City of Palo Alto Utilities

Transcription

1 TELECOMMUNICATIONS BUSINESS CONSULTING SERVICES FOR PUBLIC POWER Fiber to the Home Business Plan Draft Phase II Report Work In Progress For City of Palo Alto Utilities 1007 Elwell Court Palo Alto, CA Neil Shaw and Dave Stockton Prepared By Uptown Services, LLC 5650 Greenwood Plaza Boulevard, Suite 225E Greenwood Village, CO July, 2003

2 I. EXECUTIVE SUMMARY... 1 II. MARKETING STRATEGY... 1 A. LINES OF BUSINESS... 1 B. COMPETITIVE PRODUCT SET AND PRICING... 1 C. SOURCES OF DIFFERENTIATION AND VALUE... 7 D. TARGET MARKETS E. CPAU PRODUCT STRATEGY F. MARKETING AND SALES PLAN G. COMPETITIVE RESPONSE AND PR PLANNING III. MONTHLY OPERATING BUDGET AND FINANCIAL STATEMENTS A. REVENUE B. OPERATING EXPENSES (OPEX) C. CAPITAL REQUIREMENTS IV. PARTNERING STRATEGY A. INTERNET AND PHONE RETAILERS B. VIDEO PROGRAMMING FEED V. SERVICE DELIVERY PROCESS A. IDENTIFY NEW PROCESSES/PROCESS MODIFICATIONS REQUIRED B. IDENTIFY VENDOR ALTERNATIVES VI. ORGANIZATION STRUCTURE A. ORGANIZATIONAL CHART AND PHILOSOPHY B. STAFFING LEVELS AND BUDGET C. SKILLS AND FUNCTIONAL REQUIREMENTS VII.FINANCING STRATEGY July, 2003: Uptown Draft Phase 2 Report Page ii

3 I. Executive Summary This is the first draft of the CPAU FTTH business plan. The Marketing Strategy section is presented here in draft. The remaining sections will be verbally discussed but are not in draft written form at this time. They will be available prior to the final review. Marketing Strategy A. Lines of Business As established during the Feasibility Study of this project, the lines of business (LOBs) being considered are video entertainment, high-speed Internet access, and local and long distance phone services. There will be other associated LOB opportunities facing the broadband venture, but they will not be baked into the operating assumptions and this business plan as the level of certainty surrounding their financial value and potential risks have not been established within this project or among CPAU s peers who have entered the broadband sector. These opportunities may present the opportunity for additional revenues, reductions in operating expenses, or both. Examples of ancillary LOBs could be: Security Monitoring Service Automated Meter Reading WebTV applications B. Competitive Product Set and Pricing The definition of the CPAU product set begins with the current incumbent product offerings. As the late market entrant across all three LOBs, Palo Alto s broadband services should be defined to leverage incumbent product limitations and provide the greatest value possible. For this reason, a clear analysis on the incumbent offerings and how CPAU s products will compare is warranted. Competitive offerings will be addressed below from the perspective of the video channel lineup, video packages and prices, Internet packages and prices, phone packages and prices, and bundles involving these three LOBs. 1. Video Comcast is the market share leader for video services in Palo Alto. As such, Uptown will use them as the competitive benchmark for CPAU to use in designing its video product structure and pricing. Satellite video services (DBS) has approximately 15% market share in Palo Alto and has very similar product packages, but with lower prices. Because of satellite s minority share position and because the product design is similar to cable, Comcast is presented as the incumbent benchmark by which to set CPAU video product strategy. However, it is advised that CPAU continue to monitor both satellite and Comcast in the future and be prepared to respond to any positioning by either. a) Channel Lineup Comcast offers a robust channel lineup with 160 (173 if Premier Tier channels are counted) channels made available across limited basic, expanded basic, and digital packages. It has taken advantage of the added capacity from its two-way upgrade to 750MHz and is offering digital music, PPV, and even five high definition (HDTV) channels. It carries a significant number of local broadcast channels as well. July, 2003: Uptown Draft Phase 2 Report Page 1

4 The two primary weaknesses of Comcast s channel lineup are its lack to ethnic-oriented programming and premium screens (the number of movie channels). The first can be significantly leveraged in a sophisticated market such as Palo Alto. The second is less of a weakness and is due to the fact that Comcast only carries west coast video feeds for its premium channels, whereas other video sources can offer east coast as well. The value to the consumer from this is marginal since adding the east coast doesn t actually add programming, it just adds a second time window in which to see the programming. All in all, the Comcast lineup is strong. CPAU should carefully select channels for its lineup so that it can add the most value and yet contain programming costs. This is recommended as a major operating principle and is covered in the CPAU Product Strategy section of this business plan. Comcast Limited Basic Package 2 INF -- KTVU 11 TV GUIDE CHANNEL 20 IND -- KFSF 3 NBC -- KNTV 12 UPN -- KBHK 21 IND -- KCNS 4 IND -- KRON 13 WB -- KBWB 22 CSPAN 1 5 CBS -- KPIX 14 INS -- KDTV 23 CSPAN 2 6 IND -- KICU 15 DISCOVERY CHANNEL 24 SHOWTIME 7 ABC -- KGO 16 INP -- KKPX 25 IND -- KTLN 8 IND -- KTSF 17 PBS -- KCSM 26 COMMUNITY PROG. 9 PBS -- KQED 18 INT -- KSTS 27 GOVERNMENT ACCESS 10 PBS -- KTEH 19 IND -- KTNC 28 LOCAL ORIGINATION Comcast s Expanded Basic Package 39 ESPN 2 51 ANIMAL PLANET 63 COMEDY CENTRAL 40 FOX SPORTS BAY AREA 52 ABC FAMILY CHANNEL 64 E! ENTERTAINMENT 41 TBS SUPERSTATION 53 NICKELODEON WEST 65 COURT TV 42 USA NETWORK 54 CARTOON NETWORK 66 HALLMARK CHANNEL 43 MTV WEST 55 THE DISNEY CHANNEL 67 IND -- WGN 44 VH1 56 CABLE NEWS NETWORK 68 SCI-FI CHANNEL 45 THE NATIONAL NETWORK 57 CNN HEADLINE NEWS 70 BET 46 LIFETIME 58 CNBC 71 HOME SHOPPING NETWORK 47 ARTS AND ENTERTAINMENT 59 FOX NEWS CHANNEL 72 TV LAND 48 BRAVO 60 MSNBC 73 COMMUNITY PROG. 49 AMERICAN MOVIE CLASSICS 61 WEATHER CHANNEL 74 COMMUNITY PROG. 50 THE LEARNING CHANNEL 62 THE HISTORY CHANNEL 75 THE MOVIE CHANNEL July, 2003: Uptown Draft Phase 2 Report Page 2

