PRICING FOR ADVANCED NETWORK CONNECTIONS ANNUAL MEETING, TEMPE, FEB 7, 2000 ROBERT COHEN COHEN COMMUNICATIONS GROUP & ECONOMIC STRATEGY INSTITUTE FEBRUARY 5, 2000

2/7/2000COHEN COMMUNICATIONS GROUP2 PRICING FOR ADVANCED NETWORK CONNECTIONS w WHAT HAS HAPPENED TO PRICING? w WHAT FRAMEWORK CAN WE USE TO UNDERSTAND PRICE CHANGES? w SOME ATTEMPTS AT FORECASTING LARRY ROBERTS’ TECHNOLOGY ANALYSIS MY ANALYSIS OF PRICING TRENDS AND FORECASTS -- MARKET + TECH

2/7/2000COHEN COMMUNICATIONS GROUP3 BUSINESS BROADBAND ACCESS PRICES ARE LOWER

2/7/2000COHEN COMMUNICATIONS GROUP4 WILL THEY CONTINUE TO DECLINE? w 1. IN UNLIKELY w 2. AFTER CERTAINLY AND MAYBE QUICKLY WHAT WILL DETERMINE PRICES? HOW MUCH WILL TECHNOLOGY, DEMAND AND MARKET STRUCTURE DETERMINE THE RESULTS?

2/7/2000COHEN COMMUNICATIONS GROUP5

2/7/2000COHEN COMMUNICATIONS GROUP6

2/7/2000COHEN COMMUNICATIONS GROUP7

2/7/2000COHEN COMMUNICATIONS GROUP8 MAIN CONCLUSIONS w DWDM HALVES COMMUNICATIONS COSTS EVERY YEAR -- LINKED TO THE 4X/YR GAIN IN NET TRAFFIC w NET “EFFICIENCY” DOUBLES EVERY 21 MONTHS IN FUTURE, SO TRAFFIC WILL DOUBLE EVERY 8 MONTHS w ACCESS COSTS SHOULD DROP 50% EVERY YEAR

2/7/2000COHEN COMMUNICATIONS GROUP9 SHORTCOMINGS OF TECHNOLOGY APPROACH w TAKES A DECADES-LONG VIEW OF CHANGES, BUT w CAN’T ESTIMATE ACTUAL PRICE BEHAVIOR w CAN’T INCLUDE MARKET FACTORS w WHAT ABOUT NEW CHANGES IN ECONOMIC BEHAVIOR?

2/7/2000COHEN COMMUNICATIONS GROUP10 PRICING INFLUENCES w NET USE DEMAND ELASTICITY (%  D/%  P) MAY NOT BE -2, BUT CLOSER TO DEMAND MAY CHANGE DUE TO CONSTRUCTION OF NEW NET FIBER WITH LOWER COST NET USE WILL GROW AS APPS INCREASE; A BIG B2B FACTOR -- DE OF -2 ? NET APPLINCES WILL CHANGE DEMAND w MARKET FACTORS 70% OF NET BACKBONE CONTROLLED BY 3 CARRIERS WILL NEW ENTRANTS CHALLENGE GRIP? LOCAL ACCESS MARKET NOT COMPETITIVE SHORTAGE OF FIBER OVER NEXT 9 MONTHS ROLE OF WIRELESS NETWORKS IN CARRYING NET TRAFFIC

2/7/2000COHEN COMMUNICATIONS GROUP11 MEASURING PRICING DIRECTLY w EARLY EFFORTS: HOW RBOCS PRICE w MAIN PATTERN: WITH HIGHER BANDWIDTH SERVICES PRICES DECLINE RAPIDLY, THEN PLATEAU –ALLOWS FOR SLOW EARLY ADOPTION, LATER DEMAND INCREASES WHEN SERVICE IS POPULAR -- RBOCS RECAPTURE COSTS SLOWER, LESS PROFITABLE SERVICES DISAPPEAR

2/7/2000COHEN COMMUNICATIONS GROUP12

2/7/2000COHEN COMMUNICATIONS GROUP13 FORECASTING DEMAND w INITIAL EFFORT: BASED LARGELY ON FIRMS SHIFTING BROADBAND APPLICATIONS TO THE INTERNET ASSUMES TRADITIONAL LEASED LINES ARE REPLACED BY BROADBAND NET w HOW BIG DOES INTERNET GET? w WHAT IS THE PRICING IMPACT?

