A shakeout is under way on the Internet as the free-for-all
culture of cyberspace yields to economic realities. Consolidation
is the watchword among the thousands of businesses formed over the
past few years to provide access, network and content services on
the global computer network.
Even as use of the Internet continues to expand rapidly, many of
the businesses involved in this technology revolution are
struggling to survive.
The acquisition last week of CompuServe Corp., one of the pioneers
of online information services, in a three-way deal with WorldCom
Inc. and America Online Inc. (AOL) may be just the beginning,
industry executives predict.
The deal is a ``trendsetter,'' says John Chambers, chief executive
of Cisco Systems, the leading supplier of networking equipment for
the Internet.
``If you look at the U.S. interstate highway system, you don't see
hundreds of parallel roads,'' he says.
Similarly, the information highway will not require large numbers
of duplicate services, he predicts.
Under the terms of the US$1.2-billion CompuServe deal, WorldCom,
one of the fastest-growing voice and data communications groups in
the world, will acquire CompuServe's extensive networks as well
AOL's ANS Communications data network.
Combined with WorldCom's existing UUNet Internet backbone, the deal
will make WorldCom one of the largest owners of high-capacity
Internet data links.
Meanwhile, AOL will acquire CompuServe's 2.6 million subscribers,
consolidating its already substantial lead as the world's largest
Internet access provider.
With a combined membership of nearly 12 million, AOL also emerges
as a content superpower -- the world's biggest reseller of online
publications.
The CompuServe breakup reflects several significant Internet
industry trends:
- Leading telecommunications companies are moving in as national
and global Internet service profiders (ISP), threatening the
viability of thousands of local access services.
- Investors are beginning to put a high market value on ownership
of the Internet backbone -- the high-capacity networks that carry
the bulk of Internet traffic. While the backbones generate little
revenue from public Internet traffic, growth in new commercial
services such as private Internets (company-wide networks called
intranets or extranets, linking companies to customers and
suppliers) is strong.
- Market forces are also sorting out the vast numbers of Internet
publishers, or content providers, as a handful of the most popular
Web sites grab the lion's share of Internet advertising revenue.
It is in the content arena that market-driven consolidation on the
Internet is most pronounced. New entrants face formidable barriers
and existing sites must spend heavily to stand out.
Only two years ago, creators of Web sites expected to gain global
recognition by word of mouth promotion.
``It was possible back then because no one big cared about the
Internet,'' says Jerry Yang of Yahoo!, an Internet navigation
service he co-founded in 1995.
With minimal marketing expenditure, Yahoo! has become one of the
best-known sites on the Internet and the company has a market
valuation of US$2.3 billion.
But the days when this was possible are long gone. With tens of
millions of sites on the Web and more being added daily, ``the
threshold {cost} of making an impact on the Web keeps on rising,''
says Stuart Skorman, chief executive of online video retailer
Reel.
As use of the Internet moves beyond early adopters, the use of
traditional media -- television and magazines -- to promote Web
sites is also becoming imperative.
``When you want to go for the mainstream, you have to go for the
mainstream media,'' says Christos Catsakos, chief executive of
E*Trade, an online stockbroker that has just launched a
US$25-million TV advertising campaign.
To attract new users to their sites, Web publishers must also pay
the gatekeepers -- navigation services and other heavily used
sites, such as Netscape Communications' home pages -- for
promotional links.
AOL, for example, stands to earn US$50 million from a deal with CUC
International in exchange for giving the discount shopping club
pride of place on its service.
Online bookstore Amazon.com has committed much of the proceeds from
its stock offering earlier this year to become a preferred
bookstore on AOL, Yahoo!, and Excite, another navigation service.
And we are close to game over for retail startups on the Internet,
say analysts at U.S. investment bank Morgan Stanley. It may
already be too late for new entrants to make their mark on the
Internet, they suggest.