5 Comcast s Digital 120 NOGGIN 198 SHOWTIME (HD) 404 OUTDOOR LIFE NETWORK 121 DISCOVERY KIDS 201 DISCOVERY HOME & LEISURE 405 THE GOLF CHANNEL 122 TOON DISNEY EAST 203 HGTV 406 OUTDOOR CHANNEL 125 NEWSWORLD INTL 215 NICK GAMES & SPORTS 407 ESPN CLASSIC 126 NICKTOON 220 DISCOVERY HEALTH 408 SPEEDVISION 128 BLOOMBERG 222 THE HEALTH NETWORK 471 VH1 COUNTRY 135 MTV TBN 472 MTV HITS 136 G4 231 INSPIRATIONAL LIFE 473 VH1 CLASSIC 137 TRIO 240 INTERNATIONAL CHANNEL 474 VH1 SOUL 138 WISDOM 271 DISCOVERY TIMES 476 FUSE 161 THE GAME SHOW 272 DICOVERY SCIENCE 481 BET ON JAZZ 162 BBC AMERICA 273 NATIONAL GEOGRAPHIC 501 TURNER CLASSIC MOVIES 182 OVATION 274 DISCOVERY WINGS 502 WE 183 STYLE 275 THE BIOGRAPHY CHANNEL 503 IFC 184 ABC (HD) 276 HISTORY INTERNATIONAL 504 LIFETIME MOVIE NETWORK 185 NBC (HD) 294 TECH TV 505 SUNDANCE 188 PBS (HD) 401 FOX SPORTS WORLD 506 FOX MOVIE CHANNEL 197 HBO (HD) 402 ESPNEWS Comcast s Premium 518 ENCORE EAST 555 HBO SIGNATURE WEST 520 ENCORE LOVE STORIES WEST 557 HBO FAMILY WEST 522 ENCORE MYSTERY WEST 561 CINEMAX WEST 524 ENCORE WESTERNS WEST 565 MORE MAX WEST 528 ENCORE TRUE STORIES WEST 576 SHOWTIME WEST 530 ENCORE ACTION WEST 578 SHOWTIME TOO WEST 534 STARZ! WEST 580 SHOWTIME SHOWCASE WEST 536 STARZ! THEATER WEST 582 SHOWTIME EXTREME WEST 537 BLACK STARZ! EAST 591 TMC WEST 551 HBO WEST 593 TMC XTRA WEST 553 HBO 2 WEST July, 2003: Uptown Draft Phase 2 Report Page 3

6 Comcast s Pay Per View/Digital Music 801 IN DEMAND PPV 1-D 844 THE HOT NETWORK DIGITAL 802 IN DEMAND PPV 2-D 851 SPICE 803 IN DEMAND PPV 3-D 852 SPICE IN DEMAND PPV 4-D 853 PLAYBOY 805 IN DEMAND PPV 5-D DMX IN DEMAND PPV 6-D b) Video Packages and Pricing The pricing of incumbent video services is the primary attribute that CPAU can target to achieve market share. The price of Expanded Basic has grown substantially over the last five years through an annual series of rate increases. With expanded basic cable at $41.25 and digital packages from $51 to almost $90, CPAU has an opportunity to carefully compete through improved pricing. As stated, this is an industry-standard video product design and represents a typical structure, whether cable or DBS. The Comcast video product structure is presented in Table 1. The one unique aspect to Comcast s Palo Alto design is the use of a Premier digital tier, which is not included in any package, but must be purchased separately for $4.99 per month. Clearly, Comcast is using this tier to isolate these 13 channels and their cost from being applied across a given subscriber base which would provide a relatively small return for these channels. This is a viable strategy for CPAU as well. Table 1 Comcast Video Packaging Structure Limited Basic Monthly Price $12.20 Analog 2-28 Standard Digital Tier Premier Digital Tier Encore Premium(s) Digital Music HDTV Expanded Basic $ Digital Classic $ Digital 13 for $ Included $5.00 Digital Plus $ Digital 13 for $4.99 Included - Included $5.00 Digital Silver $ Digital 13 for $4.99 Included 1 Premium Included $5.00 Digital Gold $ Digital 13 for $4.99 Included 2 Premiums Included $5.00 Digital Platinum $ Digital $4.99 Included 5 Premiums Included $5.00 July, 2003: Uptown Draft Phase 2 Report Page 4