2/7/2000COHEN COMMUNICATIONS GROUP14

2/7/2000COHEN COMMUNICATIONS GROUP15 DATA DISPLACES VOICE w SPENDING ON INTERNET RISES TO ABOUT 50% TO 75% OF VOICE TOTAL w LEASED LINES, LOCAL ACCESS LINES FADE w PRICE IMPACTS CAN’T BE ESTIMATED A SHIFT-SHARE ANALYSIS OF SPENDING

2/7/2000COHEN COMMUNICATIONS GROUP16

2/7/2000COHEN COMMUNICATIONS GROUP17 WHAT DRIVES PRICING? w 1. LARRY ROBERTS IEEE COMPUTER 1/00 -- TECHNOLOGY, MAINLY THE SHIFT TO “CAPACITY ENGINEERED” NETWORKS w 2. MARKET STRUCTURE: 70% OF BACKBONE IS CONTROLLED BY 3 FIRMS; PRICES ARE “STICKY” w 3. A THIRD WAY -- MARKET BEHAVIOR PLUS TECHNOLOGY CHANGES

2/7/2000COHEN COMMUNICATIONS GROUP18 COUNTING BANDWIDTH w ESTIMATED GROWTH OF SPECIFIC NET APPLICATIONS BY REGION CORPORATE & CONSUMER NET USE, ECOMMERCE, SECURITY ADJUSTED DEMAND FOR PRICE CHANGES USING EXPERT OPINIONS CHECKED INITIAL ESTIMATES AGAINST AGAINST ACTUAL TRAFFIC FLOWS

2/7/2000COHEN COMMUNICATIONS GROUP19

2/7/2000COHEN COMMUNICATIONS GROUP20 INCORPORATING PRICES w PRICES FOR BANDWIDTH ON INTERNATIONAL LINKS WERE KNOWN -- AN ACCESS PRICE w AS DEMAND INCREASES, PRICES SHOULD CHANGE, ESPECIALLY IF TECHNOLOGY IS REDUCING THE COST OF INFRASTRUCTURE DIFFERENT PRICES GENERATE ALTERNATIVE GROWTH SCENARIOS

2/7/2000COHEN COMMUNICATIONS GROUP21

2/7/2000COHEN COMMUNICATIONS GROUP22 PRICES IN 2000 w SHORTAGE OF FIBER KEEPS PRICES “STICKY” w PRICE WAR OVER TRANSATLANTIC CIRCUITS SHIFTS TO US? w MORE COMPETITION EVENTUALLY KICKS IN -- DANTE STORY

2/7/2000COHEN COMMUNICATIONS GROUP23 FIBER SHORTAGE IMPACT w ADDITIONAL NET CAPACITY WILL NOT GROW AS FAST IN 2000 FIBER DEPLOYMENT LIMITED UNTIL 9/00 NEW COMPETITORS SLOWED MOORE’S/ROBERTS’ LAWS NOT OBEYED w FAR GREATER PRICE CUTS COULD OCCUR AFTER THE SHORTAGE WE ARE IN A “PLATEAU” PERIOD

2/7/2000COHEN COMMUNICATIONS GROUP24 TRANSATLANTIC PRICE WAR w FEB T1 ACCESS: $4000 FROM MCI, BT, ESTABLISHED PLAYERS $2000 FROM NEW ENTRANTS w FEB LEVEL 3 T1 ACCESS $600 LEVEL 3 UNDERCUTS ALL OFFERS CUT-RATE COMPETITORS CAN’T KEEP UP WITH THE CUT, SHIFT BUSINESS PLANS LEVEL 3 HOPES TO HAVE EDGE GAINING TRANSATLANTIC BUSINESS –COULD CUT PRICES FURTHER

2/7/2000COHEN COMMUNICATIONS GROUP25 CAUSES OF TRANSATLANTIC PRICE WAR w HUGE AMOUNTS OF NEW CAPACITY COMING ON LINE TERABIT CAPACITY IN NEWEST LINK w LARGE JUMP IN DEMAND EXPECTED DUE TO B2B, ASP MARKETS w BIG COMPETITIVE BATTLE IF NEW ENTRANTS GAIN FOOTHOLD, THEY MAY BE VERY PROFITABLE WHAT IF SERVICE PROVIDERS OVERBUILD OR CUT PRICES TOO RAPIDLY? PARALLELS WITH US RAILROAD OVERBUILDING: ARE THERE “JAY GOULDS” OF THE INTERNET?

