1. PERSPECTIVE Internet VOD: meeting consumer demandsThe continued growth in video on demand (VOD) delivered over the internet is Chris Cowaninevitable as consumers increasingly expect to control their viewing. As watching video Director over the internet becomes mainstream, consumers are getting more demanding.Until recently, viewers on PCs would forgive buffering mid-video, or occasional lackKim Chuaof service availability, recognising that the service was delivered on a best effortsManager basis. However, as more online video services are launched and internet VOD movesto the TV, audiences will increasingly expect internet VOD to match the reliability of broadcast TV. This perspective builds on our work with infrastructure providers, broadcasters and regulators, to examine the ability of the UKs broadband networks to deliver VOD with the quality of service (QoS) required to satisfy consumers. We consider what Internet Service Providers (ISPs) and content/application providers need to do to adapt their technical and business models to meet future consumer demands, and the role of future net neutrality legislation in shaping this market.1Can todays network infrastructure cope with delivering VOD? VOD is the most technically challenging of all services to deliver with guaranteed QoS. Today, to stream standard definition (SD) video without interruptions requires a consistent speed of circa 1.5 Mbps for the 2 duration of the video . This is more demanding than other applications such as surfing and email, which are bursty and less time critical; or internet telephony which requires lower bandwidth. Over time, improvements in compression, buffering, and use of progressive download technologies will reduce the speeds required and allow for short fluctuations in speed during streaming however, internet VOD is likely to remain the most extreme test of the network infrastructures ability to deliver consumers guaranteed QoS services.We have focused on assessing todays copper network rather than the Next Generation Network (NGN) as even with planned fibre build, this will be the infrastructure used by the majority of users over the next 2 4 years. With uncertainty about the commercial model for NGN deployment, content/application providers and ISPs are likely to have to work within the constraints of a copper network for many years to come.Consumers experience of the quality and reliability of a VOD service is constrained at multiple points in the delivery infrastructure. Whilst all elements are critical to deliver VOD, the key areas of control for ISPs are the middle and last mile of the current copper network. Six stages of the delivery infrastructureService provider Peering connectionMiddle mile Last mile Last nine yardEnd user device serverswith ISPs connectivityconnectivityconnectivity Core Localexchange The pinch points Insufficient Limited investment Insufficient Long distance from In home wiring Processing power ofbandwidthin CDN bandwidth the exchange Wireless routerdevice Design and Insufficient IP stream Bandwidth location Browser capabilitiesarchitecture of site bandwidthconstraint Interference from Installed softwareother devicese.g. javascriptControlled by Service provider Service provider / ISP ISP Consumer Consumer CDN / ISP 1Related publications: Harnessing the Value of VOD, July 2009, examines the likely effect of VOD on viewing patterns, advertising spend and business models;Broadband Infrastructure: The Service and Application Providers View, March 2010, highlights industry appetite for guaranteed QoS but raises concerns about whether this would be achievable. They are to be found in the Ideas section of Value Partners corporate website (www.valuepartners.com) 2Based on BBC iPlayer encoding rates at time of publication 1

2. PERSPECTIVE At one level, the last mile is not a constraint for the majority of internet homes. We estimate that, currently, circa 70% of UK DSL broadband homes are situated sufficiently close to their local exchange that signal degradation along the copper line does not compromise their ability to receive internet of sufficient speed to stream video. Over the next few years, we expect that as compression reduces the speed required to deliver SD video, and infrastructure upgrades increase the speeds achievable by these homes, over 95% of homes will be able to receive SD-quality internet VOD.However, in parallel to this trend, the growth in multiple simultaneous internet users within each home will increase the pressure on the last mile. Whilst the last mile may be able to deliver a single stream of internet VOD, if other users within the home are occupying bandwidth (e.g. using services in the cloud or requesting different VOD programmes) some households will find that last mile bandwidth is insufficient to deliver all these services concurrently.It is the middle mile, or backhaul, that in recent years has been the biggest problem for high speed services. At this stage in the network, traffic is aggregated from multiple homes at a given exchange, and delivered to and from the core network. Therefore, as more homes stream video during peak evening hours, there will be increased pressure on the capacity of the middle mile. Clearly, restrictions in backhaul capacity as traffic across ISP networks increases will adversely affect the customer experience.While the backhaul has historically been the bottleneck, new wholesale backhaul technology based on Ethernet standards has begun to relieve this bottleneck. Ethernet connections are highly scalable, and this has been reflected in wholesale backhaul pricing - ISPs are now able to upgrade their backhaul capacity tenfold, for just double the price. Backhaul capacity pricing, April 2010BES product Rental price per year, Rental price per year, 2010 per Mbps 100 Mbps1,738 17.38 Tenfold increase in capacityfor double the price unit 1,000 Mbps3,764 3.76cost reduces by 78%10,000 Mbps 12,8751.28 Note: Based on BES non daisy chained pipes, mid April 2010 Source: BT Openreach price listThe extent to which ISPs are able to benefit from the scalability of Ethernet connections depends on the size, location and growth of their customer base, and their network configuration and architecture. ISPs providing broadband primarily using local loop unbundling (LLU) stand to benefit the most. However, ISPs providing broadband mainly through bitstream products (e.g. IP Stream), face continued rises in their cost base from incremental traffic as current wholesale charging structures do not pass on the benefits of Ethernet scalability. Replacement wholesale products do exist for