7 2. Internet SBC offers DSL Internet access and Comcast offers cable modem service in Palo Alto. Although DSL holds the majority of the broadband Internet market share in Palo Alto, both of them need to be considered in CPAU Internet strategy because their packaging designs are so different. (1) Product Tiers and Pricing SBC is the only incumbent provider to tier the service, Comcast has one residential Internet product offering only. Their respective Internet products are presented in Table 2. Given the differences in upstream speed, availability from a coverage perspective, and speed, Comcast should be viewed as the price leader at $42.95 (with cable subscription). The SBC tiers are interesting given the desire of CPAU to tier its Internet service as well. However, the market gravity will be centered upon the Comcast 1.5Mbps price point and this needs to be considered in creating the CPAU Internet products. Table 2 Incumbent Broadband Internet Offerings Tier Monthly Price Downstream Speed Upstream Speed Comcast - $42.95 Up to 1.5Mbps 256Kbps SBC Basic $39.95 Up to 384Kbps 128Kbps Standard Plus $ Kbps 1.5Mbps 128Kbps Deluxe $ Kbps 1.5Mbps 256Kbps Expert Plus $ Mbps 6.0Mbps 384Kbps SBC charges $200 for a technician-assisted install but offers a free self-install kit. Activation is free if ordered online or with a one year contract. This is an interesting aspect that CPAU must consider in its product design. (2) Features SBC s DSL product features are more robust than those of Comcast and benefit from the brand affiliation with Yahoo! They are: 1 Dynamic IP address Personalized SBC Yahoo! DSL homepage Customized SBC Yahoo! DSL browser SBC Yahoo! Mail account with 25MB of storage, POP access and forwarding Up to 10 additional SBC Yahoo! Mail accounts with 10MB of storage each, POP access and forwarding SBC Yahoo! Messenger with high-quality video SBC Yahoo! Photos and Briefcase with 110MB of online storage Three SBC Yahoo! Classifieds basic ads Three SBC Yahoo! Auctions listings Three Consumer Reports guides July, 2003: Uptown Draft Phase 2 Report Page 5

8 SBC Yahoo! Parental Controls Firewall software to help shield your computer from unauthorized access Unlimited nationwide dialup Internet access Palo Alto s product design must address this competitive package, either through pricing or packaging or a combination of these elements to achieve a superior value for its subscriber. 3. Phone SBC is the dominant provider of local phone service in the Palo Alto area so it will be used as the competitor benchmark. Its major phone products are summarized in Table 3. Comcast does not offer cable telephony in Palo Alto. (1) Product Packages SBC has organized its phone packages into three primary local phone packages as well as a newly introduced all distance package that is meant to compete with MCI s The Neighborhood. These four packages likely represent about 50% of its phone subscribers in Palo Alto, with the rest buying individually rated phone lines and ala carte features. These rates are presented in the next section. SBC charges a non-recurring connection fee of $33.01 to activate local phone service. Table 3 SBC Phone Packaging Structure Value Solution Sensible Solution Complete Solution All Distance Monthly Price Number of Lines Voice Mail Wire Pro Phone Protect Caller ID Other Features Long Distance $ Included 2 5 /minute $ Included - Included 6 5 /minute $ Included Included Included Included 6 5 /minute $ Included - - Included 2 Included (2) Features SBC charges the following monthly recurring fees for each calling feature when purchased outside of its phone packages: Main Line or Additional Line $10.69 Wire Pro $2.99 Phone Protect $3.99 Call Waiting $3.23 Voice Messaging $7.95 Caller ID $6.17 Priority Ringing $3.23 July, 2003: Uptown Draft Phase 2 Report Page 6

9 Three-Way Calling $3.23 Busy Call Forwarding $3.23 Call Forwarding $3.23 Remote Access to Call Forwarding $0.95 Delayed Call Forwarding $2.75 Call Return $3.23 Speed Calling 8 $3.23 Anonymous Call Rejection $1.90 The Business Plan calls for the phone service to be provided by a wholesale provider (or partner). In the selection of the FTTH phone service provider CPAU must consider that provider s ability to field a competitive offering and to combine with CPAU to bundle all three services. 4. Bundles SBC calls its bundle SBC Total Connections and markets it to consumers as a way to save time, save money and simplify your life. SBC advertising mentions savings of up to $275 per year. SBC covers four LOBs (local phone, long distance, Internet access, and wireless) with this bundle design and can bill all of them on one bill. Currently, the design is confusing in what the customer receives in savings versus purchasing each service separately. Local phone is required as the qualifier for the bundle and SBC requires two additional products from the other three. If DSL Internet is selected, Total Connections customers receive the Basic Internet Package for $29.95/month, but this is the same price being run on promotions without the bundle and is always available with a one-year contract. For wireless, Total Connections customers receive 20% off their wireless service. For long distance, there is no discount at all. For Comcast, the extent of its bundling design is to offer a $15 discount on the price of its cable modem service ($42.95 versus $57.95). Comcast offers phone but does not actively market the service at this time beyond the former AT&T Broadband markets where it was deployed prior to acquiring these systems. Palo Alto must bundle and promote its services in ways that make true economic and convenience sense to its customers. C. Sources of Differentiation and Value As a later market entrant with the most advanced technology for delivering mass market broadband services, the two primary opportunities for Palo Alto to set itself apart from the incumbents are improved product performance and lower prices. The capacity and reliability characteristics of FTTH versus incumbent network architecture will enable selective opportunities to have broadband services, especially Internet, do more for the consumer. The fact that the City of Palo Alto does not share the same private sector financial performance expectations presents a pricing opportunity as well. Whereas incumbents must pay back the significant capital investments in their networks as well as continue earnings growth as expected by the financial markets, Palo Alto has a different standard for profit expectations. While there is a need to diversify revenue sources for the city and to manage the risk of a significant bond offering, there is less strain on price levels compared to incumbents measured against private market standards. July, 2003: Uptown Draft Phase 2 Report Page 7