2/7/2000COHEN COMMUNICATIONS GROUP26 DANTE’S CIRCUIT COSTS w UNIVERSITY-BASED INTERNET COSTS IN EUROPE HAVE FALL DRAMATICALLY w COST FOR 1 MB PER YEAR ,000 ECU ,000 ECU ,000 ECU ,000 ECU OR LESS MIGHT FALL TO 3,000 ECU BY 12/01? w COMPETITION PLAYED A BIG ROLE IN PRICE CHANGES: MORE PLAYERS TO BARGAIN WITH DUE TO HUGE BUILDOUT OF NEW FIBER RINGS w CORPORATIONS DECIDE TO BE.COMS

2/7/2000COHEN COMMUNICATIONS GROUP27 SIMILAR TRENDS IN US? w SIMILAR DEPLOYMENT OF BACKBONES & COMPETITION FOR CUSTOMERS BIG SURGE IN BROADBAND TO SERVE B2B w ALSO INTERESTING IS WHETHER NEW SERVICES ON NET CREATE A NEW ECONOMICS CORPORATIONS NOT ONLY USE NET MORE BECAUSE IT IS CHEAPER, BUT AS RELIABILITY OF NEW SERVICES (ASPs, OTHERS) GROWS & PRICE OF SERVICES DROPS, DEMAND FOR NET-BASED SERVICES GROWS IMPACT: ACCELERATE DEMAND FOR NET ACCESS, PROVIDE BIGGER GAINS FOR BIG BANDWIDTH, SERVICE-BASED ISPs BIG CHANCE FOR NEW CARRIERS: LEVEL 3, QWEST

2/7/2000COHEN COMMUNICATIONS GROUP28 GROWTH OF US ECOMMERCE TO 2002 Source: Forrester Research, Inc. Sizzling Intercompany Commerce (July 1997)

2/7/2000COHEN COMMUNICATIONS GROUP29 ROLE OF NET APPLIANCES w PDAs & OTHER APPLIANCES ATTACHED TO NET CREATE NEW LEVEL OF DEMAND NET NO LONGER DESKTOP-DOMINATED w FORCES GROWTH OF CONVERGENT NETWORKS, NOT SHIFT OF VOICE TO WIRELESS, VIDEO TO WIRED LARGE, NEW DEMAND FOR BROADBAND CAPACITY ALSO DRIVES DEPLOYMENT LOWERS ACCESS COSTS

2/7/2000COHEN COMMUNICATIONS GROUP30 PRICING DURING 2000 w BROADBAND ACCESS PRICES WILL NOT DROP RAPIDLY IN 1ST HALF 00 w AFTER THAT, DROPS COULD BE HUGE PRICE WAR COULD DEVELOP NEW COMPETITORS GO AFTER JUGULAR OF ESTABLISHED CARRIERS? w NEW APPLICATIONS MAY CREATE A NEW LEVEL OF DEMAND FOR NET SERVICES PRICES DROP NOT ONLY BECAUSE OF ADVANCES IN SILICON, BUT BECAUSE THERE IS AN ECONOMICS OF SERVICES PROVIDED BY THE NET GROWING DEMAND FOR SERVICES ALSO LOWERS ACCESS PRICES

2/7/2000COHEN COMMUNICATIONS GROUP31 BARGAINING FOR ACCESS w NEED BETTER INFORMATION NETWORK ARCHITECTURE BROADBAND PRICING ACCESS ALTERNATIVES HISTORY OF CONTRACTS w MORE INTELLIGENT BARGAINING CREATE ALTERNATIVES WHERE THERE ARE NONE BY DEVELOPING “VAPOR” BIDS FIND COMPETITORS, GET THEM TO BID

2/7/2000COHEN COMMUNICATIONS GROUP32 KEY POINTS TO CONSIDER w BUSINESS TO BUSINESS GROWTH & NEW INTERNET DEVICES SHOULD RESULT IN HUGE NEW IP DEPLOYMENT INCREASED COMPETITION MORE POPS, BETTER ACCESS w BY , BUYERS SHOULD BE IN A STRONGER BARGAINING POSITION PLAN FOR THIS SHIFT IN BARGAINING POWER NOW TO OBTAIN BETTER ACCESS PRICING LATER