SAN FRANCISCO (CNN/Money) -
When I read last week that Verizon was slashing the cost of its DSL service from $49.95 to $34.95, I thought it was a typo. And investors might have wished it were a typo, gauging by the downward reaction of leading cable and telecom stocks on the news.
But while any downward pressure on pricing is a short-term negative in the tight and ever-changing broadband markets, in the long run, I think the price cuts will prove both positive and prescient.
Before I get into why, let's look at what presaged Verizon's (VZ: Research, Estimates) move. In short, the company and its DSL brethren -- such as SBC (SBC: Research, Estimates) and EarthLink (ELNK: Research, Estimates) -- are being beaten soundly by the cable companies in the broadband market: Consumers are choosing cable broadband over DSL at a two-to-one rate.
One reason is that the cable companies are doing a better job of bundling their services. Another is cost: Cable broadband services cost $40 to $45 per month, whereas DSL typically runs $45 to $50.
Don't discount the importance of that gap. According to a recent report by Forrester Research (FORR: Research, Estimates), 57 percent of consumers with dial-up accounts are forgoing broadband because the price is too high. By dropping the DSL price to $34.95, Verizon is bringing the cost closer to that of dial-up (usually around $25 to $30) and below that of cable.
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Not surprisingly, SBC (with its partner Yahoo! (YHOO: Research, Estimates)) announced a similar price cut after the Verizon move. Verizon is partnering with Microsoft's MSN service for its lower-cost program. EarthLink has not made any announcement regarding price reductions.
Of course, the activity surrounding the price cut isn't just about broadband. With many cable companies offering phone service, and with the legacy markets of the two industries -- cable-television content and long-distance services -- becoming expensive commodities, broadband is seen as an important driver of growth. Many consider broadband the key to both the cable and the telecom fields -- it's a Trojan horse that will get the companies into consumers' homes, where they can upsell more services.
Which is probably why the markets drove cable stocks down on the Verizon news. If cable companies have to cut their broadband prices, the reasoning goes, revenues and earnings will take a hit.
Cable providers, which have enjoyed steadily increasing rates for years, "are genetically incapable of cutting prices," says Ned Zachar, an analyst with Thomas Weisel & Partners. "But over time, they may have to do so." Zachar issued a note on Friday calling the Verizon move "mildly to moderately negative" for the cable firms.
This may be true, but only, I believe, in the short term. It's doubtful that when Comcast (CMCSK: Research, Estimates)) announces its earnings tomorrow, it will have anything but positive news regarding its broadband growth. But even though Comcast will likely post strong numbers, it handles only a small portion of the 15 to 20 percent of total households that have broadband. (Editor's note: After this column was filed, Comcast reported that it added 417,000 high-speed Internet subscribers.)
To expand that pie, the industry needs to offer consumers a carrot. If that carrot is lower prices, then let the lowering begin. A temporary dip in per-subscriber revenue is well worthwhile if you can recoup it in volume and possibly obtain future earnings by bundling service packages.
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