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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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  11. I operate a small, rural Wireless ISP (WISP). Most of the US is in rural areas. If you are lucky enough to live in a major, metropolitan area there is competition. In these areas, ISPs can distribute their costs a little better. It still will be a problem in the future.

    Companies like NetFlix and Hulu shouldn’t be responsible for paying me for bandwidth that their customers use–Their customers should pay that expense. I base my pricing on my costs.

    The cost/ price picture is not as it may appear. In my small town, I am able to buy T1 lines for about $525/month. This T1 line has a Committed Information Rate (CIR) of 80% of 1.5 Mbps. or about 1.2 Mbps. In my small, rural operation 4 T1 lines will provide about 4.8 Mbps at a cost to me of $2100/month.

    With the compression techniques that NetFlix is using, a movie will use around 1.5 Mbps on a PC. (If the user knows how to tell SilverLight to limit the bandwidth, it would only use about 600 kbps.)

    If I provide service to my subscribers for $40/month and 8 of them decide to watch a movie at the same time, They have used up my entire bandwidth. If I allow this to happen, I will keep 8 of my customers and the rest of them will quit because their Internet connection won’t work. I will receive $320 / month revenue to pay a $2100 / month T1 bill.

    If you subtract the expenses from the revenue, I loose $-1780 a month. If this happens, I will decide to get a job picking strawberries or something. My customers will be faced with the prospect of resorting to 56 kbps dial-up connections. If they are lucky, they will have enough bandwidth to login to NetFlix website and order the CDs.

    In order to stay in business and provide useful Internet services to my rural community, I will have to charge customers for the bandwidth that they use. This is Usage Based Billing (UBB).It is the same thing that you get when you buy anything. When I fill up my car with gas each week, I can drive 400 miles. If I decide to drive 800 miles, I wouldn’t expect the gas station to charge me the same weekly price. You wouldn’t either.

    This picture gets even worse when subscribers start watching movies and TV shows on an actual TV! HD movies consume up to 6 Mbps of bandwidth.

    Should I go out of business or use UBB? I opt for charging my customers for their bandwidth usage. This is not a greedy revenue grab!

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    1. It’s much easier to moan and complain than get educated and face facts.

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      1. “Over-subscription is the *ONLY* way services can be provided to residential and small business customers. That type of client just isn’t willing or able to pay for dedicated services. *EVERY* residential connection is over-subscribed.”

        Again, not the customer’s fault. So, stop blaming the customer. Good grief, at least airlines give customers the option of volunteering to be bumped off and offering a free ticket in the process.

        Joe

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    2. Sounds like you need to go to your T1 provider and negotiate a better deal. If you are over-selling your bandwidth capacity (in the same way airlines over sell their seats on flights), that is not the fault of your customers. That is not a data usage issue. This is a _bandwidth_ issue.

      So you charge more for greater data usage to those 8 people who want to watch Netflix, and let’s say they pay. Are you increasing your bandwidth to accommodate the increased usage? So those same 8 people decide again to watch Netflix. Are your remaining customers still going to get a performance hit? If your customers are using the bandwidth they are paying for, that is not their fault. UBB does not solve this.

      In general, the typical customer does not understand the difference between data usage and bandwidth, because most ISPs have done a great job obfuscating the difference.

      Joe

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      1. There are many areas where there simply isn’t any better deals to be had.

        Second, most providers don’t use T1s anymore, but in areas with little upstream availability, T1s are the only answer at about $500 per 1.5 megabit.

        Over-subscription is the *ONLY* way services can be provided to residential and small business customers. That type of client just isn’t willing or able to pay for dedicated services. *EVERY* residential connection is over-subscribed.

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    3. George, the special access charges that folks like you and Brett Glass pay are a huge problem. I understand where you guys are coming from and the costs y’all are living with. I am hoping that the FCC will improve this situation or that technology improvements in areas such as microwave backhaul make your situation sustainable. Much like consumers, you guys are being squeezed by the incumbents, are in a non competitive market for service and have little recourse.