Moreover, the rules of the game are changing. Push technology,
which automatically delivers Web content to subscribers' PCs,
could further narrow the opportunities for newcomers by
encouraging readers to select a handful of online sources for
regular use.
Meanwhile, consolidation among the thousands of companies that
offer dial-up Internet access services also appears inevitable.
Already, the ranks of small outfits with only a few hundred or a
few thousand subscribers are thinning.
As many as 90% of the approximately 4,500 ISPs in the U.S. may
disappear over the next five years, according to a recent study by
market research company Gartner Group.
In Europe too, the ISP market is consolidating. The CompuServe deal
strengthens an alliance between AOL and German media company
Bertelsmann, which jointly own AOL Europe.
Together, they will have 1.5 million European subscribers,
overtaking the 1.4 million users of Deutsche Telekom's T-Online
service.
In Britain, which has more than 240 ISPs, ``there are far too many
small ISPs eating at the table of connection without
differentiated products,'' says Andrew Bottomley, director of
research at Durlacher, a British research firm.
Price has so far been the biggest driver of consolidation. With the
largest ISPs, including AOL, offering flat-rate access for US$20 a
month in the U.S., it is difficult for small operators to remain
competitive while covering their costs.
Differentiation is becoming the key to survival in this commodity
business, but the largest ISPs seem to have the advantage. AT&T,
the largest U.S. telecommunications company, is expanding its
Internet networks and using technology from the telephone system
to ensure instant recovery in case of a failure.
In the consumer arena, @Home is using TV cable systems to provide
high-speed Internet access to avid users and those who work at
home.
But ``most smaller ISPs will not survive,'' says Paul Sagawa of
consultants McKinsey & Co. ``Those that do will deliver superior
service to clearly defined customer segments.''
Even as the ISP industry is consolidating, the future of Internet
backbones is in flux. These high-capacity networks carry most
long-haul Internet traffic.
In the U.S., backbone providers include WorldCom, with its
expanding networks; MCI, which is in the process of merging with
British Telecommunications; BBN, recently acquired by telecom
company GTE; Sprint; PSINet and AT&T. All have extensive networks
that overlap and interconnect at various points.
Outside the U.S. there are several national and regional backbones,
most of which are maintained by telecom companies such as BT,
France Telecom and Deutsche Telekom in Europe.
The legacy of the Internet's roots as a U.S. government-funded
network linking universities and government labs is still evident
among backbone providers. Most, for example, still maintain a
peering arrangement whereby they exchange traffic without charge.
None of the U.S. operations is believed to be profitable.
However, there are signs of change. UUNet, owned by WorldCom,
announced earlier this year that it would begin charging smaller
ISPs for access to its backbone network.
If other backbone operators follow suit, the economics of the
Internet, which currently depend on a free ride on backbone
networks, could change rapidly, increasing costs.
PSINet, the U.S. pioneer of commercial Internet access, is taking
the opposite tack. This month the company announced a plan to
provide free peering access to a new high-capacity backbone
network.
``Telecommunication carriers appear to be tightening their grip on
Internet access for small ISPs,'' says William Schrader, PSINet
chairman.
``We seek to preserve an open future for the Internet.''
Altruism aside, there is no settlement system in place to enable
backbone providers to charge ISPs, or each other, for the use of
their networks.
Moreover, some backbone operators are content to take ``freeway''
traffic on their networks with the expectation of being able to
charge for special services in the future.
Telecom operators, in particular, are looking at their Internet
networks as a potential source of new revenue as technologies
progress to enable the combination of voice, data and video
communications on the Internet.
This will be the next stage in the development of the Internet,
says Chambers of Cisco.
``I don't need seven cables coming into my home -- cable TV,
satellite TV, three voice lines, {digital high-speed line} for the
computer and another line for the fax machine. All this will soon
go on to one line,'' he predicts.
The notion the Internet may eventually subsume the telephone and
broadcast networks is what is keeping the industry on its toes.
The current wave of consolidation is just the start of the
Internet industry's evolution. |