10 1. Product Functionality The most visible advantage that the Palo Alto fiber network will offer to consumers and small businesses is the increased capacity to offer improved data and video entertainment services. The network architecture does not currently provide unique new product opportunities versus the incumbent architectures, so there is no killer application that is immediately feasible with a new FTTH network. The FTTH architecture advantage lies in its ability to improve services that Palo Altans are already using. The realistic change in downstream throughput for HFC and DSL architectures is about 1.5Mbps at this time. With FTTH, Palo Alto will be able to have 10Mbps available for each premise as a realistic and achievable attribute of its Internet product. Furthermore, the bandwidth advantage of FTTH can be extended to the upstream path (data sent from the home to the network) as well by providing Internet tiers with symmetric bandwidth. Both DSL and cable modems limit their upstream capacities to about one-fourth of the downstream capacity. Especially within the commercial sector, a symmetrical design provides a significant advantage over the incumbents, particularly in a sophisticated community where delivery of data from home businesses or research is an important capability. For video, there will be a capacity advantage as well, but it will not be as dramatic and immediate as the advantage for data services. The CPAU fiber system will have greater bandwidth capacity for video services than the 750MHz available on the Comcast system in Palo Alto. This will become increasingly important over time as the limited capacity of the Comcast network is exhausted. Even today, most urban market HFC networks are at or near capacity for the bandwidth allocated for video services. Although this seems odd given the massive cable upgrades in the last few years (usually from MHz to MHz), it has occurred because of the following: A tremendous expansion in the number of digital channels A likewise increase in the number of screens (multiplexes) offered by the premium channels The advent of Video On Demand (VOD) and an increase in the number of Pay Per View channels The launch in the last 12 months of high definition channels and their greater consumption of bandwidth compared to a standard digital channel (2 per 6MHz versus 8) For phone, there are no specific product functionality benefits being derived from the FTTH network within the mass market. There will certainly be significant capacity to serve large commercial accounts, but this would not be a source of differentiation as there is fiber capacity from numerous sources (including CPAU) to serve this market today. 2. Pricing Philosophy (1) Pricing Trends and Key Beliefs The recommendations for the pricing strategies presented in this business plan are driven by a set of key beliefs that Uptown and CPAU share about the telecommunications and broadband sectors and how firms in this space compete and generate returns for shareholders or constituents. These beliefs are: Voice, video and data services offerings have ample opportunity to provide value to consumers across a number of dimensions beyond the price attribute alone. Long July, 2003: Uptown Draft Phase 2 Report Page 8

11 distance has been a painful exception to this rule for the industry, and serves as case study of the negative effects of commodity-like pricing. Principle: That Council direct staff that price should not be the only differentiating factor for telecommunications services offered on the FTTH network. The most significant pricing tactic emerging within the telecommunications sector is bundling. The major service provider categories of cable operators and local exchange carriers are rapidly elevating bundling to a fundamental component of their marketing strategy. It is apparent that the telecommunications industry will be battling for market share with bundled offerings for the foreseeable future. Principle: That Council direct and enable staff to use bundling as a tactic to compete in the market place. The perceived need for greater bandwidth and data capacity has now gone beyond the early adopter consumer market as evidenced by accelerated growth in broadband Internet services compared to narrowband access. This translates into a substantial opportunity for CPAU to rely on the throughput advantages of its fiber network as the primary source of value. Principle: That Council direct and enable staff to exercise the advantages of FTTH to compete in the market place. At the same time, consumers are demanding a better deal from municipalities who enter this market. This is consistently heard from focus groups and was seen in the increase in purchase intent in CPAU s quantitative phone survey for 10% less versus price parity. Principle: That Council direct and enable staff to provide equal or better service at equal or less price, so long as the long range capitalization and operation costs are met, even to the point that transfers to the General Fund may be zero in some years. (2) Pricing Philosophy Given this set of beliefs and the mandated responsibility for the City to generate sufficient revenues to retire the up-front capital requirements of this project, Uptown recommends a conservative use of price discounting. This means the following: Reasonable, but not excessive, price discounts will be employed relative to incumbent operators. We generally define reasonable as a 10% discount for comparable services. Within lines of business, employ product package designs that encourage and reward subscription to optional services (e.g. premium channels with video or calling features with phone). Use this strategy to increase average revenue per user (ARPU) and provide value for more product subscription versus offering the same product for less. Across lines of business, deliver price discounting via multi-product incentives (such as bundling) so that, in return for less revenue, CPAU can realize the positive retention effects of bundling. Customer retention data from the cable industry indicates that the voluntary churn in three-product bundles can be significantly lower than that of an analog-only subscriber. Limit reliance on price discounting by delivering value through other means, such as improved product performance. With this approach in mind, Uptown recommends that the Council adopt the following sub- Utilities mission statement for the FTTH service: The City of Palo Alto (its broadband business venture) will provide excellent value to its citizenowners, and will be the preferred broadband service provider through a combination of excellent July, 2003: Uptown Draft Phase 2 Report Page 9

