While Faultline has glossed over the economic impact of the impending US transition to digital only TV, this is primarily because we feel it will have a limited impact to the overall digital economy long term and as such it is not a macro economic event, but more of a personal hiccup for each home involved.
But that doesn’t mean that each home won’t find this is more of a burden than they care to take on and that the outcome won’t be messy, and create column inches for countless newspapers.
However our colleagues at JRPG, a US investment advisory firm which Rethink provides technology research to, has gone to a lot of trouble to gauge just how much impact the transition to digital is likely to bring. JRPG prides itself on talking to customers, not marketing departments, and has rounded up people which have gone through the transition and used that as a basis to make judgements about what may come about as a result of the analog switch off, which will happen in the US on February 17th, 2009.
Neither we, nor JRPG, believes for a moment that this event will suddenly destroy millions of viewing hours from TV with a subsequent deleterious effect on advertising, and neither do we believe that in the long term this will shift the 15% of US homes which have not previous bought into a pay TV package, and create a land grab for them. But certainly in the short term, at least for the first two quarters of 2009, temporary waves of this will happen before the long term trends set in.
JRPG has offered us numbers which suggest that 8.5 million new pay TV customers are up for grabs in the short term, based on two facts, 1) That the new antenna and converters boxes are harder to install and get working than most people realize and 2) the experiences so far in Wilmington, North Carolina, which was the pioneer area to go early on the transition, where many people gave up on broadcast TV entirely and took a pay TV service of some kind.
If JRPG is right, and we are pretty much in agreement with their numbers, that will drive some optimism through the share prices of cable operators, and may even give a small upward tick to both DirecTV (which doesn’t really need it) and Dish (which does) and potentially have some minor influence on the two major Telcos in the US, AT&T and Verizon as their IPTV services pick up numbers.
We think this will be swallowed up in the general hubbub of ‘recovery’ news that will dominate the investment headlines over the first 7 to 8 months of 2009, as the press and investors try to guess if the recession is over, or abating in any way.
Both JRPG and ourselves agree that in the long term the digital signal creates a better picture, will give rise to more broadcast programming, and that this will undermine pay TV, not promote it, and that long term more homes could manage without pay TV. This is especially true if 2009 does not give in to a decisive upwards change in the economic climate, but instead heads towards depression, rather than plain old recession. But even without this, the long term trend witnessed in other countries has been that digital TV can fit in about one sixth of the bandwidth of an analog signal, which in turn means that even with less spectrum allocated to TV generally each country ends up with more TV channels.
In places like the UK, France and Italy DVB-T channels have proliferated, and antenna only TVs can get anything up to 45 TV channels, from an analog position of between 5 and 8. And this is with most of the programming still compressed using MPEG2. Where MPEG 4 Part 10 AVC (H.264) has been used, that number can be almost doubled or it can lead to making room for free to air broadcast HD programming.
But during 2009 there is an opportunity for the well entrenched US cable industry especially, as well as for the less established satellite and IPTV systems, to capture up to 8.5 million new customers and then try to hold on to them once digital TV transmission changes the US TV landscape.
On February 17th US households will face a choice; they can either change to digital TV by buying a digital converter box for which the US government will contribute $40 or they can switch to a pay service or allow their analog TVs simply to go dark.
Because of this, pay TV companies are making a concerted effort to capture as many of these subscribers as possible. JRPG found that DTV eventually provides a better picture and general experience, but says it is challenging to make the change, especially in the winter.
This conclusion was reached by buying one of each of the popular brands of converter boxes, trying them with various TVs and in some cases being forced to make antenna adjustments on the roof in order to do so. It was a lot of effort, and JRPG’s Gerard Hallaren makes the point that doing this in the middle of winter is even less of a temptation, as it is less comfortable in the cold, and more dangerous. However some systems worked without messing about on the roof, and it depends how strong the signal is where you live.
It is these facts which are behind the Wilmington numbers, where in good weather, ideal for making such changes, around one third of converting non-pay TV customers decided to opt for pay TV rather than go through the transition which happened there in September of this year.
JRPG said it found that most TV sets have some quirk which required additional help to switch. That was pretty much the case across Europe, where there has been only two countries which have done the switch so far, but where most countries have offered an increase by a factor of ten in the number of channels on digital, over their analog counterparts. So, for instance, switch off is not until 2012 in the UK, but 10 million out of 24 million homes have switched already, because of the increased TV programming.
The experience from those 10 million homes was that most existing antennas are not good enough for the job, some needing new installation, and some needing amplifiers, and some simply need the wiring replaced to a higher grade ‘ but most involving clambering around on the roof. To pay to get someone to do this, including equipment, was approximately 1.6 times the annual payment on the basic pay TV first rung on the ladder, which with their must carry rules means that the customer gets all the TV that they had before, plus some pay channels. Although this was not a bonanza for the pay TV companies in Europe, it has been a windfall for anyone who installs antennas for a living.
JRPG expects that most of the 8.5 million US homes which it expects to take pay TV, will spend just $2.0 billion in subscription revenues for the pay TV industry.
The other issue that might prolong this experience beyond the 3rd quarter of 2009, is whether or not local broadcasters, having switched to digital ATSC transmission, continue to spend and add other SD channels to their lineup, as well as ATSC M/H mobile handheld versions of those channels in the same signal. If they invest in the equipment required to do this, this creates a more attractive free to air proposition, sooner rather than later. If they chose to wait out the recession, then the entire US broadcasting industry may end up missing out on its last great opportunity. In other words local broadcasters can add mobile TV, put out some additional channels or do nothing.
Even if they do nothing, the vastly improved picture quality from the digital signal may attract some people, during a recession, to pull out of pay TV.
JRPG attributes a monthly ARPU of about $20 to each of the new pay TV subscribers, because the pricing on ‘DTV switch’ offerings is anywhere between $8 to $40 a month. Result – $2 billion in annualized revenues, and it’s going to be tough driving these up the ARPU ladder with additional services such as broadband, telephony, HD, VoD as well as gaming and music services ‘ because these are for the most part poorer homes.
The table above (see pdf version) shows US Census bureau estimates for number of households and General Accounting Office estimates for household broadcast penetration, and JRPG estimates for the percentage it expects will change to or add broadcast television.
Rough input from a variety of sources indicates there are three clear populations among broadcast only households. The bulk of the population is low or fixed income with about senior citizens making up about half. JRPG expects these two groups to behave very differently. While the low prices offered by pay TV companies will be attractive, its expects the majority of the low-income group will make the switch to digital. It also expects a larger portion of senior citizens to move to broadcast and believes the complexity and number of choices will be relatively more daunting than to the other populations.
Demographers describe the final group as collective consciousness consumers. Households in this demographic are typically environmentally sensitive, health conscious, left leaning, with above average income and college education. Given the skill set, high education and self perception of independence, it is likely that the majority of these will make the switch.
So expect pay TV to massage these positive acquisition numbers from April onwards, as first quarter numbers begin to appear, through to 3rd quarter 2009, which generally come out in October, and for the additional numbers of customers to be the focus in reporting. Falling ARPU across the board will be blamed on the recession, whereas in fact at least some of it will be from a dilution from these new, poorer customers.
Most cable TV companies have found it really challenging to raise customer numbers at all during the past five years, and instead they have justified round after round of equipment upgrades (and borrowings) on the need to spend capex on new capabilities in order to drag existing customers up the ARPU ladder. If ARPU is diluted by these new pay TV subscribers, then this will make analysts question whether that strategy is working, and the entire digital switchover customer acquisition spree may be seen in a negative light by a currently dour investment community.