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AOL Courts Cable

Most cable subscribers can pick up the phone and order high-speed Internet through their cable operators for $35-$40 a month. So, when a big company like America Online wants broadband links to package with its content, you'd think it would be getting a better deal, right?

Wrong. AOL has so little leverage in dealing with cable operators that the company is essentially paying full freight, about $38 per broadband subscriber per month. The AOL Broadband package would retail for around $55, with operators keeping 70%.

"Any time you can wholesale a product for more than you retail it, that's a good business to me," said the smug president of one MSO.

That's the position AOL finds itself in as it courts cable operators in a plan to restore growth to its online service. In unveiling plans to revive the online service at an "AOL Day" investor meeting last week, AOL Time Warner executives emphasized that they will be relying heavily on broadband.

With 17 million cable-modem and telco DSL surfers no longer dependent on AOL for simple dial-up connectivity, AOL is finally getting serious about beefing up its service and giving customers upgrading to broadband more reasons to stick with it.

And after years of demanding greater control over high-speed versions of its service, AOL executives have moved toward a more collaborative arrangement. Operator interest is much higher than indicated by thin attendance of an AOL Broadband bash at last week's Western Show (featuring Sugar Ray at the Anaheim, Calif., House of Blues). Number-one MSO Comcast has already signed a deal, Charter Communications is close and other cable operators are talking with the company.

Now, AOL will get more than just access in the deal. Cable operators will handle billing and customer-service functions. But, to many industry executives, the structure shows how little advantage AOL has in negotiations.

AOL executives prefer to position AOL Broadband as comparable to another cousin in the AOL Time Warner family: HBO. The premium cable movie service deeply collaborates with operators, getting intricately involved with cable systems' marketing efforts. For years, it was the main engine for driving basic-subscriber growth.

"This could be the same," said one AOL executive. "HBO rides on top of basic cable. AOL can be a product that rides on top of cable's high-speed network, drive a big chunk of operators' Internet business. And we split the revenues."

The executive said that the deal with operators would be structured like a cable network licensing deal, with operators licensing the product and retailing it, just as they sell HBO for $10 a month, keep 60%-65% of that before paying the network a $3.50-$4 license fee.

AOL Broadband President Lisa Hook agreed that AOL is leaving its days of buying wholesale connectivity from operators and then rebranding, keeping responsibility for billing and much of provisioning. "We've come to have a healthy respect for the skill set that the cable and DSL providers bring to this business," says Hook. "Broadband connectivity is a fairly young industry, and there aren't nationwide standards for equipment for installation and provisioning. So every installation tends to be different."

Hook says that the companies that AOL was buying local connectivity from have the greatest amount of expertise in handling connectivity and installation issues. AOL will no longer be required to provide the modem and worry about issues like wiring in a home that can affect a connection. AOL, in turn, will concentrate primarily on marketing.

Just to remind cable and telco executives that it still has some control over its current customers, AOL executives also plans to start heavily marketing its $15 "bring your own access" plan, offering the full AOL service, but without the dial-up connection that comes with the $24 monthly plan.

Cable operators like AOL's new approach. They view the customer billing relationship as all-important. Just as they do for MTV or HBO, operators want to collect the revenues, then pay out the splits. "They made a big change when they accepted [that] these are our customers, not their customers," said Mediacom CEO Rocco Commisso.

AOL is in a terrible place. Growth in dial-up customers has slowed. The online advertising that was supposed to drive tremendous growth has dried up, with Merrill Lynch media analyst Jessica Reif-Cohen slashing her estimates for 2003 from $1.2 billion to just $850 million. And almost half of that will come from advertising other family products like HBO and Time

"Broadband will need to be the segment's strategic savior," she said. But "there are still several questions as to the timing and profitability contribution from broadband subscribers."