bitstream operators, however take up to date has been limited.This has had a knock-on effect on the broadband packages available to consumers. Consumers in urban areas which tend to have a range of ISPs using LLU will generally benefit from higher actual broadband speeds hence a better video streaming experience, and more competitive pricing than consumers in rural areas which tend to be served by ISPs using bitstream products.2 3. PERSPECTIVE The opportunity for content and application providers Most video content providers aim to deliver the most attractive content proposition reliably to the maximum 3 number of consumers . With personalisation and differences in user interface driving loyalty, users are likely to default to a small number of favourite sites. VOD content providers such as BBC iPlayer, YouTube, Seesaw, and Lovefilm will compete for users based not only on content but also on picture quality and service reliability. Furthermore, as internet VOD moves to the TV, reliability becomes more important as TV VOD needs to match the experience of broadcast TV, PVRs and DVDs.To date, there has been much discussion around the shaping of internet traffic by retail ISPs, in particular the throttling of highly bandwidth intensive video streaming traffic, or even traffic from specific sites, during peak times. Content providers are concerned that these practices can result in consumers being unable to access certain video streaming services during peak times. In the extreme, these practices could mean that retail ISPs become gatekeepers by blocking access to, or degrading the customer experience of online video services to such an extent that they become unviable.Retail ISPs are now considering how to develop traffic prioritisation technologies to enable them to guarantee the reliable and consistent delivery of streams of data over their network. This is likely to combine intelligent caching with deep packet inspection to prioritise selected traffic and ensure that it is delivered seamlessly through the network, i.e. delivery with guaranteed QoS. The development of this technology opens up new opportunities for content providers to provide their customers with reliable, consistent, high quality video services which can be a true substitute to broadcast TV, PVRs and DVDs. Some content providers are beginning to have conversations with retail ISPs about paying a fee to enhance their customer experience by delivering their content to their customer base with guaranteed QoS.However, a shift to paying for content delivery has business model implications for content providers. Excessive charges imposed by retail ISPs could severely compromise the embryonic business model for internet VOD: the VOD advertising market remains nascent and consumers remain reluctant to pay for all but the most premium content online (e.g. sports, movies, premium series). Existing broadcasters are particularly challenged as they face cannibalisation of viewing from linear broadcast channels which have long term, fixed distribution costs, to VOD viewing, with variable and evolving distribution costs.A potential middle road is emerging. Content providers currently pay for access to the internet, generally through Content Delivery Network (CDN) providers, who manage the distribution of content through peering arrangements with retail ISPs. As peering involves mutual exchange of traffic, no payment exchanges hands. An alternative could be for content providers to form direct relationships with the main retail ISPs to cache their video content deeper in the retail ISPs networks. If this were at comparable commercial cost to using a CDN provider, this could bring content closer to the consumer, improve network efficiency, and improve QoS with minimal incremental cost to the content provider.This approach is not without challenges. Content providers would have to develop the capability to negotiate and manage multiple retail ISP relationships. In addition retail ISPs would have to be willing to deal directly with a large number of content providers. The role of intermediaries such as CDN providers is likely to remain, to aggregate and manage traffic for smaller content providers who lack the capability or influence to negotiate with retail ISPs, and to manage delivery of content from large content providers into smaller retail ISPs with whom it is uneconomic for content providers to deal direct. 3Some, primarily public funded, service providers such as the NHS and BBC have it in their remit to maximise reach3 4. PERSPECTIVE The opportunity for retail ISPs Retail ISPs know that they are critical to delivering uninterrupted VOD streamed over the internet. They control the majority of the delivery infrastructure. With the right investment in network infrastructure (e.g. backhaul, CDNs), use of intelligent network management and traffic prioritisation techniques, and appropriate partnerships across the value chain, retail ISPs will be able to provide guaranteed QoS solutions to consumers and content providers. Furthermore, the nature of retail ISPs relationships with their customers means they are best placed to work with customers to trouble-shoot any pinch points within the customers home (the last nine yards and issues with end user devices).Most retail ISPs in the UK see the increased demands on their network from bandwidth intensive services, such as VOD, as a market opportunity as well as a technical challenge. Whilst delivering services, such as guaranteed QoS, will require investment in networks and capabilities, retail ISPs see the demand for guaranteed QoS as their chance to avoid the trap of selling commoditised broadband services by marketing and selling value-added content delivery services. Offering guaranteed QoS could enable them to develop new business models, creating new revenue streams by charging consumers and/or content providers for guaranteed reliable delivery of video content. At the very minimum, offering consumers guaranteed QoS could become a point of differentiation from other retail ISPs and help maintain or grow market share. This would advantage larger retail ISPs who directly manage and control their delivery infrastructure. Smaller retail ISPs with less control over their network will have to consider what they would need to do to be able to offer QoS propositions.Some ISPs are seeking to take the market opportunity opened up by guaranteed QoS technologies one step further, by moving into triple-play, offering customers a bundle of pay TV, broadband and telephony. This would help them extend their relationship with customers, grow ARPUs and