than they expect (see Broadband Brief -
Is 750 MHz Enough?, dated June 30, 2000 for more detail) or DSL providers to
provision more bandwidth at the CO than they do today. But we don't think
rising network usage will disrupt the economic model for either. For one thing,
per-bit network costs will continue to decline as optical networking technology
improves, helping offset the costs of rising demands on the network. In
addition, as they do today, service providers will likely subtly limit
bandwidth to users if they feel the network is being abused.
But most important, applications that drive usage could be a blessing in
disguise should they cause users to upsell to higher levels of bandwidth. Both
cable operators and DSL providers are moving to embrace tiered service pricing.
DSL has the capability today and the next iteration of DOCSIS standards, DOCSIS
1.1, will also give cable operators the flexibility to sell tiers of service.
(Charter, albeit not using DOCSIS 1.1, has already started experimenting with a
256 Kbps service for $24.95.) As we've written before, we think the evolution
of cellular may be the best model. In cellular, price per minute declined
rapidly over the past decade, initially pushing down ARPUs, but they stabilized
and then climbed as users regularly moved to higher packages of minutes
monthly. We expect the same will occur with bandwidth. Per bit prices are
already dropping today as ARPUs decline, but we expect that just as the
elasticity of demand for minutes resulted in substantially higher usage, we
believe (a possibly greater) elasticity of demand for bits will drive bit usage
and, eventually, ARPUs, higher. In fact, one of the biggest revenue
opportunities for cable operators may not be in-home networking, home security
or any other number of other esoteric next-generation services, but simply
selling more bandwidth.
BroadBand Brief is a periodic publication devoted to emerging technological,
regulatory, and market issues concerning local access broadband deployment. It
is distributed via First Call and e-mail. To be placed on the distribution
list, please contact your Banc of America Securities salesperson or e-mail me
at dshapiro@bofasecurities.com
First Call Corporation, a Thomson Financial company.
All rights reserved. 888.558.250
Nov-28-2000 16:13 GMT
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