12 customer service, fair pricing, and enhanced product performance all done in an environmentally sustainable manner. D. Target Markets For the purposes of this business plan, Uptown has defined a consumer segmentation scheme so that the target market can be generally characterized and so operating strategies can be determined relative to the target markets for CPAU. Although this is an actual customer segmentation approach used by a major MSO, this segment design and associated household characteristics are qualitative in nature as it relates to Palo Alto. To effectively utilize a customer segmentation scheme, CPAU will need to perform data analysis of the specific Palo Alto market. CPAU is in a good position to do this because it already has a substantial level of customer information. By enhancing its customer database, software programs (such as SPSS) can be used to quantitatively define CPAU s specific market segments. These programs find the natural customer groupings within the data and are able to draw out the meaningful variables that separate and characterize one segment from another. Given the need for this to be a data-lead process, Uptown and CPAU cannot define the target segments beyond a strategic level at this time. However, for the purposes of establishing the strategy within this business plan, the broadband consumer segmentation presented here will suffice. Uptown recommends that Council enable staff to further segment the market and develop competitive products based on additional market research and analysis. (1) Segmentation Structure The purpose of establishing a segmentation structure and a subset target market for this project is two-fold. First, it enables a broadband operator to separate households into probable differences in needs and wants as it relates to broadband services. Some households have very little need for a particular broadband service and therefore place a low value on it. These segments need to be identified so that the operator can focus its energy and resources on households where it can generate a financial return. This leads to the second purpose of segmentation; establishing a target market. Within the greater segmentation scheme, the operator can define its best opportunity, in terms of types of households, on which to focus its marketing strategy. Like most segmentation designs, Uptown proposes a needs-based segmentation. The different levels of needs for broadband services, combined with other meaningful household characteristics, are used to characterize different household groups, then a segment pattern such as that presented in Table 4 emerges. July, 2003: Uptown Draft Phase 2 Report Page 10

13 Table 4 Broadband Consumer Segments Importance of Broadband Values Budget Constrained Video Mainstream Net Centrics Multi Provider Low Tech Netters Cable is Great Defining Characteristic Income- Constrained TV Households Love the Internet Shoppers. Love a bargain Technology Avoiders Older, loyal households Breadth of TV Content High. TV is primary form of entertainment Low High Medium Low Medium Internet Involvement Low Low High High. Emerging majority of high-speed Internet users Medium Low. Dial-up users Communication Medium. Likely to have kids Medium High. Most likely to have kids at home High Medium Lower. Least likely to have kids Consolidation Low Low High. Likes convenience of one-stop for video, voice and data Medium. Not important if conflicts with best value Low Low. Primary interest is video only Choice High. Attracted to discounted alternatives Medium Low. Value technical capability over choice High. Looking for a deal Medium Low. Very loyal to a known brand (2) CPAU Target Market Because of their current and anticipated broadband services purchasing behavior, Uptown recommends that three of the six segments be designated by CPAU as the primary target market. These segments are Video Mainstream, Net Centrics, and Multi-Provider. These segments are highlighted below in Table 5. The rationale for this recommendation is the following: These segments likely comprise a majority of the Palo Alto market. In the major urban market from which this data was developed, these three segments represented a full twothirds of the market. By targeting only 3 of the 6 segments, CPAU can achieve the benefits of focused business tactics and yet still be directly addressing the majority of Palo Alto households. These three segments, but especially Net Centrics and Multi-Provider, are much more likely to consume more than one broadband service. This makes them the most likely to respond to bundle service offerings. They will generate the highest level of Average revenue Per User (ARPU) as well. In this example, 98% of triple-play subscribers came from these three segments. The Multi-Provider segment is particularly open-minded about switching service providers. This explains the much lower penetration of cable video service in the July, 2003: Uptown Draft Phase 2 Report Page 11

14 example data presented. By nature, they are shoppers who will go for the best deal and are willing to expend the time and energy to find the best deal and explore new options. This makes them potentially very receptive to switching to CPAU for broadband service. Table 5 Proposed CPAU Target Market (Illustrative Characteristics) Budget Constrained Video Mainstream Net Centrics Multi Provider Low Tech Netters Cable is Great Total Market Target Market Share of Homes Passed Share of Basic Video 22% 31% 14% 21% 6% 7% 100% 66% 6% 33% 24% 13% 11% 13% 100% 70% Video Penetration 13% 50% 81% 28% 88% 94% 47% 53% Digital Penetration 3% 4% 68% 25% 4% 25% 19% 32% High-Speed Internet Penetration Cable Telephony Penetration Number of Services Per Household Share of 3 LOB subs Income Index (1.0 = Avg.) 0% 0% 27% 1% 1% 1% 5% 9% 9% 2% 22% 13% 1% 3% 9% 12% % 1% 87% 10% 0% 1% 100% 98% Median Age Households with Kids 73% 64% 75% 52% 53% 41 % 63% 64% E. CPAU Product Strategy A key objective of this document is to establish business principles that are to be approved by Council and adhered to by staff in the execution and operation of the business. The first operating principle of the fiber team is to be able to articulate the what products will be offered and how they will be defined, packaged, and priced to meet the strategic objectives of CPAU. To meet this objective, the team has taken the following approach to defining the product and pricing strategy: The definition of CPAU s broadband product strategy begins with an assessment of the current product offerings of the major incumbent players and is the reason for the detailed July, 2003: Uptown Draft Phase 2 Report Page 12

