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Summary:

Reed Hastings, CEO of Netflix won’t take the ISPs attacks against his business any longer. He released a report showing that heavy bandwidth users incur a cost of 1 penny or less per gigabyte over a last-mile network — far less than ISPs are charging.

Reed Hastings

Netflix isn’t going to take the bashing of its video streaming service lying down anymore. The online video rental company met with the FCC Tuesday and released a letter it filed Wednesday that shows how it really feels about broadband caps, ISPs’ arguments about the overwhelming traffic video will cause and the profits such caps can capture for ISPs. The fight is a crucial one as ISPs start implementing broadband caps and try to halt Netflix in other ways, such as the argument over peering with Level 3 Communications.

In a letter to Representatives Fred Upton (R-Mich.) and Henry Waxman (D-Calif.), Reed Hastings CEO of Netflix expresses disappointment that members of Congress are trying to hobble the FCC’s attempts to implement some type of network neutrality rules. Hastings’ letter was mild enough, but it included an earlier letter to Secretary General of Canadian Radio-television and Telecommunications Commission Robert Morin that dropped quite a few bombshells. Canada has recently allowed the country’s wireline operators to impose higher wholesale costs for smaller ISPs, which has resulted in some of the smaller ISPs crying foul and being forced to cap their customers’ broadband in order to contain their own costs.

But the letter also includes a report commissioned by Netflix that shows those higher wholesale costs are far greater than the costs associated with delivering the network traffic. The report sets out to dismantle the popular argument made by ISPs that a ton of Netflix streaming makes it impossible for wireline operators to keep up and make money, which is why they must cap broadband services. We have long-argued that this strategy is merely a revenue grab, and if congestion were the primary problem, ISPs would implement congestion pricing as opposed to per-GB overage fees. Here’s what Netflix told Canadian regulators:

Netflix’s evidence on the cost of incremental Internet bandwidth, provided in a report by Lemay-Yates Associates Inc. (“Lemay-Yates Report”), establishes that as the average incremental cost of Internet traffic by “heavy users” is likely 1 cent or less per GB, Bell’s wholesale UBB [usage-based billing] rates provide margins in excess of 99 percent. This belies any argument that such rates are primarily intended to recover any additional costs to the system: rather, such excessive margins clearly have more to do with maximizing the size of the incumbents’ windfall.

Here’s what Hastings told the Congressmen:

“The ISPs’ costs, however, to deliver a marginal gigabyte from one of our regional interchange points over their last mile wired network to the consumer is less than a penny, and falling, so there is no reason that pay-per-gigabyte is economically necessary. Moreover, at $1 per gigabyte over wired networks, it would be grossly overpriced.”

Included with the two letters is the Lemay-Yates Report that offers a breakdown of the costs that Bell Canada presumably incurs from each gigabyte of traffic. I really want Netflix to order one of those for AT&T and Comcast as well, since those two companies have broadband caps that now mean that over half of the U.S. deals with such caps. And even if you aren’t a huge web user, check out my colleague Mathew’s experience to understand why caps are so problematic for individual consumers that are forced to become network cops, or Om’s post on why they are so bad for innovation. By the way, Hastings agrees, saying in his letter to the Congressmen, “Moves by wired ISPs to shift consumers to pay-per-gigabyte models instead of the current unlimited-up-to-alarge-cap approach, threatens to stifle the Internet.”

But first, check out the numbers the Lemay-Yates report offers up:

The cost for the wholesale delivery of incremental Internet traffic via the local access cloud has been estimated to range from a penny per GB to 1.4 cents per GB for average heavy users ranging from 60 to 250 GB of usage per month, well above the current average usage of all Internet users, which has been estimated to be around 24 GB per month in 2011 in Canada.

The report then goes on to show that in cases of a telecommunications network set up like Bell Canada’s, more traffic actually lowers the fixed cost on a per gigabyte basis, even after taking into consideration the need to add more ports. Additionally, the Lemay-Yates report notes a similar cost model would apply in cable as well. This type of research needs to be conducted in the U.S. with the aid of pricing information requested by the FCC, especially since in its decision to implement network neutrality the FCC also opened the door to usage-based billing. Because if a market isn’t competitive — and our last-mile broadband access market isn’t– then the FCC needs to demand price transparency to ensure that ISPs aren’t gouging service providers such as Netflix or Level 3 as well as consumers.

