The Incumbent's Curse and Broadband Video - Part 1

Up here in New England, there's been a lot of talk recently about "the Curse".

That is, the "Curse of the Bambino", which allegedly was put on the Red Sox by Babe Ruth in retaliation for being ignominiously sold to the Yankees in 1920. The dreaded Curse prevented the Sox from winning the World Series for 86 years until this year's four game sweep of the Cardinals.

A while back I read about another curse. It's called the "The Incumbent's Curse" , which speculates that breakthrough product innovation can only be accomplished by younger, unencumbered companies not tied to traditional ways of doing things.

Understanding the Incumbent's Curse

By definition, big companies need to institutionalize their business practices so that thousands of employees act consistently. When business conditions are favorable, big companies make lots of money by leveraging the scale of their operations across huge market opportunities. Incentive systems for everyone from front line employees through senior executives are designed to reward and reinforce the behaviors that lead to success. Typically the organization becomes increasingly invested in sustaining that successful business model.

However, I believe that few things last forever and inevitably disruption threatens longstanding business models. New competitors spring up. Existing technologies become obsolete. Customer behaviors evolve and their evolution can be accelerated by the new technologies. While a deliberate approach is exactly what investors in big companies want, the problem arises when cautious executives focus more on preserving their existing models than on innovating to meet these new market realities. Hence the Incumbent's Curse.

Challenges to Basic Cable

In the cable business, the traditional model of delivering video programming to subscribers through a set top box has worked extremely well. The "basic tier" remains cable's core offering. In fact, to receive any digital or advanced services, a subscriber has to "buy through" or subscribe to the basic tier first.

The paradox is that while many subscribers are attracted to these recently launched advanced video services, my informal survey suggests that there is also frustration with having to first subscribe to the ever more expensive basic tier, for many channels that are neither used nor valued. At the same time, consumers are proactively changing their viewing behaviors to conform their viewing to their busy lives.

I think that ignoring this frustration and behavioral change makes the industry vulnerable to the Incumbent's Curse. An increasingly evident reality in today's media business is that consumers are driven by value, choice and control. Consider:

Personal Viewing - It is no secret that personal video recorders and VOD are proliferating. The industry is aggressively pushing both of them, as they are key competitive imperatives. However, their success obliterates the notion of scheduled viewing and with it, the concept of networks and a conventional channel lineup. In a PVR and VOD dominated world, the only thing the viewer cares about is getting the desired program when they want it.

Satellite Growth - DirecTV and EchoStar have been gaining quarterly subscriber (albeit with high churn rates) while cable, as an industry, is slowly losing basic subscribers. DBS offers all digital pictures with simplified channel lineups at comparatively lower prices than cable.

A La Carte Rumblings - A regulatory framework that envisions channels being available for individual purchase by customers is making the rounds in Washington. However impractical and unlikely a la carte is (and it is both), politicians (for the most part) seek to please their constituents and so if they're supporting a la carte, they likely see popular appeal in it.

How All of This Relates to Broadband

Meanwhile, internet protocol (IP) has been slowly developing into a viable alternative for delivering high- quality video to the TV. This would mark the next evolution of video streaming and downloading that has steadily grown over the last five years.

Cable has done its share in making IP an attractive platform for video distribution by growing the number of total broadband-connected homes in the US to approximately 30 million by the end of '04. This is well into the zone where the economics of program distribution solely to broadband homes make sense, particularly given the positive demographic skew of broadband homes that programmers and advertisers find so attractive.

At the same time, huge investments are being made by software and consumer electronics companies in areas such as consumer-friendly home networks, Microsoft Media Center PCs, digital media adaptors and portable video players, all in an effort to further accelerate the shift to IP. And with the advances of enabling technologies such as sophisticated media compression, high-quality wireless connectivity, digital rights management and content management tools, the prospect of delivering high-quality video either to a PC or to an IP set top box (as the telcos intend) is now a reality.

So the time seems right to ask the following questions:

Should MSOs and programmers focus on broadband, with its potential to deliver IP-based video, as the next platform to innovate their business model?

Would such efforts threaten the stability of the core basic tier, and the growth of advanced services that leverage off of it, or open up huge new revenue opportunities?

What are the risks of not pursuing broadband and IP's potential as a video delivery platform?

Next month, I'll explore answers to these questions. How the industry, including both MSOs and programmers, chooses to act will determine the relevance of the Incumbent's Curse