15 competitive assessment included in this business plan. These players hold the current market share that CPAU will be competing for. The success of the CPAU product design is largely shaped by how much customer value can be delivered relative to these competitive offerings. Therefore, the second operating principle being recommended to the Council is to empower staff to define its products relative to those of the incumbents and to exploit opportunities for differentiation and competitive advantage. The necessary and appropriate level of detail is to define the significant products, their major attributes, how they should be organized into package and bundle designs, and their pricing. It is not feasible in this business plan to define every attribute and functionality. The third operating principle is that as the product development process unfolds toward commercial launch, the venture s management team will make bundling, packaging, and pricing decisions within guidelines approved by Council. 1. Video a) Sourcing Programming Content It is likely that CPAU s video feed will be sourced out of a local headend facility that is already proving a video feed within the greater Bay Area market. This is an ideal partnering opportunity and the relationship aspects are presented in Section IV of this document. Uptown will assume that CPAU will have the ability to assemble their video channel lineup from among the current channel carriage that this headend facility has today. In other words, CPAU can restructure the channel selection and placement, but would need to be judicious about requiring or paying for the capital costs to carry new channels. This headend currently has a broad range of video content being assembled into several channel lineups for different client locations today. Uptown recommends that Council approve a policy that staff partner with the provider to expand the channel base only after customer research reveals the necessity of doing so to remain competitive. In order to secure licensing rights to distribute this video programming, CPAU should join the National Cable Television Cooperative (NCTC). The NCTC is an organization of independent cable television companies serving more than 14 million cable TV subscribers throughout the United States. It is a not-for-profit organization and is a purchasing cooperative for its members. The co-op negotiates and administers master affiliation agreements with cable television programming networks, cable hardware and equipment manufacturers and other service providers on behalf of its member companies. Through joint purchasing and negotiation, the NCTC functions similar to a multi-system operator (MSO), taking advantage of volume discounts offered by programming networks, hardware manufacturers, and other providers. NCTC member companies save an average of $4 to $12 per subscriber on programming costs alone. CPAU will qualify to join the NCTC as one of the many municipal utilities engaged in the business of providing television reception or service to the public, primarily by means of a cable television system consistent with the definition of a "cable television system" in section 602 of the 1984 Cable Act. Unfortunately, not all video channels that CPAU will want to provide are under NCTC contract. For example, the cooperative is currently attempting to re-negotiate its MTV license agreement, but cannot offer MTV-owned channels at this time. Those channels that can be licensed under NCTC terms are indicated with an asterisk below. For the remainder, CPAU will have to individually negotiate license agreements for all others. Between this and re-transmission agreements for broadcast channels, the city should anticipate taking 6 to 9 month to complete the process. July, 2003: Uptown Draft Phase 2 Report Page 13

16 b) Channel Lineup Within the video line of business, the most important aspect of product definition is the channel lineup. This determines which programs are available to customers and at what level of subscription (package or tier) they must be to receive a particular program. Based on previous legal opinion, we believe that a governing board (Programming Committee) will have to be established to regulate the video content provided by the FTTH business, however Uptown recommends that within the content approved by the board, staff shall have the authority to package and price content to compete in the market. Given this aspect of the product, the selection and placement of programming is a key determinant of product value. Video subscribers are very particular about specific programs and can have strong feelings and significant loyalty about their programming choices. Therefore, this part of the product definition is fundamentally important. Staff will engage in market research to determine the extent of these customer inclinations and how to use them favorably. But also weighing into this decision is programming cost. The cost to carry a particular channel varies dramatically across the channel lineup. Some channels can cost in excess of $1 per subscriber per month, while others can be 5 cents. Furthermore, some video programming costs are rising at margin-eroding rates that far exceed inflation as well as the operator s ability to keep up via annual rate increases. For example, the major sports programming brands (ESPN and Fox, for example) have been raising their prices by 10 to 15% annually for the last several years. For this reason, some video service providers establish optional tiers of digital channels that are not included in the packages and must be purchased separately. Comcast is doing this in Palo Alto with its Premier Tier of 13 channels for an extra $4.99 per month. Although CPAU would not know exactly which channels it may want to separate into a fully-optional tier of this nature until specific costs and customer interests are known, Uptown recommends that Staff take this approach to control the cost of the overall video packages. As Palo Alto begins the process of entering the video services sector, these two issues need to be addressed because they will impact customer perceptions of value and the ultimate operating margin that CPAU will be able to realize within this line of business. It s not an easy strategy question because these two realities of this sector are in conflict with each other. But this fact will be a driving principal as Uptown presents its video product strategy recommendation below. c) Packaging and Pricing Uptown recommends that CPAU follow industry-standard packaging designs for its video service. There are two reasons for this. First, it is much easier for consumers to comprehend and evaluate the CPAU video offering to their current video service if the packaging structure is similar. Second, standard package designs can be used effectively to control programming costs and target certain programming to the specific households that are willing to pay for it. The packaging and pricing strategy being recommended can be summarized as follows for each of the video service categories: Limited Basic: Low need to compete. Price to match incumbent pricing. Expanded Basic: Strong need to compete. Price to beat incumbent prices Digital Packages: Strong need to compete. Price to beat incumbents Premium : Moderate need to compete. Price to beat incumbents High Definition: Low need to compete. Price to match incumbent pricing. July, 2003: Uptown Draft Phase 2 Report Page 14