  1. I am curious why the author doesn’t feel “our last-mile broadband access market isn’t” competitive? I don’t even live in a large market and I have the option to get internet service from Cox, Windstream, Open Range, and a local cable provider. That seems fairly competitive to me.

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    1. Wow, you have many more options than most. I for example, have two options, and most Americans at 78 percent have two according to FCC data (check out the chart here: http://gigaom.com/2010/03/17/fccs-broadband-plan-mobile-broadband-will-save-us/)

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      1. Certainly depends on where you are. I’m out in north Texas and am surrounded by farms & cows, but I have Verizon FIOS. With no monthly caps.. and Verizon is happy to let customers know that.

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    2. Our last-mile broadband access is far from competitive. I have two choices, a fast cable option that is somewhat reliable and a slower, far less reliable DSL option. I live in Saint Paul, Minnesota, part of a 3 million metro area population. Oh, and I may have an extremely slow Wi-Max option, but it hardly allows one to take full advantage of the modern Internet. This is not competition.

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    3. Europe has around 200 different hi speed internet providers to choose from and the speeds available would embarass the US providers if they had the capacity to be embarrased.

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      1. I am quite certain those 200 providers aren’t available everywhere or even at many places. There are thousands of fixed wireless ISPs stateside, much less independent DSL, mobile wireless, and fiber companies.

        The major US providers provide a very similar service to the major European providers.

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  2. Of course they will. This is the other end of the stick for all of the talk of “cord cutting” (which I wholeheartedly support). But the Broadband providers will not watch all of their content revenue go away and not make it up some other way. Short of hoping for some Apple and/or Google initiative to create some third leg of the Broadband stool – I don’t know how we get past that.

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    1. There already are thousands of independent ISPs out there. Buy your service from one of them.

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  3. The amount of bandwith being used is growing fast, but revenues aren’t nearly growing at that pace. That is a problem, because these evil profits are what companies need to reinvest in infrastructure. Netflix is largely responsible for the growing usage of landline bandwith, it is time they start paying for it. Unfortunately, that cost will go to the user, but netflix is awfully cheap at his point compared to renting at a video store.

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    1. You should check your company’s financials a little more often.
      http://www.att.com/gen/press-room?pid=19727&cdvn=news&newsarticleid=31831&mapcode=financial

      When a consumer uses more electricity for watching more TV, do cable companies have to pay electric companies for the consumer’s increased consumption? Why should Netflix have to pay ISPs for the service the consumer is already paying the ISP for? The service that the ISPs are charging for is to deliver content over their networks to the end user. Charging Netflix for this seems like double dipping to me.

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    2. Actually Netflix does pay for the increase in bandwidth that a ISP may experience due to them. Like every major service/content supplier (google as another example from Netflix) they don’t build one gigantic server in one location. You build a lot of servers in a lot of places. There probably isn’t any location where Google could put one monolithic server and not have throughput problems.

      This means a Netflix will have local servers so it’s even CHEAPER for the ISP. When a service like Netflix is near a place where it is easy for a ISP to wire to (or may even be already wired, and therefore the ISP incurs no cost) then the only problem the ISP is overselling. Which they should have to solve for being stupid and not reinvesting their multi BILLIONAIRE dollar profits. And no, it is not just Netflix. Everything about the internet is about delivering more faster. More AND faster.

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      1. Netflix distributes their content through Content Distribution Networks such as Akamai, LimeLight, and Level 3 (also an international carrier). They don’t have their own servers.

        You are referring to peering, which is not a zero cost game. It still costs money to build out the 10, 40, or 100 GigE links to connect the networks. It still costs big bucks to haul that service throughout the provider’s network.

        However, rarely do these CDNs get to peer, because of their traffic ratios. They usually pay the international carriers for pipes, whom the providers usually purchase from as well.

        What’s wrong with billion dollar profits? It’s not like they have a large profit percentage.

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    3. Don’t you just hate a company that gives subscribers what they want? Netflix has nothing to do with the equation – I pay my ISP for access to the Internet and I do what I want with it. If I want to go to Netflix, that is my right. If all my neighbors do also, that is their right. If the ISP cannot provide the service they advertised, that is their problem.

      OUR problem is one of poor public policy that sees a crappy duopoly as the best possible approach to delivering access to the Internet.