reduce churn particularly to existing triple play operators. From a technical perspective, controlling the content proposition and delivery infrastructure end-to-end from content server to set top box reduces the complexity involved in offering consumers VOD with guaranteed QoS. However, from a commercial perspective, this would entail major investment to develop the pay TV capabilities required to offer an attractive pay proposition and secure the appropriate content rights. Net neutrality In its purest form, net neutrality is the equal treatment of all traffic in a network, so that consumers can have non-discriminatory access to all content, services and applications. However, it is now widely recognised that ISPs need to manage the traffic on their network to optimise network performance. The debate currently centres around defining the acceptable level of network management.Regulation around net neutrality will play an important role in defining the future relationship between content/application providers and retail ISPs. The EU has recently signalled a strong pro-net neutrality stance, with Neelie Kroes (EU Telecoms commissioner) indicating that she would be concerned about telecoms operators charging content providers to deliver high bandwidth content to internet users. Ofcom is taking a keen interest in this issue and is likely to clarify its position on net neutrality in the coming months.To what extent should net neutrality regulation influence the commercial relationships between content/ application providers and ISPs for example, should retail ISPs be able to charge content/application providers for prioritised content delivery? On one hand, this could disadvantage smaller new entrants: retail ISPs need to ensure good delivery of large and popular services such as BBC iPlayer to retain subscribers, and such services would have a stronger negotiating position about any payments for guaranteed QoS. Smaller new entrants, however, risk very poor delivery of their video services if they do not pay, and also lack the scale to negotiate favourable content delivery rates. 4 5. PERSPECTIVE If paid-for guaranteed QoS services results in poorer service quality for free traffic, could this compromise the open nature of the internet, disadvantage smaller players and stifle industry innovation? On the other hand, charging for content delivery helps ISPs to justify investment in developing the guaranteed QoS propositions which are required to provide customers with the level of reliability in video services which they demand. Would preventing ISPs from charging for guaranteed QoS disincentivise technical innovation and ultimately handicap content providers from giving customers the quality video streaming service they demand?Arguments for and against ISPs charging content/application providers for QoS Arguments for Incentivises investment in network infrastructure Accelerates development of necessary technology to deliver guaranteed QoS Arguments against Disadvantages smaller players / newentrants Potentially stifles industry innovation When and how will this play out? There is clear consumer demand for VOD. However, business models are nascent and their viability on a standalone basis is as yet unproven. Furthermore, delivery of VOD services over the open internet is technically complex and generally involves multiple stakeholders controlling different parts of the delivery infrastructure.To deliver a guaranteed consumer experience requires collaboration between content/application providers and ISPs. The future development of the internet VOD market depends on the outcome of negotiations between content providers and ISPs around the division of responsibilities and sharing of value. Successful negotiations are key to making guaranteed QoS internet VOD available to all consumers on all platforms a breakdown in negotiations could mean that such services are only available to subscribers whose operators own and control all parts of the delivery infrastructure i.e. Sky, Virgin, BT and any future triple play ISP offering pay TV / VOD services.Ofcom and the European Commissions position on net neutrality will significantly influence market developments. Regulators will need to weigh up the importance of retaining the open internet model which has given rise to the birth of a new industry and fostered continued business innovation, against the risk of undermining future commercial models which could deliver the quality of service which consumers are demanding.Looking beyond internet VOD, successful models would result in a step-change in the reliability and hence attractiveness of other new services such as thin client cloud computing for enterprises, online collaboration tools and VOIP. This will also set a precedent for models of traffic management on mobile networks where capacity constraints will be even greater.5 6. PERSPECTIVE About Value PartnersAs one of the largest TMT Founded in 1993, Value Partners is a For more information on the issues practices worldwide, Valueglobal management consulting raised in this note please contact Partners works across all sectors firm that works with multinational chris.cowan@valuepartners.com, of the telecommunications corporations and high-potentialkim.chua@valuepartners.com and the digital marketplace,entrepreneurial businesses or one of our offices below. with a particular expertise to identify and pursue value in public and commercialenhancement initiatives across Find all the contacts details on broadcasting, satellites and payinnovation, international expansion, www.valuepartners.com TV, publishing, digital media,and operational effectiveness. It sport, fixed and mobile voice and comprises two sister companies:Milan broadband, licence bids, networkValue Partners ManagementRome infrastructure and equipment. Consulting and Value Team IT London Over the last 15 years, we have Consulting & Solutions.Munich delivered real benefits for ourHelsinki clients, building on our deep With 14 offices across Europe, Istanbul industry insights into the keyAsia, South America andDubai issues for these sectors. Our MENA, Value Partners expertise So Paulo TMT practice draws on over 200spans corporate strategy and Rio de Janeiro professionals worldwide; we financial business planning, costBuenos Aires assist 13 of the top 20 telecomstransformation and organizationalMumbai operators in Europe, Asia, Middle development, commercialBeijing East and Latin America, and weplanning, technology decisions,Hong Kong work with the leading blue chip and change management. 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