17 With the pricing guidelines in mind, Uptown recommends the following package structure and pricing for CPAU s video offering as summarized in Table 7. Table 7 CPAU Video Packages Monthly Price Analog Digital Premier Digital Tier Premium(s) Digital Music High Definition Limited Basic $ Analog Basic $ Digital Basic $ for $ Included $5.00 One Premium $ for $ Premium Included $5.00 Two Premiums $ for $ Premiums Included $5.00 Five Premiums $ for $ Premiums Included $5.00 As a confirmation of this strategy and to ensure that appropriate emphasis is being placed on delivering customer value, Uptown has plotted the monthly price of the CPAU and Comcast video packages against the number of channels received. This is presented in Graph 1. Although this can only approximate value as consumers place different levels of value on each channel, it provides a visual confirmation of how the packages are competitively positioned. July, 2003: Uptown Draft Phase 2 Report Page 15

18 Graph 1 Customer Value Analysis Video Customer Value Analysis - Video Services CPAU (dark circle) vs. Comcast (light circle) No. of Increasing Value "Fighter Brand" Decreasing Value 0 $0 $20 $40 $60 $80 $100 Monthly Price Limited Basic Expanded Basic Digital Classic Digital Plus Digital Silver Digital Gold Digital Platinum Limited Basic Expanded Basic Digital Basic Digital Basic + 1 Pay Digital Basic + 2 Pay Digital Basic + 5 Pay NOTE: Graph 1 excludes Comcast and CPAU Premier Digital Tier as it is additional to its package fees. Uptown strongly recommends that the CPAU entry-level digital package be positioned as the Fighter Brand among the CPAU packages. The marketing strategy behind this approach would be to select the most competitive video package (the fighter brand) versus the incumbent and use that in CPAU s advertising and promotion. This package is what would establish CPAU s value relative to the competition. Finally, and most importantly, these value perceptions should transfer across CPAU s entire product range and brand, thereby delivering upon the Mission Statement. This strategy has two tactical implications. First, that CPAU should not discount evenly across the entire video product line. Second, that CPAU should determine where it could best differentiate and compete there. Uptown believes that this is the digital basic package. d) CPAU Versus Incumbent Price Comparison The comparison between CPAU and Comcast s video products, and the amount of discount that CPAU would offer, is summarized in Table 8. July, 2003: Uptown Draft Phase 2 Report Page 16

19 Table 8 Incumbent Pricing Comparison Video Services Comcast CPAU Discount Non-Recurring Installation - New Customer $24.99 $24.99 No Upgrade - Existing Customer $15.99 $15.99 No Analog Basic Limited Basic $12.20 $12.20 No Expanded Basic $41.25 $34.95 Yes Digital Classic $51.20 $45.95 Yes Digital Plus $56.20 NA - Digital Packages Digital Silver $67.20 $56.90 Yes Digital Gold $78.20 $64.90 Yes Digital Platinum $89.20 $77.90 Yes Digital Tiers Premier Tier $4.99 $3.00 Yes HBO $12.99 $11.95 Yes Cinemax $12.99 $11.95 Yes Premium Showtime/The Movie Channel $12.99 $11.95 Yes Starz! $12.99 $11.95 Yes Encore NA NA - Ala Carte Services PPV Movie (non-adult) $3.99 $3.99 No High Definition $5.00 $5.00 No 2. Internet a) Packaging and Pricing Uptown recommends that Council approve a policy that staff configure Internet products which primarily offer greater value (in this case speed) at prices approximately equal to competitors. Where speed will be similar Uptown recommends that Council approve that staff match comparable competitor products but at a price equal to or less than competitors, so long as prices remain within the guidelines approved by Council. Uptown is making this recommendation (summarized in Table 9) as a result of a fundamental belief that the marketplace will demand more and more bandwidth for data services and that CPAU will be uniquely positioned to deliver it to the mass market. Given this, the emphasis for customer value should be on increasing product speed and throughput as opposed to reducing price. Accordingly, we believe the general strategy should be as follows for each level of the CPAU Internet tiers: Low Tier: Manage cannibalization risk 1 High Tier: Deliver value with throughput, not price 1 Refers to the risk of unnecessarily moving subscribers from a higher revenue tier to a lower revenue tier by offering the lower priced tier at too low of a price. July, 2003: Uptown Draft Phase 2 Report Page 17

20 Business Tier: Symmetrical design Table 9 CPAU Broadband Internet Offerings Residential Business Tier Monthly Price Downstream Speed Upstream Speed Low DSL $29.95 [medium] [medium] Medium $39.95 [high] [medium] High $59.95 [very high] [high] Low $99.95 [very high] [very high] High $ [extremely high] [extremely high] b) CPAU Versus Incumbent Price Comparison The comparison between CPAU and Comcast s Internet products is summarized in Table 10. Table 10 Incumbent Pricing Comparison Internet Services SBC Comcast CPAU Discount Low DSL $39.95 NA $29.95 Yes Medium DSL $49.95 NA NA NA High DSL $59.95 $42.95 $39.95 Yes CPAU Ultra High NA NA $59.95 Exclusive Low Business $ NA $99.95 Yes CPAU High Business NA NA $ Exclusive 3. Phone a) Packaging and Pricing As staff s pricing principle for phone services, Uptown recommends that the Council approve staff s ability to establish wholesale terms with service provider(s) who agree to offer phone service packages which are competitive with the incumbent service provider, and agree to participate in bundle incentives across other FTTH services. This business plan does not contain specific product recommendations for the local phone line of business because CPAU will wholesale this service and will not set retail pricing. A working assumption of a $25 local phone package with 6 calling features is assumed below in the bundling strategy. This would assume a 15% discount over SBC s Sensible Solutions package. Although final negotiations will need to take place between the third party phone retailer and CPAU, Uptown believes that terms of $X per access line and Y% of net income are realistic for CPAU s wholesale pricing. July, 2003: Uptown Draft Phase 2 Report Page 18