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  4. Reed is making some good points. I think it’s quite obvious that cable and telcos are worried about content going “over the top”. As a Cox representative expressed it at ANGA Cable the other week: “If we lose a customer to AT&T or Verizon, that’s fine, but if we lose our customers to over-the-top… We’re gone. Just gone.” Nobody wants to be the bit-pipe.

    But there is one point where I disagree; cable is different. Cable Internet, or DOCSIS as the standard is called, is basically wireless in a tube. A coaxial cable connects a number of homes to a cable headend. Bandwidth is shared between all homes connected to the same coax segment. This can be tens, or hundreds or even thousands of homes. When the network gets congested, and it does, the cable company splits a segment in two in a process very similar to installing a new base station in a wireless network. This means increasing capacity something like 5-10x requires massive capital spending.

    So, my guess is that AT&T and Verizon are doing their best to find problems where there are few, while Comcast et al are trying to hit two birds with one stone. I’m not saying the FCC should let them, congestion pricing is still a valid point, but there’s a difference.

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    1. Most cable MSO’s are spending everything they can to split nodes and have on average 100-150 homes per node. Even with that improvement I have seen Netflix result in being half of some ISP’s bandwidth. Netflix needs to worry about advancements in streaming technology and compression rates. A pretty common price for ISP’s to pay for their bandwidth is at least $20 per Mbps a month and if a small ISP has 800Mb during the peak hour of Netflix alone I guess you can do the math. You can blame the ISP’s all you want, but when the Netflix streaming business model ougrows most ISP’s potential you tell me what you would like them to do. They have to make an income to operate too.

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      1. Rates are closer to $3-$7 per Mb, 95th %ile, if you’re buying wholesale at a hundredth their scale, which makes their costs for a netflix stream de minimis. The capital equipment that delivers those bits follows Moore’s law and delivers twice the bandwidth every 2 years for the same price. Verizon, Comcast and AT&T all built their businesses on government-granted monopolies (who else had or still has free rights-of-way?) and generate cash flow and profits at oil company levels. For them to cry poverty is absurd. They spread around so many ad dollars, however, the MSM is more than willing to comply with their misrepresentations.

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      2. I’m going to call you out. At the 1Gbps Its not uncommon to find bandwidth at $1-2 a Mbps range. (Cogent, HE, Level 3). I’m in cabs that pay these rates, and this is for dedicated circuits.

        As a tier 2 carrier with large amounts of peering the cost is largely in maintaining your own switching and fiber to peering points, and the internal costs look something more like 85 cents per Mbps.

        The important thing to remember here is that cable and DSL companies can oversubscribe easily at rates of 20:1 (I’ve known some small ones to go crazy at like 100:1). So that Mbps cable line I have in reality costs Comcast a $1 for transit/peering infrastructure. Now I don’t begrudge them their money as they have sales/marketing/network engineers and plenty of other overhead, but bandwidth isn’t really an issue. The last mile segment problem is a one time capital fix, that their billions in profits should be able to cover, and DSL has no excuse as they should have plenty of fiber to their DSLAMs.

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  5. JL,

    You are a lucky one. I have a choice of two, AT&T or Time Warner. Not really much of a choice either way and I live in the Middle of a very large market. So I wouldn’t say there is much in the way of competition.

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  6. Right on time with your brilliant insights. It is amazing how your words of wisdom constantly inform and educate.

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  7. People should use now newsgroups! It’s better than torrents…All movies are on the web and in streaming! So website like netflix won’t have a long life! For people interesting in newsgroups, they should have a look on this comparison engine : http://best-newsgroup-provider.com.

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  8. From over the pond an analysis by communications regulator OFCOM at http://stakeholders.ofcom.org.uk/binaries/consultations/823069/summary/condoc.pdf seems to arrive at a cost of incumbent provision of extra bandwidth at around GBP0.30 per GB (50 cents) in the DSL and network capacity provision. This is to provide a capacity increase from 48 to 89 kbits/s per customer which equates to 15 GB/month rising to about 30 GB/month.

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  9. Hey Brett, what ISP do you work for? AT&T? TWC? Wait don’t tell me…Comcast?

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    1. Brett started his own ISP with his own blood, sweat, tears, and MONEY. Brett hits the nail on the head, though he does leave any further information at the door.

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  10. The last mile used to be a problem mile. For a long time companies wondered how they could bridge that gap to the consumer. Now, there’s no incentive to increase bandwidth. Now, the last mile is a golden mile.

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