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      1. Thanks for recognizing some our plight, Stacey.

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  12. Would never play poker with Reed. If he cheats at poker as he is cheating at this he would be expelled from any casino in the world.
    Don’t know how he calculates the cost of “incremental” bandwidth usage, can’t accept his numbers and obviously these are not the only costs to be considered. Infrastructure is expensive and bandwidth is limited. Netflix occupies in excess of 40% on some markets.
    The obvious truth is that cable providers use mostly their own specific delivery system, while Netflix uses third party wires and is causing a jam when delivering his services, and it would have to pay for it, sooner or later.

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  13. When are we going to see an anti-UBB article that takes into account independent operators?

    We have clients that see these sorts of articles and think we’re screwing them. Our cost is $0.70/gigabyte assuming an even distribution throughout the month – at our provider. That doesn’t include the cost to transport it through our network to the end user.

    I also expect articles to be aware of how prevalent the independent ISPs are. Granted, they are much less prevalent than they used to be (or should be), but this is because the consumer has chosen the provider mix today. If an area doesn’t have much competition, they aren’t willing to pay for decent providers.

    I do not agree with some in my industry that think we need to bill NetFlix.

    The biggest problem with today’s situation is consumer education and entitlement.

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    1. “they aren’t willing to pay for decent providers.”

      Or maybe they haven’t been given the choice of a decent provider. It’s always easier to blame the customer. Doesn’t really solve any problems, but it makes the business owner feel better and entitled.

      In other words, I would put business education and entitlement on at LEAST equal footing as consumer education and entitlement, if not more so (really, I would put it as the sole issue, but for discussion’s sake, I’ll allow for your issue). Just because you exist as a company does not mean you deserve customers.

      Joe

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      1. Yes, it is quite easy to blame the customer when they don’t know what they are purchasing or what it takes to deliver a service. I bet most people that visit this site don’t know either.

        There almost always has been better providers in an area. The consumer chose to go with the cheap AT&T or Comcast service instead of one priced on sustainability.

        The fact that you put sole blame on the providers means you have no clue in what it takes to provide a service to the general public.

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    2. “When are we going to see an anti-UBB article that takes into account independent operators?”

      I would say the main reason the focus has been on the larger ISPs is because of the inherent conflict of interests, due to particularly cable ISPs also serving as content providers, and now with Comcast owning NBC, they are also major content creator.

      For these ISPs, companies like Netflix are DIRECT competitors for content delivery. And when the ISP talks about charging additional fees (either to the customer or the content provider), to me, this is primarily about obstructing competition with a means other than just being a better producer of services.

      Joe

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    3. I put sole blame on any company that figure out a workable business model and then proceeds to blame the customer.

      Joe

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      1. “I put sole blame on any company that CAN’T figure out a workable business model and then proceeds to blame the customer.”

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  14. Comcast allows one hour long show before the games begin in the evening.

    Then the stones fall, often by half in the next step. Net Neutrality? I don’t think so.

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  15. Netflix: ISPs Kill Web Freedom, Suck All Profits http://t.co/UcRhxCdCu WE will ditch live stream & web tv internet services that do this as we and our friends are ditching greedy cable companies that r over priced w/contracts. Seriously want to cap Gigabites? We’ll go back to local TV and RED BOX! IPS greedy oportunists. Don’t Take It Netflix!!

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  16. I don’t “blame” the customer and I don’t “blame” NetFlix. I think that both are taking the next step in the evolutionary process of the Internet. However, Don’t blame the ISP because they won’t sell something that costs them a lot of money at a price that is less than they have to pay for it.
    Robin, You seem don’t understand that small, rural communities are not served by the big corporations because the cost of running cable or fiber to sparsely populated communities is much greater than in big cities. These communities are served by small, wireless ISPs that have to connect to the Internet in very expensive ways. The alternative for these communities is to not have high-speed Internet.

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