21 4. Bundles Uptown recommends that Council approve staff bundling of FTTH products to meet competitive challenges so long as the bundled products cumulatively meet Council approved pricing guidelines. The broadband services industry is seeing an increase in the importance of services bundling as a marketing tactic to accelerate penetration of optional services (Internet and local phone) and to entrench the current customer base from video competitors. It is being used effectively by a number of the major national incumbent brands, including Cox and SBC. Bundling can be very effective in accelerating the sell-in of Internet and local phone services, as evidenced in a major urban market when a cable operator introduced a price point bundle design for video, phone, and Internet (see Graph 2 below). Graph 2 Monthly Sales Impact of Bundling 10,000 8,000 6,000 6 Months Prior 5 Months After 4,000 2,000 0 Internet Phone Source: Data from a major urban market. Cable operator results during The improvement in the financial health of the service provider is probably even more important than the sales impact realized from bundling. By reducing subscriber churn and improving revenue per subscriber (ARPU), bundling can improve profitability, even though it used price discounting to attract subscribers. In the same market, the following financial metrics presented in Table 11 were realized from the subscriber base where bundling was being used. July, 2003: Uptown Draft Phase 2 Report Page 19

22 Table 11 Financial Impact of Bundling Average Revenue Per User (Monthly) Monthly Churn (Voluntary) 3 Products $ % 2 Products $80 0.8% Digital Video $51 1.4% Analog Video $34 2.7% Source: Data from a major urban market. Cable operator results during Given the above strategic considerations, Uptown recommends that CPAU implement the following bundle design (summarized in table 12), representing both two and three-product offerings. Table 12 CPAU Bundle Offerings 3 Products 2 Products Total Value Bundle Digital Basic Medium Tier Internet Local Phone (w/ 6 features) Digital Basic + 2 Premiums High Tier Internet Local Phone (w/ 6 features) Digital Basic Medium Tier Internet Digital Basic + 2 Premiums High Tier Internet Savings (Compared to CPAU Retail) 10% 10% 7% 4% Competitive Equivalent Comcast Digital Classic: $51.20 Comcast Cable Modem: $42.95 SBC Sensible Solutions: $31.95 Total: $ Comcast Digital Gold: $78.20 SBC Expert Plus: $ SBC Sensible Solutions: $31.95 Total: $ Comcast Digital Classic: $51.20 Comcast Cable Modem: $42.95 Total: $94.15 Comcast Digital Gold: $78.20 SBC Expert Plus: $ Total: $ Target Segment Net Centric Multi- Provider & Net Centric July, 2003: Uptown Draft Phase 2 Report Page 20

23 F. Marketing and Sales Plan 1. Sales channel strategies by LOB a) Inbound Sales b) Outbound Sales c) Direct Sales d) Field Tech Sales e) Online Sales 2. Marketing strategies by LOB a) Advertising Budget b) Promotions/Direct Marketing Budget c) Promotions Strategy d) Bundling Strategy G. Competitive Response and PR Planning 1. Evaluate implications of a major competitive response for two alternative strategies. a) Strategic approach to using price reduction (Video and Internet) b) Strategic approach to using product value enhancement (Video and Internet) c) Legal recourse for unfair competitive practices d) Strategic approach and financial implications to using price reduction (Video and Internet) e) Strategic approach and financial implications to using product value enhancement (Video and Internet) f) Financial curve of outcomes 2. Debunking strategies and tactics to address incumbent Fear Uncertainty and Doubt campaigns (e.g., Muni-Toons ) a) Underlying false premises of Muni Toons b) Detailed counter strategies for false attacks July, 2003: Uptown Draft Phase 2 Report Page 21

24 II. Monthly Operating Budget and Financial Statements A. Revenue 1. Subscriber Forecast and Dispersion Across Tiers 2. Discount Budget (Contra Revenue) 3. Subscription Levels for Optional Services a) Premium Video b) Digital Video Tiers c) PPV/VOD d) Calling Features e) Long Distance f) Home Networking 4. Summary Statistics a) Average Revenue Per User b) Market Penetration c) Churn rate B. Operating Expenses (Opex) 1. Advertising and Promotion 2. Sales 3. Field Operations (Installation and Repair) 4. Billing 5. Customer Care 6. Staff Costs and headcount (Finance, Administration, HR, etc) 7. Engineering 8. Summary Statistics a) Customer Acquisition Cost b) Advertising as a percent of revenues c) Percent Bad Debt d) Subscribers per employee July, 2003: Uptown Draft Phase 2 Report Page 22

25 C. Capital Requirements 1. Network 2. Subscriber capital a) Set Top Boxes b) Modems III. Partnering Strategy A. Internet and Phone retailers B. Video programming feed IV. Service Delivery Process A. Identify new processes/process modifications required 1. Services Provisioning 2. Network Monitoring 3. Billing 4. Call Center 5. Sales B. Identify vendor alternatives V. Organization Structure A. Organizational chart and philosophy B. Staffing levels and budget C. Skills and functional requirements VI. Financing Strategy July, 2003: Uptown Draft Phase 2 Report Page 23