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Comcast-Netflix: It's Really All About TWC

Alan Breznick

So do you really think it's a coincidence that Comcast and Netflix inked their IP interconnection deal just a week or so after Comcast agreed to fork over $45.2 billion for Time Warner Cable?

If so, think again, say two different Wall Street analysts covering the broadband and video markets. In fact, the two senior financial analysts -- Craig Moffett of MoffettNathanson LLC and former partner Carlos Kirjner of Bernstein Research -- contend that the Comcast Corp. (Nasdaq: CMCSA, CMCSK)-Netflix Inc. (Nasdaq: NFLX) pact had almost everything to do with the much larger and far more important Comcast-Time Warner Cable Inc. (NYSE: TWC) pact. (See Comcast-Netflix Peering Deal: A Game-Changer? and The Dangerous Reaction to Netflix-Comcast.)

In separate notes to investors this week, Kirjner and Moffett advance similar arguments that Comcast sought to strike the peering pact with Netflix because it wanted to remove the online video giant as a looming obstacle before the regulatory review of its TW Cable purchase by the U.S. Department of Justice (DoJ) and Federal Communications Commission (FCC) . They note that while Comcast and Netflix may have been negotiating their pact for many months, Comcast reportedly stepped up to seal the deal with sweetened terms for Netflix in the past week.

"Why has this deal happened now?" Kirjner asks rhetorically in his note. "We suspect the fundamental motivation for the deal is an attempt by Comcast to remove the IP interconnection issue from the regulatory review of its proposed merger with Time Warner Cable."

With Comcast poised to have nearly 32 million broadband subscribers if the TWC deal closes, the analysts note, the giant MSO will potentially wield great power over the US broadband market. Netflix, which has been frustrated in its efforts to connect directly to those subscribers, had been expected to raise the IP interconnection issue with federal regulators overseeing the merger review process.

"By reaching an IP-interconnection agreement with Netflix, Comcast reduces the risk that the issue will play a major role in the merger review," Kirjner writes. "We would be surprised if the deal was not conditional on a tacit (if not explicit) agreement by Netflix not to lobby regulators to add IP-interconnection to the merger review and, if the deal is approved, to its conditions."

Indeed, consider what might have happened if Comcast had stuck to its guns in the peering negotiations and insisted that Netflix shell out great sums for the direct connection to the MSO's broadband subscribers. Netflix would likely have continued to balk at an agreement, potentially making it look as if Comcast were trying to squeeze out one of its main rivals in the video subscription business.

"Throwing its weight around and bullying Netflix, a company that many (regulators included) mistakenly view as Comcast's direct competitor, would open Comcast to a charge of anti-competitive behavior," Moffett writes. "That would almost certainly have raised eyebrows at the DoJ."

That doesn't mean that the IP interconnection issue will go away for good as a leverage point between the two companies, Kirjner notes. Assuming that Comcast gets the TWC deal through the DoJ and FCC without too many conditions, he says, it will be able to flex its broadband muscles more powerfully again at some point. Likewise, it could be added, Netflix will be free to lobby for new restrictions on Comcast's market power.

For now, though, it certainly seems to be in both companies' interests to shake hands and act like friends. Comcast gets to silence Netflix as a potentially pesky opponent of its TWC purchase, while Netflix gets its direct connection to Comcast's broadband base at a reportedly nominal price of several million dollars a year.

So both companies go home happy in the end. Win-win, anybody?

— Alan Breznick, Cable/Video Practice Leader, Light Reading

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User Rank: Blogger
2/28/2014 | 5:22:09 PM
Re: Short-term win for Netflix
Perhaps, Dan. But now Comcast can reasonably argue that the market is regulating itself by causing them to make deals with OTT players like Netflix. So, if the market is operating just fine and dandy, then there's no need for the feds to step in, right? And if Netflix isn't complaining about the deal, who's being harmed? I'm not saying I necessarily agree with all that argument but I think Comcast can make a good case along those lines. 
User Rank: Light Sabre
2/26/2014 | 10:37:00 PM
Re: Last Licks
I think the actions of these megacompanies speaks for itself.  If it were a growing concern, then each would be duking it out for profits.  As it is, what we see are two tired prize fighters holding on to each other to keep from hitting the mat.

It comes down to math and topology.  The cable networks were never built for data.  The cables are too thick and bulky and expensive and prone to wear comparied to an optical fiber or wireless.   Quite frankly, based on the numbers were getting out of wireless broadband, I'm not so sure about fiber either except that 10Gpbs is hard to argue with.

And latency.  Can a network designed for one way transmission ever hold its own with the type of two way realtime transmission and submillisecond ping needed for real time gaming?

Look at where Google is going...clouds, Chromecast.  They are completely removing computing "boxes" from the home and simulating them in the cloud.  Eventually, all they will have to do is ship screenshots as HDMI.   That means big fast bandwidth.  Cable can't do it.  Cable is defunct.   Grab the cash while you can.

User Rank: Blogger
2/26/2014 | 9:46:09 PM
Re: Short-term win for Netflix
So I'm trying to figure why this helps the chances of the Comcast-TWC deal making it past regulators. Won't Comcast wielding its influence to get an Internet giant to pay for access actually hurt its chance of getting approval for a deal that will make it a much bigger and more influential player?

Comcast supposedly took Netflix's opposition out of the equation, but didn't it also just highlight the reason why just about everyone else should oppose it?
User Rank: Blogger
2/26/2014 | 9:16:55 PM
Re: Last Licks
More doom and gloom for cable's future, eh? Sounds like you know something that Brian Roberts' managemewnt team doesn't. Do you think that cable operators can shift their strategy in time to avoid Armageddon? Or is there nothing they can do?  
User Rank: Blogger
2/26/2014 | 9:13:10 PM
Re: Short-term win for Netflix
I say short-term win for Netflix too. But very possibly long-term win for Comcast. Once they get their merger thru the DoJ and FCC, they my well be free to try to bully Netflix around again. Would you like to see Brian Roberts and Reed Hastings together in a boxing ring?   
User Rank: Light Sabre
2/26/2014 | 7:06:40 PM
Last Licks
I see this as last licks for cable to squeeze as much money out of the business before it starts being replaced by high speed fiber and wireless broadband.   You're already seeing 100Mbps speeds with wireless Wimax/LTE in South Korea and Google is rolling out 1Gbps and experimenting with 10Gpbs.   I've even read that Google might give away it's "old fashioned" 10Mpbs fiber for free!  Where does that leave cable?   And then you've got DirecTV offering more synchronized programming for very little per month, and it's bundling itself with telco/optical providers.   A $30 a month super fast optical fiber and a $30 DirecTV content license plus $8 for netflix is still way under cable premium with all the extras and yet will supply enough content to keep a household fairly saturated.

Netflix figured it's not worth arguing or losing subscribers, and in a few years, we'll be bouncing our service over everything from satellites, to fibers, to ... who knows what!

User Rank: Light Sabre
2/26/2014 | 2:54:42 PM
Re: Short-term win for Netflix
Good points. Which is why we won't know the financial relationship. There is an NDA between the parties because if it was public, it was affect other ISP negotiations.
User Rank: Light Sabre
2/26/2014 | 11:39:38 AM
Re: Short-term win for Netflix
I'd agree. It sounds like Comcast was willing to strike a deal at a lower rate and for a longer contract than they otherwise would. Primarily so they can rid the press of criticism of the Netflix streaming problems at a time they're trying to insist they would bring technological advacement to new territories -- and point to regulators and say how they get along well with Netflix.

But yes, a few years down the road and does anybody think the likes of AT&T, Verizon and Comcast aren't going to raise rates whenever and however possible as they elbow further into core network markets?
User Rank: Blogger
2/26/2014 | 10:57:21 AM
Short-term win for Netflix
I think this is a short-term win for Netflix. If/when Comcast and TWC merge, Netflix will have a deal in place that covers the largest distributer in the country. (Don't the combined numbers give Comcast/TWC something like 40% of broadband customers?) However, farther down the line, there is nothing to stop Comcast from increasing the amount of money it demands. And I would think Netflix would have a harder time threatening a content blackout than traditional programmers given its dependence on direct revenue from consumers. It could certainly make a stink and try to drive public opinion, but I assume the financial pain would